Long CVS (CVS, $65-80, Mkt Cap: $70.0B)
Company Description: Post the Aetna acquisition, CVS Health will combine PBM, retail pharmacy and managed care, each of which is one of the largest in their respective verticals. CVS is uniquely positioned as one of the largest companies in the U.S. driving a transformative change to a more retail centric hc delivery model. From an access point perspective, the combined company has an unparalleled reach that may position it as the “front door” to health care.
CVS Investment Summary: In the $60-80 range, we view CVS as a high conviction near and long term investment idea. We expect the AET merger to gain regulatory approval in 2H18. This moves both AET and CVS towards a more vertically integrated healthcare model and allows them to close the gap to United Health's model with the addition of a retail pharmacy chain. We expect a slow integration given there are no prior examples of merging the AET and CVS business models. Strategic upside exists as CVS has amassed healthcare services assets that could drive lower costs and possibly better outcomes by steering volume through a Managed Care entity like AET. AET-CVS should generate more than $240 billion in 2019 revenue and potentially $10.5-11.5B in free cash flow (a 13-14% FC yield at $70). During the integration, we model client attrition on both the PBM and Managed Care sides of the business somewhat offset by synergies. CVS-AET will possess an industry leading position and cash generation capability that rivals any competition both within or external to healthcare.
Key Metrics to Monitor Each Quarter:
Merger close in 2H18; Rising EPS estimates from merger accretion
Retail: Stable results that are in-line or better than cons. We see a potential inflection in this segment
PBM: Stable results that are in-line or better than cons.
AET/Managed Care: Stable results that are in-line or better than cons
2019-20 execution and raised estimates; debt paydown
Headline risk around Amazon diminishes or becomes less relevant.
CVS PBM visibility on its $39B up for renewal in 2018 improves
Drug pricing or bio-pharma pricing headlines become less of a headline risk, especially given no support in Con