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Industry Outlook: Healthy Rx buoys drug chains
April 27th, 2010
NEW YORK – Signs are pointing to another up-and-down year for chain drug retailers.
Industry analysts say a lukewarm economic recovery will keep customers in a cautious frame of mind, with front-end sales remaining weak despite a healthy pharmacy business.
That most likely means a year of flat to modest revenue growth for drug stores, which along with other retailers stand to see better results later in the year when improved jobless rates are expected to breathe life into consumer spending.
“Overall, 2010 is going to be a relatively tough year,” says Sanford Bernstein & Co. analyst Helene Wolk. “The positives are relatively slim.”
On the plus side, ongoing generic drug conversions and a continued rise in prescription sales and volume will spur performance in the pharmacy. “Two thousand nine was probably a better year than some expected around pharmacy market growth,” notes Wolk. “And 2010 is set up, at least in terms of an IMS industrywide forecast, to be a pretty good year in terms of [prescription] sales.”
Yet, 2010 will present some significant challenges for drug retailers, according to Wolk. “The economic climate will continue to pressure front-end sales,” she explains. “We may see a much more muted economic recovery or even continued lackluster growth in front-end sales going forward, which may suggest a [retail] channel shift that could linger beyond the recovery.”
Drug chains, too, will be hard-pressed to replicate their robust flu-related business in 2009, given the weak flu season so far this year, and their margins will be squeezed by Medicaid reimbursement issues, “which is a unique headwind for the industry,” Wolk adds.
After a down year virtually across the board in 2008, the retail market generally saw a rebound last year — aided by easy year-over-year comparisons — but drug retail was one of a few sectors on the upside for 2009, the 2010 year to date and the past five years, according to Standard & Poor’s.
As of March 31, the drug retail subindustry in the Standard & Poor’s Composite 1500 stock market index showed price growth of 25.7% for 2009 and 8% for the year to date, as well as a 1.7% five-year compound annual growth rate. The only other retailers with growth in all three periods were general merchandise stores, apparel stores, computer/electronics stores and Internet retailers.
Among other mass retail sectors in the S&P stock market index, food retail was down 6.5% in 2009 and is up 13.8% for the 2010 year to date, hypermarkets and supercenters (including warehouse clubs) fell 2% in 2009 and are up 3.6% for the year to date, and general merchandise stores rose 35.2% in 2009 and are up 13.2% for the year to date.
In 2010 “there’s good and bad” for drug chains, according to analyst Joseph Agnese of S&P Equity Research.
“The weak economy has consumers trading down, pressuring margins in the front end, and it’s pressuring Medicaid reimbursements, which impacts margins in the pharmacy,” he says. “On the positive end, there’s a lot of stability from the prescription business, which is about 70% of large drug chains’ sales and will continue to benefit from the aging population.”
And because prescriptions are mostly paid for by insurance, drug chains aren’t as vulnerable to consumer price sensitivity as mass retail competitors that rely more on nonpharmacy sales, Agnese points out.
Indeed, health care spending trends are in pharmacies’ favor. U.S. prescription drug spending, for example, rose 5.2% to $246.3 billion last year, up from 3.2% in 2008 and 4.5% in 2007, according to the Centers for Medicare and Medicaid Services (CMS).
The rate of growth also stands to pick up. CMS projects prescription sales to rise 5.6% to $260.1 billion this year and 5.6% to $274.5 billion in 2011, and then — after a hiccup in 2012-2013 when key branded drugs come off patent — approach 8% annually by the end of the decade to exceed $450 billion.
Besides leveraging traditional strengths of convenience and proximity, drug chains aim to capitalize on strong pharmacy traffic through such efforts as expanded food and grocery offerings, enhanced beauty departments, more private label items and exclusive brands, additional health services (including in-store clinics, immunizations and employer programs), extended hours, and alternative formats (including beauty boutiques, natural/organic products and express outlets).
“Top-line growth at drug retailers is expected to remain steady or improve modestly in 2010, with overall industry prescription sales growth at around 2% annually, offset somewhat by weakness in front-end sales,” predicts Fitch Ratings in its 2010 U.S. Retail Outlook.
“Large-scale acquisition opportunities are limited as CVS Caremark, Walgreens and Rite Aid, the three largest chains, account for approximately 32% (or 46%, including CVS’ PBM business) of industry revenue,” Fitch states. “Share gains will depend on generating above-average organic growth, store closings or share losses by weaker independents and regional chains, and small market fill-in acquisitions and prescription file buys.”
*To read the full Industry Outlook, plus economic analysis, drug chain profiles, interviews with chain drug leaders and industry trend articles, see the State of the Industry report in the April 26, 2010, print issue of Chain Drug Review.
MORE STATE OF THE INDUSTRY ARTICLES:
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• Q&A: Anderson keeps NACDS focused on what matters
• The Top 10 Drug Chains