Wal-Mart's Generics Hit Pharma Stocks

The retailer's move to offer many generics for $4 a prescription took a bite out of pharmaceutical stocks. And it's another salve for Wal-Mart's PR

When Wal-Mart Stores (WMT) disclosed on Sept. 21 that it will make 291 generic drugs available for only $4 per prescription, the news slammed many pharmacy retailers and generic drug stocks. The announcement also was one more step in the company's carefully orchestrated campaign to improve its image.

The Bentonville, Ark., retailer test program starts Sept. 22 at the 65 Wal-Mart, Neighborhood Market, and Sam's Club pharmacies in the Tampa Bay, Fla., area, and will be expanded to the entire state in January, 2007. The company added that it plans to take the program to as many states as possible next year. "Each day in our pharmacies we see customers struggle with the cost of prescription drugs," said Wal-Mart CEO H. Lee Scott, Jr., in a press release.

Wal-Mart says the generics—covering every major therapeutic category used to treat and manage conditions including allergies, cholesterol, high blood pressure, and diabetes—will be sold at different savings and are available for up to 30 days worth of supply. The popular diabetes drug Metformin, for example, at $4 for a 30-day supply, represents a nearly 50% savings from the cost of the brand-name version of the drug, Wal-Mart says. Getting the generic, Lisinopril, at that price saves customers nearly $100 annually.


  Wal-Mart's national rollout of the plan would clearly put pricing pressure on rival pharmacy retailers, including big drugstore chains Walgreen. (WAG) and CVS (CVS). Smaller chains such as Rite Aid (RAD) and Longs Drugstores (LDG) would likely be hurt more because they don't have as large of a buying clout with drug manufacturers. Discount rival Target (TGT) and warehouse club Costco (COST), which also sell pharmaceuticals, could also feel some pain.

On Sept. 21, CVS shares tumbled 8.4%, to $32.47, on the news. Walgreen's shares fell 7.4%, to $46.28. Rite Aid was off 5%, to $4.52. And Longs lost 4.3%, to $46.01. Costco's shares fell 3.1%, to $50.26, and Target was down 1.2%, to $54.39. Wal-Mart's stock, meanwhile, fell less than 1%, to $48.46.

Wal-Mart currently operates pharmacies in most of its 3,300 U.S. stores. The business stagnated last year, though, posting $16.8 billion in sales, down from $17.3 billion in 2005, Standard & Poor's estimates. The new Medicare prescription plan, which went into effect at the beginning of the year, likely hurt Wal-Mart's pharmacy sales in 2006, says S&P equity analyst Joseph Agnese. That's because seniors who didn't have any prescription coverage before and would go to Wal-Mart to buy drugs with cash could now go to more convenient drugstores and pay a smaller co-payment. Agnese believes that's one reason Wal-Mart is launching the generic plan.


  Agnese estimates that Wal-Mart's Florida pilot program, even if rolled out across the country, would only impact about 4% of CVS' total pharmacy sales and 2% to 3% of its total company sales. He reiterated a strong buy on CVS stock. (S&P, like BusinessWeek.com, is owned by The McGraw-Hill Companies (MHP).)

Shares of generic-drugmaker stocks also sank on Sept. 21. Barr Pharmaceuticals (BRL) lost 1.1%, to trade at $51.95 per share, Watson Pharmaceuticals (WPI) fell 1.4%, to $26.22, and Mylan Laboratories (MYL) declined by 2%, to $20.15. Dr. Reddy's Laboratories (RDY) edged slightly lower, to $16.24 per share.

"Although this program, if spread nationwide, would exert pressure on generic pricing trends, we think its overall impact would likely be limited, since it would probably affect less than 20% of all generic drugs sold, and impact mostly older, already deeply discounted products," says S&P equity analyst Herman Saftlas.

S&P kept its buy opinions on Barr Pharmaceuticals and Dr. Reddy's, and its hold recommendations on Watson and Mylan.


  The new pricing plan also meshes with Wal-Mart's many efforts to improve its image and counter large, union-backed campaigns that have criticized it for paying workers low wages and benefits, among other things. Analysts believe the negative press hurt Wal-Mart's sales and increased community opposition to new stores. In response, Wal-Mart this year has launched major initiatives, including expanding health insurance and making more it affordable for employees, announcing a plan to build stores in distressed urban areas, and starting a variety of efforts to promote environmental sustainability.

Low-cost generics is another good deed to add to the list, says Ulysses Yannas, an analyst at Buckman, Buckman & Reid in New York. "It helps their image and defuses critics at the same time it will attract traffic to its stores," he adds. "It's a smart move."

By choosing Florida as its launching pad, Wal-Mart also picked a market with high levels of seniors on fixed incomes. There are 2.7 million uninsured people in the state. The move could also help ease opposition to new stores that Wal-Mart has faced in some Florida communities. And by picking Florida, it continued efforts to court strong Republicans. The President's brother, Florida Governor Jeb Bush, praised the plan.

In the end, though, the goodwill Wal-Mart earns from the plan could be just as important, says S&P's Agnese. "This certainly doesn't hurt Wal-Mart's image."

Before it's here, it's on the Bloomberg Terminal.