If you have been a shareholder of CVS Health Corp (NYSE:CVS) in the last few years, it might have been a scary ride in the last two. I hope this article will be useful for shareholders and for people who are considering to invest in CVS today.
Why? This article reflects on my Seeking Alpha article and the investment community comments which followed.
CVS Health continues to grow its dividend
For the last 13 years, CVS Health has never once disappointed dividend-growth investors. In fact, last week, the company just announced another 17.6% dividend increase for 2017.
This is good news in the midst of management’s estimations of flat bottom line growth for next year, in which it expects net revenue growth of 4-5.75%, adjusted earnings-per-share (EPS) growth of -0.5% to 2.5%, and free cash flow decline of 7-13%.
Do not worry. I believe the company should be able to maintain its dividend growth streak. (Don’t laugh. I’ve seen a company that has raised its dividend and only to cut it soon after.)
Although CVS Health’s earnings are expected to remain flat on a per-share basis, its payout ratio for next year is expected to be less than 35% and very sustainable.
CVS Health maintains its buyback program
From 2014 through this year, CVS has deployed $32 billion of capital. Specifically, it has allocated about 15% of that cash to dividends, about 40% to share buybacks, and about 43% to acquisitions and ventures for growth. Its most recent Target pharmacies acquisition increased its store count by more than 20% across the country.
Most of the buybacks from 2014 through this year actually haven’t been a good use of capital because most of the time, the CVS Health shares have been overvalued.
CVS Health shares were generally overvalued from 2014 through 2016
However, I’d like to think that buybacks are buybacks. They have effectively reduced CVS Health’s outstanding share count, and thereby increased existing shareholders’ stakes in the company. It would have been worse if, for example, the company spent the money to make wrong acquisitions instead.
CVS Health plans to buy back about $5 billion worth of shares in 2017. Since the shares are trading at reasonable to discounted valuations, it can drag down the average cost for the buybacks the company has made since 2014. So, the consistent share repurchases are a good thing.
CVS Health maintains an investment-grade S&P credit rating of BBB+ and a debt/cap of 40%. The company continues to look for ways to improve its process and technology to increase efficiency and create value for customers. At the same time, it’s also on the lookout for accretive acquisitions.
Moreover, thanks to the 18% share price decline from the start of the year, CVS Health is now priced at a reasonable to discounted valuation. At below $80 per share, it trades at a P/E of 13.8. As a result, it makes for a reasonable investment in today’s relatively pricier market. (The S&P 500 trades at about a P/E of 19.4.)
Based on the company’s long-term adjusted EPS growth estimates of 10% and a reasonable P/E range of 13.5 to 15, CVS Health is expected to deliver reasonable annualized returns of 11.7-13.9% if you have a 3-5 year investment horizon. Just don’t expect the shares to move significantly higher anytime soon.
My only concern, as an investor, is that management currently has a target payout ratio of 35% (which is what its 2017 payout ratio is at). This means that if EPS growth doesn’t resume by 2018, the company will likely significantly slow down the rate of its dividend growth. So, going forward, shareholders should keep a close eye on the updates of company estimations.
This article includes reflects on my Seeking Alpha article: Dividend Growth Of 18%. Is CVS Health Corp A Bargain?
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Disclaimer: I am not a certified financial advisor. This article is for educational purposes, so consult a financial advisor and or tax professional if necessary before making any investment decisions.
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