CVS Health Corporation (NYSE: CVS) is now a stock that is “in play” for investors who chase the moves of activist investors and the so-called “special situation” investors. The reality is that CVS does need to make a massive effort to turn its ship around. Despite nearly a 20% stock recovery from its lows earlier this year, CVS shares are still down about 20% YTD.
Some investors believe that the culmination of CVS’s pharmacies, owning Aetna and owning Caremark is just too hard to turn around. Many investors also feel the same way about Walgreens Boots Alliance, Inc. (NASDAQ: WBA), except even more so — and Walgreens may actually have less “value” to unlock.
Earlier this week, CNBC reported that CVS had engaged advisors in a strategic review of its operations. Whether that involves a break-up of the different operations remains to be seen. Actually trying to unwind the marriage of its retail pharmacy and insurance unit, and the pharmacy benefits management unit, might be a herculean task. CVS spent tens of billions to wind up where it is now.
Somehow, some way, being a single one-stop destination for health is not translating into profit growth — and those profits may begin to unravel further if the intertwined nature is unraveled. CVS announced less than two months ago that it was embarking on a cost-cutting plan to the tune of $2 billion. This plan is said to involve layoffs of up to 3,000 of its employees.
HERE COMES A BULL
TD Cowen analyst Charles Rhyee announced an upgrade on Friday, raising CVS to Buy from Hold. The big change on top of the bias call is that CVS saw its prior $59 price target (versus a $62.92 prior close) hiked all the way to $85. That means that a fully-valued stock at the present time now suddenly has 35% upside. The consensus analyst price target was closer to $66.
What Rhyee sees that others do not is that changes in the pharmacy’s 225 Medicare Advantage plan benefits (through Aetna) will lower costs and increase profits. Specifically, this means the decreased benefits would be when it raises the price consumers pay while also costing CVS less to provide. And having a higher star rating should increase enrollment as well.
If TD Cowen’s analyst is right, this could get to double-digit earnings growth for 2025. It’s one thing for CVS to have been an $80 stock early on in 2024. It’s another thing that CVS’s stock had traded briefly at $110 back in early 2022.
Most analysts have a cautious stance on CVS, and it looks like all of its analysts have slashed their price targets over time. The same has been true for Walgreens Boots Alliance in analyst price targets being slashed. The key difference is that Walgreens Boots saw its price targets slashed much more aggressively during its 90% stock descent.
A HISTORY OF ACQUISITIONS
CVS has been no stranger to making acquisitions. That is how the retail pharmacy became so diverse. Its current market cap is about $81 billion. These were the two mammoth deals that changed the business away from just being a retail pharmacy:
- Back in 2006, CVS acquired Caremark Rx for about $21 billion in stock. The deal merged CVS’s PharmaCare with Caremark to become a top PBM.
- In 2017, shocking news broke that CVS Health would acquire Aetna for a $69 billion price tag in a cash and stock deal.
As a reminder, Aetna had been blocked from acquiring Humana over antitrust concerns. Aetna shareholders who held on would have owned more than 20% of the combined company at the time.
ANY ROOM FOR WALGREENS?
Perhaps a broader question is whether this leaves room for Walgreens Boots Alliance to find some love as well. In 2019, Walgreens was a $60 stock. Today it is less than $10 per share and is down to a market cap of about $7.5 billion. Sadly, there are very few acquirers who have wanted to surface due to the competitive nature of pharmacies and offering health care at street-level. It still claims to have more than 331,000 team members across eight countries.
Any analyst who has tried to defend Walgreens as a stock has wrecked their reputation. That being said, TD Cowen’s latest move was maintaining its Buy rating and its price cut went to $16 from $20 less than a month ago. That would still imply nearly a double versus the $8.75 current share price. And while this implies a P/E of well under 5, earnings power is rapidly declining with no apparent end in sight.
Over the summer, S&P Global Ratings ripped away its investment-grade credit rating on Walgreens Boots. That rating went to ‘BB’ from ‘BBB-‘ based on multiple issues. S&P worries about material strategic changes, as well as limited cash flow generation meeting large debt maturities creeping up in the coming years. This was after Walgreens decided to begin closing a significant number of US stores and with plans to cut its stake in the primary-care provider Village MD.
Strategic IS QUESTIONABLE
Special situation investors are chasing new ways to unlock value. Strategic investors are generally going to put their money where they think the gains are going to be easier than elsewhere. This upgrade from TD Cowen definitely fits into a strategic investors strategy, but morphing into a special situation may not really feel all that special. This would be a major victory for new shareholders if it works. Now CVS (and maybe even Walgreens Boots) needs to go see if there is anything “special” left here.
This review could have gone into many more avenues for both CVS and for Walgreens. The problem is that there is so much competition from outsiders, with new competition internally (coupons and discounting sources) that the profitability of the core pharmacy business may be untenable for most investors to wait for. The bullish case for either story here is on that is going to have to appeal to “deep value investors” first. So far that has been a losing proposition.
