Third-quarter earnings at CVS Caremark Corp. were in line with Wall Street's expectations but down sharply from a year ago, while a sales gain in the retail drug store unit was overshadowed by a revenue decline in the pharmacy benefit management business.

CVS Caremark, third quarter, earnings, sales, pharmacy benefit management, PBM, drug store, pharmacy, Tom Ryan, David Denton, same-store sales, retail pharmacy, front end, Maintenance Choice, CVS, Russell Redman, Helene Wolk, Sanford Bernstein & Co., Bill Dreher, Deutsche Bank Securities

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CVS Caremark sees drop in 3Q earnings, sales

November 3rd, 2010

WOONSOCKET, R.I. – Third-quarter earnings at CVS Caremark Corp. were in line with Wall Street's expectations but down sharply from a year ago, while a sales gain in the retail drug store unit was overshadowed by a revenue decline in the pharmacy benefit management business.

The company said Wednesday that overall revenue for the three months ended Sept. 30 fell 3.1% to $23.9 billion from $24.6 billion in the prior-year period. Sales in the retail pharmacy segment rose 4.1% to $14.2 billion, and same-store sales grew 2.5% year over year.

Same-store sales edged up 1.4% in the front end and 3% in the pharmacy, according to CVS Caremark. The company noted that pharmacy same-store results reflect a positive impact of about 240 basis points on a net basis from its Maintenance Choice program, which lets mail-order customers get their prescriptions at CVS retail stores, as well as a negative impact of approximately 280 basis points from generic drug introductions.

"CVS retail results were impressive and continue to be the driver behind the company's
earnings. CVS retail operations continue to gain share and improve profitability," Deutsche Bank Securities analyst Bill Dreher said in a report on CVS Caremark's third quarter.

In the PBM segment, 2010 third-quarter revenue dropped 8.5% to $11.9 billion. Adjusting the growth rate for the impact of new generics, net revenue would have decreased 1.6%, CVS Caremark said. The company added that the decline stemmed mainly from the termination of a few large client contracts effective Jan. 1 and the decrease of covered lives under the Medicare Part D program resulting from the 2010 Medicare Part D competitive bidding process, partially offset by new client starts effective Jan. 1.

On the earnings side, income from continuing operations attributable to CVS Caremark for 2010 third quarter sank 19.8% to $820 million from $1 billion a year earlier. The company noted that during the 2009 quarter it recorded about $156 million (11 cents per diluted share) of previously unrecognized tax benefits, and excluding the impact of the recognition of those tax benefits, third-quarter 2010 income from continuing operations attributable to CVS Caremark would have decreased 5.4%.

For the 2010 third quarter, adjusted earnings per share from continuing operations attributable to CVS Caremark, which excludes $108 million of intangible asset amortization related to acquisition activity, came in at 65 cents, compared with 76 cents (including the 11 cents per diluted share income tax benefit) in the year-ago period. GAAP earnings per diluted share from continuing operations attributable to CVS Caremark for 2010 quarter were 60 cents versus 71 cents a year earlier.

"CVS reported an in-line quarter with adjusted earnings per share of 65 cents, consistent with consensus [analyst estimates] and 1 cent above our estimate [64 cents]," Sanford Bernstein & Co. analyst Helene Wolk said in a research note Wednesday, prior to CVS Caremark management's earnings conference call. "Retail margins were better than we anticipated, likely reflecting a benign promotional environment and solid cost control by CVS management. PBM performance appears somewhat light relative to our expectations for the quarter but consistent with full year expectations for -10% to -12% operating profit growth."

Analysts polled by Thomson Financial had an average earnings estimate of 65 cents per share for CVS Caremark's third quarter, with the forecast ranging from a low of 63 cents to a high of 70 cents.

"I am pleased with our third-quarter results, which were at the higher end of our expectations," Tom Ryan, CVS Caremark chairman and chief executive officer, said in a statement. "Our retail business delivered industry-leading same-store sales growth, while solid gross margins and expense control led to significantly improved operating margins.

"Our PBM offerings continued to gain traction with clients, as evidenced by the year-to-date results of the 2011 selling season," Ryan added. "We have begun to make important investments in the PBM streamlining initiative, which will lead to improved results and higher returns in the coming years."

CVS Caremark noted at its Analyst Day event last month that through 2015 it expects to increase its earnings per share by 10% to 15% a year, excluding onetime items, and to grow its same-store sales by 3% to 5% a year.

"Since CVS' analyst meeting a month ago, $600 million of incremental net new PBM business helps confirm CVS' business model," Deutsche Bank Securities' Dreher said in his report. "CVS is well-positioned to see accelerating EPS growth beyond 2011, as the onetime PBM streamlining costs subside and as the large wave of higher-margin generics begins to drive profitability at both the retail and PBM segments."

In CVS Caremark's third quarter report, chief financial officer David Denton trimmed the company's previous earnings outlook for the full year.

"In light of our solid performance year to date and expectations for the remainder of the year that include some one-time costs relating to the PBM streamlining initiative, we are narrowing our guidance for adjusted earnings per share for 2010 to a range of $2.68 to $2.70 from a range of $2.68 to $2.73." Denton stated. "In addition, we are reiterating our guidance for free cash flow this year of approximately $2.5 billion. We expect to generate significantly more free cash on an annual basis for the next five years, and we intend to exercise disciplined capital allocation practices to achieve the highest possible return for our shareholders."

On average, analysts forecast 2010 earnings of $2.71 cents per share for CVS Caremark, with projections running from a low of $2.68 cents to a high of $2.75.

CVS Caremark said that during the third quarter it opened 49 new retail drug stores, closed six drug stores and relocated 18 drug stores. As of Sept. 30, the company operated 7,152 retail drug stores.

*Editor's Note: More analyst comment added on Nov. 4.