The 2016 Morgan Stanley Global Healthcare Conference

Sep 13, 2016

Summary

PBM tools held 2016 YTD drug trend to 3.5% YoY versus inflation above 9%, with more than $9B in client savings projected for 2012–17. Selling season wins, growing health plan business and integrated care capabilities supported the growth outlook; capital priorities included a 2018 dividend payout target and annual buybacks of $4B–$5B.

Good morning, everybody, and welcome to day two of the Morgan Stanley Conference. I'm Ricky Goldwasser. I'm Morgan Stanley's healthcare services analyst, and it's my pleasure to introduce CVS's management team. To my right is Larry Merlo, President and CEO of CVS, and Larry will make some introductory remarks. To my left is Eva Boratto, who is CVS's corporate controller. Now, before we kick up the discussion, I just want to remind you that for any corporate and personal disclosures, please go to the Morgan Stanley website. With that, I'll pass it to Larry. Okay. Thanks, Ricky, and let me thank those in attendance along with those listening in to the webcast for your interest in CVS Health. As Ricky mentioned, before we get started in the Q&A, I did want to take a few minutes to address some of the discussion around drug pricing and the role of PBMs in containing costs. A lot of that has emerged over the past several weeks, and unfortunately, some of this commentary has painted PBMs as simply middlemen in the pharmacy supply chain that are taking outsized profits at the expense of patients and payers, and this is simply not true. The self-serving argument that's being made by some, it really ignores the decades of market experience where PBMs have saved patients and payers billions of dollars on their drug spend, and it further ignores the multiple examinations and reviews from government agencies like the Congressional Budget Office, General Accounting Office, the FTC, that have consistently concluded that PBMs operate in a highly efficient market and drive real savings to the healthcare economy. In an era of rising pharmaceutical costs and products coming to market at elevated price points, the value proposition of PBMs has never been stronger. Our clients recognize our value. They look to us as a trusted partner to help control rising pharmaceutical costs while improving the care and health outcomes for their members. We make care more affordable by implementing plan designs that encourage patients to use lower-cost generics, and we also aggregate claims volume to more effectively negotiate with manufacturers for formulary placement. This process generates rebates, which are simply discounts off of the manufacturer's list price, the vast majority of which go directly back to our clients. These price discounts are fully transparent for those respective clients who have audit rights, and our contract terms clearly dictate how we are compensated for those services. There is no doubt that PBMs operate in a highly competitive environment and again create real value in the marketplace. Our clients and the consultants that advise them, they're highly sophisticated and demanding. They have a regular RFP cycle that continuously evaluates and challenges results. In its simplest form, PBMs are retained by clients to provide solutions that they, the clients, choose to implement with a goal of making healthcare more affordable, more effective, and more accessible for their members. Yes, there is a cost associated for their members, but it is extraordinarily small when compared with the value that we deliver. Our formulary management strategies alone from the period of 2012 through 2017 will deliver in excess of $9 billion in savings for our clients. In addition to making care more affordable, we also make care more effective by driving adherence through our clinical programs, and we know that pharmacy care is one of the most cost-effective ways to reduce overall healthcare spending, so it is critical that we ensure that the patients that we serve stay on their medications. We also make care more accessible by contracting with network pharmacies all across the country and providing mail order and specialty services so that patients can have convenient and affordable access to their medications. In addition to aggregating discounts and effectively reducing drug trend for clients, we also have the clinical expertise that employs prior authorization and utilization management that ensures the right patient gets the right drug, and we are judged by our clients on our ability to hold down the cost of those drugs while ensuring the continuity of care for their members. In fact, using our broad array of PBM cost management tools, if you look at 2016 year to date within our book of business, our year-over-year trend is running at about 3.5%, significantly less than drug price inflation of more than 9% for that same time period. That is why we believe we continue to win and retain business, with gross new business wins exceeding $30 billion over the past three years alone. Ultimately, the cost reduction strategies we employ for our clients can also provide value for the individual employee or member, and plan designs are ultimately determined by payers, and individual employers decide where and how they subsidize their members' coverage. Lowering overall costs for our clients allows them to apply those savings to lower the amount their employees have to spend to cover their share of health insurance costs, while again ensuring access to medications in all categories. For those in high-deductible plans, overall cost could mean that employers take actions such as adding products to what is known as the Preventive Drug List, essentially making those medications free for their members. Yes, it is a bigger challenge to negotiate lower prices when there is basically a single product in a category, and we will continue to encourage the need to create competition within therapeutic classes as a solution to reducing the cost of drugs, whether it is clearing out the FDA backlog of potential drug approvals, many of which are generics, or increasing the speed to market of new biosimilar agents. We have been steadfast in our ongoing efforts to deliver on these three objectives, how we make care more affordable, more effective, and more accessible. Our past, along with our future success, will be determined by how we continue to innovate to improve in each of these areas. And no matter how healthcare evolves, the scale and the clinical expertise that PBMs provide will continue to be needed to support clients and their members while driving efficiencies in the market. Ricky, thanks for the opportunity to make those opening comments, and I'll join you over here for Q&A. Great. Thank you. Let me kick off the discussion with some Q&A. And of course, if everybody in the audience have a question, please raise your hand and we'll get you the mic. Larry, one of the things that I've heard when you talked about your three key focus areas, affordability, effectiveness, and accessibility, you talked about making care rather than just making drugs. And when I think about the PBM competitive landscape, there are now three PBM business model, right? The CVS integrated model that's focused on care, the United Optum model, and the Express standalone model. Do you think that there is room for all these different models as the healthcare market evolves? Yeah, it's a great question, Ricky, and we have a differentiated model from that of Optum or Express, and we have tremendous respect for those two organizations, and they compete effectively in the marketplace. I think it's important to acknowledge that we are operating in a very robust marketplace. If you look at the fact that more patients are gaining access to health insurance, whether it's through Medicaid expansion, or the exchange products, and at the same time, health plans continue to evaluate the opportunities that exist to outsource pharmacy to PBMs. Again, we continue to see a growing industry in which we operate. We believe that we have the preferred model when you look at the industry landscape. We've been talking about the retailization of healthcare, where more decision-making, more accountability is moving from the plan sponsor to the individual member, and that places a new demand on the individual. And it's important that those decision-making tools move along with that accountability, and the consumer touchpoints that we operate become very critical. You think about the fact that we have 9,600 retail pharmacies all across the country. About 75% of the U.S. population lives within a few miles of CVS. It's been proven time after time the effectiveness of the face-to-face interaction that exists between patient and pharmacist, and the ability to change behavior through those interactions. And our touchpoints don't stop there. You think about our MinuteClinics, you think about our specialty suite of assets that now include infusion capabilities, along with now our recent entry into long-term care that we can manage the patient across what we are referring to as the continuum of care, whether it is in the home, in, I will call it a rehab assignment perhaps, in an assisted or skilled nursing facility, and ultimately back into the home. At the same time, we have worked hard to create connectivity within those assets. When you look at products like Pharmacy Advisor or Specialty Connect or Maintenance Choice, in addition to lowering the price of care, they have been proven to improve the clinical effectiveness by improving adherence, which will ultimately reduce the cost of care. Our ability to do that lies within what we refer to as our Health Engagement Engine. That is the plumbing that exists that connects the dots between all of our different assets that we believe makes these products very differentiated and very unique in the marketplace from what you may hear that other competitors are marketing. By the way, we are continuing, Ricky, to work on new innovative offerings. We are certainly not done with what we believe we have as capabilities. The 2016, 2017 selling season is almost complete. It has been a very controversial one. You announced net new wins of over $4 billion on your August call. Your two other key competitors made their own announcements on net new business and wins. With over 75% of the selling season complete, could you just spend a few minutes discussing what resonated most with plan sponsors, what surprised you the most? One of the questions that we get a lot from investors is, how can everybody win? Well, Ricky, it is a great question. On our August earnings call, we reported $7.4 billion in gross business wins, $4.6 billion in net business, 97.5% retention. At least I think I am right with this, we are the only ones at this point that have provided dollars as to the selling season. In the past question, Ricky, we did talk about the robust nature of the market. We do see the size of the pie, if you will, growing for the reasons that I mentioned. I think that is important to acknowledge. If the question is what is on clients' minds this selling season, obviously a lot of focus on cost, especially in the specialty drug arena, and a much bigger interest in terms of the tools that we have available to bend that cost curve, and a growing interest in our formulary management capabilities. I mentioned in the prepared remarks that we started this journey back in 2012. It's very effective for our sales organization to sit in front of a client and not talk about what we believe we can do, but the evidence of perhaps like companies in terms of what they've been able to say through employing those formulary management strategies, and equally important, how we're able to manage their members across the care continuum so their care is not being interrupted. There's been a lot of interest there, and there continues to be interest in the products that I mentioned earlier that we believe continue to provide aspects of differentiation in the market, whether it's Maintenance Choice, Pharmacy Advisor, or Specialty Connect. Let me just pause here and see if there are any questions. There is one question over there. What specifically have you done to integrate medical benefits with the pharmacy benefit for your plans? Yeah. We have a tool that we refer to as NovoLogix, okay? Keep in mind that we have over 70 health plan clients. Working together, we can integrate our pharmacy data with our medical data, okay, by, again, with our clients. This NovoLogix technology actually allows us to manage that component of pharmacy that's flowing through the medical benefit, and it's been proven to be very effective in terms of reducing costs. We refer to it as managing that piece of pharmacy with the same level of precision that we manage the traditional benefit from. That tool, Larry, we've shown a scatter plot at our last couple of analyst days that show in that medical space the waste, whether it's on the dosage issued or on the variability in price, and it allows us to really narrow that and get our customers to that appropriate utilization and price. As a follow-up to the medical and pharmacy integration question, I think that's a great segue to the managed care market segment. Obviously, in recent years, you've really emphasized the health plan market as an important area of growth for the CVS enterprise. Both in 2015, 2016 selling season and this selling season, you talked about the fact that, I think, 70%-75% of your new business wins are coming from the health plans. Can we just discuss your current share within the health plans, and what are the opportunities to gain share with other regional players? Are they the key market for the NovoLogix product offering? Really, how do you think about your differentiation and how it plays into that relationship with the managed care companies? Yeah. It goes back to the question that was just asked. I mentioned that we have more than 70 health plans that we provide the pharmacy benefit service for. If you look at our book of business, if you took out our Medicare business, health plans now represent about 60% of our revenues. A few years ago, that relationship was pretty 50/50. So, a few years back, as we saw the market evolving, we made health plans a top priority for us. I mentioned earlier, when you think about the robust nature of the market, that growth through Medicaid expansion. By the way, we continue to have about 30 states that have expanded Medicaid, so there's still opportunity for further growth, especially in key states like Texas and Florida. You look at the growth in Medicare, we've got 10,000 baby boomers turning 65. That's going to continue for another 14 or 15 years. Most of that growth we're seeing through the health plan space. So, that's what we saw that made health plans a bigger priority on our list. We think we have a compelling value proposition for not just the national large health plans, but also the regional Blues plans. I would say that value proposition centers in four important areas. One would be our pharmacy procurement capabilities. The second would be our broad suite of assets that I touched on earlier, from retail pharmacy to specialty mail to infusion to long-term care. Talked about managing the medical side of pharmacy. The third capability centers around the fact that pharmacy is our focus, and we've made significant investments, we'll continue to make investments, and it's a business that continues to be highly regulated. The fourth one centers around our ability to touch the consumer, the patient, in a very differentiated way, with some of the reasons that I had touched on earlier, that we can engage, ultimately change behavior with care and the cost and quality of care in mind. Ricky, do you think, Larry, going back to the competitive advantage of your business model versus the others, that at least within the healthcare market segment, the fact that one of your competitors, OptumRx, is part of United, is an advantage when you go and sell to health plans? Yes, Ricky, I do believe that we have a competitive and a value proposition here. When you think about the impact that pharmacy makes on aspects like Star Ratings, we believe that we are responsible for more, well over 50%. Our chief medical officer would argue that point. He thinks it is closer to 80%. So, where you look at where it is critical that we are providing that connectivity, we believe that we are at the nucleus of that juncture, and the value of that pharmacy data and integrating it across our assets the way we have is a real differentiator and a compelling proposition. It is showing up in our numbers in terms of what we can talk about in terms of how we have improved adherence and closed gaps in care for our clients' members. Ricky, just to emphasize the point Larry made, if you look at our book of business, our health plans where we service Med D, about 73% of those are considered high-performing star measures, of which that we define that as four-star above. That is up from last year of 53%. So we continue to innovate to enable those plans to be successful in that marketplace. Touching on the formulary in the prepared remarks, you talked about that. You talked about the emphasis that the plan sponsors are putting on managing specialty costs. This year, we saw that you stepped up the exclusion action compared to last year in your formulary. You even included two drugs on oncology, which in the past were kind of like an area that you were more reserved around. It seems that clients are more responsive to formulary exclusions. Given all the rhetoric that we've heard from the drug companies that you addressed in your prepared remarks, do you think that the biopharma companies will be still more willing to negotiate pricing rebates to gain back access? Ricky, I'll take that one. If you think about our approach to formulary, and as Larry said, we started this journey back in 2012, and we've continued to evolve our approach. If you think back a couple of years, our clients didn't want us to touch the specialty patient. They kind of walled them off. Now, they need us to. They're asking us to help them manage their trend. As you looked at how we approached the 2017 formulary exclusion process, we excluded 35 products, but we really looked at it across three types of areas. One, I'd call our traditional formulary exclusion that we've been doing. The second, we really focused in on those drugs which we deemed as hyperinflationary, that were contributing to trend where there was an opportunity to manage cost by excluding some of those products. Then third is the indication base, to ensure where there are products for multiple indications that our clients are paying the right price given the value that they derive. If you look at what we've been able to deliver to our clients, as Larry mentioned, $9 billion, 2012 through 2017, projected. So we feel overall we've been successful in helping our clients manage the trend. Larry hit this earlier, I'll hit it again, right? The vast majority of those rebates that we negotiate go back to our clients. You asked, do I think clients will be willing to negotiate? As we look at it, there are two important facts as we go in to negotiate. One, that there's competition in that therapeutic area, and two, the scale that we're able to bring and the importance that our book of business is in there. It's been successful for us thus far, and we'll continue to push to ensure we help our clients, excuse me, manage their trend. It was interesting this year, right? You have a biosimilar, right, on your formulary. How do you expect biosimilars going forward to impact formularies? Even when you think about it, right, to impact the behavior of the innovators, right? Because some of what we're hearing from them is not in a vacuum, right? It's also tied to the fact that there's competition coming in the form of biosimilars. Yeah. There's a couple of things that we believe right now. One, we believe the biosimilars in the near term will perform more like a traditional brand versus a generic. Additionally, we don't believe that the pharmacist will have the interchangeability as they do on generics in the near term, irrespective of which approval pathway they go through. As you know, we took two steps adding a couple of biosimilars, ZARXIO and- Basaglar BASAGLAR, excuse me- We got three tries to our formulary this year, and we see it as an important lever as we go forward. Okay. Just another pause if there are any questions. Yeah, right over here. I just want to follow up on that. There's a lot of patients out there that have been on LANTUS probably for decades. How do you think about that when you switch to a BASAGLAR in terms of the pushback potentially from patients, but also how much adherence among some of the other plans that would look at your formulary and decide whether to follow it or to add it. Was that a big decision to make? Because it's a new trend, obviously, and the advocacy groups would say something, but obviously, the drug probably does the same thing. Yeah, it's a great question and an important one, and one that gets a lot of dialogue and consideration in those discussions as the formulary capabilities are being put together. You compare that against I'll jump over to Hep C for a minute. That's a much easier decision to make because you're talking about a treatment that has a begin date and an end date, okay? You don't have the continuum of care considerations to make. We've done a few things to learn in terms of how do we manage those patients in situations like that, and we feel that we've built some robust capabilities to ensure the continuity of care. There's always going to be an exception or two out there for a variety of reasons that becomes part of the process through a different type of prior authorization that ensures that we put the patient's best interest first. I don't see any barriers to If someone wants to challenge, "Are you compromising the quality of care in an effort to reduce cost?" Our answer to that would be, "Absolutely not. To the point Larry made, we've continued to operationally improve each year with notifications to patients much early on to ensure the smoothest transition possible. Let me switch to capital deployment. Obviously, M&A has been a core part of your growth strategy over the years. Last year, you've done a couple of bigger transactions. But when you think about kind of like going forward and how to supplement organic growth, what adjacent assets or is it new geographies that you think will be a good fit with your current portfolio? Ricky, I'll start, and Larry can add in. As we look at our portfolio today, we don't see any glaring holes, right? Larry and Dave have said numerous times, "How do we think about growing our base and expanding the core?" I think some of the acquisitions we've done recently, whether it's Coram, Omnicare, Target, right, they're examples of that. As we've indicated, we'll continue to evaluate high-return bolt-on acquisitions that will enable us to continue to grow. As we look at our capital deployment, right, we've been pretty disciplined and pretty rigorous in our three-prong approach. First, targeting a 35% dividend payout ratio by 2018. Second, looking at high-return opportunistic capital investments. And third, barring any opportunity there, returning value to shareholders through share repurchases, which could be in the $4 billion-$5 billion per year. Larry, we have about a minute, so this is going to be your lightning round. As of now, Hillary Clinton is leading the polls. She has a strong history of fighting for more affordable healthcare and talking about the drug company, right, in the supply chain. You've done a lot in Washington over the years. Could a Clinton presidency really have an impact on drug pricing? What could she actually do? Obviously, we know less of Trump's agenda, but if he ends up in the White House, do you think he's going to have a similar focus on drug pricing issues as well? Yeah, it's a great question, and we've seen some proposals from Secretary Clinton, Mr. Trump, and there are things that we're certainly very much aligned with. When you look at Secretary Clinton's comments on eliminating pay-for-delay, obviously, we think that's right. Pay-for-delay prevents lower-cost generics from entering the marketplace, and as I mentioned earlier, the ability to eliminate that backlog in the FDA, get biosimilars to market quicker, will, in effect, drive down costs. At the same time, there are things that we do have concerns over, and some of the comments about the government negotiating with pharma, we believe that the private sector can do that more effectively than the government. I think some of that goes back to some of the studies that have been published by government agencies over the years. I do believe that the government will be very, very cautious about destroying private sector innovation. I put a lot of these things under that umbrella. If you said, "Larry, give me a proof point," okay, if you go back and look at Medicare Part D, go back a decade ago in terms of what CBO scored that program to cost, and if you look at what it's costing today, it's a fraction of that amount. There's one simple reason. The government created the parameters with which that program would be created and folks would have to comply with, but then it was handed off to the private sector. Private sector innovation and competition have a way of driving down costs, not just in our industry, but in others. I do believe that whoever's in the White House will be very, very careful about not destroying that aspect of our economy. That's great. Thank you very much. Okay, thank you.