Like a modern-day Paul Revere, drug distributors McKesson ($MCK) and Cardinal Health ($CAH) are sounding a warning for the industry: price hikes are slowing, price hikes are slowing. As a result, so are their earnings.
Whether this is a short-term reaction to public outrage or the beginning of a sustained trend is not clear. But McKesson CEO John H. Hammergren said “recent customer pricing activities” and “further moderating branded pharmaceutical pricing,” are taking a toll on the company’s earnings.
McKesson Friday reported earnings and net income that were off about 50%, then revised its earnings outlook downward for the year, leading investors to exit, pushing its share price down 20%.
“So what does all of this mean moving forward?” Hammergren asked rhetorically during a call with investors, according to a Seeking Alpha transcript. “It means we expect to receive less compensation from branded price increases than we originally anticipated in fiscal 2017. It means we will continue to monitor pricing activities throughout the year, especially in our fiscal fourth quarter, which is typically an important quarter for price increases. And it means we are engaging with our manufacturer partners to ensure we receive appropriate compensation, relative to the services and value we deliver, amidst a softer pricing environment.”
He explained that distributors payments for delivering drugs are based, in part, on a percentage of "revenue managed and delivered." That means the company expects softening prices to have a negative effect on the the company’s earnings per diluted share for the year of $1.60 to $1.90 compared to its earlier projections, meaning the prices are easing faster than expected.
Cardinal Health followed that dire news up today when it reported net earnings that were down 19% and diluted earnings per share that fell 17%. Cardinal CEO George Barrett explained that ”short-term headwinds, particularly around pharmaceuticals, are quite challenging … ”
Both companies have been saying for some quarters that pricing in the generic market has gotten soft and both said that trend continues to play out as they had indicated. Earlier in the year, McKesson eliminated 1,600 jobs, about 4% of its workforce, as competition in generic pricing had taken a toll on business.
But the trend in branded drugs this year was much greater than expected. Hammergren said so far this fiscal year drugmakers have taken fewer price increases and that those price increases are at lower rates. “Given our second quarter performance specific to branded price inflation, we now expect full-year branded pharmaceutical pricing trends to be meaningfully below those experienced in Fiscal 2016,” he said.
Public and political pushback on rising prices for both generic and branded drugs has been building for several years. It has gained momentum in the last 14 months as Congress has called out some CEOs over price jumps and ordered them to Washington to justify the hikes.
GlaxoSmithKline ($GSK) CEO Andrew Witty had warned this would happen when he explained his decision to focus the U.K. drugmaker on growing sales through volume in areas like consumer health.
Allergan ($AGN) CEO Brent Saunders reacted to the growing hue and cry over prices with a promise to cap drug price increases as part of a “social contract” with patients, explaining the move in a full-page ad in The New York Times.
McKesson’s Hammergren said that it is too early to speculate about what will happen long-term or whether a change in administration in the White House will lead to ongoing pricing practices. Still, he said, the big price hikes of the near past look to be history.
“And so I think that a common person's view would be that you'd still see inflation at some levels,” Hammergren told analysts “I think that the outer bounds of inflation that had been experienced in the past by our industry, that we've had conversations about in the past, are probably likely to not exist anymore.”
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