01—Abstract
Summary
Summary of the 10-K filed February 18, 2020. Cited figures are marked; the original filing is the authoritative source.
CVS Health's FY2019 10-K shows a company in the midst of digesting the November 2018 Aetna acquisition.
Total revenues rose 32.0% to $256.8 billion, and operating income nearly tripled to $12.0 billiona from $4.0 billion, but that comparison is flattered by the absence of the $6.1 billion of 2018 goodwill impairments on the LTC unit. Adjusted operating income, the metric management uses to evaluate segments, grew 36% to $15.3 billion. GAAP net income attributable to CVS was $6.6 billion, or $5.08 per diluted share, versus a $594 million loss in 2018.
The effective tax rate fell to 26.3% from 142.4%, largely because the 2018 impairments were mostly non-deductible. The quality of the earnings picture is mixed. Operating cash flow rose to $12.8 billionb, and the Aetna acquisition's $8.6 billion of annual revenue contribution is now embedded in the Health Care Benefits segment, which generated $5.2 billion of adjusted operating income.
Pharmacy Services and Retail/LTC face continued reimbursement and price-compression pressure, and Retail/LTC adjusted operating income fell 9.4% to $6.7 billionc. Management reiterated $800-900 million of Aetna synergies for 2020, but also flagged that the reinstated $15.5 billion Health Insurer Fee in 2020 will raise the effective tax rate and weigh on 2020 net income. Balance sheet leverage remains the central investor concern.
Long-term debt stood at roughly $64.7 billiond non-current ($68.4 billion total principal), and the company has suspended share repurchases until it reaches its target debt-to-equity ratio. Long-term debt was reduced by about $8 billion during 2019 through tender offers and maturities, and the company's senior debt is rated Baa2/BBB, one notch above the threshold for loss of investment grade at Moody's.
The 10-K also lays out substantial regulatory and litigation exposure, including Medicare Advantage risk-adjustment audits and proposed RADV methodology changes, opioid and usual-and-customary pricing suits, and securities class actions tied to the LTC unit. The LTC goodwill cushion is thin, at about 9% above carrying value.
02—Key points
Key Highlights
- Revenue of $256.8B (+32.0%), driven mainly by the Aetna acquisition; Health Care Benefits revenue rose from $9.0B to $69.6B.
- GAAP operating income of $12.0B vs. $4.0B in 2018, which included $6.1B of goodwill impairments; adjusted operating income rose 36% to $15.3B.
- Diluted EPS of $5.08 vs. a $(0.57) loss in 2018; the effective tax rate normalized to 26.3% from 142.4%.
- Operating cash flow of $12.8B (+45%), with $7.9B net debt repayment during 2019 and suspended share repurchases until the target leverage ratio is reached.
- Total debt principal of $69.2B including finance leases; senior debt rated Baa2 (Moody's) and BBB (S&P), with a negative outlook at Moody's.
- 2020 outlook: reinstated $15.5B Health Insurer Fee is expected to lower MBR but raise the effective tax rate and reduce net income; $800-900M Aetna synergy target reaffirmed.
- Material legal and regulatory exposure: Medicare Advantage RADV audit expansion, DOJ chart-review CIDs, opioid MDL, usual-and-customary pricing class actions, and LTC-related securities suits.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2019, CVS Health Corp kept $0.03.
- Revenue$256.78B100.0%
- Cost of revenue−$158.72B61.8%
- Gross profit$98.06B38.2%
- Operating costs−$86.07B33.5%
- Operating income$11.99B4.7%
- Interest, other & tax−$5.35B2.1%
- Net income$6.63B2.6%
Where FY2019 revenue went
$256.78B- Cost of revenue: $158.72B, 62% of revenue
- Operating costs: $86.07B, 34% of revenue
- Net income: $6.63B, 2.6% of revenue
- Interest, other & tax: $5.35B, 2.1% of revenue
Kept 2.6% as net incomeNet income $6.63B · 2.6%
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2019filed February 18, 2020Financial Statements
FY2019 against FY2018
| Line item | FY2019FY2018 | Change |
|---|---|---|
| Revenue | $256.78B$194.58B | +32.0% |
| Cost of Revenue | $158.72B$156.45B | +1.5% |
| Gross Profit | $98.06B$38.13B | +157.2% |
| Operating Expenses | $244.79B$190.56B | +28.5% |
| Operating Income | $11.99B$4.02B | +198.1% |
| Interest Expense | $3.04B$2.62B | +15.9% |
| Net Income | $6.63B-$594.00M | +1216.8% |
| EPS (Basic) | $5.10$-0.57 | +994.7% |
| EPS (Diluted) | $5.08$-0.57 | +991.2% |
| Shares Outstanding (Basic) | 1.30B1.04B | +24.6% |
| Shares Outstanding (Diluted) | 1.30B1.04B | +25.0% |
05—Questions
Frequently Asked Questions
How did the Aetna acquisition change CVS's financial profile?
Aetna added the Health Care Benefits segment, which contributed $69.6 billion of 2019 revenue and $5.2 billion of adjusted operating income. Revenue rose 32% in 2019, but the company also took on about $45 billion of new acquisition debt plus $8.1 billion of assumed Aetna debt, and intangible asset amortization rose to $2.4 billion. The business is now more government-heavy and more exposed to Medicare and Medicaid rate risk.
Why did GAAP operating income more than double in 2019?
The main driver was the absence of the $6.1 billion of goodwill impairments taken in 2018, mostly on the LTC reporting unit. The acquisition's contribution and higher prescription volume also helped. Partly offsetting this were $2.4 billion of intangible amortization, $231 million of store closure charges, and a $205 million loss on the sale of the Brazilian subsidiary Onofre.
How leveraged is CVS and when might buybacks resume?
Long-term debt was $64.7 billion at year-end 2019, down from $71.4 billion, after roughly $8.3 billion of repayments. The company stated it has suspended share repurchases until it reaches its desired debt-to-equity ratio, and it did not repurchase shares in 2019. It maintained the $0.50 quarterly dividend and expects to keep it through 2020. The 10-K does not give a specific leverage target or timeline for resuming buybacks.
What are the biggest risks to 2020 earnings?
Key risks include the reinstated Health Insurer Fee, which raises the effective tax rate because it is non-deductible; Medicare Advantage star ratings (83% of members in 4+ star plans for 2020, which is good but subject to change); a proposed RADV methodology change that could materially increase premium refunds to CMS; continued PBM price compression and retail reimbursement pressure; and pending litigation and government investigations. The 10-K also notes the LTC goodwill cushion was only about 9%, so further deterioration could trigger another impairment.
Is the goodwill on the balance sheet at risk?
Goodwill totaled $79.7 billion at year-end 2019, and the company reported no impairment in its 2019 annual test. However, the Commercial Business reporting unit exceeded its carrying value by only about 4%, and LTC by about 9%. Management warned that a material impairment is reasonably possible in the near term if forecasts are not met, so these two units are the main sensitivity.
06—Continue