Understanding specialty drug pricing, and the flow of health care dollars through the lens of the stakeholders involved.
Throughout the past few years, the topic of drug pricing in the United States has become increasingly controversial. The rise in patient out-of-pocket costs coupled with growing drug spending for plan sponsors has drawn the attention of stakeholders throughout the health care space, along with politicians and the news media.
Everyone is trying to understand the source of rising drug costs. It seems that many suggest changes or point fingers without truly understanding the complexity of the system and the challenges that these intricacies cause for all stakeholders.
Pharmaceutical manufacturers and pharmacy benefit managers (PBMs) take the brunt of the frustration from those who suggest solutions, but they are not the only players in the system. Rising drug costs cannot be mitigated simply by pulling a lever.
Let’s take a deeper look at the flow of the health care dollar through the lens of the manufacturer, wholesaler, specialty pharmacy, PBM, plan sponsor, and patient. Hopefully once we have a better understanding of the way that the system functions, we can work together towards a solution that is mutually beneficial for all stakeholders.
The first important factor to understand about drug pricing is that there is not a single price for a drug. There are two primary prices that can be attributed to a drug before it reaches the patient.
The first price is the wholesale acquisition cost (WAC), which is set by the manufacturer. The WAC represents the list price of the medication for wholesalers and direct purchasers.
Also to note is that WAC does not include any discounts or rebates that the manufacturer may negotiate with these entities. The second price that is attributed to a drug is the average wholesale price (AWP), which is a benchmark that has been used in the industry for more than 40 years.
It was initially intended to be representative of the average price that providers and pharmacies paid to wholesalers for drugs. However, AWP is rarely a true representation of the price that wholesalers are paid for products.
AWP is not a regulated figure and is typically calculated by adding a 20% markup to the WAC. The AWP is calculated and published by pricing publications, such as Medispan.
Now that we understand the most common published prices for drugs, let’s review the high-level pathway that the drug takes on its way to the patient. To keep it simple, let’s talk about a pathway that includes a manufacturer, a wholesaler, and a specialty pharmacy.
Once the drug is manufactured, it is purchased from the manufacturer by a wholesaler, who will store the medication in a warehouse until it is ordered. A specialty pharmacy then orders the medication to dispense to the patient. Sounds simple, right?
Manufacturer → Wholesaler → Specialty Pharmacy→ Patient
Unfortunately, the pricing conversation is not this simplistic, as the arrows to demonstrate the flow of payment throughout the system point in both directions. There are additional stakeholders who are not represented in this workflow.
The two stakeholders not represented are PBMs and health plans or plan sponsors. In order to include these stakeholders in the conversation and to delve into the complexity around pricing, let’s look at the flow of payment throughout the process.
In order to demonstrate the process and the flow of payment throughout, I’ll use a hypothetical example of a specialty medication for a patient that has a wholesale acquisition price of $6000. As I mentioned earlier, this price is set by the manufacturer.
Based on a 20% markup to this price, the published AWP would likely be approximately $7200. Let’s assume that the wholesaler purchases the medication from the manufacturer at a WAC of $6000 minus a 5% distribution fee ($5700).
The specialty pharmacy has a contract with the wholesaler to pay WAC minus 3% for the medication, so the pharmacy pays the wholesaler $5820 when purchased. The wholesaler retains $120 and the drug is now in the hands of the pharmacy.
When the pharmacy dispenses the drug to the patient, the patient pays 20% coinsurance calculated from the AWP minus 15% ($1224). Hopefully, the manufacturer provides a co-pay assistance card for the patient to decrease their out-of-pocket costs.
The other payment that the pharmacy receives is the dispensing fee and ingredient cost reimbursement from the PBM of $2 and $4860 (AWP minus 18% minus coinsurance) respectively. Note that the percentages used are approximate and would be determined based on contracting.
The specialty pharmacy also will collect administrative and data fees from the manufacturer of $240 (4% of WAC). Let’s review the pharmacy payment and pricing.
The pharmacy paid $5820 for the medication and received the following: patient coinsurance of $1224, PBM payment of $4862, and manufacturer payment of $240. The pharmacy retains $506 and the medication is in the hands of the patient.
We aren’t finished just yet. We discussed the PBM payment to the pharmacy but did not discuss how the PBM is paid for their services or how the plan sponsor fits into the process.
At this point, there are contracted rebates and administrative fees received from the manufacturer that are split between the PBM and the plan sponsor. The plan sponsor must also reimburse the PBM for the ingredient cost of the medication.
For example, let’s say that rebates are 30% of WAC, or $1800 ($1500 base with $300 price protection), and the administrative fee is 5% of WAC ($300). These are then divided between the PBM and plan sponsor.
The PBM retains 75% of the administrative fee, 10% of the base rebate, and split the price protection rebate 50/50. The ingredient cost is reimbursed by the plan sponsor at a rate of AWP minus 16% minus coinsurance, plus a $2 administrative fee for processing the claim ($4824).
At the end of the day, the PBM walks away with $487 and the plan sponsor brings in $1575 for their share of rebates and fees, which brings their total cost to $3249. The medication is in the hands of the patient and most of the stakeholders have received their piece of the pie.
To close the loop on our path of the health care dollar through the specialty pharmacy process, let’s circle back to the manufacturer. We talked about the purchase of the medication by the wholesaler and some fees and rebates paid out along the way, but how does this look through the lens of the manufacturer?
The wholesaler paid $5700 to the manufacturer to purchase the medication at the beginning of the process. After that, the manufacturer paid the pharmacy $240 for administrative and data fees, and paid rebates and fees to the PBM that totaled $2100, which leaves the manufacturer with $3360.
To recap, for a medication with a WAC of $6000 and an AWP of $7200, the manufacturer retained $3360. The wholesaler retained $120, which may be a high estimation based on the tight margins under which wholesalers operate.
The pharmacy retained $506 after a coinsurance payment from the patient of $1224. The PBM walked away with $487 and the total cost to the plan sponsor was $3249.
Therefore, the simple process of the product flow discussed earlier from the manufacturer on through to the patient became complex very quickly via the payment exchanges taking place at each step throughout the journey.
The process that we walked through is a fairly simplistic view of the actual specialty process. We left out payments to other potential stakeholders, such as hubs and data aggregators as well as additional billing layers, such as secondary payers, co-pay cards, and patient assistance programs.
If we were to walk through a real-life case, it would be more complex, as additional layers of the process are fairly common. We also walked through an example in which there were set percentages to calculate cost and reimbursement. These vary greatly throughout the industry based on contracts between all of the stakeholders.
These percentages can vary based on the number of patient lives covered in a contract between a PBM and plan sponsor, or the number of pharmacies included in a distribution network for a new drug brought to market. They can also differ between pharmacies of various sizes that purchase different volumes of medications from wholesalers and PBMs that offer manufacturers preferred status on their formularies.
There are endless sources of variability within the system that cause increased complexity at each step in the process.
Based on this example and the additional opportunities for added variability that we discussed, it’s not surprising that the topic of drug pricing in the United States has been a source of confusion and frustration to many, especially those unfamiliar with the health care industry.
I hope that working through the example helped to demonstrate the journey of the health care dollar throughout the specialty pharmacy process through the lens of all of the stakeholders involved. As health care professionals, we have a responsibility to understand the intricacies surrounding drug pricing in our industry.
It is up to all of us to gain a deep understanding of the process so that we can educate those around us, as well as our leaders and policymakers so that they can make informed decisions. It is only in this way that we can bring about positive, innovative change that will benefit all stakeholders.
About the Author
Kimberly Firtz earned her Doctor of Pharmacy degree from Duquesne University and earned her Master of Science in Pharmacy Business Administration (MSPBA) degree at the University of Pittsburgh, a 12-month, executive-style graduate education program designed for working professionals striving to be tomorrow’s leaders in the business of medicines. She has spent the last 5 years working in specialty pharmacy, initially as a clinical pharmacist and most recently working on a variety of high profile specialty operations projects. Her current role is working with the Process Innovation team in an effort to transform specialty operations and optimize the stakeholder experience.