One word sums up 2012 for pharmacy benefits manager Express Scripts (NASDAQ:ESRX). That word is "big." The company completed the biggest acquisition in its history by buying Medco Health Solutions. Express Scripts also now stands as the biggest PBM in the U.S. as a result of the transaction.
The opportunities lying ahead of Express Scripts fit right in with the operative word for the past year. Here are the key potential areas for the company's continued success.
The acquisition of Medco gives Express Scripts a total market share of more than 40% and a 29% share of retail pharmacy prescriptions. The combined company also ranks highly in a category that might surprise some. Express Scripts is now the nation's third-largest pharmacy based on combined 2011 prescription drug revenue with Medco.
How can a PBM like Express Scripts make the list of top pharmacies when it has no retail locations? The company's mail-order business is huge.
Express Scripts' large scale yields several competitive advantages that present opportunities. The company's size allows it to negotiate for better deals with drug manufacturers, especially where multiple brand-name drugs compete in the same market. Express Scripts can use its purchasing power to obtain volume discounts for generic drugs. And it is able to achieve significant economies of scale for administrative tasks and claims processing.
Size also helps with obtaining favorable agreements with pharmacy chains in the PBM's network. Walgreen (NASDAQ:WBA) terminated its agreement with Express Scripts at the end of 2011. However, the move caused major issues for the company. As a result, Walgreen entered into a new multi-year agreement with Express Scripts in July 2012. With the Medco acquisition complete, Express Scripts should be able to exert even more leverage in its dealings with the major chains.
Prescription drug spending continues to rise in the U.S. The Centers for Medicare and Medicaid Services projects that annual expenditures for prescription drugs could increase by 86% from 2011 to 2020.
Demand for the services offered by PBMs should increase as these costs rise. This could especially be true if the number of insured individuals grows as predicted by proponents of the Affordable Care Act. An estimated 33 million Americans could gain insurance over the next decade if the legislation achieves its goals.
Express Scripts should particularly benefit if its largest customer is successful in enrolling many of these newly insured individuals. WellPoint (NYSE:ANTM) accounted for nearly 30% of Express Scripts' revenue in 2011, although this percentage of revenue is lower with the addition of Medco revenue. As WellPoint gains new members for its health plans featuring drug coverage, Express Scripts makes more revenue.
The leading PBM already sees the potential for more profits as a result of its largest customer's growth. WellPoint plans to acquire Amerigroup (UNKNOWN:AGP.DL2) and announced that it will move Amerigroup's prescriptions over to Express Scripts in the 2014-2015 period .
Three key ways stand out for Express Scripts to control costs for its customers -- and therefore increase its own earnings. These three things stem from the company's analysis of pharmacy-related waste.
The company estimates that more than $317 billion is wasted yearly by patients not taking medications as prescribed. To combat this waste, Express Scripts has developed evidence-based adherence programs. These programs involve screening patients who are more likely to not adhere to their prescriptions and delivering tailored interventions to improve adherence.
Express Scripts uses the term "channel waste" to describe lost money from patients obtaining drugs from sub-optimal sources. For example, maintenance-medications can be obtained more inexpensively through mail-order pharmacies than through retail pharmacies. Look for Express Scripts to drive costs down by moving patients taking maintenance-medications to its large mail-order pharmacy system.
The third type of waste that the PBM sees is mix waste, accounting for nearly $50 billion annually. The chief type of mix waste occurs when patients take higher-cost drug that provides no clear health benefit compared to a lower-cost drug .
Express Scripts has already seen positive results from moving patients to generic drugs. The company's generic drug fill rate increased to 77.4% in the second quarter of 2012 compared with the prior year.
Express Scripts is more likely than not to make the most of these opportunities. With a forward P/E of 14, the stock appears to be attractively valued considered the company's growth potential. This big PBM could be a big deal for investors looking for health care exposure.
Fool contributor Keith Speights has no positions in the stocks mentioned above. The Motley Fool owns shares of Express Scripts and WellPoint. Motley Fool newsletter services recommend Express Scripts and WellPoint. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.