CVS Maintanence Choice Program Seen As A Game Changer For The PBM Sector, According To Analyst With Sanford Bernstein
January 20, 2010 - The Wall Street Transcript has just published Consumer Health Services Report offering a timely review of the Health Services sector. This Special Report contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. Please find an excerpt below.
ELENE WOLK joined Sanford Bernstein as the Senior Analyst for U.S. Healthcare Distribution in October 2007. Prior to joining Bernstein, she spent seven years at The Mount Sinai Medical Center, leading strategic and business planning. Before joining Mount Sinai, she managed health care consulting engagements at CSC Healthcare/APM Management Consultants, assisting health care organizations in strategic planning and performance improvement. Ms. Wolk earned a B.A. from the University of Pennsylvania and an MBA from the Wharton School of the University of Pennsylvania.
TWST: What about the companies in this space that you are watching? Are there any particularly strong ones from an investment perspective at this point?
Ms. Wolk: I think the strongest and most interesting opportunity is Medco Health Solutions (MHS), and I think that's because Medco has really found a way to do two things in the PBM industry: generate margin expansion and gain market share. Margin expansion is standard or classic fare in the PBM segment, largely a secular story about generics, whereby generics actually fuel margin expansion across the PBM universe. It's based on their aligned business model, whereby the PBM benefits from generic conversion as the client or the payer benefits dramatically.
That's been a consistent theme across the PBM sector, benefiting Medco and Express Scripts; (ESRX) most dramatically. But Medco has added a new element to say it's not only about margin expansion, but they have done an incredible job at gaining market share. In the PBM industry, that's not easy to do. It's typically a very sticky business in which employers or health plans have long-standing relationships with their PBM and are generally pretty reluctant to change PBMs. Medco, by virtue of both innovation and a strong marketing focus, has really changed that, winning 250bp of market share in 2009 alone.
TWST: Do you currently have any sells out or are there any companies that you are not as optimistic about?
Ms. Wolk: In the PBM segment, the other two companies that participate in the large independent segment are CVS Caremark; (CVS) and Express Scripts. CVS Caremark I think is an interesting story; it's an impaired PBM at the moment, suffering from poor management execution in my view over the last several years, following the merger of CVS and Caremark. However, I believe the market is actually valuing the PBM as if it were permanently impaired, which I don't think it is.
I think this is a story largely about mismanagement and poor management execution that ultimately suggests that with new management and some time to fix the processes, the core PBM is still valuable and likely can outperform the market's low expectations. CVS is sort of a longer-term turnaround story at this time, but an interesting option from a valuation perspective for an investor with a longer-term horizon. Express Scripts is the one that I am neutral on and clearly less enthusiastic than others. I acknowledge that Express has the best near-term growth profile, partly because they are rolling up Wellpoint's (WLP); NextRx PBM, a transaction that's expected to close in the very near term. Consolidation within the PBM industry provides another leg of growth for Express that really makes it a superior grower in the near term.
TWST: Are there any companies on your radar that you see as particularly innovative or that have introduced new trends that might take off?
Ms. Wolk: Each of the PBMs has embarked on innovation, trying to differentiate their services from the others in a mature marketplace. I continue to view Medco as the most innovative company; the best example of their innovation is what they've just recently introduced in terms of the Therapeutic Resource Center. CVS has introduced Maintenance Choice, which again is an innovative program that is intended to blur the lines between retail and mail prescription fulfillment. The reality is CVS is now able to offer the discounts typically only available through mail but with retail access, allowing the payers to capture the economic advantage of mail while offering choice as to whether you want to use mail or pick it up in CVS' retail stores. Maintenance Choice is another innovation that can change the PBM industry in my opinion. The PBM industry has gotten fairly mature and somewhat standardized, meaning the same tools and services are offered by most PBMs.
Innovation is aimed at changing the value proposition and differentiating each of the PBMs from the rest of the field and from each other. Express is also doing it. It's a little bit earlier in their cycle, but they are beginning to focus on customer segmentation, they call it "consumerology," which is meant to drive behaviors like selecting the appropriate drug, whether that's a generic product or a preferred brand on formulary, or even increasing mail utilization or inducing other preferred behaviors. Again in the long run, all of these things are innovative and differentiating the three independent PBMs both from each other as well as from the pack.
TWST: You mentioned the wholesaler space, what do you see going on there at the moment?
Ms. Wolk: The wholesaler space is a pretty stable oligopoly. There are three firms there, McKesson,; (MCK) Cardinal; (CAH) and ABC, that represent about 97% of the market. Drug wholesaling is a highly consolidated, mature industry. That being said, it's an industry that is benefiting from generic conversion, particularly and disproportionately so for ABC and McKesson in terms of their customer mix. There has also been some innovation in that part of the supply chain. I would offer one example: McKesson is probably the company that comes to mind as being the most innovative in this space and the most strategic management team in our view. McKesson's value proposition has been providing pharmaceuticals, and other products and services to a wide variety of customers, including large retail chains like Wal-Mart.
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