GlobalData Release: US Healthcare Reform Looks to Squeeze Players Up and Down the Value Chain

Published: Aug 08, 2012

LONDON, UK (GlobalData), 8 August 2012 - This summer’s landmark Supreme Court decision to uphold the Patient Privacy and Affordable Care Act (ACA) will have implications for every stakeholder along the healthcare value chain. Payers and drug manufacturers will be most affected by the current legislation, and will have to adjust their current policies to fulfill the law’s requirements as well as stay profitable.

Payer Survival Depends on Streamlining SG&A, CMS Must Regulate Spending

As GlobalData’s Global Healthcare Policy Analysis 2012 report explains, payers, who are made up of mainly health plans, pharmacy benefit managers, and the Center for Medicare and Medicaid Services (CMS), and include insurance companies, look to get squeezed financially in the following years which will profoundly shape the healthcare landscape. Already, payers have been required to amend their expenditures so that they have a Medical Loss Ratio (MLR) of 80-85%, meaning that 85% of all expenses must go to reimbursement. This will cause payers to become more streamlined with Selling, General and Administrative Expenses (SG&A) and other administrative processes, as well as create defections from unprofitable markets. Another already implemented requirement is guaranteed enrollment for dependents under the age of 26. This has been a hidden gem for payers because this age group is among the healthiest, causing a large influx of covered lives and revenue without significant associated costs.

However, there are other regulations that will significantly hurt payers. One such requirement that could damage payer bottom-line is that beginning in 2014, all adults and children cannot be excluded from receiving health coverage due to pre-existing conditions. Regardless of the individual mandate, this will lead to individuals free-riding on little to no health insurance until diagnosed with a disease. Payers will likely see an initial sudden influx of unhealthy or chronic patients in 2014 for whom they cannot deny coverage. This number could rise slowly in the following years, leaving the potential for payers to suffer substantial financial losses. This will be most apparent for Medicaid expansion and state-run insurance exchanges. Because the newest group of insured customers will be poor or chronically ill, healthcare costs will continue to skyrocket. Cost of care for these individuals will far exceed premiums gained from healthy individuals and taxes from those who have decided not to purchase insurance, thus eating into taxpayer dollars to cover the difference. While the individual mandate was specifically designed to combat this, it is likely that it will not work. Using the Massachusetts healthcare system as a model, it is clear that universal healthcare, while effective in increasing numbers of insured, is not cost effective. In fact, Massachusetts has the second highest healthcare costs in the United States, with numbers outgrowing the state’s GDP growth of almost 4% per year. Consequently, the state recently passed a bill into law that puts hard caps on the cost of many healthcare procedures. This could limit standards of care and cause an already dwindling physician population to defect to other states.

Should premiums rise considerably, it would cause many patients to enroll in government exchange programs. In theory, the exchanges should pay for themselves through uninsured penalties (now defined as a tax due to the recent landmark Supreme Court case) and through patient premiums. However, if the patient population becomes skewed toward chronic and lower-income individuals, the government-subsidized programs could possibly run out of funding. The real measure of success for this law will be if it can cut into overall healthcare costs. While the exchange program could run itself into a deficit, if the ACA is able to offset current government healthcare spending on uninsured hospital or trauma center visits then the program could be cost neutral. However, should this balance be upset and cost savings and revenues from premiums and penalties fail to cover the healthcare dollar spend on government covered lives, US taxpayers will be footing the bill for these programs. Given the potential size of this problem, this could have unwanted side effects in the overall economy, and at worst bring, on a recessionary economic state.

For Big Pharma it’s Innovate or Die

Compared to payers and medical device companies, who are required to pay a 2.3% gross revenue excise tax, drug manufacturers were relatively untouched by the ACA as written. They will, however, be heavily affected by regulations relating to other branches of the healthcare industry. On the surface, branded drug manufacturers will be required to pay an annual fee as part of their corporate taxes that industry-wide will total over $4 billion annually by 2018. This will be divided by relative market share amongst these companies. Additionally, rebates for Medicare and Medicaid will be expanded in an attempt to close the Medicare Part D “doughnut hole.” This could be a blessing in disguise for some drugs as many patients stop taking medications while in the doughnut hole ($2,830–$6,440). Thus, while these companies will be taking a loss from the 50% discount offered on these medications, there will likely be a jump in sale volumes due to an increased patient population purchasing medications. Clearly this will not be the case for life-sustaining or high-compliance prescriptions, where there may be a loss of revenue due to expanded rebate requirements.

However, the larger concern for Big Pharma will be to show greater cost/benefit analysis for their products. Because payers will be looking to cut costs wherever possible, they will require new marketed products to be significantly more efficacious or significantly increase patient quality of life in order to agree reimbursement. While there is no particular provision in the ACA to require payers to do this, they must become substantially more cost conscious. For example, if a pharmaceutical company developed a new statin therapy, payers would most likely not reimburse due to the existence of generics already offered within this indication. The new drug would have to show much greater efficacy or have a much smaller side-effect profile. Another issue likely to affect the introduction of new drugs is forced sub-populations. Returning to the example of statins, one of the main side effects is severe myalgia (muscle pain). If a new branded statin were able to achieve the same results as generic atorvastatin (branded: Lipitor), but without causing myalgia in patients, payers would only likely reimburse for patients that have tried generic statins and experienced myalgia. All other patients would have to remain on generic statins. This has significant implications for pharmaceutical manufacturers. For one, ‘me too’ drugs will probably start to disappear, especially if there is a generic already available within the same therapeutic class.

Manufacturers will have to undercut competition to gain reimbursement guarantees, and thus market share, potentially leading to price wars. Should this happen, many manufacturers will have to weigh the costs of going to market second with the scrapping of their therapy all together.

Follow-on drugs could disappear as well. For instance, the transition from Prilosec to Nexium is one of the best examples of how small formulary changes can take the same active ingredient as one blockbuster drug and turn it into follow-on blockbuster. Because there was little added benefit from Nexium over Prilosec, in the coming years payers would not be willing to reimburse for a new branded drug like Nexium when generic Prilosec is offered at a significant discount. On a positive note, this could be the catalyst that Big Pharma has been looking for to streamline R&D and generate innovation. Patent cliffs caused Big Pharma to realize that they would have to start changing their development structures, and from that we have seen advances in rare disease R&D as well as companies looking to segment markets with personalized medicine. But these advances alone will not be enough to sustain an industry still reeling from a strong dose of regulation that will lead to at least $90 billion in taxes and lost revenues over the next six years. This number does not account for the increased competition, pricing pressures from health plans and/or pharmacy benefit managers, or the new 12-year exclusivity provision for biologics manufacturers using the same data.

Big Pharma will have to continue its current Mergers and Acquisitions (M&A) and licensing strategies, focusing on later stage companies and molecules to limit risk and bolster pipelines to cover for the steep patent cliffs of blockbuster drugs. Additionally, with a more competitive and selective reimbursement landscape, Big Pharma will have to focus less on traditional “guess-and-check” high throughput screens and more on innovation through sound biological understanding. This will likely require continual advances in industry transparency including collaborations and knowledge sharing as well as the implementation of personalized medicine applications such as pharmacogenomics and diagnostics.

All in all, look for Big Pharma to become leaner and more nimble with its operations, focusing heavily on new and innovative R&D strategies. Additionally, Big Pharma will continue to focus its M&A on later stage compounds and companies, as well as more tailored therapies with specific sub-populations in order to mitigate risk and create a higher likelihood of success in clinical trials and regulatory approval.

Related Research: Global Healthcare Policy Analysis 2012 – Regulatory, Pricing, and Reimbursement Assessment This expert insight was written by Michael Leibfried, GlobalData senior analyst for healthcare industry dynamics. For more information, or to enquire about an interview, pleased contact our press team on the number below.


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