Today's post is the second in an ongoing series we're publishing on key players in healthcare vertical integration. Nearly everyone in healthcare comes into contact with these players. Often, in fact. They are your customers, your acquirers, your competitors. But in many people's minds, they often occupy that same paradoxical space as the U.S. government: simultaneously omnipotent and incompetent, against whom resistance is futile, and yet also lumbering and inflexible. But does that paradox reflect reality? This series aims to show these giants for what they are—where they are true juggernauts and where they are paper tigers. This post will cover CVS Health's approach to vertical integration, what to make of recent news that the organization may back off of that strategy, and why it hasn't been quite as successful as rival UnitedHealth Group.
This case profile, as with all others in the series, is broken down into five parts—and you can use the links below to advance directly to any section(s) of interest:
Topline summary: Summary of each organization’s current approach to vertical consolidation
Org structure: Major business units and revenue lines, including notable (non-exhaustive) brands within each
Recent news: Major organizational developments (related to vertical consolidation) as of mid-2024
Union's analysis: Our read on the type of strategies most at work within each org (portfolio, flywheel, platform). For background on this, read our previous blog post on vertical consolidation.
Open questions: What to watch for in the coming months and years; developments that could shift our take
Topline summary: CVS Health's approach to vertical integration
CVS is the only company that can rival UnitedHealth Group (our first profiled organization) in total revenue and the breadth of its portfolio—but does not (yet) appear to have translated that into an effective flywheel or platform approach. It is the country’s largest pharmacy and PBM, but those businesses have faced stressors, including turnover among major corporate clients, headwinds to the retail pharmacy business model (high labor costs, low reimbursement), and growing scrutiny on PBMs.
CVS is addressing these challenges by rationalizing, cost-cutting, and closing many pharmacy locations, but recent reports suggest that the organization may choose to ultimately separate the insurance and pharmacy sides of the business, signaling that diversification can only go so far to stabilizing a faltering business model.
Org structure: CVS Health
Like UnitedHealth Group, CVS Health's portfolio is relatively well-balanced, but the organization is much more pharmacy-forward overall.
In 2018, CVS acquired Aetna, one of the five largest health plans in the country. Aetna’s book of business skews heavily commercial.
Aetna is actually the smallest of CVS’s three major business lines, trailing well behind CVS Pharmacy, the largest retail pharmacy chain in the country. CVS’s biggest business line is the one that’s least publicly prominent: in late 2023, CVS brought together several disparate businesses under the newly-launched Healthspire brand and subsidiary. Healthspire encompasses both CVS’s provider arm, which includes brands such as MinuteClinic, Oak Street Health, and Signify Health, as well as a large pharmacy services arm. This is distinct from its retail pharmacy brand and includes CVS Caremark, the country’s largest PBM, and undoubtedly the reason that Healthspire represents such a significant share of CVS’s overall revenues.
Recent news: Developments in CVS Health's approach to vertical integration
It's been a busy two years for CVS's vertically-consolidated portfolio.
2023 was a big acquisitive year for the provider arm of the organization, with both the Oak Street and Signify acquisitions, as well as a substantial investment in the primary care group Carbon Health.
There have also been clear signs of financial pressures on various business lines; for example, the closure of a number of MinuteClinic locations, which occurred alongside similar announcements from other retail care providers like Walmart and Walgreens. As the largest PBM in the country, CVS Caremark has been a natural target of the growing scrutiny on the PBM industry, with several large employers and commercial plans announcing plans to drop Caremark in favor of smaller, start-up PBMs. In response, CVS announced two new cost-plus models intended to increase the transparency of the cost of its PBM services. And of course, the retail pharmacy industry continues to face substantial headwinds, including the stagnating price growth of prescription drugs (especially relative to the price of specialty drugs), elevated labor costs, and shifting consumer demands.
In its Q2 2024 earnings call, the company adjusted its 2024 profitability forecast downward, citing MA headwinds (to the Aetna business) as an additional emerging pressure, on top of the longer-term forces outlined above. Leaders unveiled a $2B cost-cutting initiative which include plans to close nearly 1,000 stores across the country.
And in late September, reports emerged that investor Glenview Capital is pressuring leaders to consider more drastic measures to stabilize the company's financials—including the possibility of splitting insurance and pharmacy segments of the business. This was followed closely by news that CEO Karen Lynch would be stepping down and replaced by David Joyner, formerly President of CVS Caremark.
Union's analysis: Our read on CVS Health's approach to vertical integration
Portfolio strategy: Significant emphasis
CVS Health is second only to UHG in the size and diversity of its portfolio. Still, this organization overall is much more pharmacy-forward, given the size of its retail pharmacy and PBM businesses.
Although CVS has invested significantly in growing its provider arm, those efforts appear to have taken on a more measured pace in the past year, and leadership is clearly looking to rightsize the retail primary care portion of its portfolio.
Additionally, more recent moves to diversify in the face of headwinds on the pharmacy, PBM, and insurance businesses, indicate a desire to diversify within the pharmacy value chain, not outside of it, with recent investments in the specialty pharmacy space (unsurprising given the rapidly growing price of specialty medications). Reports that the organization may spinoff the insurance portion of the business could underscore interest in this type of more focused diversification strategy, particularly if the pharmacy and PBM portions of the business were to remain together.
Flywheel strategy: Moderate emphasis
The most obvious flywheel strategy that CVS Health has attempted to date has been through the MinuteClinic model. Like other major retail pharmacy players, CVS bet that investing in primary/urgent care services would provide a meaningful lift to the retail pharmacy business segment (i.e. through higher retail foot traffic and higher levels of prescription dales). That model has struggled to achieve the desired results, leading other major retailers such as Walgreens and Walmart to pull back on their primary care assets (for more on the why behind that, see our post on the primary care retrenchment here). CVS Health does not appear to be pulling back to nearly the same extent—but it's unlikely that this is due to any greater success at building an effective retail pharmacy-provider flywheel.
CVS has a large asset that both Walgreens and Walmart are lacking: a health plan. The decision to remain a substantial primary care presence could be due to the perceived potential of an effective flywheel between the provider and health plan arms of the business. For example, the opportunity to use transfer pricing to maximize the profitability of the plan arm, while still complying with MLR requirements, could provide a major incentive for CVS Health to retain its provider assets. Should the insurance and pharmacy portions of the business be split apart, it will be notable to watch where the provider assets land.
CVS also appears to be deploying its retail pharmacy and PBM assets in concert to help bolster the profitability of the retail pharmacy business while addressing calls for greater transparency within the PBM business. The cost plus models announced earlier this year could diminish PBM profits, but bolster revenues for the pharmacy business—in fact, the organization itself stated when announcing the models that they did not expect to take an overall hit to revenues as a result.
Platform strategy: Limited emphasis
To-date, CVS Health's approach to vertical integration doesn't appear to include significant emphasis on any sort of platform approach. The organization's more recent investments in value-based provider offerings—such as Oak Street Health—could offer the potential to move in that direction in the future (for example, by designing health insurance products that are designed around the Oak Street network). However, efforts to date have been surface level; for example, advertising access to Oak Street as a benefit of Aetna's Medicare Advantage offerings.
Open questions about CVS Health's approach to vertical integration
Provider strategy: Other retail giants with primary care footprints (Walmart, Walgreens, Amazon) have been reducing, re-orienting, or sunsetting those assets. Does CVS’s ownership of a health plan mean it can buck the trend and keep/expand presence in primary care? Does the Carbon partnership to convert some Minute Clinics indicate bullish outlook/more future investment? Or bearish outlook (i.e. moving risk and operation onto another party)?
Integration: Does the establishment of Healthspire, an entity similar to UHG’s Optum, suggest a shift in strategy for CVS as a whole?
Possible breakup: Of course, the biggest open question facing the organization right now centers on reports of a possible split between the insurance and pharmacy sides of the business. Such a move would indicate that hopes that diversification could offset the struggling pharmacy business did not ultimately pan out, either because of the severity of the financial struggles of the pharmacy business (especially given its size), or because fortunes of various industry sectors are increasingly rising and falling together (as opposed to counter-cyclically).
Additionally, the precise nature of the breakup will be telling as to what specific flywheels leaders/investors are betting on (i.e. is the PBM business more valuable as a flywheel to an insurance business like Aetna, or to a pharmacy business like CVS Pharmacy? Is the provider business more valuable to the insurance business, or the pharmacy business, or will it be spun off on its own?)
Parting thoughts: CVS Health's approach to vertical integration
Over the course of the past decade and a half, CVS Health has amassed a diverse portfolio of assets that span the pharmacy, provider, and health insurance subsectors. It is the only organization that can rival UnitedHealth Group in the size and breadth of its portfolio.
That said, there is a clear distinction between UHG and CVS: CVS Health is anchored heavily in the pharmacy space, and the immense headwinds on the retail pharmacy industry have placed CVS Health at a major disadvantage—one that diversification has not successfully rescued the organization from.
The organization's initial big foray into diversification—in the form of primary care/provider assets—has proved ineffective as either a portfolio strategy (due to the lack of profitability in primary care) or as a flywheel strategy (due to apparently ineffectiveness of the retail-primary care flywheel).
And their second big foray into diversification (i.e. the Aetna acquisition) appears to have been too little/too late to salvage the faltering retail pharmacy model, especially in light of recent headwinds on the health insurance segment, particularly within the once-highly profitable Medicare Advantage business line.
Overall, recent moves, including rumors that the organization may choose to split apart the insurance and pharmacy businesses, suggest that leaders and shareholders want to embrace a more focused/streamlined set of portfolio and flywheels moving forward, as opposed to a true healthcare conglomerate approach.
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