Walgreen, Express Scripts In Drug Benefit Spat

--Walgreen and Express Scripts prepared to live without the other

--Walgreen won't rule out reaching deal with Express Scripts eventually

--Walgreen has "much more to lose" than Express Scripts, analyst says

--Walgreen reports 30% third-quarter earnings increase on 6.8% sales gain

     By Maxwell Murphy and Jon Kamp     Of DOW JONES NEWSWIRES   

NEW YORK (Dow Jones)--Drugstore giant Walgreen Co. (WAG) and pharmacy-benefit heavyweight Express Scripts Inc. (ESRX) said Tuesday that contract-renewal talks have broken down in their multibillion-dollar relationship, potentially sending millions of Americans elsewhere to fill their prescriptions.

Provided talks aren't resuscitated, the companies plan to sever ties starting Jan. 1. Walgreen said dropping out of Express Scripts' pharmacy provider network could cost it about $5.3 billion in annual sales, or nearly 8% of its total. Express Scripts is unlikely to feel any immediate pain because its customer contracts are mostly locked in; however, not having a relationship with the nation's largest drugstore could weaken its ability to negotiate future agreements.

The stalemate comes as health-care companies prepare their businesses for the further integration of the U.S. health-care overhaul law passed last year. The law, in part, sought to contain rising medical costs but has contributed to rising tensions in the health industry as companies work to adjust to the new regulations.

The dispute also is the latest one between a drugstore and pharmacy benefit manager, two groups that are increasingly becoming rivals. PBMs handle prescription-drug benefits and claims for employers and health-insurer clients; in the past, they have worked with drugstores to secure deals for their members. Now, though, PBMs increasingly are operating their own mail-order pharmacies that compete more directly with drugstores.

Walgreen, which also reported a 30% increase in third-quarter earnings Tuesday, said the long-term fallout from accepting unfavorable terms with Express Scripts would be worse than any short-term earnings impact, which the company didn't spell out.

The drugstore chain cited terms that it said made it difficult to plan business operations. These included Express Scripts insisting it can "unilaterally define contract terms," such as what does and doesn't constitute a generic drug, and the PBM rejecting Walgreen's request for advance notice before changes to prescription drug plans, Walgreen said.

The Deerfield, Ill., company "no longer felt like a valued partner" of Express Scripts and made a "very clear, principled decision" about ending negotiations, Walgreen Chief Executive Greg Wasson told analysts on the company's conference call.

Express Scripts, meanwhile, said it's prepared for a network without Walgreen. The St. Louis company noted that its network includes more than 60,000 pharmacies and said it sees "minimal impact to member convenience."

"We would prefer that Walgreens participate in our network, but only if its costs are in line with other participating pharmacies," Express Scripts spokesman David Whitrap said in an emailed statement. The company processes about 90 million prescriptions that are expected to be filled by Walgreen in fiscal 2011.

Walgreen's Wasson left open the possibility the two parties could eventually reach a deal, and history suggests that could happen. Walgreen got into a public spat over reimbursement rates and other issues a year ago with CVS Caremark Corp. (CVS), a rival drug-store operator that also has a pharmacy benefit business. Although the relationship appeared in jeopardy, the companies reached a new agreement for undisclosed terms that kept Walgreen pharmacies in the CVS Caremark pharmacy benefit network.

Any disruption is seen affecting Walgreen more. "Walgreen has much more to lose on a relative basis than Express Scripts does," said Constantine Davides, analyst at JMP Securities. Express Scripts has less immediately at stake, analysts say, because its customers can fill their prescriptions elsewhere.

The different concerns were reflected in how the stocks were reacting Tuesday. Walgreen shares slid 5.3% to $42.79, while Express Scripts shares declined 22 cents to $55.01.

Meanwhile, shares of CVS--which is the second-largest drug store chain after Walgreen and operator of the Caremark PBM business--recently rose 1.4% to $38. Shares of another PBM, Medco Health Solutions Inc. (MHS), added 1.4% to $56.07.

For the third quarter ended May 31, Walgreen reported a profit of $603 million, or 65 cents a share, up from $463 million, or 47 cents a share, a year earlier. The latest quarter included a penny in restructuring-related charges, and analysts polled by Thomson Reuters had forecast per-share earnings of 63 cents in the recent quarter.

Sales improved by 6.8% to $18.37 billion, with same-store sales rising by 4.1%, including 3.9% growth in the front of the store and a 4.1% increase in the pharmacy.

Wasson said the company continues to face economic and regulatory uncertainty, and both commercial and governmental reimbursement pressure. Plus, there are inflationary pressures, but Wasson said Walgreen is closely monitoring its competition to try to get the best margin without losing customer traffic.

-By Maxwell Murphy and Jon Kamp, Dow Jones Newswires; 212-416-2171; maxwell.murphy@dowjones.com

--Tess Stynes contributed to this article.