Shares of Shoppers Drug Mart Corp. fell roughly 14% in early trading on Thursday after the Ontario government published proposals to dramatically change how pharmacists are compensated. The stock declined $6.17 to $36.78 shortly after trading began as analysts downgraded the stock and trimmed their earnings forecasts.
Calling the adjustments to pharmacy reimbursement “draconian,” Desjardins Securities analyst Keith Howlett cut his rating on the stock to Sell from Hold and slashed his price target to $39 from $50.
After nine months of discussions, the province says it wants to reduce reimbursement rates for generic drugs from 50% to 25% of the branded drug cost. It also wants to phase in by 2014 the same generic drug costs for private third-party payers and the uninsured, as well as eliminate professional allowances that see generic manufacturers pay pharmacists for stocking their generic alternative.
“The proposals are punitive to pharmacies in Ontario,” Mr. Howlett told clients. “Longer-term, this will spur consolidation.”
He explained that the proposals would eliminate any financial benefit to Ontario pharmacies from the shift of prescriptions from branded to generic. In fact, remuneration for generics would be lower than for branded, which will result in the ongoing market share shift to generic drugs being a drag on earnings, rather than a driver of earnings as it has been in the past.
If the proposals are implemented, the analyst said Shoppers’ current and prospective earnings power will likely be reduced substantially. His preliminary assessment is that annual earnings per share could fall by 40¢ to 60¢.
Shoppers plans to provide further analysis and information on its first quarter conference call on April 28.
Mr. Howlett also said the tone of the government’s press release suggests negotiations with the industry have ended.
UBS analyst Vishal Shreedhar believes the company will respond with reduced pharmacy services and hours in Ontario. He said Shoppers should be able to manage the regulatory changes, but it will take time for investors to see the full impact of the drug reforms on its profit and loss statement.
The analyst’s largest concern is a potential ricochet effect as other provinces aim to mimic similar pricing terms as the Ontario government. He noted that Quebec and Newfoundland and Labrador have a most favoured nation provision which require that the price offered to the provincial drug plans be equal to the lowest provincial drug prices in Canada.
Mr. Shreedhar is surprised that the Ontario government aims to not allow private label generic drugs. He left his Buy rating and $49 price target unchanged.
Raymond James analyst Kenric Tyghe noted that the changes to the Ontario Drug Benefit Program were significantly more aggressive than widely expected. He cut his price target on Shoppers share to $45 from $50 and reduced his rating to Market Perform from Outperform. The analyst also revised his EPS estimates to $2.52 (from $2.94) in 2010 and to $2.84 (from $3.24) in 2011.
In light of upcoming patent expiration of some blockbuster drugs, which incentivizes provinces to reduce their expenditure on generic drugs, he said there is further opportunity for the federal government to intervene and require more consistent policies across Canada.
“What is particularly striking with regard to the changes is the disparity between the measured approach recently adopted under Alberta’s Conservative government and that of Ontario’s Liberal government,” Mr. Tyghe wrote in a note.
