2004 Annual Report
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2004 Annual Report |
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To Our Shareholders:
The past year has been a rewarding one at CVS. While continuing to build on our solid core business, we made a significant purchase that positions us for even stronger performance in the years ahead. Our acquisition of 1,268 Eckerd stores gives us a substantial presence in the high-growth Florida and Texas markets. Moreover, the addition of Eckerd Health Services (EHS) to our PharmaCare subsidiary makes us the fourth-largest full-service pharmacy benefits manager (PBM) in the United States, significantly broadening the diversity of our client base and enhancing our competitive position. We knew that executing our organic growth strategy while integrating the Eckerd acquisition would seem to be an ambitious undertaking to many outside CVS. However, as the opening pages of this report reveal, challenges like these are really all in a day's work for our experienced management team and CVS colleagues across the country. We know what it takes to implement "CVS easy," improve customer satisfaction, open new stores, and drive productivity, and we aim to excel at doing all of them virtually every hour of every day in every store. Enjoying strong sales and earnings growth Before discussing our activities in more detail, let me review the good news regarding our 2004 results. Driven by the strength of our existing business and the addition of the former Eckerd assets, sales rose 15.1 percent to a record $30.59 billion. Diluted earnings per share were $2.20, including a one-time, non-cash tax benefit of 14.5 cents as well as a one-time, non-cash negative adjustment of 10 cents relating to a change in accounting practices for leases. The acquisition diluted per-share earnings by 16 cents, and we also had one less week included in our 2004 results compared to 2003. Investors have responded enthusiastically to our ongoing success and to our prospects following the acquisition. CVS stock produced a 25.5 percent total return to shareholders in 2004. That number far exceeded the returns of the S&P 500 Index, the S&P Retail Index, and the chain drug industry. Our balance sheet remains among the strongest in the industry, as evidenced by our A– debt rating from Standard & Poor's and our A3 rating from Moody's Investor Services. Our continued financial strength allowed us to announce a 9 percent dividend increase in the first quarter of 2005. Same-store sales grew 5.5 percent, excluding the acquired stores, with pharmacy same-store sales up 7.0 percent. Our pharmacy business continues to gain share and now has 13.5 percent of the U.S. retail pharmacy market. Meanwhile, front-end same-store sales climbed 2.3 percent. We gained significant retail share in all our key front-end categories, especially photo, cosmetics, skin care, candy, and healthcare. With CVS proprietary products such as Nuprin healthcare products, the first disposable digital camera with color preview, and other new CVS private label and exclusive brands, we continued to differentiate our offerings. Rapidly integrating our new businesses; expanding in high-growth markets I'm happy to report that the Eckerd integration is proceeding faster than any large-scale integration in our industry's history. Thanks to the talents of our management team, their experience with prior acquisitions, and our state-of-the-art technology, we've already put the greatest risks associated with the integration behind us. We completed the migration of all financial and store systems by Thanksgiving, less than four months after closing the deal and ahead of our end-of-year target. We had to close only 160 former Eckerd stores in 2004, fewer than anticipated, and our infrastructure is now supporting the remaining 1,100-plus stores. We have re-merchandised every location to the CVS product mix and planogram and have significantly lowered everyday prices on over 5,000 items. More than 300 locations now look like CVS stores inside and out. We have ramped up our remodeling effort and expect to complete the entire conversion by July 2005. As we complete remodeling by market, we will hold special events to re-introduce the stores to customers. Once completed, we should be well positioned to reap the benefits of a sales turnaround. Furthermore, we see tremendous opportunities for margin improvement as we bring our operating capabilities and technology to bear. In fact, we expect the acquisition to add 15-20 cents to earnings per share in 2005 based largely on productivity gains. The addition of EHS was also a key factor in the acquisition. It gives us the unmatched combination of a PBM covering 30 million lives, the industry's leading retail presence, and a specialty pharmacy offering. As a result, we are strategically positioned to provide all payors—patients, insurers, managed care companies, and employers alike—with a complete and flexible pharmacy solution. Our core PharmaCare business is growing, with the EHS integration progressing well as we focus on retaining clients and gaining new ones. (Click here to read more about our PharmaCare opportunity here.) Even as we were busy integrating Eckerd assets, CVS maintained a brisk pace of new store openings in 2004. We opened 225, with net unit growth of 88 stores factoring in relocations and closings. As a result, square footage grew 3.4 percent. With the acquired stores, retail square footage increased 33 percent. Virtually all our net growth took place in newer CVS markets such as Texas, Florida, Phoenix, Las Vegas, and Chicago. We opened our first stores in Los Angeles and Orange County, California, as well as Minneapolis. All these markets boast faster-than-average growth among the 55 and over population, a demographic that uses three times as many prescription drugs as people under 55. Leveraging our "CVS easy" efforts As with any CVS location, the success of the converted Eckerd stores will be driven in part by our ability to make the customer shopping experience "CVS easy." Former Eckerd customers are providing us with very positive feedback on this front. They appreciate the ease with which they get into and out of our stores, the extended hours we've added at 80 percent of the acquired stores, and the addition of 180 24-hour locations. As for location, the overwhelming majority of the acquired Eckerd properties were already well situated. We've completed our ExtraCare® rollout at the acquired stores. With more than 50 million cardholders, ExtraCare is the largest and most successful retail loyalty program in the U.S. Now former Eckerd customers in the South are enjoying advertised discounts without the hassle of clipping coupons. They are also reaping the benefits of the ExtraBucks™ cash rewards that come with their sales receipts each quarter. These are just a few examples of "CVS easy" in action, and we continue to look for ways to further improve our customer experience. Robust pipeline and new generics to help drive future growth We are seeing a temporary slowdown in industry prescription growth, which is due to a number of factors. They include the slow pace of new drug approvals, higher co-pays and growing co-insurance arrangements, Rx to over-the-counter switches, and the growth in mandatory mail order plans. However, ours is still a growth industry. Pharmaceutical and biotech companies are hard at work discovering new drugs, and $40-$50 billion worth of branded drug sales will come off patent by 2008. Generic equivalents will make these medications less expensive and more accessible to a larger population. Furthermore, prescription drugs often remain the most cost-effective form of healthcare delivery, reducing the need for hospitalization and surgery and getting people back to work sooner. The Medicare Prescription Drug, Improvement and Modernization Act of 2003 will go into effect in January 2006, and we expect to be significant participants in delivering this new benefit through our retail stores as well as our PBM. Although we expect it to put some pressure on margins, this program should prove to be a net positive for CVS. By making prescription drugs more affordable to millions of senior citizens, this new benefit should increase their utilization. Before signing off, I want to thank the more than 145,000 colleagues who focus on our "CVS easy" mission every day they come to work. Some have been with CVS for many years. Others—like the experienced and valued former Eckerd employees—are relatively new to our company. Together their efforts made this company stronger in 2004. I also want to acknowledge the work of our talented and engaged board of directors, in particular the late Terry Lautenbach. Everyone at CVS held Terry in high regard for his keen intellect. I valued the wise counsel he gave our company and me personally during his tenure on our board, and his sudden death has been a great loss. On a happier note, Hasbro President and CEO Alfred Verrecchia joined our board in September, and we've quickly put the financial and operational skills of this seasoned executive to work on your behalf. With 2005 well underway, we have good reason to feel confident. Our core business is thriving and the integration of the acquired Eckerd businesses is proceeding smoothly. Our focus on new markets provides a valuable engine for growth. In unlocking the value of the former Eckerd stores, we have a great opportunity to improve their profitability and gain market share. Our retail and PBM strengths also leave us uniquely positioned in our industry. Although we don't have a silver bullet to address all of today's healthcare challenges, our ability to offer flexible solutions for payors can help lead the way to improving pharmaceutical healthcare in this country. Moreover, I believe that we can help payors control costs without compromising patient care. On behalf of the entire management team, you can trust that we will continue to work hard around the clock, putting your capital to its best possible use. Thank you for investing in CVS. |
Chairman, President, and CEO Tom Ryan | |
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Chairman of the Board, President, and Chief Executive Officer March 8, 2005 back to top |
