Buy into CVS's improving health

CVS operates more than 500 vet practices, about 95 per cent of which are in the UK, with the rest in the Republic of Ireland and the Netherlands. It generates 90 per cent of its turnover from its vet business, with the rest from services to support its clinics: lab work, cremations, and online food and medicine sales. Customers are able to visit clinics spontaneously, or through CVS’s loyalty scheme, the ‘Healthy Pet Club’. This growing club initiative provides 40 per cent of the group’s ‘small animal’ (domestic pets) clients, offering CVS increasing revenue protection and visibility. 

Under previous leadership, the growth was fuelled by acquisitions of surgeries, with uninspiring results. CVS acquired 62 practices in its 2017 financial year, followed by another 52 in the following year, conducting a £59m share placing in February 2018 to fund its shopping spree. Growing private equity competition pushed CVS into paying more and more for its acquisitions, some of which subsequently underperformed and squeezed margins. CVS’s share price plummeted from its 1,400p peak in November 2017 to a nadir of 400p in February 2019 after it revealed disappointing results from its expansion in the Netherlands, and farm and equine practices. Former chief executive Simon Innes left at the end of 2019.

The pace of acquisitions has slowed under new boss Richard Fairman, and CVS is closing 33 smaller, lower-performing practices. It is focusing on organic growth and larger, better-equipped surgeries instead. “I could easily see a scenario where they’re back to the 15 per cent Ebitda [cash profit] margin in the coming years,” says Eustace Santa Barbara, co-manager of the Marlborough Special Situations Fund, which counts CVS as its third-largest holding. This margin compares with a 12.3 per cent last year.

Previous management would dictate in detail to vets how to run their practices, which contributed to driving up its vacancy rate to 12.5 per cent in 2018. This, in turn, forced CVS to hire locum practitioners, who were more expensive and less productive. CVS now sets budgets for vets to use at their discretion, and in February its vacancy rate was back down to 7.9 per cent.

Better staff retention will help CVS meet rising pet ownership levels, which have grown steadily over the past decade and rocketed during lockdown; the price of a dachshund rose 89 per cent between the announcement of lockdown and the end of June, according to the Dogs Trust. The nature of pet ownership has also evolved. The ‘humanisation’ of pets has been blamed for animal welfare problems. A 2018 RSA study found that almost a third of dogs were overweight as a result of being overindulged. 

This trend has accompanied a rise in the number of insured pets. Insurers paid out a record £815m to pet owners last year, according to the Association of British Insurers, double the amount paid a decade ago. This level of coverage will help to protect CVS’s income in an economic downturn. One industry insider suggests that the parlous state of charity finances will make it harder for volunteer organisations to provide care for lower-income pet owners, with charities having performed this role during the aftermath of the 2008 downturn. While sad, for CVS the absence of this competition and the vulnerability of smaller independent practices should help it to preserve market share. It could also spawn attractive acquisition opportunities.

The pandemic prompted the temporary closure of half of CVS’s small animal sites. These are now able to provide full services again and revenues have recovered to pre-pandemic levels. CVS also acted to preserve its balance sheet, and leverage has fallen from its February position of 1.61 times cash profits, compared with a covenant of 3.25. This sits favourably against the leverage of some private equity-backed competitors, which can exceed eight times.