Why Express Scripts' Shares Are Jumping 10% Today

What happened

After Cigna (NYSE: CI) agreed to acquire the company for $67 billion, including debt, shares of Express Scripts, Inc. (NASDAQ: ESRX) are rallying 10.7% today at noon EST.

So what

The lines continue to blur. In the wake of CVS Health's planned acquisition of insurer Aetna, Cigna will pay $48.75 in cash and 0.2434 shares of stock of the newly combined company to merge with Express Scripts, the nation's largest pharmacy benefits manager (PBM).

The deal follows Cigna's failed attempt to merge with competitor Anthem in 2015. That combination was blocked by the FTC in 2017 over concerns that it would significantly reduce competition in the health insurance market. After that deal fell apart, Anthem announced plans to create its own PBM and discontinue its relationship with Express Scripts.

Nevertheless, Express Scripts remains a PBM powerhouse. On its fourth-quarter conference call, the company highlighted that it was able to leverage its size to rein in drug costs for its customers, which includes insurers and self-insured employers. Specifically, 44% of its clients saw their drug costs per patient fall in 2017, and total spending per patient only increased by 1.5% across all its customers.

Cigna is undoubtedly eager to leverage Express Scripts negotiating power to further drive down its own internal costs. As a refresher, insurers pay PBMs to manage drug programs for their members. Although PBMs are relatively low margin businesses, they still produce billions of dollars in operating profit because of their size. For example, despite its relatively tame 5.5% operating margin, Express Scripts was able to generate $4.52 billion in operating profit over the past 12 months.

Now what

Assuming regulatory approval, Express Scripts investors will end up owning 36% of the newly combined company. Cigna believes the acquisition will be accretive by a double-digit percentage in the first year post-close, excluding "transitioning clients," such as Anthem. It also expects to realize about $600 million in savings because of administrative synergies with the potential for additional savings over time. Overall, Cigna's guiding for between 6% and 8% compounded annual revenue growth through 2021. It also expects the deal to increase its 2021 earnings per share to between $20 and $21 from $18 currently.

The combination should help Cigna and Express Scripts compete better against CVS Health and Aetna, assuming their tie-up also wins regulatory support. As a reminder, CVS Health operates nearly 10,000 retail pharmacies and its Caremark division is the nation's second-biggest PBM behind Express Scripts.

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Todd Campbell has no position in any of the stocks mentioned. His clients may have positions in the companies mentioned. The Motley Fool recommends CVS Health. The Motley Fool has a disclosure policy.