Managers Role in Pharmaceutical Industry

							The Pharmaceutical Industry



     Professor Vivian Ho
      Health Economics
          Fall 2009
                  Outline


   Competitiveness of the pharmaceutical
    industry

   Conduct

   Performance
            Benefits of Drugs


   Reduce mortality

   Reduce morbidity/improve quality of life

   Reduce cost of treating diseases
          Industry Structure


 # and size distribution of sellers
 Buyers’ side characteristics
 Barriers to entry
 Government regulation
          Top 10 U.S. Prescription Drug Sellers, 2008

          Company                         Sales $b
          Pfizer                            20.5
          GlaxoSmithKline                   18.4
          AstraZeneca                       16.3
          Johnson & Johnson                 16.0
          Merck & Co                        15.5
          Amgen                             13.4
          Hoffman-LaRoche (incl Genentech) 13.1
          Novartis                          12.4
          Lilly                             11.4
          Sanofi-Aventis                    11.0


http://www.imshealth.com
      4-Firm Concentration Ratios 2002
Industry                         4-firm CR %
Apparel                               18.4
Basic Chemicals                       18.3
Computer software                     34.1
Food                                  14.8
Footwear                              34.5
Furniture                             18..7
Automobile                            87.3
Pharmaceuticals                       33.6
     Can competition be accurate
    measured at the industry level?

 Most drugs are not substitutes to the
  patient
 The relevant product market is the
  therapeutic market
    Only a few major drugs compete in most
     therapeutic markets
    Concentration ratios at this level are higher
     than for industry as a whole
                  Concentration Ratios
              for Therapeutic Markets, 2006
          Therapeutic Market      Four-Firm Ratio
       Antidepressants                   87*
       Antihistamines                    99*
       Antihyperlipidemics               73*
       Antihypertensives                 81*
       Antivirals                        80*
       Gastrointestinal Diseases         91*
       *Includes “Generics” as a top-4 firm


Express Scripts Drug Trend Report, 2006
Firms tend to make most profits from
a few key drugs
      Top 3 Drugs as a % of Worldwide
      6 Month Prescription Sales, 2007
                          Percent of
    Company               Revenues
    Glaxo Smith Kline          29.1
    Pfizer                     40.9
    Johnson & Johnson          44.7
                          Percent of
                          Net Revenues
    Wyeth                      55.5
    Bristol-Myers Squibb       47.5
    Merck & Co.                44.3
           The Buyer Side
    Buyers of Prescription Drugs, 2007
                       Expend.
Source                ($billions) Percent
Total                    227.4    100.0%
All private              146.6      64.5
  Out-of-pocket          47.5       20.9
  Private insurance      99.1       43.6
All government           80.8       35.5
  Federal                66.5       29.2
  State                  14.3        6.3
              Prescription Drugs as a Percentage of U.S. National
Share of Health
                        Health Expenditures, 1960 - 2007
Expenditures
11%

                                                                                                       10.3% 10.1%
                                                                                               10.1%
       9.7%                                                                   9.8% 10.0% 10.0%
 9%                                                                    9.4%
               8.8%                                             8.9%



 6%                   7.3%


                             6.0%                        6.0%
                                                  5.6%
 4%                                        5.0%
                                    4.7%



 2%




 0%
       1960 1965 1970 1975 1980 1985 1990 1995 2000 2001 2002 2003 2004 2005 2006 2007


  www.cms.hhs.gov
    How 3rd parties influence drug demand

 Even if consumers exert little influence
  over drug choice, 3rd parties are
  making the market more competitive
 Formularies - list of selected drugs
  physicians may prescribe

     Used   by hospitals to limit inventories and
      costs
     Used by most HMOs and many PPOs
     Used by many state Medicaid programs
   Drug utilization review
     Used   by insurers to enforce formularies,
      identify inappropriate prescribing practices


   Government influence
     1990  Omnibus Budget Reconciliation Act -
      Federal funding provided for drug only if
      state Medicaid program receives
      manufacturer rebate agreement
   Government influence (cont.)
     1992 Veterans Health Care Act - price
      discounts for Federal Supply Schedule,
      VA, Dept. of Defense

     These   programs may restrict costs for
      government, but drug firms may be forced
      to raise nonfederal prices
“…managed care emphasizes less-expensive, preventive
types of treatment”
“The rate of growth for drugs to treat high blood
pressure and high cholesterol in certain managed-care
strongholds on the West Cost has gone off the charts”
WSJ 10/17/96
“Consumers in the $94
billion prescription drug
market are mostly
indifferent to price.
What will happen when
they all become budget
conscious?




Forbes 4/5/99
      Pharmacy Benefit Managers
          General Strengths
   Intermediaries that purchase drugs from
    manufacturers and pharmacies at a
    reduced price for health insurers

   PBMs provide drugs at lower costs
     Achieve  econ. of scale in pharmacy
      benefits by serving multiple plan sponsors
     Large market share on buyer’s side 
      stronger negotiating power w/ drug
      companies
        Pharmacy Benefit Managers
            General Strengths
   PBMs can use their patient information
    to their strategic advantage

      e.g. Medco’s 60m patients
     How drugs prescribed, used, impact on
      disease
    Can prevent inappropriate drug
      interactions, under/over medication
              Vertical Integration
   Brand name drug companies were
    purchasing PBMs

                                          Estimated
    Date    Acquirer          Target      Exp. ($m)
    Nov-93 Merck              Medco          $6,600
    May-94 SmithKline Beecham Diversified    $4,000
     Jul-94 Eli Lilly         PCS Health     $2,925
               Vertical Integration
   Good or bad idea?
     Buy    the information, not the PBM
          “Industry consultants and Medco competitors
           argue that Merck could have bought that
           information from Medco or others in the field
           without buying the company.” NYT 8/5/93


     Criticsargue that PBMs will only serve to
      lower prescription pharmaceutical prices
WSJ 2/2/98
            Vertical Integration
   Comments from Roy Vagelos, former
    Merck CEO
     “In classic terms of competition, we could see
      that the power of the buyers was growing…PBMs
      were…bringing together the person who chooses
      the drug and the person who pays for the drug.”

     “Having  salespeople visit doctors’ offices does
      not allow us to reach PBMs, HMOs, or plan
      sponsors -- the major players in the emerging
      market.”
             Vertical Integration
 Merck  bought Medco as a response to
    managed care
     Strategic   attempt to  market power. How?


 Followup on patients w/ chronic illness
  who may stop taking prescribed meds
 Position Merck drugs favorably on
  formulary
         lower patient copay, or lower cost to plan
     e.g.
     sponsor
         Vertical Integration
• In 2001, Medco accounted for $26b of
 Merck’s $46b sales

• Medco filled 537m prescriptions in 2001
• But profit margins for Medco <3%
           Vertical Integration
   Regulators worried that patients and
    employers would be hurt by this type of
    vertical integration
     Regulators required separate management of
      drug sales and PBM operations


   Merck spun off Medco in 2003
                Role of the FDA
   The Food and Drug Administration
    approves a new drug before it can be sold
    in the marketplace
     Alsodetermines whether drugs require a
      physician prescription vs. OTC sales

   The FDA requires extensive, costly testing
    before approving a drug
     What    is the economic argument for the FDA’s
      role?
              Role of the FDA
   Type 1 error: The FDA rejects the
    application for a new drug that is truly safe
    and effective

   Type 2 error: The FDA approves a drug
    that is unsafe or ineffective

   If you worked for the FDA, which error
    would you rather make?
     Why?
              Role of the FDA
   On Sept 20 2004, Merck announced it was
    recalling Vioxx, its $2.5b-a-year arthritis
    medicine

   Was shown to double the risk of heart
    attacks and strokes in long-term users

   Merck lost 27% of its total market
    capitalization in the stock market ($27b) in
    one day
               Role of the FDA
   Can we compare the benefits of allowing
    novel, risky drugs on the market to the
    costs? (Olson, 2004)

   “Novel” drugs offer therapeutic gains over
    existing remedies
     1stof a kind in a therapeutic area (e.g. Viagra)
     New additions to an existing class, which are
      safer or more effective (e.g. Celebrex)
               Role of the FDA
   Adverse drug reactions (ADRs)
     Severe  reactions to drugs that are fatal, life-
      threatening, permanently disabling or require
      hospitalization
     Most ADRs filed by physicians and other
      health professionals, reported to drug’s
      manufacturer or the FDA
     Data is collected in the FDA’s spontaneous
      reports system
              Role of the FDA
   The stock of novel drugs introduced 1990-
    1995 was estimated to result in 1.7m life
    years saved
     (Predicted deaths avoided per drug) x
      (estimated life years gained per drug) x (#
      novel drugs)
   137,000 life years lost due to ADR deaths
    during this time period
     (Predicted  deaths due to ADR per drug) x (life
      years lost per drug) x (# novel drugs)
              Role of the FDA
   Losses due to ADRs may be
    underestimated
     Only ADR deaths in 1st 2 years after FDA
      approval were considered
     ADRs may be underreported
     Many ADRs do not cause death, but result in
      hospitalization or serious disability

   Is the FDA being too lax or too lenient in
    approving new drugs?
             Barriers to entry
   Government patents

   Brand loyalty advantage

   Control over a key input
           Government Patents
   Innovating firm gains the right to be sole
    producer of a drug for legal maximum of
    20 years
     Preserves  incentives for firms to undertake
      risky and costly research and development
      (R&D) that is socially valuable

     Rationale: Monopoly restriction of output
      better than having no output at all
Monopoly power of patents is not
always strong
   Patents granted for chemical
    composition, not therapeutic novelty
             Crestor, and Zocor all compete in
     Lipitor,
      the cholesterol-lowering drug market


   Significant part of patent life may be
    spent trying to get FDA approval
     “effective”   patent life = 8 years
Monopoly power of patents is not
always strong
   1984 Waxman-Hatch Act - benefits for
    both brand-name and generic
    companies
     Effectivelife of new drug patent can be
      extended up to 5 years if FDA delayed
      market introduction
     Fast approval process for generics:
      eliminated proof of safety & effectiveness