A recent investigation by the Berkeley Research Group found that pharmaceutical manufacturers only realized 39 percent of initial gross drug expenditures, meaning that 61 percent of profits are going somewhere else.
Courtesy of stevecoleimages/E+/Getty Images


Published 10/1/2017
Judi Buckalew, BSN, MPH, CAE

Pharmacy Benefit Managers Play Significant Role in Drug Pricing

Contrary to popular belief, not just pharmaceutical manufacturers profit
Congress, state legislatures, and the White House are united in a quest to reduce prices for prescription drugs. As attention focuses on pricing transparency for drugs, the role that pharmacy benefit managers (PBMs) play in the pricing process is also under scrutiny.

The complex nature of the prescription drug supply chain can be confusing, and the public may believe that drug companies are the primary cause of high drug prices. But a recent investigation by the Berkeley Research Group found that pharmaceutical manufacturers only realized 39 percent of initial gross drug expenditures (defined as “the sum of payments for prescription drugs made by patients and their health plans at the point of sale prior to any rebate, discount, or fee provided by manufacturers”), meaning that 61 percent of profits are going somewhere else.

Multiple entities are involved in the pharmaceutical supply chain. These entities are responsible for both the cost of drugs and the actual supply. Although this constantly evolving system varies from drug to drug, the typical prescription drug supply chain includes the following:

  • drug manufacturers
  • wholesale distributors
  • retail, mail order, and specialty pharmacies
  • patients

PBMs work as middlemen in this market, negotiating drug prices with pharmaceutical manufacturing companies, employer-sponsored insurance plans, individual insurance plans, healthcare marketplace plans, and the Medicare program.

History of PBMs
PBMs were created in the 1960s to serve a need. As Americans were taking more prescription drugs, processing claims for these drugs began overwhelming insurance companies. The first PBM, Pharmaceutical Card System, Inc., originated in 1968 with the invention of the plastic benefit card. By the 1970s, PBMs were serving as fiscal intermediaries adjudicating prescription drug claims.

As middlemen between drug manufacturers and insurance companies, PBMs promised they’d negotiate with drug manufacturers to drive prices down. They told insurance companies they’d make processing prescription claims cheaper and easier. They invented mail-order drug delivery. They proposed incentives to drug companies to reduce prices and offered rebates in exchange for inclusion on insurance company drug formularies—lists of drugs that would be discounted for large purchasers such as the federal government or corporations.

Passage of the Medicare Modernization Act in 2003 provided a significant boost to the PBM industry. As Medicare expanded to pay for prescription drugs through its Part D program, PBMs were given a role in implementing this new federal drug program. PBMs would identify eligible patients, reduce the administrative burden on the benefit provider, and establish drug prices with the manufacturers by negotiating upfront drug discounts or rebates following drug sales.

In 2007, CVS, the nation’s second largest drugstore chain, acquired Caremark Rx, a leading PBM. With this acquisition, the function of PBMs changed from simply processing prescription transactions to managing pharmacy benefits for health plans. PBMs created and demonstrated the power of a formulary. At its most basic state, a formulary is a list of drugs, usually a list of those medicines covered by an insurance plan. PBMs created lists of preferred drugs and insisted on discounts from the pharmaceutical manufacturer if its product was on the formulary. Unless a drug was included on the formulary, insurers would not pay for it and physicians could not prescribe it. Managing the formulary gave PBMs tremendous leverage in negotiating drug prices for large programs such as Medicare and Tricare.

Calls for transparency
Initially, many different PBMs were operating, but consolidation has left just three companies (CVS/Caremark, OptumRx, and Express Scripts) controlling 85 percent of the market. This near-monopoly gives these companies leverage to extract big discounts from drug manufacturers, which they do.

But, according to a Forbes magazine report published on May 26, 2017, PBMs are increasingly keeping the discounts they negotiate for themselves rather than passing them along to the customer. How PBMs operate is difficult to discern. As PBMs increase their control over drug prices and drug supplies, Congress, state lawmakers, and employers are now demanding more transparency from the PBM industry.

PBMs respond by arguing that a lack of transparency into their operations is what makes them successful in negotiating with drug companies. PBMs assert that these interactions must remain secret if they are to secure lower prices.

But policymakers are beginning to believe that lack of PBM transparency is actually driving drug prices up.

Several Congressional hearings have been held focused on PBM business practices. Among the bills introduced in Congress to regulate PBMs is the “Improving Transparency and Accuracy in Medicare Part D Spending Act,” which was introduced in the House of Representatives on Feb. 14, 2017. If enacted, the measure would end direct remuneration fees—retroactive fees that are implemented by PBMs to specialty and retail pharmacies to receive a cut of the revenue generated from prescription drug sales—paid by pharmacies to PBMs.

PBMs are also being sued by some customers, especially specialty and independent pharmacies, which claim they are being driven out of business by PBM’s anticompetitive business practices. Pharmacists claim that because PBMs have such a huge market share, they must do business with them. The PBM contracts come with constraints, including prohibiting the pharmacy from disclosing how much it paid for the prescription it fills, how much the PBM pays the pharmacy, and how much profit the PBM keeps.

Finally, large employers are backing away from PBMs. Last year, 20 corporations—including American Express, Macy’s, Coca-Cola, IBM, Caterpillar, Shell Oil, and Verizon—formed the Health Transformation Alliance. Their goal is to make prescriptions more affordable for their employees by rewriting PBM contracts to eliminate the drug price mark-ups. The PBMs will receive administrative fees only.

Patients feel the pinch
How do PBM business practices affect patients? Drug copayment fees to insurers mean that patients are, in effect, paying the PBM’s fee. The higher the price of the drug, the higher the PBM’s fee at the pharmacy. The more patients on Medicare pay for prescription drugs, the faster they enter the “donut hole” and become responsible for paying out-of-pocket for drugs.

Doctors and patients wait for medications that don’t arrive if one small detail is missing in the documentation to obtain the drug. Patients have experienced delays of weeks and even months in getting drugs, especially the expensive treatments provided through specialty pharmacies, due to PBM business practices. These delays can cause stress and aggravation, as well as defer treatment, resulting in a worsening of the patient’s condition.

Agreements between insurance carriers and PBMs grant the PBMs full authority to determine where patients may or may not purchase their medications, regardless of the detrimental effect it has on patient health and wellbeing. The New York Times reported earlier this year that Express Scripts barred customers from purchasing drugs from one specialty pharmacy and directed them to another that had an Express Scripts contract.

The business of PBMs now extends beyond managing formularies and buying drugs. Many have established their own specialty mail-order pharmacies to manage drugs that are hard to distribute. PBMs have also set up patient-assistance programs run by drug manufacturers to help patients avoid paying insurance copayments and to help patients buy high-cost drugs.

Patients taking expensive drug treatments, such as chemotherapy, are experiencing delays in obtaining their drugs as PBMs refuse to pay for their medications until the patient switches to the PBM-owned pharmacy provider.

As state and federal lawmakers consider reforming the pharmaceutical supply chain, they are involving all stakeholders—including patients, physicians, pharmacies, and manufacturers. PBMs have an important role to play, but their profits will increasingly be based on providing value-added services. PBM reform is important, but does not entirely address the affordability problems and drug pricing challenges the healthcare sector faces.

The American Association of Orthopaedic Surgeons will continue to work with both federal and state lawmakers as they seek to address the rising cost of pharmaceuticals and other challenges facing physicians and patients. For more information, visit www.aaos.org/dc.

Judi Buckalew, BSN, MPH, CAE, is senior manager, regulatory and government relations, in the AAOS Office of Government Relations. She can be reached at buckalew@aaos.org.


  1. Toich L: How does PBM involvement in the supply chain impact drug costs? The American Journal of Pharmacy Benefits March 9, 2017. www.ajpb.com/news/how-does-pbm-involvement-in-the-supply-chain-impact-drug-costs.
  2. Wapner J: Understanding the hidden villain of big pharma: Pharmacy benefit managers. Newsweek Tech & Science March 17, 2017. www.newsweek.com/big-pharma-villain-pbm-569980
  3. Roy A: Middlemen are not passing on all drug discounts intended for patients. Forbes May 26, 2017. www.forbes.com/sites/realspin/2017/05/26/middlemen-are-not-passing-on-all-drug-discounts-intended-for-patients/#12dccc8516ca.
  4. Toich L: Independent specialty pharmacies rebel against PBMs. American Journal of Pharmacy Benefits January 12, 2017. www.ajpb.com/news/independent-specialty-pharmacies-rebel-against-pbms.