In a previous post, Customer Concentration Can Be a Deal Breaker, we discuss the reasons why customer concentration is one of the top issues that can derail the potential sale of a company. While customer (patient) concentration is not necessarily applicable, there are several types of revenue concentration that specifically impact a specialty pharmacy in a sales or recapitalization process.
- Drug Concentration
Easily the most common and perhaps the most problematic type of revenue concentration is drug concentration. As specialty pharmacies begin to deepen their relationships with certain drug manufacturers, they are often able to negotiate more favorable pricing and payment terms, become a part of exclusive programs, and gain access to limited distribution drugs. When this happens, it is natural for one or a few drugs to become the pharmacy’s top revenue and profitability drivers (particularly if that pharmacy is focused on a specific disease state – i.e, Hepatitis C). Once a certain drug exceeds roughly 10% of revenue, however, it becomes problematic in the eyes of a buyer or investorWhen a large portion of revenue is generated from a specific drug, it opens the pharmacy up to risk in several ways. First, what happens when the patent or exclusivity expires on the drug? If there are generic alternatives available, it is likely that payers will shift patients toward the cheaper options. Second, what if the drug manufacturer decides to make the drug available to a limited network of providers and you are not selected to participate? Your volume of this drug will disappear rapidly. Third, what if the costs of the drug go up, and your margin is squeezed? How would that impact your bottom line?You can see where I am headed with this – when a certain drug accounts for a significant portion of your business, there are many things that could go wrong and cause your revenue, profit, and growth rates to decline.
- Payer Concentration
Similar to relationships with drug manufacturers, gaining contracts with certain major payers can lead to strong revenue growth by increasing the number of patients you are able to serve.If a significant portion of your patients (greater than 20%) utilize a certain payer, your pharmacy could lose a lot of business if that payer (for whatever reason) chose to cut you out of their network. While you may eventually be able to regain a contract with that payer, your patients will have likely started doing business elsewhere.
- Referral Source Concentration
While probably less common than drug or payer concentration, revenue concentration from one or a handful of referral sources can also be a source of risk. These physicians are likely being called on by your competitors regularly, and even if you provide excellent service, there is nothing stopping these physicians from sending their patients elsewhere. Further, if one of these referral sources stops taking new patients, retires or takes a job in another state, there is no guarantee their replacement (if there is one) will continue to do business with you.
While the situations are different, the lesson is the same: if a large portion of revenue is tied to a specific source, there is an increased risk in the business. Potential buyers and investors will place a value on your pharmacy based on its risk and potential return profile. If the risk is seen as too great, they will either a) discount the value of your equity or b) walk away altogether. If you plan to pursue a sale or recapitalization process and have one or more of the above concentration risks, we recommend developing and implementing a strategy to mitigate them.
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