It hasn’t been a good year so far for big pharmacy chains. The share prices of CVS Health Corporation (NYSE:CVS) and Walgreens Boots Alliance (NASDAQ:WBA) have taken a hit by the prospect of giant internet retailer Amazon.com entering the retail pharmacy business.
But fears of what might happen sometimes creates an opportunity for long-term investors. Is that the case for CVS Health and Walgreens? If so, which stock is the better choice? Here’s how these two big pharmacy services stocks compare.
The case for CVS Health
The bad news for CVS Health this year has translated to a valuation that should prove attractive to many investors. CVS Health stock now trades at only nine times expected earnings. Factoring in the company’s projected earnings growth makes the valuation look even better.
Despite the stock’s dismal year-to-date performance, CVS Health’s business appears to be doing fairly well. The company reported solid Q1 results in May. CVS Health got off to such a good start that it raised its full-year 2018 revenue and earnings guidance.
It’s important to note that CVS Health is a leader in two key areas: retail pharmacy and pharmacy benefits management (PBM). The company’s retail pharmacy business is stronger than it’s been in the past. That’s due in part to CVS Health’s focus on its MinuteClinic health clinics located in many of its stores. First-quarter revenue for these clinics jumped around 15% over the prior-year period.
CVS Health’s pharmacy services segment, which includes its PBM, has historically driven higher growth than the retail pharmacy business has. Although the PBM business faces challenges from pricing pressure and increased generic dispensing rates, it’s still in good shape and generating significant revenue for the company.
The big factor that could change the dynamics for CVS Health is its planned acquisition of Aetna (NYSE:AET). This transaction is expected to close in the second half of 2018 pending regulatory approval. CVS Health expects to achieve $750 million in synergies. The deal should also enable the combined entity to new integrated products that help reduce healthcare costs.
Investors have another reason to like CVS Health: its dividend. The dividend currently yields nearly 3%. Although the company has suspended dividend increases with the planned Aetna acquisition, CVS Health should be in good shape to keep the dividends flowing.
The case for Walgreens Boots Alliance
Like CVS Health, Walgreens Boots Alliance’s share price looks pretty cheap. The stock trades at 10 times expected earnings. And also like CVS, including growth projections makes Walgreens’ valuation even more attractive.
Walgreens retail pharmacy business received a boost from the company’s purchase of more than 1,900 of Rite Aid‘s stores. This deal increased Walgreens’ revenue and market share. The company is also seeing higher profit margins in its retail stores, with some of this improvement stemming from the addition of the Rite Aid stores.
One area that appears to be a success story for Walgreens is its initiative to promote beauty products in its stores. Sales of beauty products are increasing. And stores where beauty products are differentiated are enjoying stronger growth than Walgreens’ other stores.
The company has undertaken other initiatives to increase retail sales traffic as well. Walgreens is experimenting with clinics operated by LabCorp in some of its stores. It has partnered with FedEx to offer shipping services in the majority of its retail locations, and has also teamed up with Humana to bring full primary care clinics into some stores to complement its urgent care clinics.
In addition, Walgreens Boots Alliance claims a large pharmaceutical wholesale business. The nice thing about this business is that it’s relatively steady and generates solid cash flow. Even with some uncertainties in Europe over Britain’s exit from the European Union, Walgreens’ pharmaceutical wholesale business still grew in its latest quarter.
Then there’s the dividend. Walgreens’ dividend yield currently stands at 2.78%. The company recently boosted its dividend by 10%, marking its 43rd consecutive year of dividend increases. In addition, Walgreens’ board of directors approved a $10 billion share repurchase program.
While I think CVS Health’s decision to buy Aetna could pay off, I don’t like the amount of debt the company has taken on to fund the purchase. I’m also a little concerned about the potential impact on CVS Health’s PBM business if the Trump administration succeeds in drastically changing how PBMs receive rebates from drugmakers.
These issues make me lean toward Walgreens Boots Alliance as the better pick. Walgreens’ $10 billion stock buyback seals the deal.
However, while I think Walgreens Boots Alliance gets the nod over CVS Health, I’m leery of buying either of these stocks. There are too many variables at play that could alter the companies’ fortunes. Some might be skeptical about Amazon’s impact on the retail pharmacy business, but I’m not. I also suspect that Walgreens’ management team isn’t taking this threat seriously enough.
My view is to stay away from both big pharmacy stocks for now. There are better stocks to buy with much less uncertainty.