Express Scripts Inc. (ESRX)’s takeover of Medco Health Solutions Inc. (MHS) may fuel acquisitions of specialty pharmacy benefit managers by rivals seeking to gain enough size to negotiate lower prices with drugmakers.
Once the deal closes, the number of people served by St. Louis-based Express Scripts would rise by 50 percent to 135 million, based on current data, said Art Henderson, an analyst at Jefferies & Co. in Nashville, Tennessee. The next biggest rival, CVS Caremark Corp., serves 85 million people.
Pharmacy services companies negotiate prices with drugmakers for employers and governments and manage worker claims. More customers give them added leverage to insist on lower prices, providing savings that may be used by the companies to reduce expenses or compete for contracts. Size also helps companies accumulate data to develop efficient disease management programs and weigh treatment cost effectiveness.
“Fifty percent more purchasing power in an industry that hangs on scale is really very significant,” Henderson said in a telephone interview yesterday.
Express Scripts yesterday said it agreed to buy Medco, based in Franklin Lakes, New Jersey, for $29.1 billion to become the largest pharmacy-benefits manager in the U.S. The next two in size would be Woonsocket, Rhode Island-based CVS Caremark Corp. (CVS) and the pharmacy unit of UnitedHealth Group Inc. (UNH), based in Minnetonka, Minnesota.
‘Close’ FTC Review
The agreement, the largest in at least a decade among U.S. companies that manage drug benefits, will likely get “a very, very close look” by the Federal Trade Commission because of the scale issue, said Bob Leibenluft, who led the agency’s health unit from 1996 to 1998 and is now a partner at Hogan Lovells LLP, a Washington law firm.
The combined company would control as much as 30 percent of the market if approved, said Helene Wolk, an analyst at Sanford C. Bernstein & Co. in New York. CVS will have a market share “in the low 20s” and UnitedHealth’s unit will be “in the low teens,” she said.
The deal “raises the bar for the other major players, no doubt,” Dave Shove, a New York-based analyst at Bank of Montreal, said in a telephone interview. “Health-care reform demands data, low costs and efficiency. The only way for for- profit companies to achieve that quickly is to merge.”
CVS’s Caremark unit may be offered up as a possible acquisition, according to Bernstein’s Wolk, although she said she thinks CVS will keep it. When the company’s then-chairman, Tom Ryan, retired in May, there was speculation that it may spin off or sell the Caremark unit, she said.
Larry Merlo, CVS president and chief executive officer, said in May that “despite conjecture in the marketplace, there are no plans to split up the company.”
Carolyn Castel, a CVS spokeswoman, declined to comment yesterday on the Medco takeover, or whether the move might prompt CVS to make acquisitions.
“CVS Caremark has the widest breadth of capabilities in the industry with a leading PBM, drugstore chain and retail health clinics,” Castel said in an e-mail. “Our integrated model enables us to offer unique products and services that enhance pharmacy access, reduce costs and improve health-care outcomes.”
Express Scripts gained $1.95, or 3.5 percent, to $57.30 at 4 p.m. in New York Stock Exchange composite trading. Medco rose $2.13, or 3.3 percent, to $65.96. CVS declined 47 cents, or 1.2 percent, to $37.35. UnitedHealth advanced 60 cents, or 1.2 percent, to $52.75.
Express Scripts had unsuccessfully bid on the Caremark unit when CVS bought it in 2007, and the prospect of its sale or spinoff drove Medco to seek the merger with Express Scripts, according to three people familiar with the deal who didn’t want to be identified because the negotiations were private.
Tyler Mason, a spokesman for UnitedHealth, wouldn’t comment on whether the company is looking to acquire other pharmacy benefit managers.
UnitedHealth’s unit “capabilities equal to any in the industry, distinctive expertise and resources and a proven track record that’s led to significant growth,” Mason wrote in an e- mail.
Behind the three largest pharmacy services managers is a group of regional and specialty companies, all of which may be potential acquisition candidates, Jefferies’ Henderson said.
These include MedImpact Healthcare Systems Inc. in San Diego, with about 32 million participants; Catalyst Health Solutions Inc. (CHSI) in Rockville, Maryland, with 17 million; Prime Therapeutics LLC in St. Paul, Minnesota, also with 17 million members; and Philadelphia-based insurer Cigna Corp. (CI)’s pharmacy unit with 6.2 million, he said.
The problem “is there is such a long stretch between the biggest and the rest of the pack in this industry,” Bank of Montreal’s Shove said. “There’s no one to buy that gets you that close to the two biggest.”
Consolidation has been going on for years in the industry. Express Scripts Chief Executive Officer George Paz said the Medco purchase is the company’s seventh major transaction since he joined the company in 1998 as senior vice president and chief financial officer.
Express Scripts’s biggest previous acquisitions were the 2005 takeover of Priority Healthcare Corp. for $1.3 billion and the 2009 purchase of WellPoint Inc.’s NextRx unit for $4.7 billion.
Trade Groups’ Opposition
The proposed Medco takeover would create a company that’s “too big to play fair,” trade groups representing drugstore chains and independent pharmacists said yesterday.
“This combination will monopolize control of the supply line for brand and generic prescription drugs, threaten access to pharmacy patient care, and is a bad deal for America, for healthcare plans, for pharmacies, and -- most notably -- for patients,” Steven Anderson, chief executive officer of the National Association of Chain Drug Stores, and Douglas Hoey, chief executive officer of the National Community Pharmacists Association said yesterday in a joint statement.
Anderson’s group has 137 member companies that operate 39,000 pharmacies, including Walgreen Co. (WAG) and CVS, the two biggest U.S. drugstore chains. Hoey’s group represents more than 23,000 community pharmacists.
The Medco purchase would unite two “culturally different rivals,” Bernstein’s Wolk said. “Medco is more strategic and takes a long view when it is making acquisitions. Express Scripts looks short term and is focused more on the financial aspects of deal than building a long-term vision.”
Pitch to Reviewers
The differences between the two companies will be part of the pitch to U.S. regulators that the deal should be approved, according to the three people familiar with the agreement. The companies will argue that Medco mostly focuses on national accounts while Express Scripts is more geared to local and small businesses, the people said.
“It will be challenging to get this past the FTC,” Wolk said. “But with the growth of UnitedHealth,” an insurer with its own pharmacy services unit, “we will be back to having three dominant players.”
The FTC review of Express Scripts’s purchase of Medco may take as long as six months, according to Robert Maness, a College Station, Texas-based economic and antitrust consultant of Charles River Associates.
In the meanwhile, the review and a disruptive integration may help rivals grab business away in the short term from Express Scripts and Medco in the highly competitive marketplace, said Jeff Jonas, an analyst at Gabelli & Co. in Rye, New York
“Right now, we’re in the selling season for 2012 for big contracts that generally start Jan. 1,” he said in a telephone interview. The deal “throws a lot of uncertainty in for people who want to sign with either Express Scripts or Medco.”
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