Inside McKesson’s Acquisition of Biologics Specialty Pharmacy

Yesterday, McKesson announced its acquisition of two significant oncology businesses: Vantage Oncology and Biologics. Click here to read the press release.

McKesson provided only general statements about its motivations behind the $1.2 billion deals. Fear not, dear reader. Below, I offer two key hypotheses about McKesson’s strategic considerations in purchasing the Biologics specialty pharmacy.

This much is certain: For manufacturers, the deals further illustrate the emergence of organized customers that cross traditional commercial and channel boundaries.

THE DEAL

McKesson is acquiring two businesses:

• Biologics, Inc., an oncology-focused specialty pharmacy

• Vantage Oncology, which owns and operates more than 50 cancer treatment facilities in 14 states

As usual, McKesson was frustratingly vague about the transactions. The company reported only the combined value of both the Biologics and Vantage Oncology transactions. We don’t know the revenues, profits, and purchase multiples for the acquisitions.

Eric Percher at Barclays estimates that Biologics has $900 million in revenues. He also speculates that McKesson paid a significant premium for the company—perhaps as much as 25X EBITDA.

HYPOTHESIS 1: SUPPORTING PHYSICIAN PRACTICES

The growth in oral oncology products is encouraging physicians to dispense them from offices and clinics. These practice-affiliated pharmacies act as “closed door” pharmacies by dispensing only to the practice’s patients. In-office dispensing gives the physician more control over treatment while creating an additional revenue source for the practice. It can also be more convenient for patients.

As the chart below shows, oncology practices now account for 6% of the dispensing of patient-administered oral oncology products and 12% of patient self-injectable drugs. Notable practice-operated specialty pharmacies include Rx To Go (Florida Cancer Specialists), Park Pharmacy (Tennessee Oncology), and Oncology Pharmacy Services (Texas Oncology).

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Specialty distributors are helping practices establish these pharmacies and become a key distribution source for oral oncology products. As I discuss in Section 3.3.7. of my new 2016 Economic Report on Retail, Mail, and Specialty Pharmacies, the Big Three pharmaceutical wholesalers—AmerisourceBergen, Cardinal Health, and McKesson—all operate specialty pharmacies.

McKesson already owns Care Advantage, a small, oncology-focused specialty pharmacy that was formerly known as OncologyRx Care Advantage. With Biologics, McKesson Specialty adds a new, larger prescribing option for its Onmark provider offering and for practices in the US Oncology network.

HYPOTHESIS 2: CONTROLLING TOTAL CHANNEL MARGINS

For years, McKesson’s management has repeatedly told investors that it doesn’t want to compete with its customers. Consider what McKesson CEO John Hammergren said last October:

“And we have chosen thus far, and we believe this is the right path, to not compete with our customers. So I don't think we'll begin acquiring providers in an effort to offset the risk of provider consolidation in our book of business to deal with it.” (source) 

McKesson execs aren’t saying what changed their mind, but I suspect that the specialty market’s profit pressures are compelling wholesalers to rethink their business model.

To manage costs and improve patient management, PBMs and health plans often limit the number of specialty pharmacies available to a beneficiary. Patients are typically required to use the specialty pharmacy that the plan or PBM owns and operates. Consequently, specialty product sales are being shifted into the largest specialty pharmacies (and wholesalers’ largest customers) that have the smallest margins for wholesalers.

In response, some wholesalers have instituted “net pricing” terms, which reduce the discount available to smaller pharmacies. The largest pharmacies, however, have negotiating power against wholesalers and have been able to push back against such demands.

McKesson is especially vulnerable to the profit squeeze, because its biggest customer is CVS Health’s Caremark mail and specialty pharmacy business. In 2015, CVS Health’s pro forma specialty pharmacy dispensing revenues were an estimated $29.6 billion and its specialty market share was 30%. (See Exhibit 41 of our new report.) Multiple factors contributed to CVS Health’s above-market growth, including: organic growth at the CVS/caremark PBM business; the acquisition of Omnicare; CVS Health’s Specialty Connect offering; and plan sponsors' designating CVS/specialty as the exclusive specialty pharmacy.

CVS Health's growth has been pretty bad for McKesson’s profits. McKesson has even reported financial results suggesting that it may have lost money by selling the blockbuster hepatitis C products. See Why Blockbuster Hepatitis C Drugs Are Squeezing McKesson’s Profits.

Biologics is already partnered with many manufacturers of specialty therapies. By acquiring Biologics, McKesson creates a vertical system that can theoretically absorb (and share) margins from both distribution and dispensing. Remember: Money doesn’t know where it comes from.

Two more points:

• Since Biologics is focused solely on oncology, McKesson’s other specialty pharmacy customers may not perceive the deal to be a direct competitive threat. If so, the deal opens up an intriguing new strategic exit path for other private specialty pharmacies.

• Biologics currently relies on another wholesaler. With the acquisition, McKesson also gets a big new specialty customer and diversifies its revenues away from a dependence on Caremark.

A FINAL THOUGHT

McKesson might have all the money in the world, but there’s one thing it can’t buy.

A dinosaur.