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Federal Drug Purchasing Programs: What They Are and Should Plan Sponsors Care

December 7, 2020 by Garrett Brown, J.D., CEBS

Heading into the November 2020 election, one could not help but notice various news articles on efforts to control drug prices. Past articles in EH Connect have discussed state regulatory efforts to control drug prices or the pharmaceutical supply chain. This article will provide context to plan sponsors as they encounter federal proposals that primarily impact drug pricing in the context of Medicaid, the 340B Drug Pricing Program and Medicare. This context will be provided by a brief explanation of these federal programs, identify regulatory efforts and note what impact, if any, these programs have on self-funded plan sponsors.

Medicaid – Medicaid is a joint federal and state program that, together with the Children’s Health Insurance Program, provides health coverage to over 72.5 million Americans, including children, pregnant women, parents, seniors and individuals with disabilities. Under the Medicaid Drug Rebate Program (MDRP), a manufacturer who wants its drug covered under Medicaid must agree it will rebate a specified portion of the Medicaid payment for the drug to the states. The states then share these rebates with the federal government. Pricing is based on average manufacturer price (AMP) with a statutorily established rebate that creates a “best price.” Rebates under this construct are 23.1% of AMP for brand drugs and 13% of AMP for generic drugs. In addition to agreeing to a “best price,” manufacturers must also enter into agreements with other federal programs that serve vulnerable populations (i.e. 340B). Manufacturers who agree to these terms receive coverage for their FDA-approved drugs under the program.

340B Drug Pricing Program – As discussed above, the Medicaid rebate statute sets specific pricing requirements under the MDRP. As originally drafted, Medicaid legislation failed to account for some manufacturers that were discounting their products to certain facilities serving disadvantaged populations. As such, the legislation was amended to exempt such discounts to these facilities from “best price” regulations and created the 340B drug discount program. Eligible entities, generally hospitals or entities receiving certain federal grants, are known as 340B “covered entities.” The 340B “ceiling price” is equivalent to the Medicaid net price (list price less any rebates). This favorable pricing is extended to the covered entity and it may or may not be shared with the patient.

Medicare – Medicare’s drug benefits, covered by Parts B and D, pay for physician-administered outpatient medications and outpatient prescription drugs, respectively. The federal government pays for most Part B covered drugs using a payment methodology based on average sales price (ASP). ASP is the quotient of the total manufacturer’s sales of a drug to all purchasers in the United States in a calendar quarter divided by the total number of units of the drug sold by the manufacturer in that same quarter. Under Medicare Part B, providers are paid ASP plus 6%. Thus, the higher the ASP the higher the provider reimbursement. Reimbursement under a Part D plan is similar to commercial plans relative to discounts, rebates and participant cost sharing, and Part D includes a PBM that manages the drug benefit on the Part D plan’s behalf.

This article is in no way intended to be a political statement. Rather, as stated above, the purpose of this article is to provide context to a plan sponsor. Such context is gained from understanding how these programs may currently impact your plan and the likelihood of any changes to these programs impacting your plan in the future. In both cases, the scale of the programs is important to understand.

Volume is a key aspect of the prescription drug supply chain. The truth of this dogma is reflected by the size and consolidation of manufacturers, wholesalers, retail networks and PBMs. Thus, when thinking about regulatory changes, it is important to have a realistic sense of the impact of such a change. Certainly, state regulatory efforts are likely disruptive and may expose certain plan sponsors to significant costs, but as demonstrated in FIGURE 1, federal regulatory efforts and policy have the potential for a much greater disruption in the market.

Figure 1
2018 Prescription Drugs Retail Outlet Sales (Billions)
Private Health Insurance $134.30
Medicare $107.20
Medicaid $33.40
Other Programs
(CHIP, DoD, VA, Workers’ Compensation, etc.)
Out-of-Pocket Costs to Patient/Participant $47.10
Total $335.00


One can see that Medicare is a major purchaser and, with the addition of Part B spending (not included in
FIGURE 1), it represents a significant portion of the pharmaceutical drug market. Because Part D mirrors the general contracting and pricing construct of a commercial plan and Part B compensates providers based on a percentage of the list price, this market is driven by large list prices and rebates. As any successful proposal could likely create unintended consequences for government and commercial plans, various stakeholder interests are likely triggered regardless of the proposed change.

Proposals include direct federal negotiation, benchmarking pricing (foreign countries or other metrics) and eliminating and replacing rebate safe harbor to the anti-kickback statute.


While Medicaid is typically not discussed relative to commercial plans (other than related to managed Medicaid plans), public policy and political considerations surrounding any impact to Medicaid may warrant consideration. Interestingly, sources suggest that many proposals directed at Medicare may indirectly negatively impact Medicaid. As noted by The Kaiser Family Foundation, “[b]ecause a large share of Medicaid rebates for some drugs can be attributed to inflationary increases, proposals that lower the baseline price of a drug may actually increase the net cost of the drug to the Medicaid program by significantly reducing the inflationary rebate.” Thus, this is a great example of how complex this market is and how quickly various stakeholders can be impacted.

Proposals specific to Medicaid include state legislation targeting managed Medicaid pricing models and transparency.


The 340B program has likely become more visible to plan sponsors in recent years. In the face of increased 340B activity and prevalence of contracted pharmacies, plan sponsors should be aware of how these claims, or claims from pharmacies that support the 340B program, are priced and reconciled under their contracts. There has been a dramatic increase in spending and the number of contract pharmacies under this program. According to an IQVIA whitepaper, “[i]n 2019, 340B sales represented about 11% of the entire pharmaceutical market, totaling $67.4B.” 340B covered entities contract with pharmacies to expand distribution to patients, and pharmacies are compensated via a dispensing fee and/or sharing in the difference between the 340B ceiling price and reimbursement from a payor. To be fair, the treatment of these claims under a commercial contract is challenging because the 340B status is not definitively known at the time the script is filed or when the payor submits a rebate claim to the manufacturer. Many large retail pharmacy chains participate heavily in this space.

Proposals and regulatory efforts include tying Medicare reimbursement to the 340B ceiling price, limiting 340B covered entities from retaining spread between the 340B price and Medicare Part B reimbursement and heightened oversight over the 340B program and covered entity reporting.

Hopefully, the article up to this point has created a baseline understanding or a refresher so that the reader has improved context as these topics come across his or her desk; but what do changes to these programs really mean to a plan sponsor? It depends on what rules they attempt to break and their success in breaking them.

  1. Everyone Except the Consumer (and Maybe the Manufacturer) Benefits From a High List Price – While most in the non-government space have a relatively myopic view of rebates from a commercial perspective, it is important to recognize that a high drug list price is preferred by most members of the supply chain. As addressed above, a high list price increases reimbursement to providers, much of the supply chain is paid as a percentage of the list price, manufacturers use rebate dollars to drive behavior and increase market share, and even many payors, especially those that have recognized this market dynamic and contracted effectively, have come to rely and expect large rebate payments. Thus, while proposals targeted at the American public may seem logical, such proposals face significant headwinds due to the immediate impact this reduction in list price would have on various stakeholders. Moreover, any attempt to target rebates likely would result in these payments taking a different form, such as an administrative fee, and becoming less visible rather than more so.
  2. Squeezing the Health Care Balloon – As with any policy or regulatory proposal, there is a balancing of tradeoffs. Just as tradeoffs exist within the plan sponsor/PBM contracting process, such tradeoffs exist within the market. If providers, manufacturers and PBMs are squeezed by governmental regulations, it would seem likely that the commercial market and individual consumer may prove fertile ground to recoup any lost revenue. Many are already aware of the cost-shifting that occurs on the medical side and a similar dynamic may occur in the pharmacy space should certain regulatory efforts be taken. Thus, as with any proposal, there must be a very careful balancing of these interests and any wide-sweeping reform is unlikely.
  3. Payors Get What They Negotiate – It is important to remember that Medicare sets reimbursement, but it does not negotiate drug prices. Thus, any proposal that effectively does so would impact other government programs and be disruptive if it were to be enacted in any meaningful way. For commercial plans and any managed government plan, payors receive what was negotiated in a services agreement. If a poor contract was negotiated and excessive margin realized at some point in the supply chain, it likely occurred within the confines of the contract. As such, any policy or proposal regarding contracting will not impact programs in the same manner or may not have the intended effect. Finally, it is important to remember that transparency may lead to more information but it does not necessarily lead to lower prices because price is driven by volume. The ability to use this information to drive access, formulary and market share to affect volume in any meaningful way is very limited-even for very large payors.

In closing, this is an incredibly complex space. Any seemingly simple policy has multiple dimensions and considerations that ultimately fall at the feet of a patient that desperately needs his or her medication. As any meaningful change cannot be addressed without a systemic change that likely flies in the face of a multibillion-dollar market, it is important to keep apprised of updates but to view each through the lenses of perspective and context.

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