oversight

Federal Employees' Health Benefits: Effects of Using Pharmacy Benefit Managers on Health Plans, Enrollees, and Pharmacies

Published by the Government Accountability Office on 2003-01-10.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

               United States General Accounting Office

GAO            Report to the Honorable Byron L.
               Dorgan, U.S. Senate



January 2003
               FEDERAL
               EMPLOYEES’
               HEALTH BENEFITS
               Effects of Using
               Pharmacy Benefit
               Managers on Health
               Plans, Enrollees, and
               Pharmacies




GAO-03-196
                                               January 2003


                                               FEDERAL EMPLOYEES’ HEALTH
                                               BENEFITS

Highlights of GAO-03-196, a report to the      Effects of Using Pharmacy Benefit
Honorable Byron L. Dorgan, U.S. Senate
                                               Managers on Health Plans, Enrollees, and
                                               Pharmacies


Rising prescription drug costs have            The PBMs reviewed produced savings for health plans participating in
contributed to rising employer                 FEHBP by obtaining drug price discounts from retail pharmacies and
health plans premiums in recent                dispensing drugs at lower costs through mail-order pharmacies, passing on
years. Most federal employees,                 certain manufacturer rebates to the plans, and operating drug utilization
retirees, and their dependents                 control programs. For example, the average price PBMs obtained from retail
participating in the Federal
Employees Health Benefits
                                               pharmacies for 14 brand name drugs was about 18 percent below the
Program (FEHBP), administered by               average price paid by customers without third-party coverage.
the Office of Personnel
Management (OPM), are enrolled                 Enrollees in the plans reviewed had wide access to retail pharmacies,
in plans that contract with                    coverage of most drugs, and benefited from cost savings generated by the
pharmacy benefit managers (PBM)                PBMs. Enrollees typically paid lower out-of-pocket costs for prescriptions
to administer their prescription               filled through mail-order pharmacies and benefited from other savings that
drug benefits.                                 reduced plans’ costs and therefore helped to lessen rising premiums.
GAO was asked to examine how                   Most retail pharmacies participate in the FEHBP plans’ networks in order to
pharmacy benefit managers                      obtain business from the large number of enrollees covered. Pharmacy
participating in the federal program
affect health plans, enrollees, and
                                               associations report that the PBMs’ large market shares leave some retail
pharmacies. GAO examined the                   pharmacies with little leverage in negotiating with PBMs. Retail pharmacies
use of PBMs by three plans                     must accept discounted reimbursements from PBMs they contract with and
representing about 55 percent of               perform additional administrative tasks associated with claims processing.
the 8.3 million people covered by
FEHBP plans. For example, GAO                  OPM generally concurred with GAO’s findings. The plans and PBMs
surveyed 36 retail pharmacies on               reviewed provided technical comments, and two independent reviewers
prices that a customer without                 stated the report was fair and balanced. One pharmacy association
third-party coverage would pay for             expressed strong concerns, including that the report did not more broadly
18 high-volume or high-expenditure             address economic relationships in the PBM industry. GAO examined
drugs and compared these prices to             relationships between the PBMs and manufacturers and pharmacies specific
prices paid by the plans and PBMs.
                                               to their FEHBP business. However, relationships between PBMs and other
                                               entities for other plans were beyond the report’s scope.

                                               PBM Discounted Prices Compared to Prices for Customers without Third-Party Coverage,
                                               30-day Supply, April 2002




www.gao.gov/cgi-bin/getrpt?GAO-03-196.

To view the full report, including the scope
and methodology, click on the link above.
For more information, contact Kathryn G.
Allen at (202) 512-7118.
Contents


Letter                                                                                              1
                       Results in Brief                                                             4
                       Background                                                                   6
                       PBMs Achieved Savings through Price Discounts, Rebate
                         Payments, and Managing Drug Use                                            9
                       PBMs Provided FEHBP Enrollees Generally Unrestricted Access to
                         Prescription Drugs, Cost Savings, and Other Benefits                     15
                       Pharmacies Included in PBM Retail Networks Must Accept
                         Discounted Prices and Perform Various Administrative Tasks               20
                       PBMs Received Compensation from Plans and Payments from
                         Manufacturers for Their FEHBP Business                                   25
                       Concluding Observations                                                    28
                       Agency and Other Comments and Our Evaluation                               28

Appendix I             Scope and Methodology                                                      31



Appendix II            Comments from the Office of Personnel
                       Management                                                                 36



Appendix III           GAO Contact and Staff Acknowledgments                                      38



Related GAO Products                                                                              39



Tables
                       Table 1: FEHBP Plans and PBMs Reviewed                                       7
                       Table 2: FEHBP Plans’ Formularies Compared to VA National
                                Formulary                                                         17
                       Table 3: Comparison of Enrollee Cost-Sharing for a 90-day Supply
                                of Retail and Mail-Order Prescription Drugs, 2002                 18
                       Table 4: Selected High-Volume or High-Expenditure Drugs for 3
                                FEHBP Plans                                                       32




                       Page i                      GAO-03-196 Pharmacy Benefits for Federal Employees
Figures
          Figure 1: PBM Relationships with Market Participants                       8
          Figure 2: PBM Discounted Plan Prices Compared to Cash-Paying
                   Customer Prices for 30-Day Supplies, April 2002                 10
          Figure 3: Overview of PBMs’ Compensation and Payment Sources             26




          Abbreviations

          AMP          average manufacturer price
          AWP          average wholesale price
          BCBS         Blue Cross and Blue Shield
          FEHBP        Federal Employees Health Benefits Program
          GEHA         Government Employees Hospital Association
          HMO          health maintenance organization
          IOM          Institute of Medicine
          MAC          maximum allowable cost
          NACDS        National Association of Chain Drug Stores
          NCPA         National Community Pharmacists Association
          NDC          National Drug Code
          OPM          Office of Personnel Management
          PBM          pharmacy benefit managers
          SEC          Securities and Exchange Commission
          VA           Department of Veterans Affairs
          WAC          wholesale acquisition cost


          Page ii                   GAO-03-196 Pharmacy Benefits for Federal Employees
United States General Accounting Office
Washington, DC 20548




                                   January 10, 2003

                                   The Honorable Byron L. Dorgan
                                   United States Senate

                                   Dear Senator Dorgan:

                                   The increasing cost of prescription drugs has been a key component of
                                   rising employer health care costs in recent years. In 2001, total employer
                                   health benefit costs rose 11 percent, while prescription drug costs rose 17
                                   percent.1 Many employer-sponsored health plans and insurers contract
                                   with pharmacy benefit managers (PBMs) to help manage their prescription
                                   drug benefits. PBMs negotiate drug prices with pharmacies and drug
                                   manufacturers on behalf of health plans and, in addition to other
                                   administrative, clinical, and cost containment services, process drug
                                   claims for the health plans. In 2001, nearly 200 million Americans had their
                                   prescription drug benefits managed by a PBM. Most federal employees,
                                   retirees, and their dependents participating in the Federal Employees
                                   Health Benefits Program (FEHBP), the largest employer-sponsored health
                                   insurance program in the United States, are enrolled in plans that contract
                                   with PBMs to manage their prescription drug benefits.

                                   Because PBMs play a critical role in managing prescription drug benefits,
                                   you asked us to examine PBMs’ role within the FEHBP program. In
                                   particular, we addressed the following questions:

                                   1. Do PBMs achieve savings, and, if so, how?

                                   2. How do FEHBP plans’ use of PBMs affect enrollees, including access
                                      to prescription drugs and out-of-pocket spending?

                                   3. How do FEHBP plans’ use of PBMs affect retail pharmacies, including
                                      pharmacies’ reimbursements for drugs dispensed and administrative
                                      requirements?

                                   4. How are PBMs compensated for services provided to FEHBP plans?



                                   1
                                    William M. Mercer Incorporated, Mercer/Foster Higgins National Survey of Employer-
                                   Sponsored Health Plans 2001, (New York: 2002).



                                   Page 1                            GAO-03-196 Pharmacy Benefits for Federal Employees
    To respond to these questions, we examined the use of PBMs by three
    FEHBP plans: Blue Cross and Blue Shield (BCBS), Government
    Employees Hospital Association (GEHA), and PacifiCare of California.
    Together, these plans accounted for about 55 percent of the 8.3 million
    people covered by FEHBP as of July 2002 and represented various plan
    types and PBM contractors.2 BCBS contracted with the two largest PBMs
    in the United States for its pharmacy benefit services—Medco Health
    Solutions, a subsidiary of the pharmaceutical company Merck & Co., Inc.,
    and AdvancePCS. GEHA contracted with Medco Health Solutions and
    PacifiCare of California contracted with Prescription Solutions, another
    subsidiary of PacifiCare Health Systems.

    We reviewed contracts between the PBMs and plans, financial statements
    regarding payments made between the plans and PBMs, and retail and
    mail-order prices for selected drugs from the FEHBP plans we reviewed
    and the PBMs with which they contracted. We also obtained pricing
    information from retail pharmacies, interviewed officials at the Office of
    Personnel Management (OPM),3 and associations representing PBMs and
    retail pharmacies, and reviewed studies regarding the use of PBMs and
    prescription drug payments. Specifically:

•   To assess whether PBMs achieve cost savings, we obtained April 2002
    prices for 18 drugs that the three FEHBP plans paid to their PBMs for
    retail and mail order prescriptions.4 We compared these prices to cash
    prices5 that customers would pay at retail pharmacies in California, North
    Dakota, Washington, D.C., and the Virginia and Maryland suburbs of
    Washington, D.C., and to Medicaid reimbursement rates in these locations.
    In addition, we obtained plan and PBM data on drug manufacturers’
    rebates that PBMs pass on to plans and any estimated savings resulting
    from certain PBM intervention techniques such as drug utilization reviews
    and prior authorization.



    2
    BCBS and GEHA are fee-for-service plans, while PacifiCare of California is a health
    maintenance organization (HMO).
    3
     OPM has overall administrative responsibility for FEHBP and authority to contract with
    private plans, including fee-for-service insurers and HMOs, to operate the program. As of
    July 2002, OPM had contracts with 183 participating plans.
    4
    These prices represent the combined enrollee and plan portion paid.
    5
     Cash prices refer to the price paid for a prescription without any insurance or other third-
    party coverage.




    Page 2                               GAO-03-196 Pharmacy Benefits for Federal Employees
•   To examine the effect of PBM services on enrollees’ access to drugs and
    out-of-pocket costs, we reviewed plan documents; compared the plans’
    retail pharmacy networks to the number of licensed retail pharmacies in
    California, the District of Columbia, Maryland, North Dakota, and Virginia;
    and compared the number of drugs and therapeutic classes included on
    the plans’ formularies6 with the National Formulary for the Department of
    Veterans Affairs (VA).7
•   To examine the effect of PBMs on retail pharmacies, we interviewed
    representatives of retail pharmacies and associations and representatives
    of FEHBP plans and PBMs. We also compared the PBMs’ payments to
    retail pharmacies for selected drugs to industry-reported manufacturer
    and wholesale prices that estimate pharmacy acquisition costs.
•   To examine how PBMs were compensated for services they provided
    FEHBP plans, we examined the contracts between plans and PBMs and
    associated annual financial statements and financial information that
    PBMs filed with the Securities and Exchange Commission (SEC).

    While the plans and PBMs provided certain data that they considered
    proprietary, we do not report such data that can be linked to a specific
    plan or PBM but instead report aggregated drug price, cost, savings, and
    compensation data. We did not independently verify information provided
    by plans, PBMs, or pharmacies. Appendix I provides additional
    information on our scope and methodology, and a list of our related
    products is included at the end of this report. Our work was conducted
    from September 2001 through December 2002 according to generally
    accepted government auditing standards.




    6
     Formularies include lists of prescription drugs, grouped by therapeutic class (groups of
    drugs that are similar in chemistry, method of action, and purpose of use), that health plans
    or insurers encourage physicians to prescribe and beneficiaries to use.
    7
     We used the VA formulary as a benchmark for comparison because the Institute of
    Medicine has determined that it is not overly restrictive. The IOM committee also
    concluded that the VA formulary is in some respects more but in many respects less
    restrictive than other public or private formularies. See David Blumenthal and Roger
    Herdman editors, VA Pharmacy Formulary Analysis Committee, Division of Health Care
    Services, Institute of Medicine, Description and Analysis of the VA National Formulary
    (National Academy Press, Washington, D.C.: 2000).




    Page 3                              GAO-03-196 Pharmacy Benefits for Federal Employees
                   The three PBMs we examined achieved savings for FEHBP-participating
Results in Brief   health plans by using three key approaches: obtaining drug price discounts
                   from retail pharmacies and dispensing drugs at lower costs through their
                   mail-order pharmacies; passing on certain manufacturer rebates to the
                   plans; and using intervention techniques that reduce utilization of certain
                   drugs or substitute other, less costly, drugs. The average price PBMs
                   negotiated for drugs from retail pharmacies was about 18 percent below
                   the average cash price customers would pay at retail pharmacies for 14
                   selected brand-name drugs and 47 percent below the average cash price
                   for 4 selected generic drugs. These price savings may overstate PBMs’
                   negotiating success because, absent a PBM, plans would likely manage
                   their own drug benefits and also attempt to negotiate discounts with retail
                   pharmacies. PBMs provide plans even greater savings when drugs are
                   dispensed through their mail-order pharmacies. The average mail-order
                   price was about 27 percent and 53 percent below the average cash price
                   customers would pay at a retail pharmacy for the selected brand name and
                   generic drugs, respectively. In addition to discounts, PBMs passed through
                   to plans certain rebates they earned from drug manufacturers. Across the
                   three plans, rebates reduced total annual drug spending by 3 percent to 9
                   percent from 1998 through 2001. Although difficult to precisely quantify,
                   PBMs also achieved savings through intervention techniques such as prior
                   authorization and drug utilization reviews that identify excess use,
                   duplicative therapies, or the availability of effective, low-cost drug
                   alternatives. For example, plans reported savings in 2001 for various
                   intervention techniques that ranged from less than 1 percent to 9 percent
                   of their total spending on prescription drug benefits.

                   FEHBP enrollees generally had unrestricted access to retail pharmacies
                   and prescription drugs, savings in out-of-pocket spending, and other safety
                   and customer service benefits. PBMs maintained retail pharmacy
                   networks for the FEHBP plans that included most retail pharmacies—
                   typically 90 percent to nearly 100 percent in five jurisdictions we reviewed.
                   Drug formularies administered by the PBMs were generally not overly
                   restrictive; they included drugs in most major therapeutic categories and
                   mechanisms existed to allow enrollees to obtain nonformulary drugs when
                   prescribed by a physician, although sometimes at a higher out-of-pocket
                   cost. Enrollees also shared in the savings PBMs generated for FEHBP
                   plans. For example, enrollees generally paid less in out-of-pocket costs for
                   drugs from the PBMs’ mail-order services than they would at retail
                   pharmacies. Additional PBM savings passed on to plans translated into
                   smaller premium increases for enrollees. Further, each PBM operated a
                   program to review prescriptions at the point of purchase to help prevent



                   Page 4                        GAO-03-196 Pharmacy Benefits for Federal Employees
    potentially adverse drug interactions, and the PBMs reported that they
    generally met or exceeded contractual standards on customer service
    quality.

    Pharmacies that participate in retail networks established by FEHBP
    plans’ PBMs must accept discounted prices and undertake additional
    administrative tasks not required for cash-paying customers’ transactions.
    Although these pharmacies were reimbursed by the PBMs below the level
    paid by cash-paying customers, we estimate that PBM reimbursements
    exceeded pharmacies’ drug acquisition costs—not including overhead
    costs or any discounts or rebates some pharmacies may obtain—by an
    average of approximately 8 percent for brand-name drugs we selected for
    review. Administrative requirements to process PBM and other third-party
    prescriptions are greater than for cash transactions. For example,
    pharmacy staff must file claims electronically, may be required to contact
    physicians to approve formulary drug substitutions, or counsel patients on
    plan benefits. Also, retail pharmacies may lose market share to PBM mail-
    order pharmacies because some PBMs use cost incentives and enrollee
    health information to promote the use of mail order over retail
    pharmacies. Nevertheless, most retail pharmacies participate in PBM
    networks because of the large market share PBMs represent and the
    prescription and nonprescription sales generated by customers the PBMs
    help bring into the stores. Pharmacy associations report that retail
    pharmacies often have little leverage with PBMs, with negotiations only
    occurring when a large chain will not accept the PBM’s contractual terms
    or an independent pharmacy in a rural area must be included to meet
    health plans’ access requirements.

    PBMs received compensation for their FEHBP business from FEHBP
    plans and payments from pharmaceutical manufacturers through various
    methods.

•   PBMs collected fees from FEHBP plans for various administrative and
    clinical services including processing claims and conducting drug
    utilization reviews. These administrative fees, which varied by plan
    depending on contracted services, accounted for an average of about 1.5
    percent of each plan’s total drug benefit spending in 2001.
•   FEHBP plans we reviewed paid PBMs discounted prices for retail drugs
    that were virtually the same as prices PBMs paid to reimburse retail
    pharmacies. However, plans paid lower prices for mail-order drugs
    supplied by the PBM. While not disclosing their acquisition costs for mail-
    order drugs, PBM officials said that discounted prices paid by the plans to




    Page 5                       GAO-03-196 Pharmacy Benefits for Federal Employees
                 PBMs for mail-order drugs were generally higher than prices PBMs paid
                 manufacturers to acquire drugs.
             •   The PBMs we reviewed varied in the extent to which they retained a share
                 of drug manufacturers’ rebates associated with their FEHBP business or
                 passed it all on to the FEHBP plans they contracted with. The PBMs also
                 received other rebates or payments from manufacturers based on their
                 total business with a particular drug manufacturer. While information on
                 the size of these payments was unavailable, PBMs’ public financial
                 information suggests that rebates or other payments from drug
                 manufacturers may be a large source of PBM earnings.

                 In commenting on a draft of this report, OPM generally concurred with our
                 findings. The plans and PBMs we examined reviewed the report for the
                 accuracy of information regarding their arrangements and provided
                 technical comments that we incorporated as appropriate. Two
                 independent experts indicated that the report was fair and balanced and
                 provided technical comments. An official for the National Association of
                 Chain Drug Stores (NACDS) expressed strong concerns in response to our
                 draft report, primarily regarding the scope of our work. An official of the
                 National Community Pharmacists Association (NCPA) separately said he
                 concurred with the NACDS official’s comments. A major concern was that
                 the report’s focus on FEHBP plans did not adequately address the full
                 scope of economic relationships in the PBM industry, including those
                 between drug manufacturers and PBMs and the extent to which these
                 relationships create incentives for PBMs to encourage the use of certain
                 potentially higher-cost drugs. We examined contracts and relationships
                 between the PBMs and drug manufacturers and pharmacies specific to
                 their FEHBP line of business. However, relationships between PBMs and
                 manufacturers and pharmacies for other plans were beyond the report’s
                 scope.


                 Most FEHBP plans contract with a PBM to help manage their prescription
Background       drug benefits, and those that do not contract with a PBM have internal
                 components that employ techniques commonly used by PBMs, according
                 to OPM officials. The three FEHBP plans we reviewed covered more than
                 half of all FEHBP enrollees and paid $3.3 billion for about 65 million
                 prescriptions dispensed to these enrollees in 2001. Table 1 shows plan
                 enrollment and PBMs we reviewed.




                 Page 6                       GAO-03-196 Pharmacy Benefits for Federal Employees
Table 1: FEHBP Plans and PBMs Reviewed

                                         July 2002
                                       Enrollment
                               (percentage of total
                                FEHBP enrollment) PBMs
BCBS                               4,038,671 (48.8) AdvancePCS (retail)
                                                    Medco Health Solutions (mail order)
GEHA                                  441,151 (5.3) Medco Health Solutions
PacifiCare of California               57,042 (0.7) Prescription Solutions
Source: OPM.

Notes: As of July 2002, FEHBP plans covered 8.3 million people.

Some FEHBP plans offer two benefit options, including BCBS (standard and basic options) and
GEHA (high and standard options).


PBMs offer health plans a variety of services including negotiating price
discounts with retail pharmacies, negotiating rebates with manufacturers,
and operating mail-order prescription services and administrative claims
processing systems. PBMs also provide health plans with clinical services
such as formulary development and management, prior authorization and
drug utilization reviews to screen prescriptions for such issues as adverse
interactions or therapy duplication, and substitution of generic drugs for
therapeutically equivalent brand-name drugs. In order to provide these
services, PBMs operate with multiple stakeholders in a complex set of
relationships, as shown in figure 1.




Page 7                                GAO-03-196 Pharmacy Benefits for Federal Employees
Figure 1: PBM Relationships with Market Participants


                                        Administrative services
                                          Discounts/rebates
                                         Clinical management
                                                                              Health plan
                                           Payment for drugs
                                           Administrative fees


                                              Mail-order drugs
                                                                                 Enrollee
         PBM
                                       Mail-order drug cost share



                                         Payment for retail drugs
                                           Clinical information
                                                                                 Retail
                                                                               pharmacy
                                          Electronic claims
                                     Discounted retail drug prices

                                    Payment for mail-order drugs
                                       Clinical programs/data
                                                                            Pharmaceutical
                                                                             manufacturer
                                           Rebates/fees
                                    Discounted mail-order drugs
 Source: GAO analysis based on plan and PBM data and literature review.


Note: Other market interactions occur that are not represented in figure 1, including information
exchanges among PBMs, manufacturers, wholesalers, physicians, health plans, and enrollees.


Health plans are primarily responsible for overseeing PBM activities and
for reporting to OPM any problems that could affect benefits service
delivery to enrollees. OPM oversight responsibilities include negotiating
plan benefits and changes, monitoring drug benefit service delivery,
reviewing customer service reports, conducting on-site visits with
pharmacy benefit managers, and handling appeals and complaints from
FEHBP enrollees regarding their pharmacy benefits.




Page 8                                            GAO-03-196 Pharmacy Benefits for Federal Employees
                            PBMs achieved savings for FEHBP plans primarily by obtaining price
PBMs Achieved               discounts for drugs, obtaining rebate payments from manufacturers, and
Savings through Price       employing various intervention techniques to control drug utilization and
                            cost. In comparison to cash-paying customer prices, PBMs we reviewed
Discounts, Rebate           obtained significant discounts from retail pharmacies and offered even
Payments, and               greater discounts when prescriptions were dispensed through mail-order
                            pharmacies. In addition, PBMs passed on to plans some or all
Managing Drug Use           manufacturers’ rebates associated with the FEHBP plans’ contracts and
                            used intervention techniques that reduced plan spending on drug benefits.


PBMs Obtained               In comparison to prices cash-paying customers without third-party
Discounted Prices           coverage would pay at retail pharmacies, the PBMs we examined achieved
Significantly Below Those   significant discounts for drugs purchased at retail pharmacies and offered
                            even greater discounts through their mail-order pharmacies. The average
Paid by Cash-Paying         price PBMs obtained for drugs from retail pharmacies was about 18
Customers                   percent below the average price cash-paying customers would pay at retail
                            pharmacies for 14 selected brand-name drugs and 47 percent below the
                            cash price for 4 selected generic drugs. For the same quantity, the average
                            price paid at mail order for the brand and generic drugs was about 27
                            percent and 53 percent below the average cash-paying customer price,
                            respectively.8 (See fig. 2.)




                            8
                             In addition to greater discounts, mail-order programs also save money for plans because
                            only one dispensing fee is assessed for a typical 90-day supply of drugs rather than three
                            dispensing fees for each of three 30-day supplies at retail pharmacies. Accounting for the
                            dispensing fee savings for a 90-day supply, effective average discounts from cash-paying
                            customer prices rise slightly from 27.3 to 27.7 percent for the selected brand drugs and
                            from 52.5 to 59.1 percent for the selected generic drugs. Two of the three plans we
                            reviewed limit coverage for prescriptions dispensed at retail pharmacies to a 30-day supply.
                            The third plan limits coverage for retail prescriptions up to an initial 34-day supply but
                            allows up to a 90-day supply for subsequent prescriptions under its lower option; it allows
                            90-day supplies for all prescriptions under its higher option. We did not survey retail
                            pharmacies for drug prices for a 90-day supply.




                            Page 9                              GAO-03-196 Pharmacy Benefits for Federal Employees
Figure 2: PBM Discounted Plan Prices Compared to Cash-Paying Customer Prices
for 30-Day Supplies, April 2002

 In dollars
 90    88.59


 80
                  72.85
 70
                           64.44
 60


 50

 40

 30

 20
                                          14.90

 10                                                  7.86      7.08

  0

         14 brand-name drugs                      4 generic drugs

               Average cash-paying customer price

               Average retail price negotiated with PBM for plan and enrollees

               Average mail-order price negotiated with PBM for plan and enrollees
Source: GAO analysis of plan prices from three FEHBP plans and cash-paying customer prices at 36 pharmacies in California,
North Dakota, and the Washington, D.C., area.



Note: Most mail-order pharmacies dispense at larger volumes, typically a 90-day supply. Average
mail-order discounts from cash-paying customer prices increase slightly if prescriptions are dispensed
for a 90-day supply rather than for a 30-day supply.


Moreover, PBMs we reviewed obtained greater discounts from retail
pharmacies than did state Medicaid programs, which represent another
major purchaser of drugs through retail pharmacies. We estimate that the
average reimbursement rate for drugs by 5 Medicaid programs we
reviewed was about 11 percent below the average price cash-paying
customers would pay at retail pharmacies for the selected brand-name
drugs (compared to 18 percent for the FEHBP plans we reviewed) and 23




Page 10                                            GAO-03-196 Pharmacy Benefits for Federal Employees
                           percent below the average cash price for the selected generic drugs
                           (compared to 47 percent for the FEHBP plans we reviewed).9

                           While PBMs negotiated prices significantly lower than a cash-paying
                           customer would pay, these discounts may overstate the level of savings
                           plans achieve from using PBMs since no benchmark exists to accurately
                           determine what discounts plans would obtain without a PBM. In the
                           absence of a PBM, FEHBP plans could obtain some level of drug price
                           discounts from retail pharmacies and drug manufacturers but would also
                           directly incur the costs associated with undertaking these responsibilities.
                           Also, PBMs can negotiate deeper discounts for plans with smaller
                           networks of retail pharmacies because the pharmacies can anticipate
                           receiving a higher concentration of the plans’ enrollees. For example,
                           BCBS introduced its basic option in 2002 that includes a smaller network
                           of retail pharmacies—about 70 percent as many pharmacies as its
                           standard option—and deeper discounts in its retail pharmacy payments
                           compared to its standard option.


PBMs Further Reduced       PBMs also passed through to the FEHBP plans they contracted with some
Plans’ Drug Expenditures   or all of drug manufacturer rebates associated with their FEHBP business.
by Passing Through         Over the past 4 years, we estimate that the plans we reviewed received
                           rebate payments that effectively reduced plans’ annual spending on
Certain Manufacturer       prescription drugs by 3 percent to 9 percent. The share of rebates PBMs
Rebates                    pass through to plans varies and is subject to contractual agreements
                           negotiated between PBMs and the plans.10

                           Rebates and formularies are interrelated. Drug manufacturers provide
                           PBMs certain rebates depending not only on inclusion of their drugs on a
                           plan’s formulary but also on the PBMs’ ability to increase a manufacturer’s
                           market share for certain drugs. Formulary incentives, such as lower


                           9
                            Medicaid reimbursement and cash-paying customer prices are for California, North
                           Dakota, Washington, D.C., and the Virginia and Maryland suburbs of Washington, D.C.
                           10
                             Under FEHBP, plans may negotiate rebates as part of contractual agreements with PBMs.
                           In contrast, as a condition of Medicaid coverage for outpatient drugs, manufacturers are
                           required to provide state Medicaid programs with certain rebates. For brand name drugs,
                           Medicaid rebates must be a minimum of 15.1 percent of the average manufacturers’ price
                           (AMP). For the 14 brand name drugs we reviewed, we estimate that the minimum Medicaid
                           rebate would reduce costs by an average of at least 12 percent. For generic drugs, Medicaid
                           rebates must equal 11 percent of the AMP, which we estimate would reduce costs by an
                           average of about 2 percent for the 4 generic drugs we reviewed. Moreover, states may
                           negotiate additional rebates with manufacturers in order to reduce costs.




                           Page 11                            GAO-03-196 Pharmacy Benefits for Federal Employees
                                enrollee cost sharing for certain drugs compared to competing
                                therapeutically equivalent drugs, encourage the former’s use.
                                Manufacturers may pay higher rebates when formularies have stronger
                                incentives to use specific drugs. Therefore, PBMs may be able to provide
                                other health plans with higher rebates if their formularies are more
                                restrictive than those of the FEHBP plans we examined.


PBM Intervention                Although PBM intervention techniques help contain plans’ cost increases
Techniques Contributed to       by managing drug utilization and identifying opportunities to dispense less
Plans’ Savings, but Are         expensive drugs, their full impact on savings is not easily quantifiable. The
                                FEHBP plans and PBMs we reviewed reported savings for individual
Difficult to Quantify           intervention techniques ranging from less than 1 percent to 9 percent of
                                plans’ total drug spending in 2001.11 Because plans varied in their use of
                                intervention techniques and employed different cost savings
                                methodologies, these estimates may not be comparable across plans.
                                Techniques plans most commonly used included concurrent drug
                                utilization review, prior authorization, therapeutic brand interchange, and
                                brand to generic substitution. The reported cumulative effect of several
                                techniques for one plan amounted to 14 percent of drug spending.

                                Measuring cost savings from PBM intervention techniques is difficult for
                                various reasons, including:

                            •   Savings methodologies did not reflect the effect intervention techniques
                                may have over time on enrollees’ utilization patterns and physicians’
                                prescribing practices. That is, there may be a sentinel effect from PBMs’
                                reviews whereby enrollees and physicians may stop filling or prescribing
                                drugs that do not meet PBMs’ utilization review or refill criteria, but the
                                extent to which these behavior changes occur is beyond the scope of
                                PBMs’ data systems.
                            •   Plans and PBMs we reviewed did not consistently measure the number or
                                costs of drugs not dispensed as a result of PBM interventions that result in
                                drug substitutions, denials for adverse drug interaction, or other
                                interventions, making it difficult to estimate savings from certain
                                intervention techniques.
                            •   Plans did not systematically measure savings when the primary goal of the
                                intervention technique was patient safety and compliance with drugs’
                                clinical guidelines.



                                11
                                 Plans did not have estimates for all of their intervention techniques.




                                Page 12                             GAO-03-196 Pharmacy Benefits for Federal Employees
    Among various intervention techniques, concurrent drug utilization and
    prior authorization provided some plans the largest quantifiable savings.
    The following are examples of intervention savings estimates reported by
    plans we reviewed.

•   Drug utilization review includes the PBM examining prescriptions
    concurrently at the time of purchase to assess safety considerations, such
    as potential adverse interactions, and compliance with clinical guidelines,
    including quantity and dose. These reviews can also occur retrospectively
    to analyze enrollees’ drug utilization and physicians’ prescribing patterns.
    Two plans estimated savings from drug utilization review ranging from 6
    percent to 9 percent, with about 60 percent to 80 percent of the savings
    from concurrent reviews, including claim denials from the PBM to prevent
    early drug refills and safety advisories to caution pharmacists about
    potential adverse interactions or therapy duplications.12 The remaining
    estimated savings are from retrospective reviews.
•   Prior authorization requires enrollees to receive approval from the plan
    or PBM before dispensing certain drugs that treat conditions or illnesses
    not otherwise covered by plans, have high costs, have a high potential for
    abuse, or are ordered in unusual quantities. Some plans may also require
    prior authorization for nonformulary drugs. Each of the plans we reviewed
    required prior authorization for certain drugs such as growth hormones
    and a drug used to treat Alzheimer’s disease. Two plans reported savings
    from prior authorization ranging from 1 percent to 6 percent of plan
    spending for drugs that either were not dispensed or were substituted for
    with less costly alternatives.
•   Therapeutic interchange encourages the substitution of less expensive
    formulary brand-name medications considered safe and effective for more
    expensive nonformulary drugs within the same drug class. Two plans
    reported savings ranging from 1 percent to 4.5 percent from therapeutic




    12
     Savings from concurrent utilization review may be reduced if an enrollee subsequently
    obtains a prescription or refill. One PBM estimated savings for claims denied for early
    refills only if a refill had not been obtained within 14 days.




    Page 13                            GAO-03-196 Pharmacy Benefits for Federal Employees
    interchange. These estimates are in addition to savings associated with
    rebates plans earned for drugs in the formulary.13
•   Generic substitution involves dispensing less expensive, chemically-
    equivalent generic drugs in place of brand name drugs. Where a PBM
    specifically intervened by contacting the physician to change a
    prescription from requiring a brand name to allowing a generic drug, one
    plan reported savings of less than 1 percent of the plan’s total drug
    spending. The other two plans said they do not have readily available data
    to measure savings from PBM interventions for generic drugs. All three
    plans reported more general information on their generic drug use, but the
    extent to which generic drugs are used cannot solely be attributed to
    PBMs because plan benefit design and physician prescribing patterns also
    influence generic drug use. On average, the plans we reviewed reported
    that generic drugs were dispensed more often by retail pharmacies (about
    45 percent of all drugs dispensed) than by mail-order pharmacies (about
    34 percent). The difference in use of generic drugs may in part reflect
    differences in the types of drugs that are typically dispensed through retail
    and mail-order pharmacies. For drugs where a generic version was
    available, the retail and mail-order pharmacies dispensed generic drugs at
    more similar rates—on average 89 percent of the time for retail
    pharmacies and 87 percent of the time for mail-order pharmacies.




    13
      While plans reported savings from therapeutic interchange, concerns have been raised
    that in some cases PBMs’ relationships with manufacturers and retail pharmacies influence
    PBM interventions, such as substituting higher-cost drugs when lower-cost therapeutic
    equivalent drugs are available. Medco Health Solutions and Advance PCS filings with the
    SEC indicate that the Department of Justice is undertaking an industrywide investigation to
    examine PBM relationships with pharmaceutical manufacturers and retail pharmacies and
    PBMs’ programs related to drug formulary compliance, which includes rebates and other
    payments made by manufacturers to PBMs. The SEC filings show that the Department of
    Justice is also investigating payments made by PBMs to retail pharmacies or others in
    connection with PBM interventions.




    Page 14                            GAO-03-196 Pharmacy Benefits for Federal Employees
                           PBMs we reviewed generally provided enrollees with access to a nearby
PBMs Provided              pharmacy, maintained formularies for plan enrollees that included drugs
FEHBP Enrollees            in most major therapeutic categories, and provided access to
                           nonformulary drugs when medically necessary. The FEHBP plans passed
Generally                  on savings generated by the PBMs to enrollees in the form of lower out-of-
Unrestricted Access        pocket costs for prescription drugs in certain instances, such as through
                           lower cost sharing for drugs obtained through mail-order pharmacies, and
to Prescription Drugs,     a smaller increase in premiums for all enrollees than might occur absent
Cost Savings, and          the PBM savings. Enrollees also benefited from PBM intervention
Other Benefits             programs to prevent potentially dangerous drug interactions and customer
                           service that generally met or exceeded quality standards established in
                           contracts negotiated with the FEHBP plans.


PBMs Provided Enrollees    Nearly all FEHBP enrollees had a retail pharmacy participating in their
Access to Broad Retail     plan within a few miles of their residence. Two of the plans required the
Pharmacy Networks and      PBM to assure that at least 90 percent of enrollees had at least one
                           pharmacy located within 5 miles of their residences. The PBMs for these
Generally Nonrestrictive   plans reported to us they exceeded plans’ access standards and that close
Drug Formularies           to 100 percent of enrollees live within 5 miles of a network pharmacy. The
                           third plan did not have a specific contractual access standard, but plan
                           officials said they have verified that well over 90 percent of enrollees live
                           within 5 miles of a network pharmacy. We also compared the PBMs’
                           networks statewide in five states to the total of licensed retail pharmacies
                           and found high levels of pharmacy participation. In most instances, we
                           estimate that more than 90 percent to nearly 100 percent of licensed retail
                           pharmacies participated in the PBM networks.14

                           Enrollees also had few restrictions on which drugs they could obtain.
                           While the plans’ formularies varied with respect to the number of drugs
                           covered, they included prescription drugs in most major therapeutic




                           14
                             The states are California, the District of Columbia, Maryland, North Dakota, and Virginia.
                           Estimates of pharmacy participation rates are approximate because of ongoing changes in
                           the number of pharmacies licensed in each state and included in each PBM network and
                           because PBM retail pharmacy networks may include a small number of nonretail
                           pharmacies, such as hospital pharmacies. In 2002, BCBS began offering a basic option to
                           FEHBP enrollees that includes about 70 percent as many pharmacies nationwide as the
                           BCBS standard option but still meets contractual standards for a retail pharmacy to be
                           located within a few miles of nearly all basic option enrollees. More than 200,000 people
                           are in BCBS’s basic option compared to about 3.8 million people in the standard option.




                           Page 15                             GAO-03-196 Pharmacy Benefits for Federal Employees
categories.15 To provide a benchmark for comparing the breadth and depth
of the FEHBP formularies, we compared the three formularies to the
outpatient prescription drugs included in the Department of Veterans
Affairs (VA) National Formulary, considered by the Institute of Medicine
to be not overly restrictive.16 Each plan included over 90 percent of the
drugs listed on the VA formulary or a therapeutically equivalent
alternative, and included at least one drug in 93 percent to 98 percent of
the therapeutic classes covered by VA.17 (See table 2.)




15
  Formularies may be developed by the plan with suggestions for changes from a PBM, or
entirely by a PBM and used by the plan. BCBS and PacifiCare designed their own
formularies, while GEHA used a formulary developed by Medco Health Solutions.
Decisions on inclusion of drugs in a formulary are typically made by a pharmacy and
therapeutics committee composed of physicians and pharmacists. Plan officials and
documents described such committees as being designed to evaluate the safety, efficacy,
and cost of drugs in all therapeutic categories before recommending drugs for inclusion on
the formulary. Plans we reviewed had no or few committee members affiliated with the
plan or PBM.
16
 See Blumenthal and Herdman, Description and Analysis of the VA National Formulary.
17
  BCBS excluded from its formulary 7 percent of the VA therapeutic classes, which contain
drugs to treat insect stings, itching, psoriasis and other skin disorders, erectile dysfunction,
certain types of rheumatoid arthritis, fungal eye infections, lung diseases where mucous
complicates the condition, constipation, and a topical anesthetic and water inhaler. GEHA
excluded from its formulary 2 percent of the VA therapeutic classes, which contain drugs
to treat opiate (e.g., heroin, morphine) dependence, constipation, and a topical anesthetic.
PacifiCare of California excluded from its formulary 5 percent of the VA therapeutic
classes, which contain drugs to treat various infections, opiate (e.g., heroin, morphine)
dependence, psoriasis and other skin disorders, erectile dysfunction, and inflamed gingiva.
PacifiCare of California’s formulary also did not include several injectable drugs that are
covered separately under the plan’s medical benefit.




Page 16                               GAO-03-196 Pharmacy Benefits for Federal Employees
                          Table 2: FEHBP Plans’ Formularies Compared to VA National Formulary

                                                                                      Percent of VA          Percent of VA
                                                                               formulary drugs not             formulary’s
                                                           Percent of VA      in plan formulary but            therapeutic
                                                         formulary drugs       having a therapeutic       classes covered
                                                         included in plan         equivalent in plan               by plan
                                                                                                                          a
                              Plan                             formulary                  formulary             formulary
                              BCBS                                     80                         16                    93
                              GEHA                                     97                          2                    98
                              PacifiCare of California                 79                         15                    95

                          Source: GAO analysis of 2002 BCBS, GEHA, and PacifiCare of California formularies and the VA
                          National Formulary.
                          a
                           A VA therapeutic class was considered included if the plan formulary listed one or more VA drugs or
                          a therapeutically equivalent alternate within the VA therapeutic class.


                          Each plan provided enrollees access to nonformulary drugs, although
                          sometimes with higher cost sharing requirements.18 GEHA provided
                          coverage to all nonformulary drugs at no additional cost to enrollees.
                          BCBS had additional cost sharing requirements for nonformulary and
                          certain formulary drugs under its basic option plan. Enrollees must pay a
                          flat $25 copayment for formulary brand drugs but must pay the greater of a
                          $35 copayment or 50 percent of the plan’s cost for nonformulary brand
                          drugs (known as coinsurance). BCBS required the enrollees to pay the
                          same 25 percent coinsurance for formulary and nonformulary drugs under
                          its standard option plan. PacifiCare of California did not impose additional
                          cost sharing for nonformulary drugs but generally required enrollees (or
                          their physicians) to demonstrate the medical necessity and lack of
                          effective alternative formulary drugs prior to approving coverage of a
                          nonformulary drug.


PBM Savings Helped        FEHBP enrollees benefited from cost savings generated from PBM
Reduce Enrollees’ Costs   services through lower costs for mail-order prescriptions, lower cost
for Out-of-Pocket         sharing linked to PBMs’ discounts obtained from retail pharmacies, and a
                          lower increase in premiums overall. PBM mail-order pharmacy programs
Prescription Drug         often provided for lower out-of-pocket costs for 90-day supplies of drugs
Spending and Premiums     than an enrollee would pay for the same prescriptions filled at a retail


                          18
                           OPM indicates that, in conducting annual negotiations with plans, it seeks to ensure
                          enrollee access to nonformulary drugs although such access may involve higher cost
                          sharing requirements.




                          Page 17                                GAO-03-196 Pharmacy Benefits for Federal Employees
                                         pharmacy. The GEHA high option plan and PacifiCare of California
                                         imposed lower cost-sharing requirements for mail order while the BCBS
                                         standard option plan imposed a flat copayment for mail order but required
                                         enrollees to pay 25-percent coinsurance at retail. The flat copayments
                                         provided an incentive for enrollees to use mail order for more expensive
                                         brand drugs. Only the GEHA standard plan included the same cost sharing
                                         requirements for both retail and mail order. (See table 3.)

Table 3: Comparison of Enrollee Cost-Sharing for a 90-day Supply of Retail and Mail-Order Prescription Drugs, 2002

                                                                                            Enrollee’s cost share at mail-order
Plan                 Option            Enrollee’s cost share at retail pharmacy             pharmacy
BCBS                 Standard          25% coinsurance                                      $10 copayment generic
                                                                                            $35 copayment brand
                             a
                     Basic             $30 generic                                          Mail-order not available
                                       $75 brand
                                       Greater of 50% coinsurance or
                                       $105 copayment for nonformulary brand
       b
GEHA                 High              $15 generic                                          $10 generic
                                                              c
                                       $45 single-source brand                              $35 single-source brandc
                                                            d                                                    d
                                       $90 multisource brand                                $50 multisource brand
                                       Second and subsequent refills are greater of
                                       50% coinsurance or applicable copayment
                     Standard          $15 copayment generic                                $15 copayment generic
                                       50% coinsurance brand                                50% coinsurance brand
PacifiCare of        HMO               $15 copayment generic                                $10 copayment generic
Californiab                            $45 copayment brand                                  $30 copayment brand

                                         Source: GAO analysis of BCBS, GEHA, and PacifiCare of California prescription drug benefits
                                         literature.
                                         a
                                          BCBS basic option limits initial prescription to a 34-day supply with a $10 copayment for generic
                                         drugs, $25 copayment for brand-name drugs, and the greater of 50 percent coinsurance or $35 for
                                         nonformulary brand-name drugs. Continuing prescriptions and refills can be for up to a 90-day supply
                                         with the enrollee paying the higher cost share amount.
                                         b
                                          GEHA and PacifiCare of California limit the quantity of drugs dispensed through retail pharmacies to
                                         a 30-day supply; therefore, we tripled the copayments required for a 30-day supply.
                                         c
                                             Brand-name drugs available from only one manufacturer, no generic equivalent available.
                                         d
                                         Brand-name drugs available from more than one manufacturer and have a generic equivalent
                                         available.




                                         Page 18                                   GAO-03-196 Pharmacy Benefits for Federal Employees
                            The interaction between a plan’s benefit design and PBM cost savings can
                            also affect the amount of enrollees’ out-of-pocket costs for prescription
                            drugs.19 For example, in instances where a plan required enrollees to pay a
                            coinsurance rate representing a portion of the actual drug cost, enrollees
                            shared directly in price discounts PBMs obtained from pharmacies. To
                            illustrate, for a hypothetical drug with an undiscounted cash price of $64,
                            and a PBM-obtained discount price of $52, an enrollee in a plan with a 25-
                            percent coinsurance requirement would pay $13 rather than $16. In
                            contrast, where a plan’s benefit design provides for a fixed copayment,
                            such as $15 per prescription, enrollees would pay the same regardless of
                            the discount that PBMs obtained.

                            PBM savings were also passed on to enrollees in the form of premiums
                            that were less than they otherwise would be. Fee-for-service FEHBP plan
                            premiums are based on past years’ claims data for FEHBP enrollees.20
                            Consequently, PBM reductions in plan claims costs for prescription drugs
                            translate into lower premiums for enrollees in later years. For example, we
                            estimate that PBM savings in the form of rebates passed on to the two fee-
                            for-service FEHBP plans we examined between 1998 and 2000 translate
                            into about a 1-percent decrease from what the plans’ future premiums
                            would have been. In contrast to savings through cost sharing and other
                            benefit design features that accrue only to those enrollees who use the
                            prescription drug benefit, PBM savings in the form of premium savings
                            accrue to all enrollees, regardless of whether they use prescription drugs.


Enrollees Also Benefit      Each FEHBP plan’s PBM provided a drug utilization review program to
from PBM Drug Utilization   screen prescription drug therapies for such problems as adverse
Review Programs and         interactions, incorrect dosages, or improper duration of treatment. PBMs
                            maintained a centralized database on each enrollee’s drug history and
Customer Service            shared this information electronically with pharmacies at the time the


                            19
                              A plan’s pharmacy benefit design includes the drugs a plan will cover through its
                            formulary, the quantities in which drugs will be dispensed, the sources from which drugs
                            may be obtained, and enrollee’s cost-sharing requirements, such as copayments.
                            20
                              For most HMOs, the premium rate is based on rates charged to the two employer groups
                            closest in size to the plan’s FEHBP enrollment. Because these premiums are based on the
                            HMO’s overall premium setting strategies and not just the FEHBP claims experience, the
                            extent to which rebates and other PBM savings for the plan’s FEHBP business would yield
                            lower premiums depends on the HMO’s current market strategies for setting competitive
                            premiums and passing on lower costs in the form of lower premiums to FEHBP and
                            similarly sized groups. About 30 percent of FEHBP enrollees are covered under an HMO
                            plan.




                            Page 19                            GAO-03-196 Pharmacy Benefits for Federal Employees
                       prescription was filled. PBMs are often the only entity with complete
                       information on a patient’s medications—particularly when enrollees are
                       prescribed medication by more than one physician or fill prescriptions at
                       different pharmacies. We have previously reported that automated drug
                       utilization systems linked to a centralized database provide a more
                       thorough prospective review and more benefits than reviews based on
                       manual or local systems.21

                       PBMs provide customer service when they interact directly with FEHBP
                       enrollees, such as when enrollees contact the PBMs to seek information
                       about their prescriptions, resolve problems with having their prescription
                       drugs filled, or obtain drugs through the mail-order pharmacy. Customer
                       service quality is measured against customer service standards negotiated
                       between each FEHBP plan and PBM. These standards included such
                       measures as phone call answer time, mail-order prescription turn-around
                       time and accuracy rates, and customer satisfaction as measured through
                       enrollee surveys. Data provided by the PBMs indicate that they generally
                       met or exceeded these standards, although we did not independently
                       verify these data.22


                       Retail pharmacies that participate in the PBM networks used by FEHBP
Pharmacies Included    plans are affected by PBM policies and practices. For example, PBMs
in PBM Retail          reimbursed pharmacies at levels below cash-paying customers, but above
                       the pharmacies’ estimated drug acquisition costs. Processing PBM or other
Networks Must          third-party prescriptions involves additional administrative requirements
Accept Discounted      compared to cash transactions, and some PBMs may draw business away
                       from retail pharmacies by providing savings and other incentives to
Prices and Perform     encourage pharmacy customers to use PBMs’ mail-order pharmacies.
Various                Nevertheless, participation in the PBM retail networks is important for
Administrative Tasks   pharmacies because the PBMs serving the FEHBP plans we reviewed also



                       21
                        U.S. General Accounting Office, Prescription Drugs: Automated Prospective Review
                       Systems Offer Potential Benefits for Medicaid, GAO/AIMD-94-130 (Washington, D.C.:
                       Aug. 5, 1994).
                       22
                         Contracts called for the PBMs to regularly report to the plans their actual performance in
                       relation to the standards and usually provided plans with the right to audit these
                       performance reports and impose penalties or terminate the contract if PBM performance
                       fell below the standards. In a few recent instances, financial penalties were imposed when
                       performance temporarily fell short of a standard. For example, one PBM paid a penalty of
                       $40,000 for failing to meet the plan standard concerning call answer time during 2 months
                       of 2001, but the PBM met the standard during the remainder of the year.




                       Page 20                             GAO-03-196 Pharmacy Benefits for Federal Employees
                            contract with other clients that cumulatively represent a large share of the
                            national population that purchase prescription and other nonprescription
                            items from retail pharmacies.


PBMs Reimbursed Retail      PBMs for the three FEHBP plans we reviewed reimbursed retail
Pharmacies Less than        pharmacies at rates below what a cash-paying customer would pay but
Cash-Paying Customers       still above the pharmacies’ estimated acquisition costs. The average price
                            paid for a typical 30-day supply was nearly 18 percent below the cash-
but Above Estimated Costs   paying customer price for 14 selected brand-name drugs and 47 percent
                            below the average case price for 4 selected generic drugs. As a result, the
                            gross margin earned by retail pharmacies on the PBM transactions is
                            lower on average than for cash-paying customers.23

                            We estimate that these PBM discounted prices are higher on average than
                            the pharmacies’ cost to acquire these drugs. Retail pharmacies typically
                            purchase drugs from intermediary wholesale distributors and, to a lesser
                            extent, from drug manufacturers directly. Because no data source exists to
                            identify pharmacies’ actual acquisition costs for drugs, we used the
                            wholesale acquisition cost (WAC) and added a mark-up of 3 percent to
                            estimate pharmacy acquisition costs for drugs purchased from
                            wholesalers.24 Accordingly, for the three FEHBP plans we reviewed, we
                            estimate that the prices that the PBMs paid to retail pharmacies provided
                            an average margin of about 8 percent above the pharmacies’ average




                            23
                             In 2001, about 16 percent of all prescriptions were purchased by customers who paid the
                            entire cost without any third-party coverage, and the remainder were paid by customers
                            with third-party payers, including Medicaid, according to the National Association of Chain
                            Drug Stores.
                            24
                             WAC is a published, industry-reported measure of the average price manufacturers charge
                            wholesalers. According to retail pharmacy representatives, wholesalers sell drugs to retail
                            pharmacists for about 1 to 3 percent above WAC on average. WAC does not include rebates
                            or discounts manufacturers may offer to wholesalers.




                            Page 21                             GAO-03-196 Pharmacy Benefits for Federal Employees
                                                                                            ,
                              acquisition costs for 10 brand drugs we reviewed.25 26 These estimated
                              margins on the drugs do not reflect a drug store’s profit on drug sales
                              because store overhead and dispensing costs are not deducted.27 They also
                              do not reflect the costs of drugs when purchased directly from
                              manufacturers rather than wholesalers nor any rebates or discounts that
                              pharmacies may receive from suppliers or manufacturers. Moreover,
                              because WAC is an average of prices charged by manufacturers to multiple
                              purchasers, it may not accurately reflect the acquisition costs for any
                              individual retail pharmacy.


PBM Transactions Require      PBM and other third-party transactions require pharmacy staff to
Additional Administrative     undertake tasks not associated with cash-paying customer transactions,
Tasks and Incur Higher        such as submitting claims electronically, responding to prior authorization
                              requests, contacting physicians to approve formulary drug substitutions,
Processing Costs for Retail   and responding to patients’ questions about their health plan benefits.
Pharmacies                    Pharmacists and pharmacy association representatives we interviewed
                              indicated that the administrative requirements imposed by FEHBP-
                              participating PBMs are generally similar to those imposed by PBMs



                              25
                                Margins on drugs represent the portion of PBM drug reimbursements (including
                              dispensing fees) and enrollees’ share of costs that exceed the pharmacy’s acquisition costs
                              for the selected drugs. Retail plan prices represent 10 of the 14 brand-name drugs we
                              examined because the wholesale acquisition cost was not available for the other 4 brand-
                              name drugs. The PBM negotiated prices were also higher than the estimated acquisition
                              costs for all four generic drugs we reviewed.
                              26
                                The U.S. Department of Health and Human Services Office of Inspector General recently
                              released estimates of pharmacy acquisition costs for drugs reimbursed by state Medicaid
                              programs. Using its approach to estimate the acquisition costs for the drugs we reviewed
                              would result in prices that PBMs paid retail pharmacies providing an average margin of
                              about 6 percent above the pharmacies’ average acquisition costs for the 10 brand drugs and
                              about 14 percent above for the 4 generic drugs. See Department of Health and Human
                              Services, Office of Inspector General, Medicaid Pharmacy – Additional Analyses of the
                              Actual Acquisition Cost of Prescription Drug Products, (Washington, D.C.: September
                              2002).
                              27
                                While it was not possible to identify the pharmacies’ overhead costs for the 18 drugs we
                              reviewed, recent studies done for the California and Texas Medicaid programs estimate
                              that the median dispensing costs for pharmacies participating in these states’ Medicaid
                              programs were about $6.95 and $5.95 per prescription, respectively. See Myers and Stauffer
                              LC, “Study of Medi-Cal Pharmacy Reimbursement,”(Missouri: June 2002) and
                              “Determination of the Cost of Dispensing Pharmaceutical Prescriptions for the Texas
                              Vendor Drug Program,” (Missouri: August 2002). The National Association of Chain Drug
                              Stores (NACDS) estimates that retail pharmacies’ dispensing costs were on average $7.26
                              per prescription in 2001. See NACDS, The Chain Pharmacy Industry Profile 2002
                              (Alexandria, Virginia: 2002).




                              Page 22                             GAO-03-196 Pharmacy Benefits for Federal Employees
                            associated with other health plans. Several studies have found that
                            pharmacy staff spent significant time addressing third-party payment
                            issues. For example, based on surveys of 201 retail pharmacies, one
                            consultant found that 20 percent of pharmacy staff time was spent on
                            activities directly related to third-party issues.28 A synthesis of multiple
                            studies concluded that third-party prescriptions cost from $0.36 to $1.55
                            more than cash transactions to process.29

                            Compared to larger chain pharmacies, independent pharmacies may find
                            PBM processing tasks particularly burdensome or costly. For example,
                            independent pharmacies may be more likely to use pharmacists to process
                            third-party transactions because they tend to have fewer other staff
                            available, such as pharmacy technicians and clerks, according to a retail
                            pharmacy association official. One study found that the average labor cost
                            to process third-party prescriptions that required pharmacy staff
                            intervention (such as responding to an initial claim denial) was 44 percent
                            higher for an independent than a chain pharmacy. This study attributes the
                            higher costs to the independent pharmacy’s greater reliance on
                            pharmacists for performing certain third-party processing tasks.30


PBMs Use Financial and      PBMs may also attempt to steer some enrollees away from retail
Other Incentives to Steer   pharmacies to their mail-order pharmacies. Two of the PBMs we reviewed
Retail Pharmacy             send letters to some enrollees who purchase medications at a retail
                            pharmacy informing them that their costs under the mail-service pharmacy
Customers to Mail-Order     program would be lower. These letters may include forms to facilitate the
Programs                    transfer of the prescription from the retail to the mail-order pharmacy. In
                            2001, the three FEHBP plans we reviewed dispensed 21 percent of all
                            prescriptions through mail order, a higher share than the industry average.
                            Nationally, a growing but still small share of prescription drugs is




                            28
                             Arthur Andersen LLP, Pharmacy Activity Cost and Productivity Study, November 1999.
                            29
                              Richard N. Herrier et al., “Case Study Using Descriptive Analysis to Estimate Hidden
                            Costs In Processing Third Party Prescriptions,” Journal of the American Pharmaceutical
                            Association, 40, no. 5 (September/October 2000). In addition to synthesizing other studies,
                            this study also conducted time and motion measurement of retail pharmacies and based on
                            this new research estimated that third-party prescriptions cost an average of $0.44 to $0.61
                            more than cash transactions to process.
                            30
                             Richard N. Herrier, et al.




                            Page 23                             GAO-03-196 Pharmacy Benefits for Federal Employees
                              dispensed through mail-order pharmacies—about 5 percent of
                              prescriptions and 17 percent of prescription sales in 2001.31


Most Pharmacies               Most licensed pharmacies participate in the FEHBP PBMs’ retail pharmacy
Participate in PBMs’ Retail   networks, in part because PBMs represent such a substantial market
Networks                      share–nearly 200 million Americans in 2001.32 Plan and PBM
                              representatives noted that access to these enrollees benefits retail
                              pharmacies by increasing traffic in the stores and thus sales of
                              prescriptions and nonprescription items. According to NACDS,
                              nonprescription sales nationally accounted for 5 percent of total sales for
                              independent pharmacies and 39 percent of total sales for chain
                              pharmacies in 2001.33 However, pharmacy association representatives
                              report that PBMs’ large market shares leave many retail pharmacies with
                              little leverage in negotiating with PBMs. These officials indicate that retail
                              pharmacies may have to “take or leave” a PBMs’ proposed contract with
                              actual negotiations only occurring in instances when a large chain will not
                              accept the contractual terms or an independent pharmacy without nearby
                              competitors in a rural area must be included to meet health plans’ access
                              requirements. While it is difficult to assess how frequently these situations
                              occur, chain pharmacies constituted 37 percent of all retail pharmacies
                              and the top four chain drugs stores accounted for 30 percent of all
                              pharmacy sales in 2000, according to NACDS.34



                              31
                               National Association of Chain Drug Stores, The Chain Pharmacy Industry Profile, 2002
                              (Alexandria, VA: 2002).
                              32
                                Independent pharmacies were somewhat less likely to participate in FEHBP PBM retail
                              networks than chain pharmacies. For example, we found that all but one of the pharmacies
                              not participating in two PBM retail networks in the District of Columbia were independent.
                              Similarly, a 2001 survey of pharmacies in Connecticut, New Jersey, New York, and
                              Pennsylvania by the Pharmaceutical Care Management Association found independent
                              drug stores somewhat less likely to participate in PBM retail networks (96.5 percent) than
                              chain drug stores (99.9 percent). According to a pharmacy industry representative,
                              independent pharmacies may have fewer staff available to manage third-party transactions
                              and contracting functions. In addition, certain PBM contract requirements can pose a
                              challenge, such as requiring the use of computer systems or software that may be
                              unaffordable to some small, independent pharmacies, according to another pharmacy
                              industry representative.
                              33
                               National Association of Chain Drug Stores, The Chain Pharmacy Industry Profile, 2002
                              (Alexandria, VA: 2002).
                              34
                               National Association of Chain Drug Stores, The Chain Pharmacy Industry Profile, 2002
                              (Alexandria, VA: 2002) and Booz Allen Hamilton, Medicare-endorsed Prescription Drug
                              Card Assistance Initiative, (McLean, VA: 2002).



                              Page 24                            GAO-03-196 Pharmacy Benefits for Federal Employees
                     PBMs received compensation directly from FEHBP plans for
PBMs Received        administrative services and drug costs as well as payments from
Compensation from    pharmaceutical manufacturers. (See fig. 3.) PBM earnings from
                     administrative fees and payments for mail-order drugs paid by the plans
Plans and Payments   we reviewed varied depending on contractual arrangements. In addition,
from Manufacturers   the PBMs we reviewed varied as to whether they retained a portion of
                     drug manufacturer rebates associated with the FEHBP contracts, and all
for Their FEHBP      the PBMs received other rebates or payments from drug manufacturers.
Business




                     Page 25                     GAO-03-196 Pharmacy Benefits for Federal Employees
Figure 3: Overview of PBMs’ Compensation and Payment Sources



                                       Administrative fees




     Health plan                     Payment for retail and                               Mail-order drug      Enrollee
                                       mail-order drugs                                     cost share

                                         Formulary rebates
                                                                        PBM

                                                                                                                      Retail drug
                                                                                                                      cost share

                                            Rebates and
                                           other payments
  Pharmaceutical
   manufacturer                            Payment for                                 Payment for
                                          mail-order drugs                             retail drugs             Retail
                                                                                                              pharmacy

Source: GAO analysis of plans and PBMs reviewed.


                                                      Note: The extent to which a PBM receives compensation and payments from any one of these
                                                      sources varies based on its contractual arrangements with plans and manufacturers. For example,
                                                      some PBMs may contract with a separate entity to provide mail-order services.


                                                      Specifically, the PBMs we reviewed received administrative fees,
                                                      payments for drugs, and manufacturer rebates for their FEHBP business.
                                                      They also received other rebates or payments from drug manufacturers
                                                      based on their entire line of business with a particular manufacturer.

                                                      Administrative fees. PBMs charged plans fees for a broad range of clinical
                                                      and administrative services, including utilization reviews, prior
                                                      authorization, formulary development and compliance, claims processing,
                                                      and reporting. Administrative fees for plans we reviewed varied but on
                                                      average accounted for about 1.5 percent of total plan drug spending in
                                                      2001.

                                                      Payments for Retail and Mail-Order Drugs. PBMs we reviewed retained
                                                      little or no revenue from plan payments for retail drug costs and
                                                      dispensing fees because they were largely passed through to retail




                                                      Page 26                               GAO-03-196 Pharmacy Benefits for Federal Employees
pharmacies.35 While not disclosing their acquisition costs for mail-order
drugs, PBM officials said that plan payments were somewhat higher than
their payments to pharmaceutical manufacturers for mail-order drugs.
Using the average manufacturer price (AMP) as a proxy for PBMs’ mail-
order acquisition costs,36 we estimate that the discounted price for mail-
order drugs that plans and enrollees paid were on average higher than the
estimated mail-order acquisition cost for some (but not all) brand-name
drugs and all generic drugs that we reviewed. On average, the AMP was
about 2 percent below the plan prices for 7 of the 14 brand-name drugs we
reviewed but about 3 percent higher than the plan prices for the other 7
brand-name drugs. The AMP was below plan prices for all four generic
drugs we reviewed.

Rebates. PBMs shared with the FEHBP plans certain rebates that a drug
manufacturer provides a PBM associated with their FEHBP business,
although the extent to which the PBMs retained a portion of these rebates
varied, depending on the contracts negotiated between the plans and
PBMs. We estimate the rebates retained by the PBMs we reviewed
represented less than half of one percent of total plan drug spending. The
plans we reviewed varied as to whether they reimbursed PBMs separately
for administrative services in exchange for a larger share of contractual
rebates or they received less of the contractual rebates and were charged
low or no fees for administrative services.

PBMs also received other manufacturer rebates or payments for services
based on their total volume of a particular manufacturer’s drugs sold
through FEHBP plans and other plans. For example, one PBM we
reviewed earned additional manufacturer rebates for its efforts to increase
drug manufacturers’ share of certain products. The PBMs also received
fees from manufacturers for various services, such as encouraging
physicians to change prescribing patterns, educational services to
enrollees regarding compliance with certain drug regimens, and data
reporting services. These rebates and other payments were a large portion


35
  The plan and enrollees share the cost of retail drugs, with the enrollee share paid directly
to the retail pharmacy.
36
 The AMP is the average price paid to a drug manufacturer by wholesalers for prescription
drugs distributed to the retail pharmacy class of trade, after deducting customary prompt
pay discounts. AMP was created by the Omnibus Budget Reconciliation Act of 1990 (Pub.
L. No. 101-508, § 4401, 104 Stat. 1388, 1388-156) for determining Medicaid rebates and is not
publicly available. It is calculated by the manufacturer and submitted to the Centers for
Medicare & Medicaid Services, the federal agency that determines Medicaid rebates.




Page 27                              GAO-03-196 Pharmacy Benefits for Federal Employees
                   of PBMs’ earnings, according to PBM officials and industry experts, but
                   the actual amounts were undisclosed because they are proprietary. Public
                   financial information suggests that manufacturer payments are important
                   sources of earnings. For example, in financial reports submitted to the
                   SEC, two of the PBMs we reviewed stated that manufacturer rebates and
                   fees were key to their profitability.37


                   PBMs are central to most FEHBP plan efforts to manage their prescription
Concluding         drug benefits, and PBMs have helped the FEHBP plans we reviewed
Observations       reduce what they would likely otherwise pay in prescription drug
                   expenditures while generally maintaining wide access to most retail
                   pharmacies and drugs. As the cost of prescription drugs continues to
                   increase, FEHBP plans are likely to encourage PBMs to continue to
                   leverage their purchasing power with drug manufacturers and retail
                   pharmacies and pass on the savings to the plans and their enrollees.
                   However, attempts to achieve additional cost savings can involve trade-
                   offs for plan enrollees. For example, additional savings through formulary
                   management can accrue if more restrictive formularies are used, but
                   enrollees would likely have unrestricted access to fewer drugs. Similarly,
                   retail pharmacies may be willing to provide deeper discounts as part of
                   smaller, more selective retail pharmacy networks. Smaller networks have
                   the potential to draw more enrollees into participating stores but offer
                   enrollees access to fewer retail pharmacies. OPM, FEHBP plans, and
                   PBMs must balance these trade-offs in designing affordable and accessible
                   prescription drug benefits for federal employees.


                   We provided a draft of this report to OPM, the three plans and three PBMs
Agency and Other   we reviewed, two pharmacy associations (NACDS and NCPA), and two
Comments and Our   independent expert reviewers.
Evaluation         In written comments, OPM generally concurred with our findings. OPM
                   highlighted the advantages and trade-offs associated with FEHBP plans’




                   37
                    See AdvancePCS, 10-K Form filed with SEC on June 28, 2002 and Medco Health Solutions
                   Form S-1, filed with SEC on April 17, 2002. A 10-K Form is an annual report that many for-
                   profit corporations must file with SEC within 90 days of the close of their fiscal year and a
                   S-1 Form is a basic registration form that may be used to register a proposed public
                   offering with SEC. These publicly available documents contain audited financial statements
                   and other information on a corporation’s financial condition.




                   Page 28                             GAO-03-196 Pharmacy Benefits for Federal Employees
    use of PBMs in providing affordable drug benefits and providing enrollees
    with access to prescription drugs. Appendix II contains OPM’s comments.

    The plans and PBMs reviewed the report for the accuracy of information
    regarding their arrangements and provided technical comments regarding
    information we reported about them, which we incorporated as
    appropriate. Two independent external experts on pharmaceutical drug
    pricing who were not affiliated with PBMs, pharmacies, or drug
    manufacturers indicated that the draft was fair and balanced. They also
    provided technical comments that we incorporated as appropriate.

    In oral comments, NACDS’ Vice President for Policy and Programs
    expressed strong concerns, particularly focusing on the scope of our
    work, and NCPA’s Senior Vice President for Government Affairs and
    General Counsel separately informed us that he generally concurred with
    NACDS’ comments. NACDS’ concerns included the following:

•   Our draft did not adequately address the overall PBM industry and how it
    operates, including special economic relationships that may exist between
    some drug manufacturers and PBMs. The NACDS representative stated
    that these relationships create incentives for PBMs to encourage use of
    certain manufacturers’ drugs even if they are more costly to the plan or
    enrollees. As we noted in the draft, we were asked to examine the role of
    PBMs specifically for FEHBP-participating plans and enrollees, not the
    PBM industry in general. While the savings we report through discounts,
    rebates, and certain interventions do not reflect whether PBMs encourage
    higher-cost drugs, the FEHBP plans we reviewed informed us they
    believed they saved money from using PBMs. Relationships between PBMs
    and manufacturers and pharmacies for other plans were beyond the scope
    of this report. In response to the concern about PBMs’ influence on drug
    switching, we added information based on two PBMs’ filings with the SEC
    regarding an ongoing Department of Justice investigation of certain PBMs’
    relationships with pharmaceutical manufacturers and retail pharmacies.
•   The draft report did not include information about all three plans’ use of
    generic drugs, which is one means to reduce the overall cost of the drug
    benefit. In the draft report, we addressed savings PBMs achieve through
    direct interventions to switch from a prescribed brand drug to a generic,
    as opposed to overall generic use rates, which are affected by other
    factors such as plans’ benefit designs. To clarify our findings, we added
    information on the relative use of generic drugs among the retail and mail
    order pharmacy services for the plans we reviewed.
•   Our finding that the PBMs we reviewed retained little or no compensation
    from the payments they receive from plans for retail drugs because they
    pass these payments on in total to the retail pharmacies seemed


    Page 29                      GAO-03-196 Pharmacy Benefits for Federal Employees
    inconsistent with NACDS’ experience. While PBMs’ contractual
    arrangements with other plans may differ, the contractual arrangements
    with the FEHBP-participating plans we reviewed resulted in the PBMs
    passing through to the retail pharmacies the entire payment that they
    receive from the plans.
•   Our estimate that retail pharmacies’ drug acquisition costs are on average
    about 8 percent below the payments they receive from the FEHBP plans
    we reviewed implies this is a profit and does not adequately acknowledge
    overhead costs. Our draft report stated that this estimated margin does not
    reflect a retail drug store’s profit because it does not include overhead
    costs nor certain other savings that may be available to some drug stores.
    We revised the report to better clarify this point and added information
    regarding NACDS’ and other recent studies’ estimates of overhead costs
    for retail pharmacies on a per prescription basis.


    We are sending copies of this report to the Director of the Office of
    Personnel Management, appropriate congressional committees, and other
    interested parties. We will also make copies available to others upon
    request. This report is also available at no charge on GAO’s Web site at
    http://www.gao.gov.

    If you or your staff have any questions, please call me at (202) 512-7118.
    Another contact and key contributors to this assignment are listed in
    appendix III.

    Sincerely yours,




    Kathryn G. Allen
    Director, Health Care—Medicaid
     and Private Health Insurance Issues




    Page 30                       GAO-03-196 Pharmacy Benefits for Federal Employees
             Appendix I: Scope and Methodology
Appendix I: Scope and Methodology


             We examined the use of pharmacy benefit managers (PBM) by three
             Federal Employees Health Benefits Program (FEHBP) plans: Blue Cross
             and Blue Shield (BCBS), Government Employees Hospital Association
             (GEHA), and PacifiCare of California. Together, these plans accounted for
             about 55 percent of the 8.3 million people covered through FEHBP plans
             as of July 2002 and represented various plan types and PBM contractors.1
             BCBS contracted with the two largest PBMs in the United States, Medco
             Health Solutions and AdvancePCS, for its pharmacy benefit services.
             GEHA contracted with Medco Health Solutions and PacifiCare of
             California contracted with Prescription Solutions, another subsidiary of
             PacifiCare Health Systems.

             We reviewed contracts between the PBMs and plans, financial statements
             regarding payments made between the plans and PBMs, and retail and
             mail-order prices for selected drugs from the FEHBP plans we reviewed
             and the PBMs with which they contracted. We also obtained pricing
             information from retail pharmacies, interviewed officials at the Office of
             Personnel Management (OPM), the federal agency responsible for
             administering FEHBP, and associations representing PBMs and retail
             pharmacies, and reviewed studies regarding the use of PBMs and
             prescription drug payments.

             Specifically, to assess the drug discount savings PBMs achieved, we
             selected 18 drugs that were among the drugs with the highest expenditures
             or number of prescriptions dispensed based on data reported by the plans.
             Combined, these 18 high-volume/high-expenditure drugs represented 12
             percent of all prescriptions dispensed to enrollees of the selected FEHBP
             plans and 16 percent of total plans’ drug expenditures in 2001. In selecting
             these drugs, we also sought to ensure a distribution of generic and brand
             drugs for a range of treatment conditions sold by different drug
             manufacturers. Table 4 lists the drugs included in our price comparisons.




             1
             BCBS and GEHA are fee-for-service plans, while PacifiCare of California is a health
             maintenance organization (HMO).




             Page 31                             GAO-03-196 Pharmacy Benefits for Federal Employees
Appendix I: Scope and Methodology




Table 4: Selected High-Volume or High-Expenditure Drugs for 3 FEHBP Plans

                                                                  Condition for which drug is
                                                                       a
    Drug name (strength) and dosage form                          used
    Brand
    Aciphex (20 mg), tablets                                      Ulcers
    Allegra (180 mg), tablets                                     Allergies
    Celebrex (200 mg), capsules                                   Arthritis
    Celexa (20 mg), tablets                                       Depression
    Claritin (10 mg), tablets                                     Allergies
    Fosamax (70 mg), tablets                                      Osteoporosis
    Lipitor (10 mg), tablets                                      Cholesterol
    Lotensin (20 mg), tablets                                     High blood pressure
    Norvasc (5 mg), tablets                                       High blood pressure
    Paxil (20 mg), tablets                                        Depression
    Premarin (0.625 mg), tablets                                  Osteoporosis
    Prevacid (30 mg), capsules                                    Ulcers
    Prilosec (20 mg), capsules                                    Ulcers
    Zocor (20 mg), tablets                                        Cholesterol
    Generic
    Albuterol (90 mcg), aerosol                                   Asthma
    Atenolol (50 mg), tablets                                     High blood pressure
    Furosemide (40 mg), tablets                                   High blood pressure
    Hydrocodone with Acetaminophen (5-500 mg), tablets            Pain

Source: Rx List at http://www.rxlist.com/.
a
These drugs may also be used be used to treat conditions other than those listed in the table.


At our request, the plans provided prices paid as of April 2002 for the most
common strength, dosage form, and quantity dispensed for these drugs at
retail pharmacies (typically, a 30-day supply) and at mail-order pharmacies
(typically, a 90-day supply).2 Prices represent the plan and enrollees’ share
of the drug ingredient cost—expressed as a discount from an industry
standard price such as the average wholesale price (AWP)3 or maximum




2
 We were unable to obtain the retail and mail-order price for one drug from one plan
because the drug was not available on the plan’s formulary at the specified strength.
3
 Drug manufacturers suggest a list price that wholesalers charge pharmacies. The average
of the list prices, collected for many wholesalers, is called a drug’s AWP.




Page 32                                  GAO-03-196 Pharmacy Benefits for Federal Employees
Appendix I: Scope and Methodology




allowable cost (MAC)4—plus a dispensing fee. We did not independently
verify the accuracy of these plan-reported prices.

To compare prices negotiated with PBMs for retail and mail-order
prescriptions to cash prices a customer without third-party coverage
would pay at retail pharmacies, we surveyed 36 pharmacies in California,
North Dakota, Washington, D.C., and the Virginia and Maryland suburbs of
Washington, D.C., from April 18 through April 30, 2002. We selected the
locations to be geographically diverse, specifically including California
because it is the only state in which PacifiCare of California operates,
North Dakota to include a state with a low population density, and the
Washington, D.C., metropolitan area because it includes a large number of
FEHBP enrollees. We randomly selected 12 pharmacies in each of these
areas, including both large chain pharmacies and independent or small
chain pharmacies. We determined that each of the pharmacies surveyed
participated in the retail networks for each of our selected FEHBP plans
serving that area. From each pharmacy, we obtained prices for a 30-day
supply of the 18 selected drugs. These prices are applicable only to the
pharmacies surveyed and at the time they were obtained.

We also compared prices plans paid to retail and mail-order pharmacies to
the pharmacies’ estimated acquisition costs. Retail pharmacies typically
purchase drugs from intermediary wholesale distributors and—to a lesser
extent—drug manufacturers, while PBM-owned mail-order pharmacies
more typically purchase drugs from manufacturers. Since no data source
exists to identify pharmacy acquisition costs, we estimated retail
pharmacies’ acquisition costs for drugs purchased from wholesalers using
the wholesale acquisition prices (WAC) reported in Red Book, a
compilation of drug pricing data published by Medical Economics
Company, Inc., as of April 2002.5 We added 3 percent to WAC to estimate
the wholesalers’ margin, based on information provided by retail
pharmacy officials. To estimate mail-order pharmacies’ acquisition costs
for drugs purchased directly from drug manufacturers, we used industry-
reported and confidential average manufacturers’ price information (AMP)
obtained from the Centers for Medicare & Medicaid Services. We selected
WAC and AMP prices for our 18 selected drugs using the most common
national drug code reported by the plans for reimbursing retail and mail-


4
 MACs represent upper limit prices that an insurer or health plan will reimburse for
generically available or multiple source medications.
5
Red Book CD-ROM, vol. 24 (April 2002).




Page 33                             GAO-03-196 Pharmacy Benefits for Federal Employees
Appendix I: Scope and Methodology




order prescription claims.6 The acquisition costs we have estimated cannot
be generalized beyond the drugs we reviewed. Also, the acquisition costs
we reported are based on averages for the drugs we reviewed, and
individual pharmacies or mail-order operations may have higher or lower
acquisition costs.

To assess enrollee access to prescription drugs, we compared the number
of retail pharmacies in the plans’ retail pharmacy networks to the total
number of licensed retail pharmacies in California, the District of
Columbia, Maryland, North Dakota, and Virginia. To examine the breadth
and depth of each plan’s formulary, we compared each plan’s formulary to
the National Formulary developed by the Department of Veterans Affairs
(VA). Although the VA formulary was designed for the veteran-specific
population, it is considered by the Institute of Medicine as not overly
restrictive based on its comparison with other formularies and clinical
literature.7 We obtained the National Formulary from the VA’s Pharmacy
Benefits Management Strategic Healthcare Group. The VA formulary
contains approximately 1,200 items, including generic, brand name, and
over-the-counter drugs, devices, and supplies. We requested that VA
officials remove devices, supplies, and drugs that are usually prescribed
on an in-patient basis or are available over-the-counter because the
FEHBP plans we reviewed cover inpatient drugs as part of the hospital
benefit and do not cover drugs available over-the-counter. The resulting
list included 513 outpatient prescription drugs representing 162
therapeutic classes. To examine the breadth and depth of each plan’s
formulary relative to these outpatient prescription drugs from the VA
formulary, we determined whether each of the drugs and therapeutic
classes included on the list of drugs drawn from the VA formulary was also
included on each of the plan formularies. Each plan also provided us with
examples of therapeutically equivalent drugs included on the plan’s
formulary for drugs that did not have an exact match on the VA formulary


6
 National Drug Codes (NDCs) are the universal product identifiers for drugs for human use
and are unique for each chemical entity, dosage form, manufacturer, strength, and package
size.
7
 See IOM, Description and Analysis of the VA National Formulary. The IOM used several
criteria to assess the restrictiveness of the VA formulary, including how the VA formulary
compares to formularies used in other public and private health care systems, and how it
compares to reasonableness standards in the literature. The IOM committee also
concluded that the VA formulary is in some respects more but in many respects less
restrictive that other public or private formularies. The VA formulary does not contain
specific types of drugs, such as pediatric drugs, that typically would be covered by the
FEHBP plans we reviewed.




Page 34                             GAO-03-196 Pharmacy Benefits for Federal Employees
Appendix I: Scope and Methodology




list. We considered a VA therapeutic class to be included on a plan
formulary if at least one of the VA drugs in that class or a therapeutically
equivalent drug was listed in the plan formulary. For VA therapeutic
classes not included on a plan formulary, we used National Institutes of
Health and Medco Health Solutions on-line databases to analyze the types
of medical conditions treated by the excluded drugs within these classes.




Page 35                             GAO-03-196 Pharmacy Benefits for Federal Employees
              Appendix II: Comments from the Office of Personnel Management
Appendix II: Comments from the Office of
Personnel Management




              Page 36                          GAO-03-196 Pharmacy Benefits for Federal Employees
Appendix II: Comments from the Office of Personnel Management




Page 37                          GAO-03-196 Pharmacy Benefits for Federal Employees
                  Appendix III: GAO Contact and Staff
Appendix III: GAO Contact and Staff
                  Acknowledgments



Acknowledgments

                  John Dicken (202) 512-7043
GAO Contact
                  The following staff made important contributions to this report:
Acknowledgments   Rashmi Agarwal, Randy Dirosa, Betty Kirksey, Carmen Rivera-Lowitt, and
                  Annesha White.




                  Page 38                           GAO-03-196 Pharmacy Benefits for Federal Employees
             Related GAO Products
Related GAO Products


             VA and DOD Health Care: Factors Contributing to Reduced Pharmacy
             Costs and Continuing Challenges. GAO-02-969T. Washington, D.C.:
             July 22, 2002.

             Medicare Outpatient Drugs: Program Payments Should Better Reflect
             Market Prices. GAO-02-531T. Washington, D.C.: March 14, 2002.

             Prescription Drugs: Prices Available Through Discount Cards and From
             Other Sources. GAO-02-280R. Washington, D.C.: December 5, 2001.

             Medicare: Payments for Covered Outpatient Drugs Exceed Providers’
             Cost. GAO-01-1118. Washington, D.C.: September 21, 2001.

             VA Drug Formulary: Better Oversight Is Required, but Veterans Are
             Getting Needed Drugs. GAO-01-183. Washington, D.C.: January 29, 2001.

             Prescription Drugs: Adapting Private Sector Management Methods for a
             Medicare Benefit. GAO/T-HEHS-00-112. Washington, D.C.: May 11, 2000.

             Prescription Drug Benefits: Applying Private Sector Management
             Methods to Medicare. GAO/T-HEHS-00-84. Washington, D.C.: March 22,
             2000.

             Pharmacy Benefit Managers: FEHBP Plans Satisfied With Savings and
             Services, but Retail Pharmacies Have Concerns. GAO/HEHS-97-47.
             Washington, D.C.: February 21, 1997.




(290118)
             Page 39                     GAO-03-196 Pharmacy Benefits for Federal Employees
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