Theoretically, healthcare is a no-brainer industry because of its universal demand structure. Still, that hasn’t helped shares of CVS Health (NYSE:CVS) over the last several years. Due to an expensive acquisition in Omnicare and rising competition from disruptors like Amazon (NASDAQ:AMZN), CVS stock has not enjoyed consistent credibility. With that said, how should investors respond to the pharmacy’s upcoming fourth quarter of 2019 earnings report?
Here, we have a mix of both positive and negative factors. First, let’s start with the bad news. In 2015, CVS Health bought out Omnicare for approximately $12.7 billion. Understandably, management intended to bolster its nursing care business with the acquisition. At the time, Omnicare was the biggest provider of pharmaceutical services in nursing homes in the U.S.
Furthermore, the immediate post-World War II era led to a massive population surge. With this baby boomer generation now entering their golden years, nursing care should rise in demand — lifting CVS stock. However, that just didn’t happen. And instead, demand cratered and lead CVS to painful writedowns.
If that wasn’t enough, Amazon has demonstrated eagerness to disrupt the pharmacy business. The e-commerce giant acquired PillPack, which provides convenient medication deliveries geared towards tech-savvy millennials. With this generation representing the largest demographic in the U.S. workforce, it appears that Amazon made the smarter bet. And not surprisingly, CVS stock has been hurting since the summer of 2015.
On the sunny side of the equation, though, CVS stock enjoyed a comeback performance last year. With shares holding strong at the $52 support line, they eventually made their way up above $70 before succumbing to some volatility in January.
Is this a sign of better things to come?
CVS Stock Could Surprise in 2020
On paper, CVS Health has a viable opportunity to deliver a solid earnings beat for Q4. Consensus estimates peg earnings per share to hit $1.68. This is on the lower end of individual targets, which range from $1.65 to $1.75. In the year-ago quarter, EPS came in at $2.14, exceeding the consensus of $2.05.
Interestingly, CVS has beaten its per-share profitability targets going back to at least Q1 2016. Therefore, it’s not unreasonable to expect the same for this upcoming quarter.
For revenue, analysts have a consensus expectation of $63.9 billion. This is slightly near the higher end of the estimate spectrum, ranging from $62.3 billion to $65.4 billion. In Q4 2018, the company rang up top-line sales of $54.4 billion. Of note is that during the last three quarters, sales averaged $63.2 billion. Thus, the consensus is a reasonable target based on recent trends.
The question, however, is if it will matter for CVS stock — which has declined despite prior strong earnings prints? Generally, I think the bulls are justified in their optimism.
Unlike other embattled organizations, CVS realizes that it can’t continue doing business the old-fashioned way. With the lingering disappointment of Omnicare, the leadership team has been incentivized to focus on younger demographics for growth opportunities. And their efforts to integrate e-commerce initiatives reflects this shift.
Moreover, I don’t believe CVS’ physical presence is a liability; in fact, it actually offers a counterpoint to Amazon’s digital intrusion. A 2019 pharmacy survey revealed that most consumers prefer visiting physical pharmacies. “As technology companies promise to change the way Americans address their pharmacy needs, our data suggests that changing such entrenched behavior will be an uphill battle,” Greg Truex, managing director of health intelligence at J.D. Power, said.
An Underappreciated Contrarian Opportunity
To be fair, the survey I referenced above stated that CVS Health actually trailed its rival pharmacies in customer satisfaction. That includes names like Rite Aid (NYSE:RAD) and Walgreens Boots Alliance (NASDAQ:WBA).
Still, CVS stock remains a relevant play in the pharmacy space because of the underlying company’s brand awareness — which lends credibility toward its vertical integration ambitions. In other words, CVS is a pharmacy that’s trying to be a better one. On the other hand, Amazon is an e-commerce firm trying its hand on a completely different industry.
Plus, many folks are worried about the growing and perhaps undue influence of tech firms. The last thing they want is to have personal, medical information in those companies’ hands.
Of course, CVS stock is not without risks. Management must convince investors that they can make good on their aggressive acquisitiveness. Ultimately, though, I think CVS Health is worth considering as a bullish play because its core business should be viable for years to come.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.
