The analysis of US health care reform’s damage to big pharma came thick and fast as companies reported first quarter earnings. The two biggest global pharmaceutical companies by sales in 2009 reported a combined $91m in negative first quarter effects from the law and smaller ones likewise reported millions of dollars in bottom-line impacts as the Medicaid program for the poor imposed a drug payment cut effective January 1, 2010.
As its passage was fresh in the minds of investors and analysts, companies had little choice but to discuss how the law would affect their bottom lines, given that the legislation backdated its increase in the mandatory Medicaid rebates. But it is propitious timing for an industry that in recent times has taken a kicking from investors who see its innovative edge disappearing in a flurry of patent expiries in coming years. The reform law’s frontloading of cost onto big pharma certainly provides an opportunity to lower expectations, that can more easily be exceeded in the future.
Price cuts Thursday
US health reform’s impacts are spelled out rather clearly and hit pharma in the immediate term: An immediate increase from 15.1% to 23.1% in the discount for drugs sold to the Medicaid programme and a 50% cut effective January 1, 2011, in the prices of drugs sold to seniors who are in a Medicare coverage gap known as the “doughnut hole” (US health care reform limits further pain for pharmaceutical industry, March 19, 2010).
Its benefits to the industry are a little more long term: expanded coverage for currently uninsured people does not start to take effect 2014, which should make more people able to buy drugs in the world’s most lucrative market. Thus the industry faces costs now and should not expect to see revenues increase until 2014 at the earliest.
Among the Q1 results that specifically highlighted an impact from the increased Medicaid rebates were: Pfizer (PFE) which reported a $56m reduction in Q1 revenue; Sanofi-Aventis (SNY) with a $35m accrual from Medicaid and other effects of the law; Eli Lilly (LLY) who lowered earnings by 35 cents a share; Abbott Laboratories (ABT) which reported a 3 cents per share hit; Merck (MRK) reporting a $35m impact; and Amgen (AMGN) who expected a $200m-$250m fall in revenue over the course of 2010.
Of course, the effects will vary from company to company, with those focusing on chronic diseases and diseases of the elderly likely to suffer more than those that are less exposed.
A period of industry retrenchment, with management changes, restructuring, diversification into generics, expansion into emerging markets and pursuit of assets to fill drug pipelines, has strengthened the pharmaceutical sector’s fundamentals.
Analysts at Citibank note that even with the Medicaid surprise, the sector as a whole beat consensus estimates by 3% on sales and on an earnings-per-share basis by 10%. Yet despite those good signs, shares are trading at a 15-year low on a price to earnings ratio, the Citi analysts say, in part because of doubts about the sector’s ability to meet expectations.
The passage of health care reforms potentially gives big pharma an opportunity to underplay the positive effects, deliver consensus-beating numbers in the future, and restore some investor confidence in the sector.
As it was the first reporting period following passage of the law, commenting on its bottom-line impacts was most likely considered de rigeur for pharmaceutical executives. By mid-summer, it is likely that its effects will be woven more tightly into the guidance and estimates developed by investors, analysts and corporate finance chiefs alike.
The stream of history flows on, and it is just as likely that some subsequent events - such as the hung parliaments and Greek bailouts that cast shadows on the market Friday – will be a bigger factor in the second quarter. For the first quarter, however, health care reform was both necessary and convenient.