5 Things To Know About Pharmacy Benefit Managers

From congressional hearings to political messaging efforts, pharmacy benefit managers (PBMs) have been at the center of recent drug pricing conversations.

PBMs occupy a central role in the drug price supply chain as negotiators, administrators, and decision-makers about which drugs will be most accessible to consumers. But there is a lot the public and policymakers still do not understand about how PBMs determine which drugs patients can access, the processes PBMs use to decide how much plans and patients will pay for drugs, and the extent to which PBM business practices may contribute to high drug prices.

This column discusses what PBMs do, how some PBM practices can inflate prices and hinder transparency, and how PBMs fit into the broader drug pricing system and highly concentrated health care markets. The column also highlights other key actors and practices driving high drug prices and outlines actions policymakers can take to protect consumers and make drugs more affordable through PBM reforms.

PBMs are middlemen between drug companies, insurers, and pharmacies

PBMs act as negotiating entities between several actors in the prescription drug supply chain. Insurers work with PBMs as third-party contractors that manage their prescription drug benefits. PBMs create and update formularies of preferred drugs, with different prices and cost-sharing amounts that influence what beneficiaries pay out of pocket and which medications they can access through their insurance. PBMs negotiate rebates and discounts for an insurance plan from drug manufacturers and determine the prices insurers pay and the payments pharmacies receive. PBMs can also take on the administrative role of directly reimbursing retail pharmacies on behalf of an insurer. Both public and private insurers, including Medicaid, Medicare Advantage plans, employer-sponsored insurance plans, and individual market plans, use PBM services.

Insurers often pay an administrative fee to PBMs for their services, although PBMs frequently generate additional revenue when acquiring rebates from drug manufacturers and through retaining a portion of the payment rates PBMs set for insurers and retail pharmacies. There are two main practices PBMs use to maximize their revenues, which can drive up costs for patients and insurers:

1. Capturing some of the savings from the rebates they negotiate, PBMs negotiate rebates from drug manufacturers so the insurance plan contracted with a PBM gets a discount on a drug’s “list price,” or the initial price set for a drug by manufacturers. While there is little information about the value of these rebates, PBMs sometimes retain a portion of the rebates for their own profit instead of passing the full value of the rebates on to the insurer. Manufacturer rebates typically come in the form of a percentage off the list price. Therefore, the higher the price of a covered drug, the steeper the potential discount, some of which PBMs may keep as profit. PBMs have an incentive to further maximize profits by steering patients to higher-priced drugs with higher rebates (as a proportion of the list price). This is done by placing drugs at more favorable formulary positions (on a tier with lower cost-sharing levels), which encourages beneficiaries to opt for those drug products. The PBMs would then retain a portion of the rebate for every claim.
2. Spread pricing, when PBMs receive a higher payment from insurers for a drug than the amount the PBMs pay to retail pharmacies for the drug, helps PBMs profit by capturing this difference. There is insufficient transparency into the prices insurers are contracted to pay pharmacies for medications and the amount of reimbursement the pharmacy actually receives—but research points to a frequently considerable difference in these values. Legislators, the pharmaceutical manufacturing industry, researchers, and others have recently scrutinized spread pricing as a driver of high drug costs. Insurers contract with PBMs to receive discounts and lower prices, rather than just accepting the list price set by the drug company. However, when PBMs engage in spread pricing, some of those cost savings are captured by the PBMs and are passed on to patients as higher premiums and cost sharing.

There is little transparency to PBM practices

One of the challenges in demanding greater accountability from PBMs is the relative lack of information about how they operate. The drug pricing process overall is already opaque, and PBMs add another layer of secrecy. Most insurers contract with PBMs to handle the administrative side of their drug benefit provision. But PBMs have no obligation to share details with insurers about how the PBM determines formulary placements, why some drugs in the formulary are more costly than others, and what proportion of the rebates and negotiated drug payments PBMs keep. This presents a challenge for insurers and plan sponsors. As Melissa Bartlett, vice president of Health Policy at the ERISA Industry Committee, put it in an email to the author:

When PBM practices result in anything less than full transparency—from the fees they collect from drug manufacturers, to the spread they make and all of the money that should be passed through to the plan—the result is greater costs to the plan and the beneficiaries, and significant missed opportunities to help mitigate the ever-rising costs of health care borne by employers and working families.

When insurers sign contracts with PBMs, there are often provisions that restrict insurers’ access to information about prescription drug claims, manufacturer prices and rebates, and payment rates to pharmacies. This information asymmetry prevents insurers from assessing a PBM’s performance and holding that PBM accountable for taking a cut out of what the insurer is paying for drugs. This lack of information also inhibits insurers’ ability to understand their beneficiaries’ drug utilization patterns and to look for other ways to try to constrain spending—for example, by working with providers to shift prescribing patterns.

Furthermore, PBMs have an incentive to use formularies and cost-sharing rates to encourage patients to take higher-priced drugs—with steeper discounts and therefore steeper PBM profits. Accordingly, some experts report that PBMs overcharge for generics; The Wall Street Journal estimated that Cigna and CVS Health, both of which own PBM services, are able to charge prices for specialty generic drugs that are 24 times higher than what manufacturers charge. With spread pricing as a business practice, it is no wonder that, according to one study, PBMs make four times more in gross margins for generic drugs compared with brand-name drugs.

Requiring PBM transparency is not an outlandish idea; in fact, it would be akin to recent administrative pushes for hospital and insurer price transparency. The U.S. Department of Health and Human Services’ Hospital Price Transparency Final Rule, which went into effect January 1, 2021, requires all hospitals to provide “clear, accessible pricing information online.” The Transparency in Coverage Final Rule similarly requires insurers offering individual and group health plans to publish their in-network prices and out-of-network charges. This first took effect on July 1, 2022, with online price estimation and comparison tools required in 2023 and 2024.

Similar to the recent push on hospital and insurer transparency, several congressional bills and a proposed administrative action would require greater transparency into, and therefore accountability for, PBM practices. And there are already PBMs voluntarily using a transparent drug pricing model: passing through rebates; charging clear, flat fees; and disclosing pricing data to other entities in the drug pricing supply chain. With more information, insurers could demand fairer pricing or find an alternative PBM that might better serve them.

Consolidation incentivizes PBMs to charge more

While PBMs already have incentives to drive up the price of drugs for insurers, consolidation among PBMs and consolidation between insurers, pharmacies, and PBMs further incentivize PBMs to inflate prices and promote the use of brand-name drugs.

Market concentration among PBMs is a pervasive problem; in 2022, only six companies made up 96 percent of the PBM market, and the top three PBMs accounted for nearly 80 percent. (see Figure 1) With substantial control of the market and little competition, these large PBMs are free to construct their services to their advantage. For example, PBMs use formularies to determine which drugs patients can access and afford with substantial variation in cost sharing that can greatly influence which drugs patients choose to take: In 2022, among employer-sponsored insurance plans with more than three tiers, copays for tier 1 preferred drugs averaged $11, while tier 4 drug copays averaged more than 10 times that amount.

Vertical consolidation of PBMs with other health care entities—especially between insurers and PBMs—is also increasingly aligning incentives against patients. For example, each of the five largest PBMs are consolidated with at least one other actor in the supply chain. (see Figure 2) More specifically, CVS Health Corporation owns CVS Pharmacy, CVS Caremark (a PBM), and insurer Aetna; Cigna Corporation owns health insurer Cigna Healthcare and PBM and mail-order pharmacy subsidiary Express Scripts; UnitedHealth Groups owns insurer UnitedHealthcare and PBM and mail-order pharmacy OptumRx; Humana Pharmacy Solutions is a PBM subsidiary of insurer Humana; and the PBM Prime Therapeutics owns Magellan Rx Management, which operates a home delivery and specialty pharmacy.

Typically, insurers would have an incentive to secure low drug prices to keep their costs low; however, when an insurer owns a PBM, inflating drug prices can help the merged insurer-PBM profit further. When PBMs merge with retail pharmacies—as is the case for CVS Caremark, PBMs have a greater incentive to engage in spread pricing and inflate pharmacy payments above the cost of supplying the medication. Furthermore, PBM ownership of retail and specialty pharmacies and market power may enable them to negotiate favorable terms and make it challenging for independent and community pharmacies to be in a plan’s network. As Anne Cassity, senior vice president of Government Affairs for the National Community Pharmacists Association, explained in an email to the author, “PBMs dictate which pharmacies a patient can utilize, which medications are covered, how much a patient pays at the pharmacy counter, and how much a pharmacy will ultimately be reimbursed.” This makes it difficult for community pharmacies to stay afloat and threatens patients’ ability to access their preferred pharmacy—a particularly harmful prospect in underserved areas where researchers describe community pharmacists as “the most accessible health care professional.”

Consumers and payers ultimately bear the brunt of these practices: As Alison Lum, the vice president of Pharmacy at nonprofit health plan Blue Shield of California, put it in an email to the author, concentration and vertical integration within the PBM market “ultimately lead to higher drug prices that are passed on to consumers, employers and to any insurer that doesn’t own, or is not owned by, a pharmacy benefit manager.”

Drug manufacturers also leverage their own substantial market power when they set drug prices. Pharmaceutical companies frequently set brand-name drug prices high and abuse the patent system to keep prices high, maintain exclusivity, and prevent generics and biosimilars from coming to market. When generics or biosimilars do reach the market, that additional competition theoretically should bring prices for a given drug down. However, as in the case of the autoimmune disorder drug Humira, the drug with highest global sales of all time, some PBMs list biosimilars on their formularies at the same price as their brand-name equivalent, providing little incentive for patients or providers to switch medications and artificially inflating biosimilar prices. Manufacturers also leverage their market power to use this arrangement to their advantage. For example, AbbVie, the manufacturer of Humira, reportedly threatened to take away rebates for two other high-priced brand-name drugs if plans recommended biosimilars over Humira. These tactics work: In 2023, Humira maintained 98 percent of its market share, despite the entry of five biosimilars. PBMs may also benefit from these approaches; because PBMs negotiate rebates as a percentage of a drug’s list price, promoting high-priced drugs enables the PBMs to capture some of the higher rebates themselves.

Congress is considering several PBM reforms

There has been substantial bipartisan interest in addressing harmful PBM practices. The Pharmacy Benefit Manager Reform Act of 2023 (S. 2339), introduced by Sen. Bernie Sanders (I-VT), would require PBMs to report service information to plan sponsors, prohibit spread pricing, and require PBMs to pass through rebates and discounts to the plan sponsor. Similarly, the Modernizing and Ensuring PBM Accountability Act of 2023 (S. 2973), introduced by Sen. Ron Wyden (D-OR), would require PBMs to report their activities, prohibit spread pricing for Medicare Part D plans and Medicaid, and limit PBM income to service fees.

Other bipartisan bills include the Pharmacy Benefit Manager Transparency Act of 2023 (S. 127), introduced by Sen. Maria Cantwell (D-WA), which would prohibit PBMs from engaging in deceptive and predatory practices; the Protecting Patients Against PBM Abuses Act of 2023 (H.R. 2880), introduced by Rep. Buddy Carter (R-GA), which would prohibit spread pricing in Medicare; the Protecting Patients Against PBM Abuses Act of 2023 (H.R. 2880), also introduced by Rep. Carter, which would limit PBM income to flat-rate service fees and eliminate spread pricing for Medicare; and the DRUG Act of 2023 (H.R. 6283), introduced by Rep. Mariannette Miller-Meeks (R-IA), which would delink PBM payments from rebate amounts by limiting PBM revenue to a flat fee.

PBMs are not the only driver of high drug prices

Despite the frequent finger pointing among actors in the drug pricing system, PBMs are far from the only contributors to high and rising drug prices. PBM reform alone is not enough to make prescription drugs affordable and accessible for the patients who need them. Manufacturers, insurers, retail pharmacies, wholesalers, and PBMs all capture profits in the drug price supply chain to varying degrees. Policymakers must consider comprehensive drug pricing reform that includes addressing high prices, high out-of-pocket costs, and gaming of the patent system to prevent competition.

The Inflation Reduction Act of 2022 made huge strides toward drug price affordability in Medicare. Its drug price negotiation provisions will save Medicare $24 billion in 2031, and its $2,000 out-of-pocket spending cap will prevent millions of Part D beneficiaries from outlandish expenses beginning in 2025. The Inflation Reduction Act has already eliminated the requirement for Medicare Part D beneficiaries to pay 5 percent coinsurance on drugs when in the catastrophic phase of their coverage, effectively capping out-of-pocket costs for brand-name drugs at around $3,300 in 2024. The Inflation Reduction Act’s inflation rebates also require drug companies that raise prices above the inflation rate to pay back Medicare. Extending these provisions beyond Medicare and into the commercial insurance market would be a critical step toward reducing drug prices for the majority of Americans.

Congress must also put a stop to drug manufacturers’ patent abuses, which help keep drug prices high. Drug companies frequently engage in “product hopping,” in which they discontinue a product shortly before its patent expires, shifting patients to a new brand-name, patented drug, preventing generic competition. Drug companies also use sham citizen petitions to delay generic approvals. Additionally, manufacturers amass “thickets” of overlapping patents for minor modifications to existing drugs; this not only raises prices and prevents competition, but also drives drug companies to focus on modifying existing drugs in trivial ways, rather than investing in truly innovative products. Several bipartisan bills would prevent these patent abuses and enable antitrust enforcement agencies to crack down on harmful practices.

Conclusion

PBMs play a significant role in determining the drug prices health insurance plans—and ultimately patients—pay for prescription drugs. PBMs set the payments pharmacies receive from insurers for dispensing drugs to patients and decide which drugs consumers have access to by developing an insurer’s prescription drug formulary. Research suggests that PBMs profit by artificially inflating drug prices, capturing portions of the discounts they negotiate for insurers and pocketing the difference between what insurers pay and pharmacies receive. Policymakers must act to prevent PBMs from engaging in these wasteful and harmful business practices. There are several bipartisan bills that would help make progress in this regard. It is also important to keep in mind that PBMs are only one part of a complex drug pricing system, which is full of profit-seeking entities that drive up drug prices. Policymakers interested in meaningfully reducing drug costs must take a comprehensive, multilateral approach to reform.