Loyalty Strained at Caremark

Caremark's (CMX) relationships with many of its biggest customers are looking increasingly unhealthy.

The giant pharmacy-benefit manager, or PBM, faces a new probe in the state of Illinois, the Chicago Tribune recently reported. The company is suspected of illegally selling Illinois customers prescription drugs that were returned through the mail and never tested for possible damage. It has also irked Illinois lawmakers by failing to disclose terms of its big state contract.

Caremark faces ongoing problems in Florida as well. There, two former Caremark pharmacists have accused the company of defrauding and endangering state customers. The federal government -- a major Caremark customer -- has expressed interest in that case.

In addition, Caremark faces a broader probe involving attorneys general from 23 states and the District of Columbia. Caremark has yet to identify every state participating in the investigation, but a similar probe targeting Medco (MHS) attracted several big states -- including California -- that conduct business with the PBM. Caremark serves as the PBM for the California Public Employees' Retirement System, or Calpers, a giant organization known for its shareholder activism.

For Caremark, the government contracts are significant. The Illinois contract, which Caremark is currently trying to renew, is valued at more than $200 million a year. The Florida contract is worth about $150 million a year. And the deal with Calpers brings in an estimated $250 million annually.

Still, the federal contract ranks as a far bigger prize. It is expected to generate more than $1.5 billion in revenue this year.

Medco lost the huge contract to Caremark last year after federal prosecutors began investigating Medco's own business practices. But Patrick Burns, a spokesman for the nonprofit Taxpayers Against Fraud, says the federal government may have "jumped out of the kettle and into the fire" when it chose Caremark as its replacement PBM. Going forward, he believes that Caremark -- like Medco -- could lose some government business as a result of the mounting scrutiny.