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Business and Markets

Drug Costs, Real and Fake

Here’s an interesting look at the price of a single orphan medication: the rattlesnake antivenom CroFab, which has already been held up as an example of “everything that’s wrong with American health care”. Rattlesnake bites are not very common, so this is a very small orphan indication. The academic developers of the antivenom have gone back and taken a look at all the costs involved per dose of such a product:

Cost of antivenom was separated into phases of equine plasma production, manufacturing of bulk principle, lyophilization/fill/finish, clinical testing, wholesale, clinical use, patient billing, and insurance discount. The model assumed a hypothetical arachnid antivenom in a 10-year product development cycle, with cost of manufacturing distributed across sales of 500,000 vials per year in Latin America, and added costs of US clinical trials and infrastructure applied only among 2000 vials per year sold in the United States.

The final charge for such a spider antivenom would be expected to be about $14,000 per vial. Breaking that down, $1500 of that would be profit to the company selling it, and $1000 would be net profit to the hospital dosing it. $1000 is the cost of all the regulatory, marketing, and legal overhead. Clinical trials account for about $300 per vial. FDA fees account for about $300 per vial, and the wholesaler makes $250 along the way. As anyone in the drug business might expect, costs of manufacturing, etc. are an even lower part of the total: manufacturing costs about $9/vial, R&D in the antivenom field accounts for only about $1/vial, and the actual cost of the spider venom needed to make the stuff in horses is about two cents.

You’ll notice that we’re nowhere near $14,000 dollars yet. That’s because over ten thousand dollars of the sticker price come under “Hospital charges later discounted for contracted payers”. That is, not real costs, just a sort of MSRP figure. As the article concludes:

. . .this analysis demonstrates that well more than half of the astonishing hospital charges reported in the lay media are not true costs at all, but are instead attributable to the idiosyncrasies of the US healthcare finance system. These “discounted” rates help to focus public attention on an important issue, but they distract debate away from the actual costs underlying hospital charges. Last, and most important, in this analysis the lion’s share of expected payment on behalf of insured patients was attributable to analysts, attorneys, consultants, and business activities that set the US bureaucracy apart from its neighbors . . .

The authors go on to blame “for-profit” drug development, but I note that the hospitals, attorneys, and consultants that they mention aren’t the ones developing the drug. That Washington Post link above, on the actual rattlesnake treatment, reached similar conclusions:

But the other reason hospitals charge so much is the byzantine negotiating process that happens between hospitals and insurance companies to determine the final payout amount. In the case of the $143,000 snakebite in 2012, for instance, Scripps Hospital in San Diego explained that “it is important to understand that these charges are not reflective of what Scripps will be paid. At this time, the patient’s insurance company has not yet paid the bill, and Scripps is in negotiations with the company for the final amount.”

In many cases, a hospital bill isn’t actually a bill, but essentially an instrument in a complex negotiation between insurers and caregivers, with bewildered patients stuck in the middle. It’s difficult to know which charges are real and which ones aren’t, and which bills to pay and which ones to ignore. . .

(That article goes on, though, to mention the study claiming that medical debt is a big factor in many bankruptcies, but people should realize that this is almost certainly wrong). What’s accurate, though, is that these “legal fiction” bills and prices aren’t doing most of us any favors. They make drugs look far more expensive than they really are, which you’d think that the pharma industry might be a bit concerned about, and confuse almost everyone. I strongly suspect that if you asked a thousand people what percentage of US health care expenditures was spent on actual pharmaceuticals, that everyone would guess far higher than the real figure. It’s about ten per cent, last I saw. But it’s certainly a politically attractive ten per cent, isn’t it?

26 comments on “Drug Costs, Real and Fake”

  1. anonny says:

    This just shows how non-transparent and misleading drug pricing is in the US, and why (if you want a clear and honest picture of actual drug prices paid) you need to divide total net drug sales of pharma companies (as audited) by total number of prescriptions, however that kind of info is only available across the industry as a whole…

  2. Drug Developer says:

    This all rings true, although the $300/vial for clinical trials seems awfully light. The important point about the “sticker price” of health care still stands.

  3. Isidore says:

    So, if I understand this corretcly, it is as if I went to The Toyota dealer to buy a Camry, with no sticker price visible to me, made a down payment of $2,000 and left with the car and later I got a bill from the dealer showing that the car cost $100,000 but my bank had negotiated my loan at $22,000.

    1. David Young says:

      Yep… that would be about right.

    2. Fred the Fourth says:

      Isadore: That is a fine analogy, as I know from personal experience.
      I once switched insurance cover (not voluntarily, of course) while a set of services were in progress. Since I didn’t want to accidentally stiff the hospital, I asked their business office to bill me directly and then planned to turn around and deal with my own insurance. Of course, the insurance folks were shocked (SHOCKED, I tell you!) at the large amount I had paid and initially refused to cover more than about 20%. Eventually, with a combination of skill and guile, I managed to start a 3-way negotiation and slipped out the door, leaving the hospital and insurer talking without me. I imagine they settled for pennies against the amount on paper.
      That’s the last time I ever tried to do any favors for anyone on the business side of anything medical.
      Issues like this are why one should give little credence to anyone’s statements about US health care costs – To update the old saw, There’s lies, damn, lies, statistics, and healthcare accounting.

    3. John Thacker says:

      Yes, but also that the dealer informed you that you had free maintenance for the first six years of the car (and of course the cost of the labor and service was wrapped up on that MSRP.)

      Hospitals cover a decent amount of their overhead by putting it into pharmaceuticals, knowing that the drug companies will be blamed. Of course they have to do their overhead somewhere, just like other companies. (The gross profit margin on lots of manufacturing outside the drug industry is very high, because something has to pay for all the cost centers in the company, including R&D and management.) Applies to non-profit hospitals too.

  4. Prairie Boy says:

    Wow, and I thought airline seat pricing was obtuse.

  5. SteveM says:

    Re: “That article goes on, though, to mention the study claiming that medical debt is a big factor in many bankruptcies, but people should realize that this is almost certainly wrong.”

    Maybe not. But the increasingly huge first dollar costs for health care induces people to avoid seeking medical treatment altogether.

    Obamacare is saturated with policies having $5,000 to $7,000 dollar deductibles. A low wage person with a bum knee is looking at $250 for the ortho consult, $400 for the x-rays and another $1,200 for the MRI. So he’d be out $1,850 just for the diagnostics. So he elects to suffer.

    In that context, drug costs are moot when they are never prescribed to begin with because the sick/injured person can’t afford treatment at all. But lucky them, they’ll avoid medical bankruptcy.

    1. Fred the Fourth says:

      I hesitate to get non-emergency medical care for exactly one reason: I hate dealing with insurers and med clinic business offices. Adding the IRS and CoveredCA to the blend certainly did not improve things for me, financially or operationally.

  6. A couple points:

    – The whole list vs. actual price for hospitals is a hold over from the past. Payers used to pay hospitals for “usual and customary” costs, that is, they just paid the bill. Insurance companies got wise and started demanding discounts, so hospital started to increase their list prices to compensate. “Oh you’ll only pay 80% of my list price, well next year the list price goes up 20%”. After a couple decades we get where we are now where hospital list prices are ridiculously inflated and insurance companies typically pay 20-30%.

    – The other comment is around the “drugs only make up 10% of healthcare costs”. This number only reflect retail costs and excludes physician and hospital administered drugs. Since a lot of oncology drugs are physician-infused, that number leaves out a lot of drugs. I’ve heard the number is close to 20% all in.

    1. Reid says:

      I didn’t see this before I posted. You’re absolutely right about the retail drugs vs. hospital/physician administered drugs, but I haven’t seen anything to suggest that it would bring the total up anywhere close to 20% of total health care spending, at least not yet. I have seen some suggestion that we might get there by the beginning of the next decade, but even then those estimates seem like outliers. Do you happen to have a source for that number? It’s a topic I’m currently looking into and haven’t found a whole lot of discussion on so far, so would be great to have additional input.

  7. Feel the Bern says:

    The U.S. healthcare system is broken and the status quo isn’t going to fix it.

  8. Polynices says:

    I’ve long wondered if outlawing price discounts in both medical care and pharmaceutical sales might be a good idea. Companies can charge anything they want, but all comers have to pay the exact same amount. If you cut the price for some giant insurer that pressures you, then *everyone* pays the lower price. It’s ludicrous that the uninsured should pay the highest prices for everything and unfortunate that opaque negotiations between businesses so distort what little market there is for health care.

    I also think doctor’s offices and hospitals should be required to prominently display price lists for everything and not be able to collect on any bill if the eventual charge wasn’t fully displayed to the patient. It’s how veterinary medicine works and that market is actually efficient and not broken.

    (hope this doesn’t double post, got a weird error message first time I tried)

    1. SteveM says:

      Right. And parenthetically, hospitals may know that they won’t get fully paid by the poor uninsured schlubs that stumble in sick and get charged the “sticker price” for services. But if hospitals even recover half by having rapacious debt collectors squeeze the schlubs for every last penny, that may still be more than what insurance companies pay given the negotiated discounts.

      1. eyesoars says:

        I believe it’s even worse than that (others, please correct if wrong).

        The hospitals are partially reimbursed for the care they provide indigents by the government (mostly federal, I think, with some state help). But they still go after the indigents, or more usually, sell the debt off to collectors who gougeXXXXXcollect what they can.

        The result is that many won’t get medical help until they’re in crisis, even for such things as delivering babies, &c., because they fell (probably correctly) they’ll be dunned and doomed forever if they do.

        There was a scandal here (MN) a few years ago, when it was found that hospitals had hired firms for cost control, and firms’ employees were badgering would-be patients, demanding proof-of-ability-to-pay, shaming them into leaving the hospital.

        I’m sure it still goes on… and on…

        1. Chris L says:

          So true! In much of the country there are no longer “charity” hospitals as once existed (typically the state-funded medical school hospitals). In my region, a former charity hospital (LSU Medical Center) became a for-profit entity and now will *provide* services to the poor but will still bill them and ruin their credit for the next decade. If someone were to be in need of such services, then completed a degree program for a well-paying career, that formerly poor person would still be (essentially) poor since they’d owe a debt at retail billing for the hospital services.

          This is a horribly unfair practice. Before I had insurance (being self-employed, it was far too expensive to buy since I couldn’t join in any group plan – somewhere north of $1000/month for deductibles over $2000), one medication I needed was $700/month. With insurance, the insurer pays a negotiated rate of a little over $100 and I pay a smaller copay. The sad thing is that medication is a long time generic and shouldn’t cost anywhere near that. According to my doctor, only a handful of companies bother making it (there is a limited market so the brand name and maybe three generic manufacturers release it each year) so they have the ability to price fix without bothering to meet and collude. The market itself allows the price to be “fixed” at the higher amount because the majority of people who take it are insured. The handful of folks like me (before I had insurance) simply did without the medication.

          Drug pricing shouldn’t be a secret black box configuration, with different prices for each insurer. I understand that insurers should be rewarded for volume with discounts, but there’s no reason why the discounts couldn’t be published. Efforts to mandate price lists at a state level for even small lists of the most commonly-prescribed medications (mine wouldn’t be on such a list anyway) have been fought and beaten in most state legislatures. At one point a few years ago, several states had made it illegal to gather the so-called “cash” prices of meds and publish them to websites. How that would be something against the public interest is beyond me, and I’m sure if it ever were to work its way through the court system that would be an easy first amendment win, but it hasn’t so far.

          Until people who are insured (especially those in good health) care to demand transparency, we will not have it. For the average moderately healthy (or unwilling to visit the doctor) person, what an uninsured person pays for meds does not matter at all. Once you’ve seen your medicine go from $300/month to $1200/month at a pharmacy (and then spent hours calling every pharmacy to find the one place under $800), you never think that way again.

    2. In New York state, pharmacies are required to post price lists for the most common prescription drugs. I’d like to see this nationwide, though I can also imagine a lot of pushback. A single price rule like we have on hospital costs in Maryland would make things a lot easier to understand, that’s certain.


  9. Reid says:

    “I strongly suspect that if you asked a thousand people what percentage of US health care expenditures was spent on actual pharmaceuticals, that everyone would guess far higher than the real figure. It’s about ten per cent, last I saw. But it’s certainly a politically attractive ten per cent, isn’t it?”

    Not to take away from your larger point, but the percent share for pharmaceuticals is a bit higher than 10%. The 10% comes from CMS breakdown on retail pharma sales. But a bunch of drug spending is bundled in the medical benefit portion of insurance plans and medicare. It’s hard to get an official number for what that adds, but looking at several sources my best estimate is it takes total spending up from about 9.3% to the 12-13% range as of 2013 (most recent numbers from CMS). That doesn’t seem like a big jump, but it’s also important to realize that the drugs that are typically covered by the medical benefit are things like hospital administered cancer drugs and other expensive “specialty pharma” drugs that are also growing at a faster rate than spending on retail prescription drugs. CMS projections show total drug spending growing slowly from 9.3% up to around 10.2% total share by 2018. But if you add in drug spending that is accounted for under the medical benefit you get projections quite a bit higher than that. By 2018 it should be more like 16-17% of total health care spend in the U.S. That’s still considerably less than the share taken by hospitals, but getting pretty close to physician services at ~19% (and that’s before you take out the portion of physician services that is actually spending on pharmaceuticals).

  10. Andy II says:

    This reminds me of a cost breakdown of Nike’s pair of shoes.

    “…it costs a sneaker company about $28.50 to manufacture a pair of shoes in Asia and have it shipped to the United States. That includes $25 for labor and factory costs and $1 in shipping. Sneaker companies spend $15 on various overhead costs and $2 on taxes and net a $4.50 profit (9 percent) on each pair of shoes, which are then sold to wholesalers, such as sporting goods stores, for $50. Retailers mark up shoes 100 percent to $100 to recoup various costs and generate a profit.”
    If you change “retailers” with “hospitals,” the story would be complete.

    Anyone please explain where “patient assist” or “pharma discount” program would fit in the drug pricing-pharma profiting scheme?

  11. Steven Curry says:

    Hi Derrick,
    The quotation concerning “arachids” and the entire cost analysis was not for CroFab used to treat snakebites, but was for scorpion antivenom used to treat scorpion envenomations. Centruroides (scorpion) antivenom is an equine product. CroFab is an ovine product.
    Best regards,

    1. Steven Curry says:

      Ooops. Apologies. Derek, not Derrick, and I know better. I have a cousin Derrick.

      1. Fred the Fourth says:

        That’s OK, Stephen. Your stellar career with the Warriors is so impressive that I’m sure we’re all willing to cut you some slack here.

  12. Jay Fuller says:

    Not to mention that the hospital markup is used to finagle all the in-network/out-of-network macroeconomic shenanigans. For instance health insurance company A (HCA) is able to capture a substantial part of the market in a particular region, to the detriment of health insurance company B (HCB). HCA will use its market dominance to squeeze a hospital or hospitals to get a better discount and in some cases, negotiate a deal where HCB gets no discount. This puts HCB at a price disadvantage, allowing HCA to garner even more market share, pushing HCB out of the area and then allowing HCA to raise their prices and profit as a quasi-monopoly. The same deals are made with physicians and their networks.

    As for the drug companies, they can play the game too. If you’ve heard those pharma ad pitches where they say if you are having trouble paying for their drug maybe they can help. What is happening, let’s say, is that the monthly drug you need is $20 generic with $5 co-pay, while their brand name drug is $300 and your co-pay would be $75, so what they will offer you a $70 monthly coupon to get your co-pay back to $5, while the insurance company is on the hook for $225 instead of the $15 generic. Somebody has to pay for all those catered doctor office luncheons and ex-cheerleaders.

  13. anony says:

    The first step has to be pricing transparency, with set, available prices determined for services being a natural follow-on. There should be no need for negotiating, especially when the result is artificially inflated prices to a ridiculous degree. The ones benefiting the most from this process are the insurance companies and financial folk. The patients are the ones suffering for it, financially and mentally.

    Surely there would be bipartisan support for legislation that requires that the items on the bill are made understandable for the patient and that any negotiating has to occur before billing and not after.

  14. Kaleberg says:

    For an interesting article on competition and regulation in this area:

    Basically, your best bet is to head down to Mexico where they have better tech and lower prices. We have the best health care system in the world up here.

  15. Peter Ellis says:

    Fair enough, so >$10k out of the $14k is essentially fictional. The real cost is < $4k, and the larger numbers are just a negotiating tool. So, take the fictional stuff out of the equation. Going by the figures in Derek's article, we have the following:

    * After accounting for all regulatory and R&D costs, the company pays $1610 per vial and sells it for $3110, making $1500 profit. Their profit margin is 48%.
    * Wholesaler pays $3110 per vial and sells it for $3360, making $250 profit. Their profit margin is 7.4% (or less if there are several links in the supply chain).
    * Hospital pays $3360 and sells it for $4360 after the "illusory" figures are resolved, making $1000 profit. Their profit margin is 23%.

    How many other industries make ~50% of their total revenues as profit? Not seeing any in this list (link below). I do note however that "Drugs" does appear in that list with a final margin of ~17%, so it looks as though this particular drug is indeed being sold for a much higher profit than most.

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