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With plenty of upside for online pharmacies, strategy’s the key to carving out a share.
A trip to the drugstore, by car or on foot, is a habit deeply entrenched among consumers, who have yet to turn to online ordering of medications, health and beauty products to the same degree they’re now willing to buy books, CDs, computers and even clothing online. In fact, according to 2004 data from Forrester Research, of U.S. consumers surveyed who take prescription drugs, only about 9% have filled a prescription online.
The demise of most of the purely web-based drugstores; the continuing struggles toward profitability of Drugstore.com, the largest remaining pure-play in the category; and the fact that online sales represent only a tiny share of total sales for drugstore chain giants such as Walgreen Co. and CVS Corp. are all testament to that. And overall, online sales of prescription drugs, estimated at $5.6 billion by Jupiter Research in 2004, remain a very small drop in a big bucket, given that U.S. spending on prescription drugs was $188 billion that year.
More than habit
But consumers’ slow uptake hasn’t blotted out the promise of the online channel among industry players-it’s simply shifted earlier strategic thinking and caused them to reach for that promise in new ways.
While the industry has long believed that online prescription ordering is perfectly logical, consumers have been slow to fulfill that belief. Beyond habit, a closer look at what drives the largest share of revenue at drugstores-and who’s buying much of that-may offer a clue as to why category sales online have been slower to catch on. Prescription drugs represent the largest share of chains’ sales: 64% at Walgreen’s in fiscal 2005; about 70% at CVS in 2004. Older consumers are the buyers of a sizeable chunk of the prescription drugs sold across all channels-a demographic currently less likely to buy anything online.
In addition, the evolution of how drugs are paid for is having a big impact on the online industry. Health benefits providers are the largest payers for prescription drugs, and retail prices for covered drugs go through a long chain before the drugs end up in the consumer’s hands. Figuring in the price chain are negotiations among drug manufacturers, benefits providers and the pharmacy benefits managers to which they subcontract drug benefits administration, then wholesalers and finally, the drugstores. By the time the drugs get to the retail level, drugstores have little pricing flexibility. The result is that the sale of covered prescription drugs at retail is a high-volume, low-margin business which means that while prescription drug sales may represent most of a drugstore’s sales, they don’t represent most of the profits.
How multi-channel drugstore chains and pure plays are addressing that fact is helping to cast the Internet in different roles at different companies. Drugstore chains that added an Internet channel at the height of the dot-com boom as a hedge against pure-play online drugstores now see a different utility for their web sites.
The earlier fear that the online channel would overtake brick-and-mortar stores was what kick-started web efforts at chains such as Walgreen’s and CVS, according to Vikram Sehgal, Jupiter Research analyst. “But they soon realized that online sales weren’t going to eliminate offline sales and that consumers don’t necessarily prefer the online channel,” he says. “So now they’ve moved to the store pick-up model. The idea here is dual: first, they’re continuing with the online channel even though it is not contributing large sales, and secondly, it’s another tool to bring people into the store.”
It’s a different story at pure-play Drugstore.com. It got only about one-quarter of its $399 million in sales last year through store pick-up of online orders-it has a relationship with chain Rite-Aid for store pick-up as one fulfillment option for prescriptions. Drugstore.com, unlike its offline brethren, doesn’t look for its major revenue from insurance-sponsored prescriptions, though it has relationship with a number of pharmacy benefits managers and health plans for covered drugs. Instead, Drugstore looks to drive online prescription sales with a focus on the customer who pays for a prescription out of his own pocket either because insurance doesn’t cover the cost or doesn’t cover enough of it.
So-called “lifestyle” prescription drugs-for instance, the hair treatment Propecia-constitute a large share of the self-pay category. Drugstore attracts self-payers with prices on some drugs that may be as much as 25% below the going rate at other pharmacies, says Jonathan Tinter, Drugstore’s chief marketing officer. Negotiating directly with manufacturers and wholesaler suppliers, Drugstore has more flexibility in pricing the drugs not typically covered by insurance, and it passes some of those savings on to self-payers as a key element of its value proposition, according to Tinter.
But even more than with lower prices for self-payers on prescription drugs, Drugstore.com looks to higher-margin, front-of-store products to boost revenues: at $174 million, they represented 44% of total sales and more than 60% of margin contribution last year, while so-called mail orders-mailed fulfillment of prescription drugs ordered online-accounted for only $76 million or about 19%.
“They’ve expanded their business substantially since their inception to include higher-end beauty lines and items with a greater margin that are harder to find,” says Liz Boehm, Forrester Research analyst. Tinter estimates that across its online store and the linked site Beauty.com, which it owns, Drugstore.com offers about 25,000 health and beauty products against the typical drugstore’s 5,000. This includes brands and lines not typically found in chain drugstores, such as Philosophy skin care products, for example.
Drugstore’s shopping cart allows customers to shop both the prestige brands at Beauty.com and the mass-market offerings at Drugstore using a single cart. That convenience, the broad assortment and lower prices on the kind of prescription drugs whose cost is more typically borne out of pocket are what’s driving more traffic to Drustore.com rather than to the web sites of Walgreen’s or CVS. For example, in January, Drugstore.com had 3.65 million visitors to Walgreen.com’s 3.53 million, according to comScore Networks. CVS.com posted the fourth-highest traffic in the category that month at 1.96 million unique visitors.