Wednesday, November 01, 2006

CVS + Caremark: I called it!

Big news this morning! CVS Corp. (CVS) and Caremark Rx Inc (CMX) are now discussing a "merger of equals." See CVS, Caremark Rx Hold Merger Talks.

But this news should not surprise faithful readers of this blog. Back on June 18, I explained the logic behind a PBM-Pharmacy Chain merger, arguing that control of the last mile in the pharmacy supply chain would lead to future chain pharmacy /PBM merger. Read my June analysis here: Walgreens' Future: I see dead canaries.

Although I was discussing Walgreens at the time, the same logic applies to a CVS-PBM combination. I wrote:

"The combined market cap of Medco, Caremark, and Express Scripts is roughly the same as Walgreens market cap. If PBM P/E ratios return to pre-2005 levels, they will be tempting targets for the retail chains."

Thanks to two unforseen events -- Wal-Mart and the AWP settlement-- valuations did drop, and look what happened!

See? This blog really can help you predict the future!


  1. Pharmacy chains owning and managing PBMs hasn't worked in the past--Rite Aid/Eagle Managed Care, Eckerds-Thrift/TDI, CVS/Pharmacare--and Lilly couldn't get rid of PCS (now part of Caremark) fast enough. (Come to think of it, didn't Rite Aid have a piece of PCS for a while?) Merck had their own problems with MEDCO and so on and so forth.

    Employers, unions and other payors are finally getting wise to the profit creating shennanigans that PBMs have been using in recent years and are starting to look for "pure" PBMs, companies that just handle claims transmission instead of raking in millions in manufacturer rebates and AWP manipulation without passing the "savings" along to the payor.

    So it was probably inevitable that somebody in the world of pharmacy--a chain or manufacturer--would forget history and figure: "Hey, so what if it hasn't worked before--we really know what we're doing!"

    History says that CVS will be trying to spin off Caremark in 5 years or less. I'll check back in 2011.

    Tom Connelly, RPh
    Sun Pharmacy
    Rising Sun, Md

  2. (cross posted at my blog too)
    Adam--have read your articles, and they're really interesting. My point is that PBMs have basically failed to do anything (in terms of management) other than push generic subsitution, which as you point out is very profitable for all pharmacies (store or mail order)

    Eventually end payers (e.g the government and employers) will figure out that they're getting killed on generic pricing--but for now, why wouldnt CVS et al want to get a bigger share of that market; and for that matter, when main street and Wall Street figure out what PBMs do (i.e. not much), their valuation will fall to something like that of a pharmacy chains. So now is not a bad time for their owners to get out.

  3. Matt,

    Remember that PBMs' heritage was in transaction processing, which was at one time a valuable service. As it became commoditized, they moved on to more complex services, such as formulary design. Like all intermediaries, innovative services often become part of core expectations, so further innovation is needed or disintermediation is at hand.

    I think you are suggesting that PBMs have reached the end of the line innovation wise, so it's time for a (sort of) graceful exit.

    That's certainly possible, but I'm skeptical of the "PBMs add no value" thinking because it is at odds with the marketplace.

    The PBMs' success reflects many individual business decisions by payors and insurers. If PBMs really added "no value," then sophisticated payors would simply bypass them or perform the activity themselves. There are situations where this has occurred, but it is still not a rush for the exits.

    So, I just see it as presumptuous to second-guess the PBMs' customers because we simply lack access to all of the micro-information being used to make these decisions. Are all PBM customers makng bad business decisions? That seems highly improbable.

    If my reasoning sounds familiar, you may realize that I am paraphrasing Frederick Hayek, one of my favorite economic thinkers. (Check out the wikipedia for The Road to Serfdom.) He taught us all to be humble when confronted with a market full of decision-makers.


    P.S. I'll cross-post, too.