Wednesday, August 13, 2014

Winners and Losers from Generic Drug Inflation

As I note in yesterday’s post Retail Generic Drug Inflation Reaches New Heights, half of all retail generic drugs became more expensive over the past 12 months.

Today, let’s discover who’s winning and who’s losing within the drug channel. I consider generic and brand-name drug manufacturers, wholesalers, pharmacies, third-party payers, and consumers.

Let me know what you think by commenting below.

Here’s a highly scientific summary chart:

[Click to Enlarge]

Generic Manufacturers—The generic drug makers that sell higher-priced drugs are benefiting from higher prices. The manufacturers that choose (or are forced to) to stop producing are the losers. I don’t understand why more generic manufacturers aren't entering the shortage markets. Many of the products are relatively simple to produce, and the profits should be substantial.

Brand-Name Manufacturers—Generic drug shortages are creating an unexpected sales boost for the brand-name drugs that have lost marketing exclusivity. In some instances, a brand-name drug with a manufacturer rebate could be even less expensive than a generic drug that has experienced hyperinflation.

Wholesalers—Wholesalers are benefiting from these price increases, which can typically be passed directly to their pharmacy customers. When the wholesaler’s mark-up remains constant, gross profit dollars are increasing along with drug costs. Generic inflation is also lifting wholesaler revenue growth, which had been expected to decline due to generic deflation. During investor calls, wholesalers have cited this beneficial effect on revenues and profits.

Pharmacies—If third-party payer reimbursements don’t keep pace with rising generic acquisition costs, the cost increases will squeeze pharmacies profits. Walgreens complained about this effect on its recent earnings call and again last week when lowering its financial outlook.

Over time, pharmacies will benefit from these price increases, because gross profit dollars per script will grow. If prices start declining again, pharmacies will benefit as reimbursement lags behind the lower acquisition costs. Higher generic drug prices are dampening the cash-pay, generic price war.

The biggest pharmacy losers are any chains that foolishly signed at-risk payer contracts, such as one with a fixed generic prescription payment to the pharmacy. Such contracts are an unhedged risk on generic deflation and superior sourcing. For these chains, generic inflation will pummel profits until (if?) contracts can be renegotiated.

Third-Party Payers—Unexpectedly high generic drug costs also mean unexpectedly higher pharmacy benefit costs for payers. Pharmacy benefit managers (PBMs) have increased their drug spending outlooks, due partly to higher generic expenses. Compare the traditional drug spending forecasts made in 2013 (here) with those made in 2014 (here).

Over time, payers may welcome higher generic prices, because manufacturers will be less likely to exit more-profitable generic markets. Higher prices will encourage more companies to produce generic drugs in short supply, which will reverse the recent growth of older brand-name drugs.

Consumers—Consumers are the biggest losers. They will see higher out-of-pocket costs, especially as more costly generics move to a higher copayment tier. Ongoing inflation may even cause widespread use of multiple generic tiers.

As prices have increased, many chains have dropped drugs from their discount generic drug programs. Walmart, for instance, no longer includes doxycycline hyclate and tetracycline on its $4 prescription drug list. These programs offer significant value for uninsured and underinsured consumers, who can purchase certain generic drugs below the retail list price. Some insured consumers may even bypass their insurance in favor of a cash-pay program, especially if the copayment exceeds the cash price. Fewer low-cost generics mean fewer discount programs.


When will generic inflation slow down? No one knows, but it’s certainly reshaping the industry and our expectations.


  1. Manufacturing issues have plagued the industry for years. You'd think manufacturers would have stepped up long ago to address this problem. If you look across the landscape the view on generics seems to be very "lumpy" (inconsistent) which is out of character with how you'd expect a free market to effect something as simply competitive as generics.

  2. Have heard the unaffordable Affordable Care Act maybe involved as pharmaceutical manufacturers presume more people will have insurance?
    As the ACA has loosened the hinges on the US treasury vault doors, all parties involved in healthcare are scooping the money out by the shovelfuls. In other words, "Get while the gettings good!".