People have griped about prescription drug prices for years. Soon, Medicare plans to do something about them. But experts following pharmaceutical and biotech stocks warn of unintended consequences. They're sounding the death knell for drug company profits, innovation — and patient care.
The groundbreaking change in how Medicare buys drugs could threaten the coffers of big drug developers such as Pfizer, Bristol Myers Squibb and Johnson & Johnson, industry watchers say.
Under the Inflation Reduction Act, or IRA, the Centers for Medicare and Medicaid Services plans to negotiate the prices of the most expensive medicines the agency buys. The first round of new price changes goes into effect in 2026. In later years, the agency will negotiate the prices of an accelerating number of drugs under the act.
While President Joe Biden hopes the IRA keeps Medicare solvent for another 25 years, pharmaceutical and biotech experts say the 2022 law will severely limit medical research and development. Simply put: With fewer earnings to invest back into research, drug companies will have to be picky about how and whether they innovate.
"The number of future cures that aren't going to happen because of this, it's impossible to calculate," said Brad Loncar, chief executive of Loncar Investments. Loncar provides the indexes for two exchange traded funds focused on biotech stocks. He told Investor's Business Daily that the IRA is "the most damaging piece of legislation to medical research" he's ever seen.
Prescription Drug Prices In Crosshairs
Others say the change in drug pricing is long overdue.
For an industry with a powerful lobbying arm that has managed to stave off price negotiations for decades, it's easy to say the sky is falling, says Harry Nelson, co-chair of the Adaptive Health Capital board. Nelson is also an attorney and health policy expert. Adaptive Health Capital provides financial and strategic support to health care entrepreneurs, investors and companies.
Some patients are stretching their meds by cutting pills and injections in half or skipping doses entirely, Nelson says.
But innovation dying off due to the IRA? He laughs.
"The suggestion that innovation is going to dry up just because we make the pricing a little more competitive is ridiculous to me," Nelson told IBD.
Biotech Stocks And The IRA
Much is still unknown about how the IRA will play out when it comes to drug prices. Three provisions will impact pharmaceutical and biotech stocks, says Michael Levesque, a Moody's Investors Service analyst. One has already been implemented.
Beginning April 1, some Medicare beneficiaries began paying less for 20 Part B drugs as part of a rebate program. Part B drugs are generally given by medical professionals.
The price increases of these 20 drugs have outpaced inflation. The list includes well-known drugs like AbbVie's immunology blockbuster Humira and a cancer drug from Seagen called Padcev.
Health and Human Services estimates beneficiaries will see per-dose savings from as little as $1 to as much as $372 through the end of the program on June 30. The list began with 27 drugs. Later, an updated list dropped drugs like Gilead Sciences' cancer meds Yescarta and Tecartus from the roundup, according to health care publication Endpoints.
The IRA also caps out-of-pocket costs for seniors buying Part D drugs at $2,000 a year. Part D drugs are self-administered like pills and some injections. That starts in 2025. Moody's Levesque says that will have a small impact on biotech stocks.
"Prior to the IRA, with these really expensive drugs, technically seniors were paying 5% of those costs uncapped," he told IBD. "The IRA will cap all of that at $2,000. The manufacturers will have to fund some of that themselves."
September Looms For Biotech Stocks
The heavyweight hitter of the IRA, though, comes through Medicare negotiations.
Holders of pharmaceutical and biotech stocks bracing for Medicare negotiations won't know more until September. That's when officials will put out the list of the first 10 drugs up for price negotiations. The new prices will launch in 2026.
During the first two years of the new law, only Part D drugs will be subject to price adjustments. Beginning in 2028, Medicare will loop in Part B drugs.
Medicare officials laid out the rules for negotiating in a lengthy document.
Howard Deutsch, principal partner at consulting firm ZS Associates, says the document left him with more questions than answers. A big one: How will Medicare determine the minimum price it's willing to pay for a negotiated drug?
"The statute specifies a maximum possible price, but not a minimum price," he told IBD. "How are we going to figure out in advance whether the negotiated price is going to be at the ceiling or at a penny or anywhere in between?"
Biotech Stocks: What Will Medicare Consider?
Richard Hughes, an attorney at law firm Epstein Becker Green, says CMS officials will likely consider a drug's clinical benefit, how much a company spent to develop the medicine and unmet need in the market. Hughes is the former vice president of policy at Moderna.
It's also unclear which drugs will be on the initial 2026 hit list. The answer could hammer both biotech and pharmaceutical stocks.
Levesque thinks he knows which drugs could be on the first list. By gross spending, the most expensive Part D drug for Medicare is Eliquis, a blood thinner from Bristol Myers and Pfizer, he said in a recent report.
Behind that are Bristol Myers' cancer drug Revlimid and J&J's blood thinner Xarelto. Others are drugs from AbbVie, Eli Lilly, Merck, Sanofi and Novo Nordisk.
Some drugs face a notable caveat. If they're due to face off with a generic or biosimilar within two years of their inclusion on the negotiating list, they can request a delay.
Small molecule drugs — most pills and tablets — could be up for negotiation seven years after approval with the new price launching two years after that. Biologic drugs have 11 years before they could land on the CMS list. That puts the new price at 13 years following approval.
Pharmaceutical Stocks: Some Patients Are Struggling
Proponents say steep cuts to drug prices are long overdue.
"Even before the pandemic, we had a problem in terms of the affordability of health care and drugs for many, many people," said Adaptive Health's Nelson. "There were a lot of stories about people who were cutting their prescribed amounts in half, breaking pills apart because they couldn't afford the medicine prescribed to them."
The pandemic led to a number of subsidies that helped people. Now, those subsidies are disappearing. With that, awareness is growing that some people struggle to afford their medicines.
In an October survey from the Kaiser Family Foundation, eight in 10 adults said the cost of prescription drugs is unreasonable. Almost seven out of 10 said they could afford their medicines, however.
Biotech Stock Innovation Drives Prices Higher
To that point, Nelson notes that drugs are getting more expensive. Part of that is due to incredible innovation.
"We're living in a time of really exciting drug developments with small molecule drugs, with all these new diabetes drugs, immuno-oncology drugs," he said. "So, there's all these scientific breakthroughs. Each drug that comes out for a specific condition is more expensive than the last. The irony is that the scientific breakthroughs are driving constantly more and more expensive drugs."
Meanwhile, biotech stocks continue treading water. The 800-company biotech industry stock group recently retook its 200-day moving average line after initially falling around the time CMS gave more clarity to the IRA provisions. The group also just moved above its 50-day line, indicating an improvement in recent trends, according to MarketSmith.com.
The drug pricing changes will have an equally earthshaking impact on pharmaceutical stocks, experts say. IBD places 39 pharmaceutical stocks in two industry groups.
Performance Of Pharmaceutical Stocks
The Medical-Ethical Drugs industry group includes big pharmaceutical stocks like Pfizer and Merck. It now ranks No. 39 based on six-month performance out of 197 groups IBD tracks. The stocks have been on the rise recently and have a Relative Strength Rating of 85, putting their 12-month performance in the top 15% of all groups.
The Medical-Diversified industry group, led by Eli Lilly, also has risen recently. But the industry has a lower RS Rating and ranks just No. 109.
According to Matt Wetzel, a partner at the law firm Goodwin Proctor LLP, drugmakers will have 30 days to respond to Medicare's initial offer. But Medicare doesn't appear to have any limits or restrictions on whether it will accept, reject or simply ignore the counteroffer, Wetzel said in an online post.
Loncar, the ETF indexes provider, doesn't mince words. He says this won't be a negotiation.
"It's kind of like negotiating with the mob," Loncar said. "You have two choices: Do you want to get whacked or negotiate with us? That's not real negotiation when the alternative is to get punched in the face. Really, what it is, is the government setting the price of the drugs."
R&D Investment In New Drugs
As a result, companies will see lower revenue and profits, experts say. They will have less to invest in bringing the next drug innovation to market, Loncar says. And pharmaceutical and biotech stocks could take a long-term hit.
"If you have government price controls of any industry — ours included — it will totally chill that industry and lower the innovation, creativity and risk-taking of people in that industry," Loncar said. "If it's implemented the way the law is currently written, it's going to have a huge impact on our industry."
He offers a key example in cancer drugs. The IRA currently states that drugs face lower prices nine to 13 years from the time the active ingredient is first approved. Most cancer drugs are first developed for rare forms of the disease or very sick patients. It's often easier to prove a drug's benefit in a sicker group of patients. Then, companies test them in bigger populations.
This new law could totally flip that script for pharmaceutical and biotech stocks, and leave the sickest patients in the lurch.
"It's not going to make financial sense for them to develop drugs for rare indications like that because it would be impossible to make money if the clock starts as soon as you get it approved and you're on the market for something that's not a big market to begin with," Loncar said.
Innovation At Biotech Stocks
It's a simple math problem, says Deutsch, the ZS Associates principal.
"From an R&D standpoint, you're going to easily see two things," he said. "Big picture: One, you're going to see fewer things come to market. Fundamentally, if you reduce the value of an opportunity, then you should expect to see less of it."
Further, companies will shy away from small molecule drug development — like pills to control cholesterol, blood pressure, diabetes and other maladies that tend to increase with age. Generally, drug sales take a hit after 14 years on the market when their patents expire, opening a lane for generics. That nine-year clock under the IRA gives companies less time to recoup the costs of developing a drug and ultimately profit from it.
Bill Melville, an analyst with research firm Clarivate, says fewer early-stage efforts will pass muster.
"If you're the pharmacy manufacturer that produces the next blockbuster Alzheimer's drug, that's going to be worth a lot," he said in an interview. "Is that going to be something you shy away from? I don't know. There may be some drop-off on drugs that don't do so well in clinical trials. They might get scuttled a little earlier than they would have in the past, just to cut losses."
Drug Industry Mergers And Acquisitions
Still, there's a clear appetite for innovation, the lifeblood of biotech and pharmaceutical stocks.
Levesque says companies will need to be clever. The drug price controls will be similar to a patent cliff. It's an earlier reduction in revenue.
"It's not a new dynamic, it's an acceleration of the time frames and the level of pricing the companies will have hoped to achieve," he said. "Because it's not a new dynamic — just impacting the timing — the strategies to deal with it are similar to the strategies companies have used with patent cliffs."
He expects to see more mergers among biotech companies. Two recent examples come to mind: Amgen is spending about $28 billion to acquire Horizon Therapeutics. Pfizer plans to spend $43 billion on the takeover of cancer specialist Seagen. Levesque says both deals were likely strategic decisions due to the IRA.
Merck also recently announced a $10.8 billion acquisition of Prometheus Bio, which has a late-stage drug in testing for inflammatory bowel disease.
Insulin Makers Voluntarily Drop Prices
The drug pricing debate has seen several flashpoints recently.
The three biggest makers of diabetes treatments — Eli Lilly, Sanofi and Novo Nordisk — recently unveiled steep cuts in the prices of some of their insulin products.
The decision follows tremendous legislative and public pressure and stories of insulin-dependent diabetics experiencing extreme outcomes of skipped medication. Levesque says health care observers applauded the biotech stocks when they cut insulin prices.
In a March report, he said the reductions spanned 65%-78% across the three companies. They will take effect in January, Levesque says. He notes net prices for insulin are actually already low for drugmakers. The list prices include a number of rebates and discounts.
"The financial impact will be mitigated by strong growth in non-insulin products for all three companies," he said.
Lilly and Novo are bolstering their next-generation efforts in diabetes and obesity treatment, while Sanofi leans on immunology drug Dupixent. The latter is in partnership with Regeneron Pharmaceuticals.
Biotech Stock Moderna Under Pressure
On the flip side, several senators took Moderna Chief Executive Stephane Bancel to task in a mid-March hearing over the proposed price increase of the company's Covid vaccine. The company plans to price its vaccine at $130 per dose after the U.S. public health emergency ends in May, according to Reuters. That's more than four times what the U.S. government paid per shot in 2022.
Pfizer has proposed a similar price for its BioNTech-partnered Covid vaccine, the Associated Press reported. But senators noted Moderna received $1.7 billion in federal funding to develop its vaccine.
"It's difficult for me to accept that the profits you are reaping on the backs of the American taxpayers are necessary or reasonable," Sen. Tina Smith, D-Minn., said during the hearing. "It feels like a bonanza to me."
Hughes, the attorney and former Moderna VP, says the hearing may have been a cautionary tale for young biotech companies about accepting federal funding. That political pressure — on top of the looming IRA changes — could also dampen innovation among biotech and pharmaceutical stocks.
"What is the next company with that next undiscovered platform technology that potentially provides a solution in the next pandemic and brings it rapidly to market?" he said. "They're going to look at this and say, 'Well, we don't want to get dragged in the market like that.' "
The Congressional Budget Office expects the IRA provisions to lower the federal deficit by $238 billion over a decade. But there's no guarantee all consumers will see lower drug prices across the board.
Drug Price Cost Shifting
Melville, the Clarivate analyst, says the price drops to Medicare-covered drugs could trickle down to the commercial market. But Robert Andrews, CEO of Health Transformation Alliance, expects costs to shift instead. HTA is a cooperative of employers using value-driven metrics to drive health care decisions.
"There will be a shift to costs to commercial insurers," Andrews said. Drug companies "will get more (revenue) by selling to an employer or consumer through an insurance plan. I'm concerned it may shift the burden from one group of payers to the other."
Andrews previously served in the House of Representatives and is credited as "an original author of the Affordable Care Act." He says Medicare should, but probably won't, take into account the ultimate value of a drug to the health care system when negotiating the price.
"How much money does this save in managing health care?" he said in an interview. "You can quantify how many days a person doesn't spend in the (intensive care unit), how many trips they don't have to the emergency room (and) how many days of work they can go to instead of going home sick."
He added: "I think that there's a concern that the negotiations will be solely fixated on price, which I think is a mistake."
Follow Allison Gatlin on Twitter at @IBD_AGatlin.
