How to Dramatically Decrease Your MCO’s Rx Coverage Costs

An experienced negotiator and lawyer describes in detail how health plans that contract with PBMs can get a better deal
Linda Cahn

For more than two decades, every managed care organization in this country has struggled to control its ever-increasing prescription coverage costs.

Years ago, MCOs expanded their insurance fraud units to try to control drug costs. Thereafter, MCOs increased their internal staffs to better monitor prescription drug dispensing. Most recently, at the repeated suggestion of pharmacy benefit managers (PBMs), health plans began urging their clients to shift costs to members by means of increased copayments and other programs.

Unfortunately, none of the above strategies has enabled insurers to control their prescription coverage costs. In fact, drug costs have continued to increase from 7 percent to 15 percent annually for the past decade. Thus, it is reasonable for every insurer to ask whether it can take any steps that might effectively control its costs.

Amazingly, the answer is a resounding “Yes.” Moreover, the cost-saving steps that any MCO can take are easy — and quite inexpensive.

STEP 1: Scrutinize your PBM contract

Most insurers in this country subcontract their prescription coverage responsibilities to a PBM. Unfortunately, in so doing, they fail to realize that their executed PBM contract will be the major determinant of their ongoing prescription costs. Insurers accept PBMs’ standardized boilerplate contracts that contain numerous loopholes and allow PBMs to retain many hidden profit centers that continuously drive up their costs.

Accordingly, if your MCO wants to decrease its prescription coverage costs, it must scrutinize every term in its PBM contract, eliminate all contract loopholes, and rewrite all terms that are increasing your costs.

Here’s how.

STEP 2: Rewrite all contract definitions

The first terms to scrutinize are found at the beginning of your PBM contract — your contract definitions.

Nearly all PBM/insurer contracts contain definitions that are ambiguous or contrary to insurers’ interests.

For example, a “claim” is defined to allow a PBM to invoice its client for “reversed” or “rejected” claims, which typically constitute as much as 20 percent of all claims.

A drug’s “average wholesale price” is defined to enable a PBM to retain all “bulk purchase” savings, rather than to pass them through to plans. As a result, PBMs can charge the per-pill cost of a drug based on small bottles of 30, 90, or 100 pills, rather than the lower bulk-purchase cost based on bottles of 1,000 or 5,000, from which pills are actually dispensed.

Also, AWP is defined to enable a PBM to cherry-pick the highest prices among several national reporting services’ different prices (such as First DataBank or Medispan), if the AWPs are different.

“Brand name drugs” and “generic drugs” are defined to enable a PBM to relabel and mischaracterize each, in the PBM’s own best interests. As a result, even though many brand drugs have lost their patents — and many generic drug have become available at far lower costs — PBMs retain a large portion of available generic savings, rather than passing through all such savings to their insurer clients.

Many other contract definitions allow PBMs to manipulate contract terms to increase their profit margins and insurers’ costs.

In short, to decrease their costs, insurers must rewrite most PBM contract definitions and eliminate all definition loopholes.

STEP 3: Require real pass-through pricing

The new buzz word in the prescription coverage industry is “pass-through pricing.” Almost all PBMs claim to be providing such pricing, but almost none actually do.

Real pass-through pricing requires PBMs to invoice clients with the exact cost the PBMs are paying for each drug dispensed. Therefore, if a PBM contract provides real pass-through pricing, it must require the PBM to invoice its client for every retail, mail, and specialty drug dispensed, at the PBM’s actual cost.

Real pass-through pricing also requires a PBM to pass through to its client all rebates, discounts, and other fees the PBM obtains from drug manufacturers and other third parties.

Unfortunately, while almost all PBMs claim to be providing pass-through pricing, their contracts incorporate none of these requirements.

Instead, PBMs write their contracts to require them to pass through their retail pharmacy costs but to allow them to continue to impose spread pricing for all mail and specialty drugs dispensed. As a result, PBMs purchase their mail and specialty drugs at relatively low costs, but invoice their clients far more, thus making large spreads.

Moreover, by increasing their spreads on mail and specialty drugs beyond what they previously earned, PBMs take back whatever profits they may have relinquished under their agreement to provide pass-through retail pricing.

Similarly, PBMs write their contracts with their clients to pass through all rebates the PBMs may earn from drug manufacturers and other third parties; however, PBMs simultaneously state they can retain whatever discounts or “administrative or other fees” the PBMs may earn from its manufacturer and other third-party contracts. As a result, PBMs avoid passing through to their clients most “financial benefits” they receive by labeling most “financial benefits” as “discounts” and other “fees” in their contracts with drug manufacturers and other third parties.

Accordingly, every MCO should rewrite its PBM contract to ensure real pass through pricing, requiring the PBM to invoice the MCO for every retail, mail, and specialty drug using the PBM’s actual costs, and to pass through to the MCO all “financial benefits” received from all drug manufacturers and other third parties. Moreover, PBM/MCO contracts should make clear that the only profits the PBM will be allowed to make will be from a flat per-member per-month (PMPM) administrative fee.

By reducing PBMs’ profits to a single administrative fee, insurers will force PBMs to compete against each other on three criteria, and three criteria only:

  • The extent to which each PBM is willing to reduce its PMPM fee,
  • The guarantees that each PBM is willing to provide to ensure that its pass-through pricing is as good as is available in the marketplace, and
  • The guarantees that each PBM is willing to provide to ensure that its services will be performed properly.

As insurers force PBMs to compete on those three criteria, PMPM fees will decrease, financial and performance guarantees will improve, and the entire prescription marketplace will become more competitive.

STEP 4: Require real financial guarantees

Almost all PBM contracts already contain financial guarantees, but most are unenforceable or useless.

For example, almost all PBM contracts include a “generic savings guarantee” warranting a specific AWP discount on all generic drugs for which the PBM creates a “MAC” (maximum allowable cost).

Unfortunately, almost all PBM contracts fail to indicate how many generic drugs the PBM must create a MAC for. Therefore, if a PBM creates a MAC for only 500 generic drugs, the PBM’s “generic savings guarantee” will only cover those 500 drugs, and all other generic drugs will be outside the guarantee’s coverage and without any guarantee.

Moreover, since the definition of MAC is poorly written (and purposefully vague) in almost every PBM contract, PBMs can change the number of drugs with a MAC and their actual MAC pricing whenever they want to do so. By continually changing both variables, PBMs make it virtually impossible for insurers to audit “generic savings guarantees.”

In short, PBMs’ “generic savings guarantees” are anything but real guarantees since PBMs can easily manipulate the number of drugs covered under the guarantees and their MAC pricing, and PBM clients are extremely unlikely to be able to audit the guarantees.

Thus, every MCO must rewrite its generic savings guarantees, as well as all other contract guarantees that are ineffective and/or unenforceable.

By writing airtight guarantees, every MCO will not only decrease its costs but will also enable itself to evaluate and compare each PBM’s pass-through pricing, because enforceable guarantees will reflect minimum discounts the PBM must provide for each type of drug (retail brand, retail generic, mail brand, mail generic, and so forth), while simultaneously providing pass-through pricing.

Thus, airtight guarantees enable every MCO to verify that the pass-through pricing it has obtained from its PBM is as good as is available in the marketplace.

STEP 5: Require real performance guarantees

Almost all PBM contracts also contain many “performance guarantees” that purportedly ensure that PBMs dispense drugs in a timely and accurate manner.

However, nearly all PBM “performance guarantees” are missing core terms needed to ensure their success because the guarantees do not identify an agreed audit methodology for the insurer’s auditor to implement; they don’t require PBMs to provide the requisite information to enable an audit to take place; and they don’t include sufficient penalties to motivate PBMs to satisfy the guarantees.

For example, almost every PBM/client contract contains mail pharmacy “dispensing accuracy guarantees” stating that the PBM will dispense the correct drug, at the correct dosage level, with the correct number of pills per bottle — with a 99.9999 percent accuracy rate. However, insurers almost never audit those guarantees — and instead rely on their PBMs to do so — because the contract does not spell out an accepted audit methodology, and insurers do not have access to the necessary data to conduct their own audits.

Not surprisingly, since PBM contracts leave the PBM fox to guard the chicken coop, PBMs routinely report that they have satisfied their guarantees in content-less letters stating that they have done so. Insurers can do nothing but accept PBMs’ representations, even if clients and covered members are routinely complaining that drugs are being dispensed inaccurately, since insurers cannot see the necessary data to prove otherwise.

By rewriting each performance guarantee to include an agreed audit methodology that a third-party auditor can implement and a list of all data and documents that must be produced to enable the specified audit methodology to be implemented, insurers will be able to verify that performance guarantees are being met.

By rewriting each performance guarantee to include a strong penalty that must be paid if PBMs are discovered to be violating the guarantee, insurers will create the necessary incentives to make PBMs honor their guarantees. Put simply, a PBM that is confronted with the loss of 10 percent of its administrative fees for breach of a guarantee will be far more likely to satisfy the guarantee than a PBM that is required to pay a $25,000 penalty, which is the typical penalty in most insurers’ PBM contracts.

STEP 6: Tighten up all other contract terms

Virtually all PBM/insurer contracts contain numerous other terms that make no sense, given that insurers are spending hundreds of millions of dollars annually on prescription drugs.

By way of example only, almost all PBM contracts incorporate three-year terms, with limited or no rights for insurers to terminate the contract. Those agreements become less competitive and more out-of-date with each passing year.

Moreover, even when insurers discover that PBMs have breached contract terms, they are typically stuck with their PBMs until their contracts expire.

Every MCO should insist on a “90-day, with or without cause” termination right. Moreover, if the contract contains a three-year term, every insurer should include an annual right to renegotiate its PMPM administrative fee and every financial guarantee in the contract.

If your MCO couples “termination rights” and “renegotiation rights,” it will be able to hold its PBM’s feet to the fire to obtain ever better terms annually, and to insist that all contract terms be honored. You will have a cutting-edge, competitive contract throughout its three-year duration, and your PBM will have good reason not to take your business for granted but instead be continuously responsive to your needs.

Numerous other terms that are present in almost every PBM contract must also be changed to ensure that all loopholes are eliminated, and every contract term can be enforced. In fact, your PBM contract must essentially be perfect, lest all savings that you have negotiated slip through the contractual cracks you have overlooked.

Why will such an eventuality occur if you fail to execute an airtight contract?

Because whatever savings your MCO obtains by eliminating certain contract loopholes will be lost if your PBM can increase the profits it earns by manipulating remaining contract loopholes. Therefore, your MCO must ensure that every loophole is eliminated, and every contract term is enforceable, if it is to achieve its objective of dramatically decreasing its costs.

STEP 7: Conduct a new form of PBM RFP to obtain airtight contract terms

The contract terms that I advocate are unlikely to be obtained from any PBM simply by asking for them. In fact, experience shows that airtight contract terms can only be obtained if they are extracted from a PBM during a PBM RFP (request for proposal) that forces PBMs to compete for your business.

Implemented effectively, PBM RFPs enable MCOs to dramatically decrease their prescription coverage costs over their previous year’s costs by 10 percent to 30 percent. Implemented unwisely, PBM RFPs result in no savings whatsoever. Unfortunately, most PBM RFPs fall into the latter category.

The difference between an effective and an ineffective RFP can be summarized in this way: The former uses the RFP’s leverage to force PBM contestants to provide the airtight contract terms needed during the RFP; the latter treat the RFP as a beauty contest, obtaining PBM contestants’ promises and projections but leaving actual contract negotiations to be conducted after the RFP process is concluded.

Remarkably, few insurers (or consulting firms advising insurers) ever finalize a PBM contract before the RFP is concluded. Still more startling, most insurers and consulting firms never even discuss specific contract terms before finishing an RFP.

These statements are borne out by a poll that was recently taken during a Web seminar concerning PBM RFPs. More than 80 percent of attendees who had conducted RFPs indicated in the survey that they had never negotiated any PBM contract terms until after their RFP process was concluded.

The PBM RFP that your MCO distributes should be an entirely different form of RFP: Before your MCO transmits your RFP documents, have your consulting firm draft an entirely different form of PBM/client contract, eliminating or modifying all substantive terms that are against your MCO’s interests. Include blank lines in your contract for each PBM contestant to identify its PMPM fee and each financial guarantee.

When you issue your RFP documents, attach your contract to those documents, and require every PBM contestant to mark up the contract, identifying every change the contestant will want to have made if it is selected.

Warn all contestants that any PBM that significantly alters the letter or spirit of your contract will be eliminated from the ongoing RFP competition. Then require every contestant to execute its contract markup, binding itself to the terms it has written.

After each PBM contestant returns its RFP response, eliminate the PBMs that significantly changed your proposed contract, and have your consulting firm use the remainder of the RFP competition to ensure that your contract will remain airtight, with the best available PMPM fee and guarantees. Do so by having your consultant repeatedly negotiate with each PBM contestant, forcing all contestants to compete against the best terms offered by rival contestants.

For example, assuming that your proposed contract includes language requiring the PBM to pass through to your MCO all rebates and all other financial benefits the PBM receives from every drug manufacturer and every other third party, and that most PBMs reject or alter your proposed contract language, then leverage your RFP power to require each PBM to do so.

Tell all recalcitrant PBMs that certain PBMs have accepted your proposed language, which some PBMs will do, if you make sure to include smaller PBMs as contestants. Further inform recalcitrant PBMs that those PBMs that refuse to accept your required terms will be eliminated.

If every MCO insists during its RFP that all drug manufacturer payments and discounts are to be passed through, PBMs’ almost-universal practice of retaining most third party financial benefits will change, dramatically decreasing drugs’ costs and increasing insurers’ savings.

Similarly, if some PBM contestants accept your newly-conceived “generic drug guarantees” covering all generic drugs, and other PBM contestants refuse to do so, require the latter to do so or eliminate them from contention.

While almost no existing PBM-client contracts include such guarantees, and PBMs have consistently written generic guarantees that are essentially useless, there is no excuse for any contract to be executed with guarantees that cannot be enforced and audited.

After eliminating all PBMs that have refused to provide your required contract terms, select as your semifinalists those that have provided the lowest PMPM rates and the best financial and performance guarantees. Then use the interview process to extract further binding contract concessions from each contestant.

Before a finalist is selected and announced, make sure all contract changes that you have extracted have been incorporated into a binding contract. Then require each contestant to execute its contract and a final binding certification stating that it will honor its executed contract without any further changes, should it be selected.

On the day your RFP competition ends, pick your new PBM and sign its already-executed contract by placing your general counsel’s signature on your signature line. When you do so, you will know that your MCO is on its way to realizing far lower pharmacy costs — and far better performance.

STEP 8: Reject marketplace platitudes that state ‘nothing can be done’

Many consulting companies claim that PBMs will not provide decent contract terms, and that nothing can be done to obtain such terms. If you accept their advice and fail to use your RFP’s leverage to extract airtight contract terms, your company will be destined to execute another flawed contract at the end of your RFP process.

While almost no existing PBM-client contracts in the marketplace are airtight — almost all of them are stuffed with loopholes that drive up clients’ costs — small corporations and unions with as little as a few thousand covered lives have obtained entirely different contracts, resulting in dramatically lower costs.

They have done so by drafting their own contracts with expert advice and by insisting that PBM contestants provide the requested contract terms in binding, executed contracts before any PBM finalist is selected.

Therefore, there is no excuse for any insurer covering hundreds of thousands or millions of lives to be operating under a contract that is not airtight.

Moreover, as soon as MCOs start insisting on airtight contract terms during the PBM competition that results from issuing an RFP — and MCOs thereby create a competitive marketplace requiring PBMs to win business by providing ever-lower PMPM administrative fees and ever-better financial and performance guarantees — the entire prescription marketplace will change.

In short, MCOs have the power to not only dramatically decrease their own costs, but to transform the entire prescription coverage marketplace into a competitive marketplace that MCOs, not PBMs, control.

Linda Cahn, a graduate of Princeton University and Hofstra University Law School and a member of the New York and New Jersey bars, is the president of Pharmacy Benefit Consultants, a nationwide consulting company that assists insurance companies, corporations, and unions in improving their PBM contracts and conducting better PBM RFPs. Pharmacy Benefit Consultants can be reached at 973-975-0900.

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