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Express Scripts

Express Scripts. Ian Johnston. ESRX Background. PBM – Processes prescriptions for groups that pay for drugs (insurance companies or corporations) Services Processing prescriptions Mail-order pharmacy Negotiating lower prices with drug makers and sellers Formulary management

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Express Scripts

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  1. Express Scripts Ian Johnston

  2. ESRX Background • PBM – Processes prescriptions for groups that pay for drugs (insurance companies or corporations) • Services • Processing prescriptions • Mail-order pharmacy • Negotiating lower prices with drug makers and sellers • Formulary management • Pass on cost savings to customers and take a cut

  3. Presentation outline • Adjusting Enterprise Operations • Inventory Method • Operating Leases • Special Purpose Entities • Share-Based Compensation

  4. Inventory Method Since ESRX inventories are already reported using FIFO, no adjustment is necessary.

  5. Leases • Financial statements of two companies that engage in operating vs. capital leases are not comparable • Need to capitalize operating leases and add them to the balance sheet to improve comparability • FASB/IASB exposure draft agrees with this principle • It is expected that most leases will qualify as on-balance sheet after the change is implemented

  6. Operating Leases Footnote • Present value of minimum capital lease payments is $42 million • Using IRR formula, implicit rate of return is 1.65% • Next step: discount operating lease payments using 1.65%

  7. Capitalization of Operating Leases • Procedure: discount operating lease obligations using 1.65% • Present value of minimum lease payments: $345.82 million

  8. Effect on Balance Sheet and Income Statement • $23.42 million adjustment to EPAT is due to the removal of rent expense and addition of depreciation expense. • $3.59 million adjustment to FEAT is due to interest expense from the lease obligation.

  9. Effect on Ratios • Summary: • EPM increased due to EPAT increase • EATO decreased due to addition to NEA • RNEA remained constant (EPAT increase offset by NEA increase) • ROE increased due to positive adjustment to net income • Small amount of operating leases has little effect on financials

  10. SPEs • ESRX does not disclose any off-balance sheet entities that would qualify as SPEs • No addition to balance sheet or income statement needed • If they did have SPEs with significant unconsolidated financial information, such information would need to be added to the financial statements • Main effects of addition would be on cost of debt capital and liquidity

  11. Share-Based Compensation • Adjustments are needed to: • Recognized additional liability due to outstanding options based on difference between current market and exercise price • Recognize additional compensation (both EPAT and FEAT components) due to difference between US GAAP expense and actual expense • Difference is due to measurement of expense at grant date vs. measurement after options have vested

  12. Footnote Disclosure

  13. Transforming Footnote to Adjustments • Steps to estimate expense: • Compute value of exercisable options at BOY • Using BOY share price • Using EOY share price • 3. Estimate value of ESOs exercised during current year • 4. Estimate value of ESOs cancelled during current year • 5. Compute value of options exercisable at EOY • 6. Compute estimated additional share-based compensation expense • 7. Adjust NFL, EPAT, and FEAT

  14. Step 1 Value of options exercisable at beginning of year: $568.67 million

  15. Step 2 Value of option exercisable at beginning of year using end of year prices: $905.40 million

  16. Step 3 Estimated value of exercised options: $370.40

  17. Step 4 Value of options cancelled during the year: $8.82 million

  18. Step 5 Value of options exercisable at end of year: $710.53

  19. Step 6 Share based compensation: $184.35 million This amount is added as compensation expense and deducted from EPAT

  20. Step 7 Adjust NFL, EPAT, and FEAT Effects of adjustments:

  21. Conclusion • Inventory Method • No adjustment needed- already FIFO • Operating Leases • Capitalized and put on balance sheet, but small number of leases has little effect on NEA and EPAT • SPEs • None to worry about • Share Based Compensation • Compensation expense decreased EPAT by 8.2% • Significantly affected the financial statements

  22. Questions?

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