CVS-WAG: Escalation and Bridge Burning

Walgreen’s (NYSE:WAG) battle with CVS Caremark (NYSE:CVS) escalated sharply yesterday. Does this posturing and bluster mean that a resolution may be closer than it appears?

Perhaps. “Burning your bridges behind you” is a well-known strategy for demonstrating commitment. Succeed or perish, goes the theory.

CVS Caremark and Walgreen are (hopefully) negotiating some sort of resolution to this debacle behind closed doors. In public, we are witnessing each side signaling an intention to stand their ground as way to force the other side to compromise.

I see the next big deadline as next Tuesday’s earnings conference call from Walgreen. Consider these four possibilities, in order of decreasing attractiveness to Walgreen:

• Walgreen reconciles with CVS Caremark
• Walgreen announces a truce that postpones the July 9 deadline
• Walgreen makes a market-shaking announcement that strengthens its bargaining position, such as a mega-acquisition (Rite-Aid?) or a new direct-to-payer deal
• Walgreen spends the entire earnings call explaining why they picked this fight in the first place and how much they stand to lose. Ouch.

Here’s a rundown of the latest developments in this kerfuffle:

1) The Wall Street Journal had a great scoop yesterday on Walgreen’s strategies for avoiding more than $7 billion in potential revenue losses. See Walgreen to Honor Existing CVS Caremark Terms. In brief, Walgreen is “willing to honor” existing pricing terms for Caremark beneficiaries. The company is also accelerating its direct-to-payer, PBM bypass strategy.

2) In retaliation, CVS Caremark announced last night that Walgreen would violate its contract by allowing CVS Caremark patients to keep filling prescriptions at Walgreen beyond next month. (source) Hmmm, or else what? CVS Caremark will drop them again?

3) Meanwhile, plans managed by CVS Caremark are getting beneficiaries ready to switch pharmacies three weeks from today. Here are a few examples:

• Blue Cross Blue Shield of Tennessee (2.9 million covered lives)
• Tufts Health Plan (700K covered lives)
• National Rural Letter Carriers' Association

4) Medco finally stated publicly what we all have been thinking. Namely, this whole mess will be a boon to the pure-play PBMS such as Medco Health Solutions (NYSE:MHS) and Express Scripts (NYSE:ESRX). Glenn Taylor, Medco's group president for key accounts, said: “When they think that their members could be disrupted, then they look for solutions to not have that service component disrupted. As long as they can provide it at a fair price, I think that will help the independent PBMs." (source) A good helping of spin in his statement, but nonetheless interesting.

The drama continues…