What to do with Cigna (NYSE:CI) dividends
I only have one healthcare stock in my dividend portfolio. Health is a delicate segment. It is competitive, subject to numerous regulations and extremely diverse as it includes healthcare plan providers, drug manufacturers, biotechnology companies, medical device producers and so much more.
One of the companies that came on my radar is the Cigna Corporation (NYSE: CI), an $81 billion market-cap healthcare giant from Bloomfield, Connecticut. This well-diversified company with a 1.8% yield is a promising stock for dividend growth thanks to a very healthy balance sheet, very high free cash flow, high (expected) growth rates and a business model that allows strong secular growth.
In this article, I will share my thoughts on this company, which may be a suitable fit for investors looking for healthcare exposure.
So bear with me!
What is Cigna?
Cigna was officially created in 1982 by the merger of Connecticut General Life Insurance Company and INA Corporation. However, its roots date back to 1792. INA, for example, was one of the few insurance companies to pay all claims after the Chicago fire of 1871.
Fast forward several years, and we’re dealing with one of the largest healthcare companies in America. In 2021, the company achieved 73.4% of its sales thanks to its Evernorth segment, which…
…includes a wide range of coordinated and timely health services and capabilities, as well as those of health system partners, in pharmaceutical solutions, benefits management solutions, care delivery and management solutions and intelligence solutions, which are provided to health insurance plans, employers, government agencies and healthcare providers.
Its Cigna Healthcare segment accounted for 24.3% of total sales in 2021. This segment…
… includes Cigna’s US Commercial, US Government and International Health operating segments that provide comprehensive and coordinated medical solutions to clients and clients. Commercial products and services in the United States include medical, pharmaceutical, behavioral health, dental, vision, health promotion, and other products and services for insured and self-insured customers. US government solutions include Medicare Advantage, Medicare Supplement, and Medicare Part D plans for seniors, as well as individual health insurance plans on and off public exchanges.
Combining all segments, the company sees three growth paths. Fundamental growth covers 60% of its revenue, which includes pharmacy benefit services, commercial sales and growth beyond US borders. In 2021, approximately 97% of total sales were generated domestically.
The accelerated growth aims to increase total revenue, which includes specialty pharmacy, Evernorth care services and enhanced government services, by 40%.
The third path to growth covers all of its sales, as it appears to deepen relationships with suppliers and customers while developing digital capabilities such as analytics and efficiency to increase free cash flow, which I will also cover in this article.
Its clientele is wide. The company covers 2/3 of Fortune 50 companies, seven of the top eight health companies, and it covers the top 10 health plans. The company mentioned that 60% of US health plans use one or more Evernorth services, or 9% of its addressable market. The total addressable market is expected to reach nearly $900 billion.
In addition, in its specialized pharmacy activity, the company covers 600,000 patients and 15 therapeutic resource centers. In this segment, 2% of customers account for more than 50% of total pharmacy spending. In 2022, this is a $190 billion market, which could grow to $260 billion by 2025. The company’s current market share is 25%.
The specialty pharmacy business is covered by its Accredo business, which is part of the Express Scripts acquisition in 2018. At the time, the company purchased the company for $67 billion, approved in August 2018. J I will come back to this later because it has an impact on the company’s dividend. the story.
With this in mind, the company’s business model has (at least) two major advantages. First, it provides the company with a load of cash every year. Second, the company is anything but a slow-growing cash cow, as its finances are in a proper uptrend.
Both points will be discussed in detail in the following segment:
Cigna’s high dividend growth (potential)
I always like to check out the Seeking Alpha Dividend Dashboard because it compares companies to their industry peers. It’s purely based on numbers rather than anyone’s opinion. What we see is an A+ for dividend safety, A- for dividend consistency, and a B+ and B- for dividend growth and dividend yield, respectively.
At this point, it is important that I mention that these notes should be taken with a grain of salt. The acquisition of Express Scripts had a significant impact on the company’s finances and dividends, as shown in the chart below.
The company’s 10-year average annual dividend growth rate is 59%. The 3-year average is 368%. Mathematically it is correct. The problem is that it’s all caused by a jump from $0.04 in 2020 to $4.00 in 2021.
On February 3, 2022, the company increased again. This time from $1.00 per quarter to $1.12 per quarter. That’s $4.48 a year, or 1.8% of the company’s market capitalization.
This means the yield is higher than the 1.4% return of the S&P 500 and CI is not a typical dividend growth stock as it had no dividend growth until 2021.
The good news is that management is committed to returning cash to shareholders through buyouts and dividends. In addition to the aforementioned dividend growth figures, the company has repurchased shares since acquiring Express Scripts in 2019. Since then, the number of shares outstanding has increased from 375.92 million to 337.96 million, which translates into a 10% reduction.
In 2020, the company aims to repurchase at least $7 billion of stock through strategic investments that maintain the company’s double-digit (adjusted) EPS growth track record.
To put that number into perspective, $7 billion represents 8.6% of the company’s market capitalization. That’s an absolutely incredible amount of money to spend on buyouts in a single year.
The company expects to end the year with 310 to 314 million shares outstanding, depending on the timing of international divestments. The acquisition of Express Scripts increased the number of shares outstanding from 246.7 million to 375.9 million.
The reason Cigna is able to increase dividends and repurchase nearly 9% of outstanding stock is because the company is expected to generate $8.2 billion in free cash flow this year. Free cash flow is cash flow from operations minus capital expenditures. This is cash that a company can spend on distributions to shareholders without the need for external funding or its existing cash position.
Again using the market cap of $81 billion, the company has an implied free cash flow yield of 10.1% this year. In other words, it covers both its 1.7% dividend and its aggressive share buybacks.
Additionally, analysts don’t expect the company to prioritize debt reduction anytime soon. The company is expected to end next year with net financial debt of $24.7 billion. This figure could be much lower given the high free cash flow, but it is close to 2.0x EBITDA. In other words, there is no real reason to reduce debt instead of distributing cash to shareholders.
Additionally, the graph above shows how quickly the company’s gearing ratio dropped after the acquisition of Express Scripts in 2018, as it helped the company increase profits and cash flow. associated available cash.
Outperformance and valuation
Let’s get rid of the bad news first. Over the past few weeks, I’ve written extensively about low-volatility dividend growth stocks. Cigna is not a low volatility stock. Since 1985, the stock has returned 12.7% per year (CAGR). It’s a nice result. The S&P 500 returned 10.8% annually. Cigna’s standard deviation is 30.5% compared to a standard deviation of 15.2% for the S&P 500. Cigna has been subject to a number of very large declines. The worst was 78.3%. Consequently, the Sharpe report (volatility-adjusted performance measure) is well below the performance of the S&P 500.
Over the past five years, the company has achieved a return of 11.3% per year. The standard deviation over this period is 27.6%, which means that little has changed if we exclude drawdowns like the Great Financial Crisis.
The good news is that CI shares are not overvalued. Using the company’s market capitalization of $81 billion and net financial debt of $24.7 billion (projected to 2023), we get an enterprise value of approximately $106 billion. That’s 8.8 times next year’s EBITDA estimate of $12.0 billion.
This valuation is in the middle of its valuation range after the 2018 acquisition.
Additionally, the company is expected to end up with a book value of $157.3 per share in 2023. This would imply a price-to-book ratio of 1.63x. Again, it’s “average”.
The Cigna Corporation is a very attractive dividend growth stock. The healthcare provider is not only a free cash flow machine, but it is also well positioned to generate strong earnings growth through its business model. The company is likely to sustain double-digit free cash flow yields in coming years, used to aggressively buy back shares and maintain double-digit dividend growth. Its balance sheet is healthy, which means shareholder returns are a priority.
The only downside is that the company is very volatile. While I have little doubt CI shares will outperform the market, investors should be prepared for continued weakness.
Speaking of weakness, the valuation is fair. This opens the door for investors looking to buy healthcare dividend growth and a 1.8% yield.
(Disagree? Let me know in the comments!