Specialty drugs are generally defined as high-cost prescription drugs that treat complex conditions and require special handling and administration. However, the most striking aspect of specialty drugs is that few payers are effectively controlling their costs.
Any payer — whether a health insurer, private corporation, union, or government entity — clearly has an interest in understanding and changing the status quo. Here’s how to do so.
Specialty drugs are dispensed and their costs adjudicated in two different ways: through payers as part of the health care benefits package, and through PBMs. In neither instance are specialty drugs’ costs currently controlled. However, improving cost controls for PBM-dispensed specialty drugs is at least feasible, whereas it is extremely unlikely costs can be controlled when specialty drugs are dispensed as part of the benefit package. Here’s why.
PBMs dispense and adjudicate specialty drugs using National Drug Codes (NDCs), 11-digit numbers that identify precisely the drug, dosage, and package size (number of units) of each drug. Moreover, NDCs are assigned to a drug when it receives FDA approval.
Accordingly, when a PBM dispenses and adjudicates any specialty drug, it knows exactly which drug was dispensed, the dosage level, and the precise quantity. As a result, it is possible to track — and potentially control — each specialty drug’s cost, at each dosage level and quantity dispensed.
In contrast, entities that dispense drugs as part of the benefit package typically adjudicate specialty drugs using Healthcare Common Procedure Coding System (HCPCS) J Codes. At best, a J Code refers to the chemical name of a drug, but not the specific manufacturer, strength, or package size. In other words, many different drugs are included in each specific J Code. For example, J7192 represents all hemophilia recombinant Factor VIII products (Recombinate, Kogenate FS, Bioclate, Helixate).
Also in contrast to NDCs, J Codes do not identify the quantity dispensed. As a result, providers must complete a separate quantity field when providers invoice for specialty drugs using J Codes. Frequently, providers fill in the quantity as “1” regardless of the actual quantity dispensed.
Also, a J Code is typically assigned to a drug approximately 6 to 18 months after it enters the market. Until then, a catchall nonspecific code is used for billing. For example, J3590 represents unclassified biologics, and J3490 represents other unclassified drugs. Frequently, even after a J Code is assigned, providers continue to invoice for the drug using the catchall nonspecific codes that providers previously have used.
For all these reasons, it is unlikely that specialty drug costs can be controlled by health care providers. After all, without the ability to track which drugs are being dispensed and at what dosage level and quantity, one cannot possibly control the drugs’ costs.
In other words, until health providers require that specialty drugs be invoiced using NDCs, PBMs will offer the only possibility for controlling specialty drug costs.
Unfortunately, as described below, most PBM/payer contracts ensure that specialty drug costs cannot be controlled even when specialty drugs are adjudicated by PBMs. The contract problems described below plague all payers equally, but this article will discuss them in connection with insurers primarily.
Our consulting firm has reviewed hundreds of PBM/insurer contracts, and all have contained either no definition whatsoever for specialty drugs or a definition that is so elastic that it is essentially entirely useless.
For example, here are two definitions that we’ve recently seen in contracts that do contain a specialty drug definition (with italics and bracketed information added by me):
Specialty drug shall mean certain pharmaceuticals, biotech, or biological drugs, which may be offered by PBM, that are used in the management of chronic or genetic disease, including but not limited to injectable, infused, or oral medications, or products that otherwise require special handling, including without limitation, each drug identified on Exhibit D, which may be amended by PBM.
Specialty Pharmacy Drugs means certain drugs available in the market that are not subject to the rates referenced in Exhibit A [which contains pricing for brand and generic drugs].... Examples of Specialty Pharmacy Drugs are biotechnology drugs and certain compounds. Classification of a drug as a Specialty Pharmacy Drug is at the sole discretion of PBM.
As reflected by the text in italics, in both of the above definitions the PBM is free to add — or delete — any drug it wishes to the category of specialty drugs.
Tellingly, even though the Medicare Modernization Act and subsequent regulations define a specialty drug as any drug with a cost that is more than $600, many Medicare Part D contracts contain specialty drug definitions that redefine specialty drug so the term is as elastic as it is in commercial contracts. For example, here’s a standard definition my firm has seen in PBM/Medicare Part D provider contracts (with italics and bracketed terms added to underscore the problems with the PBM’s definition):
Specialty Drugs means certain pharmaceuticals [the phrase “certain pharmaceuticals” includes basically every drug] and/or biotech or biological drugs that are used in the management of chronic or generic disease, including but not limited to [this magical legal phrase means that the list that follows can be changed by the PBM], injectable, infused, or oral medications [again, this includes most drugs], or otherwise require special handling [this makes no sense, given the words that precede it], including those listed in Exhibit A (which PBM may amend from time to time) [this final phrase gives the PBM the unilateral right to do whatever it wants].
Clearly, if a PBM/insurer contract does not contain any definition of specialty drug whatsoever, a PBM is free to include — or not include — any drug it wants in the category. Thus, a PBM can manipulate any pricing term related to specialty drugs.
Similarly, if a PBM/insurer contract contains a specialty drug definition like those described above, the identical result will occur, because the PBM is free to include — or not include — any drug within the specialty drug category.
In sum, in essentially all contracts, the lack of an effective specialty drug definition positions a PBM to manipulate specialty drug pricing terms and thereby eviscerates the possibility that a payer will be able to effectively control specialty drugs costs.
Even if PBM/insurer contracts did contain useful specialty drug definitions, those definitions would be of little utility, because the contracts do not contain meaningful pricing terms to control PBMs’ profit margins on specialty drugs.
In fact, many of the PBM/insurer contracts our firm has reviewed do not contain any pricing terms whatsoever for specialty drugs. Quite literally, these contracts are without a single pricing term or pricing guarantee related to specialty drugs, notwithstanding that specialty drugs are the highest costing drugs in the marketplace.
Other contracts our firm has reviewed do contain a contract exhibit that lists scores of specialty drugs with drug-by-drug minimum discount guarantees. However, the contract exhibit always omits many specialty drugs, meaning the PBM can charge whatever it wants for all omitted drugs and effectively take back whatever profits the PBM may have lost by providing aggressive guarantees on the specialty drugs that were listed in the exhibit.
Moreover, at the end of the contract exhibit — or buried elsewhere in the contract — PBMs typically include additional language giving the PBM the discretion to change its “minimum discount guarantees” essentially whenever the PBM wants to do so. As a result, the question that must be asked is: What value could any PBM minimum discount guarantee possibly have if the PBM can unilaterally change every guarantee?
Though the obvious answer is no value at all, almost all PBM/insurer contracts that contain minimum discount guarantees provide PBMs with the unilateral right that I’ve described. In some instances, like the following, the language is simple and easy to recognize:
All discounts quoted [by the PBM in the specialty drug contract exhibit] are subject to change in PBM’s discretion as necessary to reflect current market conditions and availability.
In other instances, the language is part of a long paragraph that many payers and their lawyers are likely to ignore. For example, here’s an abbreviated version of language our firm has repeatedly seen in PBM/payer contracts (annotated by me with italicized print and brackets to illuminate key points):
PBM reserves the right to modify or amend the financial provisions of the Agreement in the event of: (a) a greater than 20% change in the total number of covered plan participants [it is unclear why a change in a client’s participants could justify a change in a PBM’s “minimum discount guarantees”]...; (c) any government-imposed or industrywide change [this phrase potentially includes many scenarios]...; (e) a change in Client’s plan design [given the lack of any specificity in this statement, this phrase potentially covers any plan design change]...; (f) a change in the scope of services to be performed under the Agreement...[ditto]; (g) PBM’s actual cost experience [this means if the PBM doesn’t meet a guarantee, the PBM is free to claim it had the right to change the guarantee because of its “actual cost experience”]; or (h) changes to the methodology by which AWP is calculated or reported... [note that just such a change will soon occur as a result of a litigation settlement related to AWP].
Clearly, to the extent that PBMs omit specialty drugs from a contract’s specialty drug exhibit list, or PBMs provide themselves with the contractual right to change minimum discount guarantees whenever they want, an insurer will not be able to control its specialty drug costs. After all, any time a PBM wants to increase its profits and thereby increase an insurers’ costs, the PBM can charge whatever it wants for the specialty drugs that are not included on the contract exhibit list. Alternatively, the PBM can exercise its contractually provided right to change or eliminate minimum discount guarantees and thereby evade a payer’s efforts to control its costs.
Defining specialty drug
Lawyers with experience drafting contracts know that every term of consequence must be defined. Otherwise, each party is free to interpret a critical term in any manner it chooses.
Given that a core goal of any PBM/payer contract must be to control the cost of every specialty drug throughout the contract term, every PBM client must draft a specialty drug definition that will include all drugs that are specialty drugs at the beginning of the contract, and all specialty drugs that may enter the market thereafter. Here’s how to do so.
Define the term specialty drug by stating that it includes all drugs that are listed on an exhibit list — or on amendments to an exhibit list. Then draw up a list of every specialty drug that is now on the market and attach that list to your proposed contract. Also, draft contract language that allows you to regularly and continually update the list through amendments, and make sure that during your contract term, you generate amendments adding new specialty drugs to your exhibit list at least quarterly.
This will ensure that your specialty drug definition is all-inclusive — at the beginning of your contract, and throughout your contract term.
As of today’s date, your exhibit list should include approximately 570 specialty drugs (assuming that you list every drug, each dosage level, and each type of delivery method — capsules, tablets, etc. — separately).
Pass-through pricing is the latest concept sweeping the prescription coverage marketplace. It requires a PBM to invoice a payer for every drug dispensed based on the PBM’s precise cost for the drug.
Unfortunately, almost no PBM contracts provide pass-through pricing for specialty drugs. In fact, my firm has reviewed hundreds of PBM contracts in the past several years, and without exception, not a single contract has contained pass-through pricing terms for specialty drugs.
Instead, most contracts allow PBMs to pay for specialty drugs at one undisclosed price, but charge their clients a far higher but unspecified price for the same drugs. In so doing, PBMs make undisclosed profit spreads on every drug dispensed.
Unknown and elastic
Moreover, given that the PBM’s purchase price for the drug need not be disclosed — and the PBM’s invoice price to its client is not specified or can be changed in the PBM’s discretion — the amount of the PBM’s profit is unknown and elastic.
Thus, PBMs increase their own profit margins by buying specialty drugs at low prices but selling them at far higher prices, rather than using their marketplace leverage to decrease their clients’ specialty drug costs.
To alter this situation, every payer must draft an entirely different form of PBM contract, and require its PBM to provide pass-through pricing for every specialty drug dispensed, meaning the PBM must invoice the payer using the PBM’s actual cost for the drug.
If the PBM uses a subsidiary specialty pharmacy to dispense specialty drugs, the PBM must invoice its client based on the PBM’s actual acquisition cost of each specialty drug, and the methodology for determining and verifying actual acquisition cost must be included in the contract.
If the PBM uses a third-party vendor pharmacy to dispense specialty drugs, the PBM must invoice its client based on the actual amount the PBM pays the vendor, and a methodology for verifying that amount must be included in the contract.
To ensure that the PBM’s pass-through prices are competitive and as low as can be obtained in the marketplace, payers must also contractually require their PBMs to provide a minimum discount guarantee for each specialty drug on their contract exhibit list and all amendments to the list. The best way to do so is to extract these minimum discount guarantees during the request-for-proposal process, when several PBM contestants must compete to win your business. Here’s how to do so.
At the beginning of your RFP process, draft your own form of contract with entirely different contract terms from current marketplace contracts that are missing specialty drug definitions and that allow PBMs to invoice payers for specialty drugs at any price PBMs choose using spread pricing.
Include a specialty drug definition that cross-references to an exhibit list that identifies every specialty drug that is currently in the marketplace. Also require the PBM to provide pass-through pricing for every specialty drug dispensed. Finally, require that the PBM’s pass-through pricing be at least as good as the specialty drug minimum guaranteed discounts that the PBM will provide during the RFP.
Now, issue your RFP documents — including your proposed contract — and require all contestants to provide a minimum discount guarantee for every drug on your specialty drug exhibit list. Make clear that any contestant that fails to accept your specialty drug definition and pass through pricing requirement — or fails to provide binding minimum discount guarantees for every drug on your exhibit list — will be eliminated from the RFP.
Also make clear that a PBM finalist will not be selected (and awarded the business) until all PBM semifinalists have executed their contracts and bound themselves to the guarantees contained therein. After all semifinalists have done so, determine which PBM contestant is offering you the best specialty drug guarantees — and the best aggregate contract offer — by re-running your current claims data and inserting each contestant’s contract pricing terms and guarantees for each drug found in the claims data.
Now you are in a position to select your finalist based on the binding contract terms and minimum discount guarantees each PBM contestant has provided, and you won’t be forced to begin negotiating your PBM contract after your RFP process has concluded. Instead, on the day you select your finalist, you can place your signature on the payer’s signature line of the contract that your finalist has already executed.
By requiring each contestant to adhere to these procedures, you will be in an entirely different specialty drug position: While previously your PBM was able to charge whatever it wanted for specialty drugs, your newly selected PBM will be required to pass through its actual cost for every specialty drug, and that cost will have to be at least as good as the specified minimum discount guarantee contained on the contract exhibit list.
Note that during the RFP, you or your consulting firm should use the RFP’s leverage to negotiate with each contestant to improve its specialty drug guarantees on a drug-by-drug basis, focusing on those drugs that cost you the most.
For example, the table below reflects a contestant’s initially proposed discounts and the discounts the contestant agreed to provide two months thereafter on five commonly used specified drugs, after RFP negotiations occurred on numerous contract terms, including specialty drug minimum discount guarantees.
|PBM contestant’s initial & final proposed discounts |
|Drug ||PBM #1 initial proposal |
Proposed discount guarantee
|PBM #1 final proposal |
Proposed discount guarantee
|Atripla (tab) ||AWP−10% ||AWP−17% |
|Enbrel (SRCLK inj 50 mg/ml) ||AWP−17.5% ||AWP−18.5% |
|Pegasys (kit) ||AWP−16% ||AWP−19% |
|Prograf (cap 1 mg) ||AWP−10% ||AWP−18% |
|Gleevec (tab 400 mg) ||AWP−10% ||AWP−18% |
Given the number of times that each of the five drugs had been dispensed for the particular client for which this RFP was being conducted, the improved guaranteed discounts on just these five drugs alone amounted to a potential annual savings of almost $100,000.
By using the RFP to obtain binding minimum discount guarantees for each specialty drug from each PBM contestant, insurers can also compare contestants’ specialty drug discount guarantees and thus understand the enormous range of discounts that exist for many drugs. For example, we’ve seen PBM contestants offer weak discounts like AWP minus 18 percent on Sandostatin SR, and other contestants offer far stronger discounts, such as AWP minus 26 percent, on the same drug, with the latter discount enabling a payer to save approximately $450 every time the prescription is dispensed.
Large differences exist in PBMs’ offered discounts on numerous other drugs, for example: Ribasphere (with PBMs’ offered discounts ranging from AWP minus 19 percent to AWP minus 70 percent, with the latter providing a possible savings for payers of approximately $600 per prescription); and Irinotecan HCL (with PBMs’ offered discounts ranging from a AWP minus 18 percent to AWP minus 60 percent, with the latter providing a possible savings for payers of approximately $1,200 per prescription dispensed).
By discovering the range of discounts available on each specialty drug, payers can position themselves to carve out certain specialty drugs from coverage and thereby maximize their savings.
After all, when insurers select one PBM from many PBM contestants as the winning RFP contestant, the winning PBM may not offer the best available guarantee on each specialty drug. Moreover, payers must make their selection based on many factors, not just which PBM gives the best specialty drug guarantees.
Accordingly, insurers may end up selecting a PBM that offers minimum discount guarantees on certain specialty drugs that are not competitive with the best available guarantees.
As a result, it is critically important that every insurer create a right to carve out any specialty drugs the insurer designates, which will allow the insurer to obtain the best discounts available on as many specialty drugs as possible.
Although most specialty drugs are single-source products, many do compete with other products in their therapeutic category. As a result, an increasing number of specialty drug manufacturers are trying to increase their drugs’ market shares by offering rebates and other forms of discounts to PBMs.
Unfortunately, almost no insurers are benefiting from specialty drug rebates and discounts, because most PBMs insert a contract provision that enables PBMs to retain for themselves all such financial benefits.
PBMs place this requirement in any number of places in their contracts; for example, at the end of the rebate definition, at the end of an exhibit related to pricing terms, and sometimes even in a footnote. But regardless of its location, the language looks something like this:
“Rebates mean the rebates, including base and market share rebates, collected by PBM in its capacity as a group purchasing organization ... but specifically excluding any rebates paid with respect to utilization of specialty drugs.”
This language deprives insurers of an obvious and direct means to obtain specialty drug savings.
To alter the status quo, every payer must eliminate all such language from its contract, and include language that specifically requires its PBM to pass through all financial benefits related to all specialty drugs that the PBM obtains from all third parties. Insurers should also include a definition of financial benefits to make clear that the term refers to all arrangements that could provide anything of “financial value, including but not limited to all rebates, discounts, administrative fees, credits, grants, etc.”
Insurers should also include a contract definition of third parties, making clear that the term includes not only drug manufacturers, but other third parties such as wholesalers and distributors.
During RFPs, insurers should also use the RFP process to compare each PBM contestant’s financial benefit pass-through ability by requiring them to provide financial benefit guarantees in the contracts they submit.
Thus, the proposed contract that you or your consulting company drafts and bids out in an RFP should not only require each PBM contestant to provide pass-through pricing on each specialty drug dispensed, and a pass-through of all rebates and other financial benefits the PBM receives on specialty drugs, but it should also contain blank lines for each PBM contestant to fill in related to its proposed financial benefit guarantees for each prescription dispensed, such as the following:
“PBM agrees that its pass-through of all third party Financial Benefits will be at least as favorable to Client as the following:
$___ per retail prescription dispensed
$___ per retail 90 prescription dispensed
$___ per mail prescription dispensed
$___ per specialty drug dispensed”
Update and amend
Given that specialty drugs are entering the marketplace continuously — and that discounts on such drugs are changing continuously — it is imperative that you not lock yourself into a three-year contract containing pricing terms and exhibit-list guarantees that you are unable to change during the three-year contract.
Instead, draft and demand a right to update and amend the contract, coupled with a right to terminate the contract with or without cause on 90 days notice. By coupling your right to renegotiate with a right to terminate without cause, you will ensure that your PBM renegotiates with you in good faith.
The contract should specify that you have the right to amend your specialty drug exhibit list with new specialty drugs that enter the market at least quarterly. It should also enable you to negotiate minimum discount guarantees for all such newly available specialty drugs, and to renegotiate existing guarantees when better guarantees are available.
The contract should also specify that if the PBM is unwilling to provide certain guarantees that you request, you will have the right to carve out certain drugs from the PBM’s coverage to obtain better guarantees from other specialty drug vendors. Your contract should also enable you to renegotiate your administrative fee and financial benefit guarantees at least yearly, to ensure that those fees remain competitive as well.
As the above description reflects, there is much that every insurer can do to better monitor and control its specialty drug costs. With the average cost of a specialty drug prescription rapidly approaching $2,000, and the annual cost of many specialty prescriptions exceeding $100,000, it is time for insurers to do so.
Simply stated, specialty drugs are too special to allow PBMs free rein via poorly drafted PBM contracts.