Walgreens Boots Alliance, Inc. (WBA) on Oct. 28 unveiled plans to purchase Rite Aid Corp. for $9 a share, or a total enterprise value of approximately $17.2 billion after factoring in debt, creating what many are calling a retail “behemoth” in the pharmacy space. Given that WBA Executive Vice Chairman and CEO Stefano Pessina this year hinted several times at possible merger and acquisition activity, the proposed deal came as no great surprise to investors. But it raised several questions, including how WBA will leverage its enhanced scale with payers and just what it plans to do with the PBM EnvisionRx, which Rite Aid purchased in June.
Acquiring Rite Aid would give the retail giant more than 12,000 locations in the U.S., or about one in five retail pharmacies, estimates Pembroke Consulting, Inc. That network would be larger than that of CVS/pharmacy, which plans to add about 1,600 Target Corp. in-store pharmacy/clinic locations to its pharmacy network of 7,900 stores (DBN 6/26/15, p. 3).
“Ultimately, like many elements of the health care market, two is better than three,” observed Evercore ISI Senior Managing Director and Partner Ross Muken during an Oct. 28 webinar to discuss the financial implications for investors. “I do think for the drugstores as a whole, given how concentrated the PBM landscape is, it made sense for one of the two players to take out [Rite Aid]. In our mind, a consolidated network given howthere has been a bias toward narrow networks makes a ton of sense.”
Walgreens Plans Rite Aid Buy
One of the big questions that remain, however, is what kind of PBM strategy WBA will ultimately pursue. Muken suggested that the company has two primary options once management gets its arms around the PBM business: (1) Look to strategically align with a major PBM like UnitedHealth Group’s OptumRx or Express Scripts Holding Co. — the former of which he believes is more likely — or (2) “roll up” what’s left of an “already quite consolidated” PBM market. Acquiring Rite Aid may not “solve their PBM problem, but clearly I think [Walgreens] has more optionality now in terms of directions,” he said.
Walgreen Co. previously operated the PBM Walgreens Health Initiatives, which it sold to Catalyst Health Solutions, Inc. in 2011, and in 2014 completed a two-phase purchase of U.K. retailer Alliance Boots to form the “global pharmacy-led, health and wellbeing enterprise” Walgreens Boots Alliance, Inc.
During an Oct. 28 conference call to discuss fiscal 2015 financial results and the planned transaction, executives were vague on plans for EnvisionRx. WBA Executive Vice President and Walgreens President Alex Gourlay called the Rite Aid subsidiary an “important but relatively small PBM business…with a lot of good capabilities and IT.” Once the Federal Trade Commission (FTC) completes its review of the proposed combination, WBA looks forward to “understand[ing] more about the business and how it could really help us understand access in America better,” he said. “I mean, our real purpose here with the deal with Rite Aid is to improve the quality of pharmacy and to really just cross across some markets and make sure we create a market which is more affordable and more accessible for everyone, aligned with the government policy. So we think this could be our way into that in terms of Envision.”
When Rite Aid in February unveiled plans to acquire EnvisionRx, it appeared to be “building a mini-CVS Health,” observed Pembroke President Adam Fein, Ph.D., in an Oct. 29 post to the Drug Channels blog. But since then, “Rite Aid hasn’t executed on any new preferred network offerings or specialty pharmacy strategies,” he pointed out. And management’s comments about looking to understand the business suggest a “clear retail mindset” and a lack of experience with payer businesses, he wrote.
WBA Executive Vice President and Global Chief Financial Officer George Fairweather added during the call that the company anticipates the transaction will contribute to earnings during the first full year after it’s completed and that it will “begin working to capture” at least $1 billion in gross synergies once the deal closes.
When asked whether it planned to leverage the expanded pharmacy network with drug purchasers, Pessina asserted that WBA did not pursue the acquisition to “increase [its] negotiating power with payers and PBMs,” but rather to extract synergies, pointing out that margins are decreasing for all retailers. “We are in an environment where there is a lot of competition, and the fact that we put together two companies will not reduce the competition,” he suggested.
“Is this a strategic spin or a frank acknowledgement that PBMs are the power players in the drug channel?” asked Fein. Given that about three-quarters of all store-based retail prescription claims are processed by three main PBMs, WBA’s expanded scale could theoretically “provide some countervailing power in its negotiations over network access and reimbursement rates,” he suggested. “For instance, the company may have to offer smaller discounts to participate in preferred networks.”
WBA shares fell 11% by the close of Oct. 28, which Deutsche Bank securities analyst George Hill suggested in an Oct. 29 research note may have been partly driven by concerns about FTC scrutiny of the proposed transaction. The National Community Pharmacists Association and two lawmakers on the Senate Judiciary Committee’s antitrust subcommittee have released statements urging regulators to closely scrutinize the combination.
But Muken said given that Express Scripts cleared its 2012 acquisition of Medco Health Solutions, Inc. and if CVS is able to complete its deal with Target, “this is another one that is certainly in the veil of acceptability.” Although Pessina declined to discuss potential divestitures during the conference call, WBA reportedly told regulators it would be willing to sell 500 to 1,000 stores in order to close the deal. Pessina said WBA is working “closely with the regulator to bring the transaction to a conclusion as soon as possible.” The company anticipates closing the deal in the second half of calendar-year 2016.
When asked about the proposed transaction and the potential to more closely align with retailers, Express Scripts Chairman and CEO George Paz during an Oct. 28 conference call to discuss third-quarter 2015 earnings said its relations with Walgreens, particularly with its newer leadership, have improved and “the opportunities are good.” But he reiterated prior assertions that Express Scripts’ clients value choice.
“To the extent that we have opportunities to use networks that are new and improving…it’s awful early to say how all of this is going to play out and what the company is going to look like as it goes through the FTC process,” added Paz. “But we’ll certainly keep our eyes on that, and we’ll keep up our communications with Walgreens and CVS, for that matter.”
In an Oct. 28 research note, Hill read Paz’s comments as limited but positive. “We expect that Express will look to capture for their clients some of the cost savings that WBA/RAD [Rite Aid] generate through their merger. Express could also work with Walgreens to create pharmacy networks for clients that save money,” he wrote.
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