CVS Health Corp (CVS) — Q3 2019 Earnings Call Transcript

Thank you. And good morning everyone. Welcome to the CVS Health third quarter 2019 earnings call. As a reminder, this call is being recorded. I am Valerie Haertel, Senior Vice President of Investor Relations for CVS Health. I am joined this morning by Larry Merlo, President and CEO; Eva Boratto, Executive Vice President and CFO. Following our prepared remarks, we'll host a question-and-answer session when Jon Roberts, Chief Operating Officer; Karen Lynch, President of Aetna; Derica Rice, President of Caremark; and Kevin Hourican, President of CVS Pharmacy will also join us. In order to provide more people with the chance to ask their questions during the Q&A, please limit yourself to no more than one question with a quick follow-up. In addition to this call and our press release consistent with our practice, we have posted a slide presentation on our website. Our Form 10-Q was filed this morning and is available. Please note during this call, we will make certain forward-looking statements that reflect our current views related to our future financial performance, future events, and industry and market conditions, and forward-looking statements related to the integration of the Aetna acquisition including the expected consumer benefits, financial projections, and synergies. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from what may be indicated in the forward-looking statements. We strongly encourage you to review the information in the reports we file with the SEC regarding these risks and uncertainties in particular those that are described in the Risk Factors section of our Annual Report on Form 10-K and the cautionary statement concerning forward-looking statements disclosures in our Quarterly Report on Form 10-Q. You should also review the section entitled cautionary statement concerning forward-looking statements in this morning's earnings press release. During this call, we will use non-GAAP financial measures when talking about the company's performance and financial condition. In accordance with SEC regulations you can find a discussion of these non-GAAP measures and the comparable GAAP measures in the earnings press release and the reconciliation document posted on the Investor Relations portion of our website. And as always, today’s call is being broadcast on our website where it will be archived for one year following the call.

Well, thanks, Valerie. Good morning everyone and thanks for joining us. In the third quarter, we continued building on our positive business momentum delivering adjusted earnings per share of $1.84, exceeding the high end of our guidance range. Importantly, this performance was driven by strong operational execution across our enterprise with all three segments performing in line with or above our expectations. And I'll note that $0.04 of our Q3 performance was the result of net realized capital gains and favorable prior year’s development. We generated strong cash flow from operations which enabled us to continue to make progress on deleveraging, all while investing in our core businesses and returning capital to our shareholders through dividends. Given our year-to-date success in executing against our strategic plan, we are raising and narrowing our adjusted earnings per share guidance range to $6.97 to $7.05. And Eva will provide a more in-depth review of our results and increased guidance in her remarks. Now, as we continue to transform CBS into the country’s leading consumer health company, we are successfully executing on our long-term growth strategy across the four key enterprise-wide priorities we shared at our June Investor Day. Importantly, our teams are working together across the enterprise to maximize value to our members, consumers, patients, and shareholders, and our operational and financial performance this year reflects their efforts. We continue to use our unmatched combination of assets by enhancing and creating products and services to further grow and differentiate our businesses, our first strategic priority. In our Retail, Long-Term Care segment, we continued to drive strong prescription growth using our data and analytics capabilities through targeted proactive member communication. A key differentiator of our retail stores is our ability to meet members and consumers where they are to deliver local personalized care through our MinuteClinics and now our HealthHUBs making healthcare more accessible and affordable. And our approach is clearly resonating in the marketplace and is exemplified both by our continued share gains at retail and the early success of the HealthHUBs. Now in terms of early impact, our HealthHUBs in Houston, which now have about eight months of performance have continued to outperform their control group with higher script volume and MinuteClinic visits along with higher front store sales, traffic, and store margin.

Thanks, Larry. And good morning, everyone. As Larry said, strong performance across the enterprise drove our third quarter results. Adjusted earnings per share of $1.84 was above the high end of our guidance, including $0.04 attributable to non-recurring items generated by net realized capital gains in prior years' development. Health Care Benefits exceeded our expectations while Pharmacy Services and Retail/Long-Term Care were in line. The quarter also benefited from lower interest expense. Consolidated adjusted revenues grew 37.1% in Q3 of 2019, also exceeding our expectations. This year-over-year increase was largely driven by the addition of Aetna as well as higher volume in both the PBM and Retail/Long-Term Care segment. The Health Care Benefits segment, which includes our SilverScript PDP business contributed $17.2 billion of revenues for the quarter. Adjusted consolidated operating income grew 48.9% compared to last year, primarily due to the addition of the Aetna business. Health Care Benefits contributed $1.4 billion, and we experienced growth in the PBM, which was partially offset by a decline in Retail/Long-Term Care. Looking at our results by segment and starting with Pharmacy Services. Total revenues increased 6.4% with adjusted claims volume up 9.3% year-over-year. Drivers included net new business, particularly in specialty related to the IngenioRx onboarding and the continued adoption of our Maintenance Choice offerings. PBM adjusted operating income increased 5.7% versus Q3 of 2018, due to increased claims volume the shift of Aetna Mail order and specialty operations into our Pharmacy Services segment and improved purchasing economics. We continue to mitigate our rebate guarantee exposure through formulary compliance and have experienced a larger-than-expected benefit from generic launches primarily in specialty. These improvements are partially offset by continued price compression. Brand drug inflation remains consistent with our previous expectations. Moving to Retail, Long-Term Care, the segment performed in line with our expectations with total revenues up 2.9%, driven by higher prescription volume. We delivered strong adjusted script growth of 6.4% with comp scripts up 7.8%, primarily driven by the continued adoption of our patient care programs.

Yes, Lisa. Good morning. And I'll start and then I'll flip it over to Kevin. Yeah, Lisa in terms of the numbers themselves as you know we have been qualitative in our definition of performance, and we've done that, it's a very small subset of stores at this point. But as you've heard us say countless times, it absolutely has given us the confidence in the belief in our strategy and the need for a rapid rollout. So, as we get more of a critical mass of stores, you will see us move from qualitative definition to more quantitative definition. And you can think about that sometime in the probably in the second quarter timeframe, in the spring timeframe, where we think we'll have enough of a critical mass and multiple geographies across the country.

Thanks, Larry. Good morning, Lisa. Thanks for the question. I'll just build on the second part of your question which was the services provided. The new wellness product that we've added to the front store continues to do well, including the products that we're selling in the sleep apnea space helping fill white space in an unmet consumer demand. We're bullish on the MinuteClinic expanded services getting into chronic disease management in a more coordinated way. We believe it's in collaboration with primary care to answer your question in replacement of primary care. In the pharmacy space, we're excited about what our pharmacists are doing in partnership with data coming to us from the Aetna business unit on which patients need our greatest help on a longitudinal way. So it's not one phone call and one specific day. It's over a course of time working with those patients to help introduce them to care coordination services that are available through Aetna and also working with the PBM sales team on what the members of our Caremark business units are looking for. And just an important point to note as it relates to your provider question, 80% of the services that can be provided by a primary care physician can in fact be provided by our nurse practitioners in our pharmacies – excuse me, in our MinuteClinics. And again, we view it as complementary to primary care.

Hi, Lisa. It's Karen. Yes, we’ve been – a couple of things on this topic. We've been talking to our clients throughout the 2020 selling season about how we can deliver that more personal, integrated, cost-effective, and holistic care approach -- response from our customers has been very positive to date. And I think we're seeing a fair amount of activity and pipeline build for 2021. And as we talked about previously, our focus for 2020 was to go to market with a more integrated medical pharmacy offering, and what we've done for the 2020 selling season, I'm very pleased to tell you that we are seeing increased traction in overall pharmacy penetration for our employer sponsor business, particularly where Aetna had the medical business and we're now winning significantly greater percentage of pharmacy business.

Lisa this is Derica. In regards to you on the Caremark side, we've had the opportunity to introduce the HealthHUBs to a number of our clients both on the health plan side as well as on the employer side, and we've had a great deal of excitement and interest, and it's clearly playing out not only in our 2020 selling season, we look to wrap that up, but also to 2021. And I know there was always – with the announcement of the deal between CVS and Aetna, there was some concern amongst investors about potential for channel conflict. We – with the interest that we have from some of the health plan clients, we've actually now listed two that are actually performing some pilots with us that were related to the HealthHUB itself. So that gives you some idea to the type of traction we're getting in that space.

And Lisa this is Jon. If you remember back when Caremark rolled out Maintenance Choice and the excitement in the market and the momentum that gave us, we're seeing a similar reaction in the market to HealthHUBs from the clients.

Yes. My question is on the PBM and it looks like a strong performance. I was wondering in 2019 how much cross-sale you're seeing in the Aetna book of business for this year as contrasted with maybe some sort of metric related to how much progress you're going to see for the beginning of 2020, given the selling season that Karen just mentioned. And then what do you see as sort of the upside possibility with that? And I guess related to the PBM also is for those additional wins you got over the last quarter, what segments are those in? Is that a health plan or employer business?

Lance it's Karen. Let me just talk about where I see the opportunities on PBM. As I mentioned, we're having a good 2020 selling season. And what we're measuring is really penetration of the book. So we're looking at a number of ways. We're looking at where we have medical and we want to drive pharmacy integration. We're looking at the – Derica and I are jointly looking at the pharmacy book and looking at where we want to potentially sell medical opportunities. And then we're looking together holistically to say, 'Hey where are the opportunities that neither one of us have business? And that's where I think we're starting to see that growing pipeline in 2021 and bringing all the capabilities of the company together.

And Lance just to build upon Karen's comments. In regards to the impact on the PBM, you've seen here off the late that we -- at least since the Q2 call that we've improved our net wins by $1 billion. The vast majority of that came in the employer segment and call it the kind of the middle market and that plays very well with the integration efforts that Karen laid out also. And then as you can think about what I talked about earlier about being able to introduce the HealthHUBs and some of the broad array of services to that client group, that's -- they've been very receptive to that and absolutely is playing into the outlook and the expectations we're establishing in the marketplace.

Yes. Hey thanks for taking the question. When I look at the full year guidance for the rest of this year, you kind of talked about year-to-date product development and net realized capital gains of $0.20. When we're thinking about next year and 2020 and sort of like when you initially kind of had said better than $7 a share, should we be looking at this number including the capital -- this kind of number assuming that we probably have similar types next year or should we be thinking about it without?

Yes, Charles, this is Eva. Thanks for the question. I think, as I outlined in my prepared remarks, right, where we're sitting today versus where we sat back in June, we're even more confident with our low single-digit growth. We provided the transparency and the color around the $0.20. As we've said consistently, we don't guide to that. So, think about that growth off -- after you remove that from your baseline.

Thank you and good morning. So firstly, just to clarify on the EPS guidance question. So Eva, if we think about the new 2019 base of $6.97 to $7.05, and we excluded $0.20, and we grow it by low single-digit, we get to a range of $6.84 to $7.12. I know that you answered before above $7. So should we think about would you say that you're comfortable with kind of like that high low single-digit range?

Yeah, Ricky, as we said, we'll provide our more fulsome guidance in February, but we've reiterated we're comfortable with at least $7 and the low single-digit growth, and we'll have more to provide…

Good morning, and thanks for taking the question. I want to dive a little bit into the retail TC segment particularly profit growth in particular. You pointed to a lot of the moving pieces in the quarter and where things shook out on the positive versus negative side. Also, I know at the Investor Day you did talk about that segment being up at least some preliminary expectations low single-digit on EBIT. I guess, based on what you've seen so far year-to-date, having just obviously addressed the long-term care question, how was everything tracking relative to the moving pieces within retail that will allow you to drive towards EBIT growth of that low single-digit rate into next year?

Hi, Michael. This is Eva. I'll start and perhaps Kevin will jump-in. As we look at Q3, Q3 performed right in line with our expectations. Q2 performed above our expectations. So we're pleased with how the business is performing and the initiatives which are underway to enable us to return to growth in the segment.

I'll just build on that. Your second part was our confidence and not being able to hit the guidance that we provided back on Investor Day for 2020. As Eva just said, we're on track to be able to deliver against that guidance. In fact, we're more confident now than we were then. The key tenants of that strategy to enable that growth we'll grow our pharmacy business faster than the industry and continue to take market share and grow organically, which we've been doing this year and that will continue. We will continue to grow both the top line and bottom line within our pharmacy – excuse me, front store business, specific focus on health and beauty. The biggest year-over-year difference is a meaningful cost takeout through the modernization efforts that Jon Roberts covered back in June. Those efforts are on track. We will take a significant amount of cost out of both our pharmacy and front store businesses.

Yeah. Good morning, team CVS. And I kind of want to dovetail right off of Mike's question which is, I guess are you able to quantify maybe the cost takeout that you're looking for in retail pharmacy next year? And I guess just given – looking at the pharmacy results for this year. And I don't think there's any reason to think the reimbursement next year is going to meaningfully improve. I'm also just trying to bridge the gap between kind of putting the retail pharmacy results this year and how we get that low single-digit EBIT growth in the segment next year. So quantification on the cost takeouts and maybe the outlook for reimbursement or the year-over-year change in reimbursement and how it impacts results would be helpful. Thank you.

Yeah. George, it's Larry. Good morning. Maybe just a couple of things to be reminded of as we went through the first half of this year, keep in mind we have the additional investments that we made back in 2018 that cycled through the first half. Largely, the investments in tax reform as it rolled back into our retail business for our colleagues. And then George, I would take us back to the Analyst Day in terms of -- we provided the headwinds, tailwinds as we looked at next year. And there's nothing different that we see today from what we had talked about back in June. And as you pointed out, we don't see reimbursement pressure abating, but the offsets to that reimbursement pressure have some dynamics in 2020 that we did not face in 2019.

Great. Thanks for taking the questions. I guess just a couple of more detailed follow-ups. I mean one, Eva I think you mentioned a larger-than-expected benefit from generic launches, particularly in specialty. So I was just wondering if you could expand on that dynamic a little bit. And was this an area that you guys were expecting? Or is this actually something that could be trending more meaningfully in your favor as far as follow-on biologics or generic biologics?

So Bob, I'll take the first part. I think Jon will provide some more color. Overall, the timing of the launches and when they come to market can vary. So this was something we were expecting albeit it came early for us. And as we continue to focus to execute and deliver value and savings right driving the penetration of generics is an important priority for us.

Bob, this is Jon. So for 2019 we continue to improve our purchasing economics on mature products. And then when they – we looked at some of the new generic launches that were coming to market, we actually were able to get more favorable rates than what we historically had. So that was a positive. And then we had some new generic launches that we did not expect that were favorable. And then as we look forward into 2020 and beyond, we still see significant generic launches and launches of biosimilars. And between 2020 and 2023, there'll be $41 billion of generics and biosimilars that will come to the market. And in addition to that we see opportunities to improve how we purchase complex generics, generics where there's only one manufacturer and also again a great opportunity around biosimilars. So we still see this as a very attractive area for us.

Great. Thanks. Just wanted to go to Health Benefits segment. Obviously last quarter you had noted the pressure in commercial and middle markets in the specific geography. It sounds like you've made some improvements there. So if you can help with sort of the deals and what sort of got better. But at the same time you're still expecting MLR above midpoint. So maybe just help on that more broadly.

So a lot of questions there. I'll start with the commercial medical cost question. Yes we mentioned in the second quarter that we had some pressure in utilization in our lower end of the middle market. During the second quarter, we noted that we took appropriate actions to address those elevated medical costs. And I would tell you with an additional three months of claims experience, we feel comfortable that the actions that we took have mitigated the elevated pressures that we thought we saw in the second quarter.

Okay. So, thanks Ralph. Amy, we'll take two more questions please.

All right. Thanks. Hi everybody. First of all, just maybe get you guys at this point we've got more information about the lay of the land going into 2020 around the Medicare Advantage product offering and competitive offerings are visible to you. We're in the early stages of the open enrollment period. I know at the Investor Day you guys had said you thought you could grow above market even, obviously with the hip and other things coming back. Any updated thoughts on how that looks, how much geographic expansion things like that will drive your performance next year might be a general range on growth and enrollment in the business?

Hi A.J., its Karen. Let me just comment on the competitive landscape and what our go-to-market strategy is. As you know, and as you've seen, the competitive landscape appears to be competitive in 2020. However, as you have seen CMS is estimating market growth to be about 10%. We think it will be a little bit lower than that, but we are still optimistic that we can outpace our industry growth despite the headwinds. And we -- there's a couple of reasons why we're optimistic. One, I would just say, we continue our efforts around geographic expansion. We're at 81% of Medicare eligible. We continue to make investments in our growth and retention of our existing service areas. Our stars performance is incredibly helpful to helping us in our optimism relative to Medicare growth.

Thanks. Great. Good morning, everybody. So a lot of the juicy topics have been covered already. So I guess for us just for Medicaid obviously the Texas Star plus was pretty positive for the company. Is there any additional color you can provide on what you think drove some of your success there either qualitatively or quantitatively just in terms of your ability to analyze the full outcomes for yourself relative to the other players?

Yeah. So thank you. And we're really excited about being awarded the Texas program. We believe that some of the reasons why we won, we really believe we had a compelling RFP response. We have very strong existing value-based provider contracts in Texas. We had a very unique partnership with Texi Healthy Home area aging agencies. We made a commitment to the DNT plan. We offered our Texas HealthHUB in that we believe helped us and we believe that our NCQA ratings helped us as well.