We all have stood in line eagerly awaiting a prescription, when it’s your turn and the cost pops up you probably wonder how exactly pharmacies come up with the price. If you are uninsured or have a high deductible drug plan this information is very important for you to know.
So, why do pharmacies charge different prices? Drug pricing at Pharmacies is completely unregulated in the US and is determined by many factors such as:
- Drug acquisition cost
- Desired profit margin
- Business structure
- The pharmacy’s cost of business and overhead
- Insurance contracts
Each of these factors can be complex and connected so I’ll dig in deeper on each topic below. I’ll also discuss how to combat high drug prices to ensure you can get the lowest price possible for your medications.
Drug Acquisition Cost and the Middleman Game.
All retail establishments buy their products from a wholesaler who purchases directly from the manufacturer. Pharmacies aren’t any different.
Ultimately, pharmaceutical companies sell medications to a drug wholesaler, the largest and most well known of which are Cardinal, McKesson, and Amerisource Bergen, for the average manufacturer price which includes any discounts the wholesaler receives.
The wholesaler buys the drugs in very large quantities directly from the manufacturers and stores them in strategically located warehouses across the country. They then sell the drugs to pharmacies, after a small markup (profit), at specific contracted rates that vary from pharmacy to pharmacy.
Muddying the water even further, not only are there varying drug prices between pharmacies, but also different prices from each wholesaler. Like the pharmacies, they are striving to make a profit, in the end, these are all businesses and will set prices accordingly.
Bulk Purchasing
Warehouse clubs like Costco and Sam’s Club are favorite stores that allow people to purchase items in bulk for a lower price. When purchasing medications, large pharmacy chains are essentially following this same pattern.
They require more medications since they have more locations and a larger patient population. These large chains can stock up on more medicine for a lower price, this allows them to increase their profit margins. The large chain pharmacies also broker deals with both the wholesaler and directly with drug manufacturers to add an even more complex layer to the drug pricing scheme.
For example, CVS is purchasing drugs at an incredibly different price than the corner mom-and-pop pharmacy. Independent pharmacies do not have the same size customer base for one or two stores to compete with massive cross country chains with nearly 10,000 locations. This causes a variation in price per pill for the smaller pharmacy companies.
The False Fallacy of Bulk Purchasing
Even with the ability to purchase large quantities of medications for a cheaper price, consumer reports shows that large retail chains have some of the highest cash prices. Independent pharmacies were found to have some of the lowest prices, and grocery stores ended up somewhere in the middle. The devil is in the details on how each of these types of pharmacies make money and who owns them.
How Business Structure Influences Drug Prices
Publicly-held Corporate Chain Pharmacies
Chain pharmacies like CVS and Walgreens are publicly held corporations with multiple layers of management that have to continually earn more and more money to satisfy shareholders expectations.
Despite having the volume to ensure the lowest purchase prices through bulk purchasing and special negotiations, the disadvantage of the corporate chain pharmacy’s business structure is the sheer size of their supporting workforce. Store employees, support system employees, middle management, and executive leadership earning millions of dollars a year add a significant cost.
Having to pay salaries and benefits for all of those individuals can really add up. Operating such a vast number of locations also adds logistical and distribution costs, all of which need to be paid for with additional margin above the acquisition costs.
As a result, the chain pharmacy’s primary focus is profit and increasing value to shareholders so they cut their costs as much as possible and charge the highest prices they can, fleecing uninsured and uninformed Americans on a daily basis.
Grocery and Big Box Store Pharmacies
Grocery stores like Walmart, Kroger, Publix, and Meijer use their pharmacy as a lead magnet. They can sell prescription medications at a lower price because they know people that use their pharmacy will also buy groceries and higher margin general merchandise resulting in increased profits overall. This is how these types of pharmacies can use $4 lists and give away medications for free.
A person I know from Meijer once told me that just adding a pharmacy to one of their stores results in a 30% overall increase in sales of groceries and general merchandise.
Independent, Mom-and-Pop pharmacies
Independent pharmacies have the most nimble business structure . The owner is most commonly also the main pharmacist reducing overall salary costs. Operating one or only a few locations also leads to less overall overhead costs like computer system support, logistics related expenses, utilities, etc. In the end the owner gets to decide what they charge and how much profit they want to take home at the end of the year.
Other Factors Contributing to Drug Pricing
Supply and Demand
Medication demand plays another critical factor in price. Drugs that are more popular can be manufactured in bulk which can decrease the cost. The most popular generic medications for blood pressure, heart disease, and diabetes are usually fractions of a penny to pennies per dosage for the pharmacy to purchase.
Likewise, medications in low demand or drugs that are experiencing a shortage due to manufacturing issues have an increased cost. When a drug being manufactured by multiple companies undergoes a shortage the drug manufacturer increase prices to capitalize on the situation and profit.
Things like availability of the medicine and generic or brand patent status also play a role in the overall charge. For example, just before a drug patent expires the manufacturer raises prices significantly to maximize its profits before the availability of generics erodes its pricing power.
In these cases, value leans much more towards the pharmaceutical company’s priorities than to the individual.
Medical Necessity
Medication that is necessary and has a higher overall cost can have a greater out of pocket cost. Drug manufacturers can increase their profit margin from these medications as they are necessities and they can help offset the costs where other deficits are occurring.
Insulin is the prime example of this type of situation. As the proportion of Americans with diabetes continues to grow, so do the prices of their life saving treatment. As new and improved insulin versions are produced and prescribing shifts away from the equally effective but cheaper alternatives, treating diabetes continues to be a profit driver for pharmaceutical companies through insanely high prices.
Drug Pricing Models
Now that we know how a pharmacy buys a drug and how overhead expenses and business structure can contribute to drug prices we now need to discuss how pharmacies ultimately set their prices.
It is hard to come up with a set numerical value for each medication because many values are needed. The actual wholesale price is how much the pharmacy pays for the medication when purchasing it from the distributor. This number is an inflated number since it is before the pharmacy’s discounts which include rebates for ordering a certain percentage of generic drugs from a specific wholesaler.
Once the discounts are accounted for this is referred to as the average acquisition cost. This number gives a more accurate look into pharmacy’s actual cost to purchase a drug.
The consumer comes in to play purchasing at a cash price or, as it is called in the pharmacy world, the usual and customary price. This price is how much the patient is paying to cover the prescription without insurance. Pharmacies may also charge a dispensing fee which can help offset the additional cost pharmacies are facing, like the cost of the bottle, cap, label, etc.
Percentage markup
Some pharmacies chose to set their cash prices based on a markup as a percentage of the acquisition cost of the drug. For example, the pharmacy can buy a drug for $10 per tablet. They decide that they want to make a 30% profit on that drug. The price to the consumer would then be $13 per tablet.
In this pricing strategy the pharmacy may have different tiers of markup based on factors such as drug acquisition costs, brand or generic status, frequency of sale, etc.
A pharmacy may charge a smaller percentage higher on larger prices items and still make a very large profit, but have to charge a higher percentage markup on lower prices items to cover their costs and make a profit.
For illustration, a drug that costs $1000 for a month supply. If the pharmacy stuff with a flat 30% markup then the price would be $1300 a month to the patient and the pharmacy would make a large profit. However, if the drug cost for $10 for a month supply, with the same markup the pharmacy would only make $3 in profit which may not even cover their expenses to dispense the medication.
Set Dollar Figure Markup
In this pricing strategy the pharmacy decides to add a set amount of money to each drug price. This ensures the pharmacy makes the same amount on every prescription they dispense.
For example, a pharmacy decides they need to charge $10 more than the acquisition cost of the drug to make the desired profit. If the drug costs $10 for the pharmacy to buy a month supply then the cost to the patient would be $20. In the same pharmacy if the drug costs $1000 for a months supply the price to the patient would be $1010.
Maximum Profit Strategy
This is the strategy the large chain pharmacies use. They charge the full, ridiculously inflated manufacturer list price (think MSRP or sticker price when purchasing a car) to the patient to ensure maximum profit. In this model, the price the pharmacy purchased the medication for is irrelevant and guaranteed to be less than the price charged to the patient.
In this model typically very cheap medications to purchase that may cost the pharmacy pennies per dosage may cost the patient 1000 times more.
What is the Role of Insurance in Drug Prices?
In this balancing act of cost, private insurance and government reimbursement influences the price. Medical costs are very high, insurance plans take these costs and pay a specified price towards the total, once again based on company profit margins. This leaves the consumer to pick up the remainder of the cost. The insurance plan tries to maximize profits as do all the other business that are each involved in the process.
With insurance, the “copay” when picking up a prescription can be similar between various pharmacies unless you have a deductible. In this situation you may be paying either the full cash price or a negotiated price both of which are still very inflated compare to what the insurance actually pays during the benefit phase.
Pharmacy Network Status
Insurance companies try to negotiate with pharmacies to pay the lowest prices they can to maximize their own profits. Some insurances create “preferred” or “narrow” networks in which the pharmacy has agrees to lower prices in order to be included in the this network and gain more customers.
If patients go to a non-preferred pharmacy, the insurance has to pay more and passes along a higher copay to the patient. In this way, patients are financially penalized if they use a non-preferred pharmacy.
How Insurance affects Cash Prices.
Contracts between pharmacies, insurance companies, and government agencies contain stipulations that the pharmacy’s cash price cannot be lower than the price they charge the insurance company or government organization.
This is why the large chain pharmacies use the manufacturer list price as their cash price. This ensures that they both make the most money possible and don’t violate these terms. The unfortunate truth is the companies created “discount drug lists” and ended up being sued and had to pay hundreds of millions of dollars anyway.
Knowledge is power
Many people blindly pay their copays without asking the pharmacist if there is any way to get the medication for cheaper. Even worse yet, may individuals don’t get there medication at all due to the cost.
The truth is there are almost always cheaper options or strategies to get your medications cheaper such as:
- Ask the pharmacist if there is a similar medication that is less expensive
- Use a prescription discount card if you have a high deductible or are uninsured
- Combining a manufacturer copay savings card
- Changing to a pharmacy that is “preferred” status with your insurance
- Use your insurance company’s mail order pharmacy
- See if you can get it cheaper at Healthwarehouse.com
- Call around starting with your local independent pharmacy to see if you can find a lower cash price
- Check to see if your medication is included on the free or discounted drug list at places like Walmart, Publix, Family Fare, Kroger, etc
- Ask your doctor for samples of expensive brand medications
- Check out if the brand manufacturer or local charity has a prescription assistance program you may qualify for