Shares of U.S. health care company CVS Health Corp (CVS, Financial) are up 5% over the last three trading sessions and 14% since mid-March. However, they are still 20% down this year, which leaves room for improvement before the tail-end of the year.
The company's performance appears to be gaining some positive sentiment following its most recent quarterly results released last month. The diversified health care company posted strong bottom-line growth of 51.68% from revenue of $61.56 billion— up 3% from the same period last year. The net profit margin improved by nearly 50% to 4.57%.
CVS Health's outlook is boosted by an improvement in health care spending and improved debt management. These could see its profit margins rise even further in the coming quarters.
The company operates in three main verticals, including retail pharmacy via CVS Pharmacy, pharmacy benefits management through CVS Caremark and health insurance through its 2018 acquisition of Aetna. The acquisition of Aetna in particular provides CVS with wider access to the lucrative health insurance market, which is tipped to maintain healthy growth in the coming years.
Aetna played a major role in CVS Health's highly impressive earnings in the second quarter. The health care plans provider benefited from the postponement of payments to beneficiaries amid reduced in-person visits to stores and a preference for homecare-based services.
Aetna is one of the biggest health insurance providers in the U.S. with annual revenues of about $70 billion. It is also one of the few that have extended their services to include supplementary health care plans in their portfolio.
The market for supplementary health care plans is tipped to experience steady growth due to the flexibility of plans offered to customers. Aetna is one of the top providers according to medisupps.com, a health care plans rating platform. It stands to benefit significantly from the expected industry growth.
Aetna has helped CVS Health to weather the adverse effects of Covid-19 by supplementing reduced drug store sales with decreased benefits payments to plan holders. This explains the slower 3% top-line growth compared to a gigantic 51.68% increase in earnings per share.
The company's improved efficiencies in debt management also played a part, as demonstrated by the improved net profit margin. CVS Health's long-term debt edged 4% lower to $72 billion as of June 30. The company has a goal to deleverage its current debt position to achieve an debt-Ebitda ratio of about 3.
Given its projected operating cash flows of about $11.3 billion, this could be achieved within the next two years. The company's capital expenditure in 2019 came in $2.5 billion. If we add potential dividend payments of about $2 per share for a total of about $2.6 billion, then the company will have free cash flows of about $6 billion to reduce its current debt position in 2020.
If it repeats the same achievements in 2021 and 2022, and based on the current Ebitda of $18.26 billion, the targeted leverage (debt-Ebitda ratio) could be realized. Alternatively, the company could also use the free cash flow to buy back shares, which will contribute to a rise in the stock price.
From a valuation perspective, CVS Health appears to be competitively valued at a forward price-earnings ratio of 7.1. In comparison, CVS Health's closest rival, United Health Group Inc. (UNH, Financial), trades at a forward price-earnings ratio of 16.58, while Humana Inc. (HUM, Financial) and Cigna Corp.'s (CI, Financial) equivalent price-earnings ratios stand at 18.08 and 8.52. This makes CVS Health significantly attractive to value investors with a long-term view.
Disclosure: No positions in the stocks mentioned.
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