The Middlemen Of Prescription Drugs
Part Two: PBMs play both sides
This is Part Two of How Drug Pricing Works, a series of rundowns on the business and economics of the healthcare and the pharmaceutical industries once you get past the political rhetoric — insofar as things can exist outside of rhetoric and politics.
As I wrote in the first installment, markets — privately and publicly driven — influence how companies negotiate drug prices and that affects consumer prices. Pharmacy benefit managers (PBMs) are one of the key negotiators for drugs in the US. They interact with a variety of bodies in the healthcare industry, but as far drug pricing goes, what’s relevant here is how PBMs connect health plans with drug manufacturers.
Originally, PBMs simply processed drug claims, but as more health plans outsourced claim-processing to them, PBMs got into the business of negotiating drug prices with manufacturers for their health plan clients. By representing pools of health plans, they could leverage greater negotiating power when deciding which drugs to cover favorably. This proved effective and PBMs grew. Multiple mergers in the past 10 years have resulted in the dominance of three major PBMs — Express Scripts, CVS Caremark, and Optum — , which control 75–80 percent of the market now.
You can see the ability of PBMs to leverage covered lives into discounts by a quick look at the numbers. Check out slide 7 in a recent presentation at the JP Morgan Heathcare Conference. You see that Express Scripts (ESI) has major negotiating power, with Humalog’s post-discount net price staying flat despite the pre-discount revenue increasing more than three-fold. Or take for example their negotiation of the Hep C cure Viekira Pak; ESI got the price down to the levels found in countries like Germany or France. QuintilesIMS, a data analytics firm, estimates that these discounts average to around 44 percent in the US.
This might lead you to believe that PBMs are simply a check on the otherwise unregulated pricing of drug manufacturers. But that’s not entirely accurate. And it’s a role that’s only recently started to get attention.
Some background. Taking the Humalog example: diabetes is a category that has seen some of the most significant list-price increases, with leading diabetes drugs Humulin, Levemir, and Lantus seeing price increases of 325, 169, and 168 percent respectively in the past five years. These price increases are catching attention, with the manufacturers now getting sued for collusion.
The eye-popping numbers are unambiguous; without regulations, free pricing allows for whatever price increases that may be desired — and clearly there has been space for it. High list prices like this make it nearly impossible for patients to afford a drug like this without health insurance or help from charities or patient assistance programs. Even for patients that do have insurance, expensive categories like diabetes may require percent-based cost-sharing, which expose patients to these high prices. Increasing numbers of plans with high deductibles are further exposing patients to the full prices of these drugs. These pricing actions from pharma are as clear as day, and scrutiny is well warranted.
While manufacturers have driven up prices, organizations like ESI have kept net price increases relatively steady, as the aforementioned slide shows. This is what you want a negotiating body to do, and it’s a role that, in other countries, government organizations do.
But are these private organizations in the US properly conducting their roles, particularly since they negotiate as fractured Medicare segments? (Medicare as a whole is banned from leveraging its entire patient population in price negotiations, instead relying on organizations like PBMs).
A key issue is that PBMs are a black box. Negotiations and contracts are kept under lock and key, with even audits managed with utmost secrecy. A serious concern is the question of how much of these rebates are passed back to health plans and how price increases may benefit a PBM’s bottom line.
ESI’s stock plunged around a month ago when health insurance company Anthem, which represents 16 percent of ESI’s business, announced it would no longer use ESI’s services after the current contract expires in 2019. Why? Last year, Anthem sued ESI, claiming the PBM was overcharging for services by $3 billion a year, which includes passing on ESI’s negotiated rebates. Anthem is looking for ESI to turn over pricing information as part of the case, while ESI claims such information is a trade secret. Without this sort of information, it’s unknown how much PBMs are keeping to themselves — and Anthem believes the discounts aren’t enough.
Related to this lack of information is the nature of contracts with manufacturers. PBMs retain some portion of the discount. ESI and CVS claim they pass along about 90 percent of rebates, but the lack of transparency means insurance providers — and the insured — may have to take it on faith. It’s possible PBMs retain a percentage of a negotiated rebate, which results in higher list prices actually being beneficial to the bottom line. Negotiating a 40 percent discount on a $200 drug is going to net ESI a higher cut than getting the same percentage on a $100 drug. And a higher price gives a manufacturer more room to provide rebates in general. In the case of Humalog, what that means is that while Humalog’s pre-discount revenue was increasing, ESI’s revenue was likely going up despite Humalog’s post-discount revenue staying flat.
As pointed out by David Dayen in his exposé on PBMs, a real life example of this could be the case of AstraZenca (AZ) and its product Nexium, which stayed as a preferred drug at Medco (a subsidiary of ESI), despite being 100 times more expensive than an over-the-counter generic. According to the Department of Justice, AZ gave Medco price breaks on its other drugs in exchange for Nexium’s preferred position, where it stood as the “sole and exclusive” heartburn medication on certain Medco formularies. AZ eventually paid $7.9 million after settling, a relatively small figure given Nexiums’ $3.6 billion in revenues in 2014, even considering how difficult the case probably would have been.
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Now the Nexium example isn’t totally analogous; it involved additional discounts on other products. However, it does show how the rebating game can influence formulary decisions and that the focus can be on the PBM’s bottom line. A new lawsuit may shed some more light on this. The suit alleges that PBMs extorted rebates from glucose test strip manufacturers by essentially implying the PBMs wanted higher list prices.
PBMs themselves may represent a market failure. The size necessary to generate the best rebates and efficiently process claims allows them to conduct other exploitative practices, including a variety of dealings with retail pharmacies (as covered in the Dayen piece). Whether so many PBMs should have been allowed to consolidate into the current big three is up for debate, although Anthem’s ability to cut off ESI may help indicate it isn’t quite a monopoly scenario. ESI is also a special case, in that it’s a standalone PBM, whereas the other major players (i.e. CVS and Optum) are parts of bigger organizations: CVS with its retail pharmacy and Optum with its national insurance company. Broader portfolio considerations for these PBM’s may mean they have different objectives, but the PBM economics are remain same.
This is also not to absolve other parties of their guilt; there’s more than enough to go around. Mylan’s CEO Heather Bresch attempted to deflect blame over the latest EpiPen price outrage during her congressional hearing by pinning the blame on the the current system, claiming it incentivizes higher prices. Various executives and industry groups have also joined in and a blame game has emerged as various sides attempt to maintain their relative innocence against each other as public outrage grows over apparent exploitation and the entire spectrum of American politics seems to agree that the healthcare system is in some way broken and needs fixing. And while PBMs and pharma may be pointing fingers now, it’s likely that both have been benefiting nicely.
Still, PBMs are but one example of distorted incentives and eyebrow-raising results.
There’s plenty more to cover on the part of manufacturers, providers, and other parties. At the same time, there are some serious and challenging issued to be discussed on how systems should work that aren’t as simple as prices being high. We’ll get back to it in Part Three.
David Chen is based in Boston.
