Weekend Reads | These Middlemen Help Make $1 Trillion in Annual Revenue for a Handful of Health Corporations

by Kevin Schofield

This weekend’s read is from the Federal Trade Commission: an interim report published in July on its investigation into pharmacy benefit managers.

A pharmacy benefit manager (PBM) is a “middleman” company that a health insurer contracts with to draw up a “formulary,” the list of drugs that will be covered by its insurance policies, and to negotiate contracts with drug manufacturers for inclusion of those drugs on the formulary — including kickback “rebates” to the insurance company (and sometimes to the PBM as well). If this sounds like a fishy arrangement to you, then you might want to sit down, because the story is far worse.

In the past 20 years, PBMs have taken a central position in the American health care system, in large part because the PBMs have been swallowed up by larger health care corporations as part of a “vertical integration” of the industry. These conglomerates now include not only health insurance companies and PBMs, but also drug manufacturers, health care providers, retail and mail-order pharmacies, and “specialty” pharmacies. They increase their profits by directing more business from one part of the corporation to another part: for example, ensuring that the drugs made by their pharmaceutical company are included on their formulary, and that their pharmacies stock and deliver those drugs. They often will also provide favorable treatment to their in-house companies: for example, their pharmacy may have lower acquisition costs and higher insurance reimbursement rates for the drugs made by other arms of the corporation. To make matters worse, the FTC found that they go much further by placing restrictions to keep the business in-house, including by having the health insurance company require that patients fill prescriptions at the in-house retail or by-mail pharmacy company – even if there is no affiliated retail pharmacy near a patient and the by-mail pharmacy takes days to deliver there. They will also sometimes remove cheaper generic versions of drugs from the formulary to reduce competition and inflate the price of the drug to increase profits. The FTC also found evidence that they may remove from the formulary drugs that compete with the ones they manufacture themselves, or even direct their health care provider specifically to prioritize prescribing their own drugs.

These large, vertically oriented corporations have used these tactics to consolidate an enormous fraction of the U.S. health care market into the hands of a small number of players. Today, the top three PBMs collectively manage 79% of prescription claims from about 270 million Americans; the top six PBMs manage 94%.

The FTC found that the four largest conglomerates together have over $1 trillion in annual revenues, representing 22% of all health care expenditures in the country. For all the resistance to establishing a national health care system, we essentially already have one, except that rather than being run by the government, it is almost completely controlled by a small handful of large corporations trying to maximize their profits.

The FTC report details some of the other tactics used by PBMs and their corporate umbrellas to extract even more money from the U.S. health care system. One of these is “specialty drugs.” A specialty drug, the report explains, historically has been a drug requiring special handling and administration. But that definition is not codified, and over time, the large health corporations have co-opted it to be able to categorize more and more drugs as “specialty” — even if the only thing special about them is their high cost. Doing so allows them to bypass some regulations and contractual obligations and administer them separately: different prices, and even different pharmacies delivering them. Because of this scheme, specialty drugs represent just 2% of the volume of prescriptions filled, but 40% to 50% of the revenues. PBMs are increasingly classifying drugs as specialty, and, according to the FTC, the majority of new drugs brought to market today are classified as “specialty” to keep them out of the traditional pharmacy system. And the large corporations steer specialty drug prescriptions to their own captive specialty pharmacies in order to maximize their profits.

The result of the vertical integration and the market consolidation has been to dramatically lessen competition, giving the PBMs and the corporations that own them enormous power to set prices and extract maximal profits. It also disadvantages rivals at every level, especially independent pharmacies and health care providers — and pressures those organizations to join one of the “networks” run by the big PBMs. The FTC found that this is inflating drug costs through financial conflicts of interests and self-dealing that create strong disincentives for these large corporations to ever lower drug costs.

The FTC report argues strongly that PBMs are the problematic centerpiece of a health care system that has consolidated patients into the control of a handful of large corporations with outsized power, and vertically integrated to reduce competition further and maximize profits.

This is an “interim report”: the FTC is still studying the problem and waiting for some of the PBMs to stop dragging their feet and provide the data and documents that the agency demanded they produce two years ago. In the end, the FTC may need to take them to court to force them to comply. Because of that, it’s unclear when it will issue a final report or take regulatory action against the PBMs and their corporate masters. 

Pharmacy Benefit Managers:The Powerful Middlemen Inflating Drug Costs and Squeezing Main Street Pharmacies

Kevin Schofield is a freelance writer and publishes Seattle Paper Trail. Previously he worked for Microsoft, published Seattle City Council Insight, co-hosted the “Seattle News, Views and Brews” podcast, and raised two daughters as a single dad. He serves on the Board of Directors of Woodland Park Zoo, where he also volunteers.