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Updated: 22-Apr-24 13:37 ET
Cardinal Health's OptumRx (UNH) contract to expire this June; triggers selling pressure today (CAH)

Cardinal Health (CAH -5%) shares become frail, flirting with 2024 lows after the pharmaceutical drug wholesaler announced its distribution contracts with OptumRx (UNH) would not be renewed. Instead, they will expire at the end of June. The Optum contract was a lingering uncertainty ahead of today's news. Management had no updates on the development in February, only remarking that Optum was a long-standing customer.

Optum is not just a long-standing customer but a significantly lucrative one for CAH, worth over $30 bln for the company in 2023, making the loss quite meaningful. CAH still reaffirmed its adjusted FY24 EPS outlook of $7.20 to $7.35 as well as its long-term (FY24-FY26) profitability targets, such as its +12-14% consolidated adjusted EPS CAGR and +4-6% segment profit CAGR within its Pharmaceutical and Specialty Solutions segment.

However, CAH did not discuss its previous revenue growth projection of +10-12%. As a result, analysts are likely adjusting their models today to compensate for the potential loss of revenue due to the expiring Optum contracts.

  • At over $30 bln, sales to OptumRx comprised 16% of CAH's FY23 (Jun) revs, 90% of which serviced CAH's Pharmaceutical Distribution division. Without the OptumRx contracts, this division will take a severe hit and reduce the diversity of its customer base, placing more reliance on the company's other large distribution customers, such as CVS Health (CVS) and Kroger (KR).
  • While encouraging, CAH's reiterated profitability targets are not as meaningful as they appear, as total sales to OptumRx generate a significantly lower operating margin than CAH's overall Pharmaceutical and Specialty Solutions segment.
  • CAH noted that it should continue producing adjusted free cash flow of around $2.0 bln on average from FY24-FY26. However, because of the unwinding of negative net working capital surrounding the OptumRx contract, CAH anticipates lower-than-average adjusted free cash flow in FY25, placing additional pressure on FY24 and FY26 to compensate for the shortcomings. With an impact on free cash flow, CAH could halt increases or additional accelerated share repurchases under its current $3.5 bln buyback program.

The main takeaway is that without the OptumRx distribution contracts, investors are concerned about the adverse effects on CAH's future revenue growth. With other revenue headwinds, such as direct-to-consumer mail services and government regulations, the loss of OptumRx coincides with a potentially challenging time for CAH. Still, given it is one of just three pharmaceutical distributors in the country, CAH remains well-positioned to bounce back from any near-term volatility.

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