Tuesday, January 25, 2011

Owning a Pharmacy: Still Pretty Profitable

Today’s surprising news: independent pharmacy owners are doing financially quite well, averaging about $274K in personal income in 2009.

This result comes from my analysis of the independent pharmacy industry based on The 2010 NCPA Digest Sponsored by Cardinal Health. My observations about independent pharmacies:
  • Pharmacy profit margins are not declining.
  • Pharmacy profits have doubled since 1999.
  • Pharmacy owners earned about $274K in 2009.
I think it’s important to review these facts every year since the pharmacy industry always describes margins to politicians as “thin” or “slim.” Any attempt to discuss pharmaceutical reimbursement is trumpeted as a “threat to patient health and access.” In reality, things are still pretty sweet for the average independent pharmacy owner.

Below are my computations and analysis. Take a moment to leave a comment with your own perspective or observations.

PHARMACY PROFIT PRIMER

Here are some basic definitions to clarify the pharmacy profit story:
  • Gross Profit is the difference between the revenues received by a pharmacy minus the costs of products sold by the pharmacy. Gross profit measures the portion of revenues available to cover the operating expenses and operating profit of a pharmacy. Think gross profit of as Earnings Before Expenses (EBE).

  • Gross Margin expresses gross profit as a percentage of revenues.
Pharmacies have two sources of gross profit when dispensing a prescription that is reimbursed by a third-party payer such as a Pharmacy Benefit manager (PBM), Medicare Part D Provider, a State Medicaid program, or an employer:
  • Spread: The difference between (a) the Estimated Acquisition Cost (EAC) reimbursement that a pharmacy gets from a third-party payer, minus (b) the pharmacy’s net acquisition cost for purchasing the product.

  • Dispensing Fee: A fixed per-prescription payment.
The majority of a pharmacy’s profits are earned from the spread, not the dispensing fee.

POINT 1: PHARMACY PROFIT MARGINS ARE NOT DECLINING.

Despite what you may have heard, gross margins for independent pharmacies are not dropping. In fact, the average total gross margin for pharmacies in the NCPA Digest increased by 60 basis points from 23.2% in 2008 to 23.8% in 2009—its highest level since 2003.

The NCPA admitted this point in the Digest by noting that the total gross margin has “…remained in the 22–24 percent range seen over the past 10 years.”

The NCPA data are consistent with the objective data collected from the U.S. Census Bureau, although the data are not directly comparable. You can read more about pharmacy margins in my pharmacy industry report.

POINT 2: PHARMACY PROFITS HAVE DOUBLED SINCE 1999.

Average revenues per pharmacy location were $4.026 million in 2009, up 3.7% versus 2007. Gross profits per pharmacy were therefore about $958,000.

Since gross margins have remained fairly stable, gross profits have grown right along with revenues. In 1999, average revenues were $1.967 million and gross profits per pharmacy were $472,000—less than half of 2009’s gross profits.

POINT 3: PHARMACY OWNERS EARNED ABOUT $275K in 2009.

I estimate that a pharmacy owner got a bit less than 30% of gross profits—about $274,000 in 2009—as discretionary income. Good news in a year when the economy sucked wind, but down from 2008’s more remunerative $291,000 average.

Here’s my math for the inevitable skeptics.

A pharmacy’s gross profit gets spent in three primary ways:
  • Non-Owner Operating Expenses: Everything you need to operate the pharmacy—payroll, rent, licenses, insurance—except the salary and benefits of the owner.

  • Owner Compensation: Salary and benefits of the working pharmacy owner

  • Net Operating Income: The so-called “bottom line”
This is a zero-sum formula. Increasing one part will decrease another. For example, increasing Owner Compensation will decrease Net Operating Income. A pharmacy could report a “net loss” if the pharmacy owner chooses to pay himself or herself a larger bonus of instead reporting a positive net profit on the NCPA survey.

The NCPA Digest reports the sum of Owner Compensation and Net Operating Income as Owner's Discretionary Profit (ODP). These are 2 of the 3 ways a pharmacy's gross profit gets spent.

The Median Owner’s Discretionary Profit Percentage as a Percentage of Total Sales in 2009 was 6.8% (per page 9 of the 2010 NCPA Digest). Thus, ODP averaged about $274K (because 0.068 * 4,026,000=$273,768).

(Math geeks should not fret that I am multiplying an average by a median. The Bowley Skewness implies that the distribution of ODP is not statistically significantly different from skew=0, i.e., symmetry. See last year’s “Bonus Comment For Math Geeks” at the bottom of NCPA Responds to Drug Channels.)

POINT 4: EVERYONE IS ENTITLED TO HIS OWN OPINION, BUT…

C’mon, say it with me: “Everyone is entitled to his own opinion, but not his own facts.”

You may not agree with the numbers above. You may be a pharmacy owner who earned less than the average in 2009. (About half did so.) You may be mad at me for pointing out the conclusions above. You may be a plan sponsor who is surprised to learn where your money goes or a manufacturer who is just figuring out who else makes money from your products.

Whatever. It doesn’t really matter what you feel. The data above tell an objective story.

That said, the Digest data are certainly not perfect. Some major flaws:
  • The NCPA data come from a self-selected sample. Pharmacies doing better or worse than average may not have returned the survey in equal proportions.
  • Year-over-year differences may not be statistically significant. NCPA does not release information on samples size or provide confidence intervals around the point estimates in the Digest.

  • The data were self-reported. NCPA respondents could have made their profit data look better or worse than reality.

  • Many items on the survey instrument were not defined and therefore may have been interpreted differently by respondents.
When I wrote a comparable analysis in 2009, NCPA chose to impugn my reputation rather than celebrate the success of its members. (Read their blog post from 2009.) Let’s hope they respond in a more constructive manner this time around.


29 comments:

  1. Adam- Again, I must take exception if simply because you continue to act like you aren't biased, and aren't influenced by the interests you serve. I have no doubt you protect confidential information, but if you insist on stating your mantra, "Everyone is entitled to his own opinion, but not his own facts", I will hold you to it. So, missing from the headline, and indeed the bullet points at the top, is the fact that pharmacy owners income declined 5.5% from '08 to '09. And while you decline to highlight that fact, in your response to NCPA last year you state: 'Given the potential public scrutiny of the NCPA data, one could imagine that NCPA respondents might even try to make their profit data look worse than reality.' I just fail to see, Adam, how your tactics are much different than NCPA. You say you were impugned, but what do you call your constant suspicion of community pharmacists? It would be nice if you dealt only in facts, but the truth is you mix facts with negative opinions about pharmacists and a naivete toward the motives of PBM's.
    I enjoy your blog, and I do gain some valuable insight, but I must read with a grain of salt, and I hope everyone else does, too.

    ReplyDelete
  2. I don't see where Adam was biased in any way. He simply stated facts. He also did state the fact that owner discretionary income decreased from $291K to $274K. I am not sure how stating simple statistics and facts impugnes anyone. If the facts hit a nerve, so be it, but "they are what they are". NCPA has historically been known to vastly overstate the dire straits that the industry is in, relying on political noise and buzz words to skew the issue. I personally find objective facts, from any writer, refreshing.

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  3. Adam, you must take into account that in the majority of the pharmacies that take this survey, the owner is the pharmacist. My point is that if the owner of an independent pharmacy was not a pharmacist & had to pay a pharmacist, that would drastically decrease the "owners compensation"!


    Adam, I often read your post & find them very informative. In this case, I believe that your views are skewed because of how you earn your living! From what I understand, you mainly work for companies that would benefit from paying pharmacies less! For this reason, I find your opinion on this far to bias on this subject.

    I am an independent multi-pharmacy owner. I am biased also. I feel that a person in your position should make the reader aware of your biases!

    ReplyDelete
  4. Facts and opinions:
    Fact: There are over 22,000 independent pharmacies and over 210,000 pharmacists in the US.

    Fact: The number of respondents reporting financial data to the digest is always under 2,000 and prior to 2004 less than a 1,000 pharmacist responded.

    Opinion: Who responds; the most successful or the least successful? My opinion is that only the most successful pharmacies report to the digest as a general rule.

    Fact and Opinion: If my opinion of human nature is correct; that only the most successful report then it would be a fact that using the digest as a yard stick to measure pharmacies financial health would be improper and invalid.

    The digest as tool is useful to help operate pharmacies but as a financial tool to be quoted like the WSJ is an invalid use. It is not scientifically comprised data.

    As the owner and operator of pharmacies for over the last 30 years I did not start reporting my data until I became somewhat successful.
    Jim Fields RPh
    CFO ApproRx

    ReplyDelete
  5. Jim,

    Alas, Drug Channels does not carry as much weight as the Wall Street Journal (yet). But I appreciate the sentiment.

    A 9% response rate (2,000 out of 22,000) would be considered scientifically valid, although the sample selection biases could be substantial (as I note above).

    I think the Digest data are fair game for analysis. NCPA cites the data without caveats in communications to lawmakers and when describing the industry in Independent Pharmacy Today.

    Adam

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  6. Brett,

    Your comment about bias does not apply here. My consulting clients are primarily pharmaceutical manufacturers. See http://www.pembrokeconsulting.com/consulting.html. Manufacturers have no direct influence on a pharmacy owner's compensation.

    Adam

    ReplyDelete
  7. The comments are very entertaining. No one has criticized your computations, just your motivation. I read the article as pretty much "just the facts," but I'm not a pharmacy owner. I consult with plan sponsors about benefit design, so I guess I'm "biased," too!

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  8. Adam, I agree with Jim, the respondents are most successful pharmacies. I do agree it is not your fault NCPA is not making sure they get a good cross reference of pharmacies. If you will remember, I emailed you a long time ago that the respondence to this survey were mainly the pharmacies that wanted to boast. NCPA should find some way to get a better cross reference of pharmacies.
    I'm very interested to see the 2010 results. I have seen my reimbursement drop more in 2010 than any year in the past!
    As for the "spread"...I personally wish our payment system would be on a cost plus basis. This year AL Medicaid went to a cost plus payment system, I personally like it. An accurate "cost to dispense" would have to-be determined.

    ReplyDelete
  9. Brett,

    The NCPA Digest data have been put forth as accurate in many crucial situations. For instance, the data featured prominently in an expert report written on behalf of NACDS and NCPA in their lawsuit against CMS over AMP. The data have also been used in peer-reviewed academic articles that claimed significant harm to independent pharmacies from Medicare Part D. Needless to say, the results of those studies found their way into lobbyists' talking points.

    So, you can't have it both ways. Either the data are a valid representation of the industry or they are not. I am upfront about the potential flaws in the Digest data in the last section of my original article above. Frankly, I don't see the harm or bias in merely computing and presenting the information.

    Adam

    ReplyDelete
  10. Great post Adam. $279k a year and paid for through our tax dollars because of the high percentage of government plans they support. By your account, what % of an independent's business is comprised of Medicaid? Or Medicaid/Medicare combined? We've seen some independents go as high as 60% government sponsored plans.

    ReplyDelete
  11. Bill,

    According to the Digest, Government programs (Medicaid or Medicare Part D) paid for 44% of total prescriptions at the pharmacies in the sample.

    Adam

    ReplyDelete
  12. Adam,

    Great post. However, I do want to highlight two points:

    That data is comprised of owners from NCPA who choose to input in their data for the digest. Additionally, some of those owners have multiple locations and are divested in a variety of investments. Meanwhile, many independent pharmacies are NOT a member of the NCPA. For those, the data is going to be skewed to the lower end. More so, I would estimate that profit to come down around $100k to $120k if all the pharmacies were considered.

    Either way, if independents are doing so well... can we even fathom to imagine how well the CVSes, WAGs, WMTs and (gulp!) RADs are doing? They procure their products 5-20% cheaper than indys. Plus have economies of scale...

    Love your blog!
    Aemad

    ReplyDelete
  13. Adam, nice post. The facts are pretty clear, and I don't see any bias in your analysis of the numbers themselves. If people are concerned about the integrity of the data, they need to take that issue to the NCPA. There are certainly POSSIBLE flaws in their methodology... I wonder if anyone will bother to call them on it. It will certainly put them in an awkward position... they either defend their data (and thus, your analaysis is accurate), or they seriously qualify the use of their report.

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  14. Edward OdumoduJanuary 26, 2011

    Do you resent pharmacists making a decent living? Do you feel they haven’t merited the money they make?

    Regards,
    Edward Odumodu

    ReplyDelete
  15. Hey Adam,

    Why don't you give us some info about the chains once in a while or do you just enjoy pricking around the poor indy?

    ReplyDelete
  16. Are you suggesting that I write something about Walgreens, Rite-Aid,or CVS? Or perhaps something about the relative profits of chain pharmacies vs. independents?

    Good idea. I’ll keep it in mind.

    Adam

    ReplyDelete
  17. Since the respondents are self-selected and the data is self-reported, these are not "facts" and thus one can't draw ANY conclusions from this. You should know better.

    ReplyDelete
  18. Yes, Rich, I fully recognize the flaws in the data. However, the data are still fair game for analysis. Please re-read my response to Brett above about how the NCPA Digest data have been used in various lawsuits and lobbying efforts on behalf of the pharmacy industry.

    Adam

    P.S. You have a very impressive blog.

    ReplyDelete
  19. what?!?! the reimbusements are this enough for you people?!?!? the ones making a profit are either doing something shady or have found a nitch, or have cash patients to keep them afloat. How any indie pharmacy stays open these days is beyond me. When the insurers are now reimbursing you at a loss, how on earth can you survive?!?!? i had to shut down my pharmacy this year. not because we werent busy, but how do you expect me to pay rent/salary/overhead when certain drugs are being reimbursed BELOW cost, and the ones with a profit is like $1 over cost!!!! good luck paying for rent with that low number!! we used to have medicaid to help us but now thats been privatized we are truly screwed.

    ReplyDelete
  20. Oralyte 2 liters ( generic pedialyte )
    cost to purchase from wholesaler : 8.4
    reimbursement: 6.3

    loss of nearly $2 to have the privilege of filling this script. What you want us to pay for the while thing?? might as well just have the insurance pay 0 and they can pocket all the spread. He who has the lobbyists has the power.

    I would take socialized medicine over what we have any day at this rate

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  21. Adam, you have got to be kidding.

    Using questionable stats seems very strange coming from a social scientist who really knows better.

    Just because NCPA has polled their own tight clan, it clearly does not mean the data is valid industrywide.

    Am I missing something here? Don't think it takes a genius to realize this.

    ReplyDelete
  22. "Using questionable stats seems very strange coming from a social scientist who really knows better."

    OK, I will repeat my earlier response for those too lazy to read the comments above.

    The NCPA Digest data have been put forth as accurate in many crucial situations. For instance, the data featured prominently in an expert report written on behalf of NACDS and NCPA in their lawsuit against CMS over AMP. The data have also been used in peer-reviewed academic articles that claimed significant harm to independent pharmacies from Medicare Part D. Needless to say, the results of those studies found their way into lobbyists' talking points.

    So, you can't have it both ways. Either the data are a valid representation of the industry or they are not. I am upfront about the potential flaws in the Digest data in the last section of my original article above. Frankly, I don't see the harm or bias in merely computing and presenting the information.

    Adam

    ReplyDelete
  23. Adam- I agree; you are using the data in the SAME WAY a lobbying firm uses it.....To present a biased viewpoint. No doubt NCPA is biased. But they arent the ones constantly saying "Everyone is entitled to his own opinion, but not his own facts". Look, the pharmacists on here saying they lose on nearly every fill are exagerating. But you clearly take the side of the PBM's as you neglect to address the practices of an entire industry that force independent business owners to subsidize individual's prescription spending. Imagine if you made a small profit on this blog (say, ten dollars per comment), but then occasionally someone posting a comment on the blog cost you one hundred dollars, and you had no recourse. How would you feel? Would you just let it go?

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  24. Blue Cross and Express Scripts are paying 2% to 10% reimbursements. I do not see how paying an 85 cent dispensing fee is going to make any store a huge profit, or help keep my doors open.

    ReplyDelete
  25. What will be the future of Ind.Pharmacies when Obamacare gets implemented by 2014

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  26. AnonymousMay 28, 2011

    I don't see how this can be the case... I live in an affluent section of Connecticut with a number of independent pharmacies around. All of them, even the most successful, have been taking huge hits due to mail order mandates and other insurance games. The governor just mandated all state employees insurance must be mail order.

    Customers are being lost to mail order. The filling fees haven't changed in years. There is probably in increase in the amount of medicine Rx'ed since 1999 though.

    Unless legislation changes independents are going to be put out of business. Even then, CVS and Walgreens are popping up on every street corner.

    ReplyDelete
  27. AnonymousJune 07, 2011

    Adam,
    You left out "more than a few Non-Owner Operating Expenses" and I will give you some numbers. How many business's do you know that sell something that acquisiton cost is $423.99 and they get paid $425.84? Since the average cost to dispense per prescription for an independent pharmacy is anywhere from $6.99 to $23.99 per prescription you tell me how these independents are making it so well? The ANSWER is simple, they are NOT, they are struggling and that is a FACT!

    ReplyDelete
  28. AnonymousJune 29, 2011

    What will be the future of Ind.Pharmacies when Obamacare gets implemented by 2014

    ReplyDelete
    Replies
    1. Negotiate with current landlord for smaller space or reduce rent. Stock more chips, coke, pepsi...candy.....since these are more profitable than Rx reimbursement. When obamacare starts, the reimbersement is even worse. In 2014, the margin for chips, soda might be much higher than ins reimbursement, Adam might write another article that ind pharmacy owner which 90% of his or her business is chips and sodas make 700,000 a year. Since chips and sodas are so profit, PBM may mail those too. Ofcourse they will ship 3 bags and only charge you for 2. By that time, you and I may have to quit a 54 hours/week job and apply for medical assistant. Buy and pay off a small house in AL or TX for about 50,000. Having the house paid off, having medical assistant that pay 100% of your medications, having PBM cont to work hard for you ....trust me, you have lot of time for you and your family....life is wonderful. Thank for low reimburstement.

      Pharmacy owner

      Delete

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