By Karl Kipke, CEO of HealthGrowth Capital, LLC
Speculation about Jeff Bezos’ interest in the wholesale pharmacy space is causing sleepless nights among many independent pharmacy owners. CVS and Walgreen’s watched billions of their equity market capitalizations evaporate the week Amazon announced it had gained wholesale pharmacy licenses in 12-states. It is true that Amazon has disrupted every business sector it has entered, from retail to grocery. But is the company biting off more than it can chew? Some key-opinion leaders think it is.
John Hammergren, McKesson’s CEO, said this on the company’s recent quarterly earnings call:
If you actually think about what’s behind the scenes in terms of us taking credit risk, in terms of us processing invoices and processing returns, and then processing pricing on a regular basis, it’s quite significant and more nuanced, perhaps, than it would appear on the surface.”
When you think about the business of distributing pharmaceuticals, it is larger, and profoundly more complicated and regulated, than any market Amazon has entered before.
Consider McKesson, Cardinal Health and AmerisourceBergen:
- They will generate a combined $500 billion in revenue in 2017;
- Their hundreds of highly regulated, licensed and secure distribution centers crisscross the country with scale and IT sophistication that rivals any other industry. (These companies were executing just-in-time inventory replenishment long-before Amazon was founded in 1994);
- Armed with massive balance sheets, they extend tens of billions of dollars of credit to captive, franchised or independent pharmacies throughout the country;
- They manage and react to mountains of compliance and regulatory mandates generated by state and federal regulators every week;
- They have one of the most powerful lobbies in the beltway.
The Big-3 represent a formidable force against any competitor, including Amazon.
Pricing and Reimbursement Complexity
Pharmaceuticals are among the most regulated products on the planet. The reimbursement process is fraught with traps, potholes and delays. The money flows alone represent difficult waters to navigate:
Payors generally don’t regulate the price of pharmaceuticals, allowing the manufacturers to freely set prices. However, payors can set the reimbursement price/rate. The public sector (CMS) reimbursement process is totally different from the private sector. Managing thousands of plans, each with distinct reimbursement rates, tiered co-payment structures, terms and conditions is as much art as it is science.
Market Uncertainty and the Shifting Healthscape
Abrupt changes to the healthcare system, representing one-sixth of the US economy, is costly and inefficient. Yet, that is the environment providers, payors, drug companies and pharmacies find themselves operating in. Small shifts in policy can meaningfully impact trillions of dollars of healthcare services and how various constituents are reimbursed. When the Trump-administration announced that it would stop paying health care subsidies under the Affordable Care Act, it threw the industry into a tailspin of uncertainty and chaos that is still unfolding nearly a month later. One week, the Trump administration hinted that it might cut Medicare and Medicaid spending, while the following week, Maine voters cast ballots to expand Medicaid.
Healthcare in general, and pharmacy sales, could not be more uncertain, unstable or unpredictable. And yet that $500 billion market is where Amazon has set its sights to compete.
Winners and Losers
When the Wal-Mart, drugstore and supermarket chains entered the market, community pharmacies had to adapt and pivot, or they were forced to close their doors. As the drugstore chains competed on price in a race to the bottom (today, a pharmacy is lucky to net $4 for a month’s prescription of Lipitor), independent pharmacies focused on higher-margin products and services like compounding, specialty drugs, customized blister and other packaging for customers and home delivery. Amazon seems more likely to disrupt the national drugstore chains competing on price, rather than community pharmacies focused on higher-touch, higher-margin products and services.
There is no question that Amazon has disrupted every market it has entered and pharmacy will be no different. Everyone in the industry will have to work smarter and harder to maintain share, manage inventory levels, collaborate with physicians and clinical institutions, receive reimbursements and provide value-added services to their customers. But, given how community pharmacies have proven to be so resilient in the face of giants like Wal-Mart, CVS and Walgreen’s, they are unlikely to go the way of the corner bookstore when Amazon dives into the pool.