CVS HEALTH CORPORATION The following discussion and analysis should be read in conjunction with the audited consolidated financial statements and related notes included in Item 8 of this 10-K, "Risk Factors" included in Item 1A of this 10-K and the "Cautionary Statement Concerning Forward Looking Statements" in this 10-K.
Overview of Business
CVS Health Corporation ("CVS Health "), together with its subsidiaries (collectively, the "Company," "we," "our" or "us"), is the nation's premier health innovation company helping people on their path to better health. Whether in one of its pharmacies or through its health services and plans,CVS Health is pioneering a bold new approach to total health by making quality care more affordable, accessible, simple and seamless.CVS Health is community-based and locally focused, engaging consumers with the care they need when and where they need it. The Company has approximately 9,900 retail locations, approximately 1,100 walk-in medical clinics, a leading pharmacy benefits manager with approximately 105 million plan members, a dedicated senior pharmacy care business serving more than one million patients per year and expanding specialty pharmacy services.CVS Health also serves an estimated 37 million people through traditional, voluntary and consumer-directed health insurance products and related services, including expanding Medicare Advantage offerings and a leading standalone Medicare Part D prescription drug plan ("PDP"). The Company believes its innovative health care model increases access to quality care, delivers better health outcomes and lowers overall health care costs. OnNovember 28, 2018 (the "Aetna Acquisition Date"), the Company acquiredAetna Inc. ("Aetna") for a combination of cash andCVS Health stock (the "Aetna Acquisition"). The Company acquiredAetna to help improve the consumer health care experience by combiningAetna 's health care benefits products and services withCVS Health's retail locations, walk-in medical clinics and integrated pharmacy capabilities with the goal of becoming the new, trusted front door to health care. Under the terms of the merger agreement,Aetna shareholders received$145.00 in cash and 0.8378CVS Health shares for eachAetna share. The transaction valuedAetna at approximately$212 per share or approximately$70 billion . Including the assumption ofAetna 's debt, the total value of the transaction was approximately$78 billion . The Company financed the cash portion of the purchase price through a combination of cash on hand and by issuing approximately$45 billion of new debt, including senior notes and term loans (see "Liquidity and Capital Resources" later in this MD&A). The consolidated financial statements reflectAetna 's results subsequent to theAetna Acquisition Date. OnOctober 10, 2018 , the Company andAetna entered into a consent decree with theU.S. Department of Justice (the "DOJ") that allowed the Company's proposed acquisition ofAetna to proceed, providedAetna agreed to sell its individual standalone PDPs. As part of the agreement reached with the DOJ,Aetna entered into a purchase agreement with a subsidiary ofWellCare Health Plans, Inc. ("WellCare") for the divestiture ofAetna 's standalone PDPs effectiveDecember 31, 2018 . OnNovember 30, 2018 , the Company completed the sale ofAetna 's standalone PDPs. The Company provided administrative services to, and retained the financial results of, the divested plans through 2019. Subsequent to 2019, the Company will no longer retain the financial results of the divested plans.Aetna 's standalone PDPs had an aggregate of 2.5 million members as ofDecember 31, 2019 . As a result of theAetna Acquisition, the Company added the Health Care Benefits segment. Certain aspects ofAetna 's operations, including products for which the Company no longer solicits or accepts new customers, such as large case pensions and long-term care insurance products, are included in the Company's Corporate/Other segment. Effective for the first quarter of 2019, the Company realigned the composition of its segments to correspond with changes to its operating model and reflect how its Chief Operating Decision Maker (the "CODM") reviews information and manages the business. As a result of this realignment, the Company's SilverScript® PDP moved from the Pharmacy Services segment to the Health Care Benefits segment. In addition, the Company movedAetna 's mail order and specialty pharmacy operations from the Health Care Benefits segment to the Pharmacy Services segment. Segment financial information has been retrospectively adjusted to reflect these changes. See Note 17 ''Segment Reporting'' included in Item 8 of this 10-K for segment financial information.
The Company has four reportable segments: Pharmacy Services, Retail/LTC, Health Care Benefits and Corporate/Other, which are described below.
58
--------------------------------------------------------------------------------Overview of the Pharmacy Services Segment
The Pharmacy Services segment provides a full range of pharmacy benefit
management ("PBM") solutions, including plan design offerings and
administration, formulary management, retail pharmacy network management
services, mail order pharmacy, specialty pharmacy and infusion services,
clinical services, disease management services and medical spend management. The
Pharmacy Services segment's clients are primarily employers, insurance
companies, unions, government employee groups, health plans, PDPs, Medicaid
managed care plans, plans offered on public health insurance exchanges and
private health insurance exchanges, other sponsors of health benefit plans and
individuals throughout the United States . The Pharmacy Services segment operates
retail specialty pharmacy stores, specialty mail order pharmacies, mail order
dispensing pharmacies, compounding pharmacies and branches for infusion and
enteral nutrition services. During the year ended December 31, 2019 , the
Company's PBM filled or managed 2.0 billion prescriptions on a 30-day equivalent
basis.
Overview of the Retail/LTC Segment
The Retail/LTC segment sells prescription drugs and a wide assortment of general
merchandise, including over-the-counter drugs, beauty products, cosmetics and
personal care products, provides health care services through its MinuteClinic®
walk-in medical clinics and conducts long-term care pharmacy ("LTC") operations,
which distribute prescription drugs and provide related pharmacy consulting and
other ancillary services to chronic care facilities and other care settings. As
of December 31, 2019 , the Retail/LTC segment operated approximately 9,900 retail
locations, approximately 1,100 MinuteClinic® locations as well as online retail
pharmacy websites, LTC pharmacies and onsite pharmacies. During the year ended
December 31, 2019 , the Retail/LTC segment filled 1.4 billion prescriptions on a
30-day equivalent basis. For the year ended December 31, 2019 , the Company
dispensed approximately 26.6% of the total retail pharmacy prescriptions in the
United States .
Overview of the Health Care Benefits Segment
The Health Care Benefits segment is one of the nation's leading diversified health care benefits providers, serving an estimated 37 million people as ofDecember 31, 2019 . The Health Care Benefits segment has the information and resources to help members, in consultation with their health care professionals, make more informed decisions about their health care. The Health Care Benefits segment offers a broad range of traditional, voluntary and consumer-directed health insurance products and related services, including medical, pharmacy, dental and behavioral health plans, medical management capabilities, Medicare Advantage and Medicare Supplement plans, PDPs, Medicaid health care management services, workers' compensation administrative services and health information technology products and services. The Health Care Benefits segment's customers include employer groups, individuals, college students, part-time and hourly workers, health plans, health care providers ("providers"), governmental units, government-sponsored plans, labor groups and expatriates. The Company refers to insurance products (where it assumes all or a majority of the risk for medical and dental care costs) as "Insured" and administrative services contract products (where the plan sponsor assumes all or a majority of the risk for medical and dental care costs) as "ASC." For periods prior toNovember 28, 2018 (theAetna Acquisition Date), the Health Care Benefits segment was comprised of the Company's SilverScript PDP business.
Overview of the Corporate/Other Segment
The Company presents the remainder of its financial results in the Corporate/Other segment, which consists of:
• Management and administrative expenses to support the overall operations of
the Company, which include certain aspects of executive management and the
corporate relations, legal, compliance, human resources, information
technology and finance departments, expenses associated with the Company's
investments in its transformation and Enterprise modernization programs and
acquisition-related transaction and integration costs; and
• Products for which the Company no longer solicits or accepts new customers
such as large case pensions and long-term care insurance products.
59--------------------------------------------------------------------------------
Results of Operations
The following information summarizes the Company's results of operations for 2019 compared to 2018. For discussion of the Company's results of operations for 2018 compared to 2017, see "Management's Discussion and Analysis of Financial Condition and Results of Operations with Retrospective Application of Segments" for the year endedDecember 31, 2018 , which was revised to reflect the Company's segment realignment and is included in Exhibit 99.2 to the Company's Current Report on Form 8-K filed with theU.S. Securities and Exchange Commission (the "SEC") onAugust 8, 2019 .
Summary of Consolidated Financial Results
Change
Year Ended December 31, 2019 vs. 2018 2018 vs. 2017
In millions 2019 2018 2017 $ % $ %
Revenues:
Products $ 185,236 $ 183,910 $ 180,063 $ 1,326 0.7 % $ 3,847 2.1 %
Premiums 63,122 8,184 3,558 54,938 671.3 % 4,626 130.0 %
Services 7,407 1,825 1,144 5,582 305.9 % 681 59.5 %
Net investment income 1,011 660 21 351 53.2 % 639 3,042.9 %
Total revenues 256,776 194,579 184,786 62,197 32.0 % 9,793 5.3 %
Operating costs:
Cost of products sold 158,719 156,447 153,448 2,272 1.5 % 2,999 2.0 %
Benefit costs 52,529 6,594 2,810 45,935 696.6 % 3,784 134.7 %
Goodwill impairments - 6,149 181 (6,149 ) (100.0 )% 5,968 3,297.2 %
Operating expenses 33,541 21,368 18,809 12,173 57.0 % 2,559 13.6 %
Total operating costs 244,789 190,558 175,248 54,231 28.5 % 15,310 8.7 %
Operating income 11,987 4,021 9,538 7,966 198.1 % (5,517 ) (57.8 )%
Interest expense 3,035 2,619 1,062 416 15.9 % 1,557 146.6 %
Loss on early
extinguishment of debt 79 - - 79 100.0 % - - %
Other expense (income) (124 ) (4 ) 208 (120 ) (3,000.0 )% (212 ) (101.9 )%
Income before income tax
provision 8,997 1,406 8,268 7,591 539.9 % (6,862 ) (83.0 )%
Income tax provision 2,366 2,002 1,637 364 18.2 % 365 22.3 %
Income (loss) from
continuing operations 6,631 (596 ) 6,631 7,227 1,212.6 % (7,227 ) (109.0 )%
Loss from discontinued
operations, net of tax - - (8 ) - - % 8 100.0 %
Net income (loss) 6,631 (596 ) 6,623 7,227 1,212.6 % (7,219 ) (109.0 )%
Net (income) loss
attributable to
noncontrolling interests 3 2 (1 ) 1 50.0 % 3 300.0 %
Net income (loss)
attributable to CVS Health $ 6,634 $ (594 ) $ 6,622 $ 7,228 1,216.8 % $ (7,216 ) (109.0 )%
Commentary - 2019 compared to 2018
Revenues
• Total revenues increased
increase in total revenues was primarily due to the impact of the
Acquisition (primarily reflected in the Health Care Benefits segment) which
occurred in
revenue and a 3.1% increase in Retail/LTC segment revenue.
• Please see "Segment Analysis" later in this MD&A for additional information
about the revenues of the Company's segments.
Operating expenses
• Operating expenses increased
Operating expenses as a percentage of total revenues were 13.1% in 2019, an
increase of 210 basis points compared to 2018. The increase in operating
expenses was primarily due to the impact of the
intangible asset amortization) and higher operating
60-------------------------------------------------------------------------------- expenses in the Retail/LTC segment, including$231 million of store rationalization charges and the$205 million pre-tax loss on the sale of the Company's Brazilian subsidiary, Drogaria Onofre Ltda. ("Onofre"), both recorded in the year endedDecember 31, 2019 . • Please see "Segment Analysis" later in this MD&A for additional information
about the operating expenses of the Company's segments.
Operating income • Operating income increased$8.0 billion in 2019 compared to 2018. The
increase was primarily due to (i) the absence of the
goodwill impairment charges related to the LTC reporting unit recorded within
the Retail/LTC segment in 2018, (ii) the impact of the
(iii) increased prescription volume and improved purchasing economics in the
Pharmacy Services and Retail/LTC segments. The increase was partially offset
by:
•Continued reimbursement pressure in the Retail/LTC segment; •Continued price compression in the Pharmacy Services segment; •An increase in intangible asset amortization primarily related to theAetna Acquisition; • Higher operating expenses in the Retail/LTC segment, including$231
million of store rationalization charges and the
on the sale of Onofre; and
• The absence of
financing for the
31, 2018.
• Please see "Segment Analysis" later in this MD&A for additional information
about the operating income of the Company's segments.
Interest expense
• Interest expense increased
due to financing activity associated with the
assumption of
''Borrowings and Credit Agreements'' included in Item 8 of this 10-K for
additional information.
Loss on early extinguishment of debt
• During 2019, the loss on early extinguishment of debt relates to the
Company's repayment of
to its tender offers for such senior notes in
a loss on early extinguishment of debt of
''Borrowings and Credit Agreements'' included in Item 8 of this 10-K for
additional information.
Other income
• Other income increased
represents pension plan asset returns in excess of interest cost on pension
plan obligations. The increase in other income in 2019 was primarily due to
2019 including a full year of income associated with the
as compared to 2018 which only included the
period subsequent to the
Income tax provision • The Company's effective income tax rate was 26.3% in 2019 compared to 142.4%
in 2018. The decrease in the effective income tax rate was primarily due to
the absence of the
recorded during 2018, the majority of which were not deductible for income
tax purposes.
Loss from discontinued operations • In connection with certain business dispositions completed between 1995 and
1997, the Company retained guarantees on store lease obligations for a number
of former subsidiaries, including Linens 'n Things, which filed for
bankruptcy in 2008, and Bob's Stores, which filed for bankruptcy in 2016. The
Company's loss from discontinued operations primarily includes lease-related
costs required to satisfy its Linens 'n Things and Bob's Stores lease
guarantees.
• See "Discontinued Operations" in Note 1 ''Significant Accounting Policies''
and "Lease Guarantees" in Note 16 ''Commitments and Contingencies'' included
in Item 8 of this 10-K for additional information about the Company's
discontinued operations and the Company's lease guarantees, respectively.
61
--------------------------------------------------------------------------------Outlook for 2020
With respect to 2020, the Company believes you should consider the following important information:
• The Pharmacy Services segment is expected to benefit from continued
improvements in purchasing economics and Enterprise modernization, partially
offset by net selling season losses during 2020 and continued price
compression.
• The Retail/LTC segment is expected to benefit from projected adjusted script
growth driven by the continued successful execution of patient care programs,
partially offset by continued reimbursement pressure.
• The Health Care Benefits segment is expected to benefit from Government
Services membership growth including projected above-industry growth in its
Medicare Advantage products and new Medicaid contract wins, as well as
integration synergies that will continue to disproportionately benefit the
Health Care Benefits segment.
• The Patient Protection and Affordable Care Act and the Health Care and
Education Reconciliation Act of 2010 (collectively, the "ACA") imposes a
significant industry-wide fee known as the Health Insurer Fee (the "HIF").
The HIF is non-deductible for federal income tax purposes and is allocated to
insurers based on the ratio of the amount of an insurer's net premium
revenues written during the preceding calendar year to the amount of health
insurance premium for all
during the preceding calendar year. The HIF was suspended for 2019, will be
While the Company expects the reintroduction of the HIF to result in a lower
medical benefit ratio ("MBR") in 2020 compared to 2019, all else being equal,
the Company expects its 2020 consolidated net income will be negatively
impacted due to an increase in its effective income tax rate in 2020 compared
to 2019 as a result of the non-deductibility of the HIF.
• The Company believes that it is on track to achieve its 2020 target of
• The Company expects changes to its business environment to continue for the
next several years as elected and other government officials at the national
and state levels continue to propose and enact significant modifications to
public policy and existing laws and regulations that govern the Company's
businesses.
The Company's current expectations described above are forward-looking
statements. Please see "Risk Factors" in Item 1A of this 10-K for information
regarding important factors that may cause the Company's actual results to
differ from those currently projected and/or otherwise materially affect the
Company.
62--------------------------------------------------------------------------------
Segment Analysis
The following discussion of segment operating results is presented based on the Company's reportable segments in accordance with the accounting guidance for segment reporting and is consistent with the segment disclosure in Note 17 ''Segment Reporting'' included in Item 8 of this 10-K. The Company has three operating segments, Pharmacy Services, Retail/LTC and Health Care Benefits, as well as a Corporate/Other segment. The Company's segments maintain separate financial information, and the CODM evaluates the segments' operating results on a regular basis in deciding how to allocate resources among the segments and in assessing segment performance. The CODM evaluates the performance of the Company's segments based on adjusted operating income. Effective for the first quarter of 2019, adjusted operating income is defined as operating income (GAAP measure) excluding the impact of amortization of intangible assets and other items, if any, that neither relate to the ordinary course of the Company's business nor reflect the Company's underlying business performance. Segment financial information has been retrospectively adjusted to conform with the current period presentation. See the reconciliations of operating income (GAAP measure) to adjusted operating income below for further context regarding the items excluded from operating income in determining adjusted operating income. The Company uses adjusted operating income as its principal measure of segment performance as it enhances the Company's ability to compare past financial performance with current performance and analyze underlying business performance and trends. Non-GAAP financial measures the Company discloses, such as consolidated adjusted operating income, should not be considered a substitute for, or superior to, financial measures determined or calculated in accordance with GAAP. Effective for the first quarter of 2019, the Company realigned the composition of its segments to correspond with changes to its operating model and reflect how the CODM reviews information and manages the business. See Note 1 ''Significant Accounting Policies'' included in Item 8 of this 10-K for further discussion of this realignment. Segment financial information has been retrospectively adjusted to reflect these changes.
The following is a reconciliation of financial measures of the Company's segments to the consolidated totals:
Pharmacy Retail/ Health Care Corporate/ Intersegment Consolidated
In millions Services (1) LTC Benefits Other Eliminations (2) Totals
2019
Total revenues $ 141,491 $ 86,608 $ 69,604 $ 512 $ (41,439 ) $ 256,776
Adjusted operating
income (loss) 5,129 6,705 5,202 (1,000 ) (697 ) 15,339
2018
Total revenues 134,736 83,989 8,962 606 (33,714 ) 194,579
Adjusted operating
income (loss) 4,955 7,403 528 (856 ) (769 ) 11,261
2017
Total revenues 130,822 79,398 3,587 16 (29,037 ) 184,786
Adjusted operating
income (loss) 4,628 7,475 359 (896 ) (741 ) 10,825
_____________________________________________
(1) Total revenues of the Pharmacy Services segment include approximately
billion,
and 2017, respectively. See Note 1 ''Significant Accounting Policies''
included in Item 8 of this 10-K for additional information about retail
co-payments.
(2) Intersegment eliminations relate to intersegment revenue generating
activities that occur between the Pharmacy Services segment, the Retail/LTC
segment and/or the Health Care Benefits segment.
63--------------------------------------------------------------------------------
The following is a reconciliation of operating income to adjusted operating
income for the years ended
Year Ended
Pharmacy Retail/ Health Care Corporate/ Intersegment Consolidated
In millions Services LTC Benefits Other Eliminations Totals
Operating income (loss)
(GAAP measure) $ 4,735 $ 5,793 $ 3,639 $ (1,483 ) $ (697 ) $ 11,987
Non-GAAP adjustments:
Amortization of intangible
assets (1) 394 476 1,563 3 - 2,436
Acquisition-related
integration costs (2) - - - 480 - 480
Store rationalization
charges (3) - 231 - - - 231
Loss on divestiture of
subsidiary (4) - 205 - - - 205
Adjusted operating income
(loss) $ 5,129 $ 6,705 $ 5,202 $ (1,000 ) $ (697 ) $ 15,339
Year Ended December 31, 2018
Pharmacy Retail/ Health Care Corporate/ Intersegment Consolidated
In millions Services LTC Benefits Other Eliminations Totals
Operating income (loss)
(GAAP measure) $ 4,607 $ 620 $ 368 $ (805 ) $ (769 ) $ 4,021
Non-GAAP adjustments:
Amortization of intangible
assets (1) 348 498 160 - - 1,006
Acquisition-related
transaction and
integration costs (2) - 7 - 485 - 492
Loss on divestiture of
subsidiary (4) - 86 - - - 86
Goodwill impairments (5) - 6,149 - - - 6,149
Impairment of long-lived
assets (6) - 43 - - - 43
Interest income on
financing for the Aetna
Acquisition (7) - - - (536 ) - (536 )
Adjusted operating income
(loss) $ 4,955 $ 7,403 $ 528 $ (856 ) $ (769 ) $ 11,261
64
--------------------------------------------------------------------------------
Year Ended
Pharmacy Retail/ Health Care Corporate/ Intersegment Consolidated
In millions Services LTC Benefits Other Eliminations Totals
Operating income (loss)
(GAAP measure) $ 4,300 $ 6,558 $ 357 $ (936 ) $ (741 ) $ 9,538
Non-GAAP adjustments:
Amortization of intangible
assets (1) 328 487 2 - - 817
Acquisition-related
transaction and
integration costs (2) - 34 - 31 - 65
Store rationalization
charges (3) - 215 - - - 215
Loss on divestiture of
subsidiary (4) - - - 9 - 9
Goodwill impairments (5) - 181 - - - 181
Adjusted operating income
(loss) $ 4,628 $ 7,475 $ 359 $ (896 ) $ (741 ) $ 10,825 _____________________________________________
(1) The Company's acquisition activities have resulted in the recognition of
intangible assets as required under the acquisition method of accounting
which consist primarily of trademarks, customer contracts/relationships,
covenants not to compete, technology, provider networks and value of business
acquired. Definite-lived intangible assets are amortized over their estimated
useful lives and are tested for impairment when events indicate that the
carrying value may not be recoverable. The amortization of intangible assets
is reflected in the Company's statements of operations in operating expenses
within each segment. Although intangible assets contribute to the Company's
revenue generation, the amortization of intangible assets does not directly
relate to the underwriting of the Company's insurance products, the services
performed for the Company's customers or the sale of the Company's products
or services. Additionally, intangible asset amortization expense typically
fluctuates based on the size and timing of the Company's acquisition
activity. Accordingly, the Company believes excluding the amortization of
intangible assets enhances the Company's and investors' ability to compare
the Company's past financial performance with its current performance and to
analyze underlying business performance and trends. Intangible asset
amortization excluded from the related non-GAAP financial measure represents
the entire amount recorded within the Company's GAAP financial statements,
and the revenue generated by the associated intangible assets has not been
excluded from the related non-GAAP financial measure. Intangible asset
amortization is excluded from the related non-GAAP financial measure because
the amortization, unlike the related revenue, is not affected by operations
of any particular period unless an intangible asset becomes impaired or the
estimated useful life of an intangible asset is revised.
(2) In 2019, 2018 and 2017, acquisition-related transaction and integration costs
relate to the
transaction and integration costs also relate to the acquisition of Omnicare,
Inc. ("Omnicare"). The acquisition-related transaction and integration costs
are reflected in the Company's consolidated statements of operations in
operating expenses within the Corporate/Other segment and the Retail/LTC
segment.
(3) In 2019, the store rationalization charges relate to the planned closure of
46 underperforming retail pharmacy stores during the second quarter of 2019
and the planned closure of 22 underperforming retail pharmacy stores during
the first quarter of 2020. In 2019, the store rationalization charges
primarily relate to operating lease right-of-use asset impairment charges and
are reflected in the Company's consolidated statements of operations in
operating expenses within the Retail/LTC segment. In 2017, the store
rationalization charges related to the Company's enterprise streamlining
initiative and are reflected in the Company's consolidated statements of
operations in operating expenses within the Retail/LTC segment.
(4) In 2019, the loss on divestiture of subsidiary represents the pre-tax loss on
the sale of Onofre, which occurred on
primarily relates to the elimination of the cumulative translation adjustment
from accumulated other comprehensive income. In 2018, the loss on divestiture
of subsidiary represents the pre-tax loss on the sale of the Company's
RxCrossroads subsidiary for
loss on divestiture of subsidiary represents transaction costs associated
with the sale of RxCrossroads. The loss on divestiture of subsidiary costs
are reflected in the Company's consolidated statements of operations in
operating expenses within the Retail/LTC segment and Corporate/Other segment.
(5) In 2018, the goodwill impairments relate to the LTC reporting unit within the
Retail/LTC segment. In 2017, the goodwill impairments relate to the
RxCrossroads reporting unit within the Retail/LTC segment.
(6) In 2018, impairment of long-lived assets primarily relates to the impairment
of property and equipment within the Retail/LTC segment and is reflected in
operating expenses in the Company's consolidated statements of operations.
(7) In 2018, the Company recorded interest income of
of the
partially fund the
to the close of the
and were recorded within the Corporate/Other segment.
65--------------------------------------------------------------------------------
Pharmacy Services Segment
The following table summarizes the Pharmacy Services segment's performance for
the respective periods:
Change
Year Ended December 31, 2019 vs. 2018 2018 vs. 2017
In millions, except
percentages 2019 2018 2017 $ % $ %
Revenues:
Products $ 140,946 $ 134,285 $ 130,578 $ 6,661 5.0 % $ 3,707 2.8 %
Services 545 451 244 94 20.8 % 207 84.8 %
Total revenues 141,491 134,736 130,822 6,755 5.0 % 3,914 3.0 %
Cost of products sold 135,245 128,777 125,273 6,468 5.0 % 3,504 2.8 %
Operating expenses 1,511 1,352 1,249 159 11.8 % 103 8.2 %
Operating expenses as
a % of total revenues 1.1 % 1.0 % 1.0 %
Operating income $ 4,735 $ 4,607 $ 4,300 $ 128 2.8 % $ 307 7.1 %
Operating income as a
% of total revenues 3.3 % 3.4 % 3.3 %
Adjusted operating
income (1) $ 5,129 $ 4,955 $ 4,628 $ 174 3.5 % $ 327 7.1 %
Adjusted operating
income as a % of total
revenues 3.6 % 3.7 % 3.5 %
Revenues (by
distribution
channel):
Pharmacy network (2)
(3) $ 88,755 $ 87,167 $ 84,677 $ 1,588 1.8 % $ 2,490 2.9 %
Mail choice (3) (4) 52,141 47,049 45,731 5,092 10.8 % 1,318 2.9 %
Other 595 520 414 75 14.4 % 106 25.6 %
Pharmacy claims
processed: (5)
Total 2,014.2 1,889.8 1,781.9 124.4 6.6 % 107.9 6.1 %
Pharmacy network (2) 1,704.0 1,601.4 1,516.7 102.6 6.4 % 84.7 5.6 %
Mail choice (4) 310.2 288.4 265.2 21.8 7.6 % 23.2 8.7 %
Generic dispensing
rate: (5)
Total 88.2 % 87.3 % 87.0 %
Pharmacy network (2) 88.7 % 87.9 % 87.7 %
Mail choice (4) 85.1 % 83.9 % 83.1 %
Mail choice
penetration rate (4)
(5) 15.4 % 15.3 % 14.9 %
_____________________________________________
(1) See "Segment Analysis" above in this MD&A for a reconciliation of operating
income (GAAP measure) to adjusted operating income for the Pharmacy Services
segment.
(2) Pharmacy network revenues, pharmacy claims processed and generic dispensing
rate do not include Maintenance Choice® activity, which is included within
the mail choice category. Pharmacy network is defined as claims filled at
retail and specialty retail pharmacies, including the Company's retail
pharmacies and LTC pharmacies, but excluding Maintenance Choice activity,
which is included within the mail choice category. Maintenance choice permits
eligible client plan members to fill their maintenance prescriptions through
mail order delivery or at a CVS pharmacy retail store for the same price as
mail order.
(3) Certain prior year amounts have been reclassified for consistency with the
current period presentation.
(4) Mail choice is defined as claims filled at a Pharmacy Services mail order
facility, which includes specialty mail claims inclusive of Specialty
Connect® claims picked up at a retail pharmacy, as well as prescriptions
filled at the Company's retail pharmacies under the Maintenance Choice
program.
(5) Includes an adjustment to convert 90-day prescriptions to the equivalent of
three 30-day prescriptions. This adjustment reflects the fact that these
prescriptions include approximately three times the amount of product days
supplied compared to a normal prescription.
66--------------------------------------------------------------------------------
Commentary - 2019 compared to 2018
Revenues
• Total revenues increased
compared to 2018. The increase was primarily due to brand inflation as well
as increased total pharmacy claims volume, partially offset by continued
price compression and an increased generic dispensing rate.
• As you review the Pharmacy Services segment's performance in this area, you
should consider the following important information about the business:
• The Company's mail choice claims processed, on a 30-day equivalent basis,
increased 7.6% to 310.2 million claims in 2019 compared to 288.4 million
claims in 2018. The increase in mail choice claims was primarily driven by
the continued adoption of Maintenance Choice offerings.
• During 2019, the average revenue per mail choice claim, on a 30-day
equivalent basis, increased by 3.0% compared to 2018 primarily due to
growth in specialty pharmacy claims processed.
• The Company's pharmacy network claims processed, on a 30-day equivalent
basis, increased 6.4% to 1.7 billion claims in 2019 compared to 1.6
billion claims in 2018. The increase in the pharmacy network claim volume
was primarily due to net new business, including the onboarding of Anthem,
Inc.'s ("Anthem's") PBM, IngenioRx, during 2019.
• During 2019, the average revenue per pharmacy network claim processed, on
a 30-day equivalent basis, decreased 4.2% compared to 2018 as a result of
continued price compression.
• The segment's total generic dispensing rate increased to 88.2% in 2019compared to 87.3% in 2018. The continued increase in the segment's generic
dispensing rate was primarily due to the impact of new generic drug
introductions and the Company's ongoing efforts to encourage plan members
to use generic drugs when they are available and clinically appropriate.
The Company believes its generic dispensing rate will continue to increase
in future periods, albeit at a slower pace. This increase will be affected
by, among other things, the number of new brand and generic drug
introductions and the Company's success at encouraging plan members to
utilize generic drugs when they are available and clinically appropriate.
Operating expenses • Operating expenses in the Pharmacy Services segment include selling,
general and administrative expenses; depreciation and amortization related
to selling, general and administrative activities; and expenses related to
specialty retail pharmacies, which include store and administrative
payroll, employee benefits and occupancy costs.
• Operating expenses increased
2018. The increase in operating expenses was primarily due to growth in
the business, including operating expenses associated with Aetna 's mail
order and specialty pharmacy operations (including intangible asset
amortization) and investments related to the Company's agreement with
Anthem's PBM, IngenioRx, during 2019.
• Operating expenses as a percentage of total revenues remained relatively
consistent at 1.1% and 1.0% in 2019 and 2018, respectively.
Operating income and adjusted operating income
• Operating income increased
income increased
increase in both operating income and adjusted operating income was primarily
driven by increased claims volume, the addition of
specialty pharmacy operations and improved purchasing economics, partially
offset by continued price compression. The increase in operating income also
was partially offset by increased intangible asset amortization related to
• As you review the Pharmacy Services segment's performance in this area, you
should consider the following important information about the business:
• The Company's efforts to (i) retain existing clients, (ii) obtain new
business and (iii) maintain or improve the rebates and/or discounts theCompany receives from manufacturers, wholesalers and retail pharmacies
continue to have an impact on operating income and adjusted operating
income. In particular, competitive pressures in the PBM industry have
caused the Company and other PBMs to continue to share with clients alarger portion of rebates and/or discounts received from pharmaceutical
manufacturers. In addition, marketplace dynamics and regulatory changes
have limited the Company's ability to offer plan sponsors pricing that
includes retail network "differential" or "spread," and the Company
expects these trends to continue. The "differential" or "spread" is anydifference between the drug price charged to plan sponsors, including
Medicare Part D plan sponsors, by a PBM and the price paid for the drug by
the PBM to the dispensing provider.
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Retail/LTC Segment
The following table summarizes the Retail/LTC segment's performance for the respective periods:
Change
Year Ended December 31, 2019 vs. 2018 2018 vs. 2017
In millions, except
percentages 2019 2018 2017 $ % $ %
Revenues:
Products $ 85,729 $ 83,175 $ 78,522 $ 2,554 3.1 % $ 4,653 5.9 %
Services 879 814 876 65 8.0 % (62 ) (7.1 )%
Total revenues 86,608 83,989 79,398 2,619 3.1 % 4,591 5.8 %
Cost of products sold 62,688 59,906 56,066 2,782 4.6 % 3,840 6.8 %
Goodwill impairments - 6,149 181 (6,149 ) (100.0 )% 5,968 3,297.2 %
Operating expenses 18,127 17,314 16,593 813 4.7 % 721 4.3 %
Operating expenses as a %
of total revenues 20.9 % 20.6 % 20.9 %
Operating income $ 5,793 $ 620 $ 6,558 $ 5,173 834.4 % $ (5,938 ) (90.5 )%
Operating income as a % of
total revenues 6.7 % 0.7 % 8.3 %
Adjusted operating income
(1) $ 6,705 $ 7,403 $ 7,475 $ (698 ) (9.4 )% $ (72 ) (1.0 )%
Adjusted operating income
as a % of total revenues 7.7 % 8.8 % 9.4 %
Revenues (by major
goods/service lines):
Pharmacy $ 66,442 $ 64,179 $ 59,528 $ 2,263 3.5 % $ 4,651 7.8 %
Front Store 19,422 19,055 18,769 367 1.9 % 286 1.5 %
Other 744 755 1,101 (11 ) (1.5 )% (346 ) (31.4 )%
Prescriptions filled (2) 1,417.2 1,339.1 1,230.5 78.1 5.8 % 108.6 8.8 %
Revenues increase
(decrease):
Total 3.1 % 5.8 % (2.1 )%
Pharmacy 3.5 % 7.8 % (2.2 )%
Front Store 1.9 % 1.5 % (1.9 )%
Total prescription volume
increase (2) 5.8 % 8.8 % 0.6 %
Same store sales increase
(decrease): (3)
Total 3.7 % 6.0 % (2.6 )%
Pharmacy 4.5 % 7.9 % (2.6 )%
Front Store 1.1 % 0.5 % (2.6 )%
Prescription volume (2) 7.2 % 9.1 % 0.4 %
Generic dispensing rate
(2) 88.3 % 87.5 % 87.3 %
_____________________________________________
(1) See "Segment Analysis" above in this MD&A for a reconciliation of operating
income (GAAP measure) to adjusted operating income for the Retail/LTC
segment.
(2) Includes an adjustment to convert 90day prescriptions to the equivalent of
three 30day prescriptions. This adjustment reflects the fact that these
prescriptions include approximately three times the amount of product days
supplied compared to a normal prescription.
(3) Same store sales and prescription volume exclude revenues from
and revenue and prescriptions from stores in
Commentary - 2019 compared to 2018
Revenues
• Total revenues increased approximately
billion in 2019 compared to 2018. The increase was primarily driven by
increased prescription volume and brand inflation, partially offset by
continued reimbursement pressure and an increased generic dispensing rate.
68
--------------------------------------------------------------------------------• As you review the Retail/LTC segment's performance in this area, you should
consider the following important information about the business:
• Front store same store sales increased 1.1% in 2019 compared to 2018.
The increase in front store sales in 2019 was primarily driven by
increases in health and beauty product sales.
• Pharmacy same store sales increased 4.5% in 2019 compared to 2018. The
increase was primarily driven by the 7.2% increase in pharmacy same
store prescription volumes on a 30-day equivalent basis driven mainlyby (i) continued adoption of patient care programs, (ii) collaborations
with PBMs and (iii) the Company's preferred status in a number of
Medicare Part D networks.
• Pharmacy revenue growth continues to be adversely affected by
reimbursement pressure. Pharmacy revenue growth also continues to beadversely affected by the conversion of brand name drugs to equivalent
generic drugs, which typically have a lower selling price. The
segment's generic dispensing rate grew to 88.3% in 2019 compared to
87.5% in 2018.
• Pharmacy revenue growth also continues to be adversely affected by
industry challenges in the LTC business, such as continuing lower
occupancy rates at skilled nursing facilities, as well as thedeteriorating financial health of many skilled nursing facilities.
• Pharmacy revenue in 2019 continued to benefit from the Company's
ability to attract and retain managed care customers and the increased
use of pharmaceuticals by an aging population as the first line of
defense for health care.
Operating expenses • Operating expenses in the Retail/LTC segment include store payroll, store
employee benefits, store occupancy costs, selling expenses, advertising
expenses, depreciation and amortization expense and certain administrative
expenses.
• Operating expenses increased
primarily due to the following:
• Store rationalization charges of
primarily related to operating lease right-of-use asset impairment
charges in connection with the planned closure of underperforming
retail pharmacy stores during the second quarter of 2019 and the first
quarter of 2020;
• The
• The increased prescription volume described above; and
• The investment of a portion of the savings from the Tax Cuts and Jobs
Act (the "TCJA") in wages and benefits.
• Operating expenses as a percentage of total revenues were 20.9% in 2019
compared to 20.6% in 2018. The increase in operating expenses as a percentage
of total revenues was primarily driven by the increases in operating expenses
described above.
Operating income and adjusted operating income
• Operating income increased $5.2 billion in 2019 compared to 2018. The
increase in operating income was primarily due to the absence of the
billion of pre-tax goodwill impairment charges related to the LTC reporting
unit recorded in the year ended
decrease in adjusted operating income described below, as well as the
million of store rationalization charges and the
the sale of Onofre, both recorded in 2019.
• Adjusted operating income decreased
to 2018. The decrease in adjusted operating income was primarily due to
continued reimbursement pressure and increased operating expenses primarily
driven by the investment of a portion of the savings from the TCJA in wages
and benefits. The decrease was partially offset by increased prescription
volume, an increased generic dispensing rate and improved purchasing
economics.
• As you review the Retail/LTC segment's performance in this area, you should
consider the following important information about the business:
• The segment's pharmacy operating income and adjusted operating income
has been adversely affected by the efforts of managed care
organizations, PBMs and governmental and other third-party payors toreduce their prescription drug costs, including the use of restrictive
networks, as well as changes in the mix of business within the pharmacy
portion of the Retail/LTC segment. If the reimbursement pressure
accelerates, the segment may not be able grow revenues, and its
operating income and adjusted operating income could be adversely
affected.
• The increased use of generic drugs has positively impacted the
segment's operating income and adjusted operating income but has
resulted in third-party payors augmenting their efforts to reduce
reimbursement payments to retail pharmacies for prescriptions. This
trend, which the Company expects to continue, reduces the benefit the
segment realizes from brand to generic drug conversions.
69--------------------------------------------------------------------------------
Health Care Benefits Segment
For periods prior toNovember 28, 2018 (theAetna Acquisition Date), the Health Care Benefits segment was comprised of the Company's SilverScript PDP business. The following table summarizes the Health Care Benefits segment's performance for the respective periods: Change Year Ended December 31, 2019 vs. 2018 2018 vs. 2017 In millions, except percentages 2019 2018 2017 $ % $ % Revenues: Products $ -$ 164 $ -$ (164 ) (100.0 )%$ 164 100.0 % Premiums 63,031 8,180 3,558 54,851 670.6 % 4,622 129.9 % Services 5,974 560 24 5,414 966.8 % 536 2,233.3 % Net investment income 599 58 5 541 932.8 % 53 1,060.0 % Total revenues 69,604 8,962 3,587 60,642 676.7 % 5,375 149.8 % Cost of products sold - 147 - (147 ) (100.0 )% 147 100.0 % Benefit costs 53,092 6,678 2,810 46,414 695.0 % 3,868 137.7 % MBR (Benefit costs as a % of premium revenues) (1) 84.2 % NM NM Operating expenses$ 12,873 $ 1,769 $ 420 $ 11,104 627.7 %$ 1,349 321.2 % Operating expenses as a % of total revenues 18.5 % 19.7 % 11.7 % Operating income$ 3,639 $ 368 $ 357 $ 3,271 888.9 %$ 11 3.1 % Operating income as a % of total revenues 5.2 % 4.1 % 10.0 % Adjusted operating income (2)$ 5,202 $ 528 $ 359 $ 4,674 885.2 %$ 169 47.1 % Adjusted operating income as a % of total revenues 7.5 % 5.9 % 10.0 %
_____________________________________________
(1) For periods prior to the
segment was comprised of the Company's SilverScript PDP business.
Accordingly, the MBR for the years ended
meaningful ("NM") and are not directly comparable to the MBRs for the year
ended
(2) See "Segment Analysis" above in this MD&A for a reconciliation of operating
income (GAAP measure) to adjusted operating income for the Health Care
Benefits segment.
Commentary - 2019 compared to 2018
Revenues
• Total revenues increased
to the
Operating expenses • Operating expenses in the Health Care Benefits segment include selling,
general and administrative expenses and depreciation and amortization
expenses.
• Operating expenses increased
due to the Aetna Acquisition (including the amortization of intangible
assets).
Operating income and adjusted operating income
• Operating income increased $3.3 billion and adjusted operating income
increased
due to the
offset by increased intangible asset amortization related to the Aetna
Acquisition.
70--------------------------------------------------------------------------------
The following table summarizes the Health Care Benefits segment's medical
membership as of
2019 2018
In thousands Insured ASC Total Insured ASC Total
Medical membership:
Commercial 3,591 14,159 17,750 3,871 13,888 17,759
Medicare Advantage 2,321 - 2,321 1,758 - 1,758
Medicare Supplement 881 - 881 793 - 793
Medicaid 1,398 558 1,956 1,128 663 1,791
Total medical membership 8,191 14,717 22,908 7,550 14,551 22,101
Supplemental membership information:
Medicare Prescription Drug Plan (standalone) (1) 5,994 6,134
_____________________________________________
(1) Represents the Company's SilverScript PDP membership only. Excludes 2.5
million and 2.3 million members as of
respectively, related to
plans through 2019 through a reinsurance agreement. Subsequent to 2019, the
Company will no longer retain the financial results of the divested plans.
Medical Membership Medical membership as ofDecember 31, 2019 increased compared withDecember 31, 2018 , reflecting increases in Medicare, Commercial ASC and Medicaid products, partially offset by declines in Commercial Insured products. Medicare Update OnApril 1, 2019 , theU.S. Centers for Medicare & Medicaid Services ("CMS") issued its final notice detailing final 2020 Medicare Advantage benchmark payment rates (the "Final Notice"). Overall the Company projects the benchmark rates in the Final Notice will increase funding for its Medicare Advantage business, excluding the impact of the health insurer fee, by approximately 2.0% in 2020 compared to 2019. The ACA ties a portion of each Medicare Advantage plan's reimbursement to the plan's "star ratings." Plans must have a star rating of four or higher (out of five) to qualify for bonus payments. CMS released the Company's 2020 star ratings inOctober 2019 . The Company's 2020 star ratings will be used to determine which of the Company's Medicare Advantage plans have ratings of four stars or higher and qualify for bonus payments in 2021. Based on the Company's membership atDecember 31, 2019 , 83% of the Company's Medicare Advantage members were in plans with 2020 star ratings of at least 4.0 stars, compared to 79% of the Company's Medicare Advantage members being in plans with 2019 star ratings of at least 4.0 stars based on the Company's membership atDecember 31, 2018 .
Corporate/Other Segment
Commentary - 2019 compared to 2018
Revenues
• Total revenues decreased
• In 2019, revenues relate to products for which the Company no longer solicits
or accepts new customers, such as large case pensions and long-term care
insurance products, that were acquired in the
2019 include
the sale of debt securities and other invested assets that support these
insurance products. In 2018, revenues relate to interest income on the
proceeds from the financing of the Aetna Acquisition.
Operating expenses • Operating expenses within the Corporate/Other segment include certain aspects
of costs related to executive management and the corporate relations, legal,
compliance, human resources, information technology and finance departments,
expenses associated with the Company's investments in its transformation and
Enterprise modernization programs and acquisition-related transaction and
integration costs. After the
also include operating costs to support the large case pensions and long-term
care insurance products acquired in the Aetna Acquisition.
71--------------------------------------------------------------------------------
• Operating expenses increased
increase was primarily driven by growth in the business, incremental
operating expenses associated with the Company's investments in
transformation and Enterprise modernization, legal costs and a $30
million charitable contribution to the CVS Health Foundation in 2019.
Liquidity and Capital Resources
Cash Flows
The Company maintains a level of liquidity sufficient to allow it to meet its cash needs in the short-term. Over the long term, the Company manages its cash and capital structure to maximize shareholder return, maintain its financial condition and maintain flexibility for future strategic initiatives. The Company continuously assesses its regulatory capital requirements, working capital needs, debt and leverage levels, debt maturity schedule, capital expenditure requirements, dividend payouts, potential share repurchases and future investments or acquisitions. The Company believes its operating cash flows, commercial paper program, credit facilities, sale-leaseback program, as well as any potential future borrowings, will be sufficient to fund these future payments and long-term initiatives. As ofDecember 31, 2019 , the Company had approximately$5.7 billion in cash and cash equivalents, approximately$1.7 billion of which was held by the parent company or nonrestricted subsidiaries.
The net change in cash, cash equivalents and restricted cash for the years ended
Change
Year Ended December 31, 2019 vs. 2018 2018 vs. 2017
In millions 2019 2018 2017 $ % $ %
Net cash provided by
operating activities $ 12,848 $ 8,865 $ 8,007 $ 3,983 44.9 % $ 858 10.7 %
Net cash used in investing
activities (3,339 ) (43,285 ) (2,877 ) 39,946 (92.3 )% (40,408 ) 1,404.5 %
Net cash provided by (used
in) financing activities (7,850 ) 36,819 (6,751 ) (44,669 ) (121.3 )% 43,570 (645.4 )%
Effect of exchange rate
changes on cash, cash
equivalents and restricted
cash - (4 ) 1 4 (100.0 )% (5 ) (500.0 )%
Net increase (decrease) in
cash, cash equivalents and
restricted cash $ 1,659 $ 2,395 $ (1,620 ) $ (736 ) (30.7 )% $ 4,015 (247.8 )%
Commentary - 2019 compared to 2018
• Net cash provided by operating activities increased by
compared to 2018 due primarily to the
improvements in working capital, including the timing of certain payables and
receipts.
• Net cash used in investing activities decreased by
compared to 2018 largely due to the
decrease was partially offset by the absence of the
from the sale of RxCrossroads in 2018 and net purchases of investments in
2019 compared to net sales of investments in 2018.
• Net cash used in financing activities was
net cash provided by financing activities of
decrease in cash provided by financing activities primarily related to
long-term borrowings during 2018 to partially fund the
well as debt repayments during 2019 including (i) the repayment of
billion of outstanding senior notes pursuant to tender offers for such
outstanding senior notes, (ii) the repayment of the remaining
the term loan used to partially fund the
repayment of
maturity. The decrease was partially offset by the issuance of $3.5 billion
of senior notes in 2019.
72--------------------------------------------------------------------------------
Included in net cash used in investing activities for the years ended
2019 2018 2017
Total stores (beginning of year) 9,967 9,846 9,750
New and acquired stores (2) 102 148 179
Closed stores (2) (128 ) (27 ) (83 )
Total stores (end of year) 9,941 9,967 9,846
Relocated stores (2) 23 34 30
_____________________________________________
(1) Includes retail drugstores, certain onsite pharmacy stores, retail specialty
pharmacy stores and pharmacies within Target stores.
(2) Relocated stores are not included in new and acquired stores or closed stores
totals.
Short-term Borrowings
Commercial Paper and Back-up Credit Facilities
The Company did not have any commercial paper outstanding as of December 31,
2019 . The Company had $720 million of commercial paper outstanding at a weighted
average interest rate of 2.8% as of December 31, 2018 . In connection with its
commercial paper program, the Company maintains a $1.0 billion 364-day unsecured
back-up revolving credit facility, which expires on May 14, 2020 , a $1.0
billion , five-year unsecured back-up revolving credit facility, which expires on
May 18, 2022 , a $2.0 billion , five-year unsecured back-up revolving credit
facility, which expires on May 17, 2023 and a $2.0 billion , five-year unsecured
back-up revolving credit facility, which expires on May 16, 2024 . The credit
facilities allow for borrowings at various rates that are dependent, in part, on
the Company's public debt ratings and require the Company to pay a weighted
average quarterly facility fee of approximately .03%, regardless of usage. As of
December 31, 2019 and 2018, there were no borrowings outstanding under any of
the Company's back-up credit facilities.
Bridge Loan Facility
On December 3, 2017 , in connection with the Aetna Acquisition, the Company
entered into a $49.0 billion unsecured bridge loan facility commitment. The
Company paid $221 million in fees upon entering into the agreement. The fees
were capitalized in other current assets and were amortized as interest expense
over the period the bridge loan facility commitment was outstanding. The bridge
loan facility commitment was reduced to $44.0 billion on December 15, 2017 upon
the Company entering into a $5.0 billion term loan agreement. The Company
recorded $56 million of amortization of the bridge loan facility fees during the
year ended December 31, 2017 , which was recorded in interest expense in the
consolidated statement of operations.
On March 9, 2018 , the Company issued senior notes with an aggregate principal
amount of $40.0 billion (see "Long-term Borrowings - 2018 Notes" below). At that
time, the bridge loan facility commitment was reduced to $4.0 billion , and the
Company paid $8 million in fees to retain the bridge loan facility commitment
through the Aetna Acquisition Date. Those fees were capitalized in other current
assets and were amortized as interest expense over the period the bridge loan
facility commitment was outstanding. The Company recorded $173 million of
amortization of the bridge loan facility commitment fees during the year ended
December 31, 2018 , which was recorded in interest expense in the consolidated
statement of operations. On October 26, 2018 , the Company entered into a $4.0
billion unsecured 364-day bridge term loan agreement to formalize the bridge
loan facility discussed above. On November 28, 2018 , in connection with the
Aetna Acquisition, the $4.0 billion unsecured 364-day bridge term loan agreement
terminated.
Federal Home Loan Bank of Boston
Since the Aetna Acquisition Date, a subsidiary of the Company is a member of the
Federal Home Loan Bank of Boston (the "FHLBB"). As a member, the subsidiary has
the ability to obtain cash advances, subject to certain minimum collateral
requirements. The maximum borrowing capacity available from the FHLBB as of
December 31, 2019 was approximately $850 million . At both December 31, 2019 and
2018, there were no outstanding advances from the FHLBB.
Long-term Borrowings
2019 Notes OnAugust 15, 2019 , the Company issued$1.0 billion aggregate principal amount of 2.625% unsecured senior notes dueAugust 15, 2024 ,$750 million aggregate principal amount of 3% unsecured senior notes dueAugust 15, 2026 and$1.75 billion aggregate principal amount of 3.25% unsecured senior notes dueAugust 15, 2029 (collectively, the "2019 Notes") for total 73 -------------------------------------------------------------------------------- proceeds of approximately$3.5 billion , net of discounts and underwriting fees. The net proceeds of the 2019 Notes were used to repay certain of the Company's outstanding debt. Beginning inJuly 2019 , the Company entered into several interest rate swap and treasury lock transactions to manage interest rate risk. These agreements were designated as cash flow hedges and were used to hedge the exposure to variability in future cash flows resulting from changes in interest rates related to the anticipated issuance of the 2019 Notes. In connection with the issuance of the 2019 Notes, the Company terminated all outstanding cash flow hedges. The Company paid a net amount of$25 million to the hedge counterparties upon termination, which was recorded as a loss, net of tax, of$18 million in accumulated other comprehensive income and will be reclassified as interest expense over the life of the 2019 Notes. See Note 13 ''Other Comprehensive Income'' included in Item 8 of this 10-K for additional information. Early Extinguishment of Debt InAugust 2019 , the Company purchased$4.0 billion of its outstanding senior notes through cash tender offers. The senior notes purchased included the following:$1.3 billion of its 3.125% senior notes due 2020,$723 million of its floating rate notes due 2020,$328 million of its 4.125% senior notes due 2021,$297 million of 4.125% senior notes due 2021 issued byAetna ,$413 million of 5.45% senior notes due 2021 issued byCoventry Health Care, Inc. , a wholly-owned subsidiary ofAetna , and$962 million of its 3.35% senior notes due 2021. In connection with the purchase of such senior notes, the Company paid a premium of$76 million in excess of the aggregate principal amount of the senior notes that were purchased, incurred$8 million in fees and recognized a net gain of$5 million on the write-off of net unamortized deferred financing premiums, for a net loss on early extinguishment of debt of$79 million . 2018 Notes OnMarch 9, 2018 , the Company issued an aggregate of$40.0 billion in principal amount of unsecured floating rate notes and unsecured fixed rate senior notes (collectively the "2018 Notes") for total proceeds of approximately$39.4 billion , net of discounts and underwriting fees. The net proceeds of the 2018 Notes were used to fund a portion of theAetna Acquisition. The 2018 Notes consisted of the following at the time of issuance: In millions 3.125% senior notes dueMarch 2020 $ 2,000 Floating rate notes dueMarch 2020 1,000 3.35% senior notes dueMarch 2021 3,000 Floating rate notes dueMarch 2021 1,000 3.7% senior notes dueMarch 2023 6,000 4.1% senior notes dueMarch 2025 5,000 4.3% senior notes dueMarch 2028 9,000 4.78% senior notes dueMarch 2038 5,000 5.05% senior notes dueMarch 2048 8,000 Total debt principal$ 40,000 FromDecember 2017 throughMarch 2018 , the Company entered into several interest rate swap and treasury lock transactions to manage interest rate risk. These agreements were designated as cash flow hedges and were used to hedge the exposure to variability in future cash flows resulting from changes in interest rates related to the anticipated issuance of long-term debt to fund theAetna Acquisition. In connection with the issuance of the 2018 Notes, the Company terminated all outstanding cash flow hedges. In connection with the hedge transactions, the Company received a net amount of$446 million from the hedge counterparties upon termination, which was recorded as a gain, net of tax, of$331 million in accumulated other comprehensive income and will be reclassified as a reduction of interest expense over the life of the 2018 Notes. See Note 13 ''Other Comprehensive Income'' included in Item 8 of this 10-K for additional information. Term Loan Agreement OnDecember 15, 2017 , in connection with theAetna Acquisition, the Company entered into a$5.0 billion term loan agreement. The term loan agreement allowed for borrowings at various rates that were dependent, in part, on the Company's debt ratings. In connection with theAetna Acquisition, the Company borrowed$5.0 billion (a$3.0 billion three-year tranche and a$2.0 billion five-year tranche) under the term loan agreement inNovember 2018 . The Company terminated the$2.0 billion five-year tranche inDecember 2018 with the repayment of the borrowing. The Company made principal payments of 74 --------------------------------------------------------------------------------$500 million inMarch 2019 ,$1.0 billion inMay 2019 and$1.5 billion inJuly 2019 on the three-year tranche, and terminated the three-year tranche and the term loan agreement with the final repayment of the borrowing inJuly 2019 , at which time the Company had repaid all term loans.Aetna Related Debt Upon the closing of theAetna Acquisition, the Company assumed long-term debt with a fair value of$8.1 billion , with stated interest rates ranging from 2.2% to 6.75%.
See Note 8 ''Borrowings and Credit Agreements'' and Note 12 ''Shareholders' Equity'' included in Item 8 of this 10-K for additional information about debt issuances, debt repayments, share repurchases and dividend payments.
Derivative Financial Instruments
The Company uses derivative financial instruments in order to manage interest rate and foreign exchange risk and credit exposure. The Company's use of these derivatives is generally limited to hedging risk and has principally consisted of using interest rate swaps, treasury rate locks, forward contracts, futures contracts, warrants, put options and credit default swaps.
Debt Covenants
The Company's back-up revolving credit facilities, unsecured senior notes and unsecured floating rate notes (see Note 8 ''Borrowings and Credit Agreements'' included in Item 8 of this 10-K) contain customary restrictive financial and operating covenants. These covenants do not include an acceleration of the Company's debt maturities in the event of a downgrade in the Company's credit ratings. The Company does not believe the restrictions contained in these covenants materially affect its financial or operating flexibility. As ofDecember 31, 2019 , the Company was in compliance with all of its debt covenants.
Debt Ratings
As ofDecember 31, 2019 , the Company's long-term debt was rated "Baa2" byMoody's Investors Service, Inc. ("Moody's) and "BBB" byStandard & Poor's Financial Services LLC ("S&P"), and its commercial paper program was rated "P-2" by Moody's and "A-2" by S&P. InDecember 2017 , subsequent to the announcement of the proposed acquisition ofAetna , Moody's changed the outlook on the Company's long-term debt to "Under Review" from "Stable." Similarly, S&P placed the Company's long-term debt outlook on "Watch Negative" from "Stable." Upon the issuance of the 2018 Notes onMarch 9, 2018 , S&P lowered its corporate credit rating on the Company's long-term debt to "BBB" from "BBB+" and changed the outlook from "Watch Negative" to "Stable." OnNovember 27, 2018 , S&P lowered its rating on the long-term debt ofAetna to "BBB" from "A." OnNovember 28, 2018 , upon the completion of theAetna Acquisition, Moody's lowered its rating onCVS Health Corporation's long-term debt to "Baa2" from "Baa1." Additionally, Moody's changed the outlook onCVS Health Corporation's long-term debt to "Negative" from "Under Review" and changed the outlook on the long-term debt ofAetna to "Negative" from "Stable." In assessing the Company's credit strength, the Company believes that both Moody's and S&P considered, among other things, the Company's capital structure and financial policies as well as its consolidated balance sheet, its historical acquisition activity and other financial information. Although the Company currently believes its long-term debt ratings will remain investment grade, it cannot guarantee the future actions of Moody's and/or S&P. The Company's debt ratings have a direct impact on its future borrowing costs, access to capital markets and new store operating lease costs.
Share Repurchase Programs
During the years ended
Quarterly Cash Dividend
InDecember 2016 ,CVS Health's Board of Directors (the "Board") authorized an 18% increase inCVS Health's quarterly common stock cash dividend to$0.50 per share effective in 2017. This increase equated to an annual dividend rate of$2.00 per share. During 2019 and 2018,CVS Health maintained its quarterly dividend of$0.50 per share.CVS Health has paid cash dividends every quarter since becoming a public company and expects to maintain its quarterly dividend of$0.50 per share throughout 2020. Future dividends will depend on the Company's earnings, capital requirements, financial condition and other factors considered relevant by the Board. 75 --------------------------------------------------------------------------------
Off-Balance Sheet Arrangements
Between 1995 and 1997, the Company sold or spun off a number of subsidiaries, including Bob's Stores and Linens 'n Things, each of which subsequently filed for bankruptcy, and Marshalls. In many cases, when a former subsidiary leased a store, the Company provided a guarantee of the former subsidiary's lease obligations for the initial lease term and any extension thereof pursuant to a renewal option provided for in the lease prior to the time of the disposition. When the subsidiaries were disposed of and accounted for as discontinued operations, the Company's guarantees remained in place, although each initial purchaser agreed to indemnify the Company for any lease obligations the Company was required to satisfy. If any of the purchasers or any of the former subsidiaries fail to make the required payments under a store lease, the Company could be required to satisfy those obligations. As ofDecember 31, 2019 , the Company guaranteed 79 such store leases (excluding the lease guarantees related to Linens 'n Things, which have been recorded as a liability on the consolidated balance sheets), with the maximum remaining lease term extending through 2030. Management believes the ultimate disposition of any of the remaining lease guarantees will not have a material adverse effect on the Company's consolidated financial condition or future cash flows. See "Lease Guarantees" in Note 16 ''Commitments and Contingencies'' included in Item 8 of this 10-K for further information regarding the Company's guarantees of lease obligations. Contractual Obligations The following table summarizes certain estimated future obligations by period under the Company's various contractual obligations atDecember 31, 2019 . The table below does not include future payments of claims to health care providers or pharmacies because certain terms of these payments are not determinable atDecember 31, 2019 (for example, the timing and volume of future services provided under fee-for-service arrangements and future membership levels for capitated arrangements). Payments Due by Period In millions Total 2020 2021 to 2022 2023 to 2024 Thereafter Operating lease liabilities$ 27,833 $ 2,699 $ 5,042 $ 4,438 $ 15,654 Finance lease liabilities 1,454 84 161 153 1,056 Contractual lease obligations with Target (1) 2,218 - - - 2,218 Lease obligations for discontinued operations 8 4 4 - - Long-term debt 68,438 3,754 9,557 11,258 43,869 Interest payments on long-term debt (2) 35,343 2,751 5,076 4,299 23,217 Other long-term liabilities on the consolidated balance sheets (3) Future policy benefits (4) 6,127 508 937 809 3,873 Unpaid claims (4) 2,522 705 514 346 957 Policyholders' funds (4) (5) 1,156 553 137 85 381 Other liabilities 1,540 426 801 89 224 Total$ 146,639 $ 11,484 $ 22,229 $ 21,477 $ 91,449
_____________________________________________
(1) The Company leases pharmacy and clinic space from Target Corporation
("Target"). See Note 6 ''Leases'' included in Item 8 of this 10-K for
additional information regarding the lease arrangements with Target. Amounts
related to such operating and finance leases are reflected within the
operating lease liabilities and finance lease liabilities in the table above.
Pharmacy lease amounts due in excess of the remaining estimated economic life
of the buildings are reflected in the table above assuming equivalent stores
continue to operate through the term of the arrangements.
(2) Interest payments on long-term debt are calculated using outstanding balances
and interest rates in effect on
(3) Payments of other long-term liabilities exclude Separate Accounts liabilities
of approximately
assets that are legally segregated and are not subject to claims that arise
out of the Company's business.
(4) Total payments of future policy benefits, unpaid claims and policyholders'
funds include
reserves for contracts subject to reinsurance. The Company expects the
assuming reinsurance carrier to fund these obligations and has reflected
these amounts as reinsurance recoverable assets on the consolidated balance
sheets.
(5) Customer funds associated with group life and health contracts of
approximately
such funds may be used primarily at the customer's discretion to offset
future premiums and/or for refunds, and the timing of the related cash flows
cannot be determined. Additionally, net unrealized capital gains on debt
securities supporting experience-rated products of
have been excluded from the table above.
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Restrictions on Certain Payments
In addition to general state law restrictions on payments of dividends and other
distributions to stockholders applicable to all corporations, health maintenance
organizations ("HMOs") and insurance companies are subject to further
regulations that, among other things, may require those companies to maintain
certain levels of equity (referred to as surplus) and restrict the amount of
dividends and other distributions that may be paid to their equity holders.
These regulations are not directly applicable to CVS Health as a holding
company, since CVS Health is not an HMO or an insurance company. In addition, in
connection with the Aetna Acquisition, the Company made certain undertakings
that require prior regulatory approval of dividends by certain of its HMOs and
insurance companies. The additional regulations and undertakings applicable to
the Company's HMO and insurance company subsidiaries are not expected to affect
the Company's ability to service the Company's debt, meet other financing
obligations or pay dividends, or the ability of any of the Company's
subsidiaries to service their debt or other financing obligations. Under
applicable regulatory requirements and undertakings, at December 31, 2019 , the
maximum amount of dividends that may be paid by the Company's insurance and HMO
subsidiaries without prior approval by regulatory authorities was $366 million
in the aggregate.
The Company maintains capital levels in its operating subsidiaries at or above
targeted and/or required capital levels and dividends amounts in excess of these
levels to meet liquidity requirements, including the payment of interest on debt
and stockholder dividends. In addition, at the Company's discretion, it uses
these funds for other purposes such as funding share and debt repurchase
programs, investments in new businesses and other purposes considered advisable.
At December 31, 2019 and 2018, the Company held investments of $537 million and
$531 million , respectively, that are not accounted for as Separate Accounts
assets but are legally segregated and are not subject to claims that arise out
of the Company's business. See Note 3 ''Investments'' included in Item 8 of this
10-K for additional information on investments related to the 2012 conversion of
an existing group annuity contract from a participating to a non-participating
contract.
Solvency Regulation
The National Association of Insurance Commissioners (the "NAIC") utilizes
risk-based capital ("RBC") standards for insurance companies that are designed
to identify weakly-capitalized companies by comparing each company's adjusted
surplus to its required surplus (the "RBC Ratio"). The RBC Ratio is designed to
reflect the risk profile of insurance companies. Within certain ratio ranges,
regulators have increasing authority to take action as the RBC Ratio decreases.
There are four levels of regulatory action, ranging from requiring an insurer to
submit a comprehensive financial plan for increasing its RBC to the state
insurance commissioner to requiring the state insurance commissioner to place
the insurer under regulatory control. At December 31, 2019 , the RBC Ratio of
each of the Company's primary insurance subsidiaries was above the level that
would require regulatory action. The RBC framework described above for insurers
has been extended by the NAIC to health organizations, including HMOs. Although
not all states had adopted these rules at December 31, 2019 , at that date, each
of the Company's active HMOs had a surplus that exceeded either the applicable
state net worth requirements or, where adopted, the levels that would require
regulatory action under the NAIC's RBC rules. External rating agencies use their
own capital models and/or RBC standards when they determine a company's rating.
77
--------------------------------------------------------------------------------Critical Accounting Policies
The Company prepares the consolidated financial statements in conformity with generally accepted accounting principles, which require management to make certain estimates and apply judgment. Estimates and judgments are based on historical experience, current trends and other factors that management believes to be important at the time the consolidated financial statements are prepared. On a regular basis, the Company reviews its accounting policies and how they are applied and disclosed in the consolidated financial statements. While the Company believes the historical experience, current trends and other factors considered by management support the preparation of the consolidated financial statements in conformity with generally accepted accounting principles, actual results could differ from estimates, and such differences could be material. Significant accounting policies are discussed in Note 1 ''Significant Accounting Policies'' included in Item 8 of this 10-K. Management believes the following accounting policies include a higher degree of judgment and/or complexity and, thus, are considered to be critical accounting policies. The Company has discussed the development and selection of these critical accounting policies with the Audit Committee of the Board (the "Audit Committee"), and the Audit Committee has reviewed the disclosures relating to them.
Revenue Recognition
Pharmacy Services Segment
The Pharmacy Services segment sells prescription drugs directly through its mail
service dispensing pharmacies and indirectly through the Company's retail
pharmacy network. The Company's pharmacy benefit arrangements are accounted for
in a manner consistent with a master supply arrangement as there are no
contractual minimum volumes and each prescription is considered a separate
purchasing decision and distinct performance obligation transferred at a point
in time. PBM services performed in connection with each prescription claim are
considered part of a single performance obligation which culminates in the
dispensing of prescription drugs.
The Company recognizes revenue using the gross method at the contract price
negotiated with its clients when the Company has concluded it controls the
prescription drug before it is transferred to the client plan members. The
Company controls prescriptions dispensed indirectly through its retail pharmacy
network because it has separate contractual arrangements with those pharmacies,
has discretion in setting the price for the transaction and assumes primary
responsibility for fulfilling the promise to provide prescription drugs to its
client plan members while also performing the related PBM services.
Revenues include (i) the portion of the price the client pays directly to the
Company, net of any discounts earned on brand name drugs or other discounts and
refunds paid back to the client (see "Drug Discounts" and "Guarantees" below),
(ii) the price paid to the Company by client plan members for mail order
prescriptions and the price paid to retail network pharmacies by client plan
members for retail prescriptions ("retail co-payments"), and (iii) claims based
administrative fees for retail pharmacy network contracts. Sales taxes are not
included in revenues.
The Company recognizes revenue when control of the prescription drugs is
transferred to customers, in an amount that reflects the consideration the
Company expects to be entitled to receive in exchange for those prescription
drugs. The Company has established the following revenue recognition policies
for the Pharmacy Services segment:
• Revenues generated from prescription drugs sold by mail service dispensing
pharmacies are recognized when the prescription drug is delivered to the
client plan member. At the time of delivery, the Company has performed
substantially all of its performance obligations under its client contracts
and does not experience a significant level of returns or reshipments.
• Revenues generated from prescription drugs sold by third party pharmacies in
the Company's retail pharmacy network and associated administrative fees are
recognized at the Company's point-of-sale, which is when the claim is
adjudicated by the Company's online claims processing system and the Company
has transferred control of the prescription drug and performed all of its
performance obligations.
For contracts under which the Company acts as an agent or does not control the prescription drugs prior to transfer to the client plan member, revenue is recognized using the net method.
Drug Discounts
The Company records revenue net of manufacturers' rebates earned by its clients
based on their plan members' utilization of brand-name formulary drugs. The
Company estimates these rebates at period-end based on actual and estimated
claims data and its estimates of the manufacturers' rebates earned by its
clients. The estimates are based on the best available data at period-end
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and recent history for the various factors that can affect the amount of rebates
due to the client. The Company adjusts its rebates payable to clients to the
actual amounts paid when these rebates are paid or as significant events occur.
Any cumulative effect of these adjustments is recorded against revenues at the
time it is identified. Adjustments generally result from contract changes with
clients or manufacturers that have retroactive rebate adjustments, differences
between the estimated and actual product mix subject to rebates, or whether the
brand name drug was included in the applicable formulary. The effect of
adjustments between estimated and actual manufacturers' rebate amounts has not
been material to the Company's operating results or financial condition.
Guarantees
The Company also adjusts revenues for refunds owed to clients resulting from pricing guarantees and performance against defined service and performance metrics. The inputs to these estimates are not subject to a high degree of subjectivity or volatility. The effect of adjustments between estimated and actual pricing and performance refund amounts has not been material to the Company's operating results or financial condition.
Retail/LTC SegmentRetail Pharmacy The Company's retail drugstores recognize revenue at the time the customer takes possession of the merchandise. For pharmacy sales, each prescription claim is its own arrangement with the customer and is a performance obligation, separate and distinct from other prescription claims under other retail network arrangements. Revenues are adjusted for refunds owed to third party payers resulting from pricing guarantees and performance against defined value-based service and performance metrics. The inputs to these estimates are not subject to a high degree of subjectivity or volatility. The effect of adjustments between estimated and actual pricing and performance refund amounts has not been material to the Company's operating results or financial condition. Revenue from Company gift cards purchased by customers is deferred as a contract liability until goods or services are transferred. Any amounts not expected to be redeemed by customers (i.e., breakage) are recognized based on historical redemption patterns.
Customer returns are not material to the Company's operating results or financial condition. Sales taxes are not included in revenues.
Loyalty and Other Programs
The Company's customer loyalty program, ExtraCare®, consists of two components,
ExtraSavingsTM and ExtraBucks® Rewards. ExtraSavings are coupons that are
recorded as a reduction of revenue when redeemed as the Company concluded that
they do not represent a promise to the customer to deliver additional goods or
services at the time of issuance because they are not tied to a specific
transaction or spending level.
ExtraBucks Rewards are accumulated by customers based on their historical
spending levels. Thus, the Company has determined that there is an additional
performance obligation to those customers at the time of the initial
transaction. The Company allocates the transaction price to the initial
transaction and the ExtraBucks Rewards transaction based upon the relative
standalone selling price, which considers historical redemption patterns for the
rewards. Revenue allocated to ExtraBucks Rewards is recognized as those rewards
are redeemed. At the end of each period, unredeemed ExtraBucks Rewards are
reflected as a contract liability.
The Company also offers a subscription-based membership program, CarePass®,
under which members are entitled to a suite of benefits delivered over the
course of the subscription period, as well as a promotional reward that can be
redeemed for future goods and services. Subscriptions are paid for on a monthly
or annual basis at the time of or in advance of the Company delivering the goods
and services. Revenue from these arrangements is recognized as the performance
obligations are satisfied.
Long-term Care
Revenue is recognized when control of the promised goods or services is
transferred to customers in an amount that reflects the consideration the
Company expects to be entitled to receive in exchange for those goods or
services. Each prescription claim represents a separate performance obligation
of the Company, separate and distinct from other prescription claims under
customer arrangements. A significant portion of Long-term Care revenue from
sales of pharmaceutical and medical products is reimbursed by the federal
Medicare Part D program and, to a lesser extent, state Medicaid programs. The
Company monitors its revenues and receivables from these reimbursement sources,
as well as long-term care facilities and other third party insurance payors, and
reduces revenue at the revenue recognition date to properly account for the
variable consideration due to anticipated
79
--------------------------------------------------------------------------------differences between billed and reimbursed amounts. Accordingly, the total revenues and receivables reported in the Company's consolidated financial statements are recorded at the amount expected to be ultimately received from these payors.
Patient co-payments associated with Medicare Part D, certain state Medicaid programs, Medicare Part B and certain third party payors typically are not collected at the time products are delivered or services are rendered, but are billed to the individuals as part of normal billing procedures and subject to normal accounts receivable collections procedures.Walk-In Medical Clinics For services provided by the Company's walk-in medical clinics, revenue recognition occurs for completed services provided to patients, with adjustments taken for third party payor contractual obligations and patient direct bill historical collection rates. Health Care Benefits Segment Health Care Benefits revenue is principally derived from insurance premiums and fees billed to customers. Revenue is recognized based on customer billings, which reflect contracted rates per employee and the number of covered employees recorded in the Company's records at the time the billings are prepared. Billings are generally sent monthly for coverage during the following month. The Company's billings may be subsequently adjusted to reflect enrollment changes due to member terminations or other factors. These adjustments are known as retroactivity adjustments. In each period, the Company estimates the amount of future retroactivity and adjusts the recorded revenue accordingly. As information regarding actual retroactivity amounts becomes known, the Company refines its estimates and records any required adjustments to revenues in the period in which they arise. A significant difference in the actual level of retroactivity compared to estimated levels would have a significant effect on the Company's operating results. Premium Revenue Premiums are recognized as revenue in the month in which the enrollee is entitled to receive health care services. Premiums are reported net of an allowance for estimated terminations and uncollectible amounts. Additionally, premium revenue subject to the ACA's minimum medical loss ratio ("MLR") rebate requirements is recorded net of the estimated minimum MLR rebates for the current calendar year. Premiums related to unexpired contractual coverage periods (unearned premiums) are reported as other insurance liabilities on the consolidated balance sheets and recognized as revenue when earned.
Some of the Company's contracts allow for premiums to be adjusted to reflect actual experience or the relative health status of Insured members. Such adjustments are reasonably estimable at the outset of the contract, and adjustments to those estimates are made based on actual experience of the customer emerging under the contract and the terms of the underlying contract.
Services Revenue Services revenue relates to contracts that can include various combinations of services or series of services which generally are capable of being distinct and accounted for as separate performance obligations. The Health Care Benefits segment's services revenue primarily consists of the following components:
• ASC fees are received in exchange for performing certain claim processing and
member services for ASC members. ASC fee revenue is recognized over the
period the service is provided. Some of the Company's administrative services
contracts include guarantees with respect to certain functions, such as
customer service response time, claim processing accuracy and claim
processing turnaround time, as well as certain guarantees that a plan
sponsor's benefit claim experience will fall within a certain range. With any
of these guarantees, the Company is financially at risk if the conditions of
the arrangements are not met, although the maximum amount at risk typically
is limited to a percentage of the fees otherwise payable to the Company by
the customer involved. Each period the Company estimates its obligations
under the terms of these guarantees and records its estimate as an offset to
services revenues.
• Workers' compensation administrative services consist of fee-based managed
care services. Workers' compensation administrative services revenue is
recognized once the service is provided.
Accounting for Medicare Part D
Revenues include insurance premiums earned by the Company's PDPs, which are
determined based on the PDP's annual bid and related contractual arrangements
with CMS. The insurance premiums include a beneficiary premium, which is the
responsibility of the PDP member, and can be subsidized by CMS in the case of
low-income members, and a direct premium paid by CMS. Premiums collected in
advance are initially recorded within other insurance liabilities and are then
recognized ratably as revenue over the period in which members are entitled to
receive benefits.
80--------------------------------------------------------------------------------
Revenues also include a risk-sharing feature of the Medicare Part D program design referred to as the risk corridor. The Company estimates variable consideration in the form of amounts payable to, or receivable from, CMS under the risk corridor, and adjusts revenue based on calculations of additional subsidies to be received from or owed to CMS at the end of the reporting year.
In addition to Medicare Part D premiums, the Company receives additional payments each month from CMS related to catastrophic reinsurance, low-income cost sharing subsidies and coverage gap benefits. If the subsidies received differ from the amounts earned from actual prescriptions transferred, the difference is recorded in either accounts receivable, net or accrued expenses.
Other-Than-Temporary Impairments of
The Company regularly reviews its debt securities to determine whether a decline in fair value below the cost basis or carrying value is other-than-temporary. If a decline in the fair value of a debt security is considered other-than-temporary, the cost basis or carrying value of the debt security is written down. The write-down is then bifurcated into its credit and non-credit related components. The amount of the credit-related component is included in the Company's net income (loss), and the amount of the non-credit related component is included in other comprehensive income (loss), unless the Company intends to sell the debt security or it is more likely than not that the Company will be required to sell the debt security prior to its anticipated recovery of the debt security's amortized cost basis. The Company analyzes all facts and circumstances believed to be relevant for each investment when performing this analysis, in accordance with applicable accounting guidance. Among the factors considered in evaluating whether a decline in fair value is other-than-temporary are whether the decline results from a change in the quality of the debt security itself, whether the decline results from a downward movement in the market as a whole, and the prospects for realizing the carrying value of the debt security based on the investment's current and short-term prospects for recovery. For unrealized losses determined to be the result of market conditions (for example, increasing interest rates and volatility due to conditions in the overall market) or industry-related events, the Company determines whether it intends to sell the debt security or if it is more likely than not that the Company will be required to sell the debt security prior to its anticipated recovery of the debt security's amortized cost basis. If either case is true, the Company recognizes an other-than-temporary impairment, and the cost basis/carrying amount of the debt security is written down to fair value. The risks inherent in assessing the impairment of a debt security include the risk that market factors may differ from projections and the risk that the facts and circumstances factored into the Company's assessment may change with the passage of time. Unexpected changes to market factors and circumstances that were not present in past reporting periods are among the factors that may result in a current period decision to sell debt securities that were not impaired in prior reporting periods.
Vendor Allowances and Purchase Discounts
Pharmacy Services Segment
The Pharmacy Services segment receives purchase discounts on products purchased.
Contractual arrangements with vendors, including manufacturers, wholesalers and
retail pharmacies, normally provide for the Pharmacy Services segment to receive
purchase discounts from established list prices in one, or a combination, of the
following forms: (i) a direct discount at the time of purchase, (ii) a discount
for the prompt payment of invoices or (iii) when products are purchased
indirectly from a manufacturer (e.g., through a wholesaler or retail pharmacy),
a discount (or rebate) paid subsequent to dispensing. These rebates are
recognized when prescriptions are dispensed and are generally calculated and
billed to manufacturers within 30 days of the end of each completed quarter.
Historically, the effect of adjustments resulting from the reconciliation of
rebates recognized to the amounts billed and collected has not been material to
the Company's operating results or financial condition. The Company accounts for
the effect of any such differences as a change in accounting estimate in the
period the reconciliation is completed. The Pharmacy Services segment also
receives additional discounts under its wholesaler contracts if it exceeds
contractually defined purchase volumes. In addition, the Pharmacy Services
segment receives fees from pharmaceutical manufacturers for administrative
services. Purchase discounts and administrative service fees are recorded as a
reduction of cost of products sold.
Retail/LTC Segment
Vendor allowances received by the Retail/LTC segment reduce the carrying cost of
inventory and are recognized in cost of products sold when the related inventory
is sold, unless they are specifically identified as a reimbursement of
incremental costs for promotional programs and/or other services provided.
Amounts that are directly linked to advertising commitments are recognized as a
reduction of advertising expense (included in operating expenses) when the
related advertising commitment is
81
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satisfied. Any such allowances received in excess of the actual cost incurred
also reduce the carrying cost of inventory. The total value of any upfront
payments received from vendors that are linked to purchase commitments is
initially deferred. The deferred amounts are then amortized to reduce cost of
products sold over the life of the contract based upon purchase volume. The
total value of any upfront payments received from vendors that are not linked to
purchase commitments is also initially deferred. The deferred amounts are then
amortized to reduce cost of products sold on a straight-line basis over the life
of the related contract.
There have not been any material changes in the way the Company accounts for vendor allowances or purchase discounts during the past three years.
Inventory
Inventories are valued at the lower of cost or net realizable value using the weighted average cost method.
The value of ending inventory is reduced for estimated inventory losses that have occurred during the interim period between physical inventory counts. Physical inventory counts are taken on a regular basis in each retail store and LTC pharmacy, and a continuous cycle count process is the primary procedure used to validate the inventory balances on hand in each distribution center and mail facility to ensure that the amounts reflected in the consolidated financial statements are properly stated. The Company's accounting for inventory contains uncertainty since management must use judgment to estimate the inventory losses that have occurred during the interim period between physical inventory counts. When estimating these losses, a number of factors are considered which include historical physical inventory results on a location-by-location basis and current physical inventory loss trends. The total reserve for estimated inventory losses covered by this critical accounting policy was$401 million as ofDecember 31, 2019 . Although management believes there is sufficient current and historical information available to record reasonable estimates for estimated inventory losses, it is possible that actual results could differ. In order to help investors assess the aggregate risk, if any, associated with the inventory-related uncertainties discussed above, a ten percent (10%) pre-tax change in estimated inventory losses, which is a reasonably likely change, would increase or decrease the total reserve for estimated inventory losses by approximately$40 million as ofDecember 31, 2019 .
Although management believes that the estimates discussed above are reasonable and the related calculations conform to generally accepted accounting principles, actual results could differ from such estimates, and such differences could be material.
Right-of-Use Assets and Lease Liabilities
The Company determines if an arrangement contains a lease at the inception of a
contract. Right-of-use assets represent the Company's right to use an underlying
asset for the lease term and lease liabilities represent the Company's
obligation to make lease payments arising from the lease. Right-of-use assets
and lease liabilities are recognized at the commencement date of the lease,
renewal date of the lease or significant remodeling of the lease space based on
the present value of the remaining future minimum lease payments. As the
interest rate implicit in the Company's leases is not readily determinable, the
Company utilizes its incremental borrowing rate, determined by class of
underlying asset, to discount the lease payments. The operating lease
right-of-use assets also include lease payments made before commencement and are
reduced by lease incentives.
The Company's real estate leases typically contain options that permit renewals
for additional periods of up to five years each. For real estate leases, the
options to extend are not considered reasonably certain at lease commencement
because the Company reevaluates each lease on a regular basis to consider the
economic and strategic incentives of exercising the renewal options and
regularly opens or closes stores to align with its operating strategy.
Generally, the renewal option periods are not included within the lease term and
the associated payments are not included in the measurement of the right-of-use
asset and lease liability. Similarly, renewal options are not included in the
lease term for non-real estate leases because they are not considered reasonably
certain of being exercised at lease commencement. Leases with an initial term of
12 months or less are not recorded on the balance sheets, and lease expense is
recognized on a straight-line basis over the term of the short-term lease.
For real estate leases, the Company accounts for lease components and nonlease
components as a single lease component. Certain real estate leases require
additional payments based on sales volume, as well as reimbursement for real
estate taxes, common area maintenance and insurance, which are expensed as
incurred as variable lease costs. Other real estate leases contain one fixed
lease payment that includes real estate taxes, common area maintenance and
insurance. These fixed payments are considered part of the lease payment and
included in the right-of-use assets and lease liabilities.
82
--------------------------------------------------------------------------------Long-Lived Asset Impairment
Recoverability of Definite-Lived Assets The Company evaluates the recoverability of long-lived assets, excluding goodwill and indefinite-lived intangible assets, which are tested for impairment using separate tests described below, whenever events or changes in circumstances indicate that the carrying value of such an asset may not be recoverable. The Company groups and evaluates these long-lived assets for impairment at the lowest level at which individual cash flows can be identified. If indicators of impairment are present, the Company first compares the carrying amount of the asset group to the estimated future cash flows associated with the asset group (undiscounted and without interest charges). If the estimated future cash flows used in this analysis are less than the carrying amount of the asset group, an impairment loss calculation is prepared. The impairment loss calculation compares the carrying amount of the asset group to the asset group's estimated future cash flows (discounted and with interest charges). If required, an impairment loss is recorded for the portion of the asset group's carrying value that exceeds the asset group's estimated future cash flows (discounted and with interest charges). The long-lived asset impairment loss calculation contains uncertainty since management must use judgment to estimate each asset group's future sales, profitability and cash flows. When preparing these estimates, the Company considers historical results and current operating trends and consolidated sales, profitability and cash flow results and forecasts. These estimates can be affected by a number of factors including general economic and regulatory conditions, efforts of third party organizations to reduce their prescription drug costs and/or increased member co-payments, the continued efforts of competitors to gain market share and consumer spending patterns. During the year endedDecember 31, 2019 , the Company recorded store rationalization charges of$231 million , primarily related to operating lease right-of-use asset impairment charges. During the year endedDecember 31, 2018 , the Company recognized a$43 million long-lived asset impairment charge, primarily related to the impairment of property and equipment. There were no material impairment charges recognized on long-lived assets in the year endedDecember 31, 2017 . Recoverability ofGoodwill Goodwill represents the excess of amounts paid for acquisitions over the fair value of the net identifiable assets acquired.Goodwill is subject to annual impairment reviews, or more frequent reviews if events or circumstances indicate that the carrying value may not be recoverable.Goodwill is tested for impairment on a reporting unit basis. The impairment test is performed by comparing the reporting unit's fair value with its net book value (or carrying amount), including goodwill. The fair value of the reporting units is estimated using a combination of a discounted cash flow method and a market multiple method. If the net book value (carrying amount) of the reporting unit exceeds its fair value, the reporting unit's goodwill is considered to be impaired, and an impairment is recognized in an amount equal to the excess. The determination of the fair value of the reporting units requires the Company to make significant assumptions and estimates. These assumptions and estimates primarily include the selection of appropriate peer group companies; control premiums and valuation multiples appropriate for acquisitions in the industries in which the Company competes; discount rates; terminal growth rates; and forecasts of revenue, operating income, depreciation and amortization, income taxes, capital expenditures and future working capital requirements. When determining these assumptions and preparing these estimates, the Company considers each reporting unit's historical results and current operating trends; consolidated revenues, profitability and cash flow results and forecasts; and industry trends. The Company's estimates can be affected by a number of factors, including general economic and regulatory conditions; the risk-free interest rate environment; the Company's market capitalization; efforts of customers and payers to reduce costs, including their prescription drug costs, and/or increase member co-payments; the continued efforts of competitors to gain market share and consumer spending patterns. 2019 Goodwill Impairment Test During the third quarter of 2019, the Company performed its required annual impairment test of goodwill. The results of this impairment test indicated that there was no impairment of goodwill as of the testing date. The goodwill impairment test resulted in the fair values of all of the Company's reporting units exceeding their carrying values by significant margins, with the exception of the Commercial Business and LTC reporting units, which exceeded their carrying values by approximately 4% and 9%, respectively. As of theAetna Acquisition Date, the Company added the Health Care Benefits segment which included the Commercial Business reporting unit. The transaction was accounted for using the acquisition method of accounting which requires, among other things, the assets acquired and liabilities assumed to be recognized at their fair values at the date of acquisition. As a result, at the time of the acquisition the fair value of the Commercial Business reporting unit was equal to its carrying value. Given the close proximity of theAetna Acquisition Date to the 2019 annual impairment test of goodwill, as expected, the fair 83 -------------------------------------------------------------------------------- value of the Commercial Business reporting unit remained relatively in line with the carrying value of the reporting unit. In addition, this fair value estimate is sensitive to significant assumptions including changes in the revenue growth rate, operating income and the discount rate. Although the Company believes the financial projections used to determine the fair value of the LTC reporting unit in the third quarter of 2019 were reasonable and achievable, the LTC reporting unit may continue to face challenges that may affect the Company's ability to grow the LTC reporting unit's business at the rate estimated when such goodwill impairment test was performed. These challenges and some of the key assumptions included in the Company's financial projections to determine the estimated fair value of the LTC reporting unit include client retention rates; occupancy rates in skilled nursing facilities; the financial health of skilled nursing facility customers; facility reimbursement pressures; the Company's ability to execute its senior living initiative; the Company's ability to make acquisitions and integrate those businesses into its LTC operations in an orderly manner; and the Company's ability to extract cost savings from labor productivity and other initiatives. The fair value of the LTC reporting unit also is dependent on market multiples of peer group companies and the risk-free interest rate environment, which impacts the discount rate used in the discounted cash flow valuation method. If the Company does not achieve its forecasts, it is reasonably possible in the near term that the goodwill of the LTC reporting unit could be deemed to be impaired by a material amount. As ofDecember 31, 2019 , the remaining goodwill balance in the LTC reporting unit was$431 million . 2018 Goodwill Impairment Tests As discussed in Note 5 ''Goodwill and Other Intangibles'' included in Item 8 of this 10-K, during 2018, the LTC reporting unit continued to experience industry-wide challenges that impacted management's ability to grow the business at the rate that was originally estimated when the Company acquired Omnicare and when the 2017 annual goodwill impairment test was performed. Those challenges included lower client retention rates, lower occupancy rates in skilled nursing facilities, the deteriorating financial health of numerous skilled nursing facility customers which resulted in a number of customer bankruptcies in 2018, and continued facility reimbursement pressures. InJune 2018 , LTC management submitted its initial budget for 2019 and updated the 2018 annual forecast which showed a deterioration in the projected financial results for the remainder of 2018 and in 2019, which also caused management to update its long-term forecast beyond 2019. Based on these updated projections, management determined that there were indicators that the LTC reporting unit's goodwill may be impaired and, accordingly, management performed an interim goodwill impairment test as ofJune 30, 2018 . The results of that interim impairment test showed that the fair value of the LTC reporting unit was lower than the carrying value, resulting in a$3.9 billion pre-tax goodwill impairment charge in the second quarter of 2018. During the third quarter of 2018, the Company performed its required annual impairment tests of goodwill and concluded there was no impairment of goodwill. The goodwill impairment tests showed that the fair values of thePharmacy Services and Retail Pharmacy reporting units exceeded their carrying values by significant margins and the fair value of the LTC reporting unit exceeded its carrying value by approximately 2%. During the fourth quarter of 2018, the LTC reporting unit missed its forecast primarily due to operational issues and customer liquidity issues, including one significant customer bankruptcy. Additionally, LTC management submitted an updated final budget for 2019 which showed significant additional deterioration in the projected financial results for 2019 compared to the analyses performed in the second and third quarters of 2018 primarily due to continued industry and operational challenges, which also caused management to make further updates to its long-term forecast beyond 2019. Based on these updated projections, management determined that there were indicators that the LTC reporting unit's goodwill may be further impaired and, accordingly, management performed an interim goodwill impairment test during the fourth quarter of 2018. The results of that interim impairment test showed that the fair value of the LTC reporting unit was lower than the carrying value, resulting in an additional$2.2 billion pre-tax goodwill impairment charge in the fourth quarter of 2018. In 2018, the fair value of the LTC reporting unit was determined using a combination of a discounted cash flow method and a market multiple method. In addition to the lower financial projections, changes in risk-free interest rates and lower market multiples of peer group companies also contributed to the amount of the 2018 goodwill impairment charges. 2017 Goodwill Impairment Tests The Company recorded$181 million in goodwill impairment charges in 2017 related to the RxCrossroads reporting unit. During the third quarter of 2017, the Company performed its required annual impairment test of goodwill. The goodwill impairment test showed that the fair values of thePharmacy Services and Retail Pharmacy reporting units exceeded their carrying values by significant margins and the fair values of the LTC and RxCrossroads reporting units exceeded their carrying values by approximately 1% and 6%, respectively. OnJanuary 2, 2018 , the Company sold its RxCrossroads reporting unit to McKesson Corporation for$725 million . 84 -------------------------------------------------------------------------------- Recoverability of Indefinite-Lived Intangible Assets Indefinite-lived intangible assets are subject to annual impairment reviews, or more frequent reviews if events or circumstances indicate that their carrying value may not be recoverable. Indefinite-lived intangible assets are tested by comparing the estimated fair value of the asset to its carrying value. If the carrying value of the asset exceeds its estimated fair value, an impairment loss is recognized, and the asset is written down to its estimated fair value. The indefinite-lived intangible asset impairment loss calculation contains uncertainty since management must use judgment to estimate fair value based on the assumption that, in lieu of ownership of an intangible asset, the Company would be willing to pay a royalty in order to utilize the benefits of the asset. Fair value is estimated by discounting the hypothetical royalty payments to their present value over the estimated economic life of the asset. These estimates can be affected by a number of factors including general economic conditions, availability of market information and the profitability of the Company. There were no impairment losses recognized on indefinite-lived intangible assets in any of the years endedDecember 31, 2019 , 2018 or 2017.
Health Care Costs Payable
AtDecember 31, 2019 and 2018, 73% and 67% respectively, of health care costs payable are estimates of the ultimate cost of (i) services rendered to the Company's Insured members but not yet reported to the Company and (ii) claims which have been reported to the Company but not yet paid (collectively, "IBNR"). Health care costs payable also include an estimate of the cost of services that will continue to be rendered after the financial statement date if the Company is obligated to pay for such services in accordance with contractual or regulatory requirements. The remainder of health care costs payable is primarily comprised of pharmacy and capitation payables, other amounts due to providers pursuant to risk sharing agreements and accruals for state assessments. The Company develops its estimate of IBNR using actuarial principles and assumptions that consider numerous factors. See Note 1 ''Significant Accounting Policies'' included in Item 8 of this 10-K for additional information on the Company's reserving methodology. During 2019, the Company observed an increase in completion factors relative to those assumed at the prior year end. After considering the claims paid in 2019 with dates of service prior to the fourth quarter of the previous year, the Company observed assumed incurred claim weighted average completion factors that were 27 basis points higher than previously estimated, resulting in a decrease of$240 million in 2019, in health care costs payable that related to the prior year. The Company has considered the pattern of changes in its completion factors when determining the completion factors used in its estimates of IBNR as ofDecember 31, 2019 . However, based on historical claim experience, it is reasonably possible that the Company's estimated weighted average completion factors may vary by plus or minus 19 basis points from the Company's assumed rates, which could impact health care costs payable by approximately plus or minus$227 million pretax. Also during 2019, the Company observed that health care costs for claims with claim incurred dates of three months or less before the financial statement date were lower than previously estimated. Specifically, after considering the claims paid in 2019 with claim incurred dates for the fourth quarter of the previous year, the Company observed health care costs that were approximately 3.2% lower than previously estimated during the fourth quarter of 2018, resulting in a reduction of$284 million in 2019 in health care costs payable that related to prior year. Management considers historical health care cost trend rates together with its knowledge of recent events that may impact current trends when developing estimates of current health care cost trend rates. When establishing reserves as ofDecember 31, 2019 , the Company increased its assumed health care cost trend rates for the most recent three months by 3.4% from health care cost trend rates recently observed. However, based on historical claim experience, it is reasonably possible that the Company's estimated health care cost trend rates may vary by plus or minus 3.5% from the assumed rates, which could impact health care costs payable by plus or minus$349 million pretax.
Income Taxes
The Company accounts for income taxes using the asset and liability method.
Deferred tax assets and liabilities are established for any temporary
differences between financial and tax reporting bases and are adjusted as needed
to reflect changes in the enacted tax rates expected to be in effect when the
temporary differences reverse. Such adjustments are recorded in the period in
which changes in tax laws are enacted, regardless of when they are effective.
Deferred tax assets are reduced, if necessary, by a valuation allowance to the
extent future realization of those losses, deductions or other tax benefits is
sufficiently uncertain.
Significant judgment is required in determining the provision for income taxes
and the related taxes payable and deferred tax assets and liabilities since, in
the ordinary course of business, there are transactions and calculations where
the ultimate tax outcome is uncertain. Additionally, the Company's tax returns
are subject to audit by various domestic and foreign tax
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authorities that could result in material adjustments based on differing
interpretations of the tax laws. Although management believes that its estimates
are reasonable and are based on the best available information at the time the
provision is prepared, actual results could differ from these estimates
resulting in a final tax outcome that may be materially different from that
which is reflected in the consolidated financial statements.
The tax benefit from an uncertain tax position is recognized only if it is more
likely than not that the tax position will be sustained on examination by the
taxing authorities, based on the technical merits of the position. The tax
benefits recognized in the consolidated financial statements from such positions
are then measured based on the largest benefit that has a greater than 50%
likelihood of being realized upon settlement with the related tax authority.
Interest and/or penalties related to uncertain tax positions are recognized in
the income tax provision. Significant judgment is required in determining
uncertain tax positions. The Company has established accruals for uncertain tax
positions using its judgment and adjusts these accruals, as warranted, due to
changing facts and circumstances.
New Accounting Pronouncements
See Note 1 ''Significant Accounting Policies'' included in Item 8 of this 10-K for a description of new accounting pronouncements applicable to the Company.
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