Right Now It Looks as If It Is Time for CVS Stock to Breakout Higher

When the headwinds ease, CVS stock is primed for a rally

It’s been a tough run over the past few years for retail pharmacy and pharmacy benefit management (PBM) giant CVS (NYSE:CVS), and CVS stock has had trouble gaining traction.

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On the retail side of things, increased competition and the threat of an Amazon (NASDAQ:AMZN) entry into retail pharmacy have both pressured current sales trends, and depressed investor sentiment regarding future sales trends. Meanwhile, on the PBM side of things, legislation has similarly pressured sales and profits.

Net-net, while the S&P 500 is up more than 40% over the past four years, CVS stock is down nearly 50% over that same stretch.

For the past few months, with CVS finally stabilizing in the lower $50’s, I’ve said time and time again that the long term bull thesis on CVS is starting to look compelling. That thesis is pretty simple. The present trends underlying CVS aren’t great right now. But, they will get better, on both the retail and PBM sides. As those trends improve, they will converge on a depressed valuation, and spark a big rebound rally in CVS stock.

This thesis has already played out in a small way. Over the past three months, CVS is up nearly 10%. But, there’s reason to believe that this bull thesis will start to play out in a big way in the back half of 2019.

As such, CVS looks like a good buy here, ahead of what could be a sizable second half 2019 rally in the stock.

The Trends Are Improving

The core bull thesis on CVS stock rests on the idea that the company’s operational trends are improving, and will continue to improve for the foreseeable future.

On the retail side of things, CVS is the market share leader (25%-plus share) in a stable growth retail pharmacy market. But, the company’s retail operations have been under pressure over the past few years due to intensifying competition, price pressures, and the threat of Amazon jumping into the pharmacy space.

These threats are very real. But, they are starting to ease. Amazon’s entry into this space has been over-hyped. Competition pressures are cooling as the industry is consolidating among the largest players. Price pressures are similarly easing.

Indeed, last quarter, CVS reported very strong retail numbers with a 3.8% gain in same-store sales, paced by a 6.7% gain in pharmacy prescription volume, a multi-quarter high 1.2% gain in front store sales (adjusted for the Easter holiday shift), and 140 basis points of retail pharmacy market share expansion.

On the PBM side, U.S. President Donald Trump just agreed to scrap a proposed PBM rebate overhaul that would’ve presented a huge revenue and profit headwind for CVS’ PBM business. Broadly, this means that the big legislation headwind which CVS stock has been staring at over the past few quarters is now gone. This lifting of this headwind will provide a nice boost to investor sentiment regarding this company’s PBM business.

All in all, going into the back half of 2019, CVS stock should benefit from improving operational trends and investor sentiment.

The Stock Is Too Cheap

The other part of the bull thesis is that, because the stock is so cheap, improving operational trends and investor sentiment in the second half of 2019 will spark a big rally.

CVS stock presently trades at 8.4-times forward earnings. The stock’s average forward multiple over the past five years has hovered around 13.5, a 60%-plus premium to the current multiple. Meanwhile, the S&P 500 trades at 17-times forward earnings (more than double the CVS multiple), and even depressed drug retail stocks trade at 9.2-times forward earnings, a near 10% premium to the CVS multiple.

Thus, relative to its historical self, the rest of the market, and peer drug retail stocks, CVS stock trades at a sizable discount.

The thing about sizable discounts is that they lay the groundwork for sizable rallies in the event that the stock’s fundamentals improve. That’s exactly what will happen with CVS stock in the back half of 2019. The company’s retail and PBM fundamentals will improve. Those improvements will simultaneously push forward profit estimates higher and spark healthy multiple expansion. That double tailwind will drive a substantial rally in CVS.

Bottom Line on CVS Stock

CVS stock has been a big loser over the past four years. But, the fundamentals are starting to inflect, and CVS stock appears to be in the middle of a bottoming process that will ultimately result in the stock reversing course and heading substantially higher over the next few quarters.

As of this writing, Luke Lango was long CVS and AMZN.


Article printed from InvestorPlace Media, https://investorplace.com/2019/07/cvs-stock-to-breakout-higher/.

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