The Complex Math Behind Spiraling Prescription Drug Prices

The soaring cost of prescription drugs has generated outrage among politicians and patients. Some cancer drugs carry price tags of more than $100,000 a year, and health plans are increasingly asking people to shoulder a greater share of the cost.

In surveys, Americans regularly cite drug prices as a top health care concern, which may be why presidential candidates keep bringing them up. Congress has jumped into the debate, holding a series of hearings on the issue.

But there are no simple answers.

What is the controversy over drug pricing all about?

Much of the attention has focused on a handful of pharmaceutical companies that have snapped up old drugs and then aggressively raised prices, sometimes by more than 1,000 percent. Last fall, Martin Shkreli, the founder and former chief executive of Turing Pharmaceuticals, ignited a fierce response on social media after it was reported that his company had raised the price of a little-known drug to treat toxoplasmosis to $750 a tablet from $13.50. And Valeant Pharmaceuticals International has received similar attention for raising the price of many of its drugs, including two heart medications, Nitropress and Isuprel.

Critics say these companies and others like them have unfairly favored profit over patients’ needs. Congress has held several hearings on these tactics, and Valeant and Turing are under investigation by federal authorities. Presidential candidates have singled out these companies on the campaign trail.

But even as the drug industry has sought to distance itself from companies it describes as bad actors, insurers, hospitals and other major health care players have raised alarms about the rising cost of new drugs, including those that treat cancer, hepatitis C and rare diseases. Some of those drugs can cost $300,000 a year.

Higher drug prices threaten to raise insurance premiums and patients’ out-of-pocket expenses and can cost taxpayers more because of Medicaid and other government programs. But drug companies say the prices reflect the enormous investment of time and resources that go into bringing a drug to market and argue that many times, their drugs can prevent more expensive medical interventions like surgery and hospitalization.

So how much do drugs cost?

The answer to this is more complicated than one might expect.

Manufacturers set list prices for their brand-name drugs; those are the eye-popping figures that have sent Congress and presidential candidates into fits of outrage.

But almost no one actually pays those prices. Insurers and pharmacy-benefit managers, who manage drug plans for insurers, negotiate discounts and rebates, which lowers the effective cost of a drug. And they have been getting better at doing this.

That is why, although list prices for drugs rose about 12 percent in 2015, net prices — what insurers and employers actually paid — grew only about 2.8 percent, the lowest rate in years, according to IMS Health, a research firm.

Insurers and others say that lower figure obscures the larger price increases in specific areas like cancer treatment, where less competition exists and it is more difficult to pit manufacturers against one another. And drug makers do profit from raising their list prices because rebates and discounts are often based on a percentage of those prices.

“That’s where the real angst in the marketplace is,” said Steve Miller, chief medical officer of Express Scripts.

Who takes a piece of a drug’s price?

A drug’s path from the manufacturer to the patient is circuitous, and many middlemen are paid along the way.

The pharmaceutical company sends the drug to a distributor, which takes a fee and then sells the drug to a pharmacy, which pockets its own fee before dispensing the medication to a patient. If a patient is insured, a pharmacy-benefit manager is paid for processing the transaction between the pharmacy and the insurer or employer. The pharmacy-benefit manager also handles the rebates that flow from the drug maker to the insurer or the employer.

Part of what makes the issue so frustrating is that visiting a pharmacy to pick up a prescription seems simple. “If you go into a retail pharmacy, it looks like a retail transaction,” said Adam J. Fein, president of Pembroke Consulting, a management advisory and business research company. But it is not like buying a bottle of orange juice; most patients do not choose which drug they are picking up, nor are they paying for most of it, he said. “It’s part of this crazy system.”

What does this mean for patients?

The good news first: The vast majority of drugs dispensed in the United States — more than 80 percent — are generics, which are low-cost alternatives to brand-name drugs. If your doctor writes you a prescription, there is a very good chance it will cost you $10 or less.

But if you have a more serious illness or require a newer, brand-name drug, insurers have been requiring that you pay an increasingly large share of the drug’s cost.

Many people are covered by health plans with large deductibles that require them to pay the full price of their drugs until they hit their limit, which can be thousands of dollars a year. And more plans are requiring patients that need expensive specialty drugs to contribute a percentage of the list price. Drug companies often help cover patients’ out-of-pocket costs through assistance programs, but not always.

So patients who are the sickest and require the most expensive drugs are the most vulnerable to soaring drug prices.

“It’s sort of embedded in the health care system that the price is never the price, unless you’re a cash-paying customer,” Mr. Fein said. “And in that case, we soak the poor.”