Wednesday, November 03, 2010

Medco's Generics Outlook: Party On, Dudes!

Medco Health Solutions (NYSE:MHS) stock jumped 10% yesterday on an upbeat forecast for generics and better-than-expected earnings yesterday. See Medco's Net Rises 11% from The Wall Street Journal.

Looks like Medco’s Excellent Adventure will just keep getting better. Medco raised its forecast of generic introductions through 2015. CEO David Snow referred to 2012 as the "monster" and noted that 2018 is projected to be the third biggest year in the decade. As the chart below shows, $28.3 billion of brand-name drugs sales will be lost to generic introduction in 2012. Whoa.

This news will either makes you ecstatic or depressed, depending on what type of company you work for. PBMs, pharmacies, and (to a lesser extent) drug wholesalers will benefit from this tidal wave. Brand-name manufacturers...not so much.

More generics growth on the way. Medco’s overall generic dispensing rate (GDR), which blends retail network and mail-order prescriptions, hit 71.6% in the quarter. While Medco did not provide a GDR forecast, I estimate that the industry's GDR will pass 80% in mid-2012. Here is the updated generic forecast from Medco’s Q3 2010 Earnings Presentation.

On the earnings conference call, CEO David Snow highlighted the 2012 boom while also touting growth through 2020:
"All of the other years for the remainder of this decade delivered solid and continuous incremental growth to earnings per share each and every year...This is before taking into account the increased likelihood for a new wave of biosimilar introductions that we believe will, over time, become another meaningful contributor to our earnings growth."
More sophisticated payers? IMO, the superior profits from generic drugs are catching the attention of payers, so there is a countervailing force against per-script profit growth. Medco CEO David Snow dismissed this concern on the earnings call by noting that plan sponsors have "very clear reasons to keep our interest aligned with driving that uptake." True enough, as generic substitution is one of the most reliable and consistent ways for a payer to reduce expenditures for a prescription-drug plan. But note the comments of Per Lofberg of CVS Caremark (NYSE:CVS), who recently mentioned “more sophisticated” payers asking to “participate” in the savings from generic drugs. See CVS Caremark: More Happy Talk, But Hard Work Remains. Hmmm.

Challenge for Brand-Name Manufacturers. The generic boom will create channel challenges for brand-name drug manufacturers. As I note in NCPA's New CEO and the Pharmacy Industry's Future, generic drugs turn pharmaceutical channel economics upside down. The costs of distributing and dispensing a traditional (non-specialty) generic drug far exceed the actual cost of the medicine, which is the opposite of brand-name drugs. As a result, the economic interests of companies within the U.S drug channel—pharmacies, wholesalers, and PBMs—will continue to diverge from brand-name drug manufacturers. "Be excellent to each other" will not be a sufficient account management strategy.

Stay tuned for Medco's Analyst day on November 19.

P.S. Apparently, Jim Cramer of Mad Money is a Drug Channels fan. He tweeted my article about Walgreen's PBM last night. Booyah! (You may need a Twitter account to view the link.)


  1. Will published average AMPs increase the transparency of generic pricing allowing plan sponsors to drive out some of the PBMs generic margin? What is the AMP status?

  2. Wait until consumers find out how much generic drugs actually cost to make vs. reimbursement for them. Imagine this conversation:

    Consumer: How much does this drug cost to make?
    Generic Manufacturer: About $1.00 for 30 pills

    Consumer to Medicare: How much are you paying to the pharmacy to give me this medication after I pay my $10 copayment?
    Medicare: About $50
    Consumer: So that's like 50 times the cost to make it?
    Medicare: Umm yeah.

  3. Dave Denton, CVS CFO added color to the "sophisticated payers" remark...apparently it has more to do with specialty:

    "secondly, as we just talked about a bit, specialty is a very big growth driver over the next five years. And specialty, while
    economically is very productive for us, especially because of the nature of the business, the high price of the (inaudible) associated with specialty products, their margin rate flow through is lower, so that kind of blends down the mix, if you will. So there's a
    bunch of puts and takes to that"

  4. As I read the transcript, Per Lofberg's answer was specifically directed at generics. Here is the Q&A that immediately preceded Dave Denton's remark.

    Neil Currie (UBS - Analyst): “And on the long term PBM guidance, five-year, you've got revenue growth 11 to 13, but operating profit growth 9 to 11. So sales growing faster operating profit growth despite the fact that you've got quite a blockbuster generic pipeline coming over that period. So, how do you come to that -- what's the logic behind operating profit growth growing slower than sales?”

    Per Lofberg (CVS Caremark Corp. - President - Pharmacy Services): “Well, I think there's a certain amount of conservatism in there. We've certainly not made any assumptions that the continued pressure for better economics is going to abate. I mean I think that's just something that is inherent in this industry. So as generics come on, I think our customers will continue to expect -- they're more sophisticated I think now than they were maybe five years ago in terms of asking for -- to participate in those -- in those savings. So that's part of, I think, what we're seeing.” (emphasis added)

    Dave Denton (CVS Caremark Corp. - EVP, CFO): "Neil, to -- maybe to add on to what Per said..."

    This seems like a straightforward exchange between Per and Neil related to generics. "Those savings" refers to generics, not specialty.