In addition, an aging population and increased use of prescription medication are both tailwinds for the industry. The company has also benefited from the patent cliff, in which a number of branded drugs came off patent and generics were then permitted to be sold. Express Scripts earns higher margins on generics because they are much cheaper than branded drugs.
Express Scripts is a consistent free cash flow producer — each year it turns each dollar of sales into $0.04 in free cash flow. I expect the same level of profitability after the Medco merger, even though it could easily go up due to synergies. At $100 million in sales, a 4% free cash margin equals $4 billion in free cash flow before growth. That’s about an 8.5% yield on the current market capitalization.
However, Express Scripts Holding Company (NASDAQ:ESRX) will probably grow free cash flow at least as fast as GDP — so a 5% growth rate is a good assumption for the medium term. 8.5% current yield plus 5% growth = 13.5% annual return for a stable market leader in an improving industry. At this valuation, Express Scripts is a no-brainer.
The article This Stock Just Solidified Its Dominance originally appeared on Fool.com and is written by Ted Cooper.
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