Stunning breakthroughs in the use of living organisms to create new pharmaceuticals are resulting in groundbreaking treatments for cancer, multiple sclerosis, rheumatoid arthritis and other diseases, but the price tag for the medications can be staggering. 

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Drug companies spend an estimated $2.5 billion to bring a new drug to market today.

Most of the more than 1,000 cancer drugs now under development will cost an average of $10,000 per patient per month.

Spending on prescription drugs reached $263 billion in 2012—9.4% of total U.S. healthcare spending.

Experts worry the costs could be unsustainable, and brokers need to figure out fast how to navigate their clients through challenging renewals.

The Tufts Center for the Study of Drug Development estimates the cost to bring a new drug to market today at $2.5 billion, compared to an inflation-adjusted $1 billion just 12 years ago. Among the factors driving that increase: the center estimates each new medication made from biologics—essentially the use of living organisms instead of traditional chemical compounds—costs consumers and insurance companies on average between $20,000 and $200,000 annually.

The concept of biologics is not new. They have been used to develop human growth hormone and insulin for decades. But in recent years scientists have turned to fields that include genomics and proteomics to develop hundreds more lifesaving therapies, including treatments for anemia, cystic fibrosis, diabetes, hemophilia and other conditions.

The highest-priced drugs typically treat multiple sclerosis, cancer, hepatitis C and rheumatoid arthritis. According to the trade group America’s Health Insurance Plans, more than 1,000 cancer drugs are now under development, and most of them will cost an average $10,000 per patient per month, or more than $120,000 per year.

Biologics make up the greatest share of the spending on so-called specialty drugs in the United States. Nationwide, spending on prescription drugs reached $263 billion in 2012, accounting for 9.4% of total U.S. healthcare spending. Of the $263 billion, 25% was spent on specialty drugs. Pharmacy benefits manager Express

Scripts projects that by 2020 spending on specialty drugs alone will increase to more than $400 billion a year and constitute 50% of the nation’s spending on prescription medications. IMS Health forecasts that by 2032 spending on specialty drugs will total $1.7 trillion.

This increased spending is showing up in bottom lines wherever benefits managers and brokers meet. Lisa Hawker, president of Hylant’s employee benefits operation, says brokers have been aware of the rising costs for years, but for many clients, seeing is believing.

“We can tell them all these trends: high-cost drugs coming out in the market, the treatment of a lot of conditions that maybe in the past weren’t treatable,” Hawker says. “Sure, they get that. They hear it. It’s the sticker shock when that drug actually hits their plan with one of their members when it becomes that aha moment.”

Why the high costs? The answer depends on whom you talk to.

The Tufts study says factors include increased clinical trial complexity, larger clinical trial sizes, higher cost of inputs from the medical sector and greater focus on targeting chronic and degenerative diseases.

But Stephen Schondelmeyer, head of the University of Minnesota College of Pharmacy and director of the university’s Pharmaceutical Care and Health Systems, says the nation’s inefficient healthcare system is so full of “leaks” that it’s impossible to tell a medication’s true cost.

“This is a marketplace that has a lot of shell games and hidden factors that drive price,” Schondelmeyer says. “Our system is set up in a way that I don’t think it’s possible to make a true value-based decision.

“This is not like a normal market where the consumer can choose whatever product they want and if the price is too high they can choose something else. Prescription drugs are all about the patient having to get a permission slip from the doctor, and the patient can only buy what that doctor has prescribed. It becomes essentially a monopoly because the patient doesn’t have much choice beyond that.”

Others contend drug manufacturers wield their stranglehold on the market to ramp up prices without recourse. According to the World Health Organization, the 10 largest drug manufacturers control more than one third of the global pharmaceutical market, and several have sales of more than $10 billion a year and profit margins of about 30%. Overall, according to the WHO, the global pharmaceuticals market is a $300 billion a year industry that is expected to grow to $400 billion a year within three years—a 33% increase.

This is a marketplace that has a lot of shell games and hidden factors that drive price.

Stephen Schondelmeyer, head, University of Minnesota College of Pharmacy

John Rother, the president and CEO of the National Coalition on Health Care, says escalating drug prices are not sustainable. The coalition heads the Campaign for Sustainable Rx Pricing (CSRxP), a broad-based effort concerned about the rising cost of prescription medicines. Rother cites the introduction of Sovaldi, a breakthrough treatment for the hepatitis C virus, which came to market in 2014 at a cost of $1,000 a pill, or $84,000 for the common 12-week course of treatment. He says about three million Americans are infected with the hepatitis C virus, meaning it would take more than $250 billion to treat that group with Sovaldi.

“It’s not sustainable when millions of people need and could benefit from these drugs,” Rother says. “If we were just talking about a few thousand people, that would be a different story. But when we’re talking about drugs that have wide application, the prices at this level are simply not sustainable.”

Wayne Winegarden, a senior fellow at the Pacific Research Institute, says drug companies spend billions researching and developing products that often don’t make it to market. So when a new drug is successful, Winegarden says, the company needs to recoup its cost. The Pew Charitable Trusts estimates only about one in 5,000 drugs that enter preclinical testing receive approval for sale by the U.S. Food and Drug Administration.

“How do you price intellectual capital?” Winegarden asks. “One of the fundamental problems we have in our current healthcare system is pricing not just across drug costs but across the board.

“What do you have to price in order to cover your cost of capital? That’s something that is missing in the debate. When you talk about what’s a fair price, all of a sudden that starts getting you down a difficult road. In every company you have costs that you have to cover or else you are not going to stay in business. In part of those costs you’ve got to convince an investor to give you money. They have all sorts of other opportunities and other places to place their money. That’s your competition in terms of funding the research.”

Josie Martin, executive vice president of public affairs at Pharmaceuticals Research and Manufacturers of America (PhRMA), says the debate on prices is misguided. Martin says retail prescription medicines constitute about 10% of the nation’s healthcare spending, the same percentage as in the 1960s. And she cites the Centers for Medicare and Medicaid Services (CMS), which recently revised downward, to 5.9% from 6.3%, its projected increase in drug spending from 2014 to 2022.

Martin says the CMS projections indicate the United States will spend $13.6 trillion on hospital care over the next decade, more than three times the projected spending on prescription drugs.

“The fact is, a very small percentage of the population will ever take or need a specialty drug,” Martin says. “When you isolate one thing like that, you get a false picture of what’s really going on in healthcare. This narrow focus on price has led to a focus on the 10% of the healthcare spend that is pharmaceutical, and I think it’s not a helpful conversation because I think it ignores the tremendous value that is brought to patients who take our medications and their lives are transformed and extended.

“Life expectancy has increased dramatically in the last 25 years. Survival rates for people who have cancer are up. The rate of death for people with HIV/AIDs has fallen more than 85%. When you focus so narrowly on costs, you lose sight of the fact that we’re talking about people and their lives and their families and their well-being.”

Schondelmeyer, who has spent 40 years studying the pharmaceutical industry, says drug manufacturers routinely hide costs from consumers through the use of rebates and co-pay coupons.

It’s not sustainable when millions of people need and could benefit from these drugs.

John Rother, president and CEO, National Health Care Coalition

“What they may be doing is steering your patients toward more high-cost, brand-name drugs, giving you a 20% or 30% rebate on it,” Schondelmeyer says. “But it costs $400 for a prescription when there was a generic of the same drug available for $30.”

He says patients are only told how much a drug will cost them at the point of sale and not how much additional the insurance plan pays. That differential is eventually passed on to the consumer through higher premiums in following years.

He says that sometimes patients are given coupons from drug manufacturers to cover or reduce their co-pay for new medications while enticing them away from lower-priced generics. While the coupon may in fact reduce the patient’s bill at the pharmacy, it doesn’t reduce the cost the insurance company pays, which, again, will be passed back to the patient in future premiums.

“On the surface, the coupon looks like it’s saving the patient money,” Schondelmeyer says. “But what isn’t factored into that equation, and what patients don’t think through, is the cost to their employer goes up, which means that next year the cost to that patient will go up because of the experience rating.

“Consumers respond to those behaviors, but it isn’t the true net economic cost of the employee or covered person. The real cost is what’s the premium effect, plus the out-of-pocket cost. These co-pay coupons almost always end up costing patients more in premiums.”

Two Different Markets

No industry spends more on lobbying than the pharmaceutical industry. According to the Center for Responsive Politics, since 1998 pharmaceutical companies have spent more than $3 billion to protect their interests. That’s nearly 50% more than the next highest sector, the insurance industry, which spent $2.1 billion on lobbying fees during the same period, and nearly double the $1.6 billion spent by Big Oil.

“The industry right now is quite successful, and it’s got nice profits and there is really no incentive to change unless people feel like there is the prospect of some adverse action,” Rother says. “That’s going to be the spur to a greater openness to change.

“It’s no secret that the pharmaceutical industry is quite powerful, in part because it does have money and it does have substantial campaign contributions and it does hire a very large number of well paid lobbyists in Washington and in states around the country. However, the people who are affected also have resources—insurers, hospitals, doctors, patients’ groups. But it’s not an equal situation. The industry has much, much more in the way of resources than those who are asking for change.”

Drug manufacturers face relatively fewer governmental restrictions on pricing in the United States. But other Western nations have imposed caps on how much the industry can charge for certain medications, and they negotiate prices for other medications on an individual level. In the United States, President George W. Bush signed legislation in 2003 that created Medicare Part D, which expands Medicare benefits to include prescription drugs but expressly forbids the government from negotiating prices with drug manufacturers, leaving it to insurance carriers to negotiate with the manufacturers over how much price they are willing to split.

The fact is, a very small percentage of the population will ever take or need a specialty drug.

Josie Martin, EVP of public affairs, Pharmaceuticals Research and Manufacturers of America

The result is two different markets. In the United States, the same brand-name patented medication costs, on average, 40% more than in other countries. Pharmaceutical manufacturers say the global caps force them to sell their wares outside the United States for less than their cost, shifting the cost to U.S. business and consumers.

“Globally, if you just look at wealthy countries, you are more than doubling the population that is using the drug,” Winegarden says. “And because they impose price controls, you have a smaller population you can effectively get your cost for return of capital. They’re shirking their responsibility and pushing that cost onto the American consumer.

“If we went that route, we would inevitably bring the innovative pharmaceutical industry to a halt because there would be no place where they could get that return of capital. They are forcing the U.S. consumer to cover the majority of their costs, where if they didn’t have these price controls their prices might be higher and our prices would come down tremendously.”

Schondelmeyer says the price imbalance puts U.S. firms at a disadvantage globally, but he doesn’t believe the drug manufacturers lose money overseas.

“Every employer in the U.S. who competes on the global market is paying about a 10% higher cost for healthcare than any other country in the world,” Schondelmeyer says.

“While the drug companies will tell you on the one hand that lower prices elsewhere mean they have to raise their price here…they are still making money in those other markets. They are not forced to be on the markets in any of those countries. If the drug companies were losing money, they would leave those markets.

“If suddenly all of the European markets said, ‘We’re going to pay U.S. market level prices,’ would the prices go down in the U.S.? No. Because the drug companies can still keep charging the same price in the U.S. and they don’t want to lower it. While they argue that they have to charge higher prices here because of lower prices elsewhere, you can’t assume that the reverse of that is true.”

PhRMA’s Martin says drug pricing is complex and that insurance companies have been able to bargain successfully.

“Drugs aren’t priced like consumer package goods,” says Martin. “They’re not priced and then stuck on a shelf where people go in and buy their cereal all at the same price. That’s not how it works. You have payers that have tremendous negotiating power, and you have PBMs that have tremendous negotiating power.

“Insurance companies do a really good job of using the tools available to them, whether that’s with formularies or step therapies or other measures. I think that’s probably a much more effective way in the United States for achieving some savings and preserving the innovative capital of the industry.”

Schondelmeyer says insurance carriers can only be effective negotiators if they are willing to make hard choices about not covering certain higher-priced drugs.

“We are talking about people’s health and life,” Schondelmeyer says. “They have to make choices. You have to be a savvy buyer and realize that rebates don’t always save you money and generics sometimes are marked up. Even with that, you have to be willing to make decisions about which drugs will you cover or not cover or which drugs you are going to place on prior authorization for safety or appropriateness reasons or cost reasons.

“Would they be a better negotiator? If CMS is negotiating for all of Medicare Part D plans, which may account for a third of all prescriptions in the country, I find it hard to imagine that someone would have more market leverage. What is perhaps in question is what tools they would use and does the government have people who work for them who have the knowledge and the skills to work effectively?”

The increasing prices are being felt throughout the healthcare system. Michelle Vancura, senior vice president of Cigna Pharmacy Management, says customers are looking to cut their pharmacy spending any way possible.
“Clients are looking for solutions, and they are willing to be more restrictive in their plan design than they have been in previous years,” Vancura says. “We’ve had a lot more interest from clients in restricting the networks, making sure that we are working closely and incenting their patients. They are very willing to tighten the screws on where people go and what the covered benefits actually are—more willing than they have been for the past seven or eight years.”

Whatever the cause, rising drug prices can be an opportunity for brokers.

Mike Miele, senior consultant with Arthur J. Gallagher & Co.’s Benefits and Human Resources Consulting division, says there is a chance here for brokers to differentiate themselves from competitors.

“Historically, the brokerage community did not really look at pharmacy as a separate line of coverage,” Miele says. “It was always just part of the medical. But pharmacy now is 25% of medical costs, and it requires its own focus as well as its own set of expertise. As a broker, I’m very excited about the opportunity for Gallagher to do more business because of this pharmacy problem and because we have spent many years developing a robust expertise around managing pharmacy costs.”

What Can You Do?

Greg Mansur, principal in PwC’s human resource services practice, says the increasing prices are causing concern for customers and forcing brokers to be creative.

“The specialty pharmacy area is the biggest area of exposure relative to pharmacy costs in their medical programs,” Mansur says. “If you look today at the cost of specialty pharmacy for most employer plans, we’re talking about a cost distribution that is roughly half found in the PBM side of the total healthcare cost and the other roughly found in the medical plan side.

“When employers are looking at opportunities to manage those costs, they need to get out of that PBM silo mindset and try to think more broadly about what the challenges are and then what the appropriate solutions are. Unfortunately, this doesn’t have the same simple type of solution as we’ve seen where you just tweak it and try to direct the people to a lower-priced channel of drugs.”

Miele says brokers can help clients design programs to mitigate some of the increased costs.

“There are some real basic blocking and tackling devices in every brokers’ toolbox: plan design changes, creating incentives for employees to be more cost-conscious about what drugs they are getting, et cetera,” Miele says. “We want to make the employees aware of what these things cost. So moving to things like high-deductible plans and an HSA brings these costs to the forefront in an employee’s mind. There’s always going to be that latest and greatest drug, but it’s only marginally better. It’s not 10 times better than the previous drug.”

Hawker says the issue has her firm looking for ways to salve the wound.

“We’re seeing issues relative to higher costs and employers looking at how to cover those drugs, whether that is what exclusions they need to be making, plan design options, or trying lower-cost medications first,” Hawker says.

“We can definitely quantify it. We’ve got clients for whom we actually, on an ongoing basis, evaluate their drug utilization, especially high-dollar drug utilization. Some of the drugs we’re looking at, like the MS drugs, are seeing a pretty hefty spike. The cancer drugs are obviously having an impact.”

Some brokers have begun moving certain specialty medications from the pharmacy side to the medical side of the insurance package. The result can be a shifting of some of the costs from the employer to the employee. And if the employee is responsible for more of the costs, the argument goes, the employee will try lower cost alternatives first.

“Some of them are starting to go down the path of really deconstructing the data to see if you can have more cost-effective channels on the medical side,” Mansur says. “And if we do, how can we direct more into that category? Some of it requires a conversation between the medical and PBM side to get on the same page, so you need to engage the clinical management functions of your medical carrier as well as your PBM. Some of it is communications with the employees who are affected by this.”

Hawker says Hylant has started moving specialty to the medical programs.

“Most of our clients have moved any kind of specialty medication into their medical programs,” Hawker says. “We are also seeing some clients who are putting in more mandatory programs around using generics or therapeutic alternatives and trying lower-cost alternatives first so that, before the member goes in and hears the flavor of the month, the newest and greatest drug from their physician, they have to try these tried-and-true therapies first.”

Is this an opportunity for brokers?

“I think it is for those brokers who are looking closely at it,” Hawker says. “Some brokers have tried to develop pharmacy benefit management coalitions where there is some negotiating with pricing to help their members, some smoothing of costs. There have been a number of techniques that brokers can use. I think for that broker who is really tuned into what is happening in the pharmacy area there definitely is a way to help with those pharmacy costs.”

Are There Solutions?

Schondelmeyer says it would help if physicians knew how much specific medications cost, but doctors don’t have enough time or information to stay abreast of drug costs.

“Physicians obviously are the people who diagnose and determine what medication you are going to use, and they are very good at that in general, but physicians in general don’t know the relative prices of drugs,” Schondelmeyer says. “They haven’t studied the prices; they don’t have access to them. Even if they wanted to know the prices, most of their rebate contracts with PBMs and managed care plans specify that the rebate and net price cannot be disclosed to anyone, including the doctor.”

Schondelmeyer says he would like to see prescription drugs come with an explanation of benefits that would detail for the patient how much the drug costs the patient and the insurance company, but he doesn’t know how that could happen in the current healthcare system.

“The third party should be required to disclose to the patient that this will cost you zero dollars out of pocket but it costs your plan $400 versus here’s an alternative that costs you $10 out of pocket and your plan $30,” he says. “They could estimate a net effect on premiums in the next year if that behavior continues so that the patient can realize what this drug is really costing me.

“The purchasing process for prescriptions is divided into so many steps that it’s hard to decide at what point we implement that. If you do it in the pharmacy, if the patient wants something else, they have to go back to the doctor and get it. If you do it in the doctors’ office, the doctors say I’m too busy, you’re not paying me enough to be a price cop for the drug market.”

Martin says PhRMA wants to see more balance in rewarding those who are saving the healthcare system money. “We would like a system that rewarded investment, that rewarded innovation, that rewarded the tremendous value we bring to patients, both in dollar terms but also in the quality of their lives,” she says.

That’s an idea that Rother can support.

“We should pay for things that actually add value to the healthcare system and not so much for things that simply add costs,” Rother says. “For instance, if you had a drug that actually made hospitalizations for some condition unnecessary so you avoided the cost of the hospital stay, then that drug is actually worth something.”

It may also be time to rethink to the insurance model.

“If you think about it, nobody in this country has health insurance, as insurance is really known outside the health industry,” Winegarden says. “When you have automobile insurance, it’s there for when your automobile crashes, not for your car maintenance. The way our insurance system should be working is when you need the expensive drugs is when the insurance should be kicking in. It shouldn’t be kicking in when you go to the doctor for a routine test.”