CVS Health Corp. (CVS) reported Q4 earnings on Wednesday, and the company disappointed with a lower-than-expected earnings forecast for the rest of 2019. Investors primarily focused on the weak guidance over earnings per share (EPS), which surpassed Wall Street estimates by a solid margin.
Today’s performance marks a seismic shift in the company’s history from drugstore retailer to full-blown healthcare company. With executives forecasting a rough year ahead, investors are right to remain skeptical as to whether or not the firm’s decision to make that pivot into the broader healthcare sector was a long-term positive or massive misstep.
Here’s a closer look at CVS’s new financials – and what they might indicate for shareholders in 2019…
The Numbers
Despite beating on the bottom line, CVS’s top line missed analyst estimates. That miss – combined with the company’s disappointing full-year EPS estimate – constituted a weak earnings report overall.
CVS earned $2.14 per share in the October-December period, handily surpassing the $2.05 estimate by 4.4%. However, that Q4 EPS marked a huge 33.5% decline from the $3.22 per share reported for the year-ago quarter. Revenue came in at $54.42 billion, which missed Wall Street’s expected $54.58 billion by 0.3% yet was up more than 12% from the $48.39 billion earned in Q4 2017.
Even grimmer was the company’s EPS guidance for 2019. CVS forecasts an EPS range of $6.68 to $6.88, far below analyst expectations of $7.41. However, it expects full-year revenue to clock in between $249.9 billion and $254.3 billion, which is above the $247.61 billion Wall Street targeted.
As for spending forecasts, the company intends on using $325 million to $350 million on incremental investments. That’s on top of anticipated integration costs of $550 million this year, which likely doesn’t include broader overhead costs.
How Investors Reacted
Investors panicked over the disappointing guidance and sent shares sharply lower on Wednesday. CVS stock fell more than 8% to $64.22, nearing the lowest levels of 2019. The only other days that the stock closed below $64.30 were Jan. 16 and Jan. 17 when it settled at $63.92 and $63.37, respectively.
The Bigger Picture
Understanding CVS’s current situation involves looking at the broader healthcare industry from two different angles: consolidation among companies in both the healthcare and pharmaceutical spaces; and government regulation of the pharmaceutical space.
Consolidation enters the CVS conversation when discussing the firm’s high-profile acquisition of Aetna. On Dec. 3, 2017, CVS announced it would by Aetna for $68 billion in one of the largest deals of that year. The investing and business communities alike saw it as a watershed moment in the history of U.S. business, as it blurred for the first time the lines between the previously separate drugstore retail and healthcare industries. It effectively represented the end of the middleman since consumers would ostensibly have the ability to get everything done in one place instead of seeing a doctor who would then require them to visit a pharmacy.
Less than two months after CVS announced the acquisition, Amazon.com Inc. (AMZN), JPMorgan Chase & Co. (JPM), and Berkshire Hathaway Inc. (BRK.A) kicked the consolidation trend into high gear by announcing a joint venture that would disrupt U.S. healthcare and provide an alternative to the convoluted and expensive federally regulated system. Although the endeavor hasn’t made much progress since, the sheer sentiment of the triumvirate clearly spotlighted an ongoing race in the healthcare industry to privatize it and make it more accessible.
CVS finally closed its Aetna buyout last quarter, which notably impacted the firm’s overall earnings. And while smart investors likely saw that impact coming a mile away, many of them couldn’t forecast the unpredictability of the second angle: government regulation of the pharmaceutical space.
Pharma companies have been under the federal government’s microscope for years now, being viewed as something of a vampire leeching on sick Americans by gouging the price of drugs they desperately need. Martin Shkreli, who raised the price of HIV/AIDS drug Daraprim by more than 5,400% and was sentenced to prison for securities fraud, remains the infamous symbol of this price-gouging reputation, and his lasting notoriety hasn’t done any favors for the millions of other companies trying to skirt by the government unscathed.
The government’s regulation campaign reached a new milestone earlier this month when President Trump called on Congress to ban “backdoor deals” that pharma firms make with middlemen like CVS – referred to as pharmacy benefits managers (PBMs) – to pay them rebates on preferred drug plans. Health and Human Services Secretary Alex Azar explained the problem by calling it a system “set up in the shadows” that allows for no transparency and allows for PBMs to receive “billions of dollars in rebates without patients ever knowing where the money goes.”
CVS CEO Larry Merlo noted the negative consequences of this political torch on his Q4 earnings call. He expressed that, while his company wholeheartedly supports the government’s initiative to make the healthcare and pharma industries more honest and transparent, the rebate rule would end up “taking us backward, not forward.”
Looking Ahead
The future of the healthcare and pharma industries’ intersection remains uncertain amid increasing government oversight, which unfortunately means that CVS’s growth in 2019 also remains uncertain. Every sector of the economy can enter Congress’s crosshairs at any moment because corporations, in most cases, need to be reined in every once in a while to avoid misconduct. For healthcare and pharma, that moment just happens to be now.
All things considered, CVS still maintains total dominance in both sectors. With more than 9,800 pharmacy stores and 1,100 MinuteClinic locations in operation, CVS is still the largest retail pharmacy chain in the country. Walgreens Boots Alliance Inc. (WBA) may be gaining traction with just over 9,500 locations and rumors of a deal with Humana Inc. (HUM), but as of Wednesday, Walgreens still doesn’t have a secret weapon in the form of a newly acquired healthcare giant.
As CVS continues to deal with the fallout of its expensive Aetna purchase, investors may be convinced that the short-term bumps may turn into long-term losses. But even if Congress decides to take away rebates, it would amount to nothing more than a slap on the wrist as CVS leads the revolutionary and inevitable meshing of healthcare and pharma.