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Express Scripts Holding (NASDAQ:ESRX)

Q3 2012 Earnings Call

November 06, 2012 9:30 am ET

Executives

David Myers - Vice President of Investor Relations

Jeffrey L. Hall - Chief Financial Officer and Executive Vice President

George Paz - Chairman, Chief Executive Officer and President

Analysts

Thomas Gallucci - Lazard Capital Markets LLC, Research Division

Lisa C. Gill - JP Morgan Chase & Co, Research Division

Glen J. Santangelo - Crédit Suisse AG, Research Division

Robert M. Willoughby - BofA Merrill Lynch, Research Division

Robert P. Jones - Goldman Sachs Group Inc., Research Division

Bret D. Jones - Oppenheimer & Co. Inc., Research Division

Ricky Goldwasser - Morgan Stanley, Research Division

Steven Valiquette - UBS Investment Bank, Research Division

Charles Rhyee - Cowen and Company, LLC, Research Division

Ross Muken - ISI Group Inc., Research Division

Ann K. Hynes - Mizuho Securities USA Inc., Research Division

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Express Scripts Third Quarter 2012 Earnings Call. [Operator Instructions] As a reminder, today's call is being recorded. With that being said, I'll turn the conference now over to the Vice President of Investor Relations, Mr. David Myers. Please go ahead, sir.

David Myers

Thank you, and good morning, everyone. With me today are George Paz, Chairman and CEO; and Jeff Hall, our CFO.

Before we begin, I need to read the following Safe Harbor statement. Statements or comments made on this conference call may be forward-looking statements and may include financial projections or other statements of the company's plans, objectives, expectations or intentions. These matters involve certain risks and uncertainties. The company's actual results may differ significantly from those projected or suggested in any forward-looking statement due to a variety of factors, which are discussed in detail in our filing with the SEC. For clarity purposes, all numbers we talk about today will be on an adjusted basis. Please refer to the tables in our press release for reconciliation of GAAP to adjusted numbers we will be discussing. The reconciliation of EBITDA to net income can also be found in our earnings release. The release is posted on our website.

At this point, I'll turn the call over to Jeff, who'll discuss our third quarter financial results.

Jeffrey L. Hall

Thanks, David. Our third quarter results continue to trend a strong operating and financial performance. In keeping with our model of alignment, the increase in generic fill rate resulted in significant savings to our clients, and our gross profit margin was up 30 basis points sequentially. Integration, including the migration of lives to our destination platform, continues successfully. Synergies continue to be accelerated into 2012, which contributed to strong earnings for the quarter and the increase in our guidance range. Cash flows were strong, and we made good progress towards realizing our cash flow synergy and delevering our balance sheet.

We reported third quarter earnings per share of $1.02, up 29% from the same quarter last year. Home delivery and specialty claims were $39.8 million, up 199% from the same quarter last year. On a pro forma basis for the acquisition, organic or same-store equivalent home delivery claims would have grown approximately 3% over last year.

SG&A expenses declined $94 million sequentially from the second quarter as a result of the accelerated realization of synergies. We expect SG&A to increase in the fourth quarter, reflecting normal seasonal expenses and preparation for one-one implementations. EBITDA was $1.6 billion, up 136% from last year, while EBITDA per adjusted script was up 9%.

During the quarter, we repaid $1.1 billion of debt, which included Medco's $600 million accounts receivable financing facility which we have terminated, continuing our plan to quickly delever. We now expect EPS for the year, including deal-related cost and amortization and other nonrecurring items, to be in the range of $3.65 to $3.75, representing growth of 25% over 2011 at the midpoint, an increase of $0.19 from our original midpoint as a result of the acceleration of synergy. This range now assumes a 39% tax rate, which is an increase from our previous guidance, which assumed a 39% rate. The effective tax rate for the fourth quarter is expected to be 39%.

And at this point, I'll turn the call over to George.

George Paz

Thank you, Jeff, and good morning, everyone. We remain confident that we are well-positioned for growth and remain bullish on the PBM business. Although we are not prepared to provide 2013 guidance this morning, I will provide more clarity into our future outlook. There are a number of positives that will provide tailwinds for our business. The integration of Medco remains on track, and we are meeting or exceeding our key targets.

Last week, we successfully migrated our fourth tier of clients to our destination platform and have made considerable progress in rationalizing our operational footprint. As a result, certain synergies originally expected in 2013 were realized in 2012. This is contributing to a strong 2012 results. This acceleration of synergies reduces the incremental synergies in 2013.

Our pipeline of products is resonating in the marketplace. Clients have a thirst to better manage cost, and they appreciate the science behind our evidence-based approach to managing the pharmacy benefit. We will help clients and members navigate the complexity of Health Care Reform, and we will enhance our leading position in management of the cost and quality of care for specialty medications.

Our cash flows remain strong, and our timing for expected realization of cash flow synergies is accelerating. Notwithstanding these recent successes, the economic environmental outlook is presenting some near-term challenges. Over the last few weeks, as part of our forecasting process, we spoke to many of our health claim clients and large employer clients. What we learned is that our clients have unprecedented concerns about our country's economic outlook. This lackluster economy is taking its toll in several areas. In aggregate, our health claim clients are expecting membership reductions in 2013. Large employers have pulled back on hiring plans, using contractors and part-time employees when necessary. Mid- to small employers are cutting back or postponing health care coverage decisions while waiting for more clarity on Health Care Reform. And we continue to see low rates of drug utilization as individuals deal with uncertainty at the household level.

As a result, the current weak business climate and the unemployment outlook will likely result in significant in-group member attrition in 2013, continued low utilization rates and increased client demands and expectations. We had a successful sales season, adding approximately 215 new accounts, which exceeded our sales targets. We operate in a very competitive environment, but we remain disciplined in our approach to pricing and profitability. We project that our retention rate will be approximately 94%. In addition, the transition of the UnitedHealth book of business to OptumRx throughout 2013 will reduce claim comparisons in 2013 versus 2012 and 2014 versus 2013. The adjusted Rx reduction will result in diseconomies of scale until the book is fully transitioned.

In spite of these near-term headwinds and a challenging macroeconomic environment, we expect to grow earnings per share and EBITDA in 2013. In fact, we expect to grow gross profit per adjusted Rx in the high-single-digit range and EBITDA per adjusted Rx in the mid-teens next year. However, with the acceleration of synergies in '12, which translates into lower incremental synergies in '13, along with lower volume expectations, we view current consensus estimates for '13 as overly aggressive.

In early January, we'll receive the actual enrollment data from all of our clients and see initial Rx volume. This will provide more clarity to our expected financial performance. Therefore, on a go-forward basis, we will provide annual guidance when we release our year-end financial results. As such, we will give our 2013 guidance in February. Express Scripts will continue to develop and offer innovative solutions that will protect American families from the rising cost of health care. We have an unprecedented opportunity to help make the use of prescription drugs safer and more affordable for tens of millions Americans. That will translate into strong value for our clients and patients and continued growth for our stockholders.

At this point, operator, we'll be happy to answer any questions.

Question-and-Answer Session

Operator

[Operator Instructions] And first, we'll go to the line of Tom Gallucci with Lazard Capital Markets.

Thomas Gallucci - Lazard Capital Markets LLC, Research Division

George, I just wanted to follow up on your comments there. Relative to having spoken to some of your clients in recent weeks and their concerns about the economy, can you sort of compare and contrast where they stand right now looking at '13 compared to maybe where they stood a year ago as we were looking at '12? Just trying to understand this persistently weak economy that we've had, the extent to which maybe your perception is just getting worse versus it continues to just be lackluster, I think, in your words. And are you seeing a concentration of membership or lack thereof in certain clients or certain types of clients?

George Paz

So, no one size fits all, of course. And what we're seeing, and you see it every day in the Wall Street Journal. Yesterday, there was a headline article about how employers are looking at the impact of Health Care Reform and what actions they may take. There's articles in today's papers, there was -- this is a constant theme. And I believe employers are concerned about the economic outlook. And it was tough going through '09 and '10. Employers had to make very difficult decisions about workforce levels. And nobody enjoys doing layoffs. It's something that has to be done to protect the shareholder base and something to be done to protect the rest of the employees and to stay profitable. But having gone through that, people don't like -- CEOs don't really like doing that. And so companies have been very slow to bring back employment. We saw that throughout last year's numbers as well. The difference is we had significant Medco synergies that accelerated in the years that helped offset a lot of the attrition that we saw throughout the course of the year. Employers, when you see the unemployment numbers that are coming out of the federal numbers when they're released, people are hiring. But that doesn't mean they're necessarily hiring people and giving them benefit coverage. A lot of employers are hiring part-time workers, people that keeps throwing hours [ph] to below 30%. Other employers are hiring contractors and using contractors to do the work. Some of the jobs, unfortunately, are going offshore. And so we're seeing those trends existing in our marketplace. I would tell you it's worse today, at least the outlook is. Now the reason we're not going to give you a hard number is nobody really knows, right? There's still a month to go, 2 months to go before the end of the year. We don't know exactly what's going to happen. I don't want to throw a number out there based on some numbers that are coming into us and not be accurate when in 2 short months, we're going to have a very strong number. On January 1, actually it's before then, we'll get the enrollment files from all of our clients. Every one of them sends in a new enrollment file. They do it constantly, but, of course, we'll get the January 1 numbers, which will be the starting point for next year. Those stayed pretty consistent through the course of the year. And we'll know where we stand. We'll know what the success of our health plan selling seasons are. We'll know the success of the retention endeavors. We'll see where the numbers are at. And we'll be prepared in February to give accurate guidance, which is much better than we could do today.

Thomas Gallucci - Lazard Capital Markets LLC, Research Division

Okay. Maybe just as a follow-up, just to make sure we understand, your absolute or specific numbers aside, when you're alluding to '13 being overly aggressive, is it sort of based on new things that you're finding recently, or is it that maybe -- is it The Street has meandered further afar from where you've been thinking? And maybe the volume issues you're talking about or the synergy acceleration making for a little harder comp next year are some of the places that were off? So have your thoughts actually changed, or is it that you're sort of reining in The Street versus where they've gone?

George Paz

Well, let's go back to last quarter. We had a strong second quarter earning. Through the course of the last couple of months, consensus estimates on earnings have continued to go up without really a catalyst from us. We gave earnings guidance. We didn't have a forum for which to discuss, as you know, because of FD, if somebody takes up their guidance, we just can't call them up and say what are you doing? That's against the law. So we have to have a forum by which to address this issue. We're not prepared to actually say what next year's earnings are going to be. But what we are prepared to say is that this continued tick-up, as we look at an uncertain economy and the numbers, what we see confronting us doesn't feel warranted. And therefore, we felt this was the right forum to address that issue. And that's what we're doing on this call, is addressing the issue we believe that the numbers have gotten ahead of themselves.

Operator

The next question is from Lisa Gill with JPMorgan.

Lisa C. Gill - JP Morgan Chase & Co, Research Division

George, can you help us to quantify any of the things that you talked about? For example, the synergy pull-through from '13 into '12 would be one. And then, secondly, when you talk about acceleration in gross profit per script, is that because of the makeup of your scripts as you lose some of the lower profitable United Scripts, or are you saying your underlying book is still going to have nice high-single-digit growth in gross profit per script?

George Paz

Yes, that's a good question. I'll do my best here. Again, I'm not providing earnings guidance. So I just want to make sure we're clear on that. But from an overall perspective, addressing the second half first, yes, we're continuing to pull in our synergies. And we are still working with our clients in order to promote mail, as Jeff said in his prepared comments, that mail year-over-year is up 3% on an equivalent basis. And we're continuing to sell our clinical programs. These things are all driving down the cost of health care for our plans and our members and increasing profitability for us. Those trends will continue into the next year. And our belief is that we will grow gross margin and EBITDA per script. Obviously, gross margin grows because of getting more pull-through in our client base, better pull-through in our client base of our programs and generics and mail and all those type things. And on the other side of the coin, EBITDA per script will continue to grow because of reductions in our cost structures. And that's including some diseconomies of scale that are occurring with respect to the UnitedHealth business going off. So even with those diseconomies, we believe we can grow EBITDA per script in the mid-teens. As far as -- what was the first part of your question again?

Lisa C. Gill - JP Morgan Chase & Co, Research Division

On the synergies, I mean, I know you don't want to talk about specific numbers, but can you help us even directionally, George, how to think about -- and maybe in a percentage, or you expected some component in '13, and what was pulled through to '12?

George Paz

Sure. Yes, as you know, we've taken up guidance quite a bit in '12. That's the result of mostly of the synergy pull-through that's occurring. The tax rate's gone up, and we're still exceeding our numbers. So that takes additional synergies to make that happen as well. So the synergy pull-through has been good. Where it gets tough, and I think Jeff made this point after we closed the NextRx acquisition, is there's an Express Scripts run rate number, there's a Medco run rate number, and then we believe we can take each of those and get a synergy out of it. But when you actually start putting the books together -- last week on November 1, we moved our largest tier ever of clients. Thousands and thousands of daily prescriptions were moved into the new platform. Then when we do that, we come up with the best rebate programs, the best network opportunities, and we start the pull-through. We, at the same time, our supply chain people are out trying to negotiate better discounts on both the network pharmacy prices as well as the rebates. Those are coming together. How much of that is synergy versus what we would have already got, that becomes very difficult. The ability to say what would have Express Scripts grown on a standalone basis versus how much is synergy, every day we move away from closing becomes more and more clouded. We feel very good of where we're at. But let me just say it another way. If we would go back to the 3% trends that we would have realized before the economy has slowed down, that actually now we're in a negative trend this year, utilization trend, and we would have realized -- so therefore, our groups would have grown, they would have been adding more lives. This may be a whole different conversation. But that's not the world we live in. The world we live in is people are taking less medications this year than they took last year, and our membership and our plans aren't growing. That's what's causing the issue. This is a volume issue, not a earnings per Rx issue.

Lisa C. Gill - JP Morgan Chase & Co, Research Division

And George, just as a follow on that, can you just help the market, though, to understand -- I mean, what we're consistently hearing from investors that they're concerned about is that this is a price issue, that as you went out and you renewed business and one business that -- the concern going into 2014 is that it's a much more competitive PBM market. Can you give us your insights as to what you think on the pricing side and what customers are looking for? Because there's this concern that when you talk about customers' expectations increasing that that's just a code word for they want more at the price.

George Paz

Well, we deal with large employers and medium-sized employers and health clients, and I will tell you, I remember my first earnings call in 1998 at Express Scripts, one of the big issues we faced was pricing pressure and the competitiveness of the PBM industry. I'll tell you, it's -- what is it, 16, 14, 15 years later? That hasn't changed. This is a very competitive marketplace. We deal with very sophisticated clients, and they want a bigger piece of the pie. Our job, as I've said over the -- since I was CFO, is our job is to balance that delivery of value to them with the prices we need to stay competitive. I believe we have many tools in order to help drive down their cost, from Consumerology to the TRCs to the clinical programs we're running, that allow us to meet the needs of our clients and maintain our price. I would tell you, Lisa, pricing is incredibly competitive, but at the same time, we can offset that. Otherwise, EBITDA per script would not be rising. It would be declining. And so it's not that this is an easy walk, it's just that we have a lot of tools and opportunities to help control that. And I still believe that we have the best offering out there. And the consultant's job is to try to get us all within a range, and then we try to sell. Like I've said for years, we never want to be the best price in any deal, and I think we've maintained that stance.

Operator

Our next question is from Glen Santangelo with Crédit Suisse.

Glen J. Santangelo - Crédit Suisse AG, Research Division

I just wanted to follow up on the previous comments you just made regarding a negative utilization trend this year. It seemed to suggest that we're seeing continued deterioration throughout the year, but yet if you look at the industry data per IMS and other sources, it would suggest that the script volume is actually going in the other direction, is actually accelerating as the year goes on. I'm just trying to reconcile maybe what you're seeing within your customer base versus maybe what industry data seems to suggest.

George Paz

Well, we've had this conversation over the last quite a few years. I've never been able to quite understand IMS' data. It never lines up well with our data. All I can tell you, Glen, is what I see in our numbers, and we see utilization trends decline. And we represent a pretty big piece of the puzzle here. And it's clearly happening. And that's notwithstanding all of the things we're trying to do to make sure that our diabetic and our hypertensive and our cholesterol clients and patients continue on their disease state regimens. But you know, it's -- I'm just reporting what we're seeing.

Glen J. Santangelo - Crédit Suisse AG, Research Division

Okay. So maybe if I could just follow up on the revenue issue, because it's clearly suggesting that maybe the revenue expectations out there are a little bit too high. And you said 2 things that I want to follow up with. First is UNH. It kind of sounds like UNH is rolling off in fiscal '13 and fiscal '14. Could you help us think about the timing of when we should start to think about those claims coming out of the top line?

George Paz

Well, they come off throughout '13, which means that when you compare '13 to '12, they're roughly 50%, it's not quite that number. But just assume 50% of the claims are going to be out during '13, which means when you get to '14, they're all gone. But then you still have 50% in for '13. So you got to bridge it down.

Glen J. Santangelo - Crédit Suisse AG, Research Division

Okay, that's clear. The retention rate, I think you said, was 94%. So as I think about sort of building that model in 2013, I know you don't want to give guidance, but based on your retention rate comments, are we starting fiscal '13 -- I think you measure retention rates based on claims volumes, so are we starting fiscal '13 6% in the whole on claims volumes?

George Paz

There's a lot that goes into that. That's a factor into it, you got to bring in the new sales wins that are going to add back to it, then you got to reduce it by negative utilization, if that persists. And then you have to figure out what all the other clients' attrition rates are going to be. That's why we're not giving guidance right now.

Glen J. Santangelo - Crédit Suisse AG, Research Division

Okay. And then my last question, and I promise I'll jump off, is UNH. As it rolls off, you seem to suggest that maybe there's going to be a little bit of diseconomies of scale. And when we traditionally thought about UNH, it had very little mail volume, I thought. And so as these retail claims run off, I'm just trying to understand that diseconomies of scale comment as I think about sort of where our gross margins or the impact it could have on gross margins over the next 12 months.

George Paz

We have an obligation to the patients that are served by United in those plans to make sure that they have quality service. And just because they're rolling off the book, we still had to have the clinical support to provide all these therapy programs and all the other programs that they're offering, PAs and on and on and on. They do have some mail, not a lot, but they do have mail volumes. And so we've got to -- we intend to support all that. And so you can't let people go. There's a lot of account managers that service their accounts. And until they're transitioned away, we can't reduce that account management field force. So there's a lot of costs, a fair amount of cost, that are attributed to the account that can't go away, or they can step down, but we can't step it down until after we hit certain intervals of business reductions that causes diseconomies of scale to occur.

Operator

Our next question is from Robert Willoughby with Bank of America Merrill Lynch.

Robert M. Willoughby - BofA Merrill Lynch, Research Division

George, you have about $1 billion on the balance sheet, probably up to another $1 billion coming in the fourth quarter, if not more. How much do you need to run the company? What kind of deleveraging should we expect in the fourth quarter, and when do share repurchases make sense?

George Paz

That's -- Bob, I've always tried to be a good steward of our balance sheet. I would really prefer to answer that when we come out with our 2013 guidance. Obviously, we're going to look at both the proper levels of debt, the right -- I'm a big fan of leverage. So we want to keep the right level of leverage on our balance sheet, but at the same time -- and enter into the right stock buyback programs. But I'm not really prepared to do that until we see how the year is rolling out and provide all of that at one time. I don't want a piecemeal guidance, here.

Robert M. Willoughby - BofA Merrill Lynch, Research Division

What would you have us focus on as a catalyst ahead of the first quarter earnings report for next year that really will be the real sense on what you can earn for 2013? If you're not in that market buying stock or deleveraging aggressively, I'm not sure why we need to own the stock near-term.

George Paz

I think because we're a quality company that's providing tremendous value to our shareholders. And when you -- what I'm telling you is that the stock ran up, we felt that the obligation to tell people that it was aggressive. And there's a lot of catalyst that still can occur. I don't know what the economy is going to look like over the next 2 months. Today's a big day. And we'll see how all those plays out and where it leads and how does consumer confidence come back. I can't give you a whole lot more than that, Bob. It's -- that's where we're headed.

Robert M. Willoughby - BofA Merrill Lynch, Research Division

I guess -- are you surprised at the reaction to the stock today? Unfortunately, your comments haven't done much to help it over the course of the call. It actually trended down. Is down $10 a fair assessment of your opportunities going forward?

George Paz

I think our stock is tremendously undervalued.

Operator

And next, go to Robert Jones with Goldman Sachs.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

I just want to circle back on the pricing comments. I understand and appreciate that you operate in an environment where every year, pricing is always challenged as clients look for more savings. But I guess just sort of if you could spend a little bit more time there, because it seems to be a big concern. I mean, are you saying that the pricing environment today or as you look into '13 is incrementally worse than the trends that you've seen over the last several years, or is it really more just kind of a continuation of what goes on in the PBM industry?

George Paz

It's a continuation of what goes on in the industry. And what happens is if you can't -- if as a PBM, your account management team and clinicians can't present to the client new ideas to confront their issues -- say they all of a sudden, they get some -- they hire some people or somebody comes down with a severe illness, and health care costs are jumping on them going up, our job is to try to help them navigate that, to come up with the best solutions. If they don't feel we're able to offer that, one of 2 things happen. Either the price discussion gets tremendously more complex, difficult, or they leave because somebody else is offering them something better. Our job is to continue to look at new opportunities, new products and new ways to manage those costs. I think we've gotten better at that. And that's why I said and I continue to say that earnings per -- or gross margin per adjusted Rx as well as EBITDA per adjusted Rx, will go up next year because I believe we are focused on doing the right things and providing value to our patients and value to our clients. As I said a few minutes ago, this is a volume game, not a price game.

Robert P. Jones - Goldman Sachs Group Inc., Research Division

No, and I guess just try to piece together some of the comments on the call this morning around -- on the cash position and, obviously, the stock, your view of the stock being significantly undervalued, I guess would you guys consider straying from your 2x debt to EBITDA kind of benchmark that you'd put out there as far as deploying capital towards share repurchases? Or is that a pretty hard and fast metric that you're going to hold to?

George Paz

I think everything's on the table.

Operator

.

And next, go to Bret Jones with Oppenheimer.

Bret D. Jones - Oppenheimer & Co. Inc., Research Division

I want to circle back on the comments about United and the diseconomies of scale. I was wondering if there's any way to kind of quantify what kind of impact there could be. We realize that you do have an obligation to provide clinical support, but United Scripts were also relatively low-profitability scripts. Is there any way to get our heads around what kind of impact that could have as that business rolls off, if you're losing low-profitability scripts versus the amount of cost you'll have to retain to service the customer?

George Paz

Well, let's put things in perspective. Profitability or profit gross margin per script is almost irrelevant when it comes to diseconomies of scale. There's a cost structure that has to support that business. And so we have lots of people that work on that account. Whether you're taking off $0.05 scripts or you're taking off $5 scripts, you still have a cost structure. And so what's occurring is your spreading more and more of those costs against less and less of those scripts, no matter what the gross margin is. And therefore, you're having diseconomies of scale as those scripts run off. Until we're in a position to be able to redeploy all those people in either other jobs or, unfortunately, take them out, we are not going to realize the cost reductions and locks up with a run off of the revenues. That's just -- that's the way the business works.

Bret D. Jones - Oppenheimer & Co. Inc., Research Division

And so if we just think about that for 2013, is it possible to offset -- is it your position you'll be able to offset it? Or do you think it will be a drag next year?

George Paz

It will be a drag in '13. And then in '14, we have to turn a lot of things off in the first quarter, which will be a bit of a drag. And then based on probably sometime in the second quarter of '14, again, that's depending if everything stays on target. We don't control this one. So we're providing all the help we can to United to move these individuals, these plans over to OptumRx. But if they fall behind or they don't meet their schedule, then -- if it doesn't finish up by 1/1/14, we have a different answer. But assuming it is all done on 1/1/14, by the second quarter of '14, we should be rightsized and all the expenses out.

Operator

Our next question is from Ricky Goldwasser with Morgan Stanley.

Ricky Goldwasser - Morgan Stanley, Research Division

We're hearing the clients are increasingly looking to move to the lower-cost options, you've talked about it in the past, such as mail and narrow networks. Back in 2011, I think you thought the economy would weigh on mail [ph] penetration. With what you know today, what are your thoughts on mail penetration for next year?

George Paz

Well, I still think it's a very strong program that helps clients' plans meet their needs. So the clients are still, as Jeff said in his prepared comments, mail is up 3% in this tough economy. We're going through that process of understanding what the clients are going to accept for plan designs that's still under works, and we'll give that guidance when we release 2013 guidance in February. The same thing with narrow networks. That's a very good opportunity for clients to reduce costs by eliminating the network access, and more and more clients are in that program. And so, again, in -- when we release guidance, we'll provide some insights.

Ricky Goldwasser - Morgan Stanley, Research Division

Okay. And then I know that you don't talk about specific customers, but we've been hearing from some other DoD suppliers that they are now seeing lower demand levels out of the DoD. You talked initially on uncertainty around budget. Given the risk of sequestration and the potential defense cuts, are the DoD employment levels reflected in your thinking on covered lives for next year?

George Paz

Yes. DoD is -- we are not seeing lower demand in that book of business. That's our -- that's a whole different program than an employer-based program. Sequestration, by the way, we want to be partners with the Department of Defense if they're faced that issue. And I think there's some great things we can do to help them reduce their costs, and we're meeting with them regularly, and it's a great client for us. We enjoy our relationship with them, and we're all proud to serve our men and women in uniform.

Ricky Goldwasser - Morgan Stanley, Research Division

Okay. And then lastly, and, again, I know that you're not talking about growth rates, but from what I'm hearing on this call and your comments on United and kind of like some deleveraging in '13 and then higher profitability starting in 2Q '14, as we think about the future and adjust our models, should we just think about smoother earnings growth for Express over the next couple of years rather than kind of like the spike that we've been modeling and then more of a slowdown? Is that the right way for us to think about the trajectory for the next 2 to 3 years?

George Paz

Well, Ricky, I can't speak -- we're not even giving '13 guidance, so I can't, certainly can't speak to '14 or '15. We'll take those on as we get closer to those timeframes. Again, I don't -- what I said was there was diseconomies of scale that we're going to incur with respect of the United book of business. I didn't discuss profitability in '14. It's just that there was diseconomies of scale that would come out of the business in the second quarter of '14. So -- and again, that's all dependent upon the United transition of those lives, so we'll have to see how that plays out.

Operator

Our next question is from Steven Valiquette with UBS.

Steven Valiquette - UBS Investment Bank, Research Division

So just -- and I mean this kind of in the friendly way, But just, I guess, some of your large competitors today are suggesting that they're not really seeing or expecting any in-group member attrition in their books of business for 2013. So I guess thinking about just trying to figure out maybe if there's something unique about your book of business, where maybe your large employer base may witness more employee attrition maybe than what other PBMs might be witnessing. Is there any angle on that, I mean maybe WellPoint versus non-WellPoint, or just any comment that might help clarify some of that and why maybe you're seeing that but the other PBMs are not.

George Paz

Well, we've got 100 million Americans as our client base. We have 3,600 clients. So I think we've got a pretty good cross-section of America here. We have very large health plans and very small health plans. We're in every state of the union with clients, so I think we're pretty diverse when it comes to the book of business. I'm just telling what we're seeing. The way the process works is we don't do these things in a vacuum, we've been doing it for a lot of years. So when we go to do our budgets for the following year, we reach out to our clients. We don't know how their sales seasons are going, and we don't know when they sell, whether they're selling an integrated life on the health plan side or they're selling PBM or non-PBM lives. And so we got to capture all that data in order to roll up our numbers into our annual forecast and what we're going to do. When you look at the numbers that are coming up to us, that's what we're seeing. We're seeing our plans are saying that they expect attrition. And we're not in a position to second-guess that. And we're running with those numbers. We're going to work with them, but again all this becomes clear in January, and we'll be in a position to provide clarity in January when we actually get our enrollment figures.

Steven Valiquette - UBS Investment Bank, Research Division

Okay. That's helpful. Just one real quick follow-up. Is there anything restricting you on doing share buybacks right now if you wanted to, either on debt covenants or some other factor? I know you're not guiding that, but just is there anything restricting you if you wanted to, theoretically?

George Paz

No. Obviously, we'd work hand in glove with the rating agencies to make sure we protect our bondholders and do what's right for all of our stakeholders.

Operator

And we'll go to Charles Rhyee with Cowen and Company.

Charles Rhyee - Cowen and Company, LLC, Research Division

Maybe looking at just 2012, if I recall, you guys were assuming a big step-up in the share count, and it seems like the share count itself as we think about next year could have a big swing on what earnings is. Jeff or George, can you give just an update what you're expecting here for end of year share count?

Jeffrey L. Hall

Yes, we're still expecting 750. We haven't moved off of that. Obviously, that means there's going to have to be a pickup here in the fourth quarter. But that's still our best estimate.

Charles Rhyee - Cowen and Company, LLC, Research Division

And then that pick up...

Jeffrey L. Hall

And then obviously that means that, I mean, that 750 for the year, it's because the first quarter was low. So obviously, there is a big pickup in share count into '13, because we don't have a first quarter without Medco averaged in again.

Charles Rhyee - Cowen and Company, LLC, Research Division

Right. The assumption is that, if I recall correctly, remind us what the assumption into why the step-up. Is that we're assuming that the Medco grants all get exercised here as we get into the fourth quarter?

Jeffrey L. Hall

We have a lot of legacy Medco employees that have a lot of share-based comp that has the ability to be exercised. And it's hard for us to estimate when they're actually going to exercise those shares, and they going to our fully diluted count.

Charles Rhyee - Cowen and Company, LLC, Research Division

Okay. And then just lastly, obviously you're not -- I understand you're not giving guidance, but the commentary that you gave is more or less told you what the top end of the range won't be. Can you give us a sense, and I know people have kind of asked it in a couple of different ways, is there any sort of way to talk about what the absolute bottom end might be so that we can at least think about, qualitatively, about next year?

Jeffrey L. Hall

The only thing we've said at this point is that we expect EPS and EBITDA to be up year-over-year. And when we say up, we mean pro forma for the acquisition.

Operator

Our next question is from Ross Muken with ISI.

Ross Muken - ISI Group Inc., Research Division

I guess as you think about sort of the unemployment environment in the U.S., I know we've sort of beat this over the head. But I guess, when we look at our data, it seems like the environment's improving, and so, I guess, what is there in terms of the election tonight that you're also looking for, whether it's reform-based or other that also can influence sort of that assumption on what kind of utilization could look like for next year and into '14?

George Paz

Well, let's make sure we're clear here. We're not giving guidance. What we're saying is what our clients are telling us their thoughts are. And so if, in fact, our clients -- our health plans stay stable on employment; if, in fact, our employer groups hire more people because they get optimistic about the Christmas season and the holiday season and then next year, there could be a significant upside. I'm not saying that this is all a doom-and-gloom story. I'm just telling you based on what we've heard from our client base is what we thought, that we think that the numbers out there are overly aggressive. When you look at employment data and you see employment trends, you've got to go deeper than just what the employment rate is. As you know, you got to understand whether or not those jobs that are being added to the economy are actually getting provided health care coverage. And if they're not being provided health care coverage, then that's -- the small employer number, as you know, that get added into the annual employment number as a monthly employment numbers is a guesstimate. And that's why they always true it up a month later, because they take a set number and they add it to the best guess, because there's no way to get those numbers from small employers. They true it up a month later, and you come out with a number. Well, small employers aren't necessarily having health care coverage right now. They're waiting to see what's happening. So as the economy starts to heat up and the small employer jobs start to be created and the economy starts to grow, the question is, will they add employment? And the second question is in 2014, all these people are going to get covered. So in '14, we're going to see all the people that don't have coverage today or that are being put on the sidelines without coverage will have access to coverage. All those people will know their roles, I don't know if that's 30 million, 40 million or 50 million by then, but it's going to be some number. And that's an opportunity for us. That's an opportunity to work with our health plans to go get those people and provide the coverage. All we're saying is that the roll-off of our client base is more pessimistic. And we don't know -- and what we will do is once we get the employment numbers in, once we get enrollment numbers in, in January, we'll refine it, we'll work with it, we'll see all of January's results. So we'll know what script counts are through the month of January. And I think we'll be in pretty good position to give pretty accurate guidance in February of 2013. And I hope like crazy that the economy is really strong. I'm a big patriot, and I love this country, and there's nothing more than I would like to see than strong employment trends, people adding people to the ranks and our health plans all growing. That will be amazing. And let's keep our fingers crossed that that's what we're reporting on in February.

Ross Muken - ISI Group Inc., Research Division

I guess my point being, do you think that there's any read-through from the health plans, the kind of the uncertainty over the exchanges and sort of reform? And obviously, without knowing who the president is going to be, it's tough to know kind of the trajectory there. So do you think some of that could explain maybe some of the pessimism of the client base on why they may not be as bullish on sort of enrollment and utilization?

George Paz

Absolutely. No question. But the problem is, Ross, I'm not in a position to second-guess that, either.

Operator

And we'll go to Ann Hynes with Mizuho Securities.

Ann K. Hynes - Mizuho Securities USA Inc., Research Division

I want to go back to, I think it was Lisa's question, you were talking about synergies and it's difficult to break out. I guess I really don't understand that. And the reason I'm bringing it up, is when I look at consensus EBITDA estimates, they're really high, and they're really all over the place. And I have a feeling that people are putting a same-store EBITDA growth on your business and then adding what they think the synergies are and x-ing out UNH. So I guess my question is, I know maybe you don't want to break out what the synergy number is versus what real same-store EBITDA growth was in the quarter, but directionally, can you give us what you think the PBM business is growing on a same-store basis? Is it growing mid-single-digits, is it going high single-digits, is it growing low double-digits? Because I think that would reduce some of the overestimates out there, especially with EBITDA.

George Paz

The question isn't -- or the issue isn't whether we're willing to give EBITDA numbers. What I was trying to say was let's assume, let's just make up simple numbers. Let's say Express Scripts had rebates per script of $1, and Medco has rebates per script of $1.10. One very simple synergy is to move all of the Express Scripts members into the Medco formularies, provided their plans will allow you to do that. And if they do, then you would end up at $1.10 or $0.10 a script on the Express Scripts numbers. That would, in my mind, would be considered a synergy. Now in addition to that, brand prices go up 10% a year. So it's Chris Houston's job and her team that work in our supply chain to go out and try to capture that 10% growth as an increase in our rebate numbers. When you have a drug that's the exclusive in a class, that's a very difficult thing to do. When you have 3 or 4 competing drugs in a class, it's much more easier to do. And so it's a question of how much of that price increase can we gain back for our clients and for our shareholders? The synergy calculation becomes mixed, because what ends up happening is as we move the 2 plans together, we go into one platform, one rebate -- one formulary calculation of what the rebates are, and when we do that, then -- so if we had $1, $1.10 and next year it's $1.12, how much of that synergy and how much of that is in-group growth [ph]? You really can't determine that any longer, because all the numbers are getting co-mingled. That's the only point we're trying to make, is that we go in with where we think we should be, we put that out in specific targets to our members, and as long as we're achieving those targets and we're hitting our in-group growth off our base business as well as our synergy targets and we monitor that. We're not in a position to give that information out.

Ann K. Hynes - Mizuho Securities USA Inc., Research Division

All right. Okay. And what about -- did you talk about -- I know you said you had 94% retention rate. Did you talk about just renewal pricing for 2013, what does that look like, maybe for the Express Scripts book of business versus the Medco book of business?

George Paz

I don't know that there was much difference. I mean, our clients are very synonymous so -- or homogeneous, I should say. We both have clients in a large employer group and the health plan group. I think what our teams try to do is that there were certain things that Express Scripts did better than Medco and vice versa. So they're looking for upon renewal is because of the cost of inflation and all the other pieces and the rising cost of health care, they look at the prices to come down. And the question is how do you meet those cost reductions that they're looking for? If you don't have any tools, it comes out of your pocket. If we can offer better formulary decisions, better clinical programs, better options, then it doesn't have to come out of our pocket and we still achieve the desired results that they need. And that's our job. And that's mixed across the entire book. Again, it's a competitive environment, but I don't -- we feel good about where we sit. And the fact that gross margin for scripts can go up next year should speak to the pricing environment, in my mind.

Ann K. Hynes - Mizuho Securities USA Inc., Research Division

All right. And just going back to the EBITDA question. I mean, you do think your base business is growing despite the Medco benefit and despite the synergies you get. Can you just -- I mean, just getting back to people's concern about pricing, just does PBM business continues to grow? I think that's what people want to know.

George Paz

Yes, I would say it is growing.

Well, thank you all very much. I appreciate your time this morning, and we look forward to keeping you posted and look forward to providing you more clarity around 2013 in February. Thank you.

Operator

Ladies and gentlemen, that does conclude your conference. Thank you for your participation. You may now disconnect.

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