CVS Caremark Corporation (CVS)

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CVS Caremark (NYSE: CVS) is the largest U.S. pharmacy services provider.^[1] It operates pharmacies, which sell prescription and Over the Counter (OTC) drugs, as well as retail merchandise such as cosmetics, convenience foods, and photo processing services. It also provides mail-order pharmaceutical services like prescription fulfillment. Through its businesses, CVS fills or manages more than 1 billion prescriptions per year.^[2]

The company benefits from the increased demand for drugs from aging baby boomers, the general increase in prescription drug coverage over the last decade, and the expansion of government spending on health care through programs like Medicare Part D. However, the company does face challenges especially with its largest competitor Walgreen Company (WAG).

Company Overview

CVS Caremark Corporation consists of two major segments: retail pharmacy and pharmacy services. CVS operated over 7,000 retail pharmacy stores nationwide, including CVS Pharmacy stores as well as recently acquired Longs Drug Stores. In addition, it operates the Pharmacy Benefit Manager (PBM) Pharmacare (including , as well as recent acquisitions: the PBM Caremark, retail health clinic MinuteClinic (mostly located inside CVS pharmacies), and Longs Drug Stores.

Not sure what you are implying, Mark. I will agree that hosoheulds without incomes - or with temporarily low incomes - will choose "affordable, convenient retail clinics" in order to retain funds for food and shelter. But I doubt that many will continue that choice once their incomes are restored.I am positive that my household will not rely on "out-of-pocket" solutions for funding health care. The financial risk in doing so is simply too great, and we will always attempt to share that risk with pools of other hosoheulds.Economists frequently attempt to distinguish between routine and catastrophic health events. The argument is generally made that by paying out-of-pocket for routine health events, overall costs could be reduced. As I see it, it is not the routine health events which have caused health spending to skyrocket. For example, the four months of intensive care hospital costs incurred by my brother-in-law before his death exceeded by many times the total health spending by his entire family over the past 30 years.

Business Growth

FY 2010 Earnings Summary^[1]

• Net revenue decreased to $96h.4 billion.
• 'Net income was $3.4 billion, a decrease of 7.3%.

FY2011 Q1 Earnings Summary

• First-quarter earnings fell to $713 million, or 52 cents per share, down from $771 million, or 55 cents per share, last year.^[3]
• Revenues grew 9% to $25.9 billion.

Key Trends and Forces

Baby Boomers are Helping CVS' Profitability as They Age

Several external trends are currently increasing all pharmacies' revenues across the industry. In addition to increased sales of prescriptions, CVS will benefit as additional foot traffic for the pharmacy naturally leads to increased retail sales in the front end of the store.

• Baby boomers are only getting older, and will be more likely to need prescription medications in the coming years
• There has been an increase in prescription drug coverage over the last 10 years
• Medicare Part D expanded coverage to millions of people who were previously uninsured. Medicare Part D makes it more difficult to prescribe more expensive drugs, shifting overall product mix toward generics (which, although cheaper, generate higher margins). Over 29.3 million people are enrolled in Medicare Part D. ^[4]
• Over the next five years, around $50 billion in branded drug sales will lose patent protection, opening them to generics and driving profit margins

CVS Benefits from Economic Slowdown as Patients Migrate Toward Lower Cost Generics

CVS's revenues come from both pharmacy sales and non-pharmacy, or front store, sales. Though medical costs such as prescriptions are not discretionary expenses and thus less vulnerable to an economic downturn, patients still migrate towards lower cost generic drugs instead of more expensive brand name drugs. CVS stands to benefit from this, as they receive higher levels of reimbursement from groups like Medicare for generic drugs. Additionally, CVS Chief Executive Tom Ryan says that very little of front store sales comes from "true discretionary sales," meaning that same store sales won't be affected by penny-pinching consumers.

Health Reform Legislation Encourages Increased Drug Utilization

The Patient Protection and Affordable Care Act, the much awaited and much debated health reform law signed into law by President Obama, may indirectly help US pharmacies by encouraging increased drug utilization, which could boost pharmacy sales.

First, the law is projected to expand insurance to 32 million Americans previously without coverage. Presumably, newly uninsured patients will increase their utilization of drugs. Part of this expansion of coverage is done through an insurance mandate, while part is done by an expansion of Medicaid eligibility. Partially offsetting the benefit accrusing from those newly covered under Medicaid will be the lower reimbursement rates paid by the program to pharmacies relative to cash customers (who pay higher prices but generally buy fewer drugs).

Second, the law partially fills in the Medicare Part D coverage gap, or "donut hole". This is a gap in Medicare prescription drug coverage that kicks in after a moderately high annual threshold of spending on prescription drugs is reached. Before then, Medicare generally covers about two-thirds of drug cost; after reaching the gap, the next $3,610 worth of drugs is fully paid for by the patient, after which Medicare covers 95% of all remaining costs. Beginning in 2011, they will also receive a 50% discount on branded drugs. Over the next nine years, a series of discounts and benefits will lead to elimination of the gap. This should make sicker patients with high drug spend less price-sensitive and thus also encourage drug utilization.^[5]

When Major Drug Manufacturers Suffer, Retail Pharmacy Generics Prosper

Major drug manufacturers carrying common household OTC medications such as Tylenol, Advil, and Motrin are six times more likely to be purchased by consumers than its same function generics.^[6] The main idea behind this thinking, even though most often than not the drug facts are the same, is consumers grew up with these brands and perceive them as safer or more effective than inferior goods.

However, when in the rare case that these trusted household brands are recalled, consumers are often thrown into confusion and will make the switch over to retail pharmacy generics, sometimes permanently. This presents a very valuable opportunity for retail pharmacies. For example, when JOHNSON & JOHNSON (JNJ)'s drugmaking unit McNeil recalled millions of children's and adult versions of those drugs over the past 10 months since late 2009, many consumers have been fraught with confusion as retail pharmacies have been stuck with inadequate supply.^[7]

As a result, all major pharmacies such as CVS, Walgreens and Wal-Mart have revamped private label drug manufacturing.^[8] As traditional JNJ loyalist consumers are forced to use generics, they may realize that they are just as effective as Tylenol and JNJ, except cheaper. As such, these loyal consumers may choose to permanently change over, which presents an extremely lucrative opportunity for retail pharmacies.

Competition

CVS's biggest competitor is the Walgreens. Walgreens also has its own PBM, Walgreens Health Services, making it the most comparable to CVS Caremark in terms of breadth of offerings. CVS acquired Caremark, it's operating margins increased due to lower operation costs from Economies of scale.

CVS also competes for market share with discount stores, particularly Wal-Mart. The retail discount giant has a smaller presence in the prescription drug market but dwarfs CVS in front store sales. Its large gains in market share for both prescription drugs and front store sales are likely reflective of decreasing consumer spending in the face of the economic downturn.

CVS Caremark's other competitors include:

• Rite Aid
• MedcoHealth
• Express Scripts
• Other discount stores, food/drug combo stores, mail service prescription services, Internet drugstores, PBMs, and other various sellers of retail and prescription merchandise.

References

1. ↑ ^{1.0 1.1} CVS 2009 10-K pg. 35
2. ↑ Market Watch "CVS Caremark net income climbs 11%" 8 February 2010
3. ↑ Late Easter Helps Drive Retail Sales In April
4. ↑ HHS Monthly Summary on Medicare Part D Enrollment. June 2010.
5. ↑ Missoulian "Health care reform bill tries to fill part of 'doughnut hole'" 25 April 2010
6. ↑ Tylenol's side effect? A brand boycott
7. ↑ Consumers Pushed to Tylenol Alternatives
8. ↑ Johnson & Johnson Announces Another Recall of Children’s Tylenol