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Michael Spacey
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This is a pseudonym. Started my career in structured finance, moved into corporate debt, and now I'm investing in equities. My investment style is focus on the fundamentals, figure out what the company is worth, then check across the capital structure for opportunities. Writing is a way for me... More
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  • PBM Industry Considerations  0 comments
    Jun 29, 2014 11:53 PM

    Appendix: PBM Risk & assessment of drivers

    · Longer term biggest risk is from payers. Either complete disintermediation or payers bargain to pay less. Worry about payer consolidation.

    o (-) Long precedence for payers doing it themselves. UNH does. WLP has talked about "optionality" with its "renting" to ESRX. Somewhat offsetting this risk is the fact that large contracts tend to have lower margins.

    o (+) Payers have little incentive as drug cost is only a small portion and PBMs skim a small % of total drug value (5-8% EBITDA margin % of sales)

    o (+) PBM can lower cost with mail business and specialty pharma. Payers would have to build this up. MCO's can go to pharmacies like CVS directly but CVS has conflicting incentives to actually raise cost

    o (+) Payers use PBMs as the "bad cop" to other parts of the supply chain

    · Pharmacies are teaming up with distributors to increase their bargaining power

    o CVS: JV with Cardinal

    o WAG: teams with Alliance Boots and ABC

    o RAD: teams with McKesson

    · Competition: Nice industry structure with top 4 > 70% of market share

    o (+ )Competitors have differentiated models. A positive for ESRX & CTRX is that for some payers, CVS (pharmacy) & UNH (a rival payer) represent conflict of interest, even if those 2 can legitimately lead to lower cost

    o (-) Larger contracts have lower margins. This is indicative of some price competition to win big payer's business

    · Shifting distribution models

    o (-) Exchange environment means some employer clients will be shifting to MCOs. This consolidates more power to MCO side as they get a higher % of payer responsibility (vs employer & government). Payer consolidation can lead to lower margin for PBMs

    o Some PBMs will lose direct access to employer clients, as health plans on some exchanges use a "carved-in" approach where customers choose an MCO and PBMs are bundled along… so PBM no longer contract with employer payers directly. An example is some employers have move retirees from group insurance to Medicare exchanges - with Medicare Advantage the drug benefit is bundled

    · Potential Backlash from consumers and regulators.

    o This is a little like the mortgage servicers. PBMs play the bad cop and restrict pharmacy network and formulary. They bear the risk angering consumers and the big pharmas. Doctors don't like them either as PBMs will increasingly require more documentation and even challenge what doctors are doing.

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