A Generic Prescription for Double-Digit Growth

Higher profits on lower revenue is usually not a recipe for success, but for pharmacy benefit manager MedcoHealth Solutions (NYSE: MHS), that could be just what the doctor ordered. The PBM was up more than 10% yesterday on a positive third-quarter earnings report and, more importantly, a very bullish outlook for 2012 and beyond.

You see, PBMs make their money by saving their clients -- health insurers and employers -- money. Selling generic drugs results in less revenue due to their lower cost, but they result in more profits.

In the third quarter, generics made up 71.6% of the prescriptions dispensed, up 3.9 percentage points from the year-ago quarter.

The coming wave of generic drugs that will hit the market should only drive that number higher. Medco is looking for EPS growth of 12% to 17% next year and characterized 2012 as having the largest contribution from new generic introductions in the company's history.

Of course, the bullish news also helped its competitors -- Express Scripts (Nasdaq: ESRX) and CVS Caremark (NYSE: CVS) -- shares rise as well. Medco doesn't have a monopoly on taking advantage of generic drug launches.

If PBM businesses really are so valuable, one has to wonder if more insurance companies that manage their own drug business in house might sell or spin them out to unleash the value for investors. Last year, WellPoint (NYSE: WLP) sold its PBM, NextRx, to Express Scripts, but UnitedHealth Group (NYSE: UNH), Aetna (NYSE: AET), and others still have internal PBMs. Grabbing additional business would be helpful for the current PBMs since purchasing power of the drugs contributes to the bottom line.

But we're getting a little ahead of ourselves. For now investors should just enjoy the idea the Medco and its peers look like they have substantial growth left in them.

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