Article: Drug Spend Management

Securing The Lowest Net Cost PBM Contract

A Buyer’s Guide to Negotiating, Executing, and Validating a Beneficial Agreement 
Terrance Killilea, Pharm.D.
USI Insurance Services
Scott Haas
Senior Vice President
USI Insurance Services

Most health and welfare benefit plans are subject to the Employee Retirement Income Security Act of 1974 (ERISA) or the Public Health Service Act (PHSA), which protects the interests of employee benefit plan participants and their beneficiaries. ERISA and PHSA establish standards of conduct for plan managers and other fiduciaries. The Consolidated Appropriations Act (CAA) effective December 27, 2021, adds multiple requirements on ERISA and PHSA health plan sponsors that cannot be ignored. A key defense to scrutiny from the U.S. Department of Labor is demonstration that service providers and plan professional evaluation and contracting is performed using objective strategies in the interest of plan members.

Pharmacy Benefit Management (PBM) contracting is a popular area for discussion among an emerging core of experts and innovative solutions. The problem, fiduciarily and fiscally, is that almost all discussion highlights processes that lack fiscal discipline and sustain the vague elements that are causing cost excess. These include:

  • Reliance on pass-through or transparency alone to secure low cost.
  • Reliance on a process (“steer to the best price”, good pricing on a limited number of generics, high rebates when claim pricing discipline is absent) instead of disciplined procurement math.
  • Assuming innovation is a cure…without establishing defined pricing.

The approaches mentioned above are all well intentioned. However, these offer NO VALUE unless disciplined fiscal analysis/cost projection is performed with defined pricing. This essential component is only achieved by demanding and securing objective pricing for ALL elements of cost prospectively and quantifying formulary rebates in a dependable, verifiable manner. Before any contract is evaluated and/or executed, the following processes must be utilized…it is just routine procurement accounting.

Claim Cost

 In recent years, focus has intensified on PBM pricing and contracting. There have been numerous phrases and strategies put forth to assure the client and member are not paying excessive cost. Unfortunately, NEARLY ALL of these fail to provide the basic accounting a health plan administrator/fiduciary requires to assure an optimal fiscal arrangement was achieved through prudent, disciplined procurement methodology…and to secure the best financial arrangement possible.

Pass-through and transparency are two commonly heard PBM solutions.  Phrases like, “Steerage to the best price” and use of various databases such as NADAC are common strategies as well. The large problem with these terms is they fail to establish and adhere to BASIC accounting principles.

Tenet # 1: ALL elements of pricing MUST be prospectively stated in objective defined terms for every possible cost of the prescription plan (note: any use of AWP-X% for generics fails this requirement).

 Tenet #2: If Tenet #1 is not adhered to, ANY cost reduction projection has no objective basis, no value in assessing fiscal impact of a proposal, and cannot be truly measured and/or validated.

Calling an arrangement pass-through or transparent and still relying on AWP-discount pricing for generic drugs or vague terms such as 100% pass-through for rebates fails to comply with standard procurement processes for projection and validation of costs. Assuring a patient is steered to the best deal, when there is not a contracted fixed schedule for EVERY cost factor, leaves open vast undefined territory which will not only allow massive cost excess but also no method of disputing the pricing.

The solution is basic. Establish objective contracted pricing for EVERY element of prescription pricing:

  • Generic Pricing: Must be based on a $/unit schedule for every generic, based on Generic Product Identifier (GPI) (not National Drug Code (NDC)).
  • Include ALL generic oral specialty medications with more than 2 manufacturers in generic unit pricing. This eliminates a common source of massive cost excess. If a drug is generic it cannot be classified otherwise such as in a broad AWP-X% specialty drug arrangement.
  • Brand pricing can be contracted at AWP-X% because there is usually only one manufacturer. Stating AWP source in the contract is valuable but has less fiscal impact than some have stated. More important is defining which claims are included/excluded in the brand pricing guarantee.
  • Each specialty brand drug, and there are many, MUST have its own AWP-X% discount. The common terminology, “Specialty Drugs to be priced at AWP-X%,” leaves a great amount of leeway in pricing and validation of achieving the stated discount. As stated above, generic specialty medications must have a fixed $/unit for each GPI.
  • Dispensing fee is a minor fiscal factor, anything less than $1 per claim will have minor impact. The possibility exists for high dispensing fee to be used to pad margin, so it must always be included in claim cost modeling and projection.
  • Administrative Fees, while once a rarity, have made a significant comeback. A PBM may offer what is considered competitive pricing (although subject to variation, per above), but add an administrative fee of $5/Rx, $10/Rx, or more. These MUST be factored into fiscal impact calculations. It is deceptive to claim low claim cost and not disclose that the final contract will have a $10/Rx administrative fee.


That is it for claim cost…it is not complex. The complexity for analysis occurs when vague terms, such as pass-through, are utilized and/or when generics are priced using AWP-X% metrics.

Tenet # 3: If a plan sponsor (fiduciary) allows generics to be priced at AWP-X%, ALL cost modeling and projections are not credible.  

It is very common to retrospectively assess what was stated (marketed) as a good fiscal deal (often due to high rebates) and find cost reduction was eradicated by excessive generic pricing. For example, $50 PEPM gained in rebates, but $125 PEPM in cost excess of generics is experienced. This is common.

The equation for plan cost is simple…Ingredient Cost + Dispensing Fee + Administrative Fee = Claim Cost.

For any prospective or concurrent assessment, Rx claims data provide information to determine:

  • If the PBM pricing is competitive, and
  • Where claims cost excess exists (rebates are discussed in Chapter 2).


Every entity paying for a PBM program should receive a full Rx claims file, with all pricing elements, for analysis at least monthly. There is no reason a PBM should ever not adhere to this requirement for any reason. There are very few (no) industries where payments the size of PBM prescription reimbursement is made and there is not a granular analysis of payment.  Certainly, none where there is no linking of pricing to claim payment. The data are yours. Do not accept otherwise.

Pricing Elements: Generic Pricing

As mentioned above, ALL generics must have a specific $/unit defined in the PBM/plan sponsor contract. Some refer to this as a Maximum Allowable Cost (MAC) list. Terming it a fixed unit cost schedule is more accurate. Regardless, this schedule, established thoroughly and properly, will eliminate cost excess in generics and shut off a common source of recapturing funds provided in rebate terms.

The following are observations commonly found where AWP-X% pricing is allowed:

  1. Large variability in $/unit within pharmacies, within the same day or week. It has been observed where the same generic was priced at $0.30 per unit one day at a specific pharmacy and priced at $0.75 per unit the next day, same pharmacy. This is more common than buyers recognize.
  2. Higher prices where the guaranteed AWP-X% discount is greater. It is not uncommon to have an arrangement where mail order is priced at AWP-89% and retail at AWP-84%, but the majority of generic drugs are priced at a higher $/unit at mail than retail.
  3. Higher $/unit pricing when a new arrangement increased the AWP-X% discount. Yes, you read correctly, this is not rare.
  4. Large growth in overall $/unit, across the board. Along with the variability, the trend for cost excess often increases over time. The $/unit for a given generic moves from $0.30 in Q1 of a year, to $0.50 (Q2), to $0.70 (Q3). This is not for a specific pharmacy, this is the mean $/unit for a specific generic over 3 quarters. Unless AWP-X% pricing is eliminated, this growth can occur at ANY time, with very little avenue for dispute, because of the variability of AWP-X% in generics.

Conversely, when a fixed $/unit schedule is utilized, there are several large advantages:

  • Competitive bidding lowers the $/unit price on generics…specifically and across the board.
  • Specific modeling of future costs (impossible under an AWP-X% contract for generics) is performed and utilized for validation of pricing and plan costs.
  • New and recent generic entries are negotiated down and $/unit improvements are applied to all clients utilizing the unit cost schedule for a given PBM.
  • Oral specialty generic drugs are unit priced, often reducing costs by over $40K per year for a given course of therapy. Although the brand was originally $70K per year, numerous generic manufacturers can reduce the cost of a generic version to less than $1K per year.
  • The very low pricing secured for most generics lowers the cost to the member at the point of sale. Lowering the cost of medications has been shown to be one of the most assured methods of improving adherence to drug therapy and securing a positive medical outcome.


The lack of unit cost pricing for ALL generics is the most common and most substantial cost excess seen in PBM contracting. This excess occurs in traditional arrangements and those that are touted as cutting edge. This cost excess is allowed because there is no fixed unit contracted pricing for generics. A prospective $/unit pricing schedule, established in the PBM contract, is essential.

Objective pricing, for all components, is basic rudimentary procurement. Processes outlined in fundamental publications such as those of the National Association of State Procurement Officers (NASPO) ( require each cost element to be objectively defined to produce a model. Allowing AWP-X% for pricing of generics, even if the contract states pass-through, transparent, “steered to the best price,” or any other permutation, allows a subjective element of pricing which makes accurate projections and accounting impossible.

An objective ($/unit) price for EVERY generic entity must be presented in the proposal and integrated into the executed PBM contract. Validation of adherence to this is not difficult using data warehouse strategies. A very powerful link of contracted $/unit and validated pricing is created.

Pricing Elements: Non-specialty brand pricing

For these medications, a price based on AWP-X% is allowable because there is usually one drug manufacturer and the AWP is similar from one PBM to another for any given date.

There are areas to manage though. Included in these are the source of AWP, the package size utilized in pricing, identification of claims included (or excluded) from the guarantee, etc. Detailed modeling and analysis of these factors revealed minor fiscal impact (compared to vague generic pricing) when these were not managed. However, addressing them to the benefit of the plan sponsor is prudent. AWP source (for brands) continues to be stated as a driver of major cost excess (as with other concepts, the factor sounds significant). Detailed modeling for numerous clients have not found this factor to be a significant contributor to cost excess. The largest area of focus (in this area) should be the contracted AWP rate at mail/retail 90 vs. retail.

In contract negotiation, a greater AWP discount for brand drugs is always superior. Mail order and retail 90 claims often have a 4-7% superiority in AWP discount. Somewhat contrarian, the actual impact of improving baseline brand pricing by 1-3% (AWP-18% to AWP-20% retail) does not generate a large amount of cost reduction. However, the greater discount for brands, the better. This is incorporated into the overall cost model and retrospectively validated.

Pricing Elements: Specialty brand pricing

Require that all oral generic specialty drugs are included in the generic $/unit pricing schedule…no exceptions. Thus, the focus can be on specialty brand discounts.

General statements such as “Specialty drugs to be priced at AWP-20% on aggregate” allow for large cost variance/excess. Optimally, a pricing schedule with an AWP discount for each brand product should be established in proposal analysis and contracting. The reason for this is that the AWP discount allowed by the marketplace for specialty brands varies. Some limited distribution medications may be AWP-8% while common specialty brands should be priced at AWP-20% or better (40% for clotting factors). Blending these products for a single discount price, particularly when they have such high AWPs, is unwise. Accurate cost projection and validation demands a line-item price schedule.

A case example is trying to validate and confirm adherence to a global discount when there are an array of medications ranging from AWP-8% to AWP-22%. Is the guarantee in aggregate, individually summed, or some other roll up? Having a specific pricing schedule eliminates this vague aspect and provides granular competitive analysis of this very costly (and growing) area of medications.

Pricing Elements: Dispensing Fee

This is a very minor fiscal factor. The fact there is $0 dispensing fee in any channel of distribution is nearly meaningless in the large fiscal analysis. However, dispensing fee should be included in analyses.

Tenet # 4: Always demand all administrative fees be included in the cost impact model presented by consultants and/or PBMs.

Pricing Elements: Administrative Fee

Until recently, this was an area (admin. fee) where there was usually $0. The administrative fees observed in the recent past were almost always the fees included for consultant work (a good method to assure it is above board) and an occasional nominal revenue enhancement for the PBM.

However, with the onset of more aggressive pricing strategies (albeit not using a $/unit schedule for all generics), administrative fees for the PBM ranging from $5 to $10 (or higher) are common. They must be factored into prescription claim cost projections. It is common to see cost reduction presented, but the administrative fee (often exceeding the cost of a majority of generic claims) is excluded from the analysis and cost projection.


Unfortunately, consortiums and coalitions rarely address all the issues outlined above. Great deals are touted as providing superior rebates when the $/unit cost for generics is very high (across the board) and there remains over $100 PEPY in cost excess (even when generics are AWP-90%!). A large consortium or coalition DOES NOT ensure that good pricing exists. In fact, pricing may be very poor because there is not the essential element of competition in securing contracts.

Tenet #5: There are two elements essential to securing a PBM contract void of cost excess: 1) every pricing element is defined in objective terms, no exceptions, and 2) true competition (no inkling of likely winning bid) based on fiscal assessment using the objective modeling.

A PBM cannot assume it has an in to win a piece of business (as with coalitions and consortiums). This yields poor pricing. Size does not achieve good pricing, rigid adherence to procurement discipline does.

Once all aspects of pricing are secured using the requirements above, projected fiscal impact can be modeled and determined (of course a plan has been provided complete untethered access to all claims data, so this will not be a problem!). Assembly of all cost drivers creates an objective model of future pricing and costs. Only then can accurate models be created integrating changes in utilization, inflation (or deflation with generics) factors, population mix, or other actuarial elements. Equally important, only then can the value of formulary rebate proposals be assessed on a global impact basis.

Much of the routine rigor presented above is lost in current discussions (sales presentations) where transparency and/or pass-through pricing becomes the focus. In addition, operational elements such as steerage to a low cost pharmacy or use of some public pricing metric are interesting, but DO NOT establish low pricing that can be assured for months. The variability of ALL claim pricing must be eliminated through procurement rigor and succinct objective pricing terms in a PBM contract.

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