Big companies form an alliance to find ways to reduce pharmacy costs

The path that prescription drugs take from the lab to your medicine chest is a long and complicated one. And the journey is made still more complex by the role of a very important, but little understood middleman known as the pharmacy benefits manager.

These companies fill a crucial role by negotiating with drug makers on behalf of health plans, unions, and some employers to get the best price, which is particularly critical as the cost of medicines is ever-rising. Yet PBMs also stir controversy over concerns they may not always pass along savings — called rebates — they negotiate for their clients, but instead pocket those funds to fatten their own bottom lines.

So a group of more than two dozen of the largest US corporations — including such household names as Macy’s, Coca-Cola, and American Express — recently formed an alliance to find ways to reduce health care costs. And one idea is to overhaul the way that PBMs are paid. Whether they have the clout to succeed is unclear, but Wall Street estimates the members of the alliance collectively spend $3 billion per year on pharmaceuticals.

The goal is to provide some transparency into a murky world — and it’s long overdue. To keep it simple, the Health Transformation Alliance, as it’s called, may seek to rewrite their contracts in order to eliminate any undisclosed drug company rebates that PBMs might hold back for themselves. Instead, the companies would pay PBMs for the actual cost of medicines, plus an agreed-upon fee.


Presumably, this would lower corporate health care bills that, in turn, could lower employee costs. There have been previous efforts over the years by corporate America to peel back the PBM curtain, but this approach would amount to a radical shift for the largest PBMs – notably, Express Scripts, CVS Caremark and United Healthcare’s Optum — which collectively manage about 70 percent of the pharmacy benefits in the United States.

Right now, though, big PBMs have the upper hand.

For instance, in their contracts with drug makers, a PBM may classify a rebate they’ve negotiated as a type of fee, allowing them to keep it rather than pass it on to their clients. This places the client at a big disadvantage because the contracts are proprietary, which makes it hard to know what the rebates really look like in the first place.


A Path Forward for Lowering Prescription Drug Prices

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It’s no secret that prescription drug prices are the fastest rising part of our healthcare system. That’s especially true in the cases of specialty and life-saving medications used to treat cancer, hepatitis C, and other rare diseases and ailments. But price increases are also prevalent among more common prescription medicines used by millions of Americans. The totality of these unsustainable, across-the-board price increases is impacting patients and those seeking access to such medications; it is also weighing down our health care system and the U.S. economy.

A recent Morning Consult opinion piece appears to miss this point, and moreover includes several citations that merit further clarification. For example, the author cited a controversial figure that pegs the average cost of developing a new prescription drug at $2.6 billion. But that number is far from accepted within the medical community. When the figure was initially floated in 2014, the director of policy and analysis for Doctors Without Borders put it plainly, “If you believe that, you probably also believe the earth is flat.”

Transparency about what is spent and how prices are set would improve the quality of the debate over drug pricing and actual value.

But the larger problem with arguments about the cost of developing drugs is a misunderstanding about the nature of “sunk costs.”  Simply put, sunk costs do not affect optimal price decisions.  Drug company cash flow today finances today’s R&D and marketing and profits.  Yesterday’s R&D was financed with yesterday’s cash flow. Today’s prices are set to maximize profits given today’s competitive conditions, regardless of how much or little any specific drug cost to develop.

Let’s be clear: the reason to avoid draconian price controls is to keep innovation flowing.  But we do not need to allow drug companies to make as much as they are making to keep today’s R&D flowing, since so much of their current cash flow – more than they spend on R&D according to Global Data is spent on marketing.  Clearly they could cut marketing, which rarely improves clinical quality for any patient, without harming today’s investment in the drugs of the future.

The core complaint about today’s competitive conditions is that we’ve allowed an unbalanced situation to develop.

We have lately over-incentivized innovation with very long extra periods of monopoly called “exclusivity” during which developers can keep their clinical trial data secret and force competitors to perform expensive and redundant trials.  This is the main problem with new incredibly expensive biologics and the biosimilars we are unnecessarily delaying from providing market competition. We have also allowed FDA backlogs for approving new generic drugs to lengthen due to lack of resources, and this has prevented lower cost generic drugs from getting to market.

Even established companies like Pfizer have piled on, increasing prices twice this year. The first increase came in January when prices for 133 of its medications rose by an average of 10.4 percent. It happened again just last month with another price hike averaging nearly 9 percent.  These hikes have nothing to do with past drug development costs.

This is not to debate the importance of developing life-saving drugs. The research and innovation of new treatments is critical to healing countless illnesses and diseases. Yet affordability and long-term health system sustainability must also be part of the equation.

Data from the Institute for Healthcare Informatics shows that over the last five years, prices for specialty drugs that require careful handling or administration have increased by a staggering $54 billion. These price increases accounted for 73 percent of increased U.S. spending on medications.