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View article at Forbes magazine here.
Part one of three
"Pssst ... Wanna Buy Some Augmentin?"
Richard C. Morais, 04.12.04
Move over, heroin pushers. Pharmaceutical arbitrage is rapidly emerging as the globe's hottest drug-dealing business.
In January a truck pulled up to a loading dock in London's East End and discharged 3,997 boxes of Nasonex, Schering-Plough's prescription nasal spray for allergies. Earlier the drugs had been sold by Schering in France at around $11.80 per bottle, a price determined by the French government. But a middleman bought the product and shipped it to Britain, where Nasonex commands $3 more at wholesale. The East End buyer: $55 million (revenues) Medihealth, a specialist wholesaler.
Medihealth employees logged the Nasonex into their computer system and then passed the cartons over to East End women standing at tables in a back room. The women shuffled and repacked the boxes, covering the original French packaging with English-language stickers and substituting Schering's U.K.-approved leaflet for the French insert. The 3,997 boxes were soon legally bound for pharmacies across Britain.
"We actively trade 200 to 225 products," says P.R. Patel, Medihealth's chief executive. "Only the bestsellers."
Medihealth occupies a lucrative corner of the distribution world made possible by the peculiar pricing of prescription drugs. It's a "parallel trader" or "short-liner," an arbitrager buying in low-price markets and selling in high-price markets.
No one really knows the size of this drug arbitrage business, since much of it takes place in the shadows. Where it is legal, few in the pharma industry--neither the arbs nor the manufacturers nor big wholesalers--want to talk about it on the record. But this much is clear: The business of arbitraging drugs is huge, fast-growing and constantly morphing around the globe according to local laws and customs.
In Europe legal arbitrage of pharmaceuticals is already a $12 billion or so business. Paul Saatsoglou of IMS Health, a pharmaceutical consultant, says drug arbitrage along the Canadian-U.S. border was worth $1.1 billion (in U.S. prices) in 2003, up 70% in a single year. Add in the drugs coming up from Mexico, and legal pharmaceutical arbitrage in Europe's and North America's free-trade zones is probably approaching $15 billion. In comparison, United Nations statistics suggest the globe's entire heroin production is theoretically worth $20 billion at U.S. wholesale prices.
On top of all this legal, gray-market activity there is a thriving trade in illegally remarketed prescription drugs, a business whose dimensions can only be guessed at and whose markups dwarf those found on something like Nasonex. A single HIV/AIDS Combivir pill, priced at 33 cents for the African market, is worth $10 if it can be illegally diverted to the U.S. or Europe.
The U.S. has the toughest drug reimportation laws in support of manufacturers that want to segment markets by price: They strictly forbid the wholesale importation of drugs intended for distribution in other countries. The purchase of a 90-day supply of drugs for personal use while abroad is legal; overseas purchases via the Internet are illegal, but the law is rarely enforced(see box). European laws are more lenient. The trade is actively encouraged within the European Union, but illegal for drugs coming from outside the EU.
Any law forbidding consumers from grabbing bargains across the border is going to be hard to enforce. The popular mood in the U.S., as reflected in politicians' speeches and many sympathetic press accounts, is that drug companies are overcharging and the right legislation would save consumers a bundle. Bills working their way through Congress would, in effect, bar the FDA from blocking Nafta-sourced drug imports produced at previously FDA-approved manufacturing sites. The flow of cheap Canadian or Mexican drugs to the U.S. could become a flood. But the Philippines has taken this populist response further with the globe's first state-run arbitrage program, reimporting drugs sold more cheaply to India and other Asian countries.
Governments can do plenty of damage to drug company revenues just by looking the other way as drugs get redirected or shipped across their borders. Indonesia's Health Consumer Empowerment Foundation released a 2002 study claiming that almost half of all subsidized medicines intended for the poor found their way into the marketplace, including foreign government donations officially stamped by Indonesian authorities. An exaggeration? No one knows because Indonesia's health officials, claimed the Jakarta Post, never seriously investigated the charge. Meanwhile, according to the World Markets Research Centre, the Chilean Pharmaceutical Chamber estimated illegal cross-border trade represented 10% and 20%, respectively, of Chile's cancer and HIV/AIDS medicines in 2002. And last year the head of Lebanon's pharmacy association publicly accused 90% of that country's nonprofit clinics of reaping huge financial rewards by trading drugs originally given by donors; health authorities are now trying to better secure the country's distribution system.
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Part two of three
Between June 2001 and July 2002, GlaxoSmithKline figured a quarter of its deeply discounted HIV/AIDS drugs bound for Africa never wound up at their intended destinations. In the summer of 2002 authorities in Belgium intercepted 800 Africa-intended packages of Glaxo's Combivir. A Dutch trader was allegedly behind this and 23 other trades involving 44,000 packs of Combivir, Epivir and Trizivir. Illegally diverted from five African countries, sometimes with the aid of government officials, $18 million worth of drugs were laundered through a number of routes to Brussels and Paris, then through Antwerp, all headed for ultimate sale in EU member states and Switzerland. (The civil case is in the courts; the Dutch police's criminal investigation is still in progress.) Manufacturers are now color-coding their poor-nation pills and creating special packaging to combat this illegal diversion.
On a risk-reward basis, trading pharmaceuticals is a far more attractive business than running heroin, confirms Thomas Kubic, executive director of the Pharmaceutical Security Institute, a drug industry group in Vienna, Va. fighting illegal pharma trade. Kubic says organized-crime busts frequently uncover drug inventories made up of a mixture of stolen drugs, diverted drugs and counterfeits. But the line between illegal substances and pharmaceutical trade is blurring. With 6 million Americans abusing prescription opiates and other pharma highfliers, prescription-drug abuse is second only to marijuana abuse in the U.S. The White House is now targeting so-called pill mills that sell diverted or stolen drugs over the Internet without prescriptions.
European governments have largely seen fit to embrace the arbitrage game, though it is doubtful they or their consumers are the primary gainers. Within the EU's free-trade zone stand government-run national health services, each negotiating its own drug prices with the pharmaceutical manufacturers: The wholesale price (daily dosage, adjusted for pack sizes) of fluoxetine, better known as Prozac, is 64 cents in Spain, $1.40 in Germany and $1.83 in Britain. With EU courts repeatedly ruling parallel trade is legal, companies like Medihealth have morphed into government-licensed repackagers. Germany's Kohlpharma alone booked $1 billion in 2002 revenue from drug arbitrage.
Britain is reimporting $2.6 billion, or 20%, of its drugs. The London School of Economics just concluded, in a study of 19 prescription drugs in six European countries, that parallel traders got 25% of branded drug sales in 2002. Low-price Greece was conversely exporting 22% of its drug supplies.
Because Europe's national health services are cash-strapped, EU governments actively protect their arbs, using pharma's murky gray market as a means of lowering health care costs. German law mandates that pharmacies have at least 7% of their stock coming from parallel trade or face penalties. Britain, meanwhile, financially rewards its pharmacists when they arbitrage.
Moss Pharmacy, a big drugstore chain, has shops in Shepperton, England. There, when a customer asks pharmacist Samir Beibars for Novartis' Famvir (famciclovir), a drug for shingles, Beibars uses his computer to scan his wholesaler's available stock in branded, discounted, generic and parallel-traded drugs. He finds a southern European import of famciclovir for $178; the National Health Service's listed reimbursement fee is $205.
So who gets the spreads in Europe's secondary market? "The patients don't benefit," says Panos Kanavos, an author of the LSE study and a lecturer on international health policy. Rather, he says, it's the middlemen--the parallel trader, wholesaler and, to a much lesser extent, the pharmacist and governments--who grab the differences.
The LSE's six-country study figured the total 2002 wholesale sales to pharmacists (but not hospitals) equaled $6.5 billion for the 19 drugs in question. The parallel traders skimmed off $680 million in trading profits. But complex government pricing mechanisms meant that national health insurance funds managed to claw back only $120 million of savings.
Studies commissioned by parallel traders claim governments are the big winners, but the LSE study (backed by Johnson & Johnson) is probably closer to the mark. Consider Medihealth's January trade in Nasonex. Medihealth bought the Schering spray from a French wholesaler for $11.80 a bottle; the English-language repackaging cost it another 37 cents. But Medihealth was able to sell the spray to British pharmacies for an average price of $16.51, capturing a $4.34 spread per bottle, or $17,347 for the in-and-out shipment. With the drug still competitively priced, the pharmacist then grabbed (after a government levy) a $1.48 trading profit, in addition to a standard dispensing fee allowed on the medicine.
On such backroom shuffles fortunes are made. Milan-born Stefano Pessina, 62, is the chief executive and major shareholder of publicly traded Alliance UniChem, a pan-European drug wholesaler with $17 billion in revenues. Pessina, a new member of FORBES' billionaires list, has built Europe's second-largest wholesaler and, in the form of Moss Pharmacy, its third-largest drugstore chain.
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part three of three
Alliance UniChem does not hold any parallel trading licenses itself but runs lower-priced stock from its Spanish and Greek warehouses through licensed parallel traders like Medihealth before returning the drugs to its northern warehouses; redirecting parallel product to its in-house chain of 1,100 pharmacies also significantly boosts its retail margins. Big wholesalers pay parallel traders 65 cents to 90 cents a pack for repackaging services, but also sell 5% to 20% of the pass-through to the traders so they can trade this inventory for their own accounts. It's a license to print money. Says a parallel trader who insists on anonymity: "The biggest problem for parallel traders is getting our hands on inventory."
Alliance UniChem maintains it was forced into the business by competition. "Wholesalers couldn't ignore it anymore," explains Geoffrey Cooper, deputy chief executive at Alliance UniChem. "The danger was, if we didn't supply our [pharmacist] customers with parallel imports, the short-liners could come in and sell them the imports and then say, By the way, we also have some generic.' Manufacturers hate it, and we don't like it, either. Long term we can earn better margins from manufacturers."
Of course, unlike its illegal cousin, Europe's secondary market does not hurt the poor, but hits big pharma in the pocket. But that doesn't mean it's only some bonus-happy execs and shareholders who pay a price.
At this year's World Economic Forum in Davos there was a fierce debate about Europe's "free ride" on America's lab-coattails. Europe spends 60% less per capita on pharmaceuticals than the U.S.; FDA Commissioner Mark McClellan says Americans, while consuming a fraction of the world's output of prescription drugs, are unfairly accounting for half of the industry's revenues.
So drug manufacturers--careful not to look like they are out to gouge the public--must quietly wage a guerrilla war, trying to catch parallel traders out in a supply squeeze.
"They are very clever," says Taybi Mohamedbhai, principal buyer at Medihealth. "A U.K. drug company will approach big parallel traders and say, Why are you importing that drug from Greece? We will give you the drug at the same price here in the U.K.' They will do this for six or seven months and then suddenly cut off the supply. During that time they collect the data on what Greek domestic demand is and what demand bound for the U.K. parallel import market is, and then limit Greek supplies accordingly. It took us a while to figure this out, but when they approached us again, we said, We're not interested.'"
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Sidebars:
#1 - The Odyssey
One evening in January a FORBES reporter flew into London's Heathrow airport, suffering from a sinus infection. He made his way to the late-night Bliss Chemist on Marble Arch, where his doctor had previously called in a scrip for 625mg tablets of Augmentin, an antibiotic made by GlaxoSmithKline. The pharmacist handed over a box of 21 pills. The stickers plastered on the box did not entirely cover the Greek lettering underneath.
The pills left Glaxo's factory in Mayenne, France on Sept. 12, 2003 en route to Glaxo's Greek company and a local wholesaler. It's not clear if the Greek wholesaler resold the drugs to Britain directly or sent them through other intermediaries, but ultimately they wound up at O.P.D. Laboratories Ltd., a Hertfordshire, England parallel trader. The licensed U.K. arbitrager repackaged the box with English labels and inserts and sold it on to the West End pharmacist.
#2 - Robin Hood on 10% Commission
In April 2001 the FDA and U.S. Customs studied prescription drug movement at seven U.S.-Mexico border crossings. They detected 586 people bringing in 1,120 drugs over four hours; just over half held valid U.S. or Mexican prescriptions. But crossing the border for bargains is such an inconvenience. Nowadays the most popular way to buy is over the Internet. And for customers who find even that too intimidating, there is yet another way to get low prices: Go to a middleman.
Ameri-Can Discount Center.com, just outside Philadelphia, is such a go-between. The storefront, run by Darryl Stein, a former IBM system engineer, and Ronald Cerota, a security systems executive, helps customers in the Philadelphia area get in touch with CanAmerica Drugs of Manitoba. One recent day in February they were helping an elderly Russian émigré with her prescription for four drugs, including Altace and Zocor. They faxed her U.S. prescription to Canada, helped her fill out the exhaustive questionnaire that a Canadian doctor needs in order to write her scrip north of the border and mailed in her check for $713. The pills were to arrive in the mail in about two weeks. The two men will follow up several weeks before her 90-day supply runs out with a reminder to reorder.
"We're like Robin Hood," says the 40-year-old Stein.
Sort of. The two entrepreneurs get a fee of 10% of all sales they steer to the Canadian Web pharmacy or to a mail-order provider of generics in the U.S. (Generics are generally more expensive north of the border.) It's not easy, they claim. They started a year ago with $40,000 in savings, but have since taken out a small home-equity loan as they approach break-even: 700 customers are generating $6,000 to $8,000 a month in commissions.
It's not just the newly self-employed who are interested in the business. Politicians are getting into the act. Springfield, Mass. and Montgomery, Ala. openly defy the Federal Food, Drug & Cosmetic Act by arbitraging drugs from Canada on behalf of municipal employees. Boston Mayor Thomas Menino says he wants to start reimporting Canadian stocks in July. If a band of like-minded New England officials gets permission--they are waiting to hear from the U.S. Department of Health & Human Services--they will start offering bargains to 100,000 residents on a trial basis. The Boston pilot project alone should save $1.5 million a year, 3% of the city's drug spending.
"It's all about the consumers," Mayor Menino thunders. "If we were able to reimport drugs from Canada, which would give us a reduction in costs, don't you think the American drug companies would reduce their prices for drugs and follow suit?"
Price in London: $48. In downtown Philadelphia the antibiotic would have been dispensed in 500mg doses, with 21 pills retailing for $119.
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