CVS Health Corporation Lowers Guidance Due to Recent Walgreens Wins

By Markets Fool.com

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Although CVS Health (NYSE: CVS) posted solid results in the second quarter, the pharmacy titan's stock has drifted downward over the past few months. CVS announced its third-quarter results before the market opened on Tuesday. The drift became a torrent: Shares dropped 16% in early trading. Here's what happened.

CVS Health results: The raw numbers

Metric

Q3 2016 Actuals

Q3 2015 Actuals

Change (YOY)

Revenue

$44.6 billion

$38.6 billion

15.5%

Net income

$1.5 billion

$1.2 billion

23.6%

Net income per diluted share

$1.43

$1.11

28.8%

Data source: CVS Health. YOY = year over year.

What happened this quarter?

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CVS Health's solid year-over-year revenue growth stemmed largely from success in its pharmacy services segment. Pharmacy services revenue totaled$30.4 billion, a 19.2% jump over the prior-year period. Increased pharmacy network claim volume and growth in specialty pharmacy drove these strong results. The company attributed higher pharmacy claims volume primarily to new business.

The retail/long-term care (LTC) segment posted third-quarter revenue of$20.1 billion, up 12.5% compared to the same quarter in 2015. This favorable year-over-year comparison came mainly from CVS Health's acquisitions last year of Omnicare and Target's pharmacies and clinics.

CVS reported that same-store sales increased 2.3% over the third quarter of 2015. Front-store same-store sales decreased 1% year over year due in part to softer traffic. However, pharmacy same-store sales more than offset that decline, with sales growing 3.4% versus the prior-year period.

Generic drugs helped and hurt the company in the third quarter. CVS Health said that pharmacy same-store sales would have been higher were it not for recent generic drug introductions. However, generic dispensing rates increased in both the pharmacy services and retail/LTC segments. Higher generic dispensing rates boosts profits for the company.

What management had to say

CVS Health CEO Larry Merlo's comments about the rest of 2016 essentially wiped out any positive feelings about the company's third-quarter results. Merlo said:

We posted a solid third quarter with the PBM exceeding our expectations and retail performing at the lower end of our expectations. However, very recent pharmacy network changes in the marketplace are expected to cause some retail prescriptions to begin migrating out of our pharmacies this quarter.In addition, we are currently experiencing slowing prescription growth in the overall market as well as a soft seasonal business.These factors combined are leading us to reduce the mid-point of our guidance for this year by five cents per share. The network changes have more significant implications for our 2017 outlook. While we expect a healthy increase in PBM operating profit growth in 2017, we expect a decrease in retail operating profit growth.

Looking forward

As Larry Merlo stated, CVS Health revised its full-year 2016 guidance. The company now expects GAAP earnings per diluted share between$4.84 and $4.90, down from the$4.92 to $5.00 range provided previously. Non-GAAP earnings per diluted share are expected to come in between$5.77 and $5.83, down from a range of$5.81 to $5.89.

CVS Health projects fourth-quarter GAAP earnings per diluted share of$1.52 to $1.58, excluding acquisition-related integration costs, and non-GAAP earnings per diluted share of $1.64 to $1.70.That's well below what investors expected.

The company's outlook for 2017 was also disappointing. CVS provided full-year 2017 guidance for GAAP earnings per diluted share of$5.16 to $5.33. Full-year 2017 adjusted non-GAAP earnings per diluted share is expected to be between$5.77 and $5.93.

What's behind the "recent pharmacy network changes" mentioned by Merlo that caused the big revisions in guidance? Walgreens Boots Alliance (NASDAQ: WBA) has made several deals that elbow CVS Health out of the way. In August, Walgreens and Prime Therapeutics, the country's fourth-largest pharmacy benefits manager that is owned by 14 Blue Cross and Blue Shield plans, announced a strategic alliance that steers those Blue plans members to Walgreens stores effective Jan. 1, 2017.

In September, Tricare, the insurance program for active-duty and retired members of the U.S. military, announced that Walgreens would serve its beneficiaries with all CVS pharmacies leaving the network. This change goes into effect Dec. 1, 2016.

These wins by Walgreens definitely will hurt CVS Health in the near term. However, Larry Merlo insisted that the company is targeting a solid 10% annual growth in adjusted earnings per share over the long term.

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Keith Speights has no position in any stocks mentioned. The Motley Fool recommends CVS Health. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.