01—Abstract
Summary
Summary of the 10-K filed February 10, 2015. Cited figures are marked; the original filing is the authoritative source.
CVS Health's 10-K for fiscal 2014 (filed February 10, 2015) shows a company in the midst of repositioning itself as a "pharmacy innovation company," with the Pharmacy Services and Retail Pharmacy segments both growing.
Consolidated net revenues rose 10.1% to $139.4 billiona in 2014 from $126.8 billion, driven mainly by Pharmacy Services (up 16.1%, helped by the January 2014 Coram infusion acquisition and Specialty Connect) and Retail Pharmacy (up 3.3%, with same-store pharmacy sales up 4.8%). Operating profit grew 9.5% to $8.8 billion, and diluted EPS rose to $3.96 from $3.74, though gross margin compressed to 18.2% from 18.8% because the mix shifted toward the lower-margin PBM business. Front store same-store sales fell 4.0%, partly from the company's decision to stop selling tobacco.
Balance sheet and cash flow results were mixed. Operating cash flow improved sharply to $8.1 billionb from $5.8 billion, but capital returns were heavy: dividends of $1.29 billion and roughly $4.0 billion of buybacks in 2014, plus a $2.0 billion accelerated share repurchase in January 2015 and a 27% dividend increase to $0.35 per quarter. Leverage rose modestly, with a $521 million loss on early debt extinguishment from a $2.0 billion tender offer, and long-term debt was $11.7 billion, down from $12.8 billion after repayments.
Management reports the company holds investment-grade ratings (Baa1/BBB+), but the filing discloses several material legal exposures, including the Lauriello insurance class action seeking about $3.2 billionc in damages and multiple False Claims Act qui tam suits. The main investor questions are whether PBM margin pressure and generic-drug reimbursement pressure will erode the retail profit engine, whether the Coram and Specialty Connect investments will deliver returns, and whether aggressive capital returns can be sustained alongside the legal and regulatory risks. The filing's own risk factors flag that PBM client renewals, Medicare Part D sanctions history, and potential changes to AWP pricing benchmarks could all affect future earnings.
02—Key points
Key Highlights
- Net revenues grew 10.1% to $139.4 billion in 2014, with Pharmacy Services up 16.1% to $88.4 billion and Retail Pharmacy up 3.3% to $67.8 billion.
- Operating profit rose 9.5% to $8.8 billion, and diluted EPS increased to $3.96 from $3.74 (up about 6%).
- Gross profit margin fell to 18.2% from 18.8% as the mix shifted toward the lower-margin PBM segment (5.4% gross margin versus 31.4% in Retail).
- Operating cash flow increased to $8.1 billion from $5.8 billion, supported by higher net income and accounts payable timing.
- Shareholder returns remained large: about $4.0 billion of buybacks and $1.29 billion of dividends in 2014, with a $2.0 billion ASR in January 2015 and a 27% dividend increase to $1.40 annualized.
- The $2.0 billion Coram infusion acquisition (about $2.1 billion cash) expanded specialty pharmacy, and a $521 million loss on early debt extinguishment resulted from tender offers.
- Significant legal exposure remains, including the Lauriello class action seeking about $3.2 billion, multiple False Claims Act qui tam suits, and DEA and OIG investigations.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2014, CVS Health Corp kept $0.03.
- Revenue$139.37B100.0%
- Cost of revenue−$114.00B81.8%
- Gross profit$25.37B18.2%
- Operating costs−$16.57B11.9%
- Operating income$8.80B6.3%
- Interest, other & tax−$4.16B3.0%
- Net income$4.64B3.3%
Where FY2014 revenue went
$139.37B- Cost of revenue: $114.00B, 82% of revenue
- Net income: $4.64B, 3.3% of revenue
- Operating costs: $16.57B, 12% of revenue
- Interest, other & tax: $4.16B, 3.0% of revenue
Kept 3.3% as net incomeNet income $4.64B · 3.3%
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2014filed February 10, 2015Financial Statements
FY2014 against FY2013
| Line item | FY2014FY2013 | Change |
|---|---|---|
| Revenue | $139.37B$126.76B | +9.9% |
| Cost of Revenue | $114.00B$102.98B | +10.7% |
| Gross Profit | $25.37B$23.78B | +6.7% |
| Operating Expenses | $16.57B$15.75B | +5.2% |
| Operating Income | $8.80B$8.04B | +9.5% |
| Interest Expense | $615.00M$517.00M | +19.0% |
| Net Income | $4.64B$4.59B | +1.1% |
| EPS (Basic) | $3.98$3.77 | +5.6% |
| EPS (Diluted) | $3.96$3.74 | +5.9% |
| Shares Outstanding (Basic) | 1.16B1.22B | −4.6% |
| Shares Outstanding (Diluted) | 1.17B1.23B | −4.6% |
05—Questions
Frequently Asked Questions
How did CVS's core segments perform in 2014?
Pharmacy Services revenue rose 16.1% to $88.4 billion, helped by Coram and Specialty Connect, but its gross margin is thin at 5.4%. Retail Pharmacy revenue rose 3.3% to $67.8 billion, with a 31.4% gross margin, supported by 4.8% pharmacy same-store sales growth offset by a 4.0% decline in front store same-store sales.
Is CVS's margin compression a concern for investors?
Consolidated gross margin fell to 18.2% from 18.8% because revenue is shifting toward the PBM business, which earns much lower margins. Management attributes this partly to price compression, reimbursement pressure, and sharing rebates with clients. Operating margin improved, though, because operating expenses as a share of revenue declined to 11.9%.
How is CVS funding its shareholder returns?
Operating cash flow of $8.1 billion covered 2014 dividends of $1.29 billion and buybacks of about $4.0 billion. The company also has a $12.7 billion repurchase authorization remaining at year end, which includes the $2.0 billion ASR executed in January 2015. Long-term debt was reduced to $11.7 billion, and commercial paper of $685 million was outstanding.
What are the most significant legal risks disclosed?
The filing describes the Lauriello insurance-coverage class action seeking about $3.2 billion in compensatory damages, which the Alabama Supreme Court allowed to proceed. It also lists antitrust suits over pharmacy network practices, multiple qui tam (whistleblower) suits under the False Claims Act, a DEA license-revocation matter, and a Medicare Part D subpoena. Management says it cannot predict outcomes and that accruals are not material individually or in aggregate.
What regulatory or market risks could affect future earnings?
Key risks include continued PBM margin pressure, the possibility that brand-to-generic conversion gains are offset by payor reimbursement cuts, potential replacement of AWP as a pricing benchmark, ACA-driven plan design changes, and Medicare Part D sanctions and competitive bidding. The company also notes that narrow pharmacy networks and PBM client renewals (roughly one-third of clients renew each year) could reduce volumes.
06—Continue