Tuesday, July 26, 2022

Warped Incentives Update: The Gross-to-Net Bubble Exceeded $200 Billion in 2021 (rerun)

This week, I’m rerunning some popular posts while I prepare for this Friday’s live video webinar: Specialty Drugs Update: Trends, Controversies, and Outlook .

ICYMI, the unimplemented rule to reform rebates in Medicare Part D remains the ultimate budget gimmick. More than $122 billion in "savings" (offsets) from the current drug pricing reconciliation legislation comes from blocking rebate reform—which never even happened.

Click here to see the original post from March 2022.

Time for Drug Channels Institute’s annual update on the gross-to-net bubble—the ever-growing dollar gap between sales at brand-name drugs' list prices and their sales at net prices after rebates and other reductions.

We estimate that the gross-to-net bubble reached $204 billion for patent-protected brand-name drugs in 2021. If we include brand-name drugs that have lost patent protection and face competition from generic equivalents, the bubble was even higher, at $236 billion.

Pharmaceuticals are the only part of the U.S. healthcare system in which the difference between list and net prices is monetized as rebates and redistributed via intermediaries to payers. This bubble reflects—and drives—both patients’ affordability problems, intermediaries' warped incentives, and politicians’ misunderstandings of U.S. drug prices.

Read on for our latest data—and a reminder why SpongeBob SquarePants remains a fixture on Drug Channels.

Today’s post is adapted from Section 9.2. of our just-released 2022 Economic Report on U.S. Pharmacies and Pharmacy Benefit Managers.


Here are some frequently asked questions to help you better understand pricing and its implications.

1. What are gross and net drug prices?

The manufacturer of a drug establishes the drug’s list price, called the Wholesale Acquisition Cost (WAC). A pharmacy’s revenues for a brand-name drug prescription approximate the list price, due to the typical formulas used to compute ingredient cost reimbursement.

A drug’s net price equals the actual revenues that a manufacturer earns from a drug. The net price equals its list price minus rebates and such other reductions as distribution fees, product returns, discounts to hospitals, price reductions from the 340B Drug Pricing Program, and other purchase discounts. Negotiated and statutory rebates described in the preceding section, however, are the largest and most significant components of gross-to-net price differences. Below, we outline the major components of these gross-to-net price differences for brand-name drugs.

Consequently, brand-name manufacturers earn substantially less revenue than drug list prices imply, due to the gross-to-net difference between a manufacturer’s list and net prices. That’s also why net drug prices are declining even as list prices grow. See Tales of the Unsurprised: Brand-Name Drug Prices Fell for the Fourth Consecutive Year. I’ll update the 2021 manufacturer-specific data in an upcoming post.

2. What is the gross-to-net bubble?

Drug Channels Institute coined the term gross-to-net bubble to describe the speed and size of growth in the total dollar value of manufacturers’ gross-to-net reductions. We use “bubble” to characterize the speed and size of growth in the total dollar value of manufacturers’ gross-to-net reductions.

A manufacturer’s gross revenues equal its revenues from sales at a drug’s WAC list price. Net revenues equal its revenues from sales at a drug’s net price, i.e., the actual revenues received and reported by the manufacturer after rebates, discounts, and other reductions.

Our terminology has been embraced by industry participants, the government, and others who cover the industry. The Medicare Payment Advisory Commission (MedPAC) even used the term in a 2019 Report to the Congress.

Click here to read all Drug Channels articles on the bubble.

We also own the super cool domain name www.GrossToNetBubble.com, which redirects to our most recent article on the bubble’s size.

3. What does this have to do with SpongeBob SquarePants?

One of SpongeBob’s favorite pastimes is “blowing soap bubbles into elaborate shapes.”

Hence, Mr. SquarePants is the honorary mascot of the gross-to-net bubble and appears on Drug Channels whenever we discuss the topic. He also graces the set of the Drug Channels Video studio.


Through the compounding effect of gross-to-net pricing differences, the total value of manufacturers’ off-invoice discounts, rebates, and other price concessions for patent-protected brand-name drugs continues to expand. We estimate that in 2021, the total value of gross-to-net reductions for patent-protected brand-name drugs was $204 billion.

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As the list price of a manufacturer’s products rises, the dollar value of the manufacturer’s rebates and discounts grows. The manufacturer also offers larger rebates to offset the increase in list prices. Hence, the total value of the gross-to-net bubble expanded by about $15 billion (+8%) in 2021, despite the slowing growth in list prices and negative growth rates for net prices.

The chart below, which appears as Exhibit 169 in our 2022 pharmacy/PBM report, summarizes our estimates of the major components of the gross-to-net bubble for brand-name drugs in 2021. We estimate that a majority of total gross-to-net reductions for these products come from rebates paid to third-party payers. Note that the total value of gross-to-net reductions exceeds the figure above, due to the inclusion of brand-name drugs that have lost patent protection and face competition from generic equivalents.

[Click to Enlarge]


As longtime readers know, Drug Channels has long delved into the gross-to-net bubble’s significant impact on patients.

Here are some of the most pernicious problems:
  • Patients are exposed to the undiscounted list price of their prescriptions. Many people now pay a coinsurance percentage of the price negotiated between the pharmacy and the plan or PBM—or even the entire list price when they are within a deductible. (See Employer Pharmacy Benefits 2021: Patient Specialty Costs Rise with Coinsurance and Accumulators.) The negotiated price that the pharmacy receives for a brand-name prescription is linked most closely to a drug’s WAC list price.
  • Patients can pay a greater share of net price than is apparent from their coinsurance amount. Formulary rebates paid by manufacturers to plans and PBMs are not reflected in the negotiated prices between pharmacies and PBMs. Unless the plan sponsor has adopted POS rebates, patients pay a coinsurance percentage of a prescription’s undiscounted, pre-rebate list price. Consequently, a patient’s share of the net price is greater than is apparent from the coinsurance percentage computed based on the list price.

    In How Health Plans Profit—and Patients Lose—From Highly-Rebated Brand-Name Drugs, I follow the dollar for an expensive, highly rebated brand-name drug used by a consumer with a high-deductible health plan. As I demonstrate, the consumer can pay more than twice the true discounted price of the drug. Meanwhile, the health plan pockets a large rebate.
  • Seniors with Part D coverage pay more than they should. A patient’s progression through the Part D benefit tiers is based on the prescription price negotiated between the plan and the pharmacy. That negotiated price excludes rebates, so beneficiaries reach catastrophic coverage—and its unbounded 5% out-of-pocket expense—sooner when using products with higher list prices. Higher list-price products also push more beneficiaries into the catastrophic reinsurance phase, raising seniors’ out-of-pocket costs by thousands of dollars.

    Congressional proposals to reform the Part D benefit design focus on capping out-of-pocket costs. Alas, no legislation has been passed.
In Section 9.3.3. of our 2022 pharmacy/PBM report, I outline other ways in which the gross-to-net bubble disrupts proper functioning of the marketplace. Despite these issues, it seems unlikely that benefit designs deemphasizing rebates will be adopted anytime soon.

But like Mr. SquarePants, I’m (still) ready.

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