CVS Health Corp. (NYSE:CVS) is greater than only a retail-pharmacy chain. The corporate also has a health-insurance division that gives Medicare Advantage plans. That a part of CVS’s business weighed heavily on its earnings results — to the purpose where investors are alarmed and fearful.
Contrarian investors would typically lean into the fear and pick up CVS shares on the low cost. Nonetheless, with the stock down 17% at midday on Wednesday, even dyed-in-the-wool contrarians might ponder whether CVS’s healthcare business will get well anytime soon.
CVS is confident, but investors aren’t
Even though it’s intended to assuage nervous investors, an announcement from CVS Health’s chief executive offers a clue as to the dire state of the corporate’s healthcare business. It also indicates that the American healthcare system may be lower than ideal, to place it politely.
“The present environment doesn’t diminish our opportunities, enthusiasm or the long-term earnings power of our company,” CVS Health President and CEO Karen S. Lynch stated in the corporate’s first-quarter press release. “We’re confident we’ve got a pathway to deal with our near-term Medicare Advantage challenges.”
Not less than to me, this sounds more like damage control than real confidence. Wednesday’s steep decline in CVS stock supports the thesis that the corporate’s healthcare division isn’t doing well.
The pharmacy-chain operator acknowledged a “decline within the Health Care Advantages segment’s operating results, reflecting utilization pressure within the Company’s Medicare business.” That’s a flowery way of claiming that Medicare members were using their medical advantages more, which dragged on the general financial results.
Delving into the numbers, the adjusted operating income for CVS’s Care Advantages segment plummeted from $1.824 billion in the primary quarter of 2023 to only $732 million in the primary quarter of 2024. That’s a 59.87% decline, so it’s comprehensible if investors are in a state of shock and alarm.
Again, this says loads concerning the U.S. healthcare system and might dissuade some people from investing in any healthcare stock. Still, for what it’s value, CVS managed to extend its Q1 2024 revenue by 3.7% yr over yr to $88.4 billion.
Which may sound like an appropriate result, however the analysts’ consensus estimate had called for $89.3 billion in quarterly revenue. Moreover, CVS posted adjusted/ non-GAAP earnings of $1.31 per share, which is a far cry from Wall Street’s consensus projection of $1.69 per share.
In search of a “pathway” to recovery
Again, Lynch expressed confidence that CVS has a “pathway to deal with” its Medicare-related issues. However, the corporate’s forward guidance doesn’t appear to reflect the CEO’s optimism.
In its quarterly press release, CVS cut its full-year adjusted EPS outlook for 2024 from “not less than $8.30” to “not less than $7.” The corporate also reduced its 2024 outlook for money flow from operations from “not less than $12 billion” to “not less than $10.5 billion.”
Those full-year guidance cuts could have shocked Wall Street even greater than the quarterly results. For instance, Mizuho strategist Jared Holz told investors in an email that he “[d]id not even consider the CVS numbers once they were released.”
Leerink Partners analyst Michael Cherny also expressed surprise, writing that CVS’s earnings-guidance reduction was “MUCH more significant” (his emphasis, not mine) than expected. Thus, some financial experts might still have to be convinced that CVS can successfully navigate a “pathway” to recovery in the approaching quarters.
Here’s where it gets interesting. CVS has a lengthy track record of quarterly EPS beats. The primary quarter ends that track record, nevertheless it’s only one bad quarter. Good corporations could be forgiven for having a nasty quarter, right?
Bargain hunters should actually consider CVS’s valuation. Using my old calculator, I made up my mind that CVS’s EPS from the past 4 quarters can be $2.21 + $2.21 + $2.12 + $1.31, amounting to $7.85 per share. Thus, if the share price is $56, then CVS’s trailing 12-month price-to-earnings (P/E) ratio can be 56/ 7.85, or 7.13.
Meanwhile, the sector’s median trailing 12-month P/E ratio is around 33 from a GAAP perspective or between 18 and 19 from a non-GAAP perspective. Either way, CVS appears to be quite reasonably valued in the intervening time. As well as, the corporate offers a 3.68% forward annual dividend yield, which easily exceeds the common for the healthcare sector.
Ultimately, it’s a matter of whether one expects Medicare spending to normalize. That’s not something that CVS can control, in fact. It’s a troublesome call overall, and only essentially the most optimistic deep-value and passive-income investors should consider risking their financial health on CVS now.