New VAT rate transforms Lithuanian OTC market

Author: Daniel Latev

Date published: 29 Jun 2009

Feeling the effects of the economic crisis, the Lithuanian government upped the VAT rate on all OTC products from 5% to 19%. The increase has brought chaos to the market, with only the big pharmacy chains able to play the move to their advantage.

The Lithuanian OTC market boomed following accession to the EU in mid-2004, largely due to many products switching from Rx to OTC status. Historically, VAT on OTC medicines was set at 5% in comparison to a rate of 18% on other goods. This particularly benefited pensioners, the main OTC consumers. Keeping rates low also boosted the market as a whole, along with advertising and promotional campaigns from multinational pharmaceutical companies and strong local pharmacy chains.

However, as the Lithuanian economy fell into difficulty as the global financial crisis took its toll, the newly-elected government saw the equalisation of taxes as a way to raise funds and increased VAT from 5% to 19%. The other Baltic States followed a similar path, with the Estonian and Latvian governments increasing VAT on OTC products from 5% to 9% and 5% to 10% respectively.

Pharmacies exploit the confusion

Following the VAT increase on 1 January 2009, all OTC prices increased by a minimum of 13.3%. Pharmacies hurried to change their price labels and misleadingly announced that prices had increased by 14%, although no government department regulated the increase and the majority of pharmacies increased their prices beyond the VAT rise. For example, homeopathic cough and cold remedy Oscillococcinum, which was priced at LTL14 in December 2008, had gone up by 64% to LTL23 at the time of writing in one of the leading pharmacy chains, Camelija UAB. Another significant issue related to consumer choice was observed when pharmacists withdrew lower-priced brands, such as the locally produced analgesic acetylsalicylic acid, leaving only the most expensive equivalents, such as Bayer AG Aspirin. This meant the consumer was deprived of choice, and forced to buy only expensive drugs, which are being promoted and are more profitable for retailers. The majority of the leading pharmacy chains used the VAT hike to achieve higher profits by pushing the most advertised multinational brands, such as Diclac, Ibumetin, Fastum Gel, Solpadeine and Mezym Forte.

Impact of the price increase felt across the board

The VAT rise has had a significant impact on the performance of independent and smaller pharmacy chains. Smaller pharmacy chains cannot offer the same low prices, discounts and promotional deals as larger retailers due to weaker buying power. Thus, these small players, which account for around 20% of OTC sales, will be squeezed and many will be forced to close their doors.

Smaller OTC producers are also struggling as a result of the new VAT rise as many pharmacies are favouring more expensive products from larger manufacturers. Only a limited range of brands from local players, such as Olynth, Septolete or Claritine, are regularly making it onto the shelves. These manufacturers are being driven to offer further discounts and promote their goods more heavily in order to ensure that pharmacy chains are willing to stock their products. Straight after the rise, the biggest pharmacy chains were competing to see which could offer the lowest prices, with stores using slogans such as “The summer of prices” or “Get double Eurolits” (loyalty points).

Consumer behaviour is changing as a result of diminished purchasing power due to the economic slump. Consumers are reducing their spending on preventative products, such as vitamins and dietary supplements. As the prices of OTC products rose sharply, pensioners sought out the best discounts in the biggest pharmacies, influenced by store advertisements. In this way, the leading pharmacies are dictating consumer purchasing.

Looking to the future

The Lithuanian economy is expected to slowly start recovering after 2010, at which time OTC spending will pick up. In the short term the government is expected to implement further regulations aimed at reducing the pharmacies' monopolistic behaviour. Certain laws, concerning the regulation of profit margins on OTC products to below 20%, are already being discussed in parliament. In the long term, the government is expected to return the VAT rate back to its previous level of 5%.