The U.S. prescription drug market has reached half a trillion dollars, much of it dominated by large pharmacy service providers. But with a pie this big, it’s little wonder that new players are looking to horn in on the action — in particular “digital native” start-ups that give customers the direct consumer-centric relationship and flexible options for prescription delivery that they want. These new players are upending the traditional pharmacy model, several of them with considerable success. Online retail giant Amazon has launched digital pharmacy services in 50 states and is using vast amounts of consumer data to provide an integrated, personalized pharmacy experience, raising the game and pressuring traditional pharmacies to rethink their digital strategy.
Despite the increasingly crowded digital pharmacy space, opportunities exist for large drug chains to offer a comprehensive digital platform that better addresses pain points across the entire customer prescription journey. Many new entrants choose to go deeper in certain lifestyle or drug categories to deliver a tailored experience and build brand equity faster, with an eye toward a potential exit through acquisition. Others focus on high-value geographic markets, offering convenience and service to well-insured urban customers. But it may be challenging for the disruptors to move beyond narrow niches, as they don’t have the capital or infrastructure to scale, and serving broader markets and a broader range of products will bring many of the pricing, reimbursement and efficiency headaches faced by the incumbents.
Large retail pharmacy players still have an opening to leapfrog these point solution competitors, create value and win at digital.
Learning from the digital business model
One of the keys to success for digital natives is their sharp focus on customer needs. Rather than trying to be all things to all people, they typically start with an offering that targets specific pain points for a clearly defined customer group. For example, Roman provides solutions for sensitive male health issues—ones that men may be reluctant or uncomfortable to discuss with their physicians. Similarly, Capsule addresses an unmet need through providing free, seamless, same-day prescription delivery to well-insured consumers in focused urban markets.
For such digital pharmacy players, significant investment in marketing and customer acquisition is heavily relied on. Whether it’s signing on celebrities as brand influencers or investing in sleek, premium branded packaging, these players spend liberally on marketing and building brand equity. Indeed, customer acquisition costs are one of the primary drivers of their lower profitability. Hims & Hers, a telemedicine company that offers a suite of products and services tied to gender-specific conditions (for example, sexual health, acne and hair loss), enjoyed a significant top-line revenue growth of 128% year over year and gross margins of 71% for 2020, according to its investor presentation. However, the company filings suggest it may not yet be profitable, spending $153 per customer in acquisition costs and reporting a $72 million net loss (in 2019).
Some of these companies enjoy strong top-line revenue and gross margin growth due to higher pricing. Typically, their business model is not about being a low-cost leader, but rather offering a basket of products and services that appeals to the target customer and giving them both access and convenience. Women’s health provides examples: NURX and Simple Health, which aim to be one-stop shops for sexual health needs, provide subscription-based bundled offerings for medication and provider access. They offer cross-sell opportunities to add on testing kits and over-the-counter care products, building a basket around the original need.
Stepping into the digital fray
Digital natives have made inroads into the core business of traditional pharmacies, and given their nimbleness, customer focus and ability to uncover niche opportunities, they’re equipped to grow their slice of the market. But traditional players are not without advantages — in fact, far from it. With the right strategies, they too can win at digital, using different strategic assets.
Double down on unmet customer needs and pain points
To counter the threat from digital natives, chain pharmacies need a two-pronged approach. First, they need to take a magnifying glass to their customers’ current pharmacy experience and identify the pain points. Then they should focus on optimizing their digital platforms to create a seamless omnichannel experience across the entire customer journey that is equal to or better than that offered by digital players.
The second prong entails pinpointing the unmet needs of the most at-risk and high-lifetime-value customer demographics — ideally identifying those who are already digital customers and who may be willing to pay a higher price point for convenience. These customers offer significant value potential for traditional pharmacies if pharmacies can provide comprehensive offerings and better convenience that would otherwise be sought via multiple digital players.
Make partnerships pull their weight
Large chain and retail pharmacies have existing partnership and M&A portfolios, some of which may include digital players. Aside from the obvious acquisition benefits, the operating benefit for digital natives is that these relationships with large chains can help cut their customer acquisition costs due to the chain’s higher brand recognition. Furthermore, with access to the chain’s customer data, pharmacies can better target their offerings. Chains benefit because they can provide their customers with access to their partners’ digital offerings, facilitating a better overall experience. In other words, these partnerships create more value than the digital natives or the chains themselves can do alone.
But to derive maximum benefit from partnerships, chains need to critically evaluate their portfolios based on how well partners fulfill the needs of their highest-value customers and be ready to make choices and terminate digital partners or divest acquisitions that are not serving these customers.
Putting data to work
Customer data — gathered across geographies, demographics, behaviors and the customer life cycle — is one of the biggest advantages large chains and retailers have over digital natives, although digital natives do have strong analytic capabilities. Investing in analytics to parse through customer data and identify trends, unmet customer needs, emerging customer behaviors and a host of other factors will pay off in the long run with ever-better personalization. What’s more, using customer data is one way to compete with Amazon, given that analytics has always been central to the retail giant’s methodical strategy for entering new markets.
One of the biggest differences between retail pharmacies and digital natives is, of course, their physical assets, which are conveniently located across regions or nationwide. These physical assets are also a significant advantage because consumers value the optionality of the omnichannel experience. However, for a true omnichannel experience, physical locations need to be part of the overall ecosystem, and what the customer does in-store must be reinforced by the digital experience — not separate from it.
Non-pharmacy retailers such as Sephora, Burberry and Apple provide ready examples of best-in-class use of physical space, with minimal in-store inventory, seamless integration between physical and digital experience, and use of consumer data to personalize the shopping experience. Imagine a consumer entering a store and receiving digital promotions (based on their purchase history) before checkout and a specific notification when their prescription is ready for pickup. Items they shopped via the app an hour ago are ready for pickup or brought to them by a clerk, eliminating time searching and emphasizing speed and convenience.
There are other ways for chain pharmacies to better use their physical store assets. Physical space can be repurposed to accommodate a broader range of services. Where permitted, pharmacists should be used for higher-value services (for example, vaccinations, lab testing, primary care services or specialized medication delivery), but this requires embracing an operating model that frees up pharmacist time to focus on clinical services. Physical space could also be monetized with buy-online-pick-up-in-store or store-within-a-store concepts.
Incumbents don’t need to do all of this at once, but they do need to be intentional about experimentation with new models, such as which market they can test for convenience-focused offerings (think small-format city Targets) and which niche needs they want to address with digital sub-brands. Not every organization will have the capability to build these types of solutions in-house, so chains will need to evaluate where it makes sense to turn to partners or acquisitions to create the ideal experience for their customers.
Getting digital right
Large pharmacy chains have significant advantages over digital natives — convenient brick-and-mortar locations, voluminous customer data and established brand equity. Most do not position these assets to their advantage, seamlessly integrating the physical and digital customer experience. Those that have the focus to improve their digital strategies and invest capital intelligently will enjoy considerable payback, retaining existing customers and going on offense against the digital natives. Those that don’t will face erosion of market share and decreased relevance compared to players with a more compelling and integrated offering.
Todd Huseby is a partner specializing in the health care industry at Kearney, a global consulting partnership. Katy Rauen is an associate partner at Kearney, and Laura Bowen is a principal at Kearney; both specialize in pharmacy and health care provider operations. They can be contacted at [email protected], [email protected] and [email protected] The authors would like to thank to Rodey Wing, Jerry Cacciotti, Ellen Bursey and Linda Zuo for their valuable contributions.