SUBJECT TO COMPLETION, DATED JUNE 2, 2009

 

Filed Pursuant to 424(b)(5)
Registration No. 333-159654

 

PRELIMINARY PROSPECTUS SUPPLEMENT

(To Prospectus dated June 2, 2009)

 

23,000,000 Shares

 

 

EXPRESS SCRIPTS, INC.

 

Common Stock

 

 

 

 

We are offering 23,000,000 shares of our common stock to be sold in this offering. Our common stock is listed on the NASDAQ Global Select Market under the symbol “ESRX.” The last reported sale price on the NASDAQ Global Select Market of the common stock on May 29, 2009 was $64.05 per share.

 

Investing in our common stock involves risks. See “Risk Factors” beginning on page S-11 of this prospectus supplement to read about important factors you should consider before buying shares of common stock.

 

 

 

 

The underwriters are offering our common stock as described in “Underwriting.” Delivery of the common stock will be made to purchasers on or about June   , 2009.

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus supplement or the related prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

Joint Book-Running Managers

 

 

 

Co-Managers

 

 

The date of this prospectus supplement is June   , 2009

 

TABLE OF CONTENTS

 

 

 

This document is in two parts. The first part consists of this prospectus supplement, which describes the specific terms of this offering. The second part consists of the accompanying prospectus, which gives more general information, some of which may not be applicable to this offering.

 

If the description of the offering varies between this prospectus supplement and the accompanying prospectus, you should rely on the information in this prospectus supplement. You should rely only on the information contained or incorporated by reference in this prospectus supplement and the accompanying prospectus.

 

We have not, and the underwriters have not, authorized any other person to provide you with different information. If anyone provides you with different or inconsistent information, you should not rely on it. We are not, and the underwriters are not, making an offer to sell these securities in any jurisdiction where the offer or sale is not permitted. You should assume that the information appearing in this prospectus supplement, the accompanying prospectus and the documents incorporated by reference is accurate only as of their respective dates. Our business, financial condition, results of operations and prospects may have changed since those dates.

 

In this prospectus supplement, unless otherwise specified or the context requires otherwise, we use the terms “Express Scripts,” the “company,” “we,” “us” and “our” to refer to Express Scripts, Inc. and its subsidiaries.

 

Information we have included or incorporated by reference in this prospectus supplement and the accompanying prospectus contain or may contain forward-looking statements. These forward-looking statements include, among others, statements of our plans, objectives, expectations (financial or otherwise) or intentions.

 

Our forward-looking statements involve risks and uncertainties. Our actual results may differ significantly from those projected or suggested in any forward-looking statements. We do not undertake any obligation to release publicly any revisions to such forward-looking statements to reflect events or circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events. Factors that might cause such a difference to occur include, but are not limited to:

 

 

 

These and other relevant factors, including those risk factors identified in our Annual Report on Form 10-K, our Quarterly Report on Form 10-Q and our other filings under the Securities Exchange Act of 1934, or the Exchange Act, parts of which are incorporated by reference in this prospectus supplement, should be carefully considered when reviewing any forward-looking statement. See “Where You Can Find More Information.”

 

SUMMARY

	•	Differentiated platform aligning our interests with those of our clients and their members.  Our business model is designed to align our interests with the interests of our clients and their members. As we increase cost savings for clients and their members our operating margins improve. Through our differentiated behavior-centric approach called “consumerology,” we use our proprietary research to provide members with customized recommendations to reduce costs without compromising health outcomes. Our success at aligning our interests with the interests of our clients and their members and our focus on customer satisfaction has allowed us to achieve significant scale and has contributed to our ranking ahead of our two larger PBM competitors in the home delivery member satisfaction category according to a 2008 J.D. Power & Associates survey. Customer satisfaction has been a key contributing factor to our success and has enabled us to retain over 90% of our clients whose contracts are up for renewal each year over the past few years.
	•	A leader in drug cost trend management.  We are a leader in optimizing cost-efficiencies in prescription drug utilization and delivery channels. By leveraging the scale of our operations and employing state of the art behavior-centric programs, we seek to increase utilization of generic and low-cost branded drugs while also improving home delivery penetration and capitalizing on specialty pharmacy opportunities. We believe that our generic dispensing rate of over 66% during 2008 is among the highest in the industry and we continue to achieve significant efficiencies through increased utilization of low-cost branded drugs and our home delivery services. Our success at achieving these cost efficiencies resulted in the lowest drug cost trend increase we have achieved for our clients and their members in over a decade. Our clients experienced an average increase in pharmaceutical costs of 3.0% in 2008, an improvement of almost half versus 5.5% in 2007.
	•	Strong operating results and cash flows.  We have achieved strong earnings growth, primarily driven by our success in promoting utilization of generic and low-cost branded drugs, our increased home delivery penetration, including growth in our specialty pharmacy business, and our strong track record of strategic acquisitions. Since 2004, our diluted earnings per share, EBITDA and EBITDA per adjusted claim have grown at compounded annual rates of approximately 36%, 25% and 26%, respectively. In addition, our business has consistently generated significant free cash flow due to relatively stable revenues, margin improvement and low capital expenditure requirements. Since 2004, our cash flow from operating activities has grown at a compound annual rate of approximately 22%. During the three-year period ended December 31, 2008, we generated approximately $2.6 billion of cash flow from operating activities and achieved an average annual return on invested capital of over 22%. Our ability to generate strong and consistent free cash flow has historically enabled us to invest in our operations, reduce our debt, repurchase stock to enhance earnings per share and pursue attractive growth opportunities.
	•	Experienced management team with proven success in achieving growth through acquisitions.  We have been a market leader in the PBM sector for the past decade and we believe that the extensive experience of our management team provides us with a strong competitive advantage. Our senior management team has an average of 8.5 years of experience at Express Scripts. As a result, we believe that we have the expertise to execute our business strategies and manage our operations effectively. Our team also has a proven track record of enhancing value through acquisitions, having successfully integrated six significant acquisitions during the past decade. We have been disciplined in our approach to acquisitions, focusing on both strategic and cultural fit, as well as financial implications and we have also been able to successfully integrate acquisitions with minimal interruption to our business.

	•	Increase utilization of generic and low-cost branded drugs.  We are committed to using our behavior-centric approach to promote utilization of generic and low-cost branded drugs as a strategy for lowering costs, improving health outcomes and driving value for members and plan sponsors alike. Based on our analysis of Drug Topics data (2008 retail sales only), greater than $65 billion in brand name medications will lose their patent protection by the end of 2013. We believe that the potential for increased utilization of generic drugs and low-cost branded drugs is a highly attractive opportunity to grow our EBITDA per adjusted claim.
	•	Increase home delivery penetration and capitalize on specialty pharmacy opportunities.  Our research shows that home delivery not only saves time and money, but also enhances patient safety, improves formulary compliance and allows for therapeutic interchange opportunities. We also believe that home delivery, including home delivery of specialty pharmaceuticals, can significantly improve therapy adherence and we intend to continue to promote home delivery as a mechanism for helping clients manage their drug cost trend. We also expect increasing demand for our cost-effective specialty pharmacy solutions. According to a 2008 report by Pharmaceutical Research and Manufacturers of America, there are over 633 specialty drugs in clinical trials, which we believe will make specialty pharmacy one of the fastest growing segments of pharmaceutical spending over the next several years. Our goal is to improve our home delivery penetration rate and capitalize on specialty pharmacy trends, which we believe will drive significant cost savings for our clients and help us to achieve meaningful improvements in our EBITDA per adjusted claim. We intend to improve these penetration rates through our continued focus on consumer behavior, direct and personalized engagement with members and overall member satisfaction.
	•	Innovative approach to drug cost trend management.  We consider our company to be a pioneer in applying the principles of behavioral economics to healthcare, as evidenced by the launch of the Center for Cost Effective Consumerism in 2008, which combines our research capabilities with insights from a multi-disciplinary advisory board of national experts in the science of human behavior and decision making. This allows us to help plan sponsors increase generic drug utilization, improve therapy adherence where appropriate, increase usage of cost-effective delivery channels, enhance safety standards, improve patient outcomes, and increase consumer engagement and satisfaction levels. In addition, we will continue to apply principles of behavioral economics to deliver tailored messages and innovative products and services in order to cause positive behavioral change. We will also continue to develop new techniques, services and strategies to manage and lower the overall drug cost trend.
	•	Continue to improve operational effectiveness and enhance return on invested capital.  Our behavior-centric approach, combined with our legacy of independence, continues to differentiate our business model and enhance our value proposition for our clients and their members. We will continue to improve our operational effectiveness by negotiating lower drug ingredient and network costs while also reducing home delivery processing costs. In addition, we will continue to attract and retain new clients by developing customized solutions and believe that this strategy will help us maintain superior operational and financial performance and high returns on invested capital.

	•	Establishment of long-term relationship with key managed care client.  WellPoint is one of the largest and has been one of the fastest growing managed care organizations in the United States. We believe that the acquisition and our long-term contract with WellPoint will help WellPoint continue to grow its membership

		and that we will benefit from that growth. This relationship will also enable us to invest in the development and expansion of new product offerings and capabilities to enhance our value proposition.

	•	Increase in scale and operational efficiency.  We believe that the addition of the PBM business’ claims volume to that currently processed through our existing infrastructure will enable us to eliminate redundant costs and generate improved economies of scale that will benefit us, our clients and their members.
	•	Significant cost savings opportunities.  Expected drivers of cost-savings include increased utilization of generic and low-cost branded drugs, lower retail and home delivery drug costs, including through our specialty pharmacy solutions, higher home delivery penetration rates, increased manufacturer discounts, lower direct processing costs and lower general and administrative costs.
	•	Acquisition in core business line.  The PBM business’ membership base is complementary to ours and has similar characteristics to many of the plans we administer today, including plans that we have successfully integrated in connection with past acquisitions. In addition, we share a common heritage of innovation and a core commitment to improving health outcomes and reducing the cost of healthcare.
	•	Earnings accretive.  Excluding transaction costs and amortization of intangibles, we expect the acquisition to be neutral to slightly accretive to earnings per share in 2009 and moderately accretive to earnings per share in 2010. Once fully integrated in approximately 12 to 18 months after closing, we expect the acquisition to generate more than $1.0 billion of incremental EBITDA per year.

Issuer		Express Scripts, Inc.
Shares of our common stock offered		23,000,000 shares(1)
Option to purchase additional shares		We have granted the underwriters an option for a period of 30 days from the date of this prospectus supplement to purchase up to an additional 3,450,000 shares of our common stock at the public offering price, less the underwriting discounts, to cover over-allotments, if any.
Shares of our common stock to be outstanding after this offering		271,169,814 shares(2)
Use of Proceeds		We estimate that the net proceeds from the offering will be approximately $1.43 billion (or approximately $1.65 billion if the underwriters’ over-allotment option is exercised in full) after deducting underwriting discounts and commissions and estimated transaction expenses payable by us, assuming a public offering price of $64.05 per share, which was the last reported sale price of our common stock on the NASDAQ on May 29, 2009. We intend to use the net proceeds from this offering (including any proceeds resulting from any exercise by the underwriters of their over-allotment option) to finance a portion of the consideration for the acquisition of the PBM business. If the acquisition is not consummated for any reason, we may use the net proceeds from this offering for any corporate purpose, which may include pursuit of other business combinations, expansion of our operations, repayment of existing debt, share repurchases or other uses.
Risk Factors		You should carefully consider the information set forth in the “Risk Factors” section of this prospectus supplement as well as all other information included in or incorporated by reference in this prospectus supplement before deciding whether to invest in our common stock.
NASDAQ Global Select Market Symbol		ESRX

(1)		Excludes shares that may be issued to the underwriters pursuant to their option to purchase additional shares. If the underwriters exercise their option to purchase such additional shares in full, the total number of shares of common stock offered will be 26,450,000. We had 248,169,814 shares of our common stock outstanding at May 31, 2009.
(2)		The number of shares of common stock that will be outstanding after this offering is based on the number of shares outstanding on May 31, 2009 and assumes no exercise by the underwriters of their option to purchase additional shares and no exercise of outstanding stock options and “stock settled” stock appreciation rights granted to our employees in respect of approximately 9 million shares of common stock with a weighted average exercise price of $40.09 per share as of May 31, 2009.

		Three Months Ended March 31,								Year Ended December 31,
		2009				2008				2008				2007				2006
		(In millions, except per share and per claim data)
Statement of operations data:
Revenues(1)		$	5,422.8			$	5,490.8			$	21,978.0			$	21,824.0			$	21,562.6
Cost of revenues(1)			4,888.7				5,024.7				19,937.1				20,065.2				20,093.7
Gross Profit			534.1				466.1				2,040.9				1,758.8				1,468.9
Selling, general and administrative			178.6				171.5				760.4				698.0				643.1
Operating income			355.5				294.6				1,280.5				1,060.8				825.8
Other (expense) income:
Non-operating charges, net			—				—				(2.0	)			(18.6	)			—
Undistributed loss from joint venture			—				(0.2	)			(0.3	)			(1.3	)			(1.6	)
Interest income			0.9				5.3				13.0				12.2				13.7
Interest expense			(17.1	)			(23.3	)			(77.6	)			(108.4	)			(95.7	)
			(16.2	)			(18.2	)			(66.9	)			(116.1	)			(83.6	)
Income before income taxes			339.3				276.4				1,213.6				944.7				742.2
Provision for income taxes			124.6				98.1				434.0				344.2				266.8
Net income from continuing operations			214.7				178.3				779.6				600.5				475.4
Net loss from discontinued operations, net of tax			(0.3	)			(1.1	)			(3.5	)			(32.7	)			(1.0	)
Net income		$	214.4			$	177.2			$	776.1			$	567.8			$	474.4
Earnings per share:(2)
Weighted average shares outstanding
Basic			247.6				252.3				248.9				260.4				279.6
Diluted			249.3				255.7				251.8				264.0				284.0
Basic earnings per share(2)		$	0.87			$	0.70			$	3.12			$	2.18			$	1.70
Diluted earnings per share(2)			0.86				0.69				3.08				2.15				1.67
Cash flow data:(3)
Net cash flows provided by operating
activities		$	286.4			$	248.3			$	1,095.6			$	848.1			$	673.5
Net cash used in investing activities			(10.4	)			(12.1	)			(320.6	)			(55.8	)			(100.8	)

		Three Months Ended March 31,								Year Ended December 31,
		2009				2008				2008				2007				2006
		(In millions, except per share and per claim data)
Net cash used in financing activities			(81.1	)			(162.4	)			(680.4	)			(469.7	)			(904.7	)
Other data:
EBITDA(4)		$	380.1			$	319.1			$	1,378.2			$	1,185.9			$	925.6
EBITDA per adjusted claim(4)			3.06				2.46				2.72				2.34				1.78
Total adjusted claims(5)			124.1				129.6				506.3				507.0				519.6
Adjusted home delivery penetration rate(6)			23.2	%			23.4	%			24.2	%			24.1	%			23.8	%
Overall generic dispensing rate(7)			67.7	%			65.1	%			66.1	%			61.8	%			57.6	%
ROIC(8)			N/A				N/A				26.8	%			23.7	%			17.3	%

		As of March 31,				As of December 31,
		2009				2008				2007
		(In millions)
Balance sheet data:
Cash and cash equivalents		$	725.0			$	530.7			$	434.7
Receivables, net			1,200.8				1,155.9				1,184.6
Total current assets			2,256.8				2,043.8				1,967.8
Total assets			5,708.7				5,509.2				5,256.4
Total debt			1,680.4				1,760.3				2,020.4
Stockholders’ equity			1,300.0				1,078.2				696.4

(1)		Includes retail pharmacy co-payments of $822.7 and $887.7 for the three months ended March 31, 2009 and 2008, respectively, and $3,153.6, $3,554.5 and $4,012.7 for the years ended December 31, 2008, 2007 and 2006, respectively.
(2)		Earnings per share and weighted average shares outstanding have been restated to reflect the two-for-one stock split effective June 22, 2007. Includes basic loss per share of $(0.01) and $(0.13) and diluted loss per share of $(0.01) and $(0.12), in each case in 2008 and 2007, respectively, from discontinued operations. Losses attributable to discontinued operations consist primarily of discontinued operations of CuraScript Infusion Pharmacy, Inc., which was acquired on October 14, 2005.
(3)		Cash flow amounts are from continuing operations.
(4)		EBITDA is earnings before other income (expense), interest, taxes, depreciation and amortization, or operating income plus depreciation and amortization. EBITDA is presented because it is a widely accepted indicator of a company’s ability to service indebtedness and is frequently used to evaluate a company’s performance. EBITDA, however, should not be considered as an alternative to net income, as a measure of operating performance, as an alternative to cash flow, as a measure of liquidity or as a substitute for any other measure computed in accordance with accounting principles generally accepted in the United States. In addition, our definition and calculation of EBITDA may not be comparable to that used by other companies.
		The following is a reconciliation of net income from continuing operations to EBITDA. We believe net income from continuing operations is the most directly comparable measure calculated under GAAP.

		Three Months Ended
		March 31,								Year Ended December 31,
		2009				2008				2008				2007				2006
		(In millions)
Net income from continuing operations		$	214.7			$	178.3			$	779.6			$	600.5			$	475.4
Income taxes			124.6				98.1				434.0				344.2				266.8
Depreciation and amortization			24.6				24.5				97.7				97.5				99.8
Interest expense, net			16.2				18.0				64.6				96.2				82.0
Undistributed loss from joint venture			—				0.2				0.3				1.3				1.6
Non-operating charges, net			—				—				2.0				18.6				—
Non-recurring expenses			—				—				—				27.6				—
EBITDA		$	380.1			$	319.1			$	1,378.2			$	1,185.9			$	925.6

(5)		Total adjusted claims represent network claims plus home delivery claims, which are multiplied by three, as home delivery claims are typically 90-day claims and network claims are generally 30-day claims.
(6)		Adjusted home delivery penetration rate is calculated by dividing the number of adjusted home delivery claims by the total adjusted claims during a given period of time.
(7)		Overall generic dispensing rate is calculated by dividing the number of adjusted generic claims by the total adjusted claims during a given period of time.
(8)		ROIC, or return on invested capital is after tax operating income, as adjusted by certain non-recurring items, as a percentage of average invested capital. We present ROIC on an annual basis only. ROIC is presented because we believe it is a widely accepted indicator of a company’s historical performance and is frequently used to measure the profitability of a company as a proportion of the total capital invested in the business. ROIC, however, should not be considered as an alternative to net income, as a measure of operating performance, as an alternative to cash flow, as a measure of liquidity or as a substitute for any other measure computed in accordance with accounting principles generally accepted in the United States. In addition, our definition and calculation of ROIC may not be comparable to that used by other companies. Our calculation of ROIC is set forth in the following table.

		Year Ended December 31,
		2008				2007				2006
		(In millions)
Calculation of adjusted after tax operating income:
Operating income as reported		$	1,280.5			$	1,060.8			$	825.8
Adjustment for non-recurring items(i)			—				27.6				—
Income tax(ii)			(457.9	)			(396.6	)			(305.0	)
Adjusted after tax operating income		$	822.6			$	691.8			$	520.8
Calculation of average invested capital — end of period:
Stockholders’ equity		$	1,078.2			$	696.4			$	1,124.9
Interest bearing liabilities			1,760.3				2,020.4				1,450.5
Long-term deferred income taxes, net			313.8				278.6				257.1
Invested capital		$	3,152.3			$	2,995.4			$	2,832.5
Average invested capital(iii)		$	3,073.9			$	2,914.0			$	3,008.1
ROIC			26.8	%			23.7	%			17.3	%

(i)		For the year ended December 31, 2007, non-recurring items include $6.0 of non-recurring legal expenses; $9.1 of non-recurring inventory charges in our specialty distribution line of business; benefit of $9.0 from settlement of a contractual item with a supply chain vendor; and $21.5 of bad debt charges and other non-recurring items in our specialty distribution line of business.

(ii)		The tax rate applied is the effective tax rate on continuing operations, which was 35.8%, 36.4% and 35.9% in fiscal years 2008, 2007 and 2006, respectively. The twelve months ended December 31, 2006 included a nonrecurring tax benefit of $7.3.
(iii)		Average invested capital for each respective period is the average of the invested capital at the end of the period and the invested capital at the beginning period. Invested capital at the beginning of the 2006 fiscal year was $3,183.8 and consisted of $1,464.8 of stockholders’ equity, $1,510.5 of interest bearing liabilities and $208.5 of long-term deferred income taxes, net.

 

An investment in our common stock involves certain risks. You should carefully consider the risks described below, as well as the other information included or incorporated by reference in this prospectus supplement and the accompanying prospectus before making an investment decision. Our business, financial condition or results of operations could be materially adversely affected by any of these risks. The market or trading price of our common stock could decline due to any of these risks, and you may lose all or part of your investment. In addition, please read “Cautionary Statement Regarding Forward-Looking Statements” in this prospectus supplement and the accompanying prospectus where we describe additional uncertainties associated with our business and the forward-looking statements included or incorporated by reference in this prospectus supplement and the accompanying prospectus. Please note that additional risks not presently known to us or that we currently deem immaterial may also impair our business and operations.

 

Risks Related to the Acquisition

 

Failure to complete the acquisition could negatively impact our stock price and our future business and financial results.

 

Consummation of the acquisition and entry into the new PBM agreement are subject to certain conditions, including, among others:

 

 

If the acquisition is not completed for any reason, our ongoing business and financial results may be adversely affected and we will be subject to a number of risks, including the following:

 

 

We may also be subject to litigation related to any failure to complete the acquisition. If the acquisition is not completed, these risks may materialize and may adversely affect our business, financial results and financial condition, as well as the price of our common stock, which will cause the value of your investment to decline.

 

We cannot provide any assurance that the acquisition will be completed, that there will not be a delay in the completion of the acquisition or that all or any of the anticipated benefits of the acquisition will be obtained. In the event the acquisition agreement is terminated or the acquisition is materially delayed for any reason, the price of our common stock may decline. In addition, we will be required to redeem the notes being offered in the debt offering and we will not recognize the anticipated benefits of the new PBM agreement.

 

Our level of indebtedness following the completion of the acquisition is not presently known with certainty, but it will be substantial and will effectively reduce the amount of funds available for other business purposes.

 

As of May 31, 2009, we had approximately $1,680.3 million of total debt on a consolidated basis. In connection with the acquisition, we currently expect to incur up to $2.7 billion of incremental indebtedness to finance the acquisition. The actual amount of indebtedness we will incur is not presently known and will depend on

various factors, including the success of this offering and the debt offering, potential changes in our financing plans, market conditions and other factors. We have received a commitment from the debt financing sources to provide up to $2.5 billion in financing under the committed credit facility to finance a portion of the acquisition consideration, which amount will be reduced to the extent of any net cash proceeds from the consummation of any debt offering (including the debt offering), private placement of debt securities (including securities convertible or exchangeable into common stock), or any equity offering in excess of $1.4 billion, in each case prior to, or simultaneously with, the consummation of the acquisition. In addition, we have $600 million of available borrowings under our existing credit agreement, which may be used for the acquisition or other corporate purposes. Interest costs related to the notes and other debt we may incur to finance the acquisition will be substantial. Our new indebtedness may contain negative or financial covenants that would limit our operational flexibility beyond the limits imposed under our existing credit agreement. Our increased level of indebtedness could reduce funds available for additional acquisitions, capital expenditures or other business purposes, impact our ratings, restrict our financial and operating flexibility or create competitive disadvantages compared to other companies with lower debt levels.

 

The anticipated benefits of the acquisition and the PBM agreement may not be realized fully and may take longer to realize than expected.

 

The acquisition involves the integration of the PBM business with our existing platform. We will be required to devote significant management attention and resources to integrating the PBM business. We may also experience difficulties in combining corporate cultures. Delays or unexpected difficulties in the integration process could adversely affect our business, financial results and financial condition. Even if we are able to integrate the PBM business operations successfully, this integration may not result in the realization of the full benefits of synergies, cost savings and operational efficiencies that we expect or that these benefits may not be achieved within a reasonable period of time.

 

We will incur significant transaction and acquisition-related costs in connection with the acquisition.

 

We will incur significant costs in connection with the acquisition. The substantial majority of these costs will be non-recurring expenses related to the acquisition, facilities and systems consolidation costs. These non-recurring costs and expenses are not reflected in the pro forma financial information included in this prospectus. We may incur additional costs to maintain employee morale and to retain key employees. We will also incur substantial transaction fees and costs related to formulating integration plans. Additional costs will be incurred in the integration of the PBM business. Although we expect that the elimination of duplicative costs, as well as the realization of other efficiencies related to the integration of the businesses, should allow us to more than offset incremental transaction and acquisition-related costs over time, this net benefit may not be achieved in the near term, or at all.

 

The market price of our common stock may decline as a result of the acquisition.

 

The market price of our common stock may decline as a result of the acquisition if, among other things, we are unable to achieve the expected growth in earnings, or if the operational cost savings estimates in connection with the integration of the PBM business are not realized, or if the transaction costs related to the acquisition are greater than expected, or if the financing related to the transaction is on unfavorable terms, or if the value of the cash savings attributable to the amortization of goodwill is less than anticipated. The market price also may decline if we do not achieve the perceived benefits of the acquisition as rapidly or to the extent anticipated by financial or industry analysts or if the effect of the acquisition on our financial results is not consistent with the expectations of financial or industry analysts.

 

The PBM agreement will be subject to early termination by either party for a material breach or if the other party becomes insolvent or subject to insolvency proceedings.

 

The term of the PBM agreement will be 10 years, but it may be terminated earlier by either party for a material breach or if the other party becomes insolvent or subject to insolvency proceedings. The failure to meet two or more of four designated performance guarantees for two consecutive calendar quarters by us will constitute a material breach of the PBM agreement. WellPoint may terminate the PBM agreement if we are acquired by a health

maintenance organization, a preferred provider organization, a health insurer or other managed care organization, in each case that provides health benefits to more than 10 million individuals in the United States. The loss of anticipated benefits under the PBM agreement due to any such early termination may have a material adverse effect on our future results of operations and financial condition.

 

A change in law could materially alter the obligations of the parties under the PBM agreement.

 

If a change in law occurs that materially alters the obligations of the parties under the PBM agreement, the parties will be required to negotiate a modification of the services and/or pricing terms as necessary to maintain the comparable economic position of the respective parties as of the effective date of the PBM agreement, which is expected to be the same date as the closing of the acquisition. There can be no assurance that the parties will be successful in negotiating mutually acceptable terms.

 

Following the completion of the acquisition, we will be dependent on WellPoint for certain transitional services pursuant to a transition services agreement. The failure of WellPoint to perform its obligations under the transition services agreement could adversely affect our business, financial results and financial condition.

 

Our ability to effectively monitor and control the operations of the PBM business that we are acquiring depends to a large extent on the proper functioning of our information technology and business support systems. We will be initially dependent upon WellPoint to continue to provide certain information technology services, human resources services, existing procurement vendor services, finance services, real estate services and print mail services for a period of time after the completion of the acquisition to facilitate the transition of the PBM business. The terms of these arrangements will be governed by a transition services agreement to be entered into as of the closing of the acquisition. If WellPoint fails to perform its obligations under the transition services agreement, we may not be able to perform such services ourselves or obtain such services from third parties at all or on terms favorable to us. In addition, upon termination of the transition services agreement, if we are unable to develop the necessary systems, resources and controls necessary to allow us to provide the services currently being provided by WellPoint or to obtain such services from third parties, it could adversely affect our business, financial results and financial condition.

 

The carve out financial statements of the PBM business incorporated by reference herein may not be representative of the future financial position, future results of operations or future cash flows of the PBM business as part of our company, nor do they reflect what the financial position, results of operations or cash flows of the PBM business would have been as a part of our company during the periods presented.

 

Prior to the closing of the acquisition, the PBM business was a fully integrated business unit of WellPoint. The financial position, results of operations and cash flows of the PBM business presented may be different from those that would have resulted had the PBM business been operated as part of our company or from those that may result in the future from the PBM business being operated as a part of our company. This is primarily because:

 

 

The unaudited pro forma financial information in this document is presented for illustrative purposes only and does not purport to be indicative of what our actual financial position or results of operations would have been had the acquisition been completed on the dates indicated.

 

The unaudited pro forma financial information reflects adjustments and assumptions, which are based upon preliminary estimates to allocate the purchase price to the PBM business’ net assets rendering these types of adjustments and assumptions difficult to make with complete accuracy. The purchase price allocation reflected in this prospectus supplement is preliminary, and final allocation of the purchase price will be based upon the actual purchase price and the fair value of the assets and liabilities of the PBM business as of the date of the completion of the acquisition. In addition, subsequent to the acquisition completion date, there may be further refinements of the purchase price allocation as additional information becomes available. Accordingly, the final purchase accounting adjustments may differ materially from the pro forma adjustments reflected in this document. In addition, the unaudited pro forma financial information does not reflect any adjustments for the new PBM agreement. The PBM business’ historic pricing methodology is not indicative of the pricing terms contained in the new PBM agreement. Accordingly, the revenues reflected in the pro forma financial statements do not purport to reflect the revenue that would have been earned during the respective periods if the new PBM agreement had been in effect. See “Unaudited Pro Forma Condensed Combined Financial Information” for more information.

 

Risks Related to the Offering

 

We have not identified any specific use of the net proceeds of this offering in the event the acquisition agreement is terminated.

 

Consummation of the acquisition is subject to a number of conditions and, if the acquisition agreement is terminated for any reason, our board of directors and management will have broad discretion over the use of the proceeds we receive in this offering and might not apply the proceeds in ways that increase the trading price of our common stock. Since the primary purpose of this offering is to provide funds to pay a portion of the acquisition consideration, we have not identified a specific use for the proceeds in the event the acquisition does not occur. Any funds received may be used by us for any corporate purpose, which may include pursuit of other business combinations, expansion of our operations, repayment of existing debt, share repurchases or other uses. The failure of our management to use the net proceeds from this offering effectively could have a material adverse effect on our business and may have an adverse effect on our earnings per share.

 

This offering is expected to be dilutive, and there may be future dilution of our common stock.

 

Except as described under the heading “Underwriting,” we are not restricted from issuing additional common stock, including securities that are convertible into or exchangeable for, or that represent the right to receive common stock. As part of this offering, we expect to issue 23,000,000 shares of common stock (or up to 26,450,000 shares of common stock if the underwriters exercise their over-allotment option in full). Giving effect to the issuance of common stock in this offering, the receipt of the expected net proceeds and the use of those proceeds, we expect that this offering will have a dilutive effect on our expected earnings per share for the year ending December 31, 2009 and possibly future years, particularly if the acquisition is not consummated. The actual amount of such dilution cannot be determined at this time and will be based on numerous factors.

 

Sales of a substantial number of shares of our common stock or other equity-related securities in the public market could depress the market price of our common stock and impair our ability to raise capital through the sale of additional equity securities. If we issue shares of our common stock to WellPoint as part of the consideration for the acquisition, WellPoint will be permitted to sell that common stock in the market very shortly after the consummation of the acquisition. See “The Acquisition — Registration Rights Agreement.” We cannot predict the effect that future sales of our common stock or other equity-related securities would have on the market price of our common stock.

 

Overview

 

On April 9, 2009, we entered into the acquisition agreement with WellPoint to acquire the PBM business in exchange for total consideration of $4.675 billion, composed of $3.275 billion in cash and $1.4 billion in shares of our common stock (valued based on the average closing price of our common stock over the 60 days preceding the closing of the acquisition). We may, in our discretion, replace all or any portion of the common stock consideration with cash. The PBM business provides PBM services to approximately 25 million members and manages more than 265 million adjusted claims annually.

 

Upon closing of the acquisition, NextRx, Inc., NextRx Services, Inc. and NextRx, LLC will merge with our newly-formed wholly owned subsidiaries; NextRx Sub I, LLC, NextRx Sub II, LLC and NextRx Sub III, LLC, respectively. In connection with such mergers, each of the NextRx entities will execute a supplemental indenture and become a successor guarantor of the notes.

 

PBM Business Acquisition Rationale

 

We expect to realize several benefits of the acquisition of the PBM business, including the following:

 

 

For a discussion of various factors that could prohibit or limit us from realizing some or all of these benefits, see “Risk Factors.”

 

Acquisition Agreement

 

Conditions to Closing.  Consummation of the acquisition is subject to certain customary conditions, including both parties having executed the PBM agreement, the registration rights agreement (if we elect to deliver stock as acquisition consideration) and the ancillary agreements at or prior to the closing.

 

Our obligation to consummate the acquisition is subject to certain additional conditions, including the receipt of all necessary government approvals (except for those which would not be material to the PBM business as a whole), the receipt of any state insurance law approvals and the completion of certain transition and integration projects to our reasonable satisfaction (this condition will be deemed to be satisfied from and after December 31,

2009). WellPoint’s obligation to consummate the acquisition is subject to certain other conditions, including the receipt of all necessary government consents and approvals (except for those which would not materially affect WellPoint’s non-PBM business) without the imposition of a burdensome term or condition on WellPoint’s operations post-closing. The waiting period under the Hart-Scott-Rodino Antitrust Improvements Act in connection with the acquisition expired on May 27, 2009.

 

Governmental Approvals.  Each party has agreed to use its reasonable best efforts to obtain the necessary governmental approvals for consummation of the acquisition and WellPoint has committed to take all actions necessary to obtain certain state insurance law approvals. However, we are not required to agree to any action in connection with the receipt of any state insurance law approval which could adversely affect us.

 

Termination.  The acquisition agreement contains specified termination rights for the parties and may be terminated at any time prior to closing by either party if any law or final order prohibits the transaction, the closing fails to occur by January 9, 2010, or the other party has breached any representation, warranty or covenant, such that the conditions relating to the accuracy of the other party’s representations and warranties or performance of covenants would fail to be satisfied and such breach is incapable of being cured or is not cured.

 

Pharmacy Benefit Management Services Agreement

 

We have agreed to enter into the PBM agreement with WellPoint at the closing of the acquisition. Under the terms of the PBM agreement, we will provide PBM services to WellPoint, including network contracting, pharmacy claims processing, home delivery, and formulary and rebate administration for group or individual benefit plans issued or administered by WellPoint, including Medicare Part D Plans. With limited exceptions, we will be the exclusive provider of PBM services for WellPoint and its affiliated plans. Individuals covered under benefit plans issued or administered by WellPoint will obtain prescription medications through our contracted network of retail pharmacies and through our wholly owned home delivery pharmacies. We are required to maintain a network of pharmacies of sufficient size to meet the needs of such covered individuals. We will process claims pursuant to our standard practices based on WellPoint’s formulary and benefit designs, and we will administer the rebate program through our standard proprietary rebate processes.

 

Pricing.  There are several components to the pricing structure of the PBM agreement. For commercial business, we will generally derive margin from claims reimbursement and dispensing fees paid to us by WellPoint. If the rate paid to us by WellPoint exceeds the rate for which we have contracted with a particular pharmacy, we will realize a positive margin on the applicable claim. The reverse also may be true, resulting in negative margin for us. In addition, when we receive payment from WellPoint before we make our payment to a pharmacy, we retain the benefit of the use of funds between these payments. These claim reimbursement amounts paid by WellPoint will be reconciled with annual net effective ingredient cost discount and dispensing fee guarantees. Medicare Part D business will be pass-through, where WellPoint will pay us an amount equal to what we pay the pharmacy, reconciled with net effective ingredient cost discount and dispensing fee guarantees. WellPoint will also pay us per claim administrative fees related to our claims processing duties. We will also receive additional miscellaneous fees for all other administrative duties. We will also earn rebates from pharmaceutical manufacturers based on WellPoint’s utilization as well as manufacturer administrative fees for administering our rebate program. We will retain a certain percentage of the rebates and administrative fees received from pharmaceutical manufacturers and will pay to WellPoint an amount equal to the greater of a specified percentage of these rebates and administrative fees, and a predetermined guaranteed amount.

 

Minimum Claim Volume.  Certain assumptions were made regarding the future volume of claims we expect to administer under the PBM agreement. Since the actual volume of claims could be materially different from the expected volume of claims under the PBM agreement, WellPoint will be required to make certain payments to us in the event of a shortfall with respect to agreed upon thresholds regarding claim volumes.

 

Term and Termination.  The term of the PBM agreement is 10 years, but it may be terminated earlier by either party for a material breach or if the other party becomes insolvent or subject to insolvency proceedings. The failure to meet two or more of four designated standard performance guarantees (which relate to implementation services, member satisfaction survey, pharmacy access and retail claims processing) for two consecutive calendar quarters by us constitutes a material breach of the PBM agreement. WellPoint may terminate the PBM agreement if we are

acquired by a health maintenance organization, a preferred provider organization, a health insurer or other managed care organization, in each case that provides health benefits to more than 10 million individuals in the United States. If WellPoint were to experience a change of control, the PBM agreement would be binding on WellPoint’s successors.

 

Change in Law.  If a change in law occurs that materially alters the obligations of the parties under the PBM agreement, the parties are required to negotiate a modification of the services and/or pricing terms as necessary to maintain the comparable economic position of the respective parties as of the effective date of the PBM agreement, which is expected to be the same date as the closing of the acquisition.

 

Registration Rights Agreement

 

We have agreed to enter into a registration rights agreement (the “registration rights agreement”) with WellPoint at the closing of the acquisition in the event we issue shares of common stock to WellPoint as part of the consideration for the acquisition. If this offering is successful, we intend to use the net proceeds to finance a portion of the consideration for the acquisition in lieu of delivering shares of common stock to WellPoint and we may not enter into the registration rights agreement. WellPoint may not transfer its registration rights to any person other than any person reasonably acceptable to us which will become the holder of no less than 75% of our common stock originally issued to WellPoint. We will generally pay all fees and expenses incurred in connection with WellPoint’s offering and sale of our common stock, with the exception of any transfer taxes relating to such sale or disposition, any underwriting discounts and commissions attributable to such sale and other expenses in connection with certain hedging transactions.

 

Lock-up and Standstill.  The registration rights agreement contains lock-up provisions which would prohibit WellPoint from purchasing, selling, transferring or entering into hedging transactions with respect to (i) any common stock during the 7 days following the closing of the acquisition and (ii) more than the greater of $700 million or 70% of the common stock during the 45 days following the closing of the acquisition. The registration rights agreement would also prohibit WellPoint from engaging in transactions with respect to our common stock, including hedging transactions, in the public market during the period from 180 days until 365 days after the closing of the acquisition. Subject to certain limited exceptions, WellPoint will not be permitted to acquire our securities, including through hedging transactions or transfer our common stock to any person who would own 5% or more of our common stock following consummation of such transaction or enter into any hedging transaction which would have an equivalent effect.

 

Shelf Registration Rights.  If we deliver shares of our common stock to WellPoint as a portion of the acquisition consideration, we will be required to file a shelf registration statement with the SEC on the eighth day after closing of the acquisition in order to allow WellPoint to sell shares of our common stock (or, to the extent we already have a shelf registration statement on file on that date, we may elect to use that shelf registration statement for purposes of any sales of our common stock by WellPoint). Our obligation to maintain the shelf registration statement will cease on the earlier of (i) two years following the closing of the acquisition, (ii) the date on which WellPoint and its affiliates hold less than 3% of the outstanding shares of our common stock and our common stock owned by WellPoint can be sold pursuant to Rule 144 under the Securities Act of 1933, as amended (the “Securities Act”), or (iii) the date on which WellPoint holds less than 1% of the outstanding shares of our common stock.

 

Demand Registration Rights.  Under the registration rights agreement, WellPoint will be able to request a total of four underwritten offerings as long as the anticipated gross proceeds from the underwritten offering exceed $150 million. WellPoint will not be permitted to conduct more than one underwritten offering during any 60-day period except that no such restriction applies to an underwritten offering during the period from 7 days to 45 days following closing of the acquisition. WellPoint’s demand registration rights will terminate on the date on which it holds less than 1% of the outstanding shares of our common stock.

 

Piggyback Registration Rights.  We will allow WellPoint to participate in our capital raising transactions that constitute underwritten offerings. WellPoint will lose this piggyback right on the date on which it holds less than 3% of the outstanding shares or our and the common stock owned by WellPoint can be sold pursuant to Rule 144 under the Securities Act. Piggyback rights will be subject to customary cutback provisions that will allow us to reduce the number of shares included by WellPoint in any of our underwritten offerings. We will be able to generally require

WellPoint to agree to a lock-up on sales, dispositions and hedging transactions in connection with any underwritten offering upon request of the underwriters in such offering. WellPoint will not be required to provide this lock-up in the event that it holds less than 5% of the outstanding shares of our common stock.

 

Transition Services Agreement

 

We have agreed to enter into a transition services agreement with WellPoint at the closing of the acquisition, pursuant to which WellPoint will provide certain services, such as information technology services, human resources services, existing procurement vendor services, finance services, real estate services and print mail services (and including services provided by third parties) to us in order to facilitate the transactions contemplated by the acquisition agreement and the migration of the PBM business from WellPoint to us in accordance with the PBM agreement.

 

Committed Credit Facility

 

In connection with the acquisition, we have entered into a debt commitment letter with the debt financing sources. Subject to the satisfaction of certain customary conditions, the debt financing sources have committed to provide up to $2.5 billion in financing, consisting of a 364-day unsecured bridge credit facility. The commitments in respect of the committed credit facility will be reduced to the extent we receive any net cash proceeds from the consummation of any debt offering (including the debt offering), private placement of debt securities (including securities convertible or exchangeable into common stock), or any equity offering in excess of $1.4 billion, in each case prior to, or simultaneously with, the consummation of the acquisition.

 

The closing of the committed credit facility will occur, if at all, concurrently with the closing of the acquisition, and is subject to the negotiation of definitive loan documentation, the closing of the acquisition, our having a public corporate debt rating of BBB or higher with a stable outlook from Standard & Poor’s Ratings Services and a public corporate family rating of Baa3 or higher with a stable outlook from Moody’s Investors Service, Inc., our having a ratio of total debt to pro forma consolidated EBITDA of no more than 2.65 to 1.0 and other customary closing conditions. The maturity date of the committed credit facility is the earlier of 364 days after the closing of the acquisition and September 30, 2010. We are permitted to use the proceeds of the loans made under the committed credit facility only for purposes of financing the acquisition and paying fees and expenses incurred in connection with the acquisition.

 

If we close and borrow under the committed credit facility, borrowings will bear interest at variable rates with margins that step up over the term of the facility. The committed credit facility will contain covenants similar to those in our existing credit facility.

 

We estimate the net proceeds from the sale of common stock from this offering will be approximately $1.43 billion (or approximately $1.65 billion if the underwriters’ over-allotment option is exercised in full) after deducting underwriting discounts and commissions and estimated transaction expenses payable by us of approximately $45 million, assuming a public offering price of $64.05 per share, which was the last reported sale price of our common stock on the NASDAQ on May 29, 2009.

 

To consummate the acquisition we will be obligated to pay WellPoint cash consideration of at least $3.275 billion and an additional $1.4 billion, which may, in our sole discretion, be paid in cash, shares of our common stock or a combination of cash and shares of common stock. As of March 31, 2009, we had cash and cash equivalents of $725 million, $600 million of available borrowings under our existing credit facility and we have commitments from the debt financing sources to provide up to $2.5 billion in financing under the committed credit facility, which amount will be reduced to the extent we receive any net cash proceeds from the consummation of any debt offering (including the debt offering), private placement of debt securities (including securities convertible or exchangeable into common stock), or any equity offering in excess of $1.4 billion, in each case prior to, or simultaneously with, the consummation of the acquisition. We do not currently expect to draw down the committed credit facility if this offering and the debt offering are consummated.

 

If the acquisition is consummated, we intend to use the net proceeds from this offering (including any proceeds resulting from any exercise by the underwriters of their over-allotment option), together with the net proceeds from the contemplated debt offering, to finance a portion of the consideration for the acquisition in lieu of delivering shares of common stock to WellPoint. In the event the acquisition is not consummated for any reason, we intend to use the net proceeds from this offering for any corporate purpose, which may include pursuit of other business combinations, expansion of our operations, repayment of existing debt, share repurchases or other uses.

 

The following table sets forth our capitalization as of March 31, 2009:

 

 

Pro forma and pro forma as adjusted amounts will vary from amounts set forth below depending on several factors, including potential changes in our financing plans as a result of market conditions or other factors, the timing of the consummation of the respective transactions and other factors. In the event that the acquisition is not consummated for any reason, the notes being offered in the debt offering contain special mandatory redemption provisions that will require us to redeem the notes at 101% of their principal amount.

 

The outstanding share information in the table below excludes approximately 9 million shares of common stock issuable under outstanding stock options and “stock-settled” stock appreciation rights granted to our employees. You should read the data set forth in the table below in conjunction with “The Acquisition,” “Use of Proceeds,” “Summary Consolidated Financial Data” and “Unaudited Pro Forma Condensed Combined Financial Information” appearing elsewhere in this prospectus supplement, as well as “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” which is incorporated by reference into this prospectus supplement from our Quarterly Report on Form 10-Q for the quarter ended March 31, 2009, and our unaudited financial statements and the accompanying notes which are incorporated by reference from our Current Report on Form 8-K filed with the SEC on June 2, 2009.

 

 

 

 

Our common stock is listed on the NASDAQ Global Select Market and is traded under the symbol “ESRX”. The high and low sales prices per share of our common stock, as reported by the NASDAQ, are set forth below for the periods indicated. These prices have been adjusted to reflect the two-for-one stock split effective June 22, 2007, in the form of a stock dividend of one share for each outstanding share to holders of record on June 8, 2007.

 

 

 

 

The last reported sale price of our common stock as reported by the NASDAQ on May 29, 2009 was $64.05 per share. On May 31, 2009, there were 248,169,814 shares of our common stock outstanding held by approximately 244,000 stockholders.

 

Our board of directors has not declared any cash dividends on our common stock since our initial public offering. The board of directors does not currently intend to declare any cash dividends in the foreseeable future.

 

We have a stock repurchase program, originally announced on October 25, 1996. There is no limit on the duration of the program. During 2007 we repurchased 23.1 million shares for $1.14 billion and during 2008 we repurchased 7.2 million shares for $494.4 million. There have been no share repurchases in 2009 as of the date of this prospectus supplement. Additional share repurchases, if any, will be made in such amounts and at such times as we deem appropriate based upon prevailing market and business conditions and other factors. In the event that the acquisition is not consummated, we may use a portion of the net proceeds from this offering to effect share repurchases.

 

The unaudited pro forma condensed combined statement of operations for fiscal 2008 and the three months ended March 31, 2009 give effect to the acquisition and related financing transactions, including this offering and the debt offering (collectively, the “transactions”) as if they had occurred on the first day of the earliest period presented. The unaudited pro forma condensed combined balance sheet as of March 31, 2009 gives effect to the transactions as if they had occurred on March 31, 2009.

 

The pro forma adjustments are preliminary and have been made solely for purposes of developing the pro forma financial information for illustrative purposes necessary to comply with the requirements of the SEC. The actual results reported in periods following the transactions may differ significantly from that reflected in these pro forma financial statements for a number of reasons, including but not limited to, differences between the assumptions used to prepare these pro forma financial statements and actual amounts, cost savings from operating efficiencies, differences resulting from the new PBM agreement, potential synergies, and the impact of the incremental costs incurred in integrating the PBM business. In addition, no adjustments have been made for non-recurring items related to the transactions or the transition services agreement. As a result, the pro forma information does not purport to be indicative of what the financial condition or results of operations would have been had the transactions been completed on the applicable dates of this pro forma financial information. The pro forma financial statements are based upon the historical financial statements of Express Scripts and the PBM business and do not purport to project the future financial condition and results of operations after giving effect to the transactions.

 

We have agreed to enter into a transition services agreement with WellPoint at the closing of the acquisition, pursuant to which WellPoint will provide certain services, such as information technology services, human resources services, existing procurement vendor services, finance services, real estate services and print mail services (and including services provided by third parties) to us in order to facilitate the transactions contemplated by the acquisition agreement and the migration of the PBM business from WellPoint to us in accordance with the PBM agreement. We believe that the costs associated with the transition services agreement will not be materially different from the costs of the administrative services that WellPoint currently provides to the PBM business which are included within the PBM business’ historical financial statements. As such, no pro forma adjustment has been made for the transition services agreement.

 

No pro forma adjustments have been included with respect to the new PBM agreement. We do not believe appropriate assumptions could be made to estimate an accurate pro forma adjustment for the new PBM agreement. We will have new pricing agreements with WellPoint, the supply chain contracts will be different and we expect to achieve substantial economies of scale. Accordingly, we would expect that had the PBM agreement been in effect during the periods presented, our pro forma operating income would have been higher than that reflected in the pro forma financial statements.

 

The pro forma adjustments and related assumptions are described in the accompanying notes presented on the following pages. The pro forma adjustments are based on assumptions relating to the consideration paid and the allocation thereof to the assets acquired and liabilities of the PBM business based on preliminary estimates of fair value. The final purchase price and the allocation thereof will differ from that reflected in the pro forma financial statements after final valuation procedures are performed and amounts are finalized following the completion of the transactions.

 

In addition, the unaudited pro forma condensed combined financial information does not reflect any cost savings from operating efficiencies, synergies or other restructurings that could result from the acquisition or the new PBM agreement.

 

The following unaudited pro forma condensed combined financial information is derived from the historical financial statements of Express Scripts, Inc. and the PBM business and has been prepared to illustrate the effects of the acquisition of the PBM business by Express Scripts, the receipt of $1.4 billion of proceeds from this offering, as well as from the $2.5 billion debt offering. The pro forma financial information should be read in conjunction with the historical financial statements and the accompanying notes of Express Scripts and the PBM business included in the Current Report on Form 8-K filed with the SEC on June 2, 2009, and the Quarterly Report on Form 10-Q of Express Scripts for the quarter ended March 31, 2009, filed with the SEC on April 29, 2009.

Unaudited Pro Forma Condensed Combined Balance Sheet
March 31, 2009

 

 

See accompanying notes to the unaudited pro forma condensed combined financial statements

Unaudited Pro Forma Condensed Combined Statement of Operations
For the Fiscal Year Ended December 31, 2008

 

 

See accompanying notes to the unaudited pro forma condensed combined financial statements

Unaudited Pro Forma Condensed Combined Statement of Operations
For the Three Months Ended March 31, 2009

 

 

See accompanying notes to the unaudited pro forma condensed combined financial statements

Notes to Unaudited Pro Forma Condensed Combined Financial Statements

 

 

The unaudited pro forma condensed combined financial statements were prepared using the acquisition method of accounting under existing U.S. GAAP standards and are based on our historical consolidated financial statements and financial statements of the PBM business for fiscal 2008 and as of and for the three months ended March 31, 2009.

 

The unaudited pro forma condensed combined statement of operations for fiscal 2008 and for the three months ended March 31, 2009 give effect to the pending acquisition as if it had occurred on the first day of the earliest period presented. The unaudited pro forma condensed combined balance sheet as of March 31, 2009 gives effect to the acquisition as if it had occurred on March 31, 2009.

 

We prepared the unaudited pro forma condensed combined financial information using the acquisition method of accounting, which is based on Statement of Financial Accounting Standard (“SFAS”) No. 141R, “Business Combinations” (“FAS 141R”). FAS 141R uses the fair value concepts defined in SFAS No. 157, “Fair Value Measurements” (“FAS 157”). We have adopted both FAS 141R and FAS 157 as required.

 

FAS 141R requires, among other things, that most assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date. In addition, FAS 141R establishes that the consideration transferred be measured at the closing date of the acquisition at the then-current market price. Our intent is to use the proceeds from this offering and the debt offering to pay cash to WellPoint as consideration for the acquisition. If the offerings, together with our cash on hand and additional borrowings under our existing credit facility, do not yield sufficient proceeds to cover the purchase price we may need to issue shares to WellPoint for a portion of the consideration. In that situation, the per share equity component issued as consideration would likely be different from the fair market value of the shares at the closing date of the acquisition because of the formula used to determine the equity component. The transaction fees for the acquisition will be expensed as incurred under FAS 141R and are estimated to be $39 million. The transaction fees have been excluded from the unaudited pro forma condensed combined statement of operations as they are non-recurring and are reflected as borrowings under the credit facility revolver and as an adjustment to retained earnings on the unaudited pro forma condensed combined balance sheet.

 

FAS 157 defines the term ‘fair value’ and sets forth the valuation requirements for any asset or liability measured at fair value, expands related disclosure requirements and specifies a hierarchy of valuation techniques based on the nature of inputs used to develop the fair value measures. Fair value is defined in FAS No. 157 as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.” This is an exit price concept for the valuation of the asset or liability. In addition, market participants are assumed to be buyers and sellers in the principal (or the most advantageous) market for the asset or liability. Fair value measurements for an asset assume the highest and best use by these market participants. As a result of these standards, we may be required to record assets that we do not intend to use or sell (defensive assets) and/or to value assets at fair value measurements that do not reflect our intended use of those assets. Many of these fair value measurements can be highly subjective and it is also possible that other professionals, applying reasonable judgment to the same facts and circumstances, could develop and support a range of alternative estimated amounts.

 

The assumptions and related pro forma adjustments described below have been developed based on assumptions and adjustments, including assumptions relating to the consideration paid and the allocation thereof to the assets acquired and liabilities assumed from WellPoint based on preliminary estimates of fair value. The final purchase price allocation will differ from that reflected in the pro forma financial statements after final valuation procedures are performed and amounts are finalized following the completion of the transactions.

 

The unaudited pro forma condensed combined financial statements are provided for illustrative purposes only and do not purport to represent what our actual consolidated results of operations or consolidated financial position would have been had the acquisition occurred on the dates assumed, nor are they necessarily indicative of our future consolidated results of operations or financial position.

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

The unaudited pro forma condensed combined financial statements do not reflect any cost savings from operating efficiencies, synergies or other restructurings that could result from the acquisition or any adjustment for the new PBM agreement.

 

 

We have entered into the acquisition agreement with WellPoint to acquire the PBM business. The purchase price for the acquisition is estimated as follows, subject to a working capital adjustment (in millions):

 

 

In connection with the acquisition, we have entered into a debt commitment letter with a syndicate of commercial banks to provide up to $2.5 billion in financing for the acquisition under the committed credit facility. We do not currently plan to borrow funds under the committed credit facility.

 

We intend to use the proceeds from this offering to cover the additional $1.4 billion of the purchase price in lieu of issuing shares of our common stock to WellPoint. If this offering or an alternative financing transaction is not completed, we will issue common stock to WellPoint, the value to be based on the average closing price of our common stock over the 60 days preceding the closing of the acquisition. If common stock is issued to WellPoint as consideration, the purchase price will change based on the difference in stock price at close (date at which fair value of securities is measured under FAS 141R) and the average closing price over the 60 days preceding the closing of the acquisition. A 10% difference in stock price would change the purchase price by approximately $140 million with a corresponding change to goodwill.

 

 

We will allocate the purchase price paid by us to the fair value of the PBM business assets acquired and liabilities assumed. The pro forma purchase price allocation below has been developed based on preliminary estimates of fair value using the historical financial statements of the PBM business as of March 31, 2009. In addition, the allocation of the purchase price to acquired intangible assets is based on preliminary fair value estimates and subject to the final management analyses, with the assistance of valuation advisors, at the completion of the acquisition. The intangible assets are comprised of customer contracts and relationships with a weighted average useful life of 15 years, which is consistent with the estimated benefit period. The residual amount of the purchase price after preliminary allocation to identifiable intangibles has been allocated to goodwill. The actual amounts recorded when the acquisition is complete may differ materially from the pro forma amounts presented as follows (in millions):

 

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

Tangible assets acquired, as used in the calculation above, excludes the PBM business’ cash and cash equivalents and deferred tax assets prior to the acquisition but includes related parties receivables because it will be paid in accordance with the acquisition agreement. Liabilities assumed, as used in the calculation above, primarily include rebates and claims payable and exclude the PBM business’ income taxes payable to WellPoint and deferred tax liabilities as these will not be paid in accordance with the acquisition agreement.

 

We have determined that goodwill arising from the acquisition will be deductible for tax purposes. Express Scripts and WellPoint have agreed to make an election under Section 338(h)(10) of the Internal Revenue Code with respect to the acquisition of NextRx, Inc. and NextRx Services, Inc. We estimate the net present value of future cash savings to us from the deduction to be between $800 million and $1.2 billion depending upon the discount factor and tax rate assumed.

 

 

Unaudited Pro Forma Condensed Combined Balance Sheet

 

(A) Adjustment reflects the use of $700.0 million of cash on hand to fund a portion of the acquisition consideration.  If the underwriters of this offering elect to exercise their over-allotment option in full, the amount of cash on hand to be used as consideration for the acquisition will be reduced by $220.0 million.

 

Sources and uses of funds to finance the PBM business acquisition are as follows (in millions):

 

 

 

 

 

These adjustments eliminate the PBM business’ assets and liabilities which are not being acquired and are not disclosed elsewhere in these notes. As of March 31, 2009, these were comprised of the PBM business’ cash and cash

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

equivalents of $6.7 million, current deferred tax assets of $20.1 million, income taxes payable of $149.3 million and non-current deferred tax liability of $53.5 million.

 

 

Adjustment includes the fair value estimate of the property, plant and equipment being acquired of $39.6 million and removal of certain PBM business assets which are not being acquired.

 

 

The net adjustment to goodwill includes the elimination of the PBM business’ pre-acquisition goodwill balances and is calculated as follows (in millions):

 

 

The net adjustment to other intangible assets, net, is calculated as follows (in millions):

 

 

See Note 3 for the estimated purchase price allocation.

 

 

This reflects a conforming accounting adjustment for a difference in the PBM business’ contractual arrangements with the retail pharmacies from the contractual arrangements we have with retail pharmacies. The corresponding offset was recorded as a related party receivable.

 

 

The historical stockholders’ equity of the PBM business will be eliminated upon the completion of the acquisition. Our total stockholders’ equity after giving effect to the acquisition will be increased over the pre-acquisition amounts by the fair value of any common stock issued in connection with the purchase price. We intend to issue approximately 23 million shares of our common stock in this offering. The gross proceeds are estimated to be $1.47 billion ($1.69 billion if the underwriters’ over-allotment option is exercised in full) using a share price of $64.05, which represents the last sale price of our common stock on NASDAQ on May 29, 2009. A 10% increase or decrease in the number of shares issued will change the proceeds by approximately $150 million. The calculation of the pro forma adjustments to common stock and additional paid-in capital, or APIC, is as follows (in millions):

 

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

The following is a summary of the adjustment to retained earnings (in millions):

 

 

Unaudited Pro Forma Condensed Combined Statements of Operations

 

 

A reclassification adjustment was made for the PBM business’ rebates and administrative fees payable to clients to conform to our presentation of these amounts. These were presented as cost of revenues within the PBM business’ historical financials. The total reclassification, which reduces revenues, was $339.2 million for the three months ended March 31, 2009 and $1,252.7 million for fiscal 2008. In addition, a reclassification of the PBM business’ investment income from revenues to interest income was made to conform to our presentation. The total investment income reclassification was $0.1 million for the three months ended March 31, 2009 and $1.3 million for fiscal 2008.

 

 

As noted above in section (G) Revenues, an adjustment was made to reclassify the PBM business’ rebates and administrative fees payable to clients to conform to our presentation. Also, an adjustment was made to reclassify the PBM business’ direct costs associated with dispensing prescriptions to conform to our presentation. The prescription dispensing expenses were classified as general and administrative expenses in the PBM business’ historical financial statements. The calculation of the pro forma adjustments to cost of revenues is as follows (in millions):

 

 

 

Amortization of intangible assets

 

Adjustments have been included to record the estimated net increase in amortization expense for other intangible assets. The incremental amortization expense was calculated using a preliminary weighted average estimated useful life of 15 years, which is consistent with the estimated benefit period, to amortize the preliminary estimated value of $1,570 million assigned to customer contracts and relationships. A 10% change in the amount allocated to identifiable intangible assets would increase or decrease annual amortization expense by approximately $10 million. An increase or decrease in the estimated useful life would increase or decrease annual amortization expense by approximately $7 million. The calculation of the incremental amortization expense is as follows (in millions):

 

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

 

The amount allocated to identifiable intangible assets and the estimated useful lives are based on preliminary fair value estimates under the guidance of FAS 141R and FAS 157. The purchase price allocation for identifiable intangible assets is preliminary and was made only for the purpose of presenting the pro forma combined financial information.

 

In accordance with FAS 141R and FAS 157, we will finalize the analysis of the fair value of the assets acquired and liabilities assumed resulting from the acquisition for purpose of allocating the purchase price. It is possible that the final valuation of identifiable intangible assets could be materially different from our estimates.

 

Depreciation expense

 

The change in depreciation expense is a result of adjusting the acquired property and equipment to an estimated fair value of $39.6 million based on estimated remaining useful lives ranging from 1 to 2 years for computer software, 4 to 10 years for furniture, equipment and leasehold improvements and 38 years for a building. There are certain PBM business assets that we are not acquiring from WellPoint. These assets and associated depreciation are excluded from the adjusted pro forma financial statements. The calculation of the depreciation expense is as follows (in millions):

 

 

 

 

 

 

The interest expense adjustment included in the unaudited pro forma condensed combined statement of operations reflects the additional interest expense, using an estimated weighted average interest rate of 7.8% for the notes issued in the debt offering as well as the amortization of the related deferred financing fees. For purposes of estimating the weighted average interest rate, we have made certain assumptions regarding the maturity date of each

 

Notes to Unaudited Pro Forma Condensed Combined Financial Statements — (Continued)

 

series of notes offered and the relative portion of the aggregate principal amount allocated to each series. The actual weighted average interest rate may differ from the estimated rate due to changes in market conditions or differences between the actual terms of the notes offering and our assumptions. We expect to incur $15 million of deferred financing fees with an amortization period of 6.8 years, in connection with the notes. As reflected in the table below, for each 1/8% deviation between our assumed weighted average interest rate and the actual weighted average interest rate, interest expense related to the notes would increase or decrease, as applicable, by approximately $0.8 million for the three months ended March 31, 2009 and $3.3 million for the fiscal year ended December 31, 2008, respectively.

 

We intend to draw upon our current credit facility revolver for the portion of the purchase price that is not funded through other sources. We estimate the interest on the revolver to be 2.0% using a six month LIBOR rate as of May 29, 2009, plus a margin of 75 basis points.

 

The adjustment to interest expense is calculated as follows (in millions):