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A dose of reality

Brick-and-mortar drugstores adapt to an Internet onslaught

By Mark Seavy

For years the only way to pick up prescription drugs was by making a trip to the neighborhood pharmacy, but now consumers can get most medicines and a range of health products without leaving their seats.

That's because the $200 billion health care industry has joined vendors of groceries, office supplies, music, books and a range of other household staples on the Internet. While the online drugstore market is still small — about $200 million in sales were registered in 1999 according to most analysts — that figure is expected to shoot up to between $8 billion and $9.5 billion by 2005, industry officials said.

In part, this growth reflects the ability of major brick-and-mortar chains like CVS, Walgreen's, Rite Aid and others to quickly draft an online strategy in the face of intense competition from aggressive Internet-only start-ups like drugstore.com, PlanetRx, Rx.com and More.com. Some chains, such as 123-store Powell, Ohio-based Drug Emporium, have even spun off their Internet assets into separate companies, maintaining a stake in the online world through equity investment.

"Whether they're shopping online or in our store, they're still our customer," said Brad Mitchell, chief marketing officer at Drugemporium.com. "We look at this as being incremental rather than cannibalizing our retail business."

Brick-and-mortar expected to stay alive

Indeed, many of those who follow the e-commerce business maintain that the emergence of online drugstores doesn't signal a death knell for the local pharmacies. The latter have grown accustomed to change, adapting well, for instance, to their customers' switch from large, full-service insurance companies to cost-conscious health maintenance organizations.

"Corner drugstores will be here for another century if they keep evolving and changing," Donald Jorndt, chairman and CEO of Deerfield, Ill.-based Walgreen Co., said.

As part of that evolution, Cornerdrugstore.com has bound together 3,500 independent and small chains to form an online drugstore that is expected to launch later this year. In its battles against large chains and pure online stores, Cornerdrugstore.com views the ability of its members to deliver the products locally as a major weapon, said Brett Johnson, CEO of Cornerdrugstore.com, noting that many online drug stores must rely on large fulfillment centers to ship prod ucts to consumers. Indeed, Drugemporium.com recently opened a new 16,000-square-foot prescription fulfillment center as part of its distribution facility in Louisville, Ky., and plans to have the capacity to fill 5,000 orders per day at the start.

But those local pharmacists are facing some fierce competition in the form of discount offers and promotions offered by their rivals. CVS, Woonsocket, R.I., which entered the Internet business when it bought Soma.com last summer, frequently highlights in-store promotions in banner ads that run across the top of its home page. Drugemporium.com, whose parent company is known for its low-price strategy, offers "deal of the day" promotions offering 40% to 50% off health items.

Online pharmaceutical sales are growing fast. CVS.com has claimed that its business is expanding about 10% a week and that Internet sales could eventually account for 4% to 8% of the 4,100-store chain's revenues. Nevertheless, consumer recognition of the online drugstores still remains relatively low, Jingling Elliot, director of Internet market research at PC Data, said. In a poll last year, shortly before Drugstore.com and others went public, only one of 10 respondents could identify an online pharmacy, although 70% of those said they would be interested in buying pharmaceuticals online, Elliot said.

"We're finding that online drugstores are realizing two different revenue streams," said Catherine Monaghan, an analyst at Gomez Advisors. "Many consumers are heading to online drugstores for prescriptions exclusively, and those are the customers that tend to pick up items along the way. We also have consumers browsing purely for health and beauty products. The mainstream online drugstore customer simply doesn't exist."

The demographic profile of online pharmaceutical buyers is changing.

"Typically the buyers of the products have more education and income right now because the industry is so new, but that is changing every day," Mitchell said.

Consumer awareness is expected to sharply increase as online drugstores link up with deep-pocketed investors. In that vein, Drugstore.com sold a 20% stake to Camp Hill, Pa.-based Rite Aid Corp., whose 3,800 stores serve as a fulfillment center for purchases made over the Internet.

Drugstore chains heavily promote their Internet business in their brick-and-mortar outlets, with CVS even affixing the CVS.com logo to bags that customers carry out of the stores.

The ties between the online and brick-and-mortar businesses are especially critical in the drugstore industry, analysts say. Stores not only provide the human interaction that industry officials view as a key to success, they also help the online pharmacies gain acceptance from pharmacy benefits management companies, which control many consumers' prescription drug insurance programs.

Prescription drugs account for about one-third of online sales, followed by health-and-beauty items, analysts said. CVS, however, reports that 50% of its online sales are tied to prescriptions and that the average order size has been $60 over the past four months, against $20 for its brick-and-mortar locations.

Prices for products online sometimes differ from those sold in the stores, but not to any great extent, according to a recent comparison of print ad circulars and the Web sites. Rite Aid, for instance, offered the same Tylenol Allergy/Sinus product at $5.99 both online and in stores. But Dimetapp 12-hour Extentabs for colds were advertised in a 12-pill configuration in the circular at $4.29, but were promoted in a 48-pill version at $14.99 on line. Separately, CVS priced a 7-ounce can of Edge shaving cream at $1.99 in print ads, but had it at $2.19 online.

In addition to offering consumers the ability to buy products online, the Internet companies also are trying to position themselves as a source for health-related news. Many have links to industry trade publications like Drugstore News and Chain Drug Review. Others have gone further: PlanetRx struck separate agreements with WellMed to provide a health advisor program, and Utah Health Informatics for vitamin and mineral information.

PlanetRx also has a multiyear agreement with Allscripts to help physicians develop electronic prescription capability, and is working with Express Scripts, which owns 19% of PlanetRx, to provide prescription medicines to customers with insurance plans.

To keep up with the competition, drugstore.com has paid $105 million to Seattle-based Amazon.com for placement on the online giant's Web site, and also has signed up health retailer General Nutrition Cos., Pittsburgh, as one of its investors. CVS, meanwhile, signed a multimillion dollar advertising deal earlier this year with Microsoft to appear on Microsoft Networks' Health Channel, Pharmacy QuickLink and WomenCentral's Health section.

But as the online drugstores seek to expand their roles, state and federal authorities are urging Congress to give them greater power to regulate online drug sales and to punish Web site operators that employ illegal or unethical sales tactics. During a recent congressional hearing, Jane Henney, commissioner of the Food and Drug Administration, testified that the problem of illegal Internet drug sales will become increasingly serious. Most recently, the U.S. Customs Service along with Thai officials, arrested 22 people suspected of running multiple Internet sites that sold prescription drugs to U.S. citizens without valid prescriptions.

The online drugstores have been less than enthusiastic about the prospect of having the federal government overseeing the industry. Peter Neupert, president and CEO of drugstore.com, argued that public education and strict enforcement of existing laws would be enough to drive illegal operators out of business. Most online drugstores can't prescribe medicines, relying instead on doctors who are frequently contracted to either provide the information electronically or via a toll-free telephone number. In addition, many online drugstores are certified by the National Association of Boards of Pharmacy, Neupert said.

"All states working together with the federal government can make the cost of operating illegal online pharmacies so high as to price the bad actors out of this business," according to Kansas Attorney General Carla Stovall.

By keeping the online drugstore business free of illegal Web site operators, companies are hoping to expand a marketplace in which a click of the mouse is increasingly replacing the ring of the cash register.