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PBM’s: What Are They and Why Are They Here?

I write a great deal about what is wrong with health care and how we can fix it. I’ve probably made some enemies – and hopefully a few friends – with what I believe is an honest, non-political, evaluation of why the largest segment of the US economy is spiraling out of control. I recently realized that I’ve never written about Pharmacy Benefits Managers. Well, I’m going to fix that now. These are my thoughts on PBMs and the role they play in our current health care crisis.


First of all, most people don’t know much about PBMs. They’ve successfully become that shadowy figure that stays out of the spot light and quietly takes billions of dollars out of the health care industry.   Lets begin by defining what a PBM is and what its not. A pharmacy benefit manager (PBM) is a third –party administrator (TPA) of prescription drug programs for commercial health plans, self-insured employer plans, Medicare Part D plans, the Federal Employees Health Benefit Program and state government plans. It’s important to note that PBMs do not manufacture, nor are they a wholesaler or distributer of, prescription drugs. What they are is a middleman in the process who “administers prescription drug programs”. At this point you may be asking yourself, “What in the world does it mean to administer a prescription drug program?” Fair question.


What PBMs do is negotiate discounts off the purchase price of prescription drugs then pass those savings on to the payer. In this case, the “payer” could be an insurance company, or any other entity administering the plans I mentioned earlier. They also develop formularies to make sure the most cost effective drug is used as frequently as possible, thus saving money for the payer and end consumer. Sounds great doesn’t it? Well, like most things, it’s not that simple or noble. What really happens looks more like this:


The three largest PBMs control about 80% of the total market for prescription drugs. Think of them like three big Mob families. The PBM has a contract with a payer to “administer their prescription program”. The PBM then starts negotiating with the manufacturer of a drug. The negotiation goes something like this,


“So, we have the contract with HappyCare Insurance Company. We would really love to include your drug on our formulary so that all of HappyCare’s 10 million members can have access to your drug. However, in order to include your drug on our formulary we need you to give us a 10% discount on the price of the drug and a $20 rebate each time your drug is prescribed. I mean it would be a shame if your wonderful drug wasn’t available for the 10 million HappyCare members out there.”


So the drug company, feeling they don’t have a choice, agrees to the discount and rebate. To maintain their profits they increase the cost of the drug by 10%.


The PBM now goes to the retail pharmacy market with their HappyCare contract and the agreement for price reductions and rebates from the drug manufacturer in hand. They now negotiate with the retail pharmacy to include them in their network of approved pharmacies. This negotiation is similar to the one with the manufacturer; “It would be a shame if all of these patients couldn’t get their prescriptions filled at your fine establishment.” Again, the PBM makes some profit from this relationship.


The bottom line is the PBM has now successfully injected itself into the manufacturer, wholesaler, and retail distribution chain in such a way that it is guaranteed profits. Significant profits. The next logical question is do they add value or are they just a parasite sucking off profits from the prescription drug market? The answer is a little of both.


The PBMs claim they provide value by passing along savings to the payers. That is true. They do pass along some of the negotiated savings to payers. They have been unwilling to be transparent and disclose exactly how much of the discounts and rebates they pass on, but it is true to say that they pass on at least some of those savings. They also claim they provide value by making sure the patient receives the “most cost effective” medication and that they help avoid drug interactions and duplicate prescriptions. Again to be fair, I believe they do provide some value in this area. To me, the real question is does the value they provide offset the cost they add to the system? Frankly, I’m not convinced they do.


Before you go and get your torches and pitchforks lets take a deep breath and understand what these companies are doing and why. They are doing exactly what they should be doing and what every other company should do – including the drug companies and the insurance companies. They are working to maximize their shareholders’ investment by maximizing their profits and the returns they provide to their investors and owners. This is no different than what companies like Apple, Disney, and every other for-profit company does. The only difference is we’re talking about health care now, and if we don’t fix the runaway train of rising health care costs we’re all in trouble. In the words of the philosopher Ice-T “Don’t hate the player, hate the game”. Everyone in this scenario is simply playing the game to the best of their abilities. If we want to fix this situation we need to fix the game.


Lets say that HappyCare insurance company decides to bypass the PBM all together. Instead they put their faith in market dynamics. HappyCare decides to fix the game by designing a benefit plan that has tiered co-pays based on the cost of the drug within its class. So for example antibiotics would cost the patient $10/$20/$30 per prescription based on the cost of the drug. HappyCare explains this to the manufacturers and allows them to set their price. The manufacturers price will determine the co-pay the patient will pay. In this new game the manufacturer has to decide if they want to reduce the price of their drug, get into a lower co-pay tier, and thereby drive more market share. Doctors who want to help their patients will quickly learn which drugs have the lower co-pay, and if that drug is effective for their patient, they will prescribe it more frequently. Suddenly you have market forces at work to make sure drug prices are competitive and all without the unnecessary profits and costs of the PBM. Such a practice also keeps control over what drugs are prescribed in the hands of doctors and their patients.


I know its more complicated than that and other issues and details would need to be worked out, but for the sake of keeping this article shorter than my book I would simply ask you this, “Why couldn’t this work and wouldn’t it be a lot better?”


Now, if someone could just condense all seven seasons of Game of Thrones into one two-hour movie I would be a happy camper.

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Executive Order to Allow Insurance Sales Across State Lines

For over a decade now the Republicans have suggested that if individuals and businesses were allowed to purchase health insurance across state lines, it would significantly lower the cost of coverage in this country. Like most statements that come from opposing parties in Washington, there are both truths and misconceptions regarding this topic. It all depends on how you look at it and who you are.


Recently, President Trump indicated he may sign an executive order along the lines of a proposal presented by Senator Rand Paul that would make it easier for some individuals and employers to purchase coverage across state lines. This news sparked a reaction from both sides of the political isle, along with a significant amount of confusion and lack of understanding on what this proposal would really do if adopted. I would like to try and clear up this confusion.


First of all, it’s not really “insurance”. Health insurance is when an individual or group pays a set premium to an insurance company and, in return, the insurance company takes the risk for the amount of claims they may ultimately have to pay out for that individual or group. The discussion around Senator Paul’s proposal is all about self-funded groups. When an employer is self-funded, they pay a company to administer health care benefits for their employees, then the employer takes risk for the payment of claims – not the insurance company. Under ERISA laws, self-funded employers are allowed to administer benefit packages across state lines without falling under individual state requirements or minimum benefit requirements. Senator Paul’s proposal is to change the ERISA legislation to allow small groups and possibly individuals to belong to an “association” that would pool their numbers and then be allowed to act like a large self-funded employer group. This would mean these pooled individuals or groups would not actually have “insurance”, but would instead belong to an aggregated risk pool that would itself be self-funded and carry its own claim risk.


If the President signs an executive order like the one being proposed, it could lower the cost of coverage for some groups or individuals that roll up into part of an association. So, from that perspective it could make “coverage” less expensive for some individuals or groups. If the new association or group is healthier than average, they’ll have lower costs. If the association decides to reduce benefits, they could also control their “premiums” and thus reduce expenses. This is exactly why large employer groups tend to be self-funded. They know they’re going to pay less for health care coverage either because their employees are generally healthy and/or they can offer a lower level of benefits than what is required under either the Affordable Care Act or state mandates. If individuals or small groups are allowed to form or join associations, they could benefit from the same type of environment that many large employers enjoy.


So what’s not to love? Well, like everything else, the devil is in the details. Has anyone come up with a plan to pull together individuals or small employers in order to make self-funding work? What happens if an individual or group decides to leave the association without paying for their portion of the self-funded claims?


The bigger concern is what this new option does to the risk pool and how it affects the cost for those who don’t – or can’t – join one of these associations. Both the risk profile and the cost for health insurance in the exchanges are currently higher than expected because large, self-funded employers have already covered most of the “good risk.” This leaves the exchanges with what payers call “adverse selection” or bad risk. If more of the healthy population is pulled out of the exchanges through this proposed change in the ERISA self-funding requirements, it will only make the situation worse.


The bottom line is this: Selling “insurance” across state lines is not a magic bullet. It could benefit some, but at a cost to others. This approach may fit nicely into a sound bite on the Sunday news shows, but it does nothing to address the fundamental issue that we can produce more care in this country than we can afford to pay for everyone to receive. It’s like me trying to solve the problem of my pants getting snug by buying bigger pants, rather than by diet and exercise.

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Senator Bernie Sanders introduced a bill last week that would provide universal health care coverage for all Americans by expanding Medicare to cover everyone, making employer – sponsored health plans a thing of the past.
When I read of this latest attempt by Senator Sanders to provide universal, single payer coverage, the first thing that came to mind was the law of unintended consequences.

What would really happen if the senator’s bill was passed into law?  Let’s try not to be political, but rather let’s look at the facts and review both positive and negative consequences of such an action.

First, on the positive side, every American would have insurance and would no longer have to worry about the “out-of-pocket” cost of health care. Under Senator Sanders’ plan, a long list of benefits, including primary care visits, maternity care and hospital stays would be paid for without a co-pay.  The problem of 20 million uninsured Americans would be solved. Struggling to pay high out of pocket expenses for hospitalization and other expensive treatments would be a thing of the past. The burden that health insurance premiums put on American businesses would go away.  At this point, the uninformed might want to stop reading and say, “What’s not to love!  How can we get this billed passed?”  This is where that nasty law of unintended consequences comes in.  What I have just described is the intended impact of such a law.  To be fully informed you have to study the unintended consequences.

Let’s begin by asking ourselves how much this will cost the government and how they’ll pay for it.  Senator Sanders tries to avoid this harsh reality, saying; “Rather than give a detailed proposal about how we’re going to raise $3 trillion a year, we’d rather give the American people options,”  Well, unfortunately, that doesn’t work for me.  I’d really like to know how we’re going to pay for something before I get behind it.  Lets examine the numbers.  Right now we spend $3 trillion a year on health care in this country, of which the Federal Government spends a little over $1 trillion.  So, the government would have to come up with roughly $1.8 trillion more dollars to cover the 20 million currently uninsured Americans and pick up the tab for all the employers, individuals, and states currently paying their own portion of the $3 trillion total. That assumes no change in how providers are paid.  What if the states’ portion, as they currently pay it, is simply transferred and added to the Federal budget?  Now we only need $1.2 trillion more.  We can provide Medicare for everyone if we can only figure out a way to come up with an extra $1.2 trillion dollars in tax revenue!  If only we could figure out how to get more tax revenue…

If we split the $1.2 trillion equally between individual income tax rates and corporate payroll tax rates, we arrive at the following reality: individuals would need to be taxed at 15% to 56%.  Add in the new individual payroll tax rate of 11% and you have an effective tax rate between 26% and 67%.  People in the highest tax bracket would have two-thirds of every dollar they make taken by the Federal Government.The corporate story isn’t much better.  Corporate tax rates would need to be from 21% to 50%, plus the new corporate payroll tax rate of 11%, giving us an effective tax rate between 32% and 61% for corporations in America.

This level of taxation would create significant incentives for corporations and individuals to seek ways to avoid paying said taxes.  The incentive for corporations to move overseas, for example, would be incredible.  As corporations decide it’s financially advantageous to operate outside the country, unemployment would increase and thereby harm our economy.  This new rate of personal income taxation would position the U.S. as having the highest tax rate in the industrialized world.  Those who could move their residency and incomes out of the country wouldn’t hesitate.  The attraction of the American way of life would suffer greatly.

But don’t worry, there’s a solution to these problems!  We’d just make sure the new Medicare-for-all law requires all hospitals and physicians to be paid at the same rate they currently get from Medicare for everyone.  This would drive a significant amount of cost out of the system and thus reduce the tax burden on individuals and corporations.  Simple, right?  Again, we have to think about those pesky unintended consequences.  You see, expense reduction is revenue reduction viewed from the other side.

Most of my physician clients couldn’t survive if they were compensated at Medicare levels for all of their patients. In order to remain in business, they’d have to significantly change the way they provide care.  In this scenario, health care delivery in America could quickly turn into something that would make the old VA system look good.
So, the long and short of it is this: There is no magic bullet. Medicare-for-all sounds good, as long as you don’t look too deeply into the details. The reality is it would crush our economy through tax increases or crush our health care delivery system.  The most likely outcome would be that both the economy and our delivery system would experience significant damage.

The problem is deeper than just changing how we finance health care in this country. We’ll have to fundamentally change the way we provide care.  There will be hard choices about what we’re going to pay for and when.  We’ll have to dive into difficult issues like personal accountability and health care as a right versus a privilege.  We’ll need to deal with tort reform and leveraging technology, and include economic factors into our decisions about advancements in medicine.  These are all serious issues and none of them are addressed by just shouting “Medicare-for-all!” as an alternative to the system we have now.

If Senator Sanders’ bill starts a debate, an honest discussion about all of the issues around health care in this country, then it will have done some good.  We need more discussion and debate on this topic.  If, on the other hand, it’s simply accepted as a possible solution to our problems, I fear we may find that the cure really can be far worse than the disease.

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NOW I’VE SEEN IT ALL. Healthy California Act Would Be Disastrous.

Now I’ve seen it all. As a former health insurance executive who currently represents physicians across the U.S. in their dealings with managed care companies, I’ve spent a great deal of time watching healthcare reform activities at the federal level. While my attention has been focused on Washington D.C., the opposite coast has introduced something that I never thought I would see. The State of California has introduced Senate Bill 562, the Healthy California Act.

This bill would provide free healthcare to all residents of California. Further, the bill would provide that free care to any resident, regardless of their immigration status. Oh, and did I mention no co-pay, no co-insurance, no form of cost sharing whatsoever? There would be no utilization management, no prior authorization requirement, and no insurance companies! That’s right, free insurance for everyone with no restrictions! It all sounds great, doesn’t it?

The obvious first question is: how do you pay for all of this? Here are the numbers: The projected cost of this program is $400 billion per year. Between current state and federal funding, California will only have to come up with about half that number – $200 billion. To put that into perspective, the projected 2017-2018 budget for the state of California is $180 billion. So, all they have to do is more than double the state budget and everyone gets free healthcare.

But don’t worry; paying for it should be easy. California only needs to add another 15% to the state income tax rate and they’re all good. Let’s put that into perspective. California already has the highest state income tax rate in the country with the top marginal rate of 13.5%. That means that with this new tax to pay for “free” healthcare, the top marginal rate in California would be 28.5%. Combine that with the top federal marginal rate and that means if you’re an upper income-earner in California you could easily find yourself paying a marginal tax rate of over 68%. Yes, that means that after about $400,000 per year you get to keep less than one third of the income you earn. Add to that California’s highest state sales tax of 7.5% and high property taxes, and you have a wonderful place to live.

Just for a moment, let’s assume that all the residents in higher income brackets don’t immediately flee the state if the bill passes, and take a look at what else could happen. First of all, with no restriction on what or how much care people can receive – and no cost to the patient for drugs or services – utilization rates could easily increase beyond anything we’ve ever seen. We could also see California become a vacation destination for medical services. Cancer diagnosis? Move to California. Need heart surgery? Move to California. Get the picture? None of those very likely eventualities were included in figuring the cost of the bill, either.

Next we should ask how hospitals and doctors would be paid. That’s where the bill gets even fuzzier; here’s what it says:

  • Require payments to providers to be made on a fee-for-service basis unless other payment methodologies are developed by the Board;
  • Require all payments to be reasonable and reasonably related to the cost of providing health care services and to ensure an adequate supply of services;
  • Authorize integrated health care delivery systems to choose to be compensated on a capitated or non-capitated system budget;
  • Require the Program to negotiate payment rates with providers’ representatives;

See, nothing to worry about. I’m sure the state will be fair when it comes to paying doctors and hospitals. They’re completely fair with the Medicaid fee schedules, aren’t they?

There are so many problems with this bill that it’s hard for me to pick a place to start. I don’t know whether to focus on how it would destroy what is left of the California economy or point out how this approach could produce healthcare costs beyond imagination. I could certainly point out how the state would be forced to reduce payment levels such that it would drive good providers out of the state and bankrupt many hospitals. I could write in great length about how difficult it would be to reverse something like this once it’s in place, or how this approach hasn’t worked for any country that’s tried it. You can see those train wrecks coming without any more help from me, though, so instead I’ll close with these final thoughts:

“The problem with socialism is eventually you run out of other people’s money.” – Margaret Thatcher

“Solving our healthcare problems by providing free healthcare to all is like trying to solve alcoholism with an open bar.” – Ron Howrigon