Prescription Drugs: An Overview of Approaches to Negotiate Drug Prices Used by Other Countries and U.S. Private Payers and Federal Programs
Published: 2007-01-11T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Rising prescription drug spending has led the United States and other countries to seek ways to negotiate lower prices with drug manufacturers. Currently, the Medicare Part D benefit, which offers outpatient prescription drug benefits to beneficiaries including elderly and certain disabled people, comprises competing prescription drug plans overseen by the Centers for Medicare & Medicaid Services. The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 prohibits the Secretary of Health and Human Services from interfering with price negotiations between Part D plan sponsors and drug manufacturers and pharmacies. Some Members of Congress have proposed amending the statute to allow the Secretary of Health and Human Services to negotiate directly with drug manufacturers on behalf of Part D beneficiaries. GAO was asked to describe how prescription drug prices are negotiated. This testimony provides an overview of such efforts (1) by governments in other countries; (2) by U.S. private payers, such as employer-based health plans; and (3) by federal programs other than Medicare Part D. This testimony is based on previous GAO reports from 2002 through 2006 on federal programs that purchase or cover prescription drugs and other relevant literature from congressional agencies and federal or international organizations.
section_title: What GAO Found
paragraphs: Governments in other countries use a range of approaches to limit the amount they pay to acquire drugs. Ceiling prices establish a maximum price manufacturers may charge for their products. Purchasers may sometimes negotiate more favorable prices directly with drug manufacturers. Reference prices use local or international price comparisons of drugs classified in a group as therapeutically similar to determine a single or maximum price for all drugs in that group. Profit limits control how much profit a drug manufacturer may earn per product or within a specified period of time. Other factors--such as scope of coverage and national formularies, which are generally lists of preferred drugs--influence drug price negotiations. In the U.S. private health insurance market, health plans typically contract with pharmacy benefit managers (PBM) to help manage their prescription drug benefits. PBMs negotiate rebates or payments with drug manufacturers, encourage substitution of generic drugs for therapeutically similar brand drugs, and negotiate discounted prices with networks of retail and mail-order pharmacies, passing along at least some of the savings to health plans and enrollees. PBMs influence price negotiations with manufacturers through formulary development and management and through the large market share they often represent. Approaches for negotiating drug prices vary among federal programs in the United States. In part, these approaches depend on whether the programs purchase and distribute drugs directly or reimburse retail pharmacies or other providers for dispensing or delivering drugs. While the approaches used by federal programs in the United States reflect U.S. laws, markets, and health care delivery and financing, there are also elements common to some of the approaches used by other countries and by private payers. Some federal programs set ceiling prices, others establish prices by referencing prices negotiated by private payers in the commercial market, and still others rely on negotiations with manufacturers, directly or through private health plans. For example, the Departments of Veterans Affairs's and Defense's prices for a prescription drug may be the lowest of a ceiling price, other established price, or a price negotiated with the manufacturer. State Medicaid programs, joint federal-state programs that finance medical services for certain low-income adults and children, reimburse retail pharmacies for drugs dispensed to beneficiaries at set prices. The programs receive rebates from manufacturers that are meant to take advantage of the prices for drugs in the commercial market and are required to reflect discounts and rebates negotiated by private payers with manufacturers. For health benefits offered to federal employees, retirees, and dependents, rather than negotiating with manufacturers, the government contracts with participating health plans that typically use PBMs to negotiate drug prices and offer other pharmacy benefit, administrative, and clinical services.

section_title: Letter
paragraphs: I am pleased to be here today as you examine approaches for prescription  drug pricing and negotiations. In the United States and in other countries,  the rising cost of prescription drugs continues to pose significant financial  burdens on governments, private payers, and individuals responsible for  paying for drugs. This has led to a wide range of market-based and  governmental approaches to reduce drug spending. Some of these  approaches rely on negotiations between payers for prescription drugs  and drug manufacturers.
In the United States, prescription drugs are a particular focus for the  federal government as Medicare—the federal health insurance program  that serves nearly 43 million elderly and disabled individuals—begins the  second year of its voluntary outpatient prescription drug benefit. This  benefit, known as Medicare Part D, was established by the Medicare  Prescription Drug, Improvement, and Modernization Act of 2003 (MMA)  beginning January 1, 2006. Medicare beneficiaries may choose a Part D  plan from multiple plans offered by private sponsors, largely commercial  insurers, under contract with the Centers for Medicare & Medicaid  Services (CMS), the agency within the Department of Health and Human  Services (HHS) that administers Medicare. These plans differ in the drugs  they cover, the pharmacies they use, and the prices they negotiate with  drug manufacturers and pharmacies. In addition, costs to the enrollee for  the monthly premium, the annual deductible, and copayments for covered  drugs vary by plan.
While the Medicare Part D benefit is characterized by multiple competing  prescription drug plans that are overseen by CMS, MMA prohibits the  Secretary of Health and Human Services from interfering with price  negotiations between Part D plan sponsors and drug manufacturers and  pharmacies. Some Members of Congress, contending that the combined  purchasing power on behalf of all Medicare Part D beneficiaries could be  used as leverage, have proposed amending the law to provide for the  Secretary of Health and Human Services to negotiate directly with drug  manufacturers.
As Congress considers these issues for Medicare Part D, you asked that we  broadly describe the variety of approaches used to negotiate drug prices.  Specifically, my remarks today will provide an overview of the approaches  used to negotiate drug prices by governments in other countries, by  private payers in the United States, and by federal programs other than  Medicare Part D. My remarks are primarily based on our previous reports  from 2002 through 2006 on federal programs that purchase or cover  prescription drugs, which were done in accordance with generally  accepted government auditing standards, as well as other relevant  literature on approaches in the United States and other countries prepared  by congressional agencies and international and federal organizations.
In summary, a wide range of approaches is used by other countries and by  private payers and federal programs in the United States to negotiate drug  prices. The approaches governments in other countries use include the  following:    Ceiling prices restrict market negotiations by setting maximum prices  purchasers can pay for drugs. Ceiling prices allow purchasers to negotiate  lower prices directly with drug manufacturers.
Reference prices use local or international price comparisons of drugs  classified in a group as therapeutically similar to determine a single or  maximum price for all drugs in that group.
Profit limits establish controls on drug manufacturers’ profits that require  manufacturers to pay rebates or lower prices if profits exceed certain  levels.
Other key factors—such as scope of coverage and national formularies,  which are generally lists of preferred drugs—influence drug price  negotiations.
Private payers in the United States, including employer-based health plans  and private insurers, typically contract with pharmacy benefit managers  (PBM). PBMs negotiate rebates or payments with manufacturers and  prices with retail pharmacies, and they provide other related  administrative and clinical services. PBMs compete in the private market  based on their ability to negotiate reduced prices and contain costs, and  PBMs may receive compensation from health plans and from retaining  some of the savings they negotiate with pharmacies or manufacturers.  PBMs influence price negotiations with manufacturers through formulary  development and management and through the large number of health  plan enrollees they typically represent.
Approaches for negotiating drug prices vary among federal programs in  the United States. Factors contributing to this variation include the use of  formularies and whether the programs purchase and distribute drugs,  reimburse retail pharmacies or other providers for drugs dispensed and  delivered, or contract with private health plans that provide and manage  pharmacy benefits. For example, the Department of Veterans Affairs (VA)  and the Department of Defense (DOD) often purchase drugs from  suppliers, then distribute drugs to beneficiaries through internal facilities  or mail-order pharmacies. State Medicaid programs, on the other hand,  reimburse retail pharmacies for drugs dispensed to beneficiaries at set  prices. While the approaches used by federal programs in the United  States reflect the laws governing them, markets, and health care delivery  and financing, there are also elements common to some of the approaches  used by other countries and by private payers. Some federal programs set  ceiling prices, others establish prices by referencing prices negotiated by  private payers in the commercial market, and still others rely on  negotiations with manufacturers, either directly or through private health  plans. For example, VA’s and DOD’s prices for particular prescription  drugs included on their formularies may be the lowest of a ceiling price, a  price listed on a federal supply schedule (FSS), or the price negotiated  with a manufacturer. For health benefits offered to federal employees,  retirees, and their dependents, the federal government uses a different  approach, modeled after other large U.S. employers’ health benefits. Under  this approach, rather than the government negotiating with manufacturers,  the government contracts with participating health plans that typically use  PBMs to negotiate drug prices, manage formularies, and offer other  pharmacy benefit, administrative, and clinical services.
subsections: section_title: Background
paragraphs: Prescription drug spending, paid for by a mix of public and private payers,  has outpaced total health care spending in the United States and other  countries in recent years. In the United States, federal programs either  directly purchase and distribute prescription drugs or reimburse  pharmacies or other providers for drugs dispensed or delivered.
subsections: section_title: Prescription Drug Spending and Cost Containment Strategies in Other Countries and the United States
paragraphs: According to the Organisation for Economic Co-operation and  Development (OECD), drug spending in member countries (including the  United States) increased on average by about 6 percent a year from 1998  through 2003. On average, growth in drug spending outpaced the growth  in spending for total health expenditures. Among OECD member  countries, the share of public and private spending for prescription drugs  varies, but in 2004 public sources accounted for the bulk of spending in  most countries.
In the United States, rising prescription drug prices and increased  spending have been a concern to federal and state governments and to  private payers, including private insurers and employer-based health  plans. CMS reports that total national spending by all public and private  payers for prescription drugs from retail outlets increased on average by  about 11 percent a year from 1998 through 2005—faster than the average   7 percent a year increase in total U.S. health expenditures for the same  period. CMS also reports that national spending by all public and private  payers for prescription drugs from retail outlets totaled about $201 billion  in 2005. Nearly three-quarters (73 percent) of this spending came from  private funds—including private insurance and out-of-pocket payments— while the remaining share came from public sources. The public share  includes the federal government’s share of total spending for prescription  drugs from retail outlets. Federal spending for prescription drugs was  about 16 percent of the total, or $33 billion, in 2005. However, these data  precede the 2006 establishment of Medicare Part D, which increased  public and federal shares of prescription drug expenditures.
In the face of rising prescription drug spending, the governments of other  countries, U.S. private payers, and federal programs have applied both  demand- and supply-side measures to contain prescription drug spending.  Demand-side measures are aimed at wholesalers, retailers, doctors, and  patients and include such strategies as prescribing guidelines, generic  substitution policies, and fixed and tiered copayments. Supply-side  measures are aimed at limiting the cost of prescription drugs by  negotiating prices and by requiring or encouraging the use of certain drugs  through formularies established by a government, health plan, or federal  program. Formularies have long been used to control the cost and  utilization of prescription drugs. Some formularies are more restrictive  than others; open formularies provide coverage for both listed and  nonlisted drugs, and closed formularies generally provide coverage only  for drugs that are included on the list. Many other formulary approaches  fall somewhere in between, encouraging the use of listed drugs by  charging higher copayments for those not listed. Under a tiered cost- sharing approach, for example, generic and preferred drugs require lower  copayments than brand and nonpreferred drugs. Health plans that use  formularies typically have provisions that enable enrollee access to  nonformulary drugs when they are medically necessary and allow patients  to appeal coverage decisions.
In the U.S. private market, PBMs offer health plans a variety of  prescription drug management services, including negotiating rebates with  manufacturers, negotiating price discounts with retail pharmacies,  operating mail-order prescription services, managing drug formularies,  and processing claims. 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 drugs. Health plans pay  PBMs fees for these administrative and clinical services as well as for  retail and mail-order drug costs. PBMs may also retain savings from or  have other financial incentives to negotiate lower drug prices and rebates.  In 2004, an estimated 200 million people, or about 68 percent of the U.S.  population, were enrolled in private health plans that used PBMs.
section_title: Federal Programs
paragraphs: Beyond Medicare Part D, a range of federal programs, established by  statute, in the United States offer drug benefits to individuals meeting  various eligibility criteria. These programs cover a broad and varying array  of prescription brand and generic drugs. These drugs are made available  to beneficiaries through multiple approaches, ranging from direct  purchase and provision by federal programs to contracts with private  insurers and PBMs to provide drug coverage.
The VA pharmacy benefit is provided to eligible veterans and certain  others. In general, medications must be prescribed by a VA provider, filled  at a VA pharmacy or through a VA Consolidated Mail Outpatient  Pharmacy, and listed on the VA national drug formulary, which comprises  570 categories of drugs. In addition to the VA national drug formulary, VA  facilities can establish local formularies to cover drugs not on the national  formulary. VA may provide nonformulary drugs in cases of medical  necessity. In 2005, VA spent $4.2 billion on drugs and medicines.
The DOD pharmacy benefit is provided to TRICARE beneficiaries,  including active duty and retired uniformed service members. In addition  to maintaining a formulary, DOD provides options for obtaining  nonformulary drugs. Beneficiaries can get prescription drugs through  network retail pharmacies, nonnetwork retail pharmacies, DOD military  treatment facilities, and DOD’s TRICARE Mail Order Pharmacy. In 2005,  DOD spent $5.4 billion on prescription drugs.
Medicaid is the joint federal-state program that finances medical services  for certain low-income adults and children. While some benefits are  federally required, prescription drug coverage is an optional benefit that  all states have elected to offer. State Medicaid programs, though varying in  design, cover both brand and generic drugs. Drug coverage depends on the  manufacturer’s participation in the Medicaid drug rebate program, through  which manufacturers pay rebates to state Medicaid programs for covered  drugs used by Medicaid beneficiaries. Retail pharmacies distribute drugs  to Medicaid beneficiaries, then receive reimbursements from states for the  acquisition cost of the drug and a dispensing fee. In 2004, Medicaid  outpatient drug spending peaked at $31 billion—including $19 billion as  the federal share—which was calculated after adjusting for manufacturer  rebates to states under the Medicaid drug rebate program. Medicaid  spending on outpatient prescription drugs is expected to decrease with the  transition of prescription drug coverage for dual eligibles—those eligible  for both Medicaid and Medicare—to the Medicare Part D program.
The 340B drug pricing program gives more than 12,000 entities of various  types—community health centers, AIDS clinics, and disproportionate  share hospitals among them—access to discounted drug prices, called  340B ceiling prices. These entities must enroll in the program, which is  administered by the Health Resources and Services Administration. The  program requires drug manufacturers to offer covered drugs to enrolled  entities at or below 340B ceiling prices. Enrolled entities establish their  own formularies and may dispense drugs through in-house pharmacies,  dispensing physicians, or contracted retail pharmacies. Enrolled entities  spent an estimated $3.4 billion on drugs in 2003.
Medicare, the federal health insurance program that serves the nation’s  elderly and certain disabled people, in addition to the outpatient  prescription drug benefit offered in Part D, covers certain other drugs  through Part B. Drugs covered by Part B are typically administered by  physicians or other medical professionals rather than by patients  themselves. These drugs include, for example, those furnished in  conjunction with dialysis services or durable medical equipment. In 2005,  Medicare paid more than $9 billion for drugs covered under Part B.
The Federal Employees Health Benefits Program (FEHBP) is the largest  employer-sponsored health insurance program in the country. Through it,  about 8 million federal employees, retirees, and their dependents receive  prescription drug coverage through participating private health insurance  plans. Most of these plans contract with PBMs to manage their drug  benefits. The drugs covered vary by plan, but are typically part of  relatively broad formularies of drugs. In general, beneficiaries have several  options for obtaining drugs, including through retail or mail-order  pharmacies. In 2005, FEHBP prescription drug spending was an estimated  $8.3 billion.
section_title: Approaches Used by Other Countries for Negotiating Drug Prices
paragraphs: According to the OECD, member countries that offer subsidized drug  programs are grappling with how to manage increased drug spending  given limited budgets. These countries have three main approaches to  limiting the amount they pay to acquire drugs:    profit limits.
Ceiling prices. Ceiling prices restrict market negotiations by setting  maximum prices purchasers can pay for drugs. Ceiling prices allow  purchasers to negotiate lower prices directly with drug manufacturers.  One approach is for a government to set prices for drugs and prohibit sales  at greater prices. In France and Australia, for example, a government  committee sets the prices at which drugs must be purchased and  reimbursed. Alternatively, a government may set a price ceiling and allow  purchasers to negotiate more favorable prices with manufacturers  directly. In Canada, the Patented Medicines Prices Review Board sets the  maximum price a manufacturer can charge direct purchasers. It can  impose fines on any manufacturer that attempts to sell a drug at a price  greater than the established ceiling. An additional method used to control  prices is for a government to set reimbursement rates for new drugs at low  levels; because any price above the set reimbursement rate would be an  out-of-pocket expense to the consumer, the reimbursement rate effectively  becomes the market price.
Reference prices. Reference prices use local or international price  comparisons of drugs classified in the same therapeutic group to  determine a single or maximum price for all drugs in that group. The  therapeutic group of drugs can encompass old and new drugs, including  brand or generic drugs. The lowest priced drug may then establish the  maximum price for the entire therapeutic group. Germany, for example,  sets such prices based on local price comparisons of drugs classified in the  same therapeutic group.
Profit limits. Profit limits control the amount of profit a drug  manufacturer may earn on a product or within a specified period of time.  If the established threshold is exceeded, the manufacturer is required to  accept a price cut or pay rebates to the government. In the United  Kingdom, for example, there are limits on the profits that a drug  manufacturer can earn on sales to the National Health Service.
Several other key factors can influence drug price negotiations in OECD  countries. Unlike the United States, many OECD countries, such as  Australia and France, have universal health care systems that allow a  mandated, relatively more unified approach to drug pricing. While these  countries vary in their government’s respective share of drug spending,  some set national, uniform maximum prices to be paid by all purchasers,  including private payers. Many countries also establish national  formularies that define which drugs are to be covered by all purchasers.
section_title: Approaches Used by U.S. Private Payers for Negotiating Drug Prices
paragraphs: In the United States, private payers represent the largest source of  prescription drug spending. These payers, including employer-based  health plans and private health insurers, typically contract with PBMs to  help manage their prescription drug benefits. PBMs employ several cost  containment strategies for lowering drug prices for the health plans and  enrollees they represent. PBMs negotiate rebates or payments with  manufacturers and prices with networks of retail and mail-order  pharmacies, passing along at least some of the savings to health plans and  enrollees. Manufacturers and pharmacies agree to these price concessions  in exchange for both the large number of enrollees PBMs represent and  the ability of PBMs to influence enrollee choice of drugs and pharmacies.
One of the key ways PBMs influence price negotiations with  manufacturers is through formulary development and management. PBMs  may assist health plans in developing or managing a formulary that the  health plan will cover. Health plans often provide financial incentives,  such as lower enrollee cost-sharing, to encourage use of preferred drugs  listed on the formulary. Since PBMs represent a large number of  enrollees, manufacturers have a strong interest in having their drugs listed  on plan formularies. Manufacturers pay PBMs through rebates or other  payments to be included on plan formularies and to capture greater  market shares for their drugs. For example, many mail-order pharmacies  are owned by PBMs, and PBMs can obtain greater manufacturer rebates or  payments by dispensing a high volume of the manufacturer’s drug.
The extent to which pharmacy discounts and manufacturer rebates or  payments are shared with health plans and enrollees depends on  contractual arrangements with the health plan and the plan’s benefit  design. For example, PBMs negotiate contracts with health plans and their  networks of pharmacies separately, which means that health plans may  pay PBMs higher prices for drugs than the PBM negotiated between itself  and the pharmacy. Similarly, PBMs often set up contractual arrangements  with manufacturers based on manufacturers’ entire line of products rather  than per drug. Further, PBMs may retain a portion of the rebates or  payments they receive associated with individual health plans or all the  health plans they represent. PBMs may also obtain additional rebates or  payments from manufacturers for administering formularies or providing  certain services, such as encouraging the use of one therapeutically similar  drug over another.
section_title: Approaches Used by U.S. Federal Programs for Negotiating Drug Prices
paragraphs: Approaches for negotiating drug prices vary among federal programs in  the United States. While these approaches reflect the laws that govern  them, markets, and health care delivery and financing, there are also  elements common to some of the approaches used by other countries and  by private payers. Some federal programs set ceiling prices, others  establish prices by referencing prices negotiated by private payers in the  commercial market, and still others rely on negotiations with  manufacturers, either directly or through private health plans. For  example, VA’s and DOD’s prices for particular prescription drugs may be  the lowest of an FSS price, a ceiling price, or the price that each agency  can negotiate directly with the manufacturer. The FEHBP uses a different  approach, modeled after other large U.S. employers’ health benefits; health  plans participating in the FEHBP typically contract with PBMs to negotiate  drug prices and offer other pharmacy benefit, administrative, and clinical  services. Further, like many of the other OECD countries, U.S. federal  programs use a mix of strategies to contain prescription drug spending.  Many federal programs have formularies that define which drugs are to be  covered. While some federal programs’ formularies are comprehensive  and some are more restrictive than others, the programs use lists of  covered drugs as the basis for negotiations with drug manufacturers.
VA and DOD have several options available to obtain favorable prices for  drugs covered on their formularies. Both agencies pay the lowest of  several prices available for a given drug, and both can negotiate with  suppliers to receive additional discounts. In addition, both have adopted  certain practices that affect negotiations, such as the use of formularies, or  that otherwise contribute to lower costs, such as the use of mail-order  pharmacies.
VA and DOD have access to a number of prices to consider when  purchasing drugs.
FSS prices. VA’s National Acquisition Center negotiates FSS prices with  drug manufacturers. These prices are available to all federal purchasers.  FSS prices are intended to be no more than the prices manufacturers  charge their most-favored nonfederal customers under comparable terms  and conditions. Under federal law, drug manufacturers must list their  brand drugs on the FSS to receive reimbursement for drugs covered by  Medicaid. All FSS prices include a fee of 0.5 percent of the price to fund  VA’s National Acquisition Center.
Federal ceiling prices. Federal ceiling prices, also called Big Four prices,  are available to VA, DOD, the Public Health Service, and the U.S. Coast  Guard. These prices are mandated by law to be 24 percent lower than  nonfederal average manufacturer prices.
Blanket purchase agreements. Blanket purchase agreements are national  contracts with drug manufacturers that allow VA and DOD—either  separately or jointly—to negotiate prices below FSS prices. The lower  prices may depend on the volume of specific drugs being purchased by  particular facilities, such as VA or military hospitals, or on being assigned  preferred status on VA’s and DOD’s respective national formularies.
In a few cases, individual VA and DOD medical centers have obtained  lower prices through local agreements with suppliers than they could have  through the national contracts, FSS prices, or federal ceiling prices.
In addition, VA’s and DOD’s use of formularies, pharmacies, and prime  vendors can further affect drug prices. VA and DOD formularies encourage  the substitution of lower-cost drugs determined to be as effective or more  effective than higher-cost drugs. Both VA and DOD use prime vendors,  which are preferred drug distributors, to purchase drugs from  manufacturers and deliver the drugs to VA or DOD facilities. VA and DOD  receive discounts from their prime vendors that also reduce the prices that  they pay for drugs. For DOD, the discounts vary among prime vendors and  the areas they serve. As of June 2004, VA’s prime vendor discount was   5 percent, while DOD’s discounts averaged about 2.9 percent within the  United States.
subsections: section_title: Medicaid
paragraphs: Unlike VA and DOD, state Medicaid programs do not negotiate drug prices  with manufacturers, but reimburse retail pharmacies for drugs dispensed  to beneficiaries at set prices. Under the Medicaid drug rebate program,  drug manufacturers provide quarterly rebates for covered outpatient  prescription drugs purchased by state Medicaid programs. The rebates are  meant to take advantage of the prices manufacturers receive for drugs in  the commercial market and are required to reflect the results of  negotiations by private payers such as discounts and rebates.
The rebates are based on two prices per drug that manufacturers report to  CMS: best price and average manufacturer price (AMP). The  relationship between best price and AMP determines the unit rebate  amount and thus the overall size of the rebate that states receive for a  brand drug. The basic unit rebate amount is the greater of two values: the  difference between best price and AMP or 15.1 percent of AMP. If the  drug’s AMP rises faster than inflation, the manufacturer is required to  provide an additional rebate to the state Medicaid program. A state’s  rebate for a brand drug is the product of the unit rebate amount plus any  applicable additional rebate amount and the number of units of the drug  paid for by the state’s Medicaid program.
section_title: The 340B Drug Pricing Program
paragraphs: Entities eligible for the 340B drug pricing program can purchase covered  outpatient prescription drugs from manufacturers at or below statutorily  defined prices, known as 340B ceiling prices, that take advantage of  discounts resulting from the Medicaid drug rebate program. These prices  are the maximum amount eligible entities can pay for covered drugs, and  the program allows for eligible entities to negotiate more favorable prices  directly with drug manufacturers. As such, the 340B drug pricing program  offers covered entities access to a prime vendor with which they can  contract to negotiate discounts at or below the mandatory 340B ceiling  price.
State AIDS drug assistance programs (ADAP) are examples of entities  eligible for the 340B drug pricing program. ADAPs participating in the  340B program use either the 340B direct purchase option or the 340B  rebate option. Under the direct purchase option, ADAPs purchase drugs  from drug manufacturers or through a third party, such as a drug  purchasing agent, and ADAPs receive the 340B price discount up front. In  addition, ADAPs using this option can access the prime vendor program to  assist in negotiating discounts at or below the mandatory 340B ceiling  price. Under the rebate option, ADAPs typically contract with entities such  as a pharmacy network or PBM for the purchase of covered drugs and  later request a 340B rebate directly from the drug manufacturers. ADAPs  using the rebate option do not have access to the prime vendor program.
section_title: Medicare Part B
paragraphs: Like Medicaid, Medicare does not purchase drugs but rather reimburses  physicians for drugs covered under Part B. The maximum Medicare  reimbursement for covered Part B drugs is statutorily defined using the  average sales price (ASP) plus 6 percent. ASP is the average price for a  drug based on a manufacturer’s sales to all purchasers in the United  States, with certain exceptions. Under this reimbursement methodology,  Medicare takes advantage of the prices negotiated by private payers, as  ASP is required to reflect the discounts and rebates they negotiate.
The FEHBP is generally modeled after other large U.S. employers’ health  benefits, including that participating health plans typically rely on PBMs to  negotiate drug prices and offer other pharmacy benefit, administrative,  and clinical services. In a 2003 report that reviewed the use of PBMs by  three FEHBP plans representing about 55 percent of FEHBP enrollment,  we found that the PBMs used three key approaches to achieve savings for  FEHBP participating health plans:    passing on certain rebates negotiated with manufacturers to the plans;    obtaining drug price discounts from retail pharmacies and dispensing  drugs at lower costs through mail-order pharmacies; and   using intervention techniques that reduce utilization of certain drugs or  substitute other, less costly drugs.
The FEHBP plans we reviewed also had formularies that include most  therapeutic categories, and these formularies had few restrictions on  which drugs enrollees could obtain. Each plan also provided enrollees  access to nonformulary drugs, although sometimes with higher cost- sharing requirements than for the preferred formulary drugs.
The PBMs were compensated through various methods, including  retaining some portion of the negotiated savings rather than passing the  full portion to the FEHBP plans. These compensation methods also  included collecting fees from FEHBP plans for administrative and clinical  services; retaining a portion of the payments from the FEHBP plans for  mail-order drugs in excess of the prices negotiated with manufacturers to  acquire the drugs; and in some cases retaining a share of the rebates the  PBMs negotiated with drug manufacturers.
Mr. Chairman, this concludes my prepared remarks. I would be happy to  answer any questions that you or other Members of the Committee may  have.
section_title: Contacts and Acknowledgments
paragraphs: For future contacts regarding this testimony, please contact John E.  Dicken at (202) 512-7119 or at dickenj@gao.gov. Contact points for our  Offices of Congressional Relations and Public Affairs may be found on the  last page of this testimony. Martha Kelly, Assistant Director; Rashmi  Agarwal; and Timothy Walker made key contributions to this statement.
section_title: Related GAO Products
paragraphs: Medicare Part B Drugs: CMS Data Source for Setting Payments Is  Practical but Concerns Remain. GAO-06-971T. Washington, D.C.:   July 13, 2006.
Ryan White CARE Act: AIDS Drug Assistance Programs, Perinatal HIV  Transmission, and Partner Notification. GAO-06-681T. Washington, D.C.:  April 26, 2006.
Ryan White CARE Act: Improved Oversight Needed to Ensure AIDS Drug  Assistance Programs Obtain Best Prices for Drugs. GAO-06-646.  Washington, D.C.: April 26, 2006.
Medicaid: States’ Payments for Outpatient Prescription Drugs.   GAO-06-69R. Washington, D.C.: October 31, 2005.
Medicaid Drug Rebate Program: Inadequate Oversight Raises Concerns  about Rebates Paid to States. GAO-05-850T. Washington, D.C.:   June 22, 2005.
Mail Order Pharmacies: DOD’s Use of VA’s Mail Pharmacy Could  Produce Savings and Other Benefits. GAO-05-555. Washington, D.C.:   June 22, 2005.
Medicaid Drug Rebate Program: Inadequate Oversight Raises Concerns  about Rebates Paid to States. GAO-05-102. Washington, D.C.:   February 4, 2005.
Contract Management: Further Efforts Needed to Sustain VA’s Progress  in Purchasing Medical Products and Services. GAO-04-718. Washington,  D.C.: June 22, 2004.
Medicare: Observations on Program Sustainability and Strategies to  Control Spending on Any Proposed Drug Benefit. GAO-03-650T.  Washington, D.C.: April 9, 2003.
Federal Employees’ Health Benefits: Effects of Using Pharmacy Benefit  Managers on Health Plans, Enrollees, and Pharmacies. GAO-03-196.  Washington, D.C.: January 10, 2003.
VA Health Care: Expanded Eligibility Has Increased Outpatient  Pharmacy Use and Expenditures. GAO-03-161. Washington, D.C.:  November 8, 2002.
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