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Life Health > Health Insurance > Health Insurance

A Walgreens-Amerisource Deal Would Play It Too Safe

By Max Nisen

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Walgreens Boots Alliance Inc. needs another deal.

That became clear after the FTC trimmed the drugstore giant’s planned acquisition of Rite Aid Corp. and especially after rival CVS Health Inc. announced the $67.5 billion purchase of health insurer Aetna Inc.

But faced with disruption in the health care sector from multiple angles, Walgreens seems to be playing it safe.

The Wall Street Journal reported Monday night that the company has approached AmeriSourceBergen Corp., a drug distributor in which Walgreens already has a major stake, about a possible takeover. Such a deal may score highly on near-term value and ease of integration. But it seems out of step with the bigger ambitions on display in the health care world.

CVS’s purchase of Aetna, for example, may pioneer a new model of health care, while boosting the profitability of both businesses.

(Related: CVS-Aetna Deal Could Start a Health Takeover Run)

In contrast, a Walgreens-Amerisource deal would keep the purchaser’s focus on supplying drugs, while pulling it into the low-margin business of distribution in the U.S.. In fact, Amerisource’s operating margins trail those of distributor rivals. That suggests Walgreens — a major source of Amerisource’s business — already gets a pretty nice deal on drugs from the partnership. Any extra savings from buying the company outright likely won’t be very big.

Pressure on drug prices — generic and branded — will continue to make U.S. drug distribution less profitable than it was in past years, when price inflation provided a reliable annual tailwind.

A Walgreens-Amerisource combo would be able to negotiate more effectively with both clients and drugmakers given its increased scale and broader capabilities. But almost no matter what, a narrow focus on the supply chain has limited upside relative to moving deeper into other areas of health care. Walgreens currently trades at a premium to rival CVS. That may not survive this deal in the long run.

Walgreens’s decision to go in a more-focused direction makes sense on some levels. It knows Amerisource well through its partnership. And it understands the drug-distribution business from running a large drug wholesaler outside of the U.S. Buying Amerisource would give it truly global scale.

Still, this deal, like Walgreens’s purchase of Rite Aid stores, represents a doubling-down on its current business model, which is under threat on several fronts.

The company plans aggressive investment in its stores to attract customers. But figuring out a retail model that can sustain growth in a difficult time for every brick-and-mortar business is a tall order, and adding AmerisourceBergen won’t address that.

Meanwhile, though Amazon.com Inc. is for now reportedly concentrating on a nebulous employee-focused partnership and hospital supplies, drug distribution is still a plausible future target for the e-commerce behemoth.

Walgreens CEO Stefano Pessina has previously argued that consolidation doesn’t have to take the form of full-on acquisition if you can partner successfully, which makes the idea of a deal a puzzler. Walgreens already has a large investment in Amerisource and reaps significant benefit from the current arrangement. What’s changed?

If the deal happens, then Pessina will have to make a convincing case against his past self that ownership is a better option by a factor of tens of billions of dollars — and that it is a better use of capital than a more-ambitious purchase.

Walgreens might have been better off striking such a deal back in November, when AmeriSource shares had fallen roughly a third from their 2015 highs over worries about drug-price deflation and the company’s role in the opioid crisis. Still, the recent stock-market downturn has made AmeriSource cheaper, and the fact that Walgreens owns 26% of its shares would further reduce the cost of a deal.

A deal for an insurer, PBM, or health care provider would likely be pricier and more difficult to execute. But if Walgreens cedes the rest of health care to more-aggressive rivals, then it risks pigeonholing itself into a limited and less-profitable niche.

— For more columns from Bloomberg View, visit http://www.bloomberg.com/view.

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