Moving cheaper pharmaceuticals is much more profitable

Big Pharma undoubtedly hates the thought of losing billions in sales as some of its biggest selling drugs losing patent protection in the next few years. But there��s one health industry colleague that��s licking its chops at the prospect of several of the biggest blockbusters going generic: pharmaceutical distributors.

The big three of drug wholesalers are McKesson (NYSE:MCK), Cardinal Health (NYSE:CAH) and AmerisourceBergen (NYSE:ABC), and all are expected to enjoy steep paydays as a result of the coming generic boon. That may come as a surprise to many investors, because brand-name drugs are much more expensive. But here��s the rub: generics are much more profitable for wholesalers. And that could mean huge dollars for the big
three because, during the next five years, more than $100 billion of branded-drug revenue will be lost to generic competition, according to one
industry consultant.

So is now a good time for investors to jump on the wholesaler bandwagon and capitalize on the coming generic surge?

Or are they already late to the party? After all, in the past two years, both AmerisourceBergen and McKesson have had nice runups, posting share gains of 140% and nearly 100%, respectively. Cardinal, meanwhile, rewarded shareholders with a 60% gain, the same as the Dow.

Still, the influence the big three wield shouldn��t be overlooked. In the battle for prized distribution deals, generic manufacturers must make substantial price concessions to the drug wholesalers if they want their products carried. Cardinal, for example, negotiates deals with generics manufacturers on behalf of its retail customers. That’s good for Cardinal because independent pharmacies provide higher margins, and it��s good for small pharmacies because Cardinal can pool its purchasing power and negotiate lower generic prices than the pharmacies could on their own.

It appears ther! e are st ill growth opportunities here for investors:

• San Francisco-based McKesson is the giant of the industry with a market cap of more than $21 billion and annual sales of more than $100 billion. The company said in May that it expects earnings to range between $5.55 and $5.75 a share for the year ending in March 2012. Analysts, however, think McKesson is lowballing and expect the number to be just over $6. If the analysts are right, the company��s stock is trading at a forward price-to-earnings of just 14 based on its current share price of $84.43. Wall Street expects McKesson��s EPS growth rate to average just under 11% during the next 5 years.
• AmerisourceBergen, trading near its 52-week high of $43.47 recently raised its guidance for 2011, saying profits should be between $2.41 and $2.49 a share. The company��s new CEO, Steve Collis, says the smallest of the big three will stay the course by focusing on specialty distribution and generics.
• Reflecting the importance of specialty distribution, Dublin, Ohio-based Cardinal bought P4 Healthcare last November for a half-billion dollars. The acquisition got the company back into the oncology and specialty pharma service game, according to CEO George Barrett. The company posted better-than-expected fiscal third-quarter results and raised its earnings guidance for the year. Investor confidence didn��t seem to be shaken by a prominent hedge fund��s move out of the stock in the second quarter.

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