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Wall Street is hungry for some

Express Scripts



The pharmacy benefit manager plans to release its delayed 2005 outlook Wednesday, ahead of the long Thanksgiving weekend. Some observers are now worrying about just what the company will serve up.

Wachovia analyst Eric Veiel on Tuesday downgraded the company's stock from market perform to underperfrom in anticipation of lukewarm numbers. Veiel is convinced that Express Scripts' recent slowdown in earnings growth will continue. And he worries that the company will offer guidance that could prove difficult for the market to stomach.

"The Street expects

earnings per share growth of 20%, while we expect 15% to 20% growth," Veiel wrote. "We believe that Street consensus estimates will come down and the stock will react negatively."

The downgrade itself left investors unsettled. Shares of Express Scripts tumbled 1.6% to $74.15 Tuesday.


To be fair, some analysts look for more appetizing news from the company.

When releasing its third-quarter results in early November, Express Scripts said it needed more time to complete its budget -- and evaluate its legal exposure -- before issuing 2005 guidance.

The company, under investigation by New York Attorney General Eliot Spitzer and other state prosecutors, also increased its legal reserves more than expected at that time. It promised to deliver 2005 guidance by mid-December.

Now, at least one analyst smells good news coming due to the earlier guidance release.

"Of particular interest appears to be the rationale for holding the call the day before Thanksgiving," wrote Lehman Brothers analyst Lawrence Marsh, who has an overweight rating on Express Scripts' stock. "While we do note that this involves some guesswork, we think that we could possibly get some progress or even some timetable toward resolution of the Spitzer-led lawsuit against the company."

As noted by Marsh, Spitzer has accused Express Scripts of multiple transgressions: inflating the cost of generic drugs; improperly pocketing manufacturer rebates; fraudulently inducing physicians to switch patient drugs; selling client information without permission; and misrepresenting drug discounts to induce New York to contract with the PBM. The company has denied any wrongdoing.

Still, Marsh sees plenty of reasons for Express Scripts to settle the case and move on. He believes that negative publicity surrounding the probe may already have cost Express Scripts a $200 million contract with South Carolina. Moreover, he notes that the company's $1 billion-plus contract with New York ranks as its second-largest deal and comes up for renewal at the end of next year. In addition, he believes the $25 million recently set aside for legal costs could possibly cover most -- if not all -- of a Spitzer settlement.

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Spitzer himself has indicated that he may seek as much as $100 million from the company instead. But Marsh estimates that Express Scripts actually collected just under that amount in total profits during the four-year period covering Spitzer's allegations.

Ultimately, Marsh believes that Express Scripts will settle the case for a "nonmaterial" amount. However, he does believe that changes in the New York contract -- such as enhanced transparency and pass-through pricing -- could cut the company's 2005 earnings growth to as low as 15%. Absent a Spitzer settlement, however, Marsh expects Express Scripts to promise the 20% earnings growth the market is expecting.

J.P. Morgan analyst Lisa Gill sounds even more upbeat despite her neutral rating on the stock.

"We expect the company to guide to EPS growth of 20% or better," Gill wrote, "which would likely be well-received by the market."


But Veiel suspects that the market remains overly optimistic about the company's future performance.

He portrays the company's recent earnings quality as poor and, given the postponed 2005 guidance, questions the company's earnings visibility as well. And he worries that the company's stock could take a hit.

"We see little room for further upside," he wrote, "but substantial risks to current valuation."

In recent years, Veiel wrote, Express Scripts has displayed the least improvement in profitability of any major PBM. Moreover, he concludes, the company now faces more legal exposure than even larger peers







In addition to state prosecutors, he notes, shareholders and unions are now pursuing the company.

"We do not view most of these lawsuits as major causes for concern on an individual basis," Veiel wrote. "But in combination, they have the critical mass to create a legal overhang."

Still, Veiel questions whether regulatory exposure -- or even budgeting problems -- really caused the company to delay its 2005 guidance. He believes the market would have welcomed the guidance even without litigation estimates that tend to be excluded from operating results anyway. Thus, he wonders whether Express Scripts was simply buying time in an effort to brighten the news for investors.

"One interpretation for the delayed guidance could be that new business wins have been below expectations and ESRX hoped to sign up more new business over the past few weeks," Veiel suggested. "The decision not

to provide guidance could mean that ESRX's growth is slowing more quickly than we thought."