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US healthcare market ready for shakeup as Amazon eyes entry: S&P report

The healthcare market in the U.S., which spent $3.3 trillion in 2016 on medical products and services, is ripe for disrupton from a new entrant especially Amazon.com Inc. due to steep costs, growing consumerism, lack of transparency as well as strong regulatory oversight, S&P Global Ratings said in a report.

The online retail and media giant has initially set its sights on the medical supplies business, leaving e-commerce sites, group purchasing organizations, and medical, laboratory and dental distributors with the highest exposure to near-term competition, S&P analysts wrote in a Feb. 15 report.

Separately, Amazon, Berkshire Hathaway Inc. and JPMorgan Chase & Co. in January revealed plans to jointly launch a technology-focused healthcare company, which temporarily pulled down the stock price of numerous insurers, medical suppliers and pharmacy benefit managers.

"As Amazon expands its scope, it could bring price transparency to an industry that's currently opaque, which could have implications beyond the supply chain," the S&P report noted.

The risk of an impending disruption could serve as a catalyst for increasing healthcare M&A, with some analysts pointing to the Amazon threat as a potential reason behind drug retailer and pharmacy benefit manager CVS Health Corp.'s decision to buy insurer Aetna Inc. U.S. medical supplier AmerisourceBergen Corp. may also be a target, according to a Feb. 12 report in The Wall Street Journal that said drugstore chain Walgreens Boots Alliance Inc. is considering a bid for the company.

An increased number of debt-financed acquistions and more competition can lead to negative credit rating changes, with the agency recently lowering the ratings on medical suppliers Owens & Minor, Inc., Cardinal Health Inc. and Lanai Holdings III Inc. following M&A moves, S&P said.

"We believe the specter of an Amazon entry could be a catalyst for mergers and acquisitions among healthcare participants, as they seek to improve their competitive position or diversify," the S&P analysts wrote. "That could initially result in some downgrades."

Privately held healthcare e-commerce website Global Healthcare Exchange, LLC, which connects healthcare providers with suppliers, could be undercut by Amazon on pricing thus impacting its volume.

Potential for market share erosion

Medical, dental and laboratory supplies distributors such as Owens & Minor and privately held Lanai may also see an erosion of their market share, as well as Thermo Fisher Scientific Inc.'s laboratory distribution arm, Fisher Scientific.

Pharmaceutical distributors Cardinal Health Inc. and McKesson Corp. have smaller medical supplies distribution businesses that could be affected by the Amazon venture, according to the report.

Smaller providers of outpatient care such as ambulatory surgical centers, nursing homes and rehabilitation centers are more likely to order from Amazon, compared to acute care hospitals, which have deep relationships with their distributors that are required to deliver many products on short notice.

The report highlighted that while Lanai Holdings' major revenue comes from serving rehabilitation centers, thus leaving it more exposed, Cardinal Health and Owens & Minor were less vulnerable as they primarily serve the acute care hospital market.

As for competing with group purchasing organizations such as Vizient, Inc., an entity that negotiates discounts on supplies on behalf of healthcare providers, Amazon would need to price products lower than those of the GPO contracts, which would be difficult, S&P analysts said.

While not a priority, Amazon could enter the prescription drug distribution business even though the company already sells over-the-counter medicines, the report noted.

The online retailer, which owns the domain name AmazonRx.com, could also use recently acquired groceries chain Whole Foods Market Inc. to set up pharmacies within the stores or pick-up locations for drugs.

However, to gain maket share in selling higher-priced specialty or branded products, Amazon will have to strike a deal or buy a pharmacy benefit manager with the latter being a more likely scenario, S&P said. Express Scripts Inc. is the only standalone pharmacy benefit manager among the three biggest in the U.S., which include CVS Health and UnitedHealth Group Inc.

Without a pharmacy benefit manager, Amazon would only be able to sell drugs paid for in cash, which account for a very small share of retail prescriptoins compared to those paid for by third party vendors or federal health programs.

The venture will not gain significant traction in drug wholesale distribution initially due to lack of scale to gain leverage while buying medicines, the agency said.

Amazon, however, may be able to gain a share of drug distribution by starting or acquiring a pharmacy and compete with independent pharmacies, which is a profitable part of the distributors' business. There is also market speculation that Amazon is interested in starting a pharmacy business outside the U.S., which may compete with some of McKesson's operations, the S&P report noted.

"While the pace of change is admittedly slow in healthcare, credit investors shouldn't put off evaluating how technological disruption could hamper healthcare companies' credit quality," the S&P analysts said.

S&P Global Ratings and S&P Global Market Intelligence are owned by S&P Global Inc.