The pharmaceutical industry’s reputation as an omnipotent market force is increasingly out of date. Washington, D.C., hasn’t yet caught on, but Mr. Market is in on the secret.
Drug companies do have wide freedom to set their own sticker prices for their products in the lucrative U.S. market. That hardly means they have carte blanche. To actually sell medication, a drugmaker needs to convince public and private health plans to place their product on the plan’s formulary, which is a list of drugs the plan is willing to purchase. That means paying middlemen rebates and discounts to choose their drug over any other rival treatments. Failure to secure favorable formulary access could mean low sales even for a highly-effective and safe medication.
Those middlemen argue that the rebates and discounts, coupled with their bulk buying power, help keep insurance premiums low. Other providers of essential services, like drug wholesalers that deliver medication to pharmacies, hospitals and other healthcare sites, also get paid as a share of a drug’s list price. As a result, a drug’s sticker price doesn’t typically reflect how much revenue the manufacturer gets when a prescription is filled. The net price that the manufacturer actually realizes as revenue is a carefully guarded trade secret. As for what a patient with insurance pays out of pocket, Americans already know that the differences can be big and baffling. The decision depends on the design of the insurance plan.
No one should worry about drugmakers being able to make ends meet, but their lives are getting harder. Data released last month by drugmakers themselves show that their ability to raise prices is waning. French pharmaceutical giant
said that its average U.S. gross price rose by just 0.2% in 2020 and that the average net price it realized fell 7.8%.
“To secure that formulary position costs us more and more every year,” said Adam Gluck, Sanofi’s head of U.S. corporate affairs, in an interview. The company says that the average list price for its insulin products is up 141% since 2012 but that the net price is down 53% over that same period.
It isn’t just Sanofi facing this dynamic.
& Co. said last month that its average U.S. sticker price rose 3.1% in 2020 even as its average net price fell slightly. That is a sea change from recent years: In both 2015 and 2016 Merck’s average list price rose by about 10% while the net price realized by the drug giant rose by 5.5%. Nearly half of Merck’s gross sales went out the door to third parties as discounts last year. A decade ago, that tally was around 27%. Other drugmakers like
report similarly high spreads between gross and net sales.
The data should put the industry in relatively good standing with Washington—especially after the industry proved able to develop and manufacture Covid-19 vaccines in record time. After all, the high cost of healthcare is a perpetual issue in U.S. politics, and drugmakers have historically been a popular target. While President Biden has focused on other priorities early in his term, he vowed to address high prescription drug prices during his campaign.
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Don’t expect that to take the heat off the industry completely: Lawmakers may not have figured out that drugmakers’ pricing power is on the wane, and politicians aren’t ones for nuanced arguments in any case. Wall Street seems to have cracked the code, at least. The stock market as a whole is ebullient, but Sanofi, Merck and Bristol-Myers Squibb all have share prices well below their record highs. A broad index of pharmaceutical stocks has underperformed the S&P 500 by 6 percentage points so far this year.
No matter how lucrative a business might be, investors tend to focus on the future. While big drugmakers generate huge amounts of cash flow, it can be a challenge to grow sales and profits. Drug development is an expensive and difficult art and the vast majority of drugs under development fail to reach the market. Even the greatest successes eventually stop selling at high prices, either because of patent expirations or the arrival of a newer, better medication. In recent years, big drug companies have had to resort to expensive biotechnology acquisitions to build their pipelines. With more and more dollars needed to move the needle, the result has been an industry rife with slow-growing top lines and valuations stuck in neutral.
Now that picture has darkened further as big drugmakers’ ability to name their price in their best and biggest market is fading away. At least their public image is on the mend.
Write to Charley Grant at charles.grant@wsj.com
Corrections & Amplifications
Sanofi says that the average list price for its insulin products is up 141% since 2012, but that the net price is down 53% over that same period. An earlier version of this article incorrectly said those figures were only in reference to its Lantus insulin. (Corrected on March 12.)
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