JAMA viewpoint calls out rebates, highlights complexity of pharmaceutical distribution and financing – July 11, 2017

Executive Highlights

  • A recent JAMA viewpoint, authored by leaders from Harvard Business School who focus on health economics, calls attention to the complex financial structure underlying the US drug industry.
  • In 2015, 27% of total pharmaceutical sales revenue ($115 billion) was paid by manufacturers to PBMs/payers in the form of rebates – this is far higher than we had imagined. This complicated rebate structure, embedded in the current price-setting system, leads to complexity and a lack of transparency, particularly around decisions made by the middlemen PBMs. The authors allude to the negative impact that such complexity has on patients.

A recent JAMA viewpoint by Drs. Matan Dabora, Namrata Turaga, and Kevin Schulman (Harvard Business School, Boston, MA) explains the complexity of pharmaceutical pricing, sales, and distribution. The article considers the interplay between manufacturers, distributors, payers, pharmacy benefit managers (PBMs), and patients, noting marked consolidation in the healthcare system. For example, CVS Caremark, Express Scripts, and UnitedHealth’s Optum grew to control 73% of the PBM market between 1980 and 2015, acting as middlemen between manufacturers and public/private payers (but making pricing decisions that also impact patient out-of-pocket expenses, retailer profits, etc.). The authors suggest that the parallel but separate development of pharmaceutical distribution vs. financing mechanisms has created tremendous complexity, with a simple distribution scheme connected to a convoluted financial structure.

In what many consider to be the crux of financial complexity in the drug market, the piece briefly addresses the role of rebates. Manufacturers deliver cash payments to health insurance companies, distributors, and PBMs – these rebates both reflect and create the drug industry’s complex pricing setup. In 2015, 27% of total pharmaceutical sales, a grand sum of $115 billion, was paid by manufacturers to PBMs and payers. This highlights a key point in the controversy over rising cost of prescription drugs in diabetes, particularly insulin: There is a distinct margin between the list price (what the public sees) and the price realized by the manufacturer, in part because of the 27% of pharmaceutical sales flowing away from manufacturers in the form of rebates (see our coverage of Lilly’s 2016 Integrated Summary Report for more on this). To be sure, we see a significant need for more transparency from PBMs, regarding the pricing and rebate decisions they make, and the value they may or may not add to the system. As Dr. Irl Hirsch (by now known for his passionate rants on soaring insulin/diabetes care costs) articulated at CMHC 2016, PBMs have been largely absent from conversations on prescription drug cost, which makes it challenging to trace the problem to a source and precludes any real solution. In our view, the complicated web will only be untangled and resolved through more cooperation and transparency from all players – payers, manufacturers, and PBMs, alike. To this end, we were glad to see position statements on pricing transparency from Novo Nordisk, Lilly, Sanofi, and J&J. We hope to see many others, including PBMs, follow suit.

  • There has been major consolidation on the distribution side of the pharmaceutical industry as well, with three companies – AmerisourceBergen, Cardinal Health, and McKesson – comprising 85% of the market in 2015. That year, the three had an estimated combined revenue of $378 billion. The authors emphasize, however, that distributors definitely add value to the system by reducing the number of transactions between manufacturers/retailers; 91% of overall pharmaceutical sales revenue is mediated by distributors, who purchase from manufacturers, provide warehousing, and distribute products to retailers.
  • The article establishes the size of the US drug distribution business and its components – estimated at ~$446 billion in 2016. Nearly half (47%) of noninstitutionalized US residents use ≥one prescription drug, and 10% use five or more – more than likely a disproportionate number of the latter are people with diabetes. An estimated 4.4 billion prescriptions were filled at one of the nation’s 60,000 pharmacies in 2015. The largest 15 pharmacies – including CVS, Walgreens, Express Scripts, and Walmart – net $270 billion for the full year 2015, accounting for 74% of all retail prescription revenue.
  • In 2015, 42% of prescription drug spending came from private insurance, which provides benefits through PBMs. Most of the remainder was split between Medicare (30%), Medicaid (10%), and out-of-pocket payments (14%). Notably, currently, Medicare Part D is legally forbidden from negotiating with manufacturers the way that private insurance/PBMs can. Medicare Parts B and D cover physician- and self-administered drugs, respectively, and are funded largely (76% and 80%, respectively) by general federal tax revenue.


-- by Ann Carracher, Payal Marathe, and Kelly Close