Understanding PMBs' role and impact on drug pricing

What is a PBM?

A pharmacy benefit manager (PBM) is a third-party administrator that acts as an arbitrator in the pharmaceutical supply chain, connecting pharmacies, insurance companies (plan sponsors), employers, pharmaceutical manufacturers and drug wholesalers. PBMs initially emerged in the late 1950s to process prescription drug claims but have expanded their services significantly.

Today, they manage formularies (lists of covered drugs), create pharmacy networks, operate mail-order pharmacies and handle contracts with wholesalers and manufacturers. Given their expanded role, PBMs have attracted scrutiny from policymakers due to their significant influence on drug pricing and availability.

PBM functions and services

PBMs operate as intermediaries between various stakeholders in the pharmaceutical supply chain, including plan sponsors, drug manufacturers, wholesalers and pharmacies. Their core services include formulary design, utilization management, price negotiation, pharmacy network management and mail-order pharmacy services.

Formulary design

One of the most critical functions of a PBM is designing and maintaining a drug formulary. The formulary is a curated list of medications specifying which drugs a health plan covers and the associated patient-level costs. A pharmacy and therapeutics committee, often composed of pharmacists and physicians, reviews clinical trials, FDA approvals, and scientific literature to evaluate drug safety, efficacy, and cost-effectiveness. The formulary is typically structured in a tiered system, with different co-payment levels for generic drugs, preferred brand-name drugs, and non-preferred options. This system is designed to incentivize using lower-cost alternatives, helping control overall healthcare costs.

Utilization management

PBMs use several techniques to manage drug utilization, including the following:

• Prior authorization. This requires the prescribing physician to submit additional information to justify the medical necessity of a drug before the PBM approves coverage.
• Step therapy. Patients must try a preferred, lower-cost medication and demonstrate treatment failure before gaining access to a more expensive drug.
• Supply limits. PBMs may restrict dosage or quantity to prevent overuse or waste.

These strategies aim to promote the use of cost-effective medications while ensuring appropriate clinical care.

Price negotiation

Price negotiation is critical to PBM operations, involving drug manufacturers, wholesalers and pharmacies. PBMs negotiate rebates and discounts from pharmaceutical companies in exchange for favorable placement on formularies. These rebates are typically tied to the volume of prescriptions filled and are more common with branded drugs. Pharmacies also negotiate with PBMs to be included in a health plan's network, often resulting in competitive pricing. However, details of these negotiations and the value of rebates are often not publicly disclosed, leading to concerns about transparency.

Pharmacy network management

PBMs create and manage extensive pharmacy networks, including retail, specialty, and mail-order pharmacies. The inclusion of pharmacies in these networks is determined through contract negotiations establishing reimbursement rates for dispensing medications. By controlling access to these networks, PBMs can increase competition among pharmacies and potentially secure lower prices for plan sponsors. Specialty pharmacies, which handle complex and high-cost medications, play a particularly important role, and many PBMs own or partner with specialty pharmacy providers.

Mail-order pharmacy services

Mail-order pharmacy services, which originated with the Veterans Administration in the 1940s, have been expanded significantly by PBMs. These services often fill 90-day supplies for patients with chronic conditions, reducing dispensing fees and logistical costs. Mail-order services are typically owned or operated by PBMs themselves, creating the potential for conflicts of interest if PBMs prioritize their own mail-order services over independent pharmacies.

PBM revenue models

PBMs earn revenue through two primary mechanisms:

• Rebates and discounts. PBMs negotiate rebates from drug manufacturers in exchange for placing their products on preferred formulary tiers. They also secure discounts from pharmacies for being included in their networks. While these arrangements can lower drug costs, the lack of transparency around how much of these savings are passed on to plan sponsors has been a point of contention.
• Spread pricing. PBMs charge health plans more for a drug than they reimburse the pharmacy, keeping the difference as profit. For instance, if a PBM pays a pharmacy $50 but charges a plan sponsor $60, the PBM pockets $10. This practice can lead to higher costs for health plans and patients, and its lack of transparency means that plan sponsors are often unaware of the true cost paid to pharmacies.

Technology's role in PBM operations

In recent years, PBMs have increasingly relied on advanced technology to streamline operations and enhance transparency. Digital health tools, such as electronic health record integrations and e-prescribing systems, have made it easier to manage formularies, approve claims, and implement utilization management strategies. Additionally, some PBMs have adopted data analytics and machine learning to optimize drug benefit designs and predict patient adherence patterns.

Blockchain technology

Blockchain can potentially address transparency concerns by creating immutable, auditable records of rebate transactions and drug pricing agreements. Pilot blockchain programs are being explored to enhance trust between PBMs, plan sponsors, and pharmacies.

Patient-facing technologies

PBMs also invest in patient engagement platforms and mobile apps to support medication adherence, provide cost-saving options, and offer virtual consultations through their own or affiliated pharmacies.

PBM policy

State and federal policymakers have increasingly scrutinized PBM practices, particularly around rebate retention and spread pricing. As of 2023, all 50 states have enacted some form of PBM regulation, often focusing on pricing and reimbursement, pharmacy network access, and transparency. However, many state-level policies are limited in scope and do not guarantee patient cost savings.

Several bipartisan bills have been introduced at the federal level to address PBM business practices more comprehensively. These proposals aim to mandate the pass-through of manufacturer rebates, prohibit spread pricing, and require increased transparency. However, critics argue that these measures do not address the underlying lack of competition within the PBM industry, which continues to drive inefficiencies and potentially higher drug costs.

PBM market consolidation

The AMA recently reported that the PBM market is highly concentrated, with four major PBMs -- CVS Health, OptumRx, Express Scripts and Prime Therapeutics -- controlling 70% of the national market. This consolidation has raised concerns about limited competition, especially in Medicare Part D prescription drug plans, where 82% of regional markets are similarly concentrated. Reduced competition can allow anti-competitive practices to flourish, contributing to higher drug costs and fewer patient options.

Additionally, the vertical integration of PBMs with insurers -- covering 72% of the population, including 77% of Medicare Part D enrollees -- further strengthens their influence in the pharmaceutical supply chain. This dominance allows PBMs to steer patients away from independent pharmacies and toward their own mail-order services. Patients may also be denied access to lower-cost medications, as PBMs tend to favor drugs that offer high rebates. The secretive nature of drug pricing can lead to patients overpaying for prescriptions, especially given that gag clauses in PBM contracts, banned in 2018, once prohibited pharmacists from suggesting cheaper alternatives.

The AMA and other entities, including the Federal Trade Commission and several state attorneys general, are calling for increased regulatory oversight to address these anti-competitive practices and ensure drug affordability. As PBMs continue to face scrutiny, stakeholders must stay informed and adapt to protect patient access and control healthcare costs.

Alivia Kaylor is a scientist and the senior site editor of Pharma Life Sciences.