PBM Pricing Methodologies The Uncertain Future of AWP

1. Addressing the Need for Change PBM Pricing MethodologiesThe Uncertain Future of AWP

2. Introductions • Hewitt’s Pricing Methodology Forum Team • Joshua Golden • Kristin Begley, PharmD • Jane Lyons • Vickie Loranca • DAT Team: Bill Hahn, Litong Sun, Young Lee

3. Forum Objectives • To discuss Hewitt’s initial recommendations for a future pharmacy benefit pricing methodology, incorporating input from all key stakeholders, • To determine the final proposed format/methodology as it pertains to future pharmacy financial RFP and contracting activity for Hewitt clients, and • To identify the potential for broader industry acceptance of the new proposed methodology.

4. Historical Background • 1960s – Average Wholesale Price (AWP) originally developed by State of CA Medicaid program to standardize pharmacy reimbursements • Typically represented ~ 20% markup from Wholesale Acquisition Cost (WAC) • 1980s – Adopted more broadly by the managed care industry • 1990s – First DataBank (owned by Hearst Corp.) evolved as industry-leading provider of AWP data • 2002 through 2004 – First Databank revises AWP for most drugs, shifting to a WAC + 25% markup from manufacturer pricing • 2004 – lawsuit brought against First DataBank over calculation methodology • 2005 – First DataBank ceases surveys, freezes AWP markup at WAC + 25% for most drugs • 2006 and Beyond – Settlement reached, First DataBank agrees to change AWP calculation methodology and to cease publication of AWP after 2 years under certain conditions

5. The Current Challenge • AWP continues to be utilized by several key players in the pharmacy benefit industry: • Contracts between plan sponsors and PBMs • Contracts between PBMs and retail pharmacies • Transition to a fixed-percentage spread between WAC and AWP may complicate contractual arrangements • Eventual phase-out of AWP necessitates a replacement benchmark metric for standardized pricing in the industry • The pharmacy benefits industry has not as of yet presented a coordinated solution

6. The Current Challenge To serve our clients in the future, Hewitt will require a stable and reliable pricing methodology for PBM contracting.

7. The Current Challenge • Hewitt seeks a standardized pricing approach for the following: • Solicitation and comparative analysis of PBM pricing proposals for clients • Implementation of financial contractual guarantees • Benchmarking/auditing of financial contractual guarantees

8. The Current Challenge • The preferred methodology should meet the following criteria: • Standardized at the national level • Updated with sufficient frequency • Widely available (either in the public domain or commercially) • Good potential for longevity • Widely accepted by the vendor community • Applicable for generic/brand drugs and retail/mail channels • Provides good coverage for all NDCs (no data “gaps”) • Not susceptible to high variability in measuring generic prices

9. Pricing Terms & Definitions • List of common pricing acronyms: • AWP – Average Wholesale Price • AAC – Actual Acquisition Cost • ABP – Alternative Benchmark Price • AMP – Average Manufacturer Price • ASP – Average Sales Price • DP – Direct Price • FUL – Federal Upper Limit • MAC – Maximum Allowable Cost • MRA – Maximum Reimbursable Amount • NWP – Net Wholesale Price • SWP – Suggested Wholesale Price • WAC – Wholesale Acquisition Cost

10. Pricing Terms & Definitions – AWP • Average Wholesale Price • Nationally-tracked pricing index that currently serves as the basis of several key relationships in the pharmacy industry • Also referred to as Blue Book AWP (BBAWP) by First DataBank • Was purported to be based on surveys of multiple wholesalers in the past, but now is calculated using a straight multiplier of WAC (for most brand drugs) • Has been called “a vestige of a drug-distribution system that disappeared in the early 1980s.” (Medical Marketing Economics) • Considerations: • Now tied directly to WAC price for many NDCs • Not reflective of actual pricing dynamics in the marketplace • May be phased out within the next couple years

11. Pricing Terms & Definitions – AAC • Actual Acquisition Cost • The true “transactional” cost of acquisition for a specific buying entity • Closest representation to the true cost of a drug, including discounts, buying incentives, rebates, etc. • Considerations: • Varies considerably by buying entity • Typically considered proprietary data, not publicly available • Not viable as a nationally standardized benchmark

12. Pricing Terms & Definitions – ABP • Alternative Benchmark Price • Published by First DataBank beginning in March 2005 as an alternative benchmark to AWP. • Based on manufacturer’s WAC (or if WAC is not available, the Direct Price) • WAC/DP + 25% for prescription drugs • ABP is not reported for any drug that does not have either a WAC or DP • Considerations • Tied directly to WAC, very similar to the new AWP calculation • Not available for all NDCs (for instance, those that lack a WAC/DP)

13. Pricing Terms & Definitions – ASP • Average Sales Price • Transactional index calculated by CMS, based on manufacturer-supplied data • Weighted average price, based on actual transactions • Intended for use with reimbursements for Medicare Part B drugs that are administered in physicians’ offices. • Considerations: • Only reported quarterly by manufacturers, so private sector application is not appropriate. • Lag time for data to be made publicly available is typically 6-12 months • Aggregated and “blended” across purchaser types (health care providers, retailers, wholesalers), making it less relevant to one particular class of trade

14. Pricing Terms & Definitions – DP • Direct (Non-Wholesaler) Price • Reported by manufacturers • Represents the price at which the manufacturer sells the drugs to non-wholesalers • Does not necessarily represent the actual acquisition price by the non-wholesaler, as discounts, rebates, and other price reductions/incentives may apply. • Considerations: • May be provided by manufacturer in addition to (or in lieu of) WAC price • Generally not available where WAC price is not provided

15. Pricing Terms & Definitions – FUL • Federal Upper Limit Price • Price list used by CMS in calculating reimbursements under the Medicaid program • Also referred to as the CMS Maximum Allowable Cost (MAC) List or the HCFA MAC List • Set independently by the federal government and by individual states • Calculated as a straight-line multiple (150%) of the published price of the lowest-cost therapy in a group of therapeutically equivalent drugs • Only assigned when multiple generic equivalents are available (2 or more) • Considerations: • Not available for all NDCs (focuses on multi-source products), so not viable as a single-benchmark solution for brands and generics • Variations by state may prevent standardization • Data collection process is inconsistent, and timeliness issues exist with submission

16. Pricing Terms & Definitions – MAC/MRA • Maximum Allowable Cost • Developed independently by PBMs, health plans, and other providers. • Also referred to as Maximum Reimbursable Amount (MRA) • Represents a unit price for a generic drug, and is applied consistently to all versions of the same generic. • Developed to deal with variations in pricing from one generic distributor to another • Considerations: • Generally used only for generic drugs • May vary widely by provider in terms of breadth (inclusion of generic NDCs) and depth (unit price) • Can be modified by providers with little or no plansponsor oversight

17. Pricing Terms & Definitions – SWP • Suggested Wholesale Price • Reported by manufacturers, it is the suggested price that a wholesaler might charge customers (i.e. retail pharmacies, hospitals, etc.) • Developed to deal with variations in pricing from one generic distributor to another • Currently published by First DataBank and other data providers • Considerations: • SWP is merely a suggested price – the actual price charged by a wholesaler is determined by that wholesaler • Not always made available for all drugs • Arbitrarily set by manufacturers using proprietary methodology, and thus not a reliable metric for standardized pricing

18. Pricing Terms & Definitions – AMP • Average Manufacturer Price • Reported by manufacturers • Average price that a manufacturer sells a drug directly to retail pharmacies. • Intended for use with Medicaid reimbursements • Considerations: • Public availability is limited, with only quarterly internet postings planned • AMP data involves a lag of months, making it inappropriate for tracking drug prices in the private sector • Faces harsh criticism by the retail pharmacy industry, with accusations that the metric underestimates actual acquisition costs (and may thus threaten profit margins for the retailers)

19. Pricing Terms & Definitions – WAC • Wholesale Acquisition Cost • Reported by manufacturers, it is the catalog or “list” price for a drug product being distributed to wholesalers • Also referred to as Net Wholesale Price (NWP) by First DataBank • Available in the private sector through data providers (FDB, MediSpan) • Does not represent the actual transactional price at the wholesaler level (these transactions may include discounts, rebates, or other pricing incentives) • Considerations: • WAC is not published for all drugs – many NDCs (particularly older generics) do not have a reported WAC price. Some estimate this to be 20% of generic NDCs. • May vary widely for a specific generic drug by generic manufacturer/distributor • Set by manufacturers, and not audited across manufacturers by any regulated oversight process

20. Pricing Terms & Definitions – Summing It All Up…

21. WAC – A Closer Look • Advantages: • While not a transactional index, it is a better representation of true acquisition cost when compared to AWP • “WAC has historically been the closest reported price to the actual transaction price for pharmaceuticals between the manufacturer and wholesalers or other large direct purchasers, given the lack of public data on actual transaction prices.”(Bank of America Equity Research Report, December 2006) • Updates occur frequently • Benchmark is readily available via multiple data providers

22. Evaluating WAC Against Our Criteria • The preferred methodology should meet the following criteria: Standardized at the national level Updated with sufficient frequency Widely available (in the public domain or commercially) Good potential for longevity Widely accepted by the vendor community Applicable for generic/brand drugs and retail/mail channels Provides good coverage for all NDCs (no data “gaps”) Not susceptible to high variability in measuring generic prices •  •  •  •  •  •  • X • X

23. WAC – NDC Coverage Issues • Percent of Claims With No NDDF WAC Available (Retail & Mail Combined)

24. WAC – NDC Coverage Issues • Percent of Claims With No NDDF WAC Available

25. WAC – Generic WAC Price Variability Issues • From “Medicaid and Medicare Drug Pricing” White Paper1: • “The relationship between list prices (AWP and WAC) is much less predictable for generic drugs than it is for brand name drugs… Even more volatile is the relationship between the list prices (AWP or WAC) and actual acquisition cost for generics.” • “Generic firms often discount their actual net price to the pharmacy to compete with other generics, but they do not always reflect these discounts in lower AWP or WAC list prices.” • “Generic prices are also relatively volatile, because the market for generic drugs is effectively a commodity market.” • 1 “Medicare and Medicaid Drug Pricing – Strategy to Determine Market Prices”, S. Schondelmeyer, ABT Associates, August 2004.

26. WAC – Addressing the Issues • Possible approaches to address WAC data issues: • Exclude NDCs with missing WAC data from pricing proposals/contracts • Use alternate pricing benchmark (AWP, DP, AMP, etc.) to fill gaps • Use generic “reference WAC” (average, median, or other calculation based on all other similar generics) to fill gaps • Use predecessor brand WAC to fill gaps • Use alternate pricing benchmark for ALL generics • Use generic reference WAC for ALL generics • Use predecessor brand WAC for ALL generics

27. WAC – Addressing the Issues • Excluding non-WAC NDCs • Easiest of the approaches to implement • Exclusion is not desirable, allows room for pricing ambiguity • Providers (mail centers, pharmacies) will have incentive to inventory/dispense non-WAC products • Providers could modify use of specific NDCs to increase non-WAC dispensing rates • Does not solve issue of generic WAC variability

28. WAC – Addressing the Issues • Using Alternative Pricing Benchmark • Fairly easy to implement • Several benchmarks available to choose from • Multiple benchmarks add complexity • Increased challenges for audit and accountability • Potential for game-play by selectively dispensing certain NDCs to increase/decrease non-WAC dispensing rates • Most relevant alternative benchmark (AWP) likely to be phased out • May not solve issue of generic WAC variability

29. WAC – Addressing the Issues • Using “Reference WAC” • Could be applied across ALL generics to calculate a single WAC for each GCN • Would use average, median, min/max, or other reference calculation • May be difficult to standardize calculation methodology across entities • Frequency of update for calculations may be a concern, especially with new-to-market generics • May not work for generics with one or two suppliers (SSGs lack comparative data to calculate Reference WAC) • Complicated calculations required, with increased challenges for audit and accountability

30. WAC – Addressing the Issues • Using “Predecessor Brand” WAC • Offers a high success rate for populating missing WAC data • Could be applied across ALL generics to calculate a single WAC for each GCN • Could easily be applied across ALL generics • Stabilizes the high variability of generic WAC pricing across similar generics • Encourages purchasing patterns based on lowest cost per unit, instead of focus on optimizing spread • Allows for use of single benchmark across delivery channels and drug types • May be challenging to standardize calculation methodology

31. Hewitt’s Recommended Methodology • Utilize Predecessor Brand WAC for ALL Generic NDCs • Identify ALL generic NDCs • Identify Formulation ID group for each NDC • Cross-reference against other NDCs in Formulation ID group to identify the best-matched brand NDC, accounting for package size • Assignbest-matched brand WAC to the generic NDC

32. Hewitt’s Recommended Methodology • Identify ALL generic NDCs using a standardized identifier process • Process must rely on data readily available from the major data providers (FDB, MediSpan) • Process must be standardized • Use of Generic Product Indicator (GPI) and/or Generic Indicator (GI) codes to properly identify generic status

33. Hewitt’s Recommended Methodology • Identify Formulation ID group for each claim • Clinical Formulation ID (GCN_SEQNO) Code in FDB • Formulation ID (GCN) Code in FDB • Groups drugs according to “generic ingredient(s), drug strength(s), and route of administration, and dosage form”

34. Hewitt’s Recommended Methodology • Cross-reference against other NDCs in Formulation ID group to identify the best-matched brand NDC • Must account for package size of claim • May involve multiple iterations or “sweeps” of the data • Link-up process must be standardized across entities

35. Hewitt’s Recommended Methodology • Assignbest-matched brand WAC to the generic NDC • Predecessor Brand WAC utilized for generic NDC, regardless of availability of generic WAC • Final methodology must address situations where no brand match can be found (i.e. where brand has been removed from the market) • Exclude from guarantee? • Use the generic’s own WAC? • Use standardized AWPformula?

36. Hewitt’s Recommended Methodology - Challenges • Accounting for Package Size in predecessor brand lookup • Dealing with brands that have no WAC price • Dealing with GCNs that have no predecessor brand • Maintaining consistency in determining brand/generic status

37. AMP – Future Outlook • Advantages of AMP • AMP is a transactional index (instead of a list price) • More accurately reflects actual market dynamics • May contribute to continual downward price pressure on drug prices • Recent changes to AMP methodology may improve the metric • More timely data (monthly submissions) • More accurate data (standardization of calculation) • More availability (public distribution) • Some questions remain on timing for implementing changes

38. AMP – Future Outlook • Industry Criticisms of AMP • AMP underestimates acquisition costs • May threaten profit margins of retailers • AMP data is inherently outdated • Retrospective data requires review of historical time periods, and is released with a “lag” • Current lag is up to 5 months • Lag to be reduced with recent methodology changes by CMS • AMP lacks transparency, and is not widely available • Issue may be resolved with CMS ruling

39. AMP – Future Outlook • Industry Criticisms of AMP • AMP inappropriately includes prompt-pay discounts • Incentives should be retained by the purchaser • Inclusion in AMP will discourage the incentives • AMP discourages generic dispensing • Margins would be higher on higher cost drugs • Could be resolved by applying higher differential or higher dispensing fee for generics • AMP will result in a large increase in dispensing fees • Is this bad?

40. AMP – Future Outlook • Industry Criticisms of AMP • “Final CMS Medicaid Reimbursement Rule Shows Reckless Disregard for Patient Welfare by Threatening Viability of Independent Community Pharmacies” (NCPA) • “CMS Assaults Neighborhood Pharmacies With New Rule Cutting Reimbursements For Generic Medicaid Drugs.” (ACPCN)