The drug industry is in denial about the seriousness of its pricing problem.
Throughout this autumn, as the issue of drug pricing erupted from a long-simmering controversy into a full-blown headache, pretty much every CEO of note in biotech and pharma had to address the subject, and their tone was largely defensive and dismissive. There were vague promises of moderation, and readings from whatever aged grimoire (or trade group slide deck) pharma execs find their near-identical pricing arguments. But there was precious little acknowledgement that the industry might actually need to change.
It probably helps their sense of disconnection that the pricing blow-up was triggered by two fairly extreme catalysts: the comically villainous Martin Shkreli -- infamous for marking up toxoplasmosis drug Daraprim by 5,000 percent -- and the Valeant fiasco, in which the specialty pharmaceutical is accused of using a specialty pharmacy to help inflate drug prices. The media circus around these stories makes it easier to dismiss them as "noise," as CEOs John Lechleiter of Eli Lilly and Kenneth Frazier of Merck recently described them on earnings calls.
But that noise has been a drag on stock prices, putting the kibosh on a boom that had taken the Nasdaq Biotech Index up 480 percent between 2009 and its July peak. The NYSE Arca Pharmaceutical Index had risen 190 percent over the same period. Since September 21 -- when Hillary Clinton tweeted, in response to Shkreli, that something must be done about drug pricing -- there's been some recovery, but the Nasdaq Biotech Index is down by more than 9 percent, and the NYSE pharma index is down 6 percent.
That's pretty noisy, but it could yet get worse. The industry still faces a long campaign season as a convenient object of scorn, along with the risk of real legislation. Instead of really engaging with these issues, pharma execs have made a lot of thinly veiled "we are not Valeant" disclaimers.
"Our business model does not involve purchasing old products already in the marketplace and taking excessive price increases," Allergan CEO Brett Saunders said on November 4th, a disclaimer echoed by many of his peer CEOs in specialty pharma. Many of them seem to do exactly that, though. Highly acquisitive drugmakers including Allergan and Endo Pharmaceuticals have raised prices more than most, and spend less on research.
Old-school, research-oriented firms are even more adamant that they are above the pricing fray and don't need to change their models. "I think the current discussion around pricing fails to account for the fact this industry is hardly homogeneous," Merck's Frazier said on October 27th. A day later, Amgen's Robert Bradway added that he didn't see anything changing for those "at the innovative biopharmaceutical end."
But price increases on older drugs are an essential profit driver across the industry. Last year, according to Credit Suisse, 80 percent of net profit growth among 20 of the largest companies came from price increases. Merck has raised prices on 38 brand name drugs this year and Pfizer on 133. Last year, driven in large part by a new generation of Hepatitis C drugs, U.S. drug prices rose 13 percent, the biggest increase in a decade and far, far ahead of inflation.
Old drugs aren't the only problem. New drugs are amazingly expensive and likely to get more so. Combinations of new classes of cancer treatments look to average more than $250,000 a year. Orphan drugs, which treat rare and often previously ignored diseases, can cost in excess of $300,000 a year. Gene therapies may cost hundreds of thousands of dollars, or more than $1 million, for one-time treatments. Companies are pouring resources into developing more such drugs, with no real thought to who will pay for them, or how, and no acknowledgement that the current pricing model can't expand infinitely.
Most executives seem to assume that nothing in the way of legislation will come of all this fuss in the end. "I think you have to separate a little bit of the rhetoric and the newspaper reports from the fact that I think there's a lot of rationality in public policy," Merck's Frazier said on the earnings call.
Translated? I talked to the folks in Washington, and they're not really going to do much of anything.
Some of that confidence is warranted. The sort of intervention that might have a real impact -- letting Medicare negotiate prices with manufacturers, or moving toward reference pricing, where insurers pay just one flat rate for drugs in a given treatment area -- is widely assumed to be unlikely as long as price-control-averse Republicans control Congress. But even GOP candidates have jumped into the pricing fray. And with polls showing a majority of the public across both parties supports action to control prices, the political threat isn't going away any time soon.
The pricing pressures go beyond politics, too. So many of the last generation of great drugs are going generic -- 88 percent of prescriptions dispensed in the U.S. are now generics -- that there's a much higher bar for new drugs to meet as doctors, hospital systems, and payers focus more on cost and value. Three companies -- Optum (owned by United Health), Express Scripts, and CVS Health -- now control more than 70 percent of the market for pharmacy benefit management. Consolidation has given them muscle to negotiate lower prices. Despite this, firms have made little effort to figure out pricing based on a medicine's value to patients, instead of what the market can bear.
The industry is, in public at least, shrugging at pressures that are going to define what it does for decades.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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