Summary
- Several of CVS's segments could be considered "mature," which has not historically been good for returns.
- The long-term benefits from its vertical integration strategy of acquiring Aetna have likely not been fully realized.
- Wall Street seems to be pricing CVS so low, to expect declining revenues and earnings, which seems unlikely.
As an investor who is constantly self-critical and on an endless pursuit of performance optimization, I'm continually evaluating some of the biggest risks on some of the best-performing stocks and industries, and wondering... what is Wall Street pricing (or not pricing) in?
Lately, my latest obsession has been with maturing industries. It's not hard to sniff out these industries and see the afflicted companies littered all around the S&P 500 - stocks that have performed terribly compared to the index despite a roaring recovery since the Great Correction of March 2020.
And yet, so many of these bigger stocks have underperformed not in a silo, but rather together with their peers. Intuitively, it must make sense - industries mature, and it creates a tough environment for even the best competitors of that industry to perform at the level that investors expect.
Some examples of subpar price appreciation, note the theme of the mature industry with these underperformers:
- JNJ 10Y = +139.03%
- PG 10Y = +125.55%
- WMT 10Y = +157.86%
- VZ 10Y = +91.26%
- MRK 10Y = +135.73%
- PEP 10Y = +101.45%
- S&P 500 10Y = +198.24%
As it pertains to investors for CVS Health Corporation (CVS), the question remains, is one or all of its business segments matured? The company has a broad reach in retail sales, a robust pharmacy benefit management system (or PBM), and now with the recent acquisition of Aetna, a large source of revenue from health insurance premiums.
Mature Industries: Health Insurance vs. PBMs
What CVS has in common with other giants in these related industries, such as the national health insurers UnitedHealth (UNH), Anthem (ANTM), and Cigna (CI), is a double presence in both health insurance and pharmacy benefit management (PBMs). Reading through the 10-ks of CVS's competitors in health insurance, it appears that the health insurance market itself is in a matured state, with the long-term secular trend appearing to provide continued downward pressure to margins.
But the PBM segments tend to have much healthier margins, and could unlock the EPS and revenue growth over the next decade for these big players, not only through synergies and the cost savings that come with vertical integration but also if one company can retain sustained, dominant positioning.
The Basics of PBMs (Revenue Sources)
- Fees from supply chain
- Rebates from manufacturers
- Spread between (cost from) pharmacy and (insurance) payer
A great article exploring the morality of PBMs noted the inter-connecting nature between the industry, healthcare insurer to PBM to pharmacy, and how the latest market dynamics might have reduced the net benefit of PBMs to society - in no small part to the major mergers and acquisitions and ownership profiles in the industry of late:
- Express Scripts (now owned by Cigna)
- Optum (owned by UnitedHealth)
- IngenioRx (owned by Anthem)
- CVS Pharmacy
And of course more recently, CVS's acquisition of Aetna, bringing a complete vertical integration between the relationship of Insurer -> PBM -> Pharmacy.
