The CVS-Aetna merger is still the one to watch in 2018

Lots of mergers have been announced lately, but there’s still one transformative merger that will define and reshape the U.S. health care market in 2018: the CVS/Aetna $69 billion deal announced last December.

CVS is best known for its 9700 retail pharmacies and 1100 walk-in clinics, but its most significant profit driver is its pharmacy benefits manager (PBM) enterprise — a middleman between pharmaceutical manufacturers and dispensers like drugstores. The company generated $177.5 billion in net revenue in 2016.

With its purchase of Aetna, another bold company and the nation’s third-largest health plan, CVS upended uncomfortable business incentives built into its business model. In theory, at least, the CVS PBM has new incentive to bring down drug prices and push for the most efficacious — not necessary the most expensive — treatment choices, to achieve more competitive insurance premiums. They can also favor common-sense preventive and primary care through convenience clinics. In other words, once the post-merger business model better aligns with the company’s mission.

This is what makes the CVS/Aetna deal different. It crosses sectors and realigns previously competing business incentives to better target consumer demand. Most of the merger proliferation we have seen over the past few years involves companies in similar categories within the health care industry. Providers merge with other providers, health plans with other health plans; pharmaceutical companies with others in pharma.

Realigning incentives is the central problem in the health care marketplace, which is built on thorny knots of unintended consequences and senseless rules that resist untangling. The most famous of those knots are fee-for-service payment rules, still largely dominant, whereby payors reimburse for any and all services, regardless of quality. Among its hazards, fee for service incentivizes infections, because they result in more care and thus pay better. Nobody thinks that is a good idea, but the business model is extremely difficult to unravel. CVS seems up to the challenge.

CVS chief executive Larry Merlo is the man for the job. His signature style is a laser-focus on the company’s core mission of “helping people on their path to better health,” which he is determined to accomplish even when short-term profit incentives nudge in a different direction. That was why Merlo led CVS to discontinue tobacco sales in 2014, and why CVS recently banned digitally altered photos on cosmetic products sold in their stores.  Maybe it sounds logical that a health-promoting enterprise shouldn’t sell cigarettes or promote eating disorders and depression. But it takes unusual courage to turn away lucrative business.

Many greeted the news of the CVS/Aetna merger as a play to head off new ventures coming from Amazon or other new players. But what makes me optimistic about this particular deal is the new company’s combination of health industry and retail savvy. Many companies have one but not the other. Enterprising outsiders often enter the health care industry with good backing and an idea that would definitely help patients, only to end up six feet under the health care lobbyists, special interests, regulatory twists, and perverse incentives that dog the health care system for decades. There are large graveyards full of great companies that naively believed that normal business models work in health care. CVS is not naïve.

The timing also appears right for the consumer-focused strategy signaled by this merger. Today one in three working families is covered by a high deductible health plan, which kicks in coverage only after people pay the first several thousands of dollars worth of services. Since most people don’t hit the deductible in a given year, virtually every doctor’s visit, many surgeries, and most prescriptions require patients to pay the bill in full. There are many downsides to this phenomenon, but all indications are that the trend will grow and even accelerate in 2018.

High deductibles change one of the fundamental dysfunctions of the health care market: confusion about who the customer is. That’s because traditionally the customer receiving services, the patient, is not the same as the customer paying for them, a health plan or Medicare/Medicaid. Providers are pulled in multiple directions conforming to the rules of various payors, while also trying to meet the needs of patients. With high deductibles, the patient is also he payor. So in theory at least there’s just one predominant customer.

Retailers know all about customers, but traditional health care organizations are still learning, studying patient experience surveys and hiring a new kind of executive, the “chief experience officer.” Consumers are hyper-price-sensitive and don’t take kindly to the three- or four-figure monthly prices of many drugs. They are outraged by waste and bad service. They want convenience and friendliness. Their preferences are often quirky, indecisive, and biased, but they expect companies to respond anyway.

The CVS/Aetna merger is full of potential to navigate in this difficult consumer-driven environment, but much cynicism greeted the announcement of the deal last year. It’s true, there are a hundred ways the whole thing could go south, and do damage. None of the parties are perfect. But even with all the merger deals in recent years, rarely do any realign business incentives the way this one does or bring such a fresh approach to dealing with the increasingly influential consumer.

So CVS CEO Larry J. Merlo gets my vote as the man to watch in 2018. He embodies business leadership at its most courageous. I hope he realizes the vision he risked so much to achieve, and guides his customers — and his country — on the path to better health.

Leah Binder is president and CEO, The Leapfrog Group.

Image credit: Shutterstock.com

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