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Pharmacies & Drug Stores Industry Near-Term Prospects Bleak

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The Zacks Retail - Pharmacies and Drug Stores industry includes retailing of a range of prescription and over-the-counter medications. The broad retail network of companies within this industry delivers advanced health solutions for patients, customers and caregivers. Their pharmacies dispense millions of prescription medications each year.  

Over the past few years, the scope of retail pharmacy and drugstore market has expanded exponentially. In North America, some of these companies have evolved to add wellness products and groceries to their traditional portfolio of prescription and over-the-counter medications.

Going by Statista data, sales of retail pharmacies and drug stores in the United States will reach approximately $300.26 billion by 2020. The enormous market potential has made this space a happy hunting ground for global healthcare players.

However, of late, this industry has been facing challenges in terms of reimbursement headwind, lower patient costs, drop in generic drug price and last but not the least, entry of non-healthcare giants like Amazon (AMZN - Free Report) . All these areweighing on the industry’s growth.

Here are the three major industry themes:
 

  • Declining Pharmacy Reimbursement: The pharmacy retail industry is being affected by lower reimbursement rates from payers. In particular, of late, it has been observed thatHMOs, MCOs, PBMs, government entities and other third-party payors are reducing prescription drug costs and pharmacy reimbursement rates, which are adversely impacting profit generation. More precisely, increased utilization of generic drugs (with a higher gross profit rate than equivalent branded drugs) has resulted in pressure to decrease reimbursement payments causing a reduction in margins on sales of generic drugs. Going by a May 2019 article by Medscape, the wholesale price (AWP) and dispensing fee paid to retail pharmacies for brand-name drugs is now 85.5% and $2.05, respectively, for average reimbursement rate of 87.7%. This compares with the 2003 average of $91.77 per prescription for retail.
     
  • Beauty and Lifestyle Exposure: With the rise of e-commerce and growing social media participation in brand expansion, there has been a major in consumer behavior. Consumers do not hesitate to try different brands depending on product review through different channels. With this transformation, luxury and necessary lifestyle and wellness brands are emerging as a billion-dollar industry. Pharmacy retailers are also jumping on the bandwagon by joining forces with independent lifestyle and cosmetic brands. In recent years, drug retailers like CVS Health and Walgreens (WBA - Free Report) have made significant efforts to update their beauty offerings. According to an article published in Retail Dive, these two companies currently have an astonishing 48.8% combined market share of the U.S. health and beauty retail market.
     
  • Emphasize on Chronic Disease Care: The modern pharmacy retail and drugstore concept emphasizes on chronic disease care and management. Irrespective of age group, millions of Americans are at present suffering from chronic conditions that require lifestyle modifications and daily maintenance medications. Per current data, a small percentage of the population takes medication as prescribed, exerting additional pressure on the healthcare system. According to the Centers for Disease Control and Prevention (CDC), three in four aging Americans have multiple chronic conditions, clearly indicating the huge untapped market for pharmacy retailers dealing in chronic condition management. Keeping this in mind, CVS Health recently acquired Aetna and Walgreens is set to take over Alphabet’s (GOOGL - Free Report) Verily.
     

Zacks Industry Rank Indicates Weak Near-Term Scenario

The industry’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates gloomy near-term prospects. The Zacks Retail - Pharmacies and Drug Stores industry, which is housed within the broader Zacks Retail and Wholesale sector, currently carries a Zacks Industry Rank #255, which places it in the bottom 1% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of negative earnings outlook for the constituent companies in aggregate.

Industry Underperforms S&P 500 & Sector

The Zacks Retail - Pharmacies and Drug Stores industry has underperformed the Zacks S&P 500 composite as well as its own sector over the past six months. The stocks in this industry have collectively declined 31.1% over this period while the Retail and Wholesale Sector has moved up 0.2%. The Zacks S&P 500 composite has rallied 7.5% over the same period.

Six-Month Price Performance


 

Industry’s Current Valuation

One might gain a fair idea of the industry’s relative valuation from its price-to-earnings ratio (P/E ratio), which is commonly used for valuing retail pharmacy and drug store companies.

The industry is currently trading at a forward 12-month P/E ratio of 8.02, which is lower than its median level of 14.87 over the past five years. We also see that the industry is trading lower than the broader industry’s forward P/E ratio of 17.42.

Price-to-Earnings Forward Twelve Months (F12M)

Comparing the industry with the S&P 500 Index on the basis of the forward P/E ratio, we see that the industry is trading at a discount to the S&P 500’s 16.71X.

Price-to-Earnings Forward Twelve Months (F12M)

Bottom Line
 

So far, the bigger retail pharmacy and drug store companies have been maintaining their competitive position on economies of scale in purchasing and access to a large customer base. Meanwhile, smaller companies are competing effectively through convenient locations or special merchandising.

However, with e-commerce giant Amazon’s move to foray into the healthcare space along with other non-healthcare mammoths like Berkshire Hathaway Inc. and JPMorgan, the traditional retail pharmacy and drugstore industry is about to undergo a sea change. According to most market watchers, the entry of these heavyweights has the potential to change the face of traditional healthcare system in the United States.

Going by an article published in Wolters Kluwer, with this, the retail pharmacy industry has entered a new phase of fierce competition that is compelling pharmacies to further reduce their prescription profit margins.

This apart, a poor reimbursement environment has been forcing retail pharmacy companies to spend hugely on research and development, seeking for new sources of revenues. In the process of doing so, these companies are currently witnessing increasing pressure on the bottom line.

Below is a stock from this space that investors may hold on to for the time being.
 

CVS Health Corporation (CVS - Free Report) : Headquartered in Woonsocket, RI, CVS Health is a pharmacy innovation company with integrated pharmacy care offerings. The Zacks Consensus Estimate for 2019 EPS has moved up 0.4% in the past 30 days. CVS Health, with a Zacks Rank #3 (Hold) currently, has witnessed a negative return of 14.1% over the past three months. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

 

CVS Health Corporation Price and Consensus

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