UPDATE: CVS Caremark 2Q Profit At High End Of Expectations

CVS Caremark Corp. (CVS) reported second-quarter earnings at the high end of its expectations, as the drugstore's four-year-old merger with pharmacy-benefits manager Caremark is beginning to look less like an albatross.

Nonetheless, sales at CVS stores were at the low end of views, especially in the front end of the store, where they barely rose once the benefits of a later Easter are stripped away. In fact, those results fell well behind what Walgreen Co. (WAG), the No. 1 pharmacy in terms of locations, has posted, and even lag behind once-woebegone No. 3 Rite Aid Corp. (RAD), which is starting to show strength after years of deep troubles.

CVS's hybrid business model benefited from increased revenue in its drug-management business. Larry Merlo, recently promoted to chief executive, has pledged to make things right at Caremark and has rebuffed the calls of some company followers to concede that the 2007 merger of CVS and Caremark under the previous regime was a mistake and break them apart.

Caremark has won large contracts, most notably at the expense of competitor Medco Health Solutions Inc. (MHS), which recently agreed to be bought by larger PBM rival Express Scripts Inc. (ESRX) in a deal that Wall Street is pricing as if it has little chance for regulatory approval. Specifically, Caremark will take over the PBM contract for five million federal government workers and also roughly 350,000 members of the California Public Employees' Retirement System.

Though he declined to comment on the chances for approval of the Express Scripts merger with Medco, Merlo said Caremark can compete with that combination and opportunities still exist for Caremark to win more new contracts.

In the short term, at least, Caremark could benefit as its rivals are distracted by trying to win regulatory approval for the deal and then later integrating the businesses.

Merlo said on a conference call to discuss results that last summer's dozen-year deal to provide benefits management for Aetna Inc.'s (AET) roughly 10 million members is "going very well." The deal will crimp profit margins at first, but is expected to get better over time, a result of Caremark's aggressive overtures, which analysts say have been key to garnering all the new business.

CVS, of Woonsocket, R.I., also raised the low end of its per-share earnings guidance for the year, citing "solid results" year to date, continued confidence in the remainder of the year and "incremental" start-up costs from its new drug-management business.

To provide the most accurate view for next year and beyond, Merlo said on the call that CVS will hold its annual analysts day in December, rather than in October as previously scheduled.

For the second quarter, CVS said revenue in its pharmacy-services segment rose 23% to $14.6 billion, thanks to the contract with Aetna and added business from the acquisition of Universal American Corp.'s (UAM) Medicare prescription-drug business.

Meanwhile, revenue from CVS's retail pharmacy segment increased 3.6% to $14.8 billion.

Results from CVS's retail side have improved of late, despite a more cautious consumer environment and higher commodity costs that have driven up the prices of some consumer goods.

For the second quarter, CVS reported earnings of $816 million, or 60 cents a share, down from $821 million, or 61 cents a share, a year earlier. Excluding costs related to acquisitions, the company reported adjusted earnings of 65 cents a share. In May, the company projected adjusted earnings from continuing operations of 63 cents to 65 cents.

Revenue jumped 11% to $26.6 billion as same-store sales increased 2%. Analysts surveyed by Thomson Reuters expected revenue of $26.77 billion. Its gross-profit margin slipped 180 basis points to 19.1% from 20.9% in the year-earlier period.

Pharmacy same store sales rose 2.6% but were hurt by about 170 basis points due to recent generic introductions. So-called front-of-the-store same-store sales increased 0.8%, helped by the shift of sales from the Easter holiday being in the second quarter.

For the year, CVS now projects per-share earnings from continuing operations of $2.55 to $2.61, vs. its earlier forecast of $2.52 to $2.62. Excluding items, the company puts per-share earnings between $2.75 and $2.81, compared with its previous range of $2.72 and $2.82.

CVS shares fell 2.8% Thursday morning to $35.20 apiece and are up 15% over the past year.

--By Maxwell Murphy, Dow Jones Newswires; 212-416-2171; maxwell.murphy@dowjones.com

John Kell and George Stahl contributed to this report.

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