The company’s shares look cheap, driven in part by an expensive acquisition that ultimately didn’t work out
CVS Health (NYSE: CVS) is perhaps best known an American drug store chain. Beyond that business, it also owns health insurer Aetna and long-term-care pharmacy manager Omnicare. That combination of assets makes CVS Health an end-to-end powerhouse in America’s healthcare industry.
While CVS Health the company is certainly a force to be reckoned with, CVS Health the stock certainly hasn’t done much for investors over the past eight or so years. Yet while past performance in the market is never a guarantee of future results, when a solid business is faced with a stock that hasn’t done all that well, it could be a sign of a bargain stock hiding in plain sight.
With that possibility in mind, it raises a key question: Is CVS Health’s stock a bargain hunter’s dream?
There is a value case to be made. Analysts expect CVS Health to deliver around $8.60 per share in earnings for both 2023 and 2024 as well as modest earnings growth around 4.4% annualized over the next five years. When compared to its recent market price of $70.70, it commands a modest price to projected earnings ratio of around 8.2. In part because of that low earnings multiple, its dividend clocks in at nearly a 3.5% yield while consuming less than 30% of its anticipated earnings.
At a price multiple like that, with such solid expected earnings, that puts CVS Health’s shares squarely in the camp of looking value priced. Of course, there’s typically a reason why a company’s shares can look cheap. In CVS Health’s case, it’s at least partially because the market doesn’t think its recent acquisitions have been the best use of capital.
For example, CVS Health took a substantial write down due to its Omnicare business and indicated that it intends to sell it off. That write down raises questions as to whether CVS’ 2015 acquisition of Omnicare was the best use of the company’s cash. In an era of higher interest rates where strong capital allocation earns a premium valuation, an acquisition that needs to be written down and divested simply does not.
Yet it’s exactly those past decisions that makes the market concerned about the company’s future and why its shares are available at what looks like a bargain price today. As a result, potential investors are in a spot where all CVS Health has to do is hold its business approximately steady to have a chance at a decent return from its dividend. On the flip side, if CVS Health manages to show solid overall growth as it cleans up its past investments, those same investors could also see future share price appreciation.
That kind of outcome -- where it’s “heads you win, tails you’re not likely to lose too badly” -- is exactly the sort of situation that bargain hunting investors look for.
Of course, it isn’t a risk free investment
Still, despite that apparent bargain price, there’s potential that CVS Health may not end up being a great investment after all. It announced its intent to sell Omnicare almost a year ago, for instance, yet the business is still on CVS Health’s books, with no clear buyer yet publicly identified. And even as it sits there with at least one challenged investment in its portfolio, it has made other multi-billion purchases like Oak Street Health and Signify Health.
That it continues to make acquisitions shows that it’s still looking to fuel its growth through purchasing it, rather than building it organically. If those investments pay out, it can ultimately work out for CVS Health’s investors. In today’s higher interest rate environment, though, the hurdle rate for those purchases to make sense simply gets that much higher.
As a result, like most companies trading at bargain prices these days, there’s good reason for the discount. Put it all together, though, and CVS Health’s shares look as though they provide a decent shot of reasonable returns for patient investors willing to see how the company’s acquisition strategy pays out.
In our latest EasyResearch feature, we have the awesome Chuck Saletta (contributor to Motley Fool) sharing some fantastic insights on Exelon. Just to keep you in the loop, at the time of publication, Chuck Saletta’s wife owned shares of CVS Health, and Chuck owned Aetna bonds scheduled to mature in November 2024.
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