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Cheap, dividend-paying stocks with free embedded call options. #1 CVS



April 20, 2010 – Comments (6) | RELATED TICKERS: CVS , WBA , ESRX


My investment strategy now involves finding cheap, dividend-paying stocks that have some sort of free embedded call option that could act as a catalyst for significant earnings improvement down the road.

While its dividend isn't as high as I normally like (around 1%), CVS is much cheaper than its main competitors.  Looking at the stock at a simplistic level and comparing its P/E ratio to its main competitors we see that CVS currently trades at around 14.4 times its real trailing earnings (not some analyst's guess of how it will do in the future).  That compares very favorably to its number one competitor in the pharmacy segment, Walgreen (WAG) which trades at around 17 times trailing earnings (I'm ignoring the mess that is Rite Aid).

The great thing about CVS is that it's not just a pharmacy, it also engages in pharmacy benefit management (PBM) through its Caremark division.  PMBs are hot, hot, hot.  Take a look at companies like Express Scripts Inc. (ESRX), which trades at over 33 times trailing earnings, or Catalyst Health Solutions (CHSI), which trades at 30 times.

Granted, Caremark hasn't exactly been knocking the cover off the ball to use a baseball analogy (heck it is spring after all), but its business seems to have stabilized.  Anyone who uses Caremark now has made a conscious decision to do so because their contract likely had to be renewed so we are unlikely to see any mass client defections in the near future.  Besides Caremark has been left for dead by investors.  It's super cheap compared to its competitors.

Now onto the good part, the caralysts.  They include the following:

- The likely influx of new customers created by the expansion of healthcare that the government recently passed.

- Increased profitability as a result of the coming wave of generic drug introductions, which are more profitable for pharmacies and PBMs than branded medications.

- A demographic tailwind from aging customers who will need more medicine.

So there you have it.  A cheap, dividend-paying stock, with specific event driven catalysts that could significantly improve the company's results, and in turn its stock price in the years ahead.  The majority of my personal portfolio now consists of companies like this.  If I find some time, I'll write up a short blurb on another one.


6 Comments – Post Your Own

#1) On April 20, 2010 at 7:02 PM, rofgile (99.28) wrote:

Nice to see a blog from you again TMFdeej, was missing your posts!


Was expecting to see some blogs from you with all the Toyota stuff going on over the last two months!


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#2) On April 21, 2010 at 6:36 AM, TMFDeej (97.66) wrote:

Thanks for the kind words, Rof.  I've been tremendously busy with work.

Yeah, the Toyota situation is a complete mess.  It's interesting how the larger they get the more likely that companies and organizations will screw up, See GM and the government.


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#3) On April 21, 2010 at 9:47 AM, USNHR (29.76) wrote:

This seems fairly simple to me... the larger you get the more you do to please investors, cut costs, drive down the bottom line, make earnings look good quarter over quarter.The things that made you large in the first place, that gave you that competitive advantage... quality, cost, value, etc... become less important, you start running off your brand name instead of what created your brand. You outsource work to china and mexico, move your call center to india, earnings become all important and the customer be damned.

Capitalism... if you didn't love it you would hate it.

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#4) On April 21, 2010 at 3:52 PM, XMFHelical (< 20) wrote:

I'd add that CVS has also been at the forefront of the movement toward increased use and availability of nurse staffed clinics.  Here we have MinuteClinics within many CVS stores, and the Northeast has been a laggard on this trend, which importantly is now being embraced by insurers.  Drives traffic and directed follow-on purchases.

Wal-mart and Target have been active here as well, but I think this may best benefit a more local outfit like a CVS.

CVS was on a short list of stocks I considered last week, but decided to wait. 


Home Coverage Fool


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#5) On April 21, 2010 at 5:00 PM, TMFDeej (97.66) wrote:

Excellent point Helical.  I take solace that someone who is as familiar with the industry as you are is interested in CVS.  thanks for sharing your thoughts.


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#6) On May 19, 2010 at 2:15 AM, sienna24 (< 20) wrote:

Interesting article. I'm looking forward to your more posts. Thanks for sharing this one.


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