UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549
FORM 10-Q
Telephone: (401) 765-1500
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yesý No o
Common Stock, $0.01 par value, issued and outstanding at August 7, 2001:391,549,447 shares
INDEX
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CVS CorporationConsolidated Condensed Statements of Operations(Unaudited)
See accompanying notes to consolidated condensed financial statements.
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CVS CorporationConsolidated Condensed Balance Sheets
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CVS CorporationConsolidated Condensed Statements of Cash Flows (Unaudited)
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CVS CorporationNotes to Consolidated Condensed Financial Statements(Unaudited)
Note 1
The accompanying consolidated condensed financial statements of CVS Corporation (“CVS” or the “Company”) have been prepared without audit, in accordance with the rules and regulations of the Securities and Exchange Commission. In accordance with such rules and regulations, certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. These consolidated condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 30, 2000.
In the opinion of management, the accompanying consolidated condensed financial statements include all adjustments (consisting only of normal recurring adjustments) which are necessary to present a fair statement of the Company’s results of operations for the interim periods presented. Because of the influence of various factors on the Company’s operations, including certain holidays and other seasonal influences, net earnings for any interim period may not be comparable to the same interim period in previous years or necessarily indicative of earnings for the full fiscal year.
Certain reclassifications have been made to the consolidated condensed financial statements of prior periods to conform to the current period presentation.
Note 2
The Company currently operates four business segments: Retail Pharmacy, Pharmacy Benefit Management (“PBM”), Specialty Pharmacy and Internet Pharmacy. The Company’s business segments are operating units that offer different products and services, and require distinct technology and marketing strategies.
The Retail Pharmacy segment, which includes 4,082 retail drugstores located in 24 states and the District of Columbia, operates under the CVS/pharmacy name. The Retail Pharmacy segment is the Company’s only reportable segment.
The PBM segment provides a full range of prescription benefit management services to managed care providers and other organizations. These services include plan design and administration, formulary management, mail order pharmacy services, claims processing and generic substitution. The PBM segment operates under the PharmaCare Management Services name.
The Specialty Pharmacy segment, which includes mail order facilities and 48 retail pharmacies located in 19 states and the District of Columbia, operates under the CVS ProCare name. The Specialty Pharmacy segment focuses on supporting individuals that require complex and expensive drug therapies.
The Internet Pharmacy segment, which includes a mail order facility and a complete online retail pharmacy, operates under the CVS.com name.
The Company evaluates segment performance based on operating profit before intersegment profits.
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Following is a reconciliation of the Company’s business segments to the consolidated condensed financial statements for the thirteen and twenty-six weeks ended June 30, 2001 and July 1, 2000 and total assets as of June 30, 2001 and December 30, 2000:
Note 3
Following are the components of net interest expense for the thirteen and twenty-six week periods listed below:
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Note 4
Basic earnings per common share is computed by dividing: (i) net earnings, after deducting the after-tax dividends on the ESOP preference stock, by (ii) the weighted average number of common shares outstanding during the period (the “Basic Shares”).
When computing diluted earnings per common share, the Company assumes that the ESOP preference stock is converted into common stock and all dilutive stock options are exercised. After the assumed ESOP preference stock conversion, the ESOP Trust would hold common stock rather than ESOP preference stock and would receive common stock dividends (currently $0.23 per share) rather than ESOP preference stock dividends (currently $3.90 per share). Since the ESOP Trust uses the dividends it receives to service its debt, the Company would have to increase its contribution to the ESOP Trust to compensate it for the lower dividends. This additional contribution would reduce the Company's net earnings, which in turn, would reduce the amounts that would have to be accrued under the Company's incentive compensation plans. Diluted earnings per common share is computed by dividing: (i) net earnings, after accounting for the difference between the dividends on the ESOP preference stock and common stock and after making adjustments for the incentive compensation plans by (ii) Basic Shares plus the additional shares that would be issued assuming that all dilutive stock options are exercised and the ESOP preference stock is converted into common stock.
Following is a reconciliation of basic and diluted earnings per common share for the thirteen and twenty-six week periods listed below:
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Independent Auditors’ Review Report
The Board of Directors and Shareholders ofCVS Corporation:
We have reviewed the consolidated condensed balance sheet of CVS Corporation as of June 30, 2001, and the related consolidated condensed statements of operations for the thirteen and twenty-six week periods ended June 30, 2001 and July 1, 2000, and cash flows for the twenty-six week periods then ended. These consolidated condensed financial statements are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should be made to the consolidated condensed financial statements referred to above for them to be in conformity with accounting principles generally accepted in the United States of America.
We have previously audited, in accordance with auditing standards generally accepted in the United States of America, the consolidated balance sheet of CVS Corporation as of December 30, 2000 and the related consolidated statements of operations, shareholders’ equity, and cash flows for the fifty-two week period then ended (not presented herein); and in our report dated February 1, 2001 we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated condensed balance sheet as of December 30, 2000, is fairly presented, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
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Management's Discussion and Analysis of Financial Condition and Results of Operations
Introduction
The following discussion explains the material changes in our results of operations for the thirteen and twenty-six weeks ended June 30, 2001 and July 1, 2000 and the significant developments affecting our financial condition since December 30, 2000. We strongly recommend that you read our audited consolidated financial statements and footnotes and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended December 30, 2000.
The following discussion contains forward-looking statements which are subject to risks and uncertainties which could cause actual results to differ materially, please read the “Cautionary Statement Concerning Forward-Looking Statements” section below.
Results of Operations
Second Quarter (Thirteen Weeks Ended June 30, 2001 versus July 1, 2000)
Net salesfor the second quarter of 2001 increased $551.4 million (or 11.2%) to $5.5 billion, compared to $4.9 billion in the second quarter of 2000. Same store sales, consisting of sales from stores that have been open for more than one year, rose 8.3%, while pharmacy same store sales increased 13.2%.
As you review our sales performance, we believe you should consider the following important information:
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Gross marginfor the second quarter of 2001 increased $122.6 million (or 9.2%) to $1.5 billion, compared to $1.3 billion in the second quarter of 2000. Gross margin as a percentage of net sales for the second quarter of 2001 was 26.5%, compared to 27.0% of net sales in the second quarter of 2000.
Why has our gross margin rate been declining?
Total operating expenses for the second quarter of both 2001 and 2000 were 20.3% of net sales.
As you review our total operating expenses, we believe you should consider the following important information:
Operating profitfor the second quarter of 2001 increased $8.1 million (or 2.4%) to $342.0 million, compared to $333.9 million in the second quarter of 2000. Operating profit as a percentage of net sales was 6.2% in the second quarter of 2001, compared to 6.8% in the second quarter of 2000.
Interest expense, net for the second quarter of 2001was $15.1 million, compared to $23.0 million in the second quarter of 2000. Our interest expense totaled $16.1 million in the second quarter of 2001, compared to $24.1 million in the second quarter of 2000. Interest income was $1.0 million in the second quarter of 2001 versus $1.1 million in the second quarter of 2000. Our interest expense decreased due to a combination of lower average interest rates and lower average borrowing levels during the second quarter of 2001.
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Income tax provision ~ Our effective income tax rate was 39.4% for the second quarter of 2001, compared to 40.0% for the second quarter of 2000. The decrease in our effective income tax rate was primarily due to lower state income taxes and a decrease in the amount of goodwill amortization that is not deductible for income tax purposes.
Net earningsfor the second quarter of 2001 increased $11.5 million (or 6.2%) to $198.0 million, or $0.48 per diluted share, compared to $186.5 million, or $0.46 per diluted share, in the second quarter of 2000.
Six Months (Twenty-Six Weeks Ended June 30, 2001 versus July 1, 2000)
Net salesfor the first six months of 2001 increased $1.2 billion (or 12.4%) to $10.9 billion, compared to $9.7 billion in the first six months of 2000. Same store sales, consisting of sales from stores that have been open for more than one year, rose 9.8%, while pharmacy same store sales increased 15.3%. Pharmacy sales were 67% of total sales in the first six months of 2001, compared to 62% in the first six months of 2000. Third party prescription sales were 91% of pharmacy sales during the first six months of 2001, compared to 89% in the first six months of 2000. See “Second Quarter” above for further information about the factors that affected our net sales.
Gross marginfor the first six months of 2001 increased $276.0 million (or 10.5%) to $2.9 billion, compared to $2.6 billion in the first six months of 2000. Gross margin as a percentage of net sales for the first six months of 2001 was 26.8%, compared to 27.2% of net sales in the first six months of 2000. See “Second Quarter” above for further information about the factors that affected our gross margin as a percentage of net sales.
Total operating expenses for the first six months of 2001 were 20.1% of net sales, compared to 20.3% of net sales in the first six months of 2000. During the first six months of 2001, we received $46.8 million of settlement proceeds from lawsuits alleging antitrust law violations by certain manufacturers of brand name prescription drugs. We elected to contribute the entire $46.8 million in settlement proceeds to the CVS Charitable Trust, Inc. to fund future charitable giving. As a result, the net effect of these two nonrecurring items had no impact on our net earnings for the first six months of 2001. See “Second Quarter” above for further information about the factors that affected our total operating expenses.
Operating profitfor the first six months of 2001 increased $54.6 million (or 8.2%) to $723.4 million, compared to $668.8 million in the first six months of 2000. Operating profit as a percentage of net sales was 6.6% in the first six months of 2001, compared to 6.9% in the first six months of 2000.
Interest expense, net for the first six months of 2001was $30.8 million, compared to $39.1 million in the first six months of 2000. Our interest expense totaled $33.1 million in the first six months of 2001, compared to $41.1 million in the first six months of 2000. Interest income was $2.3 million in the first six months of 2001 versus $2.0 million in the first six months of 2000. Our interest expense decreased due to a combination of lower average interest rates and lower average borrowing levels during the first six months of 2001.
Income tax provision ~ Our effective income tax rate was 39.4% for the first six months of 2001, compared to 40.0% for the first six months of 2000. The decrease in our effective income tax rate was primarily due to lower state income taxes and a decrease in the amount of goodwill amortization that is not deductible for income tax purposes.
Net earningsfor the first six months of 2001 increased $41.9 million (or 11.1%) to $419.7 million, or $1.02 per diluted share, compared to $377.8 million, or $0.93 per diluted share, in the first six months of 2000.
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Liquidity ~ Our primary sources of liquidity are cash provided by operations, commercial paper and long-term borrowings. We may also elect to use other financing sources in the future to support our continued growth.
Our commercial paper program is supported by a $650 million, five-year unsecured revolving credit facility which expires on May 30, 2006 and a $650 million, 364-day unsecured revolving credit facility, which expires on May 30, 2002. As of June 30, 2001, we had $479.5 million of commercial paper outstanding at a weighted average interest rate of 3.9%.
Our credit facilities and unsecured senior notes contain customary restrictive financial and operating covenants. We do not believe that the restrictions contained in these covenants materially affect our financial or operating flexibility.
We believe that our cash on hand and cash provided by operations, together with our ability to obtain additional short-term and long-term financing, will be sufficient to cover our working capital needs, capital expenditures and debt service requirements for at least the next twelve months.
On March 6, 2000, the Board of Directors approved a common stock repurchase program, which allows the Company to acquire up to $1 billion of its common stock, in part, to fund employee benefit plans. The Company had no repurchase activity during the first or second quarter of 2001. Following the end of the second quarter of 2001, the Company repurchased 2.6 million shares of common stock at an aggregate cost of $99.8 million. From the inception of the program through August 7, 2001, the Company repurchased 7.3 million shares of common stock at an aggregate cost of $263.0 million.
Net Cash Used in Operations ~ Net cash provided by operations increased $143.2 million to $127.0 million in the first six months of 2001. This compares to net cash used in operations of $16.2 in the first six months of 2000. The improvement in net cash provided by operations was primarily the result of higher net earnings and improved working capital management.
Capital Expenditures ~ Our additions to property and equipment totaled $275.8 million during the first six months of 2001, compared to $306.4 million during the first six months of 2000. During the second quarter, we opened 16 new stores, relocated 24 stores and closed 13 stores. Year-to-date, we opened 30 new stores, relocated 48 and closed 33. During the remainder of fiscal 2001, we plan to open approximately 180 new or relocated stores. As of June 30, 2001, we operated 4,130 retail and specialty pharmacy stores in 31 states and the District of Columbia, compared to 4,082 stores as of July 1, 2000.
The Company currently intends to continue to finance a portion of its new store development program through sale-leaseback transactions. Although the Company has previously confined its sale-leaseback activity to new store development projects, management is currently considering a sale-leaseback transaction involving certain of its distribution centers. Proceeds from the transaction would be used to fund additional new store construction. The Company anticipates the transaction could be finalized during the third quarter. The Company cannot, however, guarantee that the transaction will be completed on terms and in a time frame satisfactory to the Company.
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Recent Accounting Pronouncements ~ In June 2001, the Financial Accounting Standard Board issued two new pronouncements; Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 141, which is effective for acquisitions initiated after June 30, 2001, prohibits the use of the pooling-of-interest method for business combinations and establishes the accounting and financial reporting requirements for business combinations accounted for by the purchase method. SFAS No. 142, addresses financial accounting and reporting for acquired goodwill and other intangible assets. Except for goodwill and intangible assets acquired after June 30, 2001, which are subject immediately to the provisions of SFAS No. 142, this statement is effective for fiscal years beginning after December 15, 2001.
We are currently in the process of determining the impact these pronouncements will have on our consolidated financial statements.
Cautionary Statement Concerning Forward-Looking Statements ~ Certain statements in this Form 10-Q (as well as in our other public filings, web site, press releases and oral statements made by Company management and/or representatives), constitute forward-looking statements, which are subject to risks and uncertainties. Forward-looking statements include information concerning:
In addition, statements that include the words “believes”, “expects”, “anticipates”, “intends”, “estimates” or similar expressions are forward-looking statements. For all of these statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.
You should understand that the following important factors, in addition to those discussed elsewhere in this report and in the documents which are incorporated by reference (and in our other public filings, press releases and oral statements made by Company management and/or representatives), could cause actual results to differ materially from those expressed in the forward-looking statements.
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What Factors Could Affect the Outcome of Our Forward-Looking Statements?
Industry and Market Factors
Operating Factors
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Quantitative and Qualitative Disclosures About Market Risk
The Company has not entered into any transactions using derivative financial instruments or derivative commodity instruments and believes that its exposure to market risk associated with other financial instruments, principally interest rate risk inherent in its debt portfolio, is not material.
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Submission of Matters to a Vote of Security Holders
The following matters were submitted to a vote of security holders at our Annual Meeting of Stockholders, which was held on Wednesday, April 18, 2001 in Woonsocket, Rhode Island:
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Exhibits and Reports on Form 8-K
Exhibits:
Reports on Form 8-K:
There were no Reports on Form 8-K filed during the second quarter of 2001.
Signatures:
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Quarterly Report on Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized.
CVS Corporation(Registrant)
David B. RickardExecutive Vice Presidentand Chief Financial OfficerAugust 14, 2001
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