Mehta Analysis: Biopharma’s 10% Myth

There’s a prevailing
narrative that drug spending is a relatively minor 10% of overall healthcare
spending in the US.  Like most narratives, this isn’t completely wrong,
but it ignores a relatively big portion of spending on drugs: those drugs that
are administered in a hospital or clinic and get billed under a patient’s
medical benefit plan, rather than the drug benefit portion of their
insurance.  Taking those hospital administered drugs, and other such
direct distribution channels into account, the biopharma share of healthcare
spending jumps to an estimated 16.7% of personal healthcare spending (14.2% if
you include government and insurance overhead in total spending).

We’ll come back to
that estimate in a bit, but first it is worth discussing where the 10% number
comes from and how it became so fixed in people’s minds.  The where is
easy: CMS (Centers for Medicare & Medicaid Services) collates and reports
on national healthcare spending and has data on prescription drugs going back to
1960. It’s interesting to see that in 1960, prescription drugs were right
around 10% (9.8%) of the healthcare pie.  But from that year on they
started on a pretty steady downward trend, and were under 5% by the early 80’s,
when they started climbing again.  By 2000 they were back to 9% and have
stayed in the 9-10% range ever since.

Hospital Spending

This seeming stability
gives the impression that spending increases on pharmaceuticals have just
matched overall healthcare inflation this millennium, but if we include the
non-retail portion we can see this is not necessarily the case. 
Unfortunately, non-retail spending is not well documented.  The best
treatment of this comes from an Altarum Institute study based on unpublished
IMS data on wholesale spending from 2008-2013.  They found a remarkably
consistent relationship between retail and non-retail wholesale spending, with
non-retail channels coming in right around 28% of total drug spending over this
six-year period.

From this data they
try to extrapolate from wholesale prices, and make the assumption that markup
from wholesale in each channel is the same. They acknowledge that this may not
be realistic, and create a low estimate, where retail markup is 10% more than
non-retail, and a high estimate where it is the reverse.  However, pricing
in this area is very opaque (an issue for a future column), and these
adjustments may not go far enough. Studies we do have are suggestive that
hospital markup is much higher than in other settings, which would lead to a
significant underestimation of the non-retail share of drug spending. 

More importantly, they
use the fact that the share between the two channels was steady during the
period they looked at, and assume it will remain relatively steady going
forward.  This assumption is likely not warranted, as the period from
2008-2013 was unique in recent history as a period of essentially no growth in
total pharma spending with a CAGR of 1.9% vs. a 10.6% CAGR since 2013, a trend
that CMS predicts will continue through the decade and into the next. 

Specialty Drugs

To better understand
this we need to delve a little bit into the so-called “specialty drugs” a topic
that has been well covered, but not always well understood.  Generally
speaking, specialty drugs must have one or more of the following
characteristics; expensive, difficult to administer, require special handling,
a specialist to administer, or a biologic origin.  For purposes of this
discussion that first one, expensive, is the most important. 

The non-retail market
will likely grow faster than the already fast pace of retail growth predicted
over the next decade

Specialty drugs can be
part of either the retail or non-retail channel, but they make up a much higher
share of the non-retail market (58% vs. 33% according to IMS).  Recently,
the incredible growth in the hepatitis C market has put much of that specialty
growth firmly in the retail side of the business, but this is not likely to
repeat going forward with immuno-oncology, blood disorders, rare diseases, and
farther in the future CRISPR therapies all making a big impact under the
medical benefit, which suggests that the non-retail market will likely grow
faster than the already fast pace of retail growth predicted by CMS over the
next decade.

So What?

All of this raises the
obvious question: So what? Drug spending is more than we thought, but it is
still a small fraction of overall healthcare spending. And pharmaceuticals can
lower healthcare spending in other parts of the system. So why does this overall
narrative matter? 

The cocktail is
brewing for a volatile discourse that the biopharma managers can ignore only at
their peril

First, it matters
because biopharma is approaching physician and clinical services share of
around 20%. 

Second, a handful of
the drugs, mostly in the lesser understood 6%, account for over one-half of the
healthcare inflation.

Third, this handful of
drugs is much easier to target for any cost-containment efforts than the
countless clinicians. 

Above all, the recent
script has turned pointedly against the biopharma industry, and globally so.
Add the Trump unpredictability, and the cocktail is brewing for a volatile
discourse that the biopharma managers can ignore only at their peril. Key to
this disparity will be in looking closely at the specialty drugs and
differentiation in clinical benefit to patients, cumulative costs over their
duration of use, potential for savings to the system from co-morbidities, and
price increases over time, to assess their true benefit.

This column originally
appeared on Scrip Biopharma Intelligence, May 24th, 2017

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