Advisory Opinion to Cronin (05-19-99)

May 19, 1999

John A. Cronin, Pharm D., J.D.
Fredrickson, Mazeika & Grant
550 West "C" Street
Suite 1410
San Diego, California 92101

Dear Mr. Cronin:

This letter responds to your request on behalf of the Orange Pharmacy Equitable Network ("OPEN") for an advisory opinion concerning OPEN's intention to establish a network of independent community pharmacies and pharmacists. The purpose of the network will be to provide what you describe as a "coordinated product that includes both drug product distribution and disease management services"(1)to managed care organizations or groups of physicians that are at risk for provision of medical services and prescription drugs. As is discussed below, OPEN's proposal appears to present an innovative approach with the potential for significant procompetitive benefits, and Commission staff have no present intention to recommend a challenge to OPEN's undertaking negotiations to develop the specific structures necessary to implement the model it has proposed.

OPEN was established in 1996 and currently operates as a "messenger" in facilitating individual contracts between its members and CAL-OPTIMA, a program organized by Orange County to provide health care services to Medi-Cal eligible individuals. In addition, OPEN intends to market a network that would provide disease management services on an at-risk basis similar to that approved in a 1997 FTC staff advisory opinion to the New Jersey Pharmacists Association.(2) You have advised us orally that you do not seek an opinion as to these activities of the network, and accordingly, this letter does not address them.

The focus of your request is on OPEN's plan to market a "hybrid"network that would provide both drug distribution and disease management services under a single contract to be negotiated and executed by OPEN on behalf of its members. You describe this hybrid network as a vehicle for integrating management of medical and pharmacy benefits in the interest of reducing overall medical costs incurred by a covered population. As I understand your proposal, the network is intended to link drug prescribing, dispensing, and patient education/disease management services in a structure in which the prescribing doctors, the dispensing pharmacies, and the disease management pharmacists would share common economic incentives to work together to manage drug therapy in the interest of reducing overall medical care costs (rather than simply pharmacy costs standing alone).(3) The network would contract with HMOs or IPAs or physician groups that are at risk for pharmacy costs, and would share with those entities savings in overall health care costs that resulted from improved drug prescription and utilization.

The plan includes "pharmacy care" services by certified disease management pharmacists and expanded functions for pharmacists working under physician protocols that are permitted under California law.(4) Disease management services are most commonly provided to patients with diabetes, hyperlipidemia, hypertension and asthma -- chronic diseases that are often treated with prescription medications, and in which problems with drug compliance or drug tolerance can be expected to result in the need for more expensive acute medical interventions. OPEN expects that monitoring of patient compliance with prescribed medication use, and adjusting medications to address problems with medication compliance, will improve treatment outcomes and reduce expenditures for emergency room visits, hospitalization, and other medical care in an amount greater than any increase in prescription drug costs.

In addition, OPEN expects that the network will enhance the effectiveness of common drug cost containment vehicles, such as drug formularies, preferred drug lists, and step therapy, by encouraging and facilitating cooperation between pharmacists and prescribing physicians in developing these strategies, as well as by providing greater incentives for pharmacists and physicians actively to implement them.

The overall intent of the proposed program is to encourage appropriate drug usage by involving all three groups -- pharmacies, pharmacists, and the physicians -- in developing and carrying out drug usage protocols designed to improve prescribing, dispensing, and medication use. The pharmacists would work with the physician groups to develop formularies or preferred drugs lists and to encourage prescribing patterns that, for example, promote appropriate use of expensive new medications as well as continued use of less expensive substitutes in cases where older drugs are equally effective. OPEN also expects that pharmacists and the physicians would jointly develop procedures and protocols for pharmacist monitoring of adherence to the drug list, pharmacist monitoring of patient compliance with prescribed therapies, and provision of disease state management services. This integration of pharmacy and medical management would be facilitated by the sharing by the pharmacies, pharmacists and the medical group in savings realized on the whole spectrum of medical care costs.

OPEN believes that bundling the disease management and drug benefit services into a single product will provide a number of benefits. First, it will facilitate coordination of pharmacy medication usage records with compliance monitoring by the pharmacist disease managers. Patients' access to disease management services will be integrated with access to the prescribed medications, permitting, according to your letter, the disease manager to better monitor therapeutic outcomes, adverse effects, and compliance, and to make timely adjustments in drug therapy. While pharmacist disease managers will not be required to own or be employed by a participating pharmacy, they will be required to coordinate provision of disease management services with network pharmacies.

Second, the network states that it is necessary to include dispensing services in the network in order to encourage coordination and discussion by all network participants, and to provide pharmacies and their pharmacists with financial incentives to work with doctors on formulary development, preferred drug lists, and step therapy protocols. In addition, the system would provide financial incentives for the dispensing pharmacists actively to implement generic substitution and formulary policies, to monitor prescription patterns for particular patients in order to assure that necessary refills are being ordered, and to identify problems arising from multiple prescriptions or suboptimal dosages, rather than to dispense the most profitable drugs or the greatest possible number of prescriptions. 

OPEN's member independent community pharmacies comprise 40-45% of the pharmacies in Orange County. However, you estimate that they dispense less than 20% of the total volume of prescription pharmaceuticals in the county.(5) You have stated that there are many competitors for contracts with managed care plans, including individual pharmacies, other independent networks, networks established by pharmacy benefit management companies, chain drug stores, supermarket chain pharmacies, and mail order pharmacies.

All OPEN member pharmacies in Orange County will be eligible to participate in the network. In addition, the network may subcontract with chain or other non-network pharmacies or pharmacists as necessary to meet coverage requirements of plans it contracts with, particularly for dispensing services during hours when network pharmacies are not open. There will be no restriction on the ability of pharmacies to participate in other networks.

OPEN does not intend to perform claims processing or other administrative functions, but will contract them out to an independent pharmacy benefit management company.

As far as can be determined, the type of arrangement proposed by OPEN has not been implemented anywhere in the country. OPEN believes that the details of network operation and compensation can be worked out only in negotiations with individual payers or physician groups -- negotiations that the network has not yet undertaken. Thus, OPEN has been unable to provide us with a definite plan for how compensation for network participants would be structured. However, it anticipates that, in general, pharmacies would be paid for drug dispensing and compliance monitoring services, and pharmacists would be paid for disease management services, according to a relative value scale jointly developed by OPEN, the physician group, and the pharmacy benefits management company. A withhold from the payment for drug product dispensing would be placed in a risk pool, along with savings realized in budgeted expenses for drugs (due to increased compliance with the drug list) and savings in expected average medical costs (due to increased drug compliance and disease state management). The funds in the risk pool would be shared between OPEN and the physician group according to an agreed upon formula at periodic intervals. OPEN's share of the risk pool would be distributed to pharmacies and pharmacists based on the number of relative value units accrued by each one for billed services and the number of prescriptions filled with drugs on the preferred drug list.

You state that preliminary discussions have disclosed an interest among medical groups and HMOs in further exploration of this concept, but you are unsure of the specifics of how contracts would be structured, and expect that each agreement would be different. However, you seek assurance that OPEN's negotiation of shared-risk contract based on this model would not be deemed a violation of the antitrust laws.


The general antitrust analysis applicable to pharmacy network joint ventures is described in Statement 9 of the Department of Justice/Federal Trade Commission 1996 Statements of Antitrust Enforcement Policy and Analytical Principles Relating to Health Care and Antitrust ("Health Care Statements"). As discussed in the Statements, "naked" agreements among competitors that fix prices are per se illegal under the antitrust laws. However, the rule of reason applies to price-related agreements that are reasonably necessary to achieve the procompetitive benefits of a joint venture involving significant economic integration among competitors.

Economic integration warranting rule of reason analysis of such necessary price-related agreements can be evidenced by an agreement among network participants to share substantial financial risk for services provided through the network, as well as by other types of integration that are likely to produce efficiencies. Under a rule of reason analysis, any potential anticompetitive effects of the proposed venture are weighed against the procompetitive efficiencies that are likely to be produced by the venture. The rule of reason analysis takes into account characteristics of the particular network and the competitive environment in which it operates, to determine the network's likely effect on competition.

As proposed, the formation and operation of OPEN would involve direct agreement among the participating pharmacies and pharmacists concerning the prices to be charged for dispensing and disease management services. Accordingly, the threshold question is whether that agreement is reasonably necessary to achieve significant efficiencies that are likely to flow from integration among the network participants.

The Health Care Statements discuss a number of examples of arrangements that can involve sharing of substantial financial risk, including use of "significant financial incentives for its provider participants, as a group, to achieve specified cost-containment goals." Such incentives might take the form of "withholding from all provider participants a substantial amount of the compensation due to them, with distribution of that amount based on group performance in meeting the cost-containment goals of the network as a whole," or "establishing overall cost or utilization targets for the network as a whole, with the provider participants subject to subsequent substantial rewards or penalties based on group performance in meeting the targets."(6)

As the Health Care Statements make clear, the types of arrangements specifically described in the Statements are not the only possible types of arrangements that could involve the sharing of substantial financial risk or other substantial integration. Indeed, one of the purposes of the 1996 revision of the Statements was to encourage development of innovative risk-sharing and other arrangements that have the potential to improve quality and cost effectiveness of services or otherwise provide significant benefits to consumers.

OPEN's proposal involves a novel type of arrangement that uses financial incentives that differ from those discussed in the Health Care Statements. For a number of reasons, risk-sharing mechanisms that have been widely used in contracting for physician services, such as capitation or withholds geared to specific utilization targets, do not appear to be well suited to contracts for pharmaceutical products and services. It may often be the cases that it is not feasible for pharmacies to assume significant risk for total pharmaceutical costs, both because they do not control either the drugs prescribed or the number of prescriptions written, and because they do not determine product cost, which in many cases forms a larger part of the total price than does the payment for the pharmacist's professional services. Moreover, an inappropriate reduction in medication expenses can result in an increase in other medical expenses, for which reason payers may be reluctant to enter into capitated contracts for pharmacy benefits.(7)

Thus, in contrast to prevailing approaches to the management of pharmacy benefits, the arrangement that OPEN contemplates focuses on a larger universe than drug acquisition and dispensing costs, and couples financial incentives directed toward providing necessary drug therapy as cost-effectively as possible with financial incentives designed to encourage efforts to minimize overall treatment costs, even if doing so increases outlays for medications in some instances.

This type of arrangement appears to offer a potential for achieving significant efficiencies, both in terms of more cost-effective management of pharmaceutical and medical benefits and in terms of improving the quality of pharmaceutical therapy provided to patients.(8) The goal of the structure OPEN envisions appears to be to foster integration among pharmacies, pharmacists, and prescribing physicians in a cooperative effort to assure prescription of the most appropriate and cost-effective medications, and to facilitate efforts to improve patient compliance and satisfaction with prescribed drug treatment regimens. This integration is supported by a combination of financial incentives: a withholds on certain payments and potential rewards in the form of sharing in the savings in pharmacy and overall health care costs flowing from operation of the network. Inclusion in the arrangement of the services of dispensing pharmacies and well as pharmacist disease managers appears to enhance the overall goals of the network, by providing incentives for the pharmacy to act as an interface between the patient and other components of the system, to maximize patient monitoring and compliance activities, and to actively undertake other cost control measures.

As far as can be determined, few if any arrangements like this have been attempted, and for that reason OPEN believes that the specifics of the withhold arrangments, performance standards, and structure of the medical costs savings pool can only be determined during actual negotiations with payers or physician groups. Of course, the absence of certain information makes it difficult to conclude that any particular agreement that might be negotiated by OPEN would involve the sharing of substantial financial risk or otherwise embody sufficient integration to bring the operation of the network within the rule of reason. Nonetheless, the proposed network appears, in principle, to involve potentially beneficial financial and service integration among network participants. In evaluating any particular contractual arrangement, we would look at the likely effect of all components of the arrangement together, including withholds, the risk pool for overall medical cost savings, and other concrete mechanisms designed to facilitate and measure network members' contributions to the overall goals of the venture.

It appears unlikely that OPEN's operation as a network of independent pharmacies operating under the type of structure outlined above would significantly restrain competition for pharmaceutical services in Orange County.(9) Based on the information you have provided, along with other information available to us, it appears that sufficient competitive alternatives exist to defeat any effort by OPEN and its members to raise prices or otherwise impair market competition. This conclusion would not necessary apply, however, if OPEN were to include other pharmacies, such as chain drug stores or supermarket chain pharmacies, in the network. Your letters state that OPEN intends to subcontract with other pharmacies insofar as necessary to be able to meet payers' demand for geographic and after-hours availability of services. Of course, your uncertainty at this time regarding the extent of such subcontracting or the likely terms the agreements means that we cannot offer an opinion on the effect of such subcontracts for our conclusions concerning the competitive effect of the arrangement. An arrangement that permits patients to obtain prescription drugs outside the OPEN membership in some circumstances likely is reasonably necessary for the overall structure to operate effectively. On the other hand, concerns about the venture's potential impact on competition would arise if, because of the number and identity of the subcontracting pharmacies, or the terms of the subcontracts, the market power of the network in negotiating and contracting with payers or physician groups were substantially enhanced.

In sum, based on the forgoing, we would not recommend a challenge to OPEN's efforts to negotiate agreements having the basic features outlined above. Because certain aspects of OPEN's proposed arrangements remain unresolved at this time, we are not in a position to reach a definitive conclusion on whether any particular agreement that would be negotiated by OPEN would be likely to unreasonably restrain competition in pharmacy services in Orange County. If you desire an opportunity to discuss particular issues as you proceed, the staff is available for informal advice.

This letter sets out the views of the staff of the Bureau of Competition, as authorized by the Commission's Rules of Practice. Under Commission Rule § 1.3(c), 16 C.F.R. § 1.3(c) (1994), the Commission is not bound by this staff opinion and reserves the right to rescind it at a later time. In addition, this office retains the right to reconsider the questions involved and, with notice to the requesting party, to rescind or revoke the opinion if implementation of the proposed program results in substantial anticompetitive effects, if the program is used for improper purposes, if facts change significantly, or if it would be in the public interest to do so.

Sincerely yours,

Richard A. Feinstein
Assistant Director

1. The following description of the proposed network is based on your letters dated January 29, 1998, October 7, 1998, November 27, 1998, and April 15, 1999, as well as several telephone conversations with FTC staff. Your initial response to questions posed by FTC staff in a telephone conversation on March 12, 1998, was delayed until October of that year due to a number of factors, including relocation of your office.

2. Letter to Allen Nichol, Pharm. D. (August 12, 1997). You define disease management services to include "concepts of disease and treatment monitoring, patient education, compliance monitoring and other services to assure treatment goals are achieved or optimized."

3. Most health plans currently manage the pharmacy benefit separate from their medical management program. Consequently, pharmacy benefit programs usually focus on the pharmacy budget alone, and on obtaining lower prices for inputs (drug acquisition and dispensing costs) and on enhancing generic substitution and formulary compliance. You point out that effective disease management might increase a health plan's expenditures for medications, while at the same time producing greater savings on other types of acute care services.

4. California law permits pharmacist disease mangers, as part of the services provided by managed care facilities, certain clinics, or physicians that contract with managed care organizations, to perform patient assessment procedures, order laboratory tests and adjust drug regimens in accordance with protocols developed by those entities. SB1759 (Chapter 1161, Statutes of 1994).

5. This volume estimate is consistent with national data, as reported by the National Association of Community Drug Stores, showing that in 1998 independent pharmacies dispensed 25.9% of retail prescriptions, that accounted for 25.6% of the total value of retail prescription sales. See 1998 Facts-at-a Glance, at (March 8, 1999).

6. Health Care Statements at 109.

7. See, e.g., "Assessment of the Impact of Pharmacy Benefit Managers" viii (HCFA-95-023 PK, Sept. 30, 1996).

8. The benefits of closer coordination between pharmacy and medical care and of viewing the cost-effectiveness of pharmacy benefits in the context of overall medical costs rather than as a separate cost center are discussed in Parker, "Advancing Outcomes Research in Managed Care Pharmacy: A Call to Action," 4:3 Journal of Managed Care Pharmacy (May/June 1998), and Boland, "The Evolution of Best-in-Class Pharmacy Management Techniques," 4:4 Journal of Managed Care Pharmacy (July/August 1998). Some IPAs in California have begun closer collaboration with pharmacists in order to manage patients' pharmaceutical care, improve outcomes, and reduce the adverse effects of inappropriate drug therapy, but use in-house pharmacists rather than network pharmacies for that purpose. See, e.g., Sardinha, "Physician Groups Embrace Pharmacists: Collaborations the Work," 3:5 Journal of Managed Care Pharmacy (Sept./Oct. 1997).

9. Of course, significant antitrust issues would be raised if OPEN members used the network as a vehicle for coordinating their pricing for services delivered outside the network, or otherwise limiting competition in ways that did not contribute significantly to the legitimate purposes of the network.