Acquired by Express Scripts in 2011, Medco was a pharmacy benefit management company.
A company creates wealth for its long-term shareholders in 2 main ways - through dividend payments and through the accumulation of retained earnings. This graph shows the accumulation of per-share equity of long-term shareholders (green bars), which consists of the retained earnings plus all capital invested in the company, and the cumulative dividends the company has paid over time per share of its stock (blue bars).
In the words of Warren Buffett: "We're looking for... businesses earning good returns on equity while employing little or no debt."
Return on equity is a key metric of financial performance, indicating a company's ability to generate earnings using shareholder capital. Over time, ROE is one of the major determinants of the rate at which a company creates shareholder wealth. The average ROE for large U.S. companies is 12%, and many investors use it as a threshold for attractive investments.
Companies can boost ROE by increasing leverage, which reduces the safety of the investment. Therefore, it is useful to look at the return on assets (ROA), which measures a company's earning power regardless of its capital structure. A widening gap between ROE and ROA may be a warning sign that should be thoroughly investigated.
Earnings per share is a popular metric used to value a company (using P/E ratio); growth in EPS is often used to judge company growth potential. However, many investors believe that EPS is an inferior metric to ROE, because it ignores the amount of capital the company used to generate earnings.
Free cash flow shows how much cash a company generates from operations, above and beyond what is required to maintain or expand its productive assets. This cash can be returned to investors, or spent by management on growing the company or paying back its debts.
Balance sheets of many companies contain intangible assets such as goodwill, trademarks, patents, etc. Many investors consider intangibles more difficult to value than physical assets. If intangible assets had been valued incorrectly, they must be impaired, resulting in a loss charged against shareholder equity. This chart demonstrates the potential loss to shareholder equity from such impairments.
Companies often use debt financing to increase their return on equity. However, as the amount of debt financing increases relative to the amount of equity financing, the company becomes more sensitive to down turns and other negative events. As a result, many investors use the ratio of debt to equity as a measure of a company's financial risk, and avoid companies that have this ratio above 1.
This chart shows shareholder equity as a percentage of total assets, allowing investors to judge the overall leverage. Companies with a higher proportion of equity can be viewed as safer investments. This metric is particularly important for highly leveraged institutions, such as banks, where it must be at least 4% according to government regulations.
The ratio of current assets to current liabilities is known as the current ratio. This metric is a quick measure of the company's ability to pay its short-term obligations. A current ratio below 1 is a warning sign that should be investigated, especially for companies that cannot count on adequate cash flow from operations.
This chart shows the cumulative dilution of investor ownership in a company over time. Dilution reduces an investor's participation in the future earnings. Dilution increases when a company issues new shares, and decreases when a company buys its shares back. Many investors avoid companies with large chronic dilution.
analysis provides insight into factors affecting the Return On Equity of a company.
The DuPont equation decomposes ROE as follows:
ROE = (Net margin) * (Asset turnover) * (Asset to equity ratio)
Net margin indicates operating efficiency, Asset turnover measures the total asset use efficiency, and the Asset to equity ratio is a measure of financial leverage.
The dividend payout ratio tells investors what percentage of earnings a company returns to shareholders, and what percentage it retains and reinvests. This ratio represents a major capital allocation decision by the company, and can be used to judge management rationality. Rational management should pay out all earnings that cannot be productively reinvested. Therefore, a low dividend payout ratio for a profitable company with a low growth potential may be a warning sign.
Many investors use the P/B ratio as a quick way of judging company valuation. Value investors - followers of Graham and Dodd - specifically seek out companies with low P/B ratios. However, investors should be careful not to make investment decisions on this metric alone, without considering a company's earning and growth potential, since a low P/B ratio can be a sign of a bleak future for the business.
P/E ratio is a popular way of making a quick judgment of a company valuation. Value investors - followers of Graham and Dodd - often seek solid companies with low P/E ratios as investment opportunities. However, P/E ratio represents an oversimplified approach to business valuation, and can often lead to incorrect investment decisions.
On August 18, 2005, the Company acquired all of the outstanding common stock of Accredo. Accredo offers a limited number of high cost drugs that are primarily injectable for the recurring treatment of chronic and potentially life threatening diseases. Accredo's services include specialty pharmacy, clinical, delivery and reimbursement services. Accredo primarily provides overnight, temperature-controlled delivery of all drugs and supplies necessary for patients to self-administer their drug dosages safely and effectively in the privacy of their homes. Accredo shareholders received $22.00 in cash plus 0.49107 of a share of Medco common stock for each outstanding share of Accredo common stock. Approximately 24 million shares of Medco common stock were issued in connection with the acquisition. The aggregate purchase price amounted to $2.4 billion, including $1.2 billion in Medco common stock, $1.1 billion in cash and $0.1 billion of converted options.
On October 31, 2007, the Company acquired all of the outstanding common stock of PolyMedica for $1.3 billion in cash. PolyMedica is a leading provider of diabetes care through its Liberty brand, including blood glucose testing supplies, prescriptions and related services. Previously in 2006, Medco formed a multi-pronged alliance with PolyMedica, enabling Medco to become the direct mail dispensing pharmacy for their members, and provide PolyMedica's Medicare Part B solution to Medco clients. This acquisition supports the Company's ability to deliver advanced, specialized pharmacy services by treating patients at the disease level. Under the terms of the Agreement and Plan of Merger dated August 27, 2007, PolyMedica shareholders received $53 in cash for each outstanding share of PolyMedica common stock. The Company funded the transaction on October 31, 2007 through a combination of bank borrowings from its existing $2 billion revolving credit facility and cash on hand.
Since 2005, when we commenced our first share repurchase program, we have executed share repurchases of 279.3 million shares at a cost of $12.5 billion and at an average per-share cost of $44.76 through the end of the second fiscal quarter of 2011. In February 2011, our Board of Directors approved a new $3 billion share repurchase program, authorizing the purchase of up to $3 billion of our common stock over a two-year period commencing February 24, 2011. During the second quarter of 2011, we repurchased 9.6 million shares at a cost of $600 million with an average per-share cost of $62.44, and during the six months of 2011, we repurchased 23.1 million shares at a cost of $1,436.6 million with an average per-share cost of $62.33 under our share repurchase programs. Pursuant to Merger Agreement with Express Scripts, we are not permitted to engage in share repurchases without Express Scripts' prior written consent until the consummation of the Mergers or the termination of the Merger Agreement. Currently, we do not anticipate making additional share repurchases.
On July 20, 2011, we entered into a definitive Merger Agreement with Express Scripts, Inc. Subject to the terms and conditions set forth in the Merger Agreement, upon the closing of the transaction, each share of Medco common stock will be converted into the right to receive $28.80 in cash and 0.81 shares of New Express Scripts. Upon closing of the transaction, Express Scripts' shareholders are expected to own approximately 59% of the combined company and Medco's shareholders are expected to own approximately 41%.