Morgan Stanley 20th Annual Global Healthcare Conference

Sep 13, 2022

Summary

Q2 revenue rose 11% YoY, with strong cash flow and higher EPS guidance. Signify is intended to expand in-home and value-based care, while stable utilization and a multi-year biosimilar opportunity shaped the outlook.

Good morning, everyone. For those of you who are new to the room, welcome to Morgan Stanley's Global Healthcare Conference. We are very happy to be here in person after a couple of years. I am Ricky Goldwasser, Morgan Stanley's Healthcare Services Analyst. I am a part of the services team. Joining me this morning are Karen Lynch, President and CEO of CVS, and Shawn Guertin, Executive VP and CFO. Good morning, Karen, Shawn. So great to have you here with us. Good morning, Ricky. Great to be here. Before we start, one disclosure for any holding regulatory disclosures, please go to the morganstanley.com website and to the research website. With that, Karen, I pass it to you for some introductory remarks. Thank you so much. I think what I would first say is our business is performing quite well. We had a very strong second quarter. We saw revenue grow 11% year-over-year. We have very robust cash flows, and as you know, we increased our EPS guidance in the last two quarters. If you think about each of the segments, we know we are very strong in our healthcare segment. We have grown membership across all product lines, and as we look to 2023, we expect to see 98% retention and strong national account growth, and we expect to grow our group Medicare as well. If you think about pharmacy services, we had a strong second quarter, very good. We have the best pharmacy trend, really due to our specialty business. Again, we're seeing strong retention on that book of business at 98% with about 75% of the contracts. I would say, in the retail business, we're quite proud of the results. They're very strong, and we've seen script volume growth, and we've been taking share for every quarter since the first quarter of 2020. The biggest news we have in the company is we announced a potential acquisition last week with Signify Health, and we're very excited. As you think about our strategy and what our strategy is evolving, Signify fits quite nicely. Our strategy was really to build our foundational businesses, drive into primary care, in-home services, and provider-enabled services. Signify checks two of those boxes, so we're very excited about that opportunity. This is in the first public conference that you are speaking at after announcing Signify, so I do want to dig a little bit deeper into those capabilities that Signify brings. One of the things is that, just interested in sort of the decision and the thought process behind acquiring an asset that pivots from sort of how people traditionally think about home healthcare. Yeah, I think I'll start, and Shawn Guertin will fill in. I think, you think about the opportunity we have, and one of the important parts about our business is we are really shifting into extending into health services and consumer engagement. This asset really gives us that opportunity to enhance our consumer engagement. We're in the home. We can direct people to care, to the right sources of care. Think about directing them to our MinuteClinics, for example. Think about pharmacy reconciliation. It also gives us a big platform for future opportunities as we extend into primary care. They have a very strong provider enablement asset through Caravan Health, which is another entryway into value-based care, and that gives us an opportunity to extend those relationships with providers and really drive that provider at value-based contracting. That asset is strong. They'll have over 700,000 attributed lives in 2023, and they are demonstrating real growth. Let me ask Shawn Guertin to add anything that I might have missed. Yeah, no, I think I would say that a lot of times, strategy is about identifying those trends that you really think are going to be so powerful that you can ride them. Karen mentioned one, right, with the consumer care in the home as a preferred setting. The other big one that we've talked about that I think is very relevant here and is why I'm excited is the move from fee-for-service to value-based care. When you think about what you need in value-based care, you need the technology, you need the network, you need the IP around how to manage costs for chronic care populations. While actual delivery of care in the home is a little bit different than what they have, they have 80%-90% of what you need to enable that. As I've said to many people as we've thought about home is so vast, and in some ways, the challenge is where to start. The one thing I know we need and the one thing I know our business will benefit from is the value-based care capability, especially around chronic care populations like Medicare, Medicaid, and public exchanges. Could we dig deeper in that? How does Signify accelerate your value-based care? Sure. Well, as Karen mentioned, right, they have an asset in Caravan, which I think is a relatively new acquisition, so people aren't as familiar with. That is a scaled platform that today is participating in MSSP and has a documented track record of actually generating savings. One of the reasons I like that as a quality metric is there's no coding in there, right? That is about really saving healthcare costs. I think they have the right technology, and there's a logistical element of this too, right, which is getting people to the right places, knowing who those people need to go see. I think for the future, what's really most exciting is the ability to bring care delivery together with a technology-enabled MSO option. I think that will actually be the long-term model that succeeds in this space. It's not just getting to the independent health systems or docs and getting them the information, but the actual interventional capability that you might have with sort of a clinical home capacity. Frankly, we can use our MinuteClinic and other CVS assets to bolster this. I think that's a really winning formula, I think, in the long run around value-based care, and they have all of the important componentry to sort of do that. It's sort of that idea that in order to take risk, you have to have scale, right? You have to have scale, and you have to have- Correct kind of like that enabling technology, and that's ultimately where we're heading. Yeah, I mean, we've talked a lot about our acquisition strategy, management, technology, scale, right? Yeah. I think in addition to checking the capability boxes, this checks those boxes as well. I think the other thing, Ricky, I would say that you have to really think about the power of the size of Signify's home-based activities, coupled with us having a large retail footprint, and the power of that coming together to really coordinate care for members is a unique opportunity for us as well. Let's talk a little bit about that, about the consumer, as we think about the member, and you have this 360 vantage point in a way. What tools are required to speed up that transformation into a truly consumer-centric system? Everybody talks about the consumer. Yes. How do we really kind of like become these empowered consumers? Yeah, let me put it in perspective. I think you know at the heart of what we do is very focused on consumer. I always think about what gets me up every morning, get excited. It is the power of our company and our reach and the breadth of capabilities with consumers. I would start with, Morning Consult just named us the most trusted brand in our industry, and we are the fifth most trusted brand in all industries. I think that speaks to the connection we have with consumers. Just to give you a sense for that reach, the reach with consumers, we have 100 million people that we interact with through our Aetna and our pharmacy business. 5 million people walk into our stores every single day. We have 85% of Americans are within 10 miles of our retail locations. We have 45 million unique digital customers. I think if you think about just the breadth and the scale of our interactions with the consumer, those numbers speak volumes. As you think about our opportunities going forward, we have the reach, we have the engagement, we have the digital connections, we have the retail connections, we have the home connections. So, we can meet consumers wherever they are on their entire health journey, and that's the power of our company when it comes to the consumer. Do you want to add anything? Perfect. Let's switch from Signify. We're still going to be on the consumer, right? Because ultimately, they're the ones that are driving demand, and I want to talk a little bit about the macro, because that is a question clearly that's on everybody's minds. There was some discussion about that yesterday from the med tech companies that presented here. So, let's first start with kind of like the here and now. What are you seeing in terms of utilization trends? Yeah, I would say that it's largely been similar to what we've seen all year, right? Both by product and by type of service, right? We're continuing to obviously see a lot of COVID activity, but not the severity that we've seen sort of in past waves. Across the board, the trends in the second quarter were a lot like we saw in the first quarter in terms of where we see the biggest weaknesses in inpatient hospital, compared to sort of normalized baselines, right? Which are going back a few years now when we trend them. I would say commercial's a lot closer to being at a normal level than the government programs have been. So, it's been a fairly, I think, stable environment this year. I think, as we think about that, the other dynamic obviously that is important to appreciate now is that we have been able to put all this into product pricing for the first time, right, in a full and complete way, and think about all the different dynamics. In that way, right, we are sort of back to where we used to be, right? This is now about matching revenue to cost and looking at that sort of performance. But overall, it has still been a fairly stable environment and consistent with our expectations. As you think about, we hear a lot of. There is a lot of economic data, right? Some of it is conflicting. We still have very low levels of unemployment, but then there are all these concerns that we are hearing, and we are hearing about layoffs from some pretty prominent companies. How is this shaping your view as you think about kind of like 2023? Yeah, so, I mean, there is really sort of two impacts to our business, right? There is one which is just sort of the macroeconomic effect around employment and utilization. For the most part, we have been able to navigate that fairly well, right? The inflationary elements in our business, you can see, but they are certainly not as pronounced as we have seen in many of the headlines, the kind of numbers in the high single digits. We are not really seeing it in pharmacy yet. We do see it to some extent in front of store, and we do see it to some extent in provider contracting on the HCB side, but I think that has proven manageable. From a volume standpoint, we are not really seeing. We are still seeing good membership sort of growth in our businesses, and so that all feels good. A lot of this, when you think back in history, has to do with the depth sometimes of the recession and what it. There is a lot of resiliency in our business against that, but obviously there are times when the depth of the recession and frankly governmental intervention into that, sort of that is when we started to create some of the discontinuities in our business. So we are watching for that, but it does not feel like we are near that. Really, the more pronounced effect on our results has been interest rates, and it is just because we have such a large fixed income investment portfolio that supports the insurance business. The effect of that on our business has been more pronounced. Again, that is a short-term strain, but also a long-term good guy. What I mean by that is, as we reinvest new money, we are reinvesting it at much higher rates than we have had, frankly, the last 10 years. I think people forget how big a component, at least in the managed care world, that investment income was for a long time to sort of the revenue stream. Again, it will take time as we reinvest the portfolio, but this short-term pain that we are feeling now in the realized capital gain area will eventually also lead to sort of higher net investment income. It is certainly something we talk about every day and we navigate, and you can see different strains and pushes and pulls, but heretofore, I think we have done okay. I would be remiss if I did not say, I think the fact that we acted on minimum wage early has really helped us a lot on sort of the labor side of this equation as we have gone into this. It is not to say that that is not still challenging to some degree, but I do think it has given us an element of stability as well. It sounds like, right, if I step back and kind of like, to think about what you just said, back to sort of that enterprise, right, diversified approach, it is kind of like that idea that you have the different moving parts. Even with inflation, yes, it is continuing, but it is not at the same pace that we have seen this year as we think about next year, then you have interest rates. They are kind of like headwinds and tailwinds, but overall you are saying net-net seems to be in line with sort of how you have thought about things when you kind of like gave us the targets back in December. Yeah, I think it is navigable. I mean, we have certainly had to think about unit cost inflation. Yeah say, in our HCB business, and make sure we have appropriate provision for that in our forward pricing, right? You can see it's there. But again, like a lot of things, this is all about being able to plan and price for these things and work them into our planning process. And so far, we've been able to navigate that. We're pulling levers. You think about the retail business, we can push to CVS branded products. We can use our discounts through our CarePass. There's lots of things, and to your point, it is a broad diversified portfolio, and we have kind of the pushes and the pulls, and we have different levers that we can pull across the continuum of businesses. If we are in the topic of earnings power, there's a question that I've been getting from people here in the room. By the way, if you have any questions for Karen or Shawn after this question, just kind of like raise your hand. We're going to get you a microphone because we want to make sure that we get all your questions answered. But one that I got earlier in the day is really about the COVID comparison. Clearly, there was a EPS contribution from everything related to COVID in 2022. We're seeing companies, right, that have underestimated the pull forward of demand from COVID and now have to revise their numbers. I think that that's something that's very kind of like it's on investors' mind. As you think about 2023 and sort of is it $0.80 or a dollar sort of in earnings impact benefit from COVID in 2022, how are you thinking about that sort of kind of like year-over-year comparison? So- Go ahead. Yeah. I'd sort of take the HCB business and sort of push that a little bit to the side and say, this is now about matching price to cost, right? Which we've largely done. There will be a COVID element, but this is about how you feel that we've done sort of putting that into price. This year, we've done a, I think, a very good job of that, and I think you throw unit cost inflation in there and you sort of have that pricing equation, but that's what that will be all about. I think we're in a good position on that business as we go into 2023 from a pricing standpoint. This really comes down to retail, and just to be clear, in 2021, we probably had nearly $4.5 billion of revenue from what I'd call the explicit COVID sources, the over-the-counter test kits, the vaccine administration, and the diagnostic testing that we did through MinuteClinics and things like that. When we came into this year, we thought that would be about $1.5 billion, and the marginal contribution of that business is around 50%, so that's sort of what we had coming in. We now think that'll be closer to $3 billion for this year, just really given the demand, sort of to your point. The way to think about this is the same way that I and Karen Lynch have challenged these business leaders. When we were at investor day, we had this business at about $6.1 billion, and that's what we charge our leaders with producing. It's not obviously going to be our most dynamic growth business, but we've asked them to at least hold that business flat while we go through this strategic transition. There's a lot of things, as Karen Lynch mentioned, there's assets in that portfolio that enable the strategy. Obviously, it generates a lot of cash. The question then becomes, how do we solve for $6.1 billion with all of the things going on in that business? I think if you set the year back to where we thought about, you start first with what will the COVID contribution be, and I think it will not be zero. I think, will it be all the way back to where we thought coming into this year? Maybe not. There are other levers that we have coming online here, like the store closure, the effect of the store closures, which begins to be accretive in 2023 and 2024, is something that contributes. There are, to Karen Lynch's point, there are levers that we pull all the time in this business to try to make that sort of navigation. I also think there is some, and I will call it sort of almost like an endemic tail benefit that is both COVID-related and non-COVID-related. We have seen incredible strength in the front of the store for the last five quarters, and I think we will get some continuity for at least a while from that. How this ripples through to sort of other respiratory illness treatment, other vaccines, I think is also going to be something that we can continue to capture as a positive. We have done some new things in retail, like buy online, pick up in store, which is not a new kind of idea, but it was not something we were doing. I think that can have incremental benefit. I think there are a number of incremental benefits, but what I have directed everybody to is the sort of the same thing we have directed our internal team to, is I need you to produce $6.1 billion out of that business, and I know you might have to pull a lot of levers, and I know COVID is going to move, but I also do not think COVID is going away either. I would say the benefits of COVID, we had 45 million people that kind of interacted with us, or even more, for vaccines. We have seen 15% of those individuals come back and have a relationship with us. We have seen the script share coming up. We have been able to manage our labor and keep our stores stable and open at the same time while we are closing. We have retained over 70% of the scripts as we are closing stores. We have retained those people. I do not want people to forget the value of COVID and the continuation of that customer engagement is a powerful asset for us as well. Any questions? I guess we're doing a good job of addressing all the questions. Next, let's talk a little bit about Medicare Advantage. Clearly a very important business for you, a very important business, just very important marketplace. Increasingly competitive, always has been, but it seems that it's getting more and more. In the last few years, you've gained share quite nicely. As we think about that business beyond just kind of like one year, what do you need? What assets do you need to have in order to stay competitive in that business? Because I do think that as time goes by, the business will become more and more competitive. It's just the growth cycle, right, of that population. Yeah, I think it's important to recognize when you think about Medicare for us, we're in the group Medicare business, we're in the individual Medicare business, we're in the PDP business. We have the largest PDP. We are in Med Supp's business. There are lots of product offerings in Medicare for us. If you think about this year, we reached a major milestone in our individual book of over 2 million members, and that was a big milestone. You're right, Ricky, it is a competitive market. But as you think about what our assets are, we have the opportunity to have innovative products because of the unique capabilities that we have as a company. The ability for us to offer the MinuteClinics, for example. We continue to invest in innovation. Digital will continue to be an area of opportunity for us. We have the Medicare resource centers that we use in those locations, in our retail locations, where we can engage with our members. Our Signify asset is another opportunity for us as we think about the potential of Medicare. There's a lot of unique capabilities that we have. Signify, obviously, as we think about it, investing in digital, and obviously keeping our Star Ratings performance is paramount for us. What'd I miss? Yeah, the only thing I would add is, in defining our strategy, that question actually was at the heart of it. As Karen articulated, there's a real business opportunity. We have to do something differentiated from a care delivery perspective, but I'd also say that as well as our Medicare Advantage product has done, which has been exceptionally good, the idea going forward, though, is if you look at our two bigger competitors in Medicare Advantage, they have fairly well-articulated care delivery strategies. Strategically, that's a flank we need to address. I think when I think about the business to the kind of in the context of your question beyond one year, that's one of the reasons why I think this strategy also makes so much sense for us, in that it's not only offensive, it actually also sort of bolsters this very, very important product. I think continuing to execute on our strategy around provider enablement and home and care delivery is actually very, very important strategically to this business in the long run as well. Makes sense. I mean, at the end of the day, when you think about sort of the landscape, the competitors, at the end of the day, it's really kind of the assets that fit your existing assets that- Correct. That's right. Right. Biosimilars. To me, biosimilars, when we think about 2023 and 2024, probably one of the most interesting opportunities. I think to me what's so interesting about it is the fact that there's newness to it. We haven't seen yet a pipeline that is so focused on pharmacy-type drugs. I also think that there is some confusion in the marketplace, because investors haven't seen it yet. Just curious to get kind of like from your perspective, what do you think the market is missing about the PBMs, right, and specialty pharmacy's role in this new product cycle that we're seeing? Yeah. I think part of it, right, is if you started with this, if you asked customers, right, about after price, why are they making a PBM decision, it would really be about the capabilities that you have in specialty pharmacy to not only manage cost, but to provide the right experience for the consumer and the provider. Because at times, there's a fair amount of complexity, right, in the delivery of this, and it's something I think that we've excelled at. A little bit of a misconception is we haven't seen it yet, right? We've seen the tip, right? There have been examples, and the economic model that we've sort of talked about has manifested itself. It's just not been in the way, right, that the next five to seven years might be. There are individual examples of some of these coming on market, us getting a lower cost, just like happened on pills and tablets with generics. Getting a better cost to the consumer and actually having that be beneficial to the PBM as well. The unit economics of the idea sort of are underway, right? I think some of this has, at times, when we've talked about this, got conflated to being like something about 2023, and partly because HUMIRA was so big, I get it. But I think as we've thought about this, I would sort of boil it down simply to say, if you thought about this business, maybe it's a mid-single-digit growth business systemically, but this particular opportunity can probably add a little bit to that over the next five to seven years as we roll this out. It is likely the timing will be a little choppy, because sometimes it's unpredictable. Sometimes this has to do with interchangeability, multiple agents, and things like that, and that can be a little trickier to predict. I think we can debate the timing of it. Do I think everything's going to kick in on 2/1/2023? No, not necessarily when you look at the specifics. But when I think about this over a three, five, seven-year period, I think there is a longer-term opportunity that'll benefit both the consumer and the PBM. Makes a lot of sense. One thing that I'll go back to is you said, we've actually seen Correct this in the past. Maybe it wasn't in the context of biosimilars and specialty, but we saw it with ZOLTOS and generics. That's right. Which will be interesting to watch what's going to happen with the pricing dynamic. Correct. Yeah. Right. Okay. I think we have time for one more question. Okay. We started with M&A, we started with Signify, and I am going to circle back to that. As we think about the M&A environment, I mean, you have clearly articulated your strategy back in investor day in 2021. But over the last few months, we started to see a step-up, right, in activity, and we are seeing non-traditional players coming in. I would say that up to a few months ago, we could have debated what will Amazon do or not do in healthcare, but now they are. They are doing, and we are seeing them more involved. I think for us what is most striking is the speed at which they operate. As you think about that, as you kind of like look at this new information that we have in the market, how is this sort of shaping your thoughts and sort of the urgency, right, around doing things? Well, I think we are urgent. Obviously, we are very urgent. You can ask our teams. I think, if you think about our strategy, really, we have been very clear that we want to expand into care delivery. We are starting with Signify. We cannot always determine the order. Obviously, primary care is something we believe we need to advance because we really want to enable consumers to have a differentiated experience and improve health outcomes. So, we are playing our game. We have a continuum of healthcare capabilities, starting with the financing through insurance, with the PBM, through retail health, through in-home when we do make the acquisition. We are missing that one piece. I will let Shawn talk about the M&A environment, so to speak. But I think that we have a very clear strategy. We are executing on that strategy, and we are moving at the pace that I want to move faster, but the market does not let you move as fast as you always want to move. But I do not know if you have- Let the bruises on my shin show that we have a sense of urgency on this issue. What I would say is no part of our strategy was ever premised on our biggest competitor sitting idly by, right? We always knew that there would be response, that we would have competition. The other thing that I would just say that is important is so much of this always revolves around the valuation discussion, and that is obviously important, getting a deal done, but this is about capabilities for us. When I reflect on my time in deals that didn't work out so well, it wasn't because of valuation. It was because we misread something about the capabilities, the management team, the techno, whatever it is, right? So, there is as much work we are putting in thinking about, are these the right capabilities for our portfolio of assets to enable our strategy, in addition to valuation? That is an important part of our thinking, and I think that is something that, while it can take a little time, but it is important to sort of be deliberate about while we go through this. But I still have a lot of confidence that we can execute our strategy as we articulated it, notwithstanding sort of the activities of others. Great. Well, Karen and Shawn, thank you. It is always a pleasure. Thank you. Thank you, Ricky.