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PBM Stocks Have Much to Fear from Buffett, JPMorgan, Amazon Venture

Larry Ramer

Amazon.com, Inc. (NASDAQ:AMZN) Warren Buffett’s Berkshire Hathaway Inc. (NYSE:BRK.A), and JPMorgan Chase & Co. (NYSE:JPM) recently launched a venture designed to lower America’s sky-high healthcare costs.The companies that are most at risk from this new venture are the pharmaceutical benefit managers, or PBMs.

Consequently, longer-term investors should sell shares of companies that earn large percentages of their revenue from PBMs, including Express Scripts Holding Co (NADSAQ:ESRX) stock, CVS Health Corp (NYSE:CVS) stock and Walgreens Boots Alliance Inc (NASDAQ:WBA) stock.

Cutting Waste and Fraud

Undoubtedly, there is a tremendous amount of waste and fraud in the American healthcare system. Many doctors and hospitals commit Medicare fraud and many more charge very high prices to insurers. For their part, insurers make tremendous profits for essentially being little more than paper pushers,  while drug makers sometimes charge inflated prices for their treatments.

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But the new venture is not going to audit hospitals and doctors for fraud, and it certainly isn’t going to start making drugs. With well under 1 million employees in a country of over 300 million, it doesn’t have power to force any of these entities to push down prices by large amounts. And although it could eventually form its own health insurance company, that’s actually a fairly daunting task (think of all the different types of doctors in all parts of this huge country that the entity would have to sign up and negotiate with) that, at a minimum, would take at least a few years.

Low-Hanging Fruit

But PBMs are relatively low-hanging, yet expensive, fruit that the new company could cut out pretty quickly, severely damaging PBM stocks. What do ESRX and the PBMs of CVS and WBA actually do?

They are one of a few main middlemen in the prescription drug market (the others, of course, are the health insurers and pharmacies). Essentially, the PBMs  buy drugs from drug makers and sell them to pharmacies  or mail them to consumers. They make money by charging the pharmacies, employers and insuerers fees, and by pushing drug makers to sell their products at discounts and  then getting pharmacies to pay them the list prices, i.e. the non-discounted prices, for the drugs.

Unlike drug companies, PBM stocks like ESRX, CVS and WBA don’t spend tremendous amounts of money on R&D and don’t take tremendous risks that have to be rewarded. Unlike doctors and hospitals, they aren’t really essential and indispensable to the country. Like health insurers, they are primarily paper pushers and price negotiators. But unlike health insurers, they don’t have to push tremendous amounts of paper (there aren’t really too many large drug makers and pharmacy chains) and they don’t have to negotiate millions of prices. Unlike pharmacies, they don’t have to physically build and operate stores.

And yet, it appears that they are really raking in the money. PBMs generate almost $300 billion in annual revenue and, although they seem to take pains to lower their profit margins, it’s worth noting that the trailing twelve month gross profit of PBM stock Express Scripts stands at $8.62 billion,while its net income to common shareholders over the last year came in at $3.62 billion.

Bottom Line on PBM Stocks

The venture being launched by Buffett, JPMorgan and Amazon will not be able to easily route out waste and fraud. And it will undoubtedly have a hard time launching a health insurance network or building retail stores.

Amazon’s entrance into the sector will hurt the drug retailers, but plenty of people, especially senior citizens, who take the most drugs, will still want to visit pharmacies to fill their prescriptions.

Still, it’s hard to see how the new company, using the funds  and negotiation prowess of JPMorgan and Buffett and the logistical expertise and breadth of Amazon, won’t quickly knock the PBMs out of business — which is very bad news for PBM stocks.

As of this writing, Larry Ramer did not own any of the stocks mentioned. 

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