CVS Health Corp (NYSE:CVS), the drug store down the street where you can pick up a magazine and a pack of gum with your pain-relief prescription, is the 35th largest company in the country. CVS is also, suddenly, the fourth largest retailer, behind only Wal-Mart Stores, Inc. (NYSE:WMT), Amazon.com, Inc. (NASDAQ:AMZN) and Home Depot Inc (NYSE:HD).
These aren’t just fun facts. CVS utilizes its massive size to its advantage better than just about any other company in its class.
The initial CVS, known originally as Consumer Value Stores, dates back to 1963 in Lowell, Massachusetts, where it was originally a small subsidiary of the Melville Corp. CVS experienced explosive growth in the decades to come, leveraging an aggressive acquisition strategy to expand.
Half a century later, CVS Health generates $130 billion in revenues and employs 200,000 employees across 46 states.
CVS operates two primary segments: retail and pharmacy benefit management. CVS’ retail operations consists of 7,800 retail pharmacies and over 900 walk-in medical clinics across the country. CVS stores sell a wide assortment of general merchandise, over-the-counter drugs and beauty products, all of which you probably peruse regularly or as a convenient last minute shopping binge. CVS also operates ExtraCare, the largest retail savings and rewards program in the country, with more than 70 million active member households.
The PBM division originated with the $26 billion takeover of Caremark Rx in 2007. CVS was able to wrestle away the pharmacy benefits manager away from rival Express Scripts in a move that doubled CVS’ sales.
More importantly, combining one of the largest retail pharmacies with one of the largest pharmacy benefits managers provided the combined CVS with increased efficiency and a level of vertical integration that competitors couldn’t match. CVS now processes claims as an independent PBM, while also running one of the largest retail pharmacy chains.
The PBM’s clients include employers, health insurance companies, managed care organizations and various sponsors of health benefit plans throughout the United States. It manages the dispensing of pharmaceuticals through mail service and a national network of over 67,000 retail pharmacies, including its own CVS pharmacy stores as well as other national, regional, and independent pharmacies.
The PBM processes over 1 billion claims annually and has some of the highest operating margins among its peers. CVS certainly understands its scale and has used it to become the most efficient operator in the sector. To see a great example of the synergies achieved from its unique vertical integration, consider that over 30% of all Caremark claims are now filled at a CVS pharmacy, up from 19% in 2008. That’s a tremendous advantage to know that nearly a third of its PBM claims are filled at its own in-house retail stores.
In much of the same manner that Wal-Mart and Amazon flex their pricing muscles with suppliers, CVS relies on its considerable size in negotiations as well. According to analysts, large PBMs like this one have the power to negotiate large enough drug discounts to keep a portion of the cost savings while still providing clients with advantageous drug pricing.
The recent name change from CVS Caremark to CVS Health coincided with CVS’ decision to stop selling tobacco products in an effort to emphasize its commitment to the medical industry. Morgan Stanley expects the loss of tobacco sales to have a 2.5% negative impact on profitability in 2015.
CVS Health announced last month that it has approved a 27% increase in its quarterly dividend and expects net revenue growth this year of 7% to 8.25%. CVS has performed consistently great the last decade, growing its net income by 18.4% annually for the last 10 years. CVS shares have been equally impressive, climbing 47.5% the past year, and yet still trading at 16.8 times forward price-to-earnings, which is slightly less than the S&P 500 as a whole.
In short, CVS is an example of best-in-class at its best; no wonder it is trading at all-time highs.
Jon Markman operates the investment firm Markman Capital Insights. He also offers a daily trading advisory service, Trader’s Advantage, and CounterPoint Options, a service that helps individual traders make steady, consistent profits with volatility-related instruments.
