Report 2002-118 Summary - April 2003

Department of Health Services


Its Efforts to Further Reduce Prescription Drug Costs Have Been Hindered by Its Inability to Hire More Pharmacists and Its Lack of Aggressiveness in Pursuing Available Cost-Saving Measures


Our review of the Department of Health Services' (Health Services) practices for containing Medical Assistance Program (Medi-Cal) pharmaceutical costs found the following:


The Department of Health Services (Health Services) is responsible for administering the federal Medicaid program in California, the Medical Assistance Program (Medi-Cal). Although federal law does not require the State to provide prescription drugs under its Medicaid program, California has chosen to do so for more than 6 million residents at a cost of $2.7 billion. The cost to the State for drugs it provides beneficiaries under the Medi-Cal Fee-for-Service system has risen as dramatically, as have drug costs nationwide over the last several years. Currently, half the Medi-Cal population has migrated to the State's managed care system. The remaining 3 million beneficiaries who continue to participate in the traditional Fee-for-Service system can obtain services or supplies from any provider who has agreed to serve them. Health Services establishes reimbursement rates, and providers bill Health Services. As California struggles with its budget deficit, concerns have been raised as to whether Health Services is doing all it can to contain drug costs under the Medi-Cal Fee-for-Service system.1

Health Services estimated that it could generate cost savings to the State's General Fund of roughly $104 million for fiscal years 2002-03 and 2003-04. However, because Health Services has been unable to hire pharmacists, has not considered fully the consequences of implementing some of its planned activities, and has presented unsupported or inaccurate estimates in its annual budgets, it might not fully achieve the estimated cost savings, or they might be delayed. Specifically, Health Services has not been able to fill 13 pharmacist positions approved during budget negotiations for fiscal years 2001-02 and 2002-03 to meet increases in its workload and to implement several cost-saving proposals. Consequently, Health Services has not been as prompt as it could be in performing some of its ongoing duties that could reduce costs. Lacking sufficient staff, Health Services has not negotiated state supplemental rebates with all drug manufacturers, promptly renegotiated existing rebate contracts, and consistently tracked rebate payments. Health Services has further limited its ability to reduce Medi-Cal drug costs by not aggressively pursuing other cost-saving measures, such as disease management programs.

Health Services' pharmaceutical unit is responsible for developing Medi-Cal's List of Contract Drugs (drug list)—the list of drugs that physicians can offer Medi-Cal beneficiaries and for which pharmacies receive reimbursement without first having to get Health Services' approval. The drug list was initiated in 1992 as a cost-saving measure because, as the Legislature originally intended, to have a drug included on the list, the manufacturer had to contract with Health Services to pay a supplemental rebate. However, because it lacks sufficient staff, the pharmaceutical unit has taken up to two years to add drugs to the drug list, and it has negotiated rebates primarily with manufacturers of brand name drugs, not the more common generic drugs. Although Health Services indicated that drug manufacturers often delay the negotiation process, its inability to fully staff its pharmaceutical unit is the primary reason Health Services has failed to negotiate supplemental rebates with all drug manufacturers and has delayed negotiating contracts and making additions to the drug list. As a result, Health Services may be paying more for drugs than it should and ultimately not making the best use of State resources.

According to Health Services, it has failed to increase its pharmacist staff because its ability to recruit individuals with the appropriate knowledge and skills is hampered by the disparity between the salaries it can offer and those offered in the private sector, and there is a shortage of pharmacists in the State. Our review confirmed that generally the salaries of pharmacists hired by Health Services are significantly lower than the base salaries of pharmacists hired by the University of California and the average private-sector salary. Attempting to address its difficulties in attracting qualified pharmacists, in August 2002, Health Services began developing a proposal for reclassifying its pharmacist positions and submitted the proposal to the Department of Personnel Administration for its review and approval on March 25, 2003.

In its original budget for fiscal year 2002-03, Health Services anticipated savings totaling $127 million in the cost of providing Medi-Cal pharmacy benefits. By November 2002, however, when Health Services began its budget process for fiscal year 2003-04, some activities related to these cost savings had not been implemented, requiring Health Services to reduce the estimated savings to about $80 million for fiscal year 2002-03; but it estimated savings of $127 million for fiscal year 2003-04. Because about 50 percent of its cost savings belong to the federal government, the November 2002 estimated savings to the State's General Fund would be roughly $104 million over the two fiscal years. A significant portion of the estimated savings for the State—about $40 million for fiscal years 2002-03 and 2003-04—could be realized if Health Services aggressively pursued supplemental rebate contracts with manufacturers of generic drugs. Although Health Services has clear authority to establish such contracts with all drug manufacturers, it has not routinely done so for generic drugs in particular. Health Services told us that it has not aggressively pursued supplemental rebates for generic drugs because of its inability to hire pharmacists and the reluctance of generic drug manufacturers to negotiate lower prices.

Further, in a March 1996 audit, we reported that Health Services did not prepare invoices specifically for supplemental rebates but instructed manufacturers to calculate and submit required supplemental rebates along with their federal rebate payments. It also failed to monitor and track supplemental rebate payments. Therefore, Health Services could not ensure that it was making every effort to resolve rebate payment disputes within 90 days. We estimated that Health Services had not collected roughly $40 million in supplemental rebates owed to the State and the federal government. Health Services just recently received approval and hired four analysts to help resolve these issues, although it had requested approval to increase its staff of analysts for almost the past five years. During that time, the amount of unresolved rebates grew to more than $216 million, or 6 percent of the $3.4 billion invoiced between January 1991 and September 2001. Health Services estimated that it could achieve an additional $21 million, or a total of $10.5 million in savings to the State's General Fund, over the next two years by resolving some of these rebate disputes.

Although the supplemental rebates that Health Services negotiates with brand name drug manufacturers generally ensure that Medi-Cal incurs lower costs for drugs than do other state programs, Health Services does not have procedures to ensure that it accurately tracks the expiration dates of its supplemental rebate contracts and thus has ample time to renegotiate contracts. Our review of Health Services' drug prices found that it restricts its reimbursements to eight brand name drugs because it is generally able to obtain lower net costs2 for them than for their generic counterparts after applying the supplemental rebates it receives from the manufacturers. In fact, for six of these eight drugs, we estimate that Medi-Cal saved more than $20 million in calendar 2002 by restricting utilization to the brand name drugs. However, we found two instances in which Health Services missed the opportunity to maximize its savings to the State. In each case, the net costs of the brand name drugs were actually higher than those of the generics because Health Services failed either to renegotiate the rebate contracts or to secure critical contract terms from the manufacturer. We estimate that these errors cost Medi-Cal roughly $57,000 in calendar year 2002. Health Services' net costs for drugs were typically lower than those purchased by Health Services' AIDS Drug Assistance Program and the Department of General Services.

Health Services generally reimburses pharmacies at higher rates compared with 17 states that responded to our survey. By state law, Health Services was required to reimburse pharmacies at the average wholesale price (AWP) minus 5 percent, while most other states offered reimbursements ranging from the AWP minus 10 percent to the AWP minus 50 percent. Legislation that took effect on December 1, 2002, reduced the amount that Health Services reimburses pharmacies to the AWP minus 10 percent. Additionally, at least one state Medicaid program has taken an aggressive approach toward collecting copayments from beneficiaries by placing the responsibility on the pharmacists to recover the copayments that the State now subtracts from their reimbursements. Medi-Cal could save $20 million annually by adopting this approach.

Although Health Services has implemented some cost control strategies, such as the drug list, it has been slow to implement other potential cost-saving measures. For example, California's drug utilization review (DUR) program—a mechanism to ensure that prescriptions for covered outpatient drugs are appropriate, medically necessary, and not likely to result in adverse medical results—has more dispensing alerts than do most other states' programs and more than federal law requires. However, unlike DUR programs in many states responding to our survey, California's program has not adopted step therapy protocols, which require physicians first to treat a medical condition with less expensive, though therapeutically equivalent, drugs and then to prescribe more expensive drugs only if the patient shows no improvement.

Health Services' retrospective DUR process monitors drug use and cost trends to identify misuses and educational needs. Through this process, Health Services has identified and developed responses to costly Medi-Cal drug patterns. Currently, Health Services' educational program is restricted to periodically disseminating information to general audiences and to its few active and proposed projects that are heavily dependent on the expertise and resources of its DUR board members. Consequently, Health Services has only limited opportunities to educate physicians and pharmacists about inappropriate or medically unnecessary drug therapy and to capture cost savings that may result from changes in drug prescribing and dispensing behavior.

Although many states have implemented disease management programs, which are designed to improve the quality of care for Medicaid populations and ultimately contain costs for Medicaid overall, Health Services' progress toward a comprehensive disease management program is minimal. Recently, Health Services has collaborated with the California Pharmacists Association (CPhA) to develop Medi-Cal-specific pilot projects for disease management relating to asthma, diabetes, and hypertension. These projects lack the funding they need to begin because Health Services has chosen to rely on its nonprofit partners to secure funds. Consequently, until Health Services moves forward on funding the pilot projects, the potential benefits of a disease management program and its applicability to the Medi-Cal population will remain unrealized.

Finally, California offers coverage for certain drugs that the federal government considers optional. Eliminating coverage for these drugs could yield as much as $80 million in annual savings to Medi-Cal.


To improve its ability to realize potential cost savings and obtain lower net costs for drugs for Medi-Cal, Health Services should do the following:


Generally, Health Services agrees with our recommendations. Further, Health Services acknowledges that California can—and must—do even more to reduce drug costs.

1 For the purposes of this report, all references to Medi-Cal relate solely to the Fee-for-Service system.
2 For purposes of our report, net cost refers to the cost after reducing the drug ingredient cost by any applicable rebates.