Rite-Aid: From Worse to Awful

Speaking of a pharmacy industry shakeout, perpetual also-ran Rite-Aid (RAD) reported another quarter of weak results. See Acquired Stores Weigh on Rite Aid from today’s Wall Street Journal.

Last February, Rite-Aid’s stock had the dubious honor of being named the Worst 10-Year Performer when the stock was still a comparatively lofty $2.79 per share. Industry analyst Larry Abrams calculated at the time that Rite-Aid was worth more closed than as an ongoing concern. (See Rite Aid: Worth More Closed Than Open.)

Rite-Aid’s stock closed at $1.35 yesterday. A Goldman Sachs analyst is quoted in today’s paper as saying “it is hard to find compelling long-term value even at the $2 level.” Ouch.

FYI, McKesson (MCK), Rite-Aid’s primary wholesaler, generated about 15% of its U.S. distribution revenues from Rite-Aid. Their contract runs until April 2010. I presume that McKesson is keeping a tight hand on A/R here.

When Rite-Aid Brooks/Eckerd came together in August 2006, I wrote: “Rite-Aid, Brooks, and Eckerd are notorious underperformers in retail pharmacy. Yes, things have improved, but none of the companies are as well run as CVS or Walgreens. As one industry executive quipped to me this morning: ‘If you tie two rocks together, they still won’t float.’ Nonetheless, the deal makes sense given the marketplace dynamics.”

Thought for the day: In theory, theory and practice are the same. In practice, they are different.

A Pharmacist’s View of $4 Prescriptions

Yesterday’s post on Walgreens (WAG) and Wal-Mart (WMT) (Walgreens’ $4.33 Surrender to Wal-Mart) set a new web traffic record for Drug Channels. Guess I struck a nerve!

Today’s post is a guest editorial from Jeff Ellis, R.Ph., about $4 prescriptions. Jeff is the editor of the E-Info Exchange, the e-newsletter of the Illinois Pharmacists Association. He has kindly given me permission to reprint his June 13, 2008, editorial from the IPhA newsletter. Enjoy!

Adam

P.S. See How Pharmacists View Wal-Mart's Pricing Strategy for my historical (circa October 2006) perspective on the issue.

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In My Opinion

By Jeff Ellis, Editor, E-Info Exchange, IPhA

This week I have focused on the $4 prescription. I honestly thought it would go away as it seemed such an incredibly bad idea, particularly if one expected to at least break even when dispensing a prescription. I did not foresee the tenacity of a certain chain who shall remain nameless and who very possibly owns the world; or the accolades from society that followed. I assume the publicity from the stunt is “priceless”, so it continues. This morning NBC5 in Chicago (I live on the fringes of Chicagoland) announced Dominick’s is getting in line. So that only leaves Walgreens, CVS and Osco holding the line unless I missed the announcement (a very reasonable assumption).

How do you answer this? I have come up with some conclusions.

1. Close.
2. Meet the price (which may lead to #1).
3. Beat the price (which also may lead to #1).
4. React to it using halfway measures and hope it goes away (which also may lead to #1)
5. Offer more value for the higher price. Decide what that value is, publish it to our patients, sell all the employees on the idea and adhere to it slavishly.

There are no doubt many other ways to respond and we all would certainly like to hear what they are. The platitudes and clichés I see in articles seem unimpressive. I hear constant talk about $4 a gallon gasoline and how it is affecting patients. One response is to reduce the amount of money they pay for prescriptions, no matter how annoying, how little service or how long the wait is. (Aside: A gallon of gas is more than a prescription at Wal-Mart.)

We are attempting to sell PBMs, as well as the state and federal governments on the idea that to break even on a prescription we must get about $9 over cost. All studies say so. The $4 prescription is not helping our cause. It is also disheartening to me that such large employers of pharmacists seem to think so little of pharmacy.

If pharmacists decide (individually) they do not want to work for an employer that thinks nothing of their profession, I foresee these employer(s) crying to regulators about how the shortage of pharmacists is affecting their ability to deliver $4 prescriptions to their customers (they are, of course, customers-not patients) and how the only solution is to train technicians to staff their pharmacies and we need a change in regulation to allow this.

Consider the ramifications of that. I am not convinced that some of the leaders and educators of this profession do not see this as the future and are training our young pharmacists for this eventuality. But how many consultant pharmacist positions are out there?

Walgreens’ $4.33 Surrender to Wal-Mart

Walgreens (WAG) has begun touting its Walgreens Prescription Savings Club, which offers a 3-month supply of over 400 generics for $12.99 (plus an annual membership fee). “That’s just over $4 a month” screams the promotional literature. (It’s $4.33 per month for math geeks.)

Walgreens latest move suggests that the low-priced generic wave is having a bigger effect that many people (including me) expected. It also means that competition in the private sector is now removing generic margin from the channel much faster than an Average Manufacturer Price (AMP)-based FUL ever could have.

WAL-MART SETS THE RULES

When Wal-Mart (WMT) launched its $4 generic drug program in September 2006, I wrote the following in Wal-Mart's Generic Pricing Will Trigger Big Changes: “Folks, we are witnessing a triggering event in real-time. I think Wal-Mart’s move will create massive change in the U.S. pharmaceutical distribution system because it threatens our current system of cross-subsidization.”

Non-pharmacy chains followed Wal-Mart’s move – Target, Kroger, Safeway, Giant Food, et al. These retailers have been able to absorb lower generic margins because pharmacy represents a minority of their sales and gross profits.

Non-pharmacy chains are taking advantage of the high generic margins embedded within in the traditional pharmacy business model, especially for cash-pay customers. If you don’t know what I mean by “cross-subsidization,” click here to read my post from May 2006 in which I predicted this outcome.

Here are my three most recent analyses of Wal-Mart’s generic drug strategy:

• Wal-Mart Redux (May 2008)
• Wal-Mart's PBM Game Plan (January 2008)
• Wal-Mart's Gain is not Walgreen's Pain (November 2007)

WALGREENS REACTS

Like many people, I’ve believed for some time that chains such as CVS Corp (CVS) or Walgreens (WAG) were not especially vulnerable to Wal-Mart’s (WMT) $4 generic program because customers with third-party insurance do not save much versus standard co-pays. Walgreens was so confident in its own business model that it issued this Statement On Wal-Mart’s Promotional Drug Pricing in October 2006:

“Walgreens will not match Wal-Mart’s promotion. Once consumers learn the fine print of Wal-Mart's program, they'll realize Walgreens offers the best value for pharmacy patients with its convenient locations, close-in parking and unique pharmacy services.”

But on Monday’s earnings call, Walgreen President Gregory Wasson recanted, stating: “Discount retailers and grocery chains are picking up their pace of promotional pricing, especially in the pharmacy, which they’re using to build traffic.” Hence the emphasis on the new savings card, albeit with the requisite positive spin about convenience, service, brand, yada yada yada.

Overall, Walgreens still looks like a very strong company. The convenience factor is surely higher than Wal-Mart for most consumers. But I wonder whether Walgreens is throwing in the towel too soon simply because we are in a generic drug lull. I also note that Walgreens is aggressively (and sensibly) diversifying away from its core retail pharmacy roots.

Unfortunately, it’s very difficult to assess the true impact of $4 generics because Walgreens provides almost no public disclosure about its generic volume and margins. (Pet peeve: Despite representing 70%+ of pharmacy revenues, pharmacy chains mysteriously still consider financial data about the retail prescription business to be “not material.” Yeah, right.)

COMPETITION IS EVEN WORSE THAN AMP

Most pharmacists have been fretting about reduced generic margins for Medicaid scripts if the Average Manufacturer Price (AMP) rule ever gets implemented (and cheering every legislative victory.) But Walgreens' move signals that competition among pharmacies is now removing generic margin dollars from drug channels much faster than AMP. I suspect that Pharmacy Benefit Managers (PBMs) will be worried by Walgreens decision, too.

I have been trying to warn pharmacists for the past year that AMP is NOT the single biggest threat to the survival of independent pharmacies or to generic script margins. The pharmacy shakeout is coming, but don’t put all the blame on CMS.

Accenture's Track-and-Trace Straw Man

A new report from Accenture attempts to assess the financial costs of implementing a serialized track-and-trace system for the U.S. pharmacy supply chain. I commend NACDS and NCPA for correctly highlighting an important barrier to authentication of serialized products at the point of dispensing.

Full report: Current Status of Safety of the U.S. Prescription Drug Distribution System

But even if we assume that Accenture did a credible and impartial job building their pharmacy cost models, the estimates in this report reflect an extreme situation that no one is seriously advocating. In other words, Accenture’s calculations may not be technically wrong (in the way that the recent AMP study was wrong), but its conclusions are highly misleading given actual proposals and practices regarding supply chain security. Thus, you should think of this report as the inflated, upper bound, "worst case" costs of a track-and-trace thought experiment. Caveat lector.

BAR CODES AND DOLLARS AND DATA! OH MY!

Accenture created detailed pharmacy cost models for a 100% compliant “complete track and trace system” that is federally mandated to be implemented at the unique unit-level for all products everywhere at the same time.

I can’t evaluate the assumptions hidden in the pharmacy costs models because Appendix F, a detailed Excel spreadsheet with all of the calculations, was not made publicly available. But my math (see footnote) shows that first-year implementation costs to be +/- 3% of revenues for the following four pharmacy archetypes defined by Accenture:

• Large chain pharmacy (total annual retail sales = $18.8 billion): 2.6% of revenue
• Medium chain pharmacy (total annual retail sales = $450 million): 3.4% of revenue
• Small chain pharmacy (total annual retail sales = $60 million): 2.4% of revenue
• Independent pharmacy (total annual retail sales = $6.5 million): 3.1% of revenue

Note that these figures are much higher than Accenture's previous cost estimates. At the 2007 NACDS/HDMA RFID/Track & Trace Health Care Industry Adoption Summit (yes, that’s really the title), Accenture estimated that one-time implementation costs for pharmacies would be only 0.5% to 1.5% of revenue. (See page 9 of Accenture’s State of the Industry presentation from November 13, 2007.)

I think that some of the newly-discovered costs come from additional pharmacy labor for scanning serialized products in the newer estimates as well as the assumption of complete year one implementation. But given the surprisingly large inflationary bump, I also surmise that NACDS and NCPA got their money's worth from Accenture.

SOMEWHERE OVER THE RAINBOW

Careful readers will note that Accenture’s “complete track and trace system” is much more comprehensive than anything being seriously proposed or considered right now. In my opinion, Accenture has defined a “track and trace” model in an unrealistic manner and then proceeded to explain that such a model is cost prohibitive.

In other words, the report is built upon the Straw Man logical fallacy, which goes as follows:

1. Person A has position X.
2. Person B presents position Y, which is a distorted version of X.
3. Person B attacks position Y.
4. Person B concludes that X is false/incorrect/flawed.

This fallacy plays out in the interplay between the actual study and the press release about the study:

1. Legislators, regulators, and many industry participants want to implement serialized e-pedigree with national standards in the pharmaceutical industry.
2. Accenture has modeled the pharmacy costs of implementing a 100% compliant “complete track and trace system” that is federally mandated to be implemented at the unique unit-level for all products everywhere at the same time, i.e., the Straw Man version of current proposals.
3. Accenture's pharmacy cost models show that the Straw Man track-and-trace system would be ludicrously expensive to implement.
4. Therefore, there is no need for serialized e-pedigree with national standards in the pharmaceutical industry, given the many other steps already taken to secure the pharmacy supply chain. Q.E.D.

I’ll mention just four important ways that the actual implementation of “track and trace” will likely differ from the models estimated in Accenture’s report:

• A risk-based approach to serialization (RBATS) for high-risk products with the greatest likelihood of counterfeiting or diversion, which is included in H.R. 5839 Safeguarding America’s Pharmaceuticals Act of 2008.
• “Normal Channel of Distribution” rules that exempt certain transactions in many states. Even California may incorporate this exemption, judging by the Schwarzenegger’s Administration new legislative proposal for California pedigree regarding an “accredited distribution chain.”
• Central-fill operations and mail order pharmacies that aggregate prescription fulfillment would dramatically lower the per pharmacy costs. (Neither is contemplated in the study.)
• The willingness of wholesaler’s and other third-parties to provide data center services as a fee-based service.

To be fair, Accenture's language is fairly neutral regarding the implications of the study, whereas the NACDS/NCPA press release mistakenly links the "results" to a specific legislative proposal. Hence my view that this report represents unrealistic, upper bound costs of a track-and-trace thought experiment.

I'LL GET YOU, MY PRETTY...AND YOUR LITTLE BLOG, TOO!

I am very sympathetic to the motivation behind this study. A truly closed-loop, interoperable track-and-trace security solution based on serialization requires a massive infrastructure upgrade at the 150,000+ points of pharmacy dispensing in the U.S. I have persistently criticized the RFID hypesters who ignore this practical aspect of the pharmacy supply chain. I keep reminding technology firms, legislators, and regulators that pharmacies do not want to absorb the costs of reading pedigree or serialized data. (See Pharmacists Haggle over Pedigree Costs, among other posts.)

The report correctly highlights the fact that counterfeit drugs are still extremely rare in the United States and summarizes some of the business changes that have occurred to make the supply more secure. However, I do not believe that the cost estimates in this report make an accurate contribution to the debate over supply chain security.

On the other hand, the report should spark some good discussion at this November’s NACDS/HDMA RFID Track & Trace Healthcare Summit. Notice that the word “adoption” has now been discreetly dropped from the event title!

Read the report, make up your own mind, and let me know what you think. Maybe you'll get an honorary degree of Th.D. (Doctor of Thinkology**), too!

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* Total Corporate Implementation Costs as % of Revenue = [(Cost Per Distribution Facility * No. of Distribution Facilities) + (Cost per Pharmacy Store * No. of Pharmacies) + Pharmacy Data Center Costs] / Annual Revenues

Example: Medium Pharmacy Chain = [($2,752,771 * 1) + ($103,939 * 100) + $2,288,265)] / $450,000 = 3.4%

** Yes, that's the honorary degree awarded by the Wizard of Oz to the scarecrow.

Attacking Repacking

Please take a moment to read Peter Pitts’ comments about the dangers of repackaging pharmaceuticals in Europe:

Repack Attack

Massive cross-border diversion in Europe (a.k.a. parallel trade) creates entry points for counterfeits or mishandled drugs. In fact, seizures of counterfeit drugs at the EU border rose 51 percent last year compared with 2006 according to a recent European Commission report. (See “medicines” data on page 18 of Report on Community Customs Activities on Counterfeit And Piracy.)

Nevertheless, repackaging by parallel importers and exporters in Europe can remove anti-counterfeiting security technology on a package, including the serial number. Huh??

Click here to read the official press release from the European Federation of Pharmaceutical Industries and Associations.

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My review of Accenture’s track-and-trace report will appear tomorrow.

JNJ: We Want Federal E-Pedigree Standards

Mike Rose, VP of Supply Chain Technology at Johnson and Johnson (JNJ), testified at Tuesday’s Senate Hearing called Protecting Consumers by Protecting Intellectual Property. He was refreshingly unambiguous on JNJ’s position regarding e-pedigree, saying:

“Within the US, a federal standard is required for electronic pedigree.”

and

“The federal government can and should take the lead in establishing a single federal standard for electronic pedigree.”

(You can read his full statement here.)

He’s absolutely correct. Complying with a grab bag of state laws does little more than add unnecessary costs without an equivalent increase in safety. Inconsistent state laws ignore the fact that today’s pharmaceutical supply chain is a national business for drug makers, large wholesalers, and multi-state pharmacy chains. Read my op-ed Securing the Supply Chain for more.

At the same time, pharmacists are mounting an effort to slow down or stop the movement to a national e-pedigree standard due in part to the implementation costs associated with track-and-trace. (See Pharmacists Haggle over Pedigree Costs.)

On Monday, I’ll look at the new NACDS/NCPA study that estimates first year track-and-trace costs to be $110,000 per pharmacy. Get ready for an industry-wide debate over a timely and heretofore unanswered question: How much supply chain security are we willing to pay for?

AWP: Dead Parrot or Just Resting?

Multiple people have emailed me in the last two weeks with variations on essentially the same question: Is Average Wholesale Price (AWP) no more? Has it ceased to be? Has it expired and gone to meet its maker? Bereft of life, does AWP rest in peace? If it wasn’t nailed down in many contracts, would it be pushing up the daisies? Has AWP rung down the curtain and joined the choir invisible?

In other words, is AWP an ex-benchmark?

Definitely. Maybe. Perhaps not. Here’s a quick update along with links to some helpful resources.

OUR STORY SO FAR

First Databank allegedly increased the spread between Wholesale Acquisition Cost (WAC) and Average Wholesale Price (AWP) from 1.20 to 1.25 on certain drugs in 2002. Many people first became aware of the situation through an October 2006 front-page story in the Wall Street Journal (How Quiet Moves by a Publisher Sway Billions in Drug Spending).

U.S. District Judge Patti B. Saris gave preliminary approval to a legal settlement in June 2007. There were two important elements of the settlement with regard to the publication of AWP:

• The WAC-to-AWP spread would be rolled back to 1.20 (if an NDC’s spread was higher) for all drugs
• FDB would stop publishing AWP no more than 2 years after the final court order

Since AWP is still widely used as a drug reimbursement benchmark for pharmacies, this proposed settlement affected the economics of many providers that were not involved in the lawsuit or settlement. In particular, pharmacy associations objected to the proposed class settlement, including the Pharmaceutical Care Management Association (PCMA), the National Community Pharmacists Association (NCPA), the National Association of Chain Drug Stores (NACDS) and the Food Marketing Institute (FMI).

In January 2008, Judge Saris rejected the original settlement and requested that the parties come back with a new settlement plan. An amended settlement was filed in June 2008 in which First Databank would roll back the AWP-to-WAC markup only for the subset of about 1,400 drugs identified in the original complaint, among other actions.

However, the amended (and still unapproved) settlement does not require First Databank to stop publishing AWP or roll back AWP on all drugs. Nonetheless, FDB has announced that it will unilaterally roll back the AWP for all drugs to 1.20 and discontinue publishing the Blue Book AWP data independent of the litigation. (See the June 2 letter on its website.) So the outcome would be the same (no more published AWP) although the currently proposed settlement does not technically require the demise of AWP.

Meanwhile, San Francisco and Connecticut have both filed suit against McKesson (MCK) regarding the company’s alleged role in the 2002 increase in the WAC-to-AWP spread. (See Connecticut sues McKesson on racketeering charges.)

MY TAKE:

1. AWP may not be quite dead yet, but it is certainly pining for the fjords (as discussed in the video below). For instance, other AWP lawsuits unrelated to FDB have created legal “speed limits” for the WAC-to-AWP markup. (See Judge Saris on Fictitious AWPs.)
2. Alternative list price benchmarks, such as WAC, are likely to become more common. Example: the Department of Defense’s TRICARE contract that I discuss in Big WAC Attack.
3. Where possible, pharmacy reimbursement relationships will be structured to maintain dollar-based economic arrangements regardless of the benchmark. Medco Health Solutions (MHS) discussed this issue in November. (See PBMs and AMP.)
   
4. Computed (non-list price) benchmarks such as Average Manufacturer Price (AMP) could one day become the norm for retail pharmacy, but the legal and publication status of AMP makes the timing very uncertain. (See my many posts on AMP for more.)

RESOURCES

• FDB AWP Communications
• FDB/Medi-Span AWP Settlement Website
• Hagens Berman Sobol Shapiro (court documents)

AND NOW FOR SOMETHING COMPLETELY DIFFERENT

Special thanks to John Cleese and Michael Palin for this video overview of AWP’s legal status:

Shopping for Counterfeits

Looking for something fun to do on your summer vacation?

How about going to Hong Kong to buy counterfeit drugs?

Well, that’s exactly what Sharon Flank of Infratrac did. Even better, she wrote Anticounterfeiting And NIR: A Hong Kong Diary, a very entertaining account of her adventures that was just published in Pharmaceutical Manufacturing magazine.

Skip the first part of the article and jump to the fun part, which begins with the heading “Shopping for Counterfeits in Hong Kong” (at the bottom of page 1).

Dr. Flank's personal search for counterfeit drugs in Hong Kong makes a great read. Here’s a neat excerpt in which she explains the advice on counterfeit detection offered by one Hong Kong shop owner (named Penrod Pooch?):

“I asked how to tell which shops had counterfeits. Would they be the ones without a ‘No Fakes’ pledge or authorized dealer stickers? Not at all: if you buy even one pill legally, you get a sticker, and the rest of your inventory may not be genuine. Price is the key. The profit margin on pharmaceuticals is thin, about HK$10, a little more than a dollar. So no one will bargain much on genuine product, because they’d lose money. He suggested that I offer to buy five or six, and see if the price started to move.”

SPOILER ALERT: By the end of the article, she has successfully purchased fake Viagra and some alleged Cialis made by “Lieel” (!).

All in all, this article is an intriguing and scary first-person account that will enlighten anyone who believes that counterfeit drugs are not a threat. John Lechleiter, President and CEO of Eli Lilly, got it right in yesterday’s widely-cited Bloomberg article: “It’s a big issue, it’s a global issue, it’s an insidious issue.'”

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Take a quick tour of great health care policy blogging from around the web in the latest Health Wonk Review edited by Jane Hiebert-White for the Health Affairs blog. Thanks to Jane for citing my recent extra-wonky posts on AMP!

An AMP Fix for Rural Pharmacies

Pharmacist trade associations are pursuing an aggressive, take-no-prisoners approach to “fixing” the Average Manufacturer Price (AMP) situation by citing the dangers to patient access if rural independents fail.

In fact, two recent studies support the idea that some rural communities could face access challenges if the local pharmacy closes. However, less than one percent of the U.S. population faces potential access problems and there are less than 2,000 at-risk rural pharmacies. In other words, the problem appears to be smaller and more fixable than pharmacy industry rhetoric.

So why not solve the rural access problem with a targeted solution for at-risk pharmacies that would cost much less and thereby have a greater chance of success? Rural pharmacists should be asking this question.

RISKS TO PATIENTS IN RURAL AREAS

Eric Shields, Pharm.D., maintains a blog and website for Montana pharmacists called GrizRPh. Eric is a self-confessed “avid fan of Drug Channels” (thanks!), but feels that I underestimate the dangers to rural pharmacies from AMP.

In an exchange with me following a recent GrizRPh blog post, Eric makes two compelling points about rural pharmacies:

• Access to healthcare would be compromised if a town’s only pharmacy closes and there are no viable alternatives within a reasonable driving distance.
• Pharmacies in rural communities can’t get bigger (as I suggest in Pharmacy Profits & Part D) because they serve small, fixed rural populations that are not growing.

These are very legitimate access issues for individual pharmacies, such as the store where Eric works now. Tobey Schule, RPh (owner of Sykes Pharmacy in Kalispell, MT) testified in May 2007 before the Senate Committee on Finance about the unique challenges facing his rural pharmacy. (Click here to read his testimony.)

THE SCOPE OF THE RURAL ACCESS PROBLEM

Alas, the plural of anecdote is not data.

To assess the prevalence of rural access problems, I found two recent studies that attempt to quantify the impact of access on individual communities or consumers. There may be more, but these two illustrate the situation.

• Reliance on Independently Owned Pharmacies in Rural America – “In over 2,000 rural communities, the only local pharmacy is independently owned, and in 1,044 of those communities, there is no other pharmacy within 10 miles.” The total population in these communities was 1.7 million people in 2000. This study, which was funded by HHS’ Federal Office of Rural Health Policy, also generated useful state-by-state maps.
  

• Consumer Access to Pharmacies in the United States – “Independent pharmacy consumers in rural areas typically have access to 14 competing pharmacies located with 15 miles of their current pharmacy.” This study was funded by the Pharmaceutical Care Management Association and cited by PWC in its study.

In other words, these studies imply fewer access problems than the exaggerated claims that 11,105 pharmacies will close due to AMP.

AN AMP FIX FOR RURAL PHARMACIES

If rural access is the real problem, then let’s find a solution to that problem.

How about we ask states to designate rural pharmacies that are the sole provider in a community as Critical Access Pharmacies (CAP)? These pharmacies would be eligible for higher dispensing fees that would be set based on the pharmacy’s cost accounting data. There should be about 1,000 to 2,000 such pharmacies in the U.S.

There is CMS precedent for this policy. Medicare designates approximately 1,300 small hospitals as Critical Access Hospitals (CAH). According to this MedPAC briefing document, CAHs are limited to 25 beds and primarily operate in rural areas. To qualify for the CAH program, a hospital had to be at least 15 miles by secondary road and 35 miles by primary road from the nearest hospital. States can also waive the distance requirement for a hospital declared to be a “necessary provider.”

Unlike traditional hospitals (which are paid under prospective payment systems), Medicare pays CAHs based on each hospital’s reported costs. Each CAH receives 101 percent of its costs for outpatient, inpatient, laboratory and therapy services, as well as post-acute care in the hospital’s swing beds.

RISK AND REWARD

NACDS, NCPA, or FMI are pursuing an aggressive, take-no-prisoners approach to a legislative AMP “fix.”

An alternative approach would be to advocate with Congress and/or CMS for a targeted, solution aimed at mitigating the specific risk of rural access. Judging by the studies cited above, a targeted CAP program would have much lower costs than an all-or-nothing AMP rollback. Therefore, it would be more palatable to lawmakers and perhaps more likely to get enacted.

My web traffic shows many readers of Drug Channels in the U.S. Senate and House of Representatives. Perhaps they can help pharmacy craft a winning solution for rural pharmacists.

Back to you, Eric.

AMP Delay Buried in New Medicare Bill

On Friday, Senator Max Baucus (D-MT) proposed a mammoth Medicare/Medicaid bill that further delays the implementation of Medicaid’s Average Manufacturer Price (AMP) provisions. Depending on your perspective, a delay would represent either the salvation of the pharmacy industry or the victory of emotion over economics.

The bill is called Medicare Improvements for Patients and Providers Act of 2008 (S. 3101). Here are some links for your reading pleasure:

• Official Bill Summary
• Full text of S.3101
• THOMAS listing (full Senate information)

The bill primarily focuses on proposed cuts in physician payments, as the AP headline makes clear (Bill would eliminate Medicare cut for doctors). The text of the bill runs to an awe-inspiring 259 pages.

AMP is addressed way down in Section 203 (on page 251 out of 259 in the full text). Two key points:

• Delays the use of AMP for Federal Upper Limits of multi-source (generic) drugs until at least September 30, 2009
• “Temporary” suspension of online publication of AMP data until at least September 30, 2009

Note that the new bill does not incorporate many elements of Senator Baucus’ previously proposed bill S.1951, which has been slowly gaining support. S.1951 now has 49 Senate co-sponsors, including Barack Obama (since last December) and more recently Hillary Clinton (since March). John McCain is not a co-sponsor.

Of course, this is Washington DC, so who really knows whether the AMP section will survive the inevitable earmarks and horse trading. But notch up another victory for the pharmacy’s lobbyists, who are definitely earning their pay!

Cardinal Apologizes; NCPA Organizes

More fall-out from the ongoing saga of the DEA’s supply-chain-focused anti-diversion strategy. Meanwhile, I’m getting ready for a trip to HDMA’s meeting in Orlando to hear from the CA Board of Pharmacy and the DEA.

CARDINAL APOLOGIZES

Cardinal Health (CAH) has recently started publicizing An Open Letter to Our Customers from Chairman and CEO Kerry Clark. It appeared on the inside cover of Drug Topics magazine, among other places.

The letter acknowledges an “unintentional” lack of due process that I described in my February interview with Washington pharmacist Richard Molitor. Here’s a key passage:

“In our zeal to do the right thing in addressing the diversion issue, we unintentionally put an undue burden on some of our legitimate and long-standing customers. This is disappointing to all of us, and we apologize to those customers who have been affected.”

George Barrett described the challenges facing Cardinal in refreshingly candid statements last month, which was an important first step. Mr. Clark’s letter is another step on the road to recovery.

Cardinal is still struggling to balance their enforcement responsibilities with the legitimate needs of pharmacies and patients. While Cardinal desperately needs to resolve its DEA issues, I think that the company still has an opportunity to recover from its missteps and regain some lost market share.

NCPA ORGANIZES

The NCPA, which represents independent pharmacies, is also concerned about the DEA’s efforts to make wholesalers responsible for stopping diversion by pharmacies. So, the group is “gathering information that Congress can use to exercise its oversight authority and get involved” according to this item on the NCPA web site.

NCPA is encouraging pharmacies that have had difficulties ordering C-IIs and C-IIIs through a wholesaler to e-mail the NCPA government affairs department. If you are skeptical, just keep in mind that the NCPA has demonstrated an impressive ability to gather affidavits from independent pharmacies, such as the 22 statements compiled for the First DataBank case. Stay tuned for more on this issue.

SEE YOU IN ORLANDO?

I will be at the HDMA’s Distribution Management Conference & Technology Expo in Orlando on Monday and Tuesday. Highlights of Monday’s program include presentations by:

• Virginia Herold, Executive Director, California Board of Pharmacy
• Mark Caverly, Chief Liaison and Policy Section, Office of Diversion Control, DEA

Hmmm, I wonder if I’ll be able to come with any good questions for those two?

I know that some Drug Channels readers will be there, too. Please take the opportunity to critique and/or praise me live and in person. Goofy won't be the only one in Orlando who will be fishing for compliments!

CA E-Pedigree Timeline in Flux

I hope you are still paying attention to the California pedigree situation.

Yes, we all know that the CA Board of Pharmacy extended the e-pedigree implementation deadline to January 1, 2011. But SB1307, which was introduced by CA State Senator Ridley-Thomas in February, proposes the following new e-pedigree implementation timelines:

• Wholesalers: January 1, 2011
• Pharmacies: January 1, 2012
• Manufacturers: January 1, 2011 to January 1, 2013

The manufacturers have a phased in serialization schedule under SB1307 because “the process of implementing serialized electronic pedigree for all prescription drugs in the entire chain of distribution is a complicated technological and logistical undertaking for manufacturers, wholesalers, pharmacies, and other supply chain participants. The Legislature seeks to ensure continued availability of prescription drugs in California while drug manufacturers implement these requirements.” (according to page 10 of the bill’s text.)

Here is the proposed schedule by which a manufacturer must (1) designate the particular drugs that will be serialized, and (2) actually comply with the serialized electronic pedigree requirements:

• Designated by January 1, 2010; Compliance by January 1, 2011: 20 percent of drugs
• Designated by January 1, 2011; Compliance by January 1, 2012: 30 percent of drugs (Total = 50 percent)
• Designated by January 1, 2012; Compliance by January 1, 2013: 50 percent of drugs (Total = 100 percent)

I’m encouraged that California will be incorporating more realistic timelines for serialization, especially given the unknown prospects for national standards. However, it's harder than ever to predict the precise future deadlines.

Where's Doc Brown when you need him?

READER OF THE WEEK

The Texas Startup Blog recently interviewed Jon Cameron, founder and President of Pop Technology. According to the article: “When Jon isn’t inventing cool gadgets for the retail industry he can be found reading Drug Channels…”

Gosh, your friendly neighborhood blogger is now someone’s hobby!

Thanks for the shout-out, Jon.

COMMENTS, WE GOT COMMENTS

There are many interesting comments on yesterday's analysis of the latest AMP study. Read them below the original post. Perhaps you'll even add you own $0.02?

11,105 Pharmacies Gone?!? Just More AMP Hype

A new report prepared by PriceWaterhouseCoopers (PWC) claims that 11,105 pharmacies will close due to the Average Manufacturer Price (AMP) provisions in the Deficit Reduction Act of 2005 (DRA).

• Press release from the National Association of Chain Drug Stores (NACDS) and the Food Marketing Institute (FMI)
• Impact of the Deficit Reduction Act of 2005 on Pharmacies by State (Full Report)

However, as I explain below, this report is fundamentally flawed in a way that will be immediately apparent to anyone familiar with pharmacy economics. In my opinion, the “findings” are not a reliable or accurate prediction of the actual outcome of AMP on the pharmacy industry. No one in the channel – manufacturers, PBMs, wholesalers, pharmacies, and payors – should use this report to plan business strategy.

QUICK OVERVIEW

The centerpiece of the report is a state-by-state estimate of the number of pharmacies that will close if AMP is used to compute the FUL. (See The AMP Saga Goes On and On and On for background.) There are many questionable methodological aspects behind these estimates, but the most significant assumption in PWC’s model derives from the variation in the 2001 average pharmacy net profit.

The average Net Profit reported in 2001 was 3.5% (as reported in the 2002 NCPA-Pharmacia Digest.) However, according to the self-reported data from the report: 13% of independent pharmacies had a net loss in 2001; 28% had a net profit of less than 2% in 2001; 33% had a net profit between 2% and 5% in 2002; and 26% had a net profit of 5% or more.

PWC’s model assumes that AMP would cause all pharmacies with negative net profits, i.e., a net loss, to close and also cause some percentage of pharmacies with “low” net profits to close.

BTW, Dr. Schondelmeyer’s November 2007 report from the AMP lawsuit used a similar approach to come up with the “loss of 10,000-12,000 pharmacies” guesstimate that has been cited up until now.

PHARMACY ECONOMICS 101

Understanding the flaw in the report’s method requires a quick review of a retail pharmacy’s income statement:

• Gross Profit = Revenues minus Cost of Goods Sold (COGS)
• Net Profit = Gross Profit minus Operating Expenses
• Operating Expenses = Owner compensation + Payroll Expenses (excluding owner’s comp) + Other Expenses (rent, utilities, etc.)
• Owner's Discretionary Profit Before Tax = Net Profit + Owner Compensation
  

Key insight: A reduction in reimbursement has no direct effect on a pharmacy’s Net Profit.

A reduction in reimbursement, such as the use of AMP for FUL computations, lowers Gross Profit by reducing Revenues (assuming no change in COGS, among other things). However, the impact on net profit depends on whether a pharmacy can alter its operating expenses in response to a decline in Gross Profit.

If a pharmacy’s costs are entirely fixed regardless of changes in reimbursement, then a reduction in reimbursement translates directly into a loss of net profit. However, the impact on net profit would be less significant if a pharmacy can adjust its expenses in response to a change in reimbursement levels.

OPERATING LOSS OR TAX STRATEGY?

A private business may report an “net loss” for many reasons that do not relate to the true financial health of the business. For example, there could be tax minimization benefits for a business owner from reporting a low or negative net profit while generating high personal income for the owner.

Thus, the “average” pharmacy could have reported an “net loss” if the average pharmacy owner had chosen to pay himself or herself a larger bonus of instead reporting a positive net profit on the NCPA survey. In other words, a decline in Gross Profit could be offset by a reduction in profits to the owner without causing the business to shut down.

I’m no accountant, but a “global market leader for tax services” such as PWC should have considered these financial issues in their computations. If you understand these matters, then you too will question the core assumption that 13% of pharmacies with a “negative net profit” will automatically close.

So here’s another way to think through the math.

• PWC estimates that average pharmacy net profits drop by $23,300 due to DRA.
• The most recent data reported (2003) put Owner's Discretionary Profit Before Tax at 8.1% of revenues.
• Using the most recent average revenue data of $3.6 million per independent pharmacy implies that Owner's Discretionary Profits were about $293,000.

Unfortunately for owners of independent pharmacies, the most obvious way to stay in business would be to reduce average pharmacy owner compensation by $23,300 to about $270,000 per year.

Personally painful? Yes. So the real (and still unanswered) question becomes: At what point will an independent pharmacy owner decide that the Owner's Discretionary Profit is too low and shut down or sell the business?

BOTTOM LINE

Look, I understand what’s going on. Pharmacists want to be compensated appropriately for the value that they contribute to U.S. health care. I fully support pharmacists’ First Amendment rights to advocate on behalf of their own interests. See In Defense of Lobbyists from Friday’s Wall Street Journal for a spirited POV on this subject.

I’m just bothered that pharmacists are making the case using misleading analyses rather than explaining their true value to the health care system or confronting the cross-subsidies of the pharmacy economic model. I’m disturbed to think that this report might be used by outside parties to predict the actual impact of DRA. I also suspect that many independent pharmacists may begin to believe (falsely) that AMP is the single biggest threat to their collective survival.

Just to be clear, I have no stake in the outcome of the AMP battle. I’m not being paid to write this blog nor do I get paid for advocating any particular position regarding AMP. I don't have a grudge against retail pharmacists - honest!

But I do believe strongly in the value of independent expert analyses. Unfortunately, the latest AMP report appears to be political theater designed to influence policy makers rather than a genuine attempt to quantify the impact of AMP. Too bad.