Drugs - Where Is Our $71.18 Going?

In 2001, the average brand name prescription drug price was $71.18.²² In that same yearU.S. consumers spent $154.5 billion on prescription drugs, up from $69.1 billion in 1996.²³ Where is our money going? The chart above tracks the percentage of money drug companies spent on research & development (R&D), promotional efforts, and other expenses. It also tracks the percentage of money that went into wholesale and retail markup.²⁴ The table on the next page shows the dollar amount allocated in each category. Total pharmaceutical company expenditures include all monies allocated for R&D, total promotional expenses, and other expenses. This is equal to PhRMA's figures for domestic sales reported in their Industry Profile 2002. Total promotional spending includes direct-to-consumer advertising and professional promotion (free samples to doctors, for example). Data are in millions of U.S. dollars.

Prescription Drug Monies Allocated by Category, 1996-2000

	1996	1997	1998	1999	2000	2001
U.S. retail sales	$69,100	$78,900	$93,400	$111,100	$131,900	$154,500
Wholesale/retail markup	4,359	7,138	12,111	9,638	16,018	23,826
Total pharmaceutical company expenditures	64,741	71,762	81,289	101,462	115,882	130,674
Total R&D expenditures	16,906	18,958	20,967	22,691	26,031	30,343
Total promotional expenditures	9,200	11,000	12,500	13,900	15,700	19,059
Direct-to-consumer advertising	791	1,069	1,317	1,848	2,467	2,679
Other expenditures	48,044	53,886	59,838	73,168	89,753	102,262

Only about 20% of total prescription drug revenues went toward expenditures for R&D over this time period. And, the percentage allocated for R&D has been decreasing: from 24.5% in 1996 to 19.6% in 2001. Total promotional expenses accounted for about 12-13% of drug revenues during this time period, and this share dropped from 1997 to 2000. In 2001, the percentage went up slightly. Direct-to-consumer advertising, a part of the total promotional package, rose from 1996 to 2000 (from 1.1% to 1.9% of retail sales), but then declined by 0.2% in 2001. The percentage of revenues allocated for wholesale and retail markup fluctuated: rising from 1996 to 1998, then dropping in 1999, and again rising from 1999 to 2001.

By far, the biggest share of the prescription drug cost goes into the "other" category. Presented here are a few of the expenses in this category.

• Cost of operation. According to the Internal Revenue Service (IRS), in 1998 (the latest year for which tax information was available), pharmaceutical (and medical) manufacturing companies claimed that the cost of goods sold equaled $87.2 billion. This was 46% of their total business receipts.
• Another cost of operation is employee (and employer) salaries. In 2000, 315,000 people were employed in the pharmaceutical industry. The total number of employees is expected to increase by 23.8% from 2000 to 2010. The average weekly salary in 2000 for workers in the pharmaceutical industry was $766 compared to $597 for employees in other manufacturing industries. What about executives? In 2001, the average salary including bonuses was $631,000. But that doesn't mean that some CEOs aren't making more. The top paid executives in nine pharmaceutical companies²⁵ averaged $20.9 million in compensation and $47.9 million in unexercised stock options.
• Taxes. We all have to pay them. But are we all paying our fair share? The Congressional Research Service report Federal Taxation of the Drug Industry from 1990 to 1996 stated that the average tax rate for the drug industry from 1993 to 1996 was 16.2%, compared to an average 22.6% for all manufacturing industries, and 27.3% for all industries. In 1998, this still held true: the pharmaceutical (and medical) manufacturing industry had an average tax rate of 19%, compared to 21.4% and 27.4% respectively. Why? Before deducting tax credits, all three averaged a tax rate of around 35%, but pharmaceutical companies tend to benefit more from deductions for research, experimentation, and development. After all taxes were paid, the pharmaceutical industry had the highest profit margin²⁶ of all industries in 2000: 18.9%. The average profit margin of the Fortune 500 companies in that year was a mere 4.9%.
• (Tax-deductible) Philanthropy. According to the Conference Board, a New York- based corporate research organization, pharmaceutical companies contributed 2.2%²⁷of their pre-tax income to charities since 1991. This is 1.4% more than corporations in general.
• Pharmaceutical companies routinely provide goods and services to disaster areas. The tragedy of September 11, 2001 was no exception. Pharmaceutical companies donated $85 million in cash plus medicines, medical supplies, and other goods and services to help in the relief and recovery efforts. From 1998 to 2001, the pharmaceutical industry donated nearly $2 billion in financial assistance and medical products to developing countries to fight the spread of AIDS, tuberculosis, and other diseases. More than one billion people in 80 countries are at risk of contracting elephantiasis (a disease of the lymph system spread by mosquitoes), according to the World Health Organization. Drug companies have already donated 4-5 billion doses of medicine in an attempt to eliminate the disease in the next 20 years.
• Pharmaceutical companies also contributed $1.5 billion worth of prescription medications to patient-assistance programs in the United States in 2001, up from $374 million in 1997. 3.5 million patients were served in 2001, up from 1.1 million in 1997. These programs (through hospitals, clinics, and community pharmacies) provide prescription medications to indigent patients. Admirable, but is it enough? In PhRMA Industry Profile 2002, the Pharmaceutical Research and Manufacturers of America (PhRMA) stated: "A number of companies have pledged that no patient in need of their medicines will do without them." One wonders, then, why thousands of senior citizens must decide every month between filling their prescriptions and putting food on the table. But, are pharmaceutical companies the only ones to blame for high prescription drug prices?

The table on the next page shows the growth rates in each of the categories shown in the previous graph. Wholesale and retail markup fluctuated yearly throughout this time period. However, from 1996 to 2001, the total growth rate was greater than four times the growth rate of pharmaceutical company expenditures. From 1998 to 1999, wholesale and retail markup fell more than 20%. But, from 1999 to 2001, wholesale and retail markup again grew at a faster rate than any other category. Except for 1999, growth rates for wholesale and retail markup averaged 4-6 times that of total pharmaceutical company expenditures.

But does this higher growth rate translate into a greater share of the total markup? No. If both wholesale/retail and pharmaceutical growth rates would stay the same for 2001 to 2002, the wholesale/retail markup on a prescription costing $71.18 would be $4.19 and the pharmaceutical company markup would be $8.01. This is nearly twice that of the wholesaler and retailer, and in this case, contributes 66% to the total markup.

Growth Rates (%), 1996-2001

	1996-1997	1997-1998	1998-1999	1999-2000	2000-2001	1996-2001
Number of prescriptions dispensed	4.3	8.3	3.8	7.4	6.9	34.8
U.S. retail sales	14.2	18.4	19.1	18.7	17.1	123.6
Wholesale/retail markup	63.8	69.7	-20.4	66.2	48.7	446.6
Total pharmaceutical company expenditures	10.8	13.3	24.8	14.2	12.8	101.8
Total R&D expenditures	12.1	10.6	8.2	14.7	16.6	79.5
Total promotional expenditures	19.6	13.6	11.2	12.9	21.4	107.2
Direct-to-consumer advertising	35.1	23.2	40.3	33.5	8.6	238.7
Other expenditures	12.2	11.0	22.3	22.7	13.9	112.9
Average inflation rate28:	2.7	1.9	1.9	2.8	3.0	15.4

In the next panel we will discuss some of the benefits of new medications.

Sources: Levitt, Larry. The Henry J. Kaiser Family Foundation. Prescription Drug Trends, November 2001. Retrieved July 24, 2002 from http://www.kff.org. National Institute for Health Care Management. "Factors Affecting the Growth of Prescription Drugs Expenditures," July 1999. Retrieved July 26, 2002 from http://www.nihcm.org. National Institute for Health Care Management. Prescription Drug Expenditures in 2001: Another Year of Escalating Costs, May 6, 2002. Retrieved July 17, 2002 from http://www.nihcm.org. Pharmaceutical Research and Manufacturers of America. Pharmaceutical Industry Profile 2000, 2001, and 2002. Retrieved July 24-August 2, 2002 from http://www.phrma.org/. National Science Board. National Science Foundation. Science and Engineering Indicators -- 2000, 2000. Retrieved July 26, 2002 from http://www.nsf.gov/. National Association of Chain Drug Stores. "Industry Statistics." Retrieved August 1, 2002 from http://www.nacds.org. IMS Health. "Total U.S. Promotional Spending by Type, 2001." Retrieved July 16, 2002 from http://www.imshealth.org. National Institute for Health Care Management. Prescription Drugs and Mass Media Advertising, 2000. Retrieved July 26, 2002 from http://www.nihcm.org. Alliance for Retired Americans. The Profit in Pills: A Primer on Prescription Drug Prices, June 2002. Gary Guenther. Congressional Research Service. "Memorandum: Federal Taxation of the Drug Industry from 1990 to 1996," December 13, 1999. Retrieved August 2, 2002 from http://rxpolicy.com/studies/crs_pharm_tax_memo.pdf. Bureau of Labor Statistics. U.S. Department of Labor. Career Guide to Industries. Retrieved August 1, 2002 from http://www.bls.gov/oco/cg/cgs009.pdf. Internal Revenue Service. U.S. Department of the Treasury. "1998, Returns of Active Corporations." Retrieved August 2, 2002 from http://www.irs.gov. Families USA. Profiting from Pain: Where Prescription Drug Dollars Go, July 2002. Retrieved August 1, 2002 from http://www.familiesUSA.org/PPreport.pdf. "Revenues, Schmevenues. Why Biotech's CEOs Lead the Salary Race," April 2, 2002. Retrieved July 26, 2002 from http://www.genomeweb.com/articles/. National Institute of Allergy and Infectious Diseases. National Institutes of Health. "Lymphatic Filariasis (Elephantiasis)" Retrieved August 2, 2002 from http://www.niaid.nih.gov/newsroom/focuson/bugborn01/filar.htm. Economic History Services. "What Was The Inflation Rate Then?" Retrieved August 7, 2002 from http://www.eh.net/ehresources/howmuch/inflationq.php.