Senior Judge Richard Leon sent shares in drug store chain CVS (NYSE:) lower after saying he might try to stop its $69 billion merger with Aetna (NYSE:), a health insurer. CVS announced the deal in December 2017. Since then, CVS stock is down over 25%. It was due to open for trade June 12 at about $54 per share. CVS’ market cap of $70 billion is now just 36% of its 2018 revenue, which was $194 billion.
Leon told CVS’ and Aetna’s lawyers to arguing the Department of Justice barely considered what adding 21 million customers could do for CVS’ Caremark, a Pharmacy Benefit Manager (PBM).
Oral arguments will be held July 17, a ruling coming shortly after. CVS has already agreed to sell its Medicare Part D plan, the only overlap with Aetna, , which in turn is being bought by Centene (NYSE:).
The Question of Costs
Centene’s begs the main question raised by the merger, which is whether the deal can cut healthcare costs.
Centene’s market advantage is cost visibility. Its business model is to profit in Medicare and Medicaid by owning clinics and other facilities its covered patients use. It was a big winner on the Obamacare exchanges, where it could offer much lower prices than standard insurance plans.
The American Hospital Association , while supporting mergers between hospital groups, arguing that hospitals aren’t the cause of health care inflation.
They’re right. Drugs are. Combining PBMs and insurers is how the industry is fighting drug costs.
CVS plans to turn 1,500 stores into after the merger, with labs, nurses and dieticians to treat chronic conditions like diabetes, representing 75% of America’s health care bill.
CVS has been preparing itself for a favorable outcome , when it reached the agreement with the Department of Justice Judge Leon is now reviewing.
The Question of Competition
Leon’s objections , but that unit’s problems were behind the merger in the first place.
The PBM model was upended four years ago when UnitedHealth Group (NYSE:), the largest private insurer, bought Catamaran, another PBM, for its own OptumRx unit.
The deal made the stand-alone PBM market untenable. Since then, Express Scripts, the largest PBM, was acquired by Cigna (NYSE:), an Aetna rival.
That merger, and the CVS-Aetna tie-up, followed failed attempts by Aetna to merge with Humana (NYSE:) and by Cigna to merger with Anthem (NASDAQ:). Having failed at horizontal mergers because of their size (despite UnitedHealth being bigger than either combination), the second-tier players moved toward vertical mergers, hoping to compete through cost control.
Thus, Leon seems intent on stopping a train that has already left the station. UnitedHealth, Centene and Cigna own PBMs, and he’s going to stop CVS-Aetna because CVS owns one?
The Bottom Line on CVS Stock
Not all mergers work. CVS’ own acquisition of Omnicare, a long-term care provider, caused it take in the second quarter of last year, and a net loss for all of 2018.
But given how far insurers have gone along the road to matching income with outgo, the Aetna merger was looking like a winner. The delays have pushed CVS shares down enough to give its 50 cent per share a yield of 3.82%, even though absent of write-offs, it covers that dividend with earnings two to three times over each year.
The Leon delay looks like a good opportunity for income investors to grab a bargain.
is a financial and technology journalist. He is the author of the mystery thriller, The Reluctant Detective Finds Her Family, available at the Amazon Kindle store. Write him at or follow him on Twitter at @danablankenhorn. As of this writing, he did not hold a position in any of the aforementioned securities.
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