Medco Containment Services Inc.

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Medco Containment Services Inc.

100 Summit Avenue
Montvale, New Jersey 07645
U.S.A.
(201) 358-5400
Fax: (201) 358-5783

Public Company
Incorporated: 1983
Employees: 9,400
Sales: $2.6 billion
SICs: 5122 Drugs, Proprietaries and Sundries; 5961 Mail Order Houses

Medco Containment Services Inc. controls more than 50 percent of one of the fastest growing segments of the health-care industry, the funded mail-order prescription drug trade in the United States. Within ten years of its founding in 1983, it was serving 36 million workers from more than 3,100 client companies. In addition, it was dispensing more than 600,000 prescriptions weekly from its eleven regional distribution centers. Health care and financial experts anticipated that health care reform policies would further enhance Medco’s business.

Martin Wygod spent his first 20 years after college in small-scale investment banking and acquisitions, in addition to owning a controlling interest in Porex Technologies Corp. In 1983, with $10 million from the sale of one of his investments, he went shopping for a new challenge. Wygod formed Medco as a holding company so he could buy National Pharmacies for $30 million in cash and Porex stocks. National Pharmacies, owned by APL Corporation, was a vitamin distributor and a small mail-order prescription drug business. It had yearly revenues of about $25 million and profits of about $400,000. Wygod eliminated the vitamin business and built up the mail-order drug business.

Although the Veterans Administration and other nonprofit groups had handled long-term prescriptions by mail for almost 40 years, in 1984 mail-order drugs accounted for only two percent of the prescriptions filled in the United States. But Wygod’s timing was perfect. Large corporations were looking for ways to save money on employee drug costs, and mail order was a convenient way to save on long-term prescriptions for the chronically ill patient. Wygod aggressively sought new clients for his mail-order company and quickly signed up corporate-funded drug benefit plans offered by Alcoa, General Motors, Georgia-Pacific, and Commonwealth Edison Co. By 1992, Medco had more than 1,300 company accounts. Medco grew from 200 employees serving fewer than four million people in 1985 to 6,000 employees serving close to 30 million people in 1993. Within ten years, Medco controlled 50 percent of the prescription mail business nationally, and its revenues were consistently growing by an average of 47 percent a year.

Although Medco was not the first mail-order prescription company, it was the first company that aggressively sold its services to large corporations, labor unions, and health plans. When Wygod bought National Pharmacies, the cost of employee drugs as an employment benefit was rising 15 percent to 20 percent a year, and only five percent of employees were covered by drug plans. By 1991, more than 40 percent were covered.

In 1984, Wygod sought underwriting by Drexel Burnham and sold 20 percent of the company in a public offering. That same year, the company’s name was changed to Medco Containment Services Inc. In 1985, Wygod acquired Paid Prescriptions from Computer Sciences Corp. This small company provided plan subscribers with a prescription-drug card that allowed them to purchase drugs at 40,000 drugstores, who then billed the plan sponsors. This acquisition allowed Medco to offer plan participants the ability to fill prescriptions for acute illness at a discount at participating drugstores. While mail-order prescriptions of preferred drugs cost a minimal co-payment of $2, participants could also purchase drugs at a local store for a higher co-payment. This computer network also allowed Medco to gather information on consumer prescription drug spending and sell that information to the nation’s largest health plan sponsors.

Walgreen Co. had dominated the mail-order prescription business when Wygod bought National Pharmacies. But Wygod anticipated that Walgreen would not expand that operation because if it did it would be competing against its own local drugstores. Wy god’s Medco surged ahead of Walgreen in mailorder operations. It has since taken market share from mailorder drug companies owned by Baxter International and J.C. Penney, as well as retail drugstore chains such as Walgreen and Rite-Aid. Independent retail pharmacists and state pharmacy boards have lobbied to restrict mail-order sales and have even brought legal suits protesting the sending of drugs across state lines, but they have had no success in stopping Medco or other mail-order prescription services.

Medco specialized in maintenance drugs for high blood pressure, arthritis, diabetes, and other chronic diseases. Patients still shopped at local pharmacies for antibiotics and other prescriptions needed for acute illnesses, but chronic ailments which called for regular drug therapy were increasingly being serviced by Medco and smaller mail-order companies. Medco claimed to save at least 20 percent on most prescriptions because it encouraged the use of generic drugs and it could negotiate healthy discounts from manufacturers. In the early 1990s, providing prescription drug coverage cost employers in a Medco-run plan about $167 per employee versus $266 per employee in unman-aged plans.

In late 1990, Medco introduced a controversial program called Prescriber’s Choice: for a deep discount from a drug company, Medco would promote that company’s drug as the top choice in its category. The Prescriber’s Choice program covered many chronic conditions such as hypertension and ulcers, for which there were drugs priced at various levels. When the company believed a physician had ordered a more expensive drug than necessary, a pharmacist reviewed the patient’s questionnaire that revealed his/her ailments and other medications. Then the pharmacist contacted the physician and told her about another equally effective but less costly alternative. The physician was free to change the prescription to the less expensive treatment or chose the drug they had originally prescribed. However, statistics showed that more than 40 percent of physicians agreed to rewrite their prescriptions. According to the Wall Street Journal, Medco was switching—with doctors’ permission—50,000 prescriptions monthly in eight major drug categories. Once Medco had called doctors’ attention to the cheaper drug, they often started prescribing that drug for other patients as well.

Ulcers was one of the first categories that Medco addressed with its Prescriber’s Choice program. This was an excellent category to choose since patients were repeat customers for refills, sales of ulcer medication were vast, and there were only four similar drugs doctors generally prescribed. Medco negotiated with the makers of the four drugs, Glaxo, SmithKline Beecham, Merck, and Eli Lilly & Co. In the summer of 1991, SmithKline Beecham’s Tagamet became Medco’s number one choice for ulcer prescriptions. Patients could get any of the other medications, but Tagamet was the most cost-effective because of the volume discount Medco won in exchange for listing that drug as its top choice. Medco accounted for ten percent of the ulcer medication’s $3-billion-a-year market. Health plans paid a lower cost for Tagemet and patients paid a lower co-payment for Tagamet than they would for the other medications.

Medco also established a formulary for 18 other categories of medication. Under this plan, Medco listed a small number of medications in each category; Medco would reimburse most of patients’ costs if they were using drugs from the Medco listing. Patients, however, had to pay a higher amount for drugs not listed in the formulary. In a formulary Medco established in Massachusetts, the co-payment was $8 for a generic drug, $15 for a brand in the formulary, and $30 for a brand outside the formulary. Medco often ended up recommending older drugs with small market share because the smaller companies tended to cut prices in order to increase their market share.

Although many doctors, retail pharmacists, and drug companies complained about formularies and Medco’s Prescriber’s Choice, it seemed to be the direction prescription drug distribution would take as managed care gained momentum in the United States. According to Wygod, the Prescriber’s Choice program offered cost containment and choice while other formularies offered no choice. In formularies, patients may be reimbursed for only one or two of the drugs prescribed for a particular ailment and all other drugs are excluded. Some experts predicted, however, that by the year 2000, prescription purchases would be decided by committees rather than by individual prescribing physicians. These large buying groups would reduce drug costs since buyers would have volume-purchasing power. Formularies were seen as a means of controlling prescription drug costs by changing physicians’ prescribing habits. Formularies listed nonformulary drugs and the recommended cheaper alternatives.

Physicians, pharmacists, and some drug companies pointed out that prescription choices should be made on a therapeutic basis rather than a cost basis, but Medco and other health plans and organizations seemed determined to keep the formularies. Drug companies, especially when their products were not adopted on formularies, argued that cost comparison should not be the only criteria on which to base a choice. They argued that the physician and the health agency needed to look at the overall picture and that some drugs could prevent the need for surgery. They also pointed out that although some drugs might have a higher per-dose cost, the total course of therapy might cost less because fewer doses were needed.

Retail pharmacists complained that they could not get the same price breaks that giant Medco won from manufacturers. Some physicians complained that Medco and other formularies were taking control away from the physician. And some drug companies complained that Medco exercised too much control over the drug market because it had the power to promote one drug over another to the tens of millions of patients it served. Because Medco controlled such a large share of the prescription market, Medco’s deals could heavily influence sales of many drug categories and shift the balance from one drug to another. Many drug makers were unhappy about this, but they could not afford to alienate Medco. By 1993, all but a handful of major U.S. pharmaceutical firms had signed on with Medco.

Medco chairman Martin Wygod was one of the five highest-paid CEOs in the United States in 1992, earning a $33-million pay package, much of it in stock options. Wygod told the Wall Street Journal that he deserved that immense compensation for making the company “the Wal-Mart of pills.” Medco was able to offer medications for 25 percent less than retail pharmacies because of volume discounts and automation that helped each pharmacist or technician process 70 prescriptions an hour, even with each order reviewed for accuracy by two pharmacists.

In 1992, former Citibank President Richard Braddock became CEO of Medco—later resigning in September of 1993—while Wygod retained his position as chairman of the company. The top jobs were split so that Wygod could concentrate on acquisitions and dealings with drug companies while Braddock focussed on operations. Wygod said that Braddock’s skills were important for helping the company through a “major growth stage.” Braddock also noted that health-care reform could benefit Medco and other companies that stress cost containment.

Medco’s growth has been steady and dramatic since its inception in 1984. For five years in a row, Medco’s revenues increased an average of 47 percent annually, and its earnings gained an average of 45 percent a year. In 1991, Medco’s revenue increased only 35 percent, to $1.81 billion, but its net income leaped 75 percent, to $102 million. In 1992, revenue was above $2 billion. By 1993, more than 100 of the Fortune 500 companies had signed on with Medco.

In 1991, Comnet Corporation, a producer of direct-marketing and health-care software, sold Medco enough stocks to give Medco a 23 percent share. Wygod also became chairman of Comnet as well as Medco. That same year, Medco launched Medical Marketing Group Inc. to collect data from drugstores and physicians on prescribing patterns and sell the data to drug companies for their promotional or marketing needs. Medical Marketing gathered the information chiefly from IMS America Ltd., a Dun & Bradstreet division that collects data from pharmacies. The balance of Medical Marketing’s data came from Medco and the mail-order prescription service of the American Association of Retired Persons (AARP).

In 1991, Medco completed a deal to acquire American Biodyne Inc., a provider of managed mental health services. Medco paid $121 million in Medco common stock. Medco also acquired Personal Performance Consultants, which provided employee assistance programs. In 1991, Medco also established the Medco Foundation and the Rose Foundation to provide prescription drug aid for uninsured and impoverished people.

Health-care related companies were anxiously waiting as American politicians hammered out health-care reform measures in 1993. Medco, however, seemed to be in a good position to benefit from any managed-care program, a likely component of any reform measure. Companies such as Medco, which can provide drugs on a large scale and at a lower price than other outlets, were poised to take advantage of the health care reform legislation and employer and health plan efforts to contain costs.

According to Forbes, in 1990, about $10 billion in maintenance drugs were funded by drug benefit plans other than Medicaid, with only $2 billion provided through mail-order services. By 1995, maintenance drug costs would almost triple, according to Forbes, and the mail-order share would be about $7 billion. Some drug companies were predicting that by 1995, 60 to 65 percent of all outpatient drugs would by funded. With Medco’s 50 percent or higher mail-order market share, it was looking forward to healthy growth for the rest of the decade. Wygod told the Washington Post that his goal was to provide “each patient with the right medication at the right time for the right reason— at a price that is affordable to the plan sponsor.”