CVS' New "Pharmacy Home" Plan

Recently, CVS Caremark (NYSE:CVS - News) along with Harvard University and Brigham and Women's Hospital, conducted an extensive research on health policy and came up with some new ways to save more money while being treated. Through the study, they pointed out the importance of a single pharmacy home for pharmacy customers.

According to the research data, patients using a single pharmacy are more likely to connect with their own pharmacists on a regular basis. The researchers consider this twice as effective as taking prescribed medications and this will automatically reduce health care costs by thousands of dollars annually. This is more applicable to patients aging over 65 years who take two to three times more prescription medications than others.

Around 10,000 people per day are expected to enter into the 65 years age group in the U.S. in the next 8 years. As a result, down the line, this pharmacy home concept of CVS is expected to gain more importance.

CVS is gradually gearing up its performance in the field of Pharmacy Services. After a sluggish phase in fiscal 2010, the company exhibited improved performance in this segment throughout 2011 and has started off the 2012 selling season on a positive note.

With 90% of the contract renewals scheduled for 2012 already complete at the end of fiscal 2011, CVS retention rate was as high as 98%. New business wins stood at an encouraging level of $7.2 billion (significantly up from the $6.8 billion provided on Analyst Day on January 10, 2012).

The company also won some new accounts, which led to an increase in estimates for the number of new Medicare Part D lives for 2012 to 200,000 lives, thus bringing the companys Medicare Part D prescription drug plans (:PDP) lives up to approximately 3.6 million as of February 2012. The company also expects another $5.5 billion in new business wins associated with the PDP acquired from Universal American in 2011 and Universal American's Medicare Advantage plan.

However, despite implementing diverse strategies to expand its business, CVS continues to face margin pressure. Gross margin during the fourth quarter of fiscal 2011 decreased 258 basis points (bps) year over year to 19.6%. Moreover, operating margin contracted 60 bps to 6.9%.

In addition, the proposed merger between Express Scripts (NasdaqGS:ESRX - News) and Medco (NYSE:MHS - News) is expected to further challenge CVS in the Pharmacy Services segment. The deal is expected to combine two of the three largest US drug benefit managers and create a dominant player in the PBM space that will cover more than 150 million prescription drug consumers and 50% of the large employer market.

Together with CVS, they are expected to cover approximately 240 million prescription drug consumers. Consequently, post-merger, even CVS would not be able to stand in competition with the combined entity. We expect the merger to create market concentration in the entire economy, leading to an anti-competitive landscape for CVS.

CVS currently retains a short-term Zacks #2 Rank (Buy). Over the long term, we have a Neutral recommendation in the stock.

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CVS' New "Pharmacy Home" Plan