Supply Chain Is Natural Step for Amazon, Potential Boon for CFOs

Gregory A. Freeman, February 19, 2018

The online retailer's plan to enter the hospital supply chain could bring major cost savings for hospitals.

Hospital CFOs are likely to welcome the most recent foray from Amazon into the healthcare market, as it should lead to lower supply costs, second only to labor as a major cost center, an investment banking analyst says.

Distributing medical supplies is so closely aligned with what Amazon already does on a huge scale that this new project is almost certain to threaten existing medical suppliers and distributors, with hospitals and health systems reaping the rewards.

Related: Amazon Primed to Disrupt Healthcare? Not So Fast

On the heels of announcing a new health plan, Amazon is now looking to become a major supplier of medical products to U.S. hospitals and outpatient clinics, competing directly with suppliers such as McKesson, Cardinal Health, and Owens & Minor, according to a report in The Wall Street Journal.

Amazon invited hospital executives to its headquarters to develop ideas for expanding its business-to-business marketplace, Amazon Business, into a hospital supply chain, the newspaper reports.

Amazon also has been working with a large Midwestern hospital system to test whether it can use the Amazon Business system to supply its 150 outpatient clinics, the article says.

The stock market reacted quickly to the news, with shares of Owens & Minor dropping 4.8% on the news, Cardinal losing 3.4%, and McKesson falling 1.9%.

'Massive change'

The move on healthcare's supply chain seems to bear out analysts' predictions that Amazon's threat to shake up the health insurance industry might be only the first step in tearing down other healthcare silos as well.

The company's entrance into the medical supply chain could bring "massive change," says W. Robert Friedman Jr., managing director in the healthcare practice of Dresner Partners Investment Banking.

"Hospitals are under tremendous financial pressure due to the reduction in Medicare rates and Medicaid. The major expense for hospitals is the cost of labor but supply is right behind it as a big percentage of their core operations," Friedman says. "If hospitals can order directly from Amazon, which then ships directly to their distribution outlets, this would be a major transformation in the distribution component of the healthcare industry."

Friedman expects Amazon will begin with commodities in the supply chain, the basic supplies necessary for providing care, but then move on to the more specialized supplies and medical equipment.

CFOs are getting a gift-wrapped opportunity to lower their costs without any real downside, he says, and he expects them to jump at the opportunity when Amazon starts taking orders.

Repeating Whole Foods effect?

Friedman notes the Amazon effect on Whole Foods, which the online retailer bought in June 2017 for just under $14 billion.

Amazon brought its market power and extended business reach to the grocery chain, immediately lowering prices and offering consumers more convenience, even announcing recently that some Amazon Prime customers will be able to order from Whole Foods and receive delivery within two hours.

The level of service isn't likely for hospitals, but Friedman says Amazon probably will offer some level of improved delivery consistent with the standard it has set with online purchases.

Amazon's entry into the supply chain will increase expectations and Amazon is likely to satisfy them, Friedman says.

"It puts a new leverage of competition into the market. Amazon is a major player in business, and if you look at how they reduced prices on their products and in Whole Foods, making it up in volume, that will have an impact on the gross margins of the other national distributors," Friedman says. "It will take time for Amazon to reach out to the supply chain managers of the hospitals and the large purchasing groups, but I expect that's exactly what they are doing right now, starting with the for-profit hospitals. Anything that reduces costs goes right to the bottom line, and earnings-per-shares are critical for the for-profit hospitals."

Any sizable new entrant into the supply chain could shake things up and encourage lower prices through competition, but the fact that it's Amazon stepping in makes the potential impact much larger, Friedman says.

"This is a company that has proven it knows how to distribute different types of product, so there is every reason to think they can step in and create change very quickly," he says. "Even more so than what they're planning to do with a new health plan, getting into the hospital supply plan is very closely aligned with what they do already, what they have done to become the successful company everyone knows."