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The way health care is delivered and paid for in the U.S. has been undergoing rapid, market-driven change. These changes have had—and will continue to have—profound effects on the pharmaceutical industry.

THE GROWTH OF MANAGED CARE

Health maintenance organizations (HMOs) had 105.3 million members in 1998, up from 33.6 million in 1990. Although the nature of drug coverage varies, generally 95 percent of people enrolled in HMOs receive prescription-drug benefits.¹

Almost 80 percent of employed Americans are now covered by either an HMO, a preferred provider organization, or a point-of-service plan—all examples of managed health care [Figure 5-1]. Point-of-service plans—in which enrollees can choose to receive services out of the managed care network and still be reimbursed for a portion of the costs—are responsible for much of the growth in managed-care plans among employed Americans. In 1992, point-of-service plans covered only 5 percent of insured workers; their share had jumped to nearly 20 percent by 1996.

MANAGED CARE COST-CONTAINMENT TECHNIQUES

Managed-care organizations frequently use a variety of cost-containment techniques specifically for pharmaceutical expenditures. The resulting effects on total health care costs and quality of patient care, however, are not always adequately assessed.

About 90 percent of HMOs now use formularies. A formulary is a list of prescription drugs approved for insurance coverage. Drugs are selected principally on the bases of therapeutic value, side effects, and cost. Formularies range in restrictiveness from "open," under both listed and non-listed drugs are reimbursed, to "closed," which only listed drugs are reimbursed. In 1998, an estimated 48.4 percent of HMOs used closed formularies, up from 38.1 percent in 1997.² Closed formularies may deny coverage for newer, more expensive, or experimental drugs regardless of their effectiveness.

A study published in the March 1996 issue of The American Journal of Managed Care found that overly restrictive formularies used by managed-care organizations often have unintended consequences. The researchers looked at six HMOs in various parts of the U.S., all of which used formularies with varying degrees of restrictiveness. The study focused on patients with asthma, ear infections, arthritis, ulcers and high-blood pressure—diseases usually treated with prescription drugs. The researchers found that restrictive formularies increased patients' use of other medical services. In general, the greater the limitation on physicians' use of medicines, the more patients used physicians, emergency rooms, and hospitals—all of which cost more than prescription drugs.³

In addition to formularies, HMOs also use a number of other techniques to limit expenditures on prescription drugs [Figure 5-2].

• Therapeutic Interchange: This practice involves the dispensing of a different drug having a different chemical composition than the one prescribed—usually, but not always, in the same therapeutic class. In some circumstances, pharmacists make this substitution without the knowledge of the prescribing physician. About 40.2 percent of HMOs now use therapeutic interchange, up from 22 percent in 1990.

• Step-care Therapy: Step-care therapy requires that physicians follow a sequence of treatments for a given condition, usually starting with the lowest-cost treatment and progressing to higher-cost treatments only if previous treatments are not effective. Patients may be denied immediate treatment with the most effective medicines and suffer a delayed recovery as a result. The percentage of HMOs using step-care therapy increased from 35 percent in 1996 to 68.5 percent in 1998.

• Drug Utilization Review (DUR): DUR programs involve retrospective monitoring of physicians' prescribing patterns. Historically, they have been used to ensure the appropriate, safe, and effective use of prescription drugs. More than 90 percent of HMOs now require DUR. Intense cost pressures in the managed-care environment, however, threaten to change the focus of DUR programs from quality and patient safety to cost savings.

• Generic Substitution: The percentage of HMOs requiring generic substitution, where a brand-name drug is replaced with a generic copy, increased from 63 percent in 1984 to 72.4 percent in 1998. Switching patients from a brand-name to a generic copy can cause problems, particularly with illnesses such as heart failure, cancer, diabetes, and seizure disorder that are treated with drugs that have a narrow therapeutic index. Narrow therapeutic index is a narrow dosage range between an ineffective amount of a drug, a safe and effective amount, and an amount where the risks of the drug begin to exceed its benefits.

The more widespread use of cost-containment techniques in managed-care organizations is especially significant given their increasing share of total prescription-drug payments. According to IMS Health, third-party sources—including Medicaid, HMOs, and other insurance plans—paid for 82 percent of all retail outpatient prescription drugs in 1999, up from 37 percent in 1990. While the proportion of prescriptions paid by Medicaid has remained stable, the proportion paid by private third parties has more than doubled since 1990 [Figure 5-3].

The increasing trend toward managing drug benefits has spawned specialized companies called pharmacy benefit managers (PBMs). Virtually nonexistent until the late 1980s, these companies evolved from insurance claims-processing and mail-order prescription companies. PBMs now provide managed-pharmacy benefits for approximately half the insured population in the United States. PBMs manage pharmaceutical care only, marketing their services to employers, insurance companies, managed care groups, and Medicaid. There are approximately 40 PBMs in the United States today, although the top five companies account for more than 75 percent of the market.⁴

DISEASE MANAGEMENT

Some managed-care organizations have found that disease-management programs are a good way to control costs while improving health outcomes. These programs attempt to improve care by integrating various treatment components. Most disease-management programs focus on chronic diseases, which account for 60 percent of U.S. medical costs.⁵

Under a typical program, a single health care provider will be responsible for the entire range of services needed by a patient. Such a program will usually try to monitor and coordinate physician-office visits, hospitalization, emergency-room visits, medical tests, the use of supplies, and patient compliance through the use of an integrated information system.

Additional measures such as treatment guidelines, health-outcomes studies, and patient-education programs further systematize the provision of care.

Currently, more than half of HMO plans take part in some form of disease management program.⁶ Chronic high-risk "disease states" are the most common targets [Figure 5-4]. Asthma is the most common disease targeted, with nearly 60 percent of HMOs having programs to manage the disease. Historically, about 40 percent of the system-wide treatment costs associated with asthma have been due to out-of-control cases, for such purposes as emergency-room visits and hospitalization.⁷

Early intervention and prevention techniques—including proper use of steroids and physician-education programs aimed at earlier identification and appropriate specialist referral—could save an estimated 25 percent of these costs, according to an analysis by the Boston Consulting Group. Other conditions that are the focus of disease-state management programs include diabetes, gastrointestinal disorders, high cholesterol, allergies, hypertension, depression, and arthritis.⁸

SHORTER EXCLUSIVITY PERIODS

Intensifying competition in the pharmaceutical marketplace also is demonstrated by the shrinking time during which the first drug in a therapeutic class is the sole drug in that class. For example, Tagamet, an ulcer drug introduced in 1977, had an exclusivity period of six years before another drug in the same class, Zantac, was introduced. In contrast, Recombinate, a genetically engineered clotting factor for hemophilia introduced in 1992, had less than one year of exclusivity before the introduction of a competitor product, Kogenate. Invirase, the first of a new class of anti-viral drugs known as protease inhibitors, was on the market only three months before a second protease inhibitor, Norvir, was approved [Figure 5-5].

During the 1980s, the profitable lifetime for drugs—the time companies have to recoup development costs and build reserves for future drug development—was greatly shortened. This is due to passage of the Drug Price Competition and Patent Term Restoration Act of 1984, which allowed quick approval of generic copies of brandname drugs. Although this law increased the time between FDA approval of a drug and patent expiration, it virtually eliminated the period between patent expiration and the entry of generic competitors into the market. The effect has been to reduce to less than 12 years the time available for research-based drug companies to recoup R&D investment.⁹ Increasing emphasis on generic substitution by managed-care organizations has led to more rapid market share erosion for originator products once their patents expire. For originator drugs first facing generic competition in the 1989-1990 period, generics gained 47 percent of the market after 18 months [Figure 5-6]. For products whose patents expired in the 1991-1992 period, generic competition claimed 72 percent of prescriptions after 18 months.¹⁰

COMPETITION FROM GENERIC DRUGS

Over the past decade, generic drugs have more than doubled their share of the prescription market—from 18.6 percent at the end of 1984 to 47.1 percent in 1999 [Figure 5-7]. The large number of innovator products due to loose patent protection over the next 10 years will foster robust growth in the generics industry. Although some brandname companies own and operate generic subsidiaries, the commodity nature of the generic drug business will not sustain R&D programs. Funds available for R&D depend on the ability of companies to discover, patent, and bring to market a steady stream of innovative products.

STRATEGIC ALLIES

Companies have responded to shorter product life cycles, cost-containment pressures, and research opportunities by increasingly forming strategic alliances [Figure 5-8]. The total number of such alliances grew from 121 in 1986 to 712 in 1998. These alliances are diverse in nature and may involve domestic and foreign pharmaceutical companies, biotech firms, university research centers, contract research organizations, or other parties. Strategic alliances often allow pharmaceutical companies to draw upon others' research expertise, bring products to market more rapidly, and more effectively commercialize products after approval by FDA. For example, a biotech firm developing a new product may form a strategic alliance with a larger pharmaceutical company to gain venture capital, regulatory expertise, and establish market presence.

MERGERS AND ACQUISITIONS

Since the mid-1980s, the industry has been characterized by larger and more frequent acquisitions and mergers [Figure 5-9]. These structural changes, combined with economic pressures, have dramatically slowed employment growth in the pharmaceutical industry. According to the Bureau of Labor Statistics, annual employment growth in the industry averaged a healthy 2.9 percent during 1983-1993. Since 1993, when it peaked at 264,400, pharmaceutical employment declined to an estimated 260,300 in 1997.

Endnotes

1. American Association of Health Plans, 1999

2. Hoechst Marion Roussel Managed Care Digest, HMO-PPO/Medicaid Digest, 1999.

3. Horn, S.D., Sharkey, P.D., Tracy, D.M., et al., "Intended and Unintended Consequences of HMO Cost-containment Strategies: Results from the Managed Care Outcomes Project," The American Journal of Managed Care, Vol. II, No. 3, March 1996, pp. 253-264.

4. Congress of the United States, General Accounting Office, Pharmacy Benefit Managers: Early Results on Ventures with Drug Manufacturers, November 1995.

5. Peter T. Kilborn, "Managers of Care, Not of Costs," The New York Times, December 7, 1998

6. InterStudy, The InterStudy Competitive Edge: HMO Industry Report, October 1997.

7. Boston Consulting Group, The Contribution of Pharmaceutical Companies: What's at Stake for America, September 1993.

8. Ibid.

9. Boston Consulting Group, Sustaining Innovation in U.S. Pharmaceuticals, January 1996.

10. Grabowski, H., and Vernon, J., "Longer Patents for Increased Generic Competition: The Waxman-Hatch Act After One Decade," working paper, June 1995.