Insider Profile: Cost Shifting, Blood from a Stone

Dec 01, 2001

Dow Jones calls Barbara Ryan, managing director of Deutsche Banc Alex Brown, "one of the Street's more prescient drug analysts." Indeed, Ryan's knowledge of the pharma industry comes from nearly 20 years of covering it. In an interview with PE, Ryan predicts rough times ahead for pharma and discusses how escalating drug costs may give employees more responsibility for their therapy choices in 2002.

MM: What changes will the industry see in 2002?

Ryan: Market reforms will take place in the form of cost containment measures rather than anything legislative, which was once anticipated. Given the current state of affairs, Washington will be consumed with the war, national security, and stimulating the economy. Nothing meaningful in healthcare reform, Medicare reform, or outpatient drug benefits will happen.

MM: Has pharma been affected by the economic downturn?

Ryan: Numbers for the S&P 500 are coming down faster than the pharma industry's. But at some point, the general economy's numbers may stabilize while pharma companies' will continue to deteriorate because of slower secular growth.

That growth rate is not a result of the economy but of industry's failure to introduce new, unique, effective drugs to replace the stalwarts-like Prozac (fluoxetine)-that are losing patent protection. To offset those pressures, companies are raising their prices on brand-name drugs at an aggressive rate-conspicuously above inflation-to sustain earnings. They will also continue reducing sales, general, and administrative expenses to cut costs.

MM: How will employers react in that environment?

Ryan: Their earnings may decline in the contracting economy, but drug expenditures are growing faster than anything else on their P&L statement-the environment is right for shifting costs to consumers. Employers may be more motivated to display the kinds of controls and formularies they knew were available but were reluctant to use in 2001, such as tiered co-pays. They've learned that they can't deny access to value-added or expensive new therapies. But you can't get blood from a stone.

MM: How will government handle increased drug costs?

Ryan: Prescription drug co-ops will continue to proliferate as each state is additionally pressured by shrinking tax revenues.

In particular, Pfizer's deal with Florida's Agency for Health Care Administration, aimed at maintaining the integrity of industry pricing, is a colossal experiment. Pfizer believes that, if Medicaid patients consume the right quantity of Pfizer drugs and services, Florida will save money on hospitalizations, surgeries, and emergency room care. The company is putting itself on the hook for that. Pfizer doesn't want to start down the slippery slope of discounting. Whether the program will be effective is unknown.

MM: Will that cost shifting affect companies' marketing plans?

Ryan: As changes unfold, there's nothing obvious that pharma companies should stop doing. They must continue to do DTC advertising and compete in the physician's office. A long time ago, pharma companies marketed drugs to physicians and we all loyally did what physicians told us to do. Now, the patient is the consumer, armed with health information from DTC and the Internet. But consumers have yet to pay the price in higher drug costs for the benefits of thatmarketing and education.

With higher co-pays, companies should expect lower gross profits, whether the loss comes from a reduction in purchase rates or from increased marketing efforts. More and more companies will go into the supermarket coupon business to remain competitive.

MM: What effect will pricing have on consumers' choices?

Ryan: A $10 or $15 co-pay won't drive any change in consumer behavior. But if $35 and $50 differences in co-pays are implemented, people's attitudes about products will certainly change. We're all big spenders and want the best drugs as long as we're paying $15. When patients must choose between paying $10 for generic amoxicillin $45 for Zithromax (azithromycin), they may decide that the generic amoxicillin is just fine. That shift in thinking will be reflected in consumers' choice of drug benefits in 2002 and 2003.

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