Novartis Cuts in Line at the Drugstore

If peace on earth suddenly breaks out this holiday season, it likely won't extend to the pharmacy-benefits management industry. Monday, Express Scripts (NASDAQ:ESRX) launched a bid to acquire larger rival Caremark (NYSE:CMX), in an attempt to break up Caremark's planned merger with drugstore chain CVS (NYSE:CVS).

Whatever the outcome of this three-party tug-of-war, one thing is clear -- consolidation is in the air in this industry. Investors can debate the merits of an Express Scripts-Caremark deal vs. a Caremark-CVS combination, but whichever merger takes place, the result will be a bigger, beefier company with more buying power in the drug market. Buying power means leverage, and that leverage will be applied to drug companies.

This is yet more evidence that drug manufacturers will face greater pricing pressure. One way or another, whether through lower prices or bigger rebates, drugmakers such as Pfizer (NYSE:PFE), Wyeth (NYSE:WYE) and GlaxoSmithKline (NYSE:GSK) will feel more of a crunch in their dealings with pharmacy benefits managers. Still, one company will likely be better-positioned than others when it sits down at the negotiating table: Swiss drugmaker Novartis (NYSE:NVS).

Back in February 2005, Novartis made a huge move by buying two large generic manufacturers, Eon Labs and Hexal. Novartis' generic assets could give it room to maneuver when pharmacy benefits managers begin to ratchet up the pressure. How would this work? Well, when asked to lower a price for a particular branded medicine, Novartis could counter by proposing a volume discount.

In other words, Novartis can offer lower prices across the board for its branded medicines and generics, but only if pharmacy benefits managers give preferential status to lots of Novartis' medications in their formularies and purchase generics from Novartis. Buying from Novartis would also make things simpler for pharmacy benefits managers, by cutting down on the number of generic and branded drug companies with which they must bargain.

Of course, investors can't expect Novartis' medicines to dominate drug formularies -- managers will have to cover medicines proven to be most effective for each condition, and Novartis can't claim that it has the best treatment in every category. Even so, Novartis' portfolio of branded and generic drugs gives it an important edge as pressure on big pharma grows.

For related Takes:

• CVS-Caremark Not So Hard to Swallow
• Medco's Fringe Benefits
• PBMs at a Crossroads
• Novartis Embraces Generics

Pfizer is an Inside Value recommendation, and GlaxoSmithKline is an Income Investor pick.Let the Fool help you boost your prospects for the new year.

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Fool contributor Brian Gorman does not own shares in any of the companies mentioned.