Thursday, April 25, 2013

CVS Caremark Renews with Cardinal and McKesson

As expected, CVS Caremark (NYSE: CVS) said "never gonna give you up" and renewed its distribution agreements with Cardinal Health (NYSE: CAH) and McKesson (NYSE: MCK). Cardinal will continue to service the CVS retail stores and distribution centers, while McKesson will continue to service the Caremark mail facilities and some small retail business. Press release links below.

For Cardinal, this news is a big relief following the loss of Express Scripts and Walgreens. As I suggest in Making Sense of ABC-Walgreens-Alliance Boots, the loss of two large, low-profit customers could turn out to be a blessing in disguise.

The renewal also demonstrates wholesalers' value in the brand-name pharmacy supply chain. In theory, the largest self-warehousing chain drugstores and mail pharmacies have the size and scale to perform the functions of drug wholesale distribution. Yet in 2012-13, these larger companies all elected to buy brand-name drugs via a drug wholesaler rather than directly from a manufacturer.

No details about the economics. We can presume that CVS Caremark got a slightly better deal vs. its current agreement, although the economics are not as straightforward as you might expect. Read on for some quick context.

Here are the official news releases:
As background:
  • CVS Caremark is also Cardinal Health's biggest customer. In 2012, CVS Caremark accounted for an estimated 24.6% of the company's total U.S. core drug distribution revenues and services. See Exhibit 50 (page 98) of my wholesaler report. Following the customer losses, I estimate that CVS Caremark will be 35% to 40% of core distribution.
Keep in mind that wholesalers don't get entirely rick rolled in mega-contract renewals. Given pharmaceutical price inflation, the net dollars for a wholesaler typically increase in later years of a contract.

Even if a manufacturer limits or removes the value of a wholesaler’s inventory appreciation, wholesalers still benefit from price inflation, because agreements with brand manufacturers are still computed using pharmaceutical list prices. Therefore, the dollar value of a wholesaler’s quarterly fee payment from the manufacturer rises whenever a manufacturer increases a drug’s list price—the Wholesale Acquisition Cost (WAC). Thus, large customers periodically renegotiate their wholesaler contracts to gain the value of these incremental profits.

I'll update if any new details emerge. In the meantime, check out a video from the consultant who advised CVS Caremark. Click here if you can't see the video.


2 comments:

  1. Thanks for the update!

    Still a great song! "We've known each other so long" - ha ha!

    ReplyDelete
  2. Thanks for stopping by, Mr. Astley!

    ReplyDelete

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