Channel Conflict as Pedigree Looms

Although everyone is focused on the mid-term elections, pharmaceutical and medical products manufacturers should be paying attention to PDMA-related activity in their downstream channel.

Secondary drug wholesalers are planning to file an injunction against the FDA to stop implementation of the Prescription Drug Marketing Act (PDMA) according to this story from Drug Industry Daily. See Drug Wholesalers Seeking Injunction to Stop Drug Tracking Program.

By way of background, the FDA lifted the stay on implementation for the PDMA in June. It is now scheduled to be implemented on December 1, 2006. See my blog posts in the Pedigree category for more background on the issue as well as the FDA's Draft Compliance Policy.

I suppose that this filing was inevitable because the PDMA's Authorized Distributor of Record (ADR) system creates a powerful market dynamic toward a one-step channel. The extra costs and burdens of a two-or-more step (non-ADR) channel have the potential to shift volume among wholesale market participants. Speculatively, I imagine at least three possible outcomes from the PDMA:

1. Wholesalers with an ADR relationship will pick up volume. The large wholesalers (MCK, CAH, ABC) will pick up volume from secondary drug wholesalers as well as physician distributors. Many med-surg distributors have found themselves caught between an ADR and a hard place. These companies often stock pharmaceuticals as a convenience for their physician customers but have relatively small volumes of Rx product in their mix (maybe 5% to 10% of total sales). They are not primarily secondary drug wholesalers, so need to either be ADRs or receive pedigree from a major wholesaler. For example, PSS World Medical issued a press release announcing its intent to buy directly from manufacturers after HB371 passed in Florida. (See PSS' Press Release.)
2. Manufacturers will broaden their ADR networks. Contrary to popular belief, most pharma companies have authorized distributors beyond the big 3. The top eight manufacturers average of 79 ADRs according to published lists that I reviewed over the summer.
3. The marketplace will create a solution for pedigree. A third option would be to allow the marketplace to determine winners and losers. If customers truly demand to purchase from a secondary wholesaler, then we can expect manufacturers to require ADRs to service those wholesalers. A manufacturer could even compensate an ADR for fulfillment to secondary distributors, making ADRs into de facto master wholesalers and possibly creating another area of fee-for-service compensation for wholesalers.

Apparently, the injunction is being filed because the secondary drug wholesalers are worried that Option 1 is most likely, although it seems to me that the other two options are also reasonable possibilities.

Unfortunately, I have heard only limited understanding of the ADR issue in my conversations with trade relations executives at pharma companies. The FDA is apparently issuing a Q&A next week to clarify the situation. In the meantime, the filing of this injunction should serve as a channel strategy wake-up call to manufacturers that have so far ignored the December 1 PDMA implementation deadline.

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I have to go and get ready for trick-or-treating. I'm dressing up as something very scary -- a cute, cuddly teddy bear filled with counterfeit drugs! (See Items 7 and 10.) My kids are dressing up as RFID tags. Happy Halloween!

Additional Comments on the AWP settlement

A number of people have asked me to follow-up on my AWP Ain’t What Matters post with additional comments on the proposed First DataBank AWP settlement. This post provides a few high-level observations but will refrain from a thorough explanation of potential implications.

The $4 Billion Man

The October 6 Wall Street Journal article highlighted a $4 billion per year savings estimate. Anyone interested in this matter should spend some time reading through the underlying report to understand the assumptions behind the headline. (See Impact and Cost Savings of the First DataBank Settlement Agreement.)

In theory, a one-time adjustment to AWP will have a minimal impact as long as contracts can be renegotiated to preserve the original dollar-cost economic arrangements. So pay particular attention to footnote 19 on page 6, which provides Dr. Hartman’s reasons for believing that market participants will not be able to easily reverse the effect of the settlement with renegotiations.

Hartman’s viewpoints contrast with certain public statements, such as CVS’ press release: “In the event AWPs were suddenly reduced in a material way for particular products, obviously we would renegotiate the discount or dispensing fee. Virtually all of our commercial agreements are 'at-will' agreements, which can be renegotiated freely.” (See CVS Corporation Statement Regarding AWP.) Express Scripts was much more circumspect in its 10-Q filing this week, which created this week’s share price volatility.

Look Back in Anger?

We also don’t know the extent of look-back lawsuits against retail pharmacies by entities that are not part of the settlement class.

In reading the First DataBank court documents, I was struck by the fact that the First DataBank AWP settlement excludes all state and federal government payers from the settlement class. But 49 states use “discount from AWP” to compute Estimated Acquisition Cost (EAC) as the basis for pharmacy ingredient reimbursement under Medicaid. The median discount is 12% (range: -5% to -50%). Seven states have generic-specific formulas ranging from -20% to -50%.

Inflated AWP values would have also inflated Medicaid ingredient reimbursements to retail and mail pharmacies. Note that Medicaid rebates from manufacturers to the states are not affected because these rebates are computed based on Average Manufacturer Price and Best Price data.

On one hand, CVS’ comments on the relationship between negotiated discounts and AWP is consistent with the observation that we didn’t see windfall profits for pharmacy chains and PBM mail order in 2002. But reimbursement discounts did not widen for Medicaid EAC calculations. Will states make additional claims against retail pharmacies for Medicaid payments? Does this create financial/legal liability for the retail pharmacy industry?

And here’s a real brain-twister: How does the settlement affect the projected savings from the 2005 Deficit Reduction Act’s switch from AWP to AMP-based formulas? NACDS’ position paper notes that DRA switch reduces payments to community retail pharmacy by $6.3 billion over the next 5 years. (See Implications of Federal Medicaid Generic Drug Payment Reductions For State Policymakers.) If you believe Dr. Hartman’s analyses, about $2.5 billion of these savings will never materialize.

Looks like we’ll be living with the AWP settlement for a long time.

Are the Democrats helping Wal-Mart's Pharmacy?

Halloween came a little early to the pharmaceutical industry today. The New York Times has an article called Confident Democrats Draft Broad Health Care Agenda. Check out this statement regarding the Medicare law’s prohibition on direction negotiations with drug makers: “Representative Nancy Pelosi of California, the House Democratic leader, said that if Democrats were in control, they would try to repeal that ban in the first 100 hours after the House convenes.” Boo!

The always-provocative Peter Pitts at the DrugWonks blog summarizes Pelosi’s plan very succinctly as The 100 Hour Reign of Terror. (Great title, Peter!)

Back in July, I warned about the risks facing pharmaceutical manufacturer and the drug channel (wholesalers, retailers, and PBMs) were the government allowed to negotiate directly with drug makers as part of Medicare. See The Part D direct negotiations movement. (Check out the “uncomfortable questions,” which have turned out to be good discussion-starters in planning sessions.)

Channel Impact

I’m not sure that direct negotiations could actually come to pass within the next 2 years given the prospect of a Presidential veto. But the post-2008 environment is certainly up for grabs, so let’s think through how direct negotiations would work.

A single-negotiator model would most likely lead to price-plus pharmacy reimbursement for Medicare Part D. In other words, reimbursement would be equal to the CMS’ negotiated “best price” or perhaps some variant of Average Manufacturer Price. PDPs would still be free to differentiate based on plan design and retail network breadth, maintaining elements of today’s market-driven plan approach.

This reimbursement model would cap the total revenue to be split among all channel players. In other words, price-plus reimbursement effectively caps the total compensation that can be earned by PDPs, retail pharmacy, wholesalers, PBMs, providers, and anyone else handling the product after it leaves the manufacturer’s factory.

Does Wal-Mart win?

The Part D winners in this scenario will be the low-cost channels providing a total dispensing and benefit management solution. For example, mail order fulfillment's relative efficiency versus retail dispensing helps PBMs sustain their value in the drug channel.

Ironically, the Democrat’s plan may also end up benefiting one of their current enemies -- Wal-Mart. Wal-Mart’s famed supply chain efficiency becomes a powerful weapon, especially if it is combined with a solid plan design. Imagine a Wal-Mart PDP, and all of sudden Wal-Mart’s recent attempts to build foot traffic in their pharmacy start to look much more strategic ... and certainly not the outcome that Nancy Pelosi expects.

Dangerous Doses Redux

Yesterday, I had the opportunity to catch up with the always charming Katherine Eban, keynote speaker at channel commerce software vendor Edge Dynamics’ customer meeting. She and I discussed the sorry state of public policy regarding importation over mojitos during the Edge-sponsored dinner at Cuba Libre.

In case you don’t know, Katherine’s book Dangerous Doses is an outstanding piece of investigative journalism about how counterfeits entered U.S. drug channels, primarily in the period up to 2003. She documents how South Florida criminals exploited buyers in a then-vibrant secondary market. I highly recommend this book to anyone who wants to understand the mindset of counterfeiters in the pharmaceutical or medical products industry. It just came out in paperback with a new chapter. Here’s a link to Dangerous Doses at Amazon so you have no excuse for not buying it today.

Fortunately, much of the criminal activity that she describes in her book has been pushed out of the supply chain thanks to stricter wholesaler licensing, more secure business practices by manufacturers and wholesalers, and data sharing agreements that increase visibility. (See my previous post FDA blind to the supply chain’s evolution for more details on these changes.)

Katherine described a jaw-dropping exchange during her Congressional testimony last November (available here) in which one Congressman glowingly referred to diverters as “entrepreneurs.” Amazingly, the session had begun with Chairman Mark Souder stating: “The FDA confirmed with Subcommittee staff that drug diversion was the entry point for every case investigated by that agency involving counterfeit drugs going into legitimate pharmacies.”

But as readers of my blog know, our elected officials seem intent on encouraging diversion by opening new gateways for counterfeits. (My most recent rant was posted 2 weeks ago: A Big Win for ... Counterfeiters and Politicians?) Although Katherine and I don’t see eye to eye on every issue, we are in complete agreement that drug importation poses real risks. Check out her views here: Where Good and Bad Drugs Mix: Why drug importation poses real risks for American consumers.

IMHO, 2007 will provide more than enough material for Dangerous Doses II (Attack of the Clones?). The pharma industry needs to do a much better job of education because BuySafeDrugs.info just isn’t cutting it. In the meantime, feel free to send me your ideas on how we can turn the tide of public opinion. I’ll summarize the results in a future post.

Fixing American Health Care

I want to digress from our usual themes and suggest that you read a thought-provoking but thoroughly depressing article by Matthew Holt of The Health Care Blog called Why Is Fixing American Health Care So Difficult? His article is part of Prescription for Change, a weeklong series by ABC News and USA Today (separately).

I don’t share Mr. Holt’s implicit view that we should nationalize the health care system. However, I do like the way he highlights the important macro tradeoffs that will lock us into the current system for the foreseeable future.

On a lighter note, feel free to upload a video to ABC News if you have a solution that will “fix health care in America.” (Click the link -- this is a not a joke.)

The best solution will be chosen by Patrick Dempsey and Katharine Heigl from ABC’s hit medical drama Grey’s Anatomy. The winner gets to be Mark McClellan’s permanent replacement as Administrator for the Centers for Medicare & Medicaid Services. (Bonus points if your DVD collection includes the "smart and sexy romantic comedy about the pharmaceutical industry" that starred Ms. Heigl.)

Vote on Scenarios for Wal-Mart's Impact

I am hearing two distinct viewpoints emerge for Wal-Mart’s impact from my conversations with executives and analysts over the past few weeks. Below I summarize these two viewspoints as scenarios. I find scenarios to be useful tools with my clients when trying to organize ideas, identify trends, and assess the likelihood of future threats.

Rather than telling you which scenario I think is most likely, let’s try a new experiment in interactivity with an anonymous poll. (Don't worry, I can’t identify individual responses, either.) There were more than 1,000 visitors to this blog in the past month, so I'm personally curious to see how many will vote.

Which of the following scenarios best describes the future impact of Wal-Mart’s $4 generic pricing strategy?
	Scenario 1: Much Ado About Nothing
	Scenario 2: The Empire Strikes Back

SCENARIO 1: MUCH ADO ABOUT NOTHING

• Wal-Mart’s program is much more limited than initial media reports led people to believe.
• Generic blockbusters, such as Zocor, are not included. Most of the drugs are older, low volume generic drugs that are already inexpensive. Consumers will become disillusioned and disappointed as they realize the program’s limitations.
• The actual hard-dollar savings versus current generic co-payments are minimal for consumers with third-party coverage, creating very limited incentives for prescription switching. This strategy will only pick up a relatively small number of cash-pay customers.
• Adding blockbuster generics at $4 per script would be self-defeating because the gain in volume will not offset the loss to Wal-Mart’s earnings.
• Wal-Mart will never be as convenient as the large, well-run chains with premium locations (CVS and Walgreens).

SCENARIO 2: THE EMPIRE STRIKES BACK

• Wal-Mart’s announcement is only the first step of a much larger plan to take pharmacy share away from supermarkets and independents. Evidence includes the national “Pharmacy at Wal-Mart” campaign, adding drive-through service, intriguing experiments that place pharmacy at the center of the store, and back-office software upgrades.
• Wal-Mart’s pharmacies are underutilized based on productivity metrics such as “number of prescriptions filled per pharmacy per week.” Most pharmacies can add incremental volume with minimal additional costs.
• Wal-Mart can build on its new position as the country’s large grocery retailer, placing pharmacy adjacent to food along the “main track” of the store. (Read about the Plano store in New, Upscale Wal-Mart Prototype Moves Pharmacy Centerstage.)
• The list will be broadened to include blockbuster generics as soon as the drugs pass the 180-day exclusivity period. While the PR boost will not match the initial September 22 announcement, Wal-Mart will price new generics to make them less expensive than co-payments.
• More seniors will begin paying out-of-pocket for prescriptions as they hit the donut hole. They will be price-sensitive cash-paying customers who will shift business to Wal-Mart.

Here's a final thought to keep us all humble: Confidence is the feeling you have before you fully understand the situation!

How Pharmacists View Wal-Mart's Pricing Strategy

Does anyone understand what the impact of Wal-Mart’s move will be?

Not really, judging by this article from Drug Benefit News. It includes everything from well-reasoned analyses to real head-scratchers like this one: “When they wag their tail, a hurricane starts in China.” Not sure why China matters when Wal-Mart is not even close to being the largest buyer of generics.

Nevertheless, the majority of pharmacists seem to think Wal-Mart will have an impact judging by Drug Topics’ online poll. Most readers of this magazine are pharmacists. In case the link breaks, here are the results as of 11 AM on October 11:


Granted, this is a highly unscientific poll. The pejorative framing of the question ensured that it would be first choice in the survey.

Yet more than half of the 477 respondents view Wal-Mart’s move as a “ploy” to drive store traffic. Note that they could have chosen “It won’t be enough to drive patients to switch…” Ploy or not, pharmacists are saying that Wal-Mart’s move will drive foot traffic. Today's WSJ-Harris poll indicates that Americans Likely Will Seek Low-Priced Generic Drugs At Discount Retail Chains -- so it looks like the pharmacists might be correct.

BTW, why did anyone in the pharmacist survey bother choosing “Don’t Know?” It’s an online poll, not the Spanish Inquisition! After all, nobody expects the Spanish Inquisition...

AWP Ain’t What Matters

Pharma industry muckraker Barbara Martinez scores another front-page WSJ story with her account of how McKesson allegedly helped to manipulate the AWP system for their (and their pharmacy customers) benefit. See How Quiet Moves by a Publisher Sway Billions in Drug Spending.

Today’s WSJ article highlights one more reason why government reimbursement for pharmaceuticals is migrating toward methods that use actual transaction prices to approximate pharmacy acquisition costs. For example, the Federal Upper Limit for Medicaid pharmacy reimbursement will be AMP+250% for generics.

I predict that private payers will migrate to AMP-based pharmacy reimbursement, with many follow-on consequences for wholesalers, PBMs, and pharmacies. (See McClellan and the Magic AMP.)

The Law for Averages

The article states that there were only two First DataBank employees who were trained to collect and update information. I guess the math was pretty easy since First DataBank only “surveyed” one wholesaler (McKesson) to “calculate” an average price!

Calculating a meaningful average is a lot harder when it requires more than just typing one company’s price list into the computer. (Ouch, that’s a cheap shot!) Check out the comments attached to the OIG’s June report on AMP, which highlights the real-world complexities of lagged price concessions, volume purchasing, price restatements, and many other technical computation issues.

The Waiting Game

As a result, I doubt that AMP will be implemented on January 1, 2007. Mark McClellan implied a delay when he said (in September) that “…within a few months CMS will publish a proposed revised definition of AMP.” (Source: Popularity of Generics Behind Lower Costs For Medicare Part D Benefit, McClellan Says). I’m very skeptical that CMS could release a new definition and then implement a few weeks later.

January 1 has not been a historically auspicious launch date for CMS initiatives. As someone named Howard Newton said: “People forget how fast you did a job, but they remember how well you did it.”

My corollary: If you do it well, then you are less likely to be sued and appear on the front page of the Wall Street Journal.

A Big Win for ... Counterfeiters and Politicians?

The reimportation movement notched another victory. Customs caved to Congressional pressure and will stop seizing prescriptions sent from Canada. See U.S. to Stop Seizing Canadian Medicine.

This new policy is great news for two groups: (1) the counterfeit drug industry, and (2) politicians up for re-election.

Manufacturers will surely begin monitoring their shipments even more closely in order to allocate available quantities of their products based on actual prescription demand. Very reasonable and a sound supply chain policy.

So where will Canadian pharmacies source their products from? Hopefully not from these guys, but we'll never know for sure, will we? You may recall that Mediplan’s founder would not say where he gets his drugs after the FDA's August warning in August. (See my 9/4 post Our Demand Side Counterfeit Drug Problem.)

By the way, our neighbors up north are not happy either. The Executive Director of the Canadian Pharmacists Association said "We can't afford to be the medicine cabinet for the U.S." (Read this good article from CBC News: Canada shouldn't be 'medicine cabinet' for U.S., pharmacists warn.)

Then again, Canadians don't vote in mid-term elections, unlike the 80% of Americans who favor importation in this Harris/WSJ poll.

Strange days indeed...