01—Abstract
Summary
Summary of the 10-K filed February 9, 2017. Cited figures are marked; the original filing is the authoritative source.
CVS Health's fiscal 2016 10-K (filed February 9, 2017) describes a company that grew revenue 15.8% to $177.5 billiona, driven mainly by the 2015 acquisitions of Omnicare and the Target pharmacy and clinic businesses, plus growth in specialty pharmacy and Medicare Part D.
Operating profit rose 9.3% to $10.3 billionb, but gross margin compressed to 16.3% from 17.3% as the mix shifted toward the lower-margin Pharmacy Services segment (4.9% gross margin versus 29.3% for Retail/LTC) and as reimbursement and price pressure persisted. Diluted EPS was $4.90, up from $4.63, and was helped by a lower share count after $4.5 billion of buybacks in 2016. The balance sheet absorbed significant leverage from the 2015 deals.
Long-term debt was $25.6 billionc plus $1.9 billion of commercial paper, and net interest expense rose to $1.06 billion. Management refinanced aggressively, recording a $643 million loss on early debt extinguishment, and free cash flow after capex of roughly $2.2 billion (operating cash flow of $10.1 billion less capex of $2.2 billion) comfortably covered the $1.84 billion dividend. Goodwill of $38.2 billion and intangibles of $13.5 billion make the balance sheet heavily acquisition-dependent, a point investors should weigh against future impairment risk.
Looking forward, the company flagged several headwinds and uncertainties: the policy environment following the November 2016 elections (ACA repeal or replacement, tax reform that could cut the corporate rate from 35%, and tariffs), ongoing PBM client losses and renegotiations, restricted pharmacy networks that exclude CVS Pharmacy, and an expected $225 milliond charge tied to closing about 70 stores in 2017. It also announced a 18% dividend increase to $2.00 annualized for 2017 and a $15 billion repurchase authorization, and it disclosed a substantial litigation docket, including multiple qui tam and state Medicaid matters related to the Health Savings Pass program.
02—Key points
Key Highlights
- Revenue grew 15.8% to $177.5B (2015: $153.3B), led by Omnicare and Target pharmacy acquisitions and Pharmacy Services growth of 19.5%.
- Gross margin fell to 16.3% (2015: 17.3%) due to mix shift toward lower-margin PBM business and continued price and reimbursement pressure.
- Operating profit rose 9.3% to $10.3B; diluted EPS of $4.90 (2015: $4.63) was supported by share repurchases of $4.5B in 2016.
- Operating cash flow of $10.1B (up $1.7B, largely on timing of Medicare Part D payments) comfortably covered $1.84B in dividends and $2.2B in capex.
- Total debt rose to about $27.5B with a $643M loss on early extinguishment of debt; ratings remain investment grade (Baa1/BBB+, stable).
- Quarterly dividend raised 18% to $0.50 for 2017 (annualized $2.00); $18.2B of repurchase authorization remained at year-end, including a new $15B program.
- Management plans to close about 70 retail stores in 2017 with an estimated $225M charge; significant policy uncertainty remains around ACA, tax reform, and tariffs.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2016, CVS Health Corp kept $0.03.
- Revenue$177.55B100.0%
- Cost of revenue−$148.69B83.7%
- Gross profit$28.86B16.3%
- Operating costs−$18.47B10.4%
- Operating income$10.39B5.8%
- Interest, other & tax−$5.07B2.9%
- Net income$5.32B3.0%
Where FY2016 revenue went
$177.55B- Cost of revenue: $148.67B, 84% of revenue
- Net income: $5.32B, 3.0% of revenue
- Operating costs: $18.49B, 10% of revenue
- Interest, other & tax: $5.07B, 2.9% of revenue
Kept 3.0% as net incomeNet income $5.32B · 3.0%
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2016filed February 9, 2017Financial Statements
FY2016 against FY2015
| Line item | FY2016FY2015 | Change |
|---|---|---|
| Revenue | $177.55B$153.29B | +15.8% |
| Cost of Revenue | $148.67B$126.76B | +17.3% |
| Gross Profit | $28.86B$26.53B | +8.8% |
| Operating Expenses | $18.45B$17.05B | +8.2% |
| Operating Income | $10.39B$9.47B | +9.6% |
| Interest Expense | $1.08B$859.00M | +25.5% |
| Net Income | $5.32B$5.24B | +1.5% |
| EPS (Basic) | $4.93$4.66 | +5.8% |
| EPS (Diluted) | $4.90$4.63 | +5.8% |
| Shares Outstanding (Basic) | 1.07B1.12B | −4.0% |
| Shares Outstanding (Diluted) | 1.08B1.13B | −4.2% |
05—Questions
Frequently Asked Questions
Why did gross margin decline even though revenue and profit grew?
Revenue growth came disproportionately from the Pharmacy Services segment, which earns only about 4.9% gross margin versus 29.3% in Retail/LTC. Mix shift toward PBM volume, plus ongoing price compression and reimbursement pressure, lowered consolidated gross margin to 16.3%, even as gross profit dollars grew 8.8%.
How leveraged is CVS after the 2015 acquisitions, and is the debt manageable?
Total debt is roughly $27.5B including $1.9B of commercial paper, and net interest expense increased to $1.06B. Operating cash flow of $10.1B and EBITDA-scale earnings (operating profit plus $2.5B of D&A) support debt service, and the company is rated investment grade, though it has not guaranteed that ratings will be maintained.
What are the main risks to future earnings?
Key risks include PBM client losses and contract renegotiations, restricted pharmacy networks excluding CVS Pharmacy, continued generic-drug reimbursement pressure, and changes to federal health policy (ACA repeal or replacement, Medicare Part D rules). Significant litigation, including qui tam suits and state Medicaid claims tied to the Health Savings Pass program, could also result in material costs.
What is the capital return picture for shareholders?
In 2016 CVS paid $1.84B in dividends and repurchased about $4.5B of stock, and it started 2017 with roughly $18.2B of authorization remaining (including a new $15B program approved in November 2016). The $2.00 annualized dividend for 2017 reflects an 18% increase.
06—Continue