CVS Health’s (NYSE:CVS) investment case looks the most attractive it has in decades, primarily due to three reasons. First, the pharmacy giant is experiencing strong revenue growth, an optimistic development given the prevailing macroeconomic uncertainty. Second, the stock’s dividend yield, currently hovering at the upper end of its historical average, has room to grow. Finally, the stock is now trading at its most attractive valuation in decades, further boosting its attractiveness. Therefore, I’m bullish on CVS stock.
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Strong Revenues & Profits Despite Macroeconomic Headwinds
Despite the turbulence of the macroeconomic landscape, CVS continues to demonstrate impressive revenue growth. This is attributed to the pharmacy giant’s business model, which centers around essential services, setting it apart from the cyclicality observed in many companies today. CVS can, in fact, navigate inflationary pressures quite well, too. This is due to the indispensable nature of its medicines and drugs, which are mostly uncorrelated to consumers’ disposable income.
In the second quarter, CVS upheld its growth trajectory, with revenues ascending by 10.3% to reach $88.9 billion. CVS’ robust performance was propelled by the resounding success in the Healthcare Benefits and Healthcare Services segments.
Specifically within the Healthcare Benefits arm, CVS achieved a remarkable revenue upswing to $26.7 billion, marking an impressive 18% growth rate. The corresponding adjusted operating income reached $1.5 billion.
Notably, medical memberships stood at 25.6 million, reflecting a growth of 1.2 million members compared to the previous year, illustrating a broad-based expansion across the individual exchange, Medicare, and Commercial Membership sectors. Remarkably, the Commercial Membership segment witnessed its eighth consecutive quarter of expansion.
Simultaneously, the Health Services segment registered revenues of $46.2 billion, denoting an 8% increase from Q2 2022. The associated adjusted operating income experienced a 3.5% increase to reach $1.9 billion. The segment’s results were propelled by CVS’ pharmacy services business, fueled by the growth in revenue from branded drugs, prominently driven by the GLC1 category, a class of medications pivotal in the treatment of type 2 diabetes.
Profitability-wise, CVS posted adjusted EPS of $2.21, lower than last year’s $2.53. Still, based on the company’s half-year results and their projections for the second half of the year, CVS’ management projects FY2023 adjusted EPS to land between $8.50 and $8.70. An important observation here is CVS’ consistent track record of surpassing its own projections. Hence, the upper limit of this range, $8.70, hints at the potential of CVS setting a new record, topping last year’s peak of $8.69.
Near-26-Year-High Yield, Strong Dividend Growth Potential
With shares undergoing a persistent downward trend over the past year, CVS’ dividend yield has been pushed to 3.6%, which is nearly the highest yield the stock has traded at over the past 26 years, excluding brief moments in 2019 and 2020 when the yield touched 3.7%.
While this may not be a particularly high dividend yield in a rising-rates environment, CVS has lots of room to keep growing the dividend comfortably. Last year’s 10% dividend hike drove the current annualized payout to $2.42 per share. Combined with the midpoint of management’s adjusted EPS of $8.60, the payout ratio stands at a comfortable 28%. Hence, the company should have more than enough room to keep increasing the dividend at a double-digit rate.
CVS is Trading at an All-Time-Low Valuation
Besides the stock’s prolonged price decline over the past year, pushing the dividend yield to near multi-decade highs, it has also propelled the stock’s valuation to an all-time low. Specifically, at the midpoint of management’s guidance, CVS stock is now trading at a P/E of around 7.8x – the lowest multiple the stock has ever traded at as far back as its public data on valuation goes (1999). While I can’t visually confirm it, a quick glance at past earnings and the stock price suggests this is likely CVS’s lowest P/E in history.
CVS’ depressed valuation can likely be attributed to the company’s heavily indebted balance sheet. With its net debt position standing at a massive $65.3 billion, it’s self-evident why investors may be nervous about holding the stock in a rising-rates market. That said, CVS’ interest expenses remain well-covered, while its potential to achieve a new adjusted EPS record this year demonstrated that its heavy debt load might not be as problematic as many perceive it to be — especially given the resiliency of its cash flows.
Is CVS Stock a Buy or Sell?
Wall Street also seems to share a bullish view on CVS, with the stock featuring a Strong Buy consensus rating based on 12 Buys and three Holds assigned in the past three months. At $93.31, the average CVS stock price projection suggests 38.8% upside potential.
Final Thoughts
In conclusion, I believe that CVS presents a compelling investment opportunity. Its resilience in the face of macroeconomic challenges, robust revenue growth, and dividend yield certainly deserve the attention of dividend growth investors seeking a trustworthy company with a recession-proof business model.
Simultaneously, the stock’s historically low valuation offers both notable upside potential and a wide margin of safety. While the company’s debt load raises some concerns, its strong cash flows and record-setting earnings potential suggest that CVS is well-positioned to withstand near-term challenges. Thus, I am bullish on CVS stock.
