Q: What does the future hold for my CVS Corp. shares? -- K.T., via the Internet
A: The future looks bright in a rapidly consolidating drugstore industry in which it is a leader.
But it is a fiercely competitive field.
CVS, with more than 6,000 stores, has yet to match the profitability per store of traditional rival Walgreen Co. It is actively replacing many stores within strip malls with more profitable freestanding corner locations to try to narrow that profitability gap.
Meanwhile, discount retailer Wal-Mart Stores Inc. recently rolled out a plan in Florida offering many generic drugs for $4 a prescription. It is expanding that strategy to other states, and neither CVS nor Walgreen has matched it.
CVS definitely hasn't been standing still. This aggressive acquirer recently agreed to buy pharmacy-benefits manager Caremark Rx Inc. in a stock deal worth about $21 billion. The resulting CVS/Caremark would have $75 billion in annual sales and manage a billion prescriptions annually, which is more than one-fourth of the U.S. total.
That shocker of a deal is being watched closely for its impact on the nation's health-care delivery system. CVS already has a small pharmacy-benefits manager and Walgreen has been building its own.
Third-quarter earnings at CVS rose 12 percent, aided by its acquisition of 701 Savon and Osco drugstores in June. Sales at existing stores have been on the rise. Caremark Rx earnings increased 25 percent thanks to additional Medicare services revenue.
Shares of CVS (CVS) are up 3 percent this year following gains of 17 percent last year, 25 percent in 2004 and 45 percent in 2003.
Because it derives 70 percent of sales from dispensing pharmaceuticals, CVS should benefit from growing needs of aging Baby Boomers and the Medicare prescription drug benefit. It has been increasingly successful in using prescription sales to drive purchases of more profitable merchandise such as health and beauty products, groceries and toiletries.
Consensus Wall Street rating of CVS shares is a "buy," according to Thomson Financial. That consists of six "strong buys," six "buys" and seven "holds."
Earnings are expected to rise 12 percent this year versus 10 percent projected for the drugstore industry. Next year's forecast of 23 percent compares to 15 percent expected industrywide. The five-year annualized return of 15 percent exceeds the 13 percent projected for its peers.
Thomas Ryan, chairman, chief executive and president of CVS, began his career at the company as a pharmacist, worked his way through the ranks and owns a significant amount of the firm's shares.
Q: Does purchase of shares of Federated Capital Appreciation Fund make sense right now? -- L.R., via the Internet
A: This fund has undergone significant change at the top in an attempt to improve performance. It may be a bit early to invest.
Carol Miller, with more than two decades of experience in institutional management, became lead portfolio manager a year ago. Former lead manager David Gilmore stepped aside and remains with the fund as a co-manager.
Miller reduced the number of portfolio holdings from 64 to 52 while shifting out of many mega-cap stocks such as Wal-Mart Stores Inc. and Pfizer Inc. in order to buy faster-growing companies.
Gilmore had the misfortune of owning stocks of giant firms during a period in which mega-caps underperformed. But it remains to be seen whether they are poised for resurgence just as this fund has eased out of them.
The $2.2 billion Federated Capital Appreciation Fund (FEDEX) is up 13 percent the past 12 months to rank in the upper one-fifth of large growth and value funds. Its three-year annualized return of 10 percent puts it in the lowest one-fifth of its peers.
"We're not recommending this fund due to the manager shakeup, which has included a new lead manager being named and strategy changes that we're not entirely sure about," said Reginald Laing, analyst with Morningstar Inc. in Chicago. "It is also increasing its risk by lowering the number of holdings in the portfolio and moving toward smaller companies."
Federated Capital Appreciation Fund employs quantitative modeling, fundamental analysis and macroeconomic forecasting. It makes bigger bets on companies that look good based on all of those measures. It reduced its financial-services holdings in the belief that declines in deposits and loans will hurt big banks.
More than 20 percent of the portfolio is in health care, with industrial materials, energy and financial services its other significant concentrations. Largest holdings were recently American International Group, Exxon Mobil, Altria Group, AT&T, United Technologies, Northrop Grumman, Forest Laboratories, Diageo, McKesson and AstraZeneca.
This 5.5 percent "load" (sales charge) fund requites a $1,500 minimum initial investment and has an annual expense ratio of 1.22 percent.
Q: What does diluted and undiluted mean in earnings? I've heard both used and it confuses me. -- F.M., via the Internet
A: Companies report both, which is potentially confusing for investors. Keep in mind that they do represent significantly different measures.
Basic undiluted earnings per share represent the total earnings per share based on the number of shares outstanding at the time. On the other hand, diluted earnings per share represent the result if all stock options, warrants and convertibles were to be exercised.
The diluted earnings will therefore never be larger than the undiluted earnings.
"Diluted earnings assume the worst-case scenario and are the less lenient and more conservative of the two measures because they take into account the eventuality of what could happen," said Stephen Biggar, vice president of equity research at Standard & Poor's in New York. "We ignore the basic and go with the diluted."
Various publications emphasize either undiluted or diluted earnings in their stories. There's nothing wrong with that, since each measure is correct in its own right. But current undiluted earnings should always be compared directly to past undiluted earnings, just as diluted should be compared only to diluted.
Andrew Leckey is a Tribune Media Services columnist. E-mail him at email@example.com.