+ Why do drugs cost so much?

Although the chemical ingredients for each mass-manufactured pill cost only pennies, retail prices are hundreds -- even thousands -- of times greater. Drug companies argue that the high prices reflect the costs of the years of research and development necessary before a new drug makes it to market. According to industry spokesperson Marjorie Powell, it costs an average of $800 million and takes 12 to 15 years before a new medicine makes it to drug store shelves.

Typically, drug discovery begins with an idea for a new disease target, often licensed from a university laboratory or biotech company. Then, industry researchers start sifting through tens of thousands of compounds, looking for one that will hit the target. Next they test the candidate drug in animals, to look for toxic side effects. If it is toxic, the scientists must go back to the drawing board and start all over again. Only one out of 50 drugs pass this stage and make it to clinical trials in humans. These trials are the most expensive phase, eating up 75 percent of development costs. For every five drugs entering clinical trials, one will make it to market.

Two major studies support Powell's assertion that the R&D costs of new drugs are close to $800 million. Most often cited is a November 2001 report from the Tufts University Center for the Study of Drug Development, which found that the total costs of R&D to bring a new drug from discovery to FDA approval for marketing is $802 million. (In March 2003, researchers expanded their conclusions by adding post-approval R&D costs -- studies of long-term safety and effectiveness, for example -- and came up with a total of $892 million per drug.) Another study from May 2000 by the Boston Consulting Group estimated the cost at $880 million.

Consumer groups have taken issue with these estimates. Ralph Nader's Public Citizen issued a critique in its 2001 report "Rx R&D Myths," (PDF) asserting that the costs per drug were closer to $100 million. The Tufts study, they said, included tax deductible costs and opportunity costs in their estimates, leading to a falsely high total.

+ If Congress passes a Medicare prescription drug benefit package, how will it affect prices?

Skeptics of the proposals currently before Congress say none of them confront the fundamental issue -- Americans continue to pay the highest prices in the world for prescription medication and the federal government has been unwilling to look at discounts. Without getting lower prices for the medications there will not be adequate benefit for all the people who need it. Moreover, say the skeptics, many people won't be better off with Medicare coverage because of the deductibles and co-payments being considered in the congressional bills.

But other observers such as Richard T. Evans, a senior research analyst of global pharmaceuticals at Sanford C. Berstein & Co., see passage of a drug benefit bill as a big blow to the drug industry because it will give the federal government power to dictate drug prices.

"The industry is clearly worried about government buying most of the market," Evans tells FRONTLINE. "Better the government buys it through a bunch of private agents. But at the end of the day the effect is ultimately the same -- if we've got a downturn in the economy and the government is responsible for the drug bill, then they'll tell those private agents to get me a lower price and the reality is the government will have the power to make that happen. Honestly, I don't think it matters if you're buying though private agents, the states, whatever. If you buy half the market, you set the price."

+ Why is prescription drug spending rising so rapidly?

Although prescription drugs account for only about 10 percent of America's health care costs, spending on these drugs has been rising far more rapidly than other health care componants. From 1995 to 2000, total retail prescription drug spending more than doubled, from around $65 billion to roughly $132 billion annually. Much of this increase is due not to price increases, but to a higher rate of drug use. As more people live longer and as more beneficial medicines are developed -- particularly for chronic conditions like AIDS and asthma -- prescription drugs have become a larger and larger part of the health care system.

Critics of the industry argue that in addition to consumers' increased use of medications, drug spending is rising because the companies are raising prices to increase profits, and spending more on advertising and marketing expensive brand name drugs to doctors and patients.

+ How profitable is the pharmaceutical industry?

The pharmaceutical industry is one of the most profitable business sectors. In 2002, Fortune 500 drug companies made profits of 18.5 percent profit, while the median profitablity of all Fortune 500 companies was around 3 percent. The industry maintains that these high profits are needed to continue the very expensive, high risk development of new drugs.

+ What percentage of industry revenue is spent on R&D? How much is spent on marketing and advertising?

Uwe Reinhardt, an economist who studies the U.S. health system, says that R&D accounts for about 13 percent of pharmaceutical companies' revenue. Twenty-eight percent, he says, is spent on manufacturing, packaging and quality control, and 13 to 15 percent on administration and marketing.

Since companies are not compelled to make public a breakdown of their marketing and advertising costs (almost all companies combine administration and marketing costs), it's hard to pinpoint a figure for marketing expenditures. Industry spokesperson Marjorie Powell estimates that drug companies spent twice as much on R&D as on ads and marketing -- roughly $15 billion in 2002 on advertising and marketing, and about $30 billion on R&D.

However, industry critic Marcia Angell reverses that ratio, estimating that the industry spends about twice as much on marketing as they do on research. She tells FRONTLINE, "by their own figures, over a third of their employees are in marketing. Not marketing administration, but marketing. So I think it's safe to conclude that somewhere on the order of 30 percent -- over twice the R&D costs -- are marketing."

+ Why are prices lower in other countries? How much lower are they?

Prices are lower elsewhere because most countries impose price controls on prescription drugs by mandating bulk discount rates or other regulatory mechanisms. For example, on average, Canadians pay 60 percent of American prescription drug prices. The U.S. is virtually the only market where prices are unregulated.

+ What would happen if the U.S. instituted price controls on prescription drugs?

If state and federal programs lead to price controls, drug companies and outside experts on the industry such as Uwe Reinhardt and Richard T. Evans say that it will diminish the return on research and development. Consequently there would be less research and development and fewer new products.

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posted june 19, 2003

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