Pfizer's UK Deal: Change is Here!

2006 will go down as the year EU drug distribution began to change.

Pfizer just announced the consolidation of UK product distribution with the retail/wholesaler Alliance Unichem. (See "Drug giant will sell direct to beat the counterfeiters.") Since the agreement is described as "direct," I presume that it is an agency agreement -- a pure non-margin fee-for-service model.

The Unichem move solves two related problems bedeviling Pfizer:

1. The lost revenue from parallel importing -- According to GIRP data, about 75% of drugs are delivered by full-line wholesalers while 16% are from "short-line wholesalers" a.k.a. parallel importers. (See Curious about European Drug Distribution? for more on the EU channels.
2. The risk of counterfeits entering the supply chain -- I wrote about Pfizer's Lipitor problems in my August post London Calling: Fake Drugs Get Real.

Pfizer is now considering changes in other countries. (See this morning's Dow Jones story "Pfizer Mulls Distribution Options In Several European Countries."

Free market innovation has already improved the safety and security of the US drug distribution channel. (See my June post FDA blind to the supply chain’s evolution.) Looks like the market will evolve in the EU even sooner than I predicted!

A Partial Win for Glaxo Means More Change for EU Drug Channels

Earlier this month, I highlighted Glaxo's win in a Greek parallel trade case. (See "Big Win for GSK Could Bring Fee-for-Service to Europe"), noting that "This ruling could turn the tide on parallel trade because manufacturers can now apply some of the lessons from the US drug wholesaling experience with fee-for-service and inventory management agreements."

Well, Glaxo just won another victory. (See "Glaxo Partially Wins Fight In EU Court Over Pricing.")

Spain is one of the major sources of parallel exports in the EU. With this new ruling, the Court is once again recognizing that a manufacturer has the right to manage its own distribution channels. The Spanish ruling is not as clear cut because it merely pushes the decision back to the European Commission. This ruling will also benefit Pfizer, which had also been using a dual pricing strategy in Spain.

Diversion problems crop up anytime price variations between markets create arbitrage (buy low-sell high) opportunities. In the case of the drug channel, national pricing combined with EU's market integration principles created a flourishing grey market.

I predict that EU manufacturers will gain at least limited ability to implement dual pricing models in other exporting countries. This ruling will also provide a foundation for US manufacturers to attack diversion of products from the EU back to the US.

Mark Twain once said: "History doesn't repeat itself, but it rhymes." EU wholesalers should start learning words that rhyme with "transparency," "accountability," and "control."

Reconsidering Wal-Mart (but just a little)

Today's Wall Street Journal has a more detailed article on Wal-Mart's generic pricing move: Wal-Mart Cuts Prices for Many Generic Drugs to $4.

Many analysts and news stories are rightly pointing out that yesterday’s Wal-Mart news was blown out of proportion once we all found out what Wal-Mart was really doing. In particular:

• The list includes multiple dosages of the same products, making the total closer to 130 rather than the advertised “300 drugs.”
• The list excludes blockbuster generics, such as Zocor and Zoloft
• Many of the drugs are older, low volume generic drugs that are already inexpensive
• The program is only being offered in 65 stores, with future roll-out plans uncertain

These are all valid points about the program that was actually announced (versus what the mainstream media reported).

Nevertheless, I stand by my comments from yesterday arguing that Wal-Mart's generic pricing will trigger big changes. I elaborated on these remarks with Dinah Brin of Dow Jones yesterday in her story “PBM, Drug Wholesaler Stocks Down On Wal-Mart News.”

Wal-Mart’s move, while less significant than it first appeared, represents a triggering event. The near-term impact will be determined by (a) how well Wal-Mart rolls out the program, and (b) how quickly (if ever) they include more mainstream generic products.

But the fact that this announcement dominated news and stock prices in the drug channels universe demonstrates the power of their idea. Wal-Mart clearly struck a powerful chord with people. They are signaling their intent to remove profits from the retail pharmacy industry, to the ultimate detriment of pharmacy chains and independents. I believe that we’ll look back and acknowledge September 21, 2006, as a turning point in retail pharmacy's evolution.

Wal-Mart's Generic Pricing Will Trigger Big Changes

Big news from Bentonville: Wal-Mart will sell generic drugs for $4 per 30-day prescription supply. (Summary from today’s online WSJ: Wal-Mart Cut's Prices for Many Generics to $4.)

Yes, you heard right - less than a triple grande non-fat caramel machiatto at Starbuck’s! (So now, dear reader, you’ll know what to order when you meet me in person.) Check out Wal-Mart’s full announcement, which has some additional details.

Folks, we are witnessing a triggering event in real-time. I think Wal-Mart’s move will create massive change in the U.S. pharmaceutical distribution system because it threatens our current system of cross-subsidization.

In May, I pointed out that profits on generic drugs now subsidize the distribution of much more expensive branded pharmaceuticals. (Click here to read my original post.) All the major players in drug channels – PBMs, wholesalers, and retailers – generate higher profit margins and more profit dollars per script from generics. Wal-Mart has been anticipating this unbundling for some time, as indicated by the December 2004 testimony of Frank Segrave, then-VP of Wal-Mart’s Pharmacy division, which was titled “Medicaid Prescription Drug Reimbursement: Why The Government Pays Too Much.” (Subtle, huh?)

Wal-Mart began repositioning its pharmacy department with consumers this summer through the “Pharmacy at Wal-Mart” campaign. They need to convince consumers that a mass merchant pharmacy is just as good as the category killer chains (CVS and Walgreens), but more convenient for the one-stop shopping. By adding the price angle, Wal-Mart provides another benefit for consumers while simultaneously unbundling and attacking the profit streams of competitors and suppliers.

Some initial predictions:

Chain margins will shrink. Wal-Mart is really aiming at the big 3 pharmacy chains, essentially forcing them to blink and lower their margins on generics, too. CVS and Walgreens have less room to maneuver because pharmacy is the biggest chunk of revenues at the chains (70% at CVS, 65% at Walgreens) versus less than 10% at Wal-Mart. PBMs could also get caught in a margin squeeze if payers question their generic margins versus Wal-Mart. And some consumers may prefer to pay cash rather than processing through their benefit manager and paying a co-pay.

The consolidation of retail pharmacy will accelerate. Just look at what has happened to the retail grocery industry. Wal-Mart has used its proprietary distribution system to grab a nearly 20% share of U.S. retail grocery sales in only 10 years, triggering an intense shakeout among regional chains and independents grocers.

Wholesalers will suffer as independents fight for survival. Large chains purchase generics directly from manufacturers, while small chains and independent pharmacies purchase primarily through wholesalers. (Wal-Mart’s largest wholesaler for branded products did not mention any large chains when raving about its generic growth opportunities in June.) Wal-Mart’s move will shift generic market share away from independents, particularly in rural counties that have low chain pharmacy penetration. Recall that wholesalers and their customers will be splitting a maximum generic profit pie (AMP+250%) after Jan. 1. (See my June post on AMP.)

Manufacturers face tough fee-for-service negotiations in 2007. Large branded pharma manufacturers have been able to negotiate very good fee-for-service deals, due in part to wholesalers’ willingness to cross-subsidize services with higher margins from smaller branded companies and generics. I predict that the next round of fee-for-service negotiations will be much more contentious as wholesalers ask manufacturers to plug the gaps.

Check back in 18 months and I'll let you know whether my predictions came true.

Reimportation and Homeland Security are strange bedfellows

Read this article: Drug reimportation language holds up homeland security bill

I'm clearly not wise in the ways of Washington because this debate seems foolish. Business practices have led to a sharp drop in secondary market activity in the U.S. (Drug Store News recently referred to pedigree as a "solution in search of a problem.")

So how does encouraging diversion increase our security? I've blogged about the problems of secondary markets often. Rather than repeating myself, just look at my posts under the Drug Counterfeiting topic category.

And file this DC debate under "Things that make you go ... Huh?"

Contrarian Views on RFID

Looks like RFID is a sensitive topic!

I got some strongly worded emails about my post on RFID in supermarket pharmacies, especially my comment that "...we have a long way to go before this technology has any impact on supply chain security." (That quote was also highlighted by FDA News in their Blog Watch.)

For another contrarian viewpoint, read the fascinating article by Industry Week columnist Paul Faber called "RFID Market Continues To Move Sideways". His main points:

• "The major retail compliance initiatives are moving forward at a steady pace, but well below previous expectations/hype."
• "The innovations that we see due to RFID technology are still largely due to pursuit of realistic goals in custom projects that address a specific need and provide an unambiguous return on investment."

Faber is especially cynical about IBM's recent announcements regarding RFID in pharma. Recall that IBM's press release got Paul Chang from IBM talking about RFID on CNBC , where he claimed that the pharmaceutical industry "...is rallying around this technology." (Yes, that's an exact quote -- I bought the transcript.)

I find it hard to reconcile Mr. Chang's (self interested) optimism with the comments from outgoing Pfizer CEO Hank McKinnell, who said "RFID is not ready for prime time anywhere." Mr. McKinnell also notes that "It does give you control [up] to the first person you ship to. But if that person subdivides, or the pharmacist subdivides, you've lost control." (The whole interview is worth reading -- see the article in July's Pharmaceutical Executive magazine.)

I'll add that track-and-trace breaks down if the person decides not buy from a legitimate source, which is the topic of my popular post on our demand-side counterfeit drug problem.

The FDA and state legislatures are sincere in their interest to secure the pharmaceutical supply chain with track and trace technologies. But we should not let technology hype overcome the real world of patients and pharmacies. The law of unintended consequences will come back and bite us hard.

Then again, I fly over 100,000 miles per year yet I'm not allowed to bring toothpaste on a plane. I wonder how well things will work if we let a giant government bureaucracy take charge of a pharma supply chain track-and-trace database?

If you are brave, feel free to leave comments, rants, and flames in the comments below. If not, just email me directly.

Supermarkets, RFID, and Wholesalers

The Food Marketing Institute just released their latest annual survey of supermarket pharmacies. (See the Drug Topics summary.) The data shed light on the changing retail pharmacy market, especially margins and RFID use.

First, some context:

• Supermarkets made up 12% of 2005 retail pharmacy sales dollars.
• Supermarkets dispensed 470 million prescriptions in 2005, which is up 170%since 1992. For comparison, mass merchants (like Wal-Mart and Costco) dispensed only 365 million prescriptions, up only 96% since 1992.
• The biggest supermarkets with pharmacies -- Kroger, Supervalu, Safeway, and Albertsons – equal more than half of all supermarket pharmacy spending.

The FMI data come from 46 food stores operating 4,742 pharmacies, which is about half of the 9,800 supermarket pharmacies in the US. Here are few factlets from the survey:

1. Pharmacy contributes 9% of total store sales, which is about double the percent of sales from 8 years ago. The industry average mix (of stores with and without pharmacy) is 3% of sales.
   
2. The “median of the average gross margin” for the pharmacy department was 19.6%. I find this interesting because chain pharmacies do not release any information about pharmacy margins which I presume to be roughly comparable.
   
3. No companies are using RFID at a store level, suggesting that we have a long way to go before this technology has any impact on supply chain security. Only 4.9% plan to implement the technology in the pharmacy. I remain skeptical about the uptake of RFID at the pharmacy level, even though it could be an important way to stop counterfeiting on the demand-side.
   
4. The ongoing strength of supermarket pharmacy is good news for chain-oriented drug wholesalers such as Cardinal Health and McKesson. According to IMS channel data, supermarkets are much less likely to get bulk/warehouse deliveries from wholesalers than chain pharmacy. As I point out in my post about the Rite-Aid-Brooks/Eckerd deal, wholesalers have become dangerously dependent on low-margin deliveries to the warehouses of large retail pharmacy chains. Even supermarkets with good self-warehousing networks rely more on direct-store delivery since pharmacy is a minority of sales.

Big Win for GSK Could Bring Fee-for-Service to Europe

Wow! A big win for GSK announced in its long-running challenge to parallel trade. The official press release is more subdued: GlaxoSmithKline receives positive decision in Greek parallel trade case.

Wholesaler groups and their advocates have long argued that any form of commerce management in the EU is abusive per se under Article 82 of the EC Treaty. GSK’s win recognizes that a pharmaceutical manufacturer has the right to protect its legitimate commercial interests via strategic channel management. Click here for a good summary of the legal issues from Pharma Times.

This ruling could turn the tide on parallel trade because manufacturers can now apply some of the lessons from the US drug wholesaling experience with fee-for-service and inventory management agreements.(See my August 2006 archive for two posts on European drug channels).

The structure of European wholesaler compensation requires a different approach than the fee-for-service agreements used in the U.S.

• Sell-side margins for European wholesalers are regulated or set by governments.
• Manufacturers operating in Europe have no history of directly compensating wholesalers for specific behaviors or outcomes.
• Branded manufacturers directly control only one-quarter of EU wholesaler margins versus 90%+ for US wholesalers, giving them less power to demand a fee-for-service model.

Other models from the US can also be adapted to the EU, such as a dual pricing model in which a manufacturer charges different prices for national sales versus exports. Wholesalers get a rebate to a lower price if the product was proven to be sold domestically. Thus, dual pricing by a manufacturer is analogous to the U.S. “chargeback” reconciliation process.

Bottom line: life just got a lot more interesting for international drug wholesalers!

BuySafeDrugs.info = An Uphill Battle

I received an email today in response to my last post reminding me that the pharma industry is trying to solve Problem One by educating consumers about the dangers via a counterfeit drug education website.

PhRMA operates BuySafeDrugs.info “...to provide information on safe, legal ways patients can save on prescription drugs, to educate patients on the risks of importing medicines, and to explain why legalizing importation is bad public policy. The site was designed to be a clearinghouse for the latest news, policies, opinion and research on prescription drug importation and provides news alerts and information about alternatives to importation.”

I have this site bookmarked as a good reference for breaking news on counterfeit drugs. The site doesn’t hide its partisan viewpoint, as evidenced by the multiple links trumpeting last week’s FDA release. Nevertheless, the Harris/WSJ poll implies that PhRMA faces an uphill battle to convince consumers about the dangers of cross-country importation.

Our Demand Side Counterfeit Drug Problem

Let’s return to a perennial favorite topic of this weblog: What can be done to stop counterfeit drugs given the economic and market realities of the drug channel?

The supply side solution to counterfeits is well-known – prevent counterfeits from entering the wholesale supply chain by putting counterfeitors in jail, monitoring the channel, and requiring all wholesalers to source properly.

But what about the demand side problem: How do we stop pharmacy buyers and consumers from purchasing outside of a theoretically secure supply chain?

Three Rules

For the sake of argument, let’s assume that we had a perfect system for tracking every dose of medicine from a manufacturer’s plant to a pharmacy (open or closed door). This is not realistic for many years (if ever), but play along with me and assume that our wildest RFID fantasies come true. (I’ll return to RFID fantasies later this month.)

There are still three rules that have to be followed for such a system to actually make us safer:

1. Pharmacy buyers must demand pedigree documents (electronic or paper) from wholesalers and be able to validate the authenticity of these documents.
2. Pharmacy buyers must only purchase from wholesale distributors in the “Normal Distribution Channel” or wholesale distributors that are willing and able to supply pedigree.
3. Consumers must (a) refuse to do business with any pharmacy that does not adhere to the preceding two rules, and (b) be able to validate a pharmacy’s compliance with these rules.

The National Association of Boards of Pharmacy Model State Pharmacy Act and Model Rules for Licensure of Wholesale Distributors clearly cover Rules 1 and 2 by outlining various “Criminal Acts” associated with knowingly handling counterfeit drugs.

That leaves us with at least two major consumer behavior problems that are as yet unsolved.

Problem 1: Consumers need to stop buying from pharmacies that do not follow Rules 1 and 2.

Right now, that’s pure fantasy. The Harris/WSJ poll released last Thursday found that only 9% of Americans feel strongly that “a law prohibiting pharmaceutical imports from Canada and other countries helps protect Americans from potentially harmful drugs.” Even more troubling, 11% report buying drugs from a foreign country (by going there, on the Internet, or by mail), which is double the percentage in 2002.

Last week’s Mediplan bodyslam by the FDA provided more evidence about the dangers of personal importation, but is anyone listening? Mediplan’s founder would not say where the drugs ship from, but readers of this blog know that wouldn’t tell us much anyway in a world of massive parallel trade.

There’s a good post at Envisioning 2.0 on the communication challenge ahead, although Fard forgets to note the cosmic irony of July’s US Senate vote.

Problem 2: Consumers need to be able to validate safe sourcing practices.

I guess this only applies to the apparent minority who know or care, but we also have a classic principal-agent problem. How can I (the principal) guarantee that my agent (the pharmacy) is acting in my best interests given that I do not have perfect information about the pharmacy’s sourcing behavior? IOW, how do I know that the pharmacy follows rules 1 and 2, thereby minimizing my risk of getting a counterfeit product when I pick up my prescription?

Obviously, not shopping in Canada is a good place to start. But how do I know that my local pharmacy is playing by the rules? As an industry insider, I’m aware of what the industry has done. (See my June post on the FDA’s counterfeiting report.) Yet even I wondered a bit when I recently picked up a prescription for my daughter.

Just say No?

Despite the techno-hype, RFID monitoring will not solve these demand-side problems because it is simply not practical to monitor all 160,000 unique points of drug dispensing to make sure they abide by “safe sourcing” rules.

The bigger political question: will the industry really spend billions to solve this problem when consumers can’t even be bothered to avoid obvious sources of counterfeit drugs? Apparently not, if you believe last Friday’s WSJ cover story on FDA user fees stating that pharmaceutical and biotech companies “…have balked at other FDA suggestions that would, among other things, route user-fee money toward fighting drug counterfeiting.”

Paging La Toya Jackson?