Quality control issues and shortages at several smaller generic drug makers have brought increased price stability for the larger players in the industry and a possible short-term boost to earnings.

The industry remains fragmented, with competitive pricing and thin profit margins, but the largest players - Mylan Inc. (MYL), Teva Pharmaceutical Industries Ltd. (TEVA) and Watson Pharmaceuticals Inc. (WPI) - have gained a market advantage. But price increases are generally limited to individual products and may be short-lived as competition remains strong and their customer base shrinks.

"Our analysis indicates that a favorable competitive dynamic persisted through [the third quarter], with Teva, Mylan and Watson all seeing less than average incremental competition to base business products than in recent years," JPMorgan analyst Chris Schott wrote recently.

Schott notes that the factors, including increased regulatory scrutiny of smaller companies, may allow the current stability to continue into 2010.

Smaller generic makers have been hit with a number of quality-control issues in the past year, including K-V Pharmaceuticals Co. (KVA), Caraco Pharmaceutical Laboratories Inc. (CPD) and Canada's Apotex Inc. Those issues, which often involved massive recalls of multiple products, allowed the bigger companies to grab market share and provide assurance to customers who've had to pull products from shelves and deal with shortages.

"We've gotten a lot of business offered to us," Teva's North America Chief Executive William Marth said last month.

Marth notes that Teva's customers are asking "not just about price and availability, but now they're talking about quality, price, and availability, and I think that's a very important change."

Acquiring more market share is important, but it is more important to also be able to raise the price while there are fewer competitors on a product, RBC Capital Markets analyst Adam Greene said.

During the third quarter, Mylan has increased the price on a number of products by as much as 10%, Greene said, and Teva increased the generic price of Roche Holding AG's (RHHBY) Accutane acne treatment by 95% after the Swiss drug maker stopped making it.

"It has to be about pricing in order for it to make a difference because so many of these products are really low margin," Greene said.

Analysts warn that price change information can be hard to gauge in an industry that operates under secrecy for competitive reason, and changes are often product specific.

Overall, JPMorgan has estimated that generics pricing for the major companies would drop 10% during the third quarter, but that the increased pricing stability could moderate that move for the larger companies.

Indeed, Mylan's Chief Executive Robert Coury recently said its customers are changing suppliers less often due to incremental price differences, because they are realizing that the administrative costs of switching make it less beneficial.

Although the market may be more stable, it is unlikely to remain that way for the long-term. Despite continuing consolidation, the generic drug industry remains very fragmented with a low barrier to entry.

Furthermore, the number of customers is getting increasingly fewer, said Adam Fein, president of Pembroke Consulting, a pharmaceutical-supply-chain consulting firm.

His research shows that the top six dispensing pharmacies accounted for 60% of U.S. pharmacy dispensing revenue in 2008, and he expects that to rise.

"In general, the tide is going against generic drug manufacturers," Fein said. "The core business is highly commoditized...there is very little opportunity for differentiation."

-By Thomas Gryta, Dow Jones Newswires; 212-416-2169; thomas.gryta@dowjones.com