Julie Morgan: Thanks for joining me today. I’m Julie Morgan, host of Seeking Alpha’s daily flagship podcast Wall Street Breakfast. CVS Health (NYSE:CVS) reported earnings this week, and that’s our topic for today. To help us break it all down, I’m joined by Daniel Jones. He’s the CEO of Avaring Capital Advisors. He’s also a Seeking Alpha contributor. Daniel, thanks for joining me today.
Daniel Jones: Yes, thank you for having me on. It’s a pleasure to be on.
JM: Good to have you here. You know, we’re going to jump right in. CVS Health, you’ve had a chance to look at the data already. I know you have. Are earnings and revenue where you expect them to be?
DJ: Honestly, it was a little surprising. They did fantastic for the quarter. They actually beat revenue expectations by $4.4 billion, and their non-GAAP earnings were $0.10 higher than what people were anticipating. So you’ve got $2.09 per share. I know a lot of people are going to be looking at the gap earnings, which will include a massive impairment charge of $5.7 billion, you know, on a net basis because of the opioid settlement that they are in the process of concluding.
But you really got to look at the non-GAAP in this case because it is a one time event, and it’s something they get to pay over ten years.
JM: Okay. Tell me this. When you consider other stocks in this industry group, how is CVS positioned in terms of market share?
DJ: So it’s really interesting. So it depends, because they’re an integrated health care company at this point.
They’re not just you know, people think of CVS, and they think, oh, it’s a drugstore chain, you know what I mean? Because that’s what you see when you drive down the road. You see, oh, CVS — So you’d think of how do they stack up against Rite Aid (RAD)? How do they stack up against Walgreens (WBA) or something like that?
Walgreens has, for instance, a larger physical footprint in the retail space. But CVS on the whole, is a much larger company because they are integrated. They’ve got the pharmacy benefits side of the enterprise. They just, you know, earlier this year announced the acquisition of Signify Health (SGFY).
So they’re really trying to grow in different ways. So it depends on how you look at it from that perspective. In terms of overall comparables. You know, like I said, probably the closest comparable would be Walgreens at this point, though. But is CVS the 800 pound gorilla in the room when it comes to overall integrated health care? Absolutely.
JM: You know, one of the things that you just mentioned in terms of Walgreens was an acquisition. You know, it’s been reported that CVS was in talks to acquire Cano Health (CANO). However, another report said that CVS has walked away from those discussions. What is the status of this deal?
DJ: So there’s a lot of mixed you know, there’s a lot happening in the rumor mill right now when it comes to Cano Health. Because the fact of the matter is, in September of this year, there were rumors that both CVS and Humana (HUM) were interested in acquiring the company. CVS and Walgreens, everybody else actually has been in a huge buying spree.
Amazon (AMZN) put out $3.9 billion earlier this year for an acquisition in the health care space. And like I said, you know, CVS just announced, you know, earlier this year an $8 billion acquisition for Signify. But then in October, there started being rumors that CVS may not be interested in Cano, that maybe the price just wasn’t right from a business perspective, that it would actually make a lot of sense because Cano actually has the largest of the independent operators in the pharmacy space.
They have the largest physical footprint in Florida, and they focus on a value based, approach to their business. So strategically, they make a lot of sense. But then when people finally accepted that maybe CVS was not interested in this, CVS then said in their earnings conference call just yesterday that they are interested in making acquisitions.
So we don’t really know what to expect. We do know, though, that at the end of the day, Humana has right of first refusal. So even if CVS comes to good terms, Humana gets that final say, hey, wait, do we want to match this or beat it or no? Does this not make sense, in which case then CVS can have it? But we’ll see. At the end of the day, it’s all part of the rumor mill.
JM: So it’s all just all the way things work, rumors spreading around. Well, tell me this. What do you think about the possibility of this happening?
DJ: So like I said, the presence in Florida. Florida has always been a hot state for business. But the problem is fundamentally, if you look just at the numbers, Cano is it’s not really the greatest, you know, prospect.
Last year they were free cash I’m sorry the first six months of this year, they were operating cash flow negative. So at the end of the day, these types of transactions are very hard to evaluate because oftentimes it doesn’t come down to the fundamentals. It comes down to what kind of synergies could be generated, what kind of growth could be generated by this larger player, capitalizing on these assets in a way that the smaller company as a stand alone could not do.
Now, given how much of a flurry there is in the acquisition of these types of companies in the space right now, I would say actually somebody probably will buy Cano. There’s been a lot of rumor about, you know, what the price might be. One rumor I heard was, you know, $14 per share. That’s been kind of the most talking, you know, the most common talking point. But will it be CVS? I don’t know. Strategically, it would make a lot of sense. I just — we’ll have to see.
JM: We’ll wait and see. Definitely. We’ll probably check back in with you about that. You know, in the ratings summary on Seeking Alpha CVS Health according to SA authors and Wall Street, it’s a buy, but the Quant Rating says the stock is a hold. What is your rating?
DJ: So honestly, from — you know, I’m a value investor, so I look at a couple of things. I do look at growth, and CVS has attractive growth over the past five years. Their revenues up I think 57%, operating cash flow is up 128%. So it’s a healthy company.
It’s growing. So a lot of that growth is through acquisitions, but they also have organic growth as well. But you would expect a company that’s growing that rapidly to be trading at a rather high multiple, and it is more expensive than Walgreens.
So, for instance, using 2022 estimates, the company is trading at a price to earnings multiple of 10.9. By comparison, Walgreens is at a 7.2 price to cash flow, 8.9 versus eight. And then an EV EBITDA, you’re looking at 8.8 versus 7.2. So you are paying a premium for a company like CVS.
But when you compare the growth over time, you compare just how profitable CVS is and the fact that it is more diversified at the end of the day than somebody like Walgreens. Frankly, I rate it a buy.
JM: Okay. And lastly, tell me this. Do you hold a position in CVS Health?
DJ: I do not. I run a very concentrated portfolio. If I were looking to get into this particular space right now, I would certainly own stock in the company personally. But I — my portfolio, I’ve got eight positions. And when you start narrowing down the stock universe to, you know, less than ten, it becomes very competitive for which one goes into the portfolio. So, no, I do not.
JM: Got it. Is there anything else you’d like to add?
DJ: I mean, not really, you know, at the end of the day, you know, my only advice would be, you know, focus on fundamentals.
Don’t worry too much about the rumors if they buy Cano, great. But at the end of the day, it’s not going to be a huge acquisition for them. It’s not going to be transformational.
And if you want a good quality company, they’re definitely a great prospect.
JM: Sounds good. Well, Daniel, thank you so much for joining me today. I really appreciate it.
DJ: My pleasure.
JM: For more coverage, catch our daily one-page news summaries and podcasts on seekingalpha.com/WSB. I’ll see you next time.
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