Criticism of rebates between sellers and buyers is not new. For example, Standard Oil received rebates from railroads beginning in 1868, but the Supreme Court affirmed the illegality of such rebates in 1911. Drug and biotech companies have been using rebates in contracts with payers and PBMs for decades to enhance access to and use of their products, but critics are now trying to derail these arrangements.
Discounting problems with rebates comes in two flavors — discounting the problems, and problems with discounting.
Discounting the problems
At least in theory, high list prices and price increases of prescription drugs might be driven by demand for larger and larger rebates. Strong empirical evidence of this inflationary effect is, however, lacking. There is even some contradictory evidence suggesting there is no connection between rebates and drug pricing (albeit the study was sponsored by PCMA, the PBM trade association). While it is true that a more competitive rebate can improve market access for a manufacturer, it is important to note that such a rebate lowers the net cost of the product. To an outside observer, a payer’s or PBM’s acceptance of a manufacturer’s rebate offer may appear to be an attempt to maximize rebate dollars when it may simply be the pursuit of a lower net cost. So, it may be difficult to disentangle the market access impacts due to the size of the rebate and the amount the net cost is lowered.
There are two common problems buyers may have with rebates: breakage (the percentage of buyers that do not meet the redemption requirements) and slippage (the percentage of buyers that do not cash their rebate checks). The functional opacity of PBMs masks the full scope of PBM services, including the management of payers’ rebates. PBMs ensure for payers that there is no breakage or slippage. Loss aversion may partially explain why payers are willing to pay PBMs a premium to manage rebate dollars.
Rebates support price discrimination (charging different customers different prices for the same products). And while a discriminatory practice may at first sound unfair, it can be justified and reasonable. Buy more and get a better price. Provide better market access (e.g., preferred tier, fewer restrictions) and get a better price. Rebates can provide an efficient exchange mechanism between manufacturers and payers.
Rebates often lack transparency, but secretive agreements are not inherently nefarious. Trade secrets (e.g., Coca Cola’s formula) and confidential information are by definition not transparent yet commonly accepted business practices. Despite the secretive nature of rebates that frustrate some, parties may find private contract terms to be more effective and efficient than terms made public.
Any residual concerns about rebates are limited to rebated products, and rebates are typically only offered by manufacturers in markets with competing branded products. Manufacturers facing little to no branded competition generally do not offer rebates. And manufacturers approaching patent expiration often determine that it is more profitable to reduce if not eliminate rebates.
If rebates didn’t benefit manufacturers under certain conditions, then manufacturers would not offer them — and if rebates didn’t benefit payers under certain conditions, then payers would not accept them. A contract with a rebate then represents a market clearing.
Problems with discounting
One rarely discussed problem with rebates relates to discounting for time. In essence, rebates convert buyers into creditors and sellers into borrowers. If, for example, a manufacturer whose annual list price for a drug is $100K offers a payer a 20% rebate, then $20K is rebated. When there is a delay in returning the rebated dollars, the manufacturer has borrowed $20K from the payer. Wimpy, the character from the Popeye comic strip, would often say “I’ll gladly pay you Tuesday for a hamburger today.” Perhaps Wimpy understood that he’d pay a little less with a delay (assuming interest were not charged). Future dollars are worth less than current dollars because of inflation. The discount rate can be used to calculate the present value of future cash flows associated with rebates. That said, most manufactures and payers likely do not account for these time effects because they are relatively small (due to the short time period) and dwarfed by the benefits of improved market access and lower costs.
Interestingly, PBMs are increasingly offering point-of-sale rebates for certain customers (e.g., self-insured employers) and benefit designs (e.g., high deductible health plans). In contrast to the more typical lag between purchase and rebate redemption, the PBMs are passing through future rebated dollars before they are transferred from manufacturers. In doing so, PBMs incur a second loss of interest income, but this is relatively small due to the short time period.
A larger problem with rebates relates to discounting for risk. For payers and PBMs, the opportunity costs of rebates on the table need to be evaluated, and the opportunity costs of rebates not yet offered are difficult to impossible to estimate. Rebates typically limit payers and PBMs to one of two preferred products per category or class. So, a payer or PBM going with one manufacturer’s rebate today may miss out on another manufacturer’s rebate tomorrow unless the payer or PBM breaks an existing contract. New entrants, indications, marketing, evidence, guidelines, and other market events can impact market shares and the value of associated rebates, and this complicates estimates of future value. And there may be additional risk associated with returns when rebates are based on volume or outcomes. Identifying the future conditions that may impact rebate costs and benefits, and assigning probabilities to these conditions is as much art as science.
Conflated problems and solutions
Concerns regarding pharmacy spend and trend are real, as is the high list-price conundrum for individual consumers — which all too often result in such negative consequences as lack of adherence, poor clinical outcomes, or “financial toxicity.” Those who pay out of pocket for drugs and those whose out-of-pocket costs are based on coinsurance can be hurt by high prices. But patient out-of-pocket burden is separate from arguments about how rebates are or should be managed. For patients experiencing high out-of-pocket costs, the more sustainable fix is to insure the uninsured and to enhance coverage for the underinsured. Eliminating rebates may not be the right solution for a coverage problem. It might just be a one-time savings soon eclipsed by rising prices.
The anti-rebate train has left the station, but it may not be too late to derail proposed regulatory interventions with strong empirical evidence. It is a bit ironic that many of the rebate critics are champions of value-based contracts, yet those contracts rely on rebates! And it is also a bit ironic that many calling for regulatory intervention are champions of smaller government. Getting rid of rebates could have all sorts of unintended consequences, known and unknown. Let’s not discount the uncertainty of the future. All aboard!
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