Integrating with the Pharmacy
CVS and Walgreens pursue divergent strategies
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This week, Walgreens announced that they’d be closing the primary care clinics that they currently operate out of their retail pharmacy locations (WSJ Link). At the same time, they are keeping the clinics in their stores that are operated by third parties.
It’s a sign that they’re either moving away from primary care in their stores, or that they prefer a partnership model in which they don’t operate their own clinics. I believe it’s for the latter and am going to assume that for the sake of this article.
The benefits of the partnership model are pretty clear:
Building a primary care function from scratch is difficult, especially when your current business is retail pharmacy. The types of things that Walgreens has become good at to succeed in retail (supply chain networks, merchandising, real estate selection, and so on) do not translate well to primary care. In the care business, you need to hire good doctors and nurses, create systems for tracking health treatments and follow ups, create care workflows. They’re different different problems that someone else will have already solved.
Engaging with a partner enables Walgreens to present a better product to the customer, while they focus on the game that they’re already good at.
There are still benefits to their core business from partnering - primary care, especially effective primary care with a good patient experience, gives customers a reason to come to Walgreens, fill their prescriptions there, and so on. In fact, joining the two together makes things easier on the customer, since it eliminates an extra place that they need to visit. Getting patients to your store becomes especially important when online pharmacies become a common alternative.
CVS and the other path
Walgreens’ move stands out in part because their largest competitor, CVS, is doing the exact opposite: building and running their own primary care function out of their stores. Here’s a neat sketch of their approach:
As we work to make more affordable, high-quality health care more accessible, we are using our retail presence to develop a set of methods for population health management that build on the notion of helping people make better choices and getting them more engaged in their care. By providing a range of primary care services, and in-person, local interventions, we are helping people be healthier, leading to lower overall medical costs.
As part of this effort, we’re expanding the range of services at MinuteClinic, including the management of chronic conditions.
Let’s call this the vertically integrated strategy. It’s curious, because all of the benefits of going with a partnership model that we named above actually work against CVS in this case. They’re building a primary care function that isn’t part of their core operational competency. Why?
The Rest of the Stack
I think the answer has to do with the other acquisitions that CVS has made: first of all with Caremark, the PBM, and second of all with Aetna, the payor. The result is an emerging picture of an integrated chain of services, with CVS taking a position at every level:
Retail Pharmacy: CVS stores
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Primary Care: MinuteClinic at the CVS store
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Health insurance: Aetna, recently acquired by CVS
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Pharmacy Benefit Management: Caremark
The biggest pieces missing from the chain are the drug manufacturing itself, and the provision of specialty care (e.g. in hospitals). Both of those businesses are very difficult to enter at the national scale in which CVS operates.
Notably, Walgreens doesn’t own a PBM, nor do they own a payor. (They do have an interesting relationship with a PBM, but it’s not at the level of integration of CVS and Caremark)
Making the Connection
With this distinction, the different primary care strategies begin to come into focus.
CVS is pursuing the benefits of vertical integration.
Because they own Aetna, they benefit directly from providing cost-effective primary care, and making sure the primary care is good enough to prevent costly hospital visits. This is in contrast to an unintegrated relationship, in which a provider that lowered prices would see most of the benefit lost to the patient’s insurance company.
When CVS owns more steps in the value chain, a customer captured in one service is likely to be captured with other services as well. (A patient at the Minute Clinic will likely have a prescription filled at the CVS pharmacy counter).
The customer experience can be more tightly controlled and managed. If the processes are designed just right—easier said than done, to be sure—then doctors, pharmacists, and benefits managers are all can work together on holistic care for the patient. The patient’s experience is simple and smooth. That’s in contrast to patients today that commonly have to do the work of coordinating their own care. CVS has given themselves the opportunity to create an excellent patient experience, which has a lot of value.
To be clear, these benefits are hard to come by, there’s a lot of execution risk in transforming the Minute Clinic into a great primary care experience. But the upside is substantial, and it comes from the fact that CVS owns this whole stack of services.
Walgreens doesn’t own the stack, so the upside isn’t available to it. Neither are the risks. Again, their strategy allows them the luxury of focusing on what they do well.
So which strategy will win?
CVS’s vertical integration will be harder to pull off. If it does work, it has the potential to be much more transformative: this vertically integrated structure doesn’t really exist in any mature, scaled form yet. There is real potential to drive down costs and win share. Significant obstacles will still exist, namely procurement of expensive drugs from pharma companies (which evidently strong pricing power) and of specialty medical services in hospitals. With scale, though, CVS is in a position to negotiate strongly with these suppliers.
In addition, the Aetna purchase has somewhat weakened CVS’s balance sheet, which could limit their opportunity to pursue additional major investments in the near term. They’ve played their biggest financial cards.
And Walgreens’ focused strategy might simply allow it to win out in the retail pharmacy space. There’s still much to be said for executing well on a tried and true business model, and demand for retail prescription drugs isn’t going anywhere.
For patients, a vertical integrated model can represent some real hope for cheaper care, and cheaper insurance premiums. But there may be downsides as well - restrictions on doctors, pharmacies, hospitals, and so on within the Aetna-Caremark-CVS-MinuteClinic umbrella. Vertically integrated systems are often very tightly coupled, so the good must be taken with the bad, and interruptions in one processes reverberate and affect others.
We’ll be watching closely.