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Amazon is stepping into the pharmacy business with the purchase of online pharmacy start-up PillPack. The market is implying the move will prove to be more than just a headache for those operating in the drug store/pharmacy and drug-distributor complex. Whether the impact will be significantly material in the coming years remains to be seen, but it’s a big directional negative for impacted parties.
By Brian Nelson, CFA
We saw the writing on the wall. We had once included CVS Health (CVS) in the simulated Dividend Growth Newsletter portfolio and the simulated Best Ideas Newsletter portfolio, but we ditched the company in February. We couldn’t envision a scenario at the time where things would be getting better at CVS, and sometimes thinking directionally with a thesis is as important as contextualizing new developments and translating them into the calculation of an intrinsic value estimate. We removed the company from both simulated newsletter portfolios then. Here’s what we said February 8, 2018, a number of months ago:
We think we’ve seen enough with the myriad risks that have found their way into the CVS “story.” From the Amazon (AMZN)-Whole Foods scare to Amazon teaming up with Berkshire Hathaway (BRK.A, BRK.B) and JP Morgan (JPM) to form a new healthcare company, the long-term outlook for CVS has become even more cloudy. Its purchase of Aetna (AET) may have been the straw that broke the camel’s back to our thesis, and we can neither see relief with respect to the structural dynamics of the industry in which it operates, nor can we see its increased leverage and competitive environment a positive for the dividend. We are removing CVS from both the simulated Dividend Growth Newsletter portfolio and the simulated Best Ideas Newsletter portfolio.
On June 28, Amazon announced that it would acquire PillPack, “an online pharmacy that offers pre-sorted doses of medications, home delivery, and a commitment to customer service.” Watch video here. PillPack is focused on customers in the US that take multiple daily prescriptions, ensuring that refills and renewals are sent on time. If the market had any doubt about Amazon’s intentions, it appears they are now clear, and the news prompted a sell-off across most of drug store/pharmacies and drug-distributor complex. Walgreens Boots (WBA) and Rite Aid (RAD) dropped more than 10% during the trading session June 28, while McKesson (MCK), AmerisourceBergen (ABC) and Cardinal Health (CAH) fell by a high-single-digit percentage. That Walgreens Boots expects its fiscal 2018 adjusted earnings-per-share range to be a nickel better than prior expectations, now targeted in the range of $5.90-$6.05 per share, did little to alleviate the pain.
We recently wrote about how we were mighty concerned about the “severe case of rampant generic drug deflation” in the drug-distribution (and pharmacy) space, and Amazon’s entrance into the industry, whether significantly material or not in the coming years, only casts a bigger cloud over the long-term industry structure and the sustainability of the current magnitude of profits. It looks as though Walgreens Boots was added to the Dow (DIA) at a time its primary end market could be undergoing significant change. Might Amazon have been the better pick for the index? We’re not exactly happy CVS Health was added to the simulated newsletters in the past, but again, we continue to do well at recognizing changing industry dynamics, and the right move thus far was to have removed CVS Health when we did. We don’t expect to make any changes to our fair value estimates of impacted parties as a result of this news.
Related: ESRX
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Brian Nelson does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.