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Diplomat Pharmacy's Stronger Top Line Doesn't Help Its Bottom Line

Brian Orelli, The Motley Fool

Diplomat Pharmacy (NYSE: DPLO) recorded a solid increase in second-quarter revenue, but the bottom line was hurt by its increased debt load and costs associated with hiring its new CEO.

Diplomat Pharmacy results: The raw numbers

Metric

Q2 2018

Q2 2017

Year-Over-Year Change

Revenue

$1.42 billion

$1.13 billion

26%

Income from operations

$7.77 million

$4.84 million

60%

Earnings per share (loss)

($0.05)

$0.05

N/A

Adjusted EPS

$0.17

$0.25

(32%)

Data source: Diplomat Pharmacy.

What happened with Diplomat Pharmacy this quarter?

  • Much of the year-over-year increase in revenue -- $189 million of the $290 million -- came from its pharmacy benefits management (PBM) business CastiaRx, which the company didn't own in the year-ago quarter.
  • The rest of the year-over-year increase came from growth in sales for the legacy specialty pharmacy business, especially from drugs and services for oncology and infusion drugs, which grew 11% and 18%, respectively. During the quarter, the company added eight limited-distribution drugs to its specialty pharmacy, which should increase sales in the quarters to come.
  • The addition of CastiaRx has created $3 million in synergies so far through improvements on contracts, PBM services, manufacturer discounts, and improvement in cost of sales. Management thinks it can get the synergies up to $8 million to $10 million this year, higher than its original guidance of $4 million to $6 million.
  • The additional income from operations was wiped out by a large $10 million interest expense, resulting in a loss for the quarter on a GAAP basis.
Hands taking medication off a shelf

Image source: Getty Images.

What management had to say

Brian Griffin, Diplomat's new chairman and CEO, highlighted the potential to increase CastiaRx's business next year by signing up new companies in need of PBM services:

We are in the middle of the busiest part of the 2019 selling season. Proposal volume continues to grow at a steady pace, and we expect above-average proposal volume to continue for the next two to three months. Proposal volume for the month of July was approximately double what we saw a year ago. In the small to middle market, no one has our clinical and specialty services strength. That is what differentiates us.

With the seemingly never-ending political rhetoric about drug costs and the fact that PBMs make much of their income from rebates that could be ended by changes in the law, Griffin felt the need to address the situation:

We believe that it's highly unlikely rebates will go away in the near term. Price concessions negotiated by PBMs, most of which are in the form of rebates, have been proven to significantly lower drug costs for covered patients, and we believe that the elimination of rebates done in aggregate across the industry and without regard to formulary management would result in increased cost to payers and patients via increased premiums and cost-sharing.

However, we cannot ignore the possibility that the traditional performance-based pricing model could evolve in the commercial sector, whether influenced by changes in government regulation or driven by market choice. We have multiple levels of profitability for our PBM and flexible business models that can be tailored to meet client demand.

Looking forward

Management left its 2018 revenue guidance alone, but lowered its EPS guidance to between ($0.15) and $0.01, versus the previous range of $0.06 to $0.17.

Most of the issues for the lower EPS guidance seem to be one-time items: higher stock-based compensation from vesting due to the CEO transition, and a $2.3 million charge as a result of better-than-expected performance of a previous acquisition. But the company also cited a more conservative outlook on interest rates compared to previous guidance as a reason for the lower guidance, which certainly isn't a one-time issue.

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Brian Orelli has no position in any of the stocks mentioned. The Motley Fool recommends Diplomat Pharmacy. The Motley Fool has a disclosure policy.