To some, examining how pharmacy benefit management companies function is like watching sausage being made. No matter how tasty
the product, it's not a pretty sight.
Robert Garis, Ph.D.
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"It is difficult for anyone to completely understand how these companies work," said Robert Garis, Ph.D., an assistant professor
in the pharmacy school at Creighton University, Omaha, who has studied PBM profit margins. "Few people have the expertise
to see what the true costs are for a drug benefit, including the employers who hire these companies."
PBMs make profits two ways: on rebates from manufacturers and on "the spread"—the difference between the drug ingredient cost
billed to the employer by the PBM and what is paid to dispensing pharmacies. Rebates and spreads vary widely, depending on
the drug, the manufacturer, and the PBM-payer contract.
"PBMs make a totally unreasonable profit on the spread for generics," contended Garis, who provided an example of how a PBM
might make such a profit. The PBM, he said, contracts with a pharmacy to provide a generic substitute at a maximum allowable
cost (MAC) set by the PBM, which is usually much lower than the published average wholesale price (AWP) for the product. The
PBM's contract with its payer is AWP minus 20% plus a fee. In this example, the PBM can realize extra revenue amounting to
the difference between the AWP minus 20% charged to the payer and the MAC paid to the provider pharmacy. For lovastatin, for
example, with an AWP of $239.41 for 100 20-mg tablets and a MAC of $124.88, the PBM charges the payer $195 and gives the pharmacy
$128, pocketing a difference of almost $67.
Mark Merritt
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In a study published in early 2004, Garis found the spread for generics much greater than that for branded drugs. Calling
the spread "substantial and widely variable," he recommended legislative remedies. His study received considerable media attention.
"We found, and continue to find, a lack of transparency in the industry that allows for the creation of inappropriate profit
centers," he said. He continues to study PBM profit structures.
PBM industry representatives sharply disagree with Garis' assessment. They are supported by a series of U.S. Government Accountability
Office reports in the past few years and a joint report in 2004 by the Federal Trade Commission and the Department of Justice,
concluding that PBMs are highly successful in controlling costs, primarily by encouraging the use of generics. The reports
influenced Congressional staff in the design of the new Medicare drug benefit, which is being managed largely by the PBM industry.
New generic tool for consumers
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"Our members are highly effective at meeting the needs of the marketplace," said Mark Merritt, president and CEO of the Pharmaceutical
Care Management Association (PCMA), the industry trade organization. "PBMs repeatedly demonstrate their value to payers, including
the promotion of generics."
The PBM industry is in fact very competitive and successful, and increased generic utilization no doubt contributed to the
improved bottom line. PCMA and independent studies have found that the approximately 60 PBMs currently managing pharmaceutical
benefits have significantly increased generic utilization. Merritt said such efforts are a reason the trend toward overall
prescription drug costs is beginning to slow. On March 1, 2006, Medco—one of three PBM giants, along with Caremark and Express
Scripts—reported a record generic utilization rate of better than 52.5% in the last quarter of 2005, up 4.4% from the same
period in 2004. Reports by industry leaders show that PBMs are also financially successful. Medco also reported on March 1
that it experienced record net revenues of $10.8 billion in the last quarter of 2005, up 21.2% from the same period in 2004.
Merritt explained that health plans and employers who hire PBMs to manage their drug benefits choose from two models: a "pass-through"
administrative model that simply manages the benefit; and a "price guarantee" model, in which the PBM guarantees the client
a set price for a basket of drugs. In the latter model, the PBM profits from rebate deals it makes with manufacturers and
from paying R.Ph.s the lowest possible ingredient costs and dispensing fees.
"Generics are the focal point for PBM revenues," said Doug Wittenauer, president of Pharmacy Data Management Inc., a claims
processing company in Boardman, Ohio. "They make a practice of manipulating their proprietary MAC data to create an increased
level of spread."
The industry fought back when Garis published his data about generics, accusing him of being in the pocket of the National
Community Pharmacists Association through an NCPA grant. "I did sign an agreement for an investigative grant for $12,500 with
the NCPA to further study PBM pricing after my work was completed," acknowledged Garis. "The trade association [PCMA] has
a tendency to react very aggressively to criticism."
Garis is not alone in his criticism, of course. According to Gerry Purcell, a consultant in Atlanta and a former PBM executive
who has worked as a consultant for plaintiffs in several lawsuits against PBMs, "the crux of the issue for their critics is
that they negotiate hidden deals for their own benefit, all the while telling employers that their job is to represent them."
Purcell, Garis, and advocacy organizations such as the Consumers Union have called for greater fiduciary transparency by the
industry to avoid such practices. Their demands have had an effect. About a half-dozen states have passed laws that increase
scrutiny of the companies, and about a dozen more are considering such legislation, according to the National Conference of
State Legislators.
In addition, about 20 state attorneys general have sued PBMs for unfair practices and alleged secret deals, as have more than
a dozen companies, according to the NCPA. Such efforts have on occasion been successful. In 2004, Medco settled a class action
suit for $42.5 million that covered 815,000 drug benefit plans and alleged that the PBM had promoted higher-priced drugs to
enhance its profit margin. But last December a federal appeals court rejected the deal as potentially insufficient, opening
the possibility that Medco—which did not admit to any wrongdoing in the settlement—could face a new spate of lawsuits. Also
last December, Caremark agreed to pay $137.5 million to settle a suit by the Department of Justice claiming illegal kickbacks
from drug companies to AdvancePCS, acquired by Caremark in March 2004.
Greater transparency would resolve many of these problems, according to Garis and others. But PCMA's Merritt said that not
all PBM client employers want transparency in their contracts. "Many companies just want our members to get the job done,"
he said.
Perhaps, said Garis, but an increasing number want to know how the sausage is being made. "When I describe the business practices
of these companies to employers, the reaction is often shock," he said. "Clients who discover exactly how these companies
work tend to want to know more about them, not less."
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