Revenue Slows Down and Expenses Increase at PharMEDium — Will They Be Able to Maintain Market Share?

by Steven Rhodes

Yesterday, a story hit the newswire via Nasdaq.com, originally published by investment blog Zacks.com and was quickly rebutted by an agressive digital marketing campaign from PharMEDium corporate office. The original story from Zacks.com outlined how the $2.58B price AmerisourceBergen (ABC) paid for PharMEDium in combination with the recent increase in competition, slowed growth, and added testing expense had affected AmerisourceBergen’s stock price. AmerisourceBergen / PharMEDium quickly fired back today with a few simple and succinct bullet points touted the added benefits of their new testing procedures.

As of the time I am writing this, it appears the institutional investors have used the pull-back as an opportunity to increase their positions, so the ABC stock price is back up today. However, the story line I’d like to explore here is not the ABC stock price, but rather how the $2.58B price tag ABC paid for PharMEDium in 2015 has been the catalyst for an increase in firms that compete with PharMEDium, and whether or not that price tag will be directly responsible for the end of a dynasty.

How Did We Get Here?

After the tragic incident at New England Compounding Center sent the industry into a tailspin and shed a much needed light onto the dingy, dark corners of an industry that had operated in a legal gray area for decades, the market for suppliers of compounded pharmaceutical preparations was almost completely dismantled. After the shakeout from the NECC tragedy and new (but fuzzy)regulatory requirements, there was essentially only one national provider of outsourced sterile compounded drugs in America and that company was PharMEDium. They enjoyed single source, or defacto single source contracts with major GPO’s and health systems for several years. I would estimate at one time they controlled at least 90% of the market. And of course they were generating a lot of revenue at great margins, which was attractive to a cash rich ABC who is always looking to diversify its core business of low margin pharmaceutical distribution with related but diversified healthcare and pharmaceutical business acquisitions. It was, from all outside appearances, a great deal for everyone involved, and still is — though i would be willing to bet ABC wished no one ever saw that $2.58B price tag!

Show Me The Money!

Headlines with a “B” in them aren’t just great for the owners putting millions in the bank, they also provide a boost to the related companies, startups, and potential competitors in the same business sector. The price ABC paid to acquire PharMEDium provided insight into what was previously a quiet corner of the $400B+ US pharmaceutical market. PharMEDium was a private company that had steadily grown their business in the hospital market and built out manufacturing and sales infrastructure all over the country. You’ll find PharMEDium products in the majority of the hospitals across the US. They are the largest but certainly not the only compounder targeting the hospital market. Nevertheless, private equity finally did make their play, but they’ve done so strategically and mitigated risk where possible, the outstanding regulatory uncertainty still casting a long shadow on the future of the industry.

Is This Even Legal?

The money didn’t pour in as quickly as expected, mostly due to the ambiguous nature of the 2013 DQSA Regulations that outlined new guidelines for outsourced compounders servicing the US market.

The fastest growing firms seemed to be those that were willing and able to produce finished OR syringes by starting with API, similar to how a traditional, FDA approved pharmaceutical manufacturer would manufacture a drug product. PharMEDium, and other “sterile-to-sterile” compounders, only compounds their products by starting with existing commercially available “bulk” product, e.g. a vial they break down into unit dose syringes.

This is the same bulk product available in the marketplace to hospitals, produced in FDA approved pharmaceutical manufacturing facilities. PharMEDium stance is that in wake of the tragedy at NECC and the ambiguous nature of the FDA regulations afforded by the DQSA, they would continue to utilize “sterile-to-sterile” compounding methods exclusively.

The problem for PharMEDium is that the compounders starting with API, as opposed to a commercially available bulk product, are able to sell their product at a much lower price — sometimes as much as 1/10th the price of PharMEDium’s product. However, there is a bottle neck in the market and demand far outweighed supply for the API produced products — The firms needing outside investment were not able to secure the funding needed to fuel their growth due to the uncertainty of the regulatory environment. The firms that have cash on hand are uncertain if they should make substantial capital investments for the same reasons.

The market is far from equilibrium. There is still pent up demand for cheap, API produced products by hospital pharmacies that have had their budgets destroyed by the year-over-year price increases arbitrarily imposed on them by pharmaceutical companies and spurred by regulatory ambiguity and hurdles preventing new market entrants.

What Now?

The new compounding regulations didn’t just affect compounders and manufacturers; they also impose new, more stringent regulations on compounding that happens inside the four walls of a hospital pharmacy. The increased regulatory costs for “in-house” compounding has contributed to more demand for “outsourced” compounding services provided by PharMEDium and their competitors. Lack of a consistent, quality supply of OR syringes compounded directly from API has concentrated the majority of this demand in the “sterile-to-sterile” space, of which there are still few suppliers who are on track to compete with PharMEDium at the scope and scale at which they are able to supply. To compound the problem further, PharMEDium and other compounders are implementing additional testing protocols and procedures which have caused shipping delays and further strained the market.

PharMEDium will maintain a strangle hold on current market share for the foreseeable future, although they will have their work cut out for them as competition continues to increase and regulatory requirements become more clear. We will see this market mature with prices and supply stabilizing over the next couple of years.

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