Most FEHBP plans contract with a PBM to help manage their prescription 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. 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. 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. PBMs achieved savings for FEHBP plans primarily by obtaining price discounts for drugs, obtaining rebate payments from manufacturers, and employing various intervention techniques to control drug utilization and cost. In comparison to cash-paying customer prices, PBMs we reviewed obtained significant discounts from retail pharmacies and offered even greater discounts when prescriptions were dispensed through mail-order pharmacies. In addition, PBMs passed on to plans some or all manufacturers’ rebates associated with the FEHBP plans’ contracts and used intervention techniques that reduced plan spending on drug benefits. In comparison to prices cash-paying customers without third-party coverage would pay at retail pharmacies, the PBMs we examined achieved significant discounts for drugs purchased at retail pharmacies and offered even greater discounts through their mail-order pharmacies. The average price PBMs obtained for drugs from retail pharmacies was about 18 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. (See fig. 2.) 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 percent below the average cash price for the selected generic drugs (compared to 47 percent for the FEHBP plans we reviewed). 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 also passed through to the FEHBP plans they contracted with some or all of drug manufacturer rebates associated with their FEHBP business. Over the past 4 years, we estimate that the plans we reviewed received rebate payments that effectively reduced plans’ annual spending on prescription drugs by 3 percent to 9 percent. The share of rebates PBMs pass through to plans varies and is subject to contractual agreements negotiated between PBMs and the plans. 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 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. Although PBM intervention techniques help contain plans’ cost increases by managing drug utilization and identifying opportunities to dispense less expensive drugs, their full impact on savings is not easily quantifiable. The FEHBP plans and PBMs we reviewed reported savings for individual intervention techniques ranging from less than 1 percent to 9 percent of plans’ total drug spending in 2001. 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. 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. 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 interchange. These estimates are in addition to savings associated with rebates plans earned for drugs in the formulary. 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.