Drug Pricing, Demystified (Part II: The Intermediaries)
One in a Series of Commentaries on the US Healthcare System
If looking at this infographic gives you a headache, you’re not alone. A simplified rendering of the brand drug distribution chain, it’s still exasperatingly complicated. It also exemplifies the difficulty inherent in understanding how the distribution system works, who profits, and where along the chain there may be opportunities for reducing drug costs.
As mentioned in Part I, there is an array of middlemen who — literally or figuratively — touch a prescription drug before it gets to you. Each intermediary profits from this interaction. Therefore, drug companies pad the price of each drug up front so that this skimming along the way doesn’t lower a drug’s expected profitability for the company.
Drug companies make separate, confidential price discount or rebate agreements with each intermediary. Therefore, external parties (e.g., other companies, consumers, government agencies) do not know the amount of the discount nor how much profit each middleman earns per transaction. In an attempt to bring additional clarity to this process, the following is a description of the middlemen in the commercial (i.e., private, employer-sponsored and Medicare) insurance market, and how each profits from drug sales:
Outside this commercial system, drugs also flow to consumers who are beneficiaries of certain government-run programs that have tighter control over drug costs. For example, the federal government mandates that drug companies sell their products to Medicaid, a publicly-funded health insurance program for lower income and disabled people, at a lower cost than is available to commercial insurers. Most of the middlemen described above also profit from drugs bought and sold in this program.
Ultimately, an incredibly complex picture of the brand drug prescription pricing system emerges when looking at all the factors and players involved. Understanding this complexity is crucial as our lawmakers; drug company insurance and PBM lobbyists; physician and hospital associations; and consumer groups continue to debate drug pricing. As these discussions progress, here are a few key considerations drawn from what we know about the current system:
First, brand drug companies utilize a business model that results in ever-higher prices, not only for new drugs but for older brand drugs. The companies’ challenge will be to fundamentally alter this business model, while ensuring continued investment in new and truly innovative treatments. To date, companies have been reluctant to tinker with a system that has ensured them sustained growth and high profitability for so long. That said, I think even brand drug companies are recognizing that the current business model is unsustainable for political and socio-economic reasons. Their long-term business success may depend on their willingness and ability to change.
Second, any significant shift in drug company pricing practices will impact the distribution middlemen, and vice versa. Relatively speaking, wholesalers, pharmacies and physicians profit only marginally from brand drug sales. Among the intermediaries, PBMs have the highest financial stake in the current system. Altering their business practices could have the greatest — and potentially the most positive — impact on moderating drug costs. While PBMs do get drug companies to provide rebates, these “savings” are exactly what constitute PBM profits. And, rather perversely, higher initial drug prices also mean higher profits for PBMs. True, they may pass on some rebate dollars to the insurers who hire them, but consumers do not realize any meaningful savings.
Third, consumers (often called “patients” in the healthcare context) are usually at the bottom of the list of key considerations when it comes to reining in drug or other healthcare costs. While all the players claim that consumers are their №1 priority, many drug cost-reducing proposals — sometimes as an unintended consequence — may reduce patients’ access to the medicines that will help them the most. Consumer advocacy groups must have an equal voice at the table.
Finally, everyone who has a stake in this ongoing debate, especially our political leaders, should be wary of what seem like sweeping, easy fixes to the drug cost problem. There are no solutions that won’t require careful consideration and implementation; and there will always be trade-offs. In Part III of this series, we’ll look at a few current drug cost-containment proposals and their potential ramifications in the context of our larger, expensive but inefficient healthcare system.
Drug Pricing, Demystified (Part II: The Intermediaries)
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