CVS Health (NYSE:CVS) stock is getting results combining the health insurance income of Aetna with the outgo of its pharmacies and health services.
The proof came in its second-quarter earnings report, with adjusted net income of $4 billion, $1.89 earnings per share and adjusted revenue of $63.4 billion. Same store sales were up 4.2%, pharmacy market share was up 1.2% at 26.6% and the company generated $5.3 billion in operating cash flow.
The results put CVS stock in another league. Stop comparing it to Walgreens Boots Alliance (NASDAQ:WBA), which saw falling earnings on $34.6 billion of revenue. Instead, compare it to UnitedHealth Group (NYSE:UNH), which earned $3.3 billion, $3.60 per share fully adjusted, on revenue of $60.6 billion in its most recent quarter.
The CVS stock results “demolished” Wall Street expectations but should not have been a surprise.
CVS vs. UnitedHealth
It has been a long time since any health insurer could go toe-to-toe with UnitedHealth. The company has spent 15 years installing technology through its Optum unit, integrating the former Catamaran pharmacy benefit manager. It is by far the largest player in the health insurance industry, with almost 13% of all premiums.
UnitedHealth’s size, and the cost control it generates, have also benefited investors. The shares are up over 200% over the last five years, while CVS has fallen in value by 25%. But Aetna, one of the companies that had fallen behind, merged with CVS pharmacies — and therefore with Caremark, CVS’ pharmacy benefits manager — gaining low-cost facilities to create a second large player.
CVS Health is now going to start capitalizing on that synergy by expanding its home dialysis service, creating an Amazon-like membership service called CarePass and continuing to open stores while Walgreens cuts back.
I have been pounding the table for the potential of this merger for some time. That’s because combining pharmacy facilities with insurance is the best way for the private market to generate cost control. My model here has been Centene (NYSE:CNC), whose combination of premium income and facilities lets it turn a profit even on Medicare and Medicaid contracts.
What Business Wants
Politicians debate whether a public plan or one with private options can bring cost control. The market is saying whoever holds the money must be able to control how it is spent.
That’s what UnitedHealth and Centene have, and what CVS Health is gaining. About 75% of a health plan’s cost relates to chronic conditions, preventable things like heart disease, kidney failure and diabetes. Having control of the facilities, making sure people take their medicine and keeping people out of the hospital is the key to reducing costs.
All players in the healthcare game know this. That’s why drug companies are desperate to keep even Medicare from bargaining for lower prices. That’s why hospitals fear the CVS-Aetna merger. The “front door” to care in the past has always been a doctor or hospital. CVS is making it your local pharmacy.
The Bottom Line on CVS Stock
UnitedHealth has three times the market cap of CVS, even though CVS now brings in more revenue.
CVS’ integration with Aetna is still in its early stages, and it’s already showing it can deliver fatter margins than UnitedHealth.
All healthcare stocks will remain under pressure as the political debate continues. CVS Health already has a 50-cent-per-share dividend yielding 3.4%. Its dividend yield is better than UnitedHealth’s $1.08 per share dividend, yielding 1.76%.
The result of the political debate is going to be a managed care model, combining income with outgo. That’s where CVS Health is going.
Dana Blankenhorn is a financial and technology journalist. He is the author of the environmental story, Bridget O’Flynn and the Bear, available at the Amazon Kindle store. Write him at email@example.com or follow him on Twitter at @danablankenhorn. As of this writing he owned shares in CVS.