CVS Makes a Case for Aetna Megadeal

It’s hard to overshadow an industry-defining $67 billion merger of a drug-store mega-chain and large health insurer.

But the CVS Health Inc.-Aetna Inc. tie-up is in the shade after last week’s announcement of a health partnership between Inc., Berkshire Hathaway Inc., and JPMorgan Chase & Co. (“ABC” from now on).

CVS’s already costly deal looks even more expensive after its warning on Thursday of a possible profit decline this year, despite an expected $1.2 billion benefit from tax cuts. CVS shares fell though it reported positive quarterly results.

Still, given ABC and the challenges facing CVS, the Aetna deal may still be money well spent.

Even if ABC manifests in one of its scarier possible guises, CVS/Aetna will be safer than peers that provide only insurance, health care, or pharmacy benefit management. And CVS’s 2018 guidance — announced in January and further detailed Thursday — suggests the deal may have been needed even in the absence of the ABC bogeyman.

Operating profit — already down 6 percent in 2017 —  is expected to be between -1.5 percent and 1.5 percent in 2018, due largely to increased investment. That’s a big reduction from the 1-to-4-percent growth CVS forecast a month ago.

On the key pharmacy services side, the midpoint of CVS’s 2018 revenue growth forecast is 2.5 percent, down from 8.9 percent in 2017. The company noted on its earnings call that the market for new contracts looks competitive.

CVS expects the Aetna deal to close this year, and it will be a shot in the arm. The insurer brings more than 20 million enrollees CVS can direct to its own stores and services. The combined company can hopefully use those resources to lower health-care costs.

ABC’s arrival makes the deal more compelling. The new group might open clinics, try to manage its own drug spending, or run its own employee health plan. Doing any one of the above would take years of preparation; doing all of them will take longer. The timeline for providing such services to other companies will likely be geologic. CVS/Aetna’s unique breadth and scale will provide a firewall, no matter what.

CVS disclosed Thursday that, unlike many other U.S. companies, it’s not sending its tax benefit straight to the bottom line or to investors. Its dividend will stay flat, and its buybacks are suspended.

At least half of its $1.2 billion tax gain will go to paying down debt. Much of the rest will be split between boosting wages and benefits for employees and investments in data analytics, new store pilots, and care management solutions.

That’s as it should be. CVS will have a lot of new debt, and getting the most out of its Aetna combination will require major new investment in stores and technology. Any head start is worthwhile. And anything that helps the company retain talent during a period of major upheaval is a boost as well.

Investing in CVS at this point is about believing in the long-term benefits of the Aetna deal — not about extracting a tax-cut windfall.

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