Pharmaceutical Economics and Policy SA427

‘Bargaining over the Rate of Return VS. Value Based Pricing’

Tuesday, 3 November 2009

Faisal LatifKyle ChecchiJessica Nicholls

Questions to address

1. How would you judge whether a new medicine is entitled to a price premium over existing therapies?

2. Does rate of return regulation, when applied to drug pricing, satisfy the objectives of health and industrial policy?

Learning Objectives• To understand the principles of pharmaceutical pricing

from a theoretical and empirical perspective

• To understand the operational requirements of regulatory approaches such as cost-effectiveness pricing and rate of return regulation and the extent to which they contribute to health and industrial policy objectives

Question 1: How would you judge whether a new medicine is entitled to a price premium over existing therapies?

Kyle Checchi

Approach:• Introduction to Value Based Pricing (VBP)• In depth look at key elements and issues:

• Definition of Value• How to deal with unique subgroups• NICE and the mechanics of VBP

• Scoring and how to treat other inclusions• Finding the relative competitors• Information requirements• Public resources

• How to budget total drug costs in the health system

• Conclusion: How to determine whether a medicine is entitled to a price premium over existing therapies

Value Based Pricing:• Policy objectives: To replace PPRS price

and profit controls with a value based policy• To focus policy on maximizing value for

NHS Drug expenditures• To guide drug companies to focus their

resources on new drugs that serve unmet needs

Value Based Pricing:• Main Features: Max price of a product

reflects the incremental benefit relative to an appropriate competitor• New substances assessed “ex ante” – before

they reach the market – through fast track appraisals

• Existing drugs assessed “ex post” through rolling assessment

• Risk sharing when not enough information is available to fully assess incremental value

• Non-linear pricing to accommodate the situations where incremental value differs by subgroup

In depth look at the key issues:• “Value” – Should capture extension to life

and improvement in quality of life • Value should also include significant

non-patient benefits, such as caretaker benefits.

• There is extensive debate over QALYs and how to derive them, especially focusing on how to identify and weight the quality of life parameters

In depth look at the key issues:• Different value by subgroup – some

medicines will have drastic improvements within specific subgroups (e.g. pregnant mothers or babies) • Two potential strategies: non-linear

pricing by subgroup and linear (flat) pricing

In depth look at the key issues:• Non-linear pricing: different prices

negotiated for specific volumes of the drug, where the volumes correspond to the amount of drug needed by subgroup• secures value for the NHS• encourages and rewards companies for

finding improvements to subgroups• does not inhibit incentives for under

threshold pricing

In depth look at the key issues:• Linear (flat) pricing: companies negotiate for

only one price and volume (that volume can be one that addresses one, multiple, or all concerned subgroups)• can include “punitive price value” component• results in two scenarios:

• one where companies can only address one subgroup with a medication (not ideal in cases where the best drug is the best in multiple subgroups)

• the other where companies will struggle to price a drug with drastically different incremental values at one level to maximize its profits

In depth look at the key issues:• NICE and the actual determination of value

• Value results can be difficult to create including all factors (3rd party etc.) and over all subgroups

• Finding the relative competitors: a large challenge• Does one use generics as an appropriate competitor?

• Information requirements – is risk sharing an effective option when the informational requirements are not met?

• Public Resources – Will it cost too much to do all the value and cost effectiveness assessments for every drug?• reduced costs through giving less scrutiny to some

clear cut assessments and focusing assessment resources for the truly complicated reviews

• Is this fair?• Credibility – NICE is incredibly well respected and this is

one of the reasons that VBP is feasible

In depth look at the key issues:• How should NHS budget?

• Two views, cost/QALY v. total budget

• Should the NHS set cost/QALY values and then adjust these values to encourage or discourage increased investment in new drugs, or should a maximum ceiling (budget) for drug prices be set and maximum value recouped under that limit

Conclusion:• How to judge whether a new medicine is entitled to a price

premium over an existing therapy:• Take into account total value of a medication, therapeutic, patient,

provider, 3rd party• Calculate value including specific differences within subgroups• Cost effectiveness – must compare the medication to an appropriate

competing treatment, and must include generics as competing treatments

• Non-linear volume pricing to recognize improvements among subgroups

• Timing – with clear expectations for drug companies they should be able to provide enough information to assess their value ex ante (before entering market)

• If this is not possible than risk sharing must be arranged• Must be done with a minimum of NICE resources, uncomplicated

assessments must be done with limited resources leaving complicated assessments to be fully examined

• Use all available HTA agencies and don’t overlap (SMC, AWMSG, and NICE)

• Credibility and objectivity must be maintained through transparency and 3rd party appeals.

*This is an extremely high standard, can it succeed?

Q2. Does rate of return regulation, when applied to drug pricing, satisfy the objectives of health and industrial policy?

Rate of return regulation (RRR)• “A form of regulation in which prices are limited to levels

that give ‘acceptable profits’” (Morris et al., 2007)• TR = TVC + rK• Form of monopoly regulation

• Central idea: firms charge price that would prevail in a competitive market

• Dominant in US for years but different systems in other countries

• Limitations/criticism due to profit accumulation by companies (Averch-Johnson effect)

The Pharmaceutical Price Regulation Scheme (PPRS)• NHS spends about £11bn a year on various treatments -

£8bn on branded drugs• PPRS is main instrument to control NHS expenditure• PPRS broadly has two components:

• Profit controls• Maximum level of profit company may earn • Exceeding level requires repayment to DH

• Price controls• Gives companies freedom to set initial price of

New Active Substance (NAS)

PPRS Objectives

• Deliver value for money

• Encourage innovation

• Promote access and uptake of new medicines

• Provide stability, sustainability and predictability

Scheme must strike balance to ensure that the interests of patients, the NHS, industry and taxpayer are promoted for each other’s mutual benefit

PPRS 2009 – rate of return regulation• Return On Capital (ROC)

• Based on historical average of capital employed• Target of 21% per year

• Margin of Tolerance (MOT)• Members will be able to retain profits of up to 140%

of ROC target• If profits in excess of 140% of MOT, DH will negotiate

one of following:• Repayments of amount of profit exceeding MOT• Price reductions• Delay/restriction of price increase

PPRS 2009 – rate of return regulation (cont.)• R&D allowance

• Maximum allowed is 22% of NHS home sales for assessing price increases

• 30% of NHS home sales for assessing AFRs• Marketing allowance

• 2-4% of home sales of NHS medicines• Fixed elements of £0.5m - £1m

• Information allowance

Timeline

OFT Report – Feb 2007

Interim govt

Response – Aug 2007

PPRS – Dec 2008

Final govt response

– Jun 2009

Office of Fair Trading (OFT)• Published a market study in 2007

• Response to PPRS 2005 • Key recommendation – replace profit and price

controls with value-based pricing (VBP) • Rationale:

• Value for money for NHS• Better incentive to invest• Stable, sustainable system

Ensure the price of drugs reflect their clinical and therapeutic value to patients and the broader NHS

Case for independent pricing body

Figure 1. Medicines Pricing Commission model (OFT Report, 2007)

Case for independent pricing body (cont.)• Remove political influence from technocratic decision

making on pricing• Pre-launch centralised price setting body

• Could credibly commit to paying reasonable prices• Government has successfully set up independent bodies

in variety of fields• Effective use of resources and expertise of HTA bodies• Framework is long-term possibility

Evaluation of VBP as replacement to PPRS• OFT report created widespread debate• Misconceptions of OFT recommendations• Is current PPRS a sustainable model?• Choice facing companies – between OFT proposals and

status quo• Companies producing most cost-effective products

will lose out• Compelling paper – pro-VBP by Simon Thornton (Health

Economics, 2007)

Interim government response to OFT report

“Government should reform the PPRS, replacing current profit and price controls with a value-based approach to pricing” (OFT recommendation)

• Response in context of PPRS objectives• Conceded that need better mechanisms to deliver fair

prices and value to the NHS• Accepted that there is scope for further improvement

in the uptake of cost-effective new drugs

What are we trying to achieve?• Efficient use of medicines currently available – static

efficiency (Towse, 2007)• Are we achieving productive efficiency?• Are we treating conditions and patients society most

cares about?• To stimulate development of new cost-effective

medicines – dynamic efficiency. Combination of:• Revenues for current medicines• Incentives

Final govt response – June 2009

“2009 PPRS ensures that value is better reflected, delivers value for money, assists the uptake of innovative cost-effective treatments, rewards innovation and provides stability, sustainability and predictability”

• New pricing mechanisms introduced:• Flexible pricing arrangements• Patient access schemes

However, government admits there is still scope to improve the way in which prices reflect value - still employing ROC & MOT mechanisms...

Does RRR, when applied to drug pricing, satisfy the objectives of health and industrial policy?

• PPRS objectives• Deliver value for money• Encourage innovation• Promote access and uptake of new medicines• Provide stability, sustainability and predictability

• Current PPRS profit controls do not effectively satisfy these objectives

In order to achieve balance between value for money and pharmaceutical industry incentives, government must ultimately move towards VBP system

References• Department of Health (UK) (2009). The Pharmaceutical Price

Regulation Scheme.• Department for Business, Enterprise and Regulatory Reform. 2007.

Pharmaceutical Price Regulation Scheme: Interim Government Response to OFT Report. BERR, London, 2 August 2007

• Department for Business Innovation & Skills. 2009. Pharmaceutical Price Regulation Scheme: Final Government Response to OFT Report. BIS, London, June 2009

• Morris, S., Devlin, N. & Parkin, D. (2007). Economic Analysis in Health Care. John Wiley & Sons.

• Office of Fair Trading (2007). The Pharmaceutical Price Regulation Scheme, London

References (cont.)• Sorenson C, Drummond, M, Kanavos, P. Ensuring value for money

in health care: The role of health technology assessment in the European Union, European Observatory, 2008.

• Thornton, S. (2007). Drug Price Reform In The UK: Debunking The Myths. Health Economics 16: 981-992

• Towse, A. (2007). If it ain’t broke don’t fix it: the OFT and PPRS. Health Economics 16(7): 653-665

Thank you for listening.

Any Questions...?