In a move that underscores this point, offline pharmacy giant CVS yesterday signed on with Merck-Medco, the No. 1 pharmacy benefit manager (PBM), to give its online site, CVS.com, access to Merck-Medco's 51 million members. In return, Merck-Medco members will now be able to use their health insurance to pay for prescriptions ordered through CVS.com.
The deal follows similar partnerships by competitors PlanetRx and Drugstore.com. In August, Benchmark Capital-backed PlanetRx signed a 5-year deal with Express Scripts, the nation's No. 3 PBM. And in June, Amazon.com-allied Drugstore.com signed a 10-year deal with PCS, the No. 2 PBM, and its parent company Rite Aid.
Such arrangements are crucial because online pharmacies are finding that their consumers wouldn't shop online unless they could use their health insurance to pay for prescriptions, analysts say.
"The online pharmacies went ahead full steam and ran straight into a wall," Forrester Research analyst Evie Black Dykema said. "That wall's name was insurance."
Essentially, PBMs act as middlemen between health insurers and pharmacies by determining which prescriptions a health insurer will cover. Many PBMs have refused to cover prescriptions bought online because they consider the online drugstores to be a threat to their own mail-order pharmacies.
"The deciding factor in the success of online pharmacies is whether they can ally with the PBMs," Dykema said. "The CVS-Merck-Medco deal is a step in the right direction."
While important for the businesses, the deals limit the online pharmacies that consumers can use. PCS's more than 50 million members, for example, can only use their health insurance to buy prescriptions at Drugstore.com. And the 36 million members of Express Scripts can only use their insurance to pay for prescriptions at PlanetRx.
"Right now, one of the drawbacks of this deal is that it dictates to consumers which pharmacy they have to use," said Gomez Advisors senior analyst Martin DeBono. "It would be ideal for consumers to choose their Internet pharmacy in the same way that they choose their local pharmacy."
That choice may be coming soon. Retail giants Walgreens and Wal-Mart are expected to come online in the near future, which many industry observers believe will force more agreements between PBMs and online pharmacies.
Drugstore.com chief executive Peter Neupert said he doubts that Merck-Medco would tell Walgreens, the nation's pharmacy sales leader, that its customers couldn't use their insurance at Walgreens online store.
"That doesn't make any sense," Neupert said, adding that Drugstore.com should soon have similar access to Merck-Medco members once its integration with Rite Aid is complete.
But for now, CVS's alliance with Merck-Medco appears to put the offline giant in the driver's seat online, said Jupiter Communications health analyst David Restrepo.
"This has the potential of making CVS the leader," he said, adding that the lead would be tenuous.
Indeed, PlanetRx could get a boost from its public offering earlier this week. The company raised some $96 million in its IPO, pricing its stock at $16 a share.
Additionally, competition from retail giants Wal-Mart and Walgreens is looming.
In a conference call with investors Wednesday, leading retailer Wal-Mart announced that it plans to focus on the online pharmacy market after it relaunches its Web site early next year. And Walgreens, plans to launch its new Web site later this month, for the first time allowing its customers to order online and have their drugs delivered to their homes.
A Walgreens representative said the company will be offering a "superior site" that would match up well with the other players.
"The winner in this area isn't going to be determined in just a year," said Walgreens spokesman Michael Polzin. "It's a long-term competition."