The following description of our
business should be read in conjunction with the information included elsewhere in this Form 10-K for the year ended December 31, 2007. This description contains forward-looking statements that involve risks and uncertainties. Our actual results
could differ significantly from the results discussed in the forward-looking statements due to the factors set forth in Risk Factors and elsewhere in this Form 10-K. References in this Form 10-K to we, our,
us, or the Company, refer to HealthExtras, Inc.
OVERVIEW
HealthExtras, Inc. provides pharmacy benefit management services, referred to as PBM, and supplemental benefit programs. Our PBM segment, which operates
primarily under the brand name Catalyst Rx, accounted for approximately 99%, 97% and 94% of our revenue in 2007, 2006 and 2005, respectively, and is expected to be the primary source of our growth and profits in the future. Our PBM clients include
more than 1,000 self-insured employers, including state and local governments, managed care organizations, third-party administrators, referred to as TPAs, and unions, who contract with us to administer the prescription drug component of their
overall health benefit programs. Total claims processed increased to 41.5 million in 2007 from 29.3 million in 2006. Our PBM segment revenue increased by approximately 50% to $1.8 billion in 2007 from $1.2 billion in 2006.
We also offer supplemental benefit programs developed by us, under the brand name HealthExtras, which include lump sum accidental disability benefits,
accidental death and dismemberment benefits, and emergency accident and sickness medical reimbursement benefits. We contract with insurance companies to underwrite the insurance components of these programs. As a result, the financial responsibility
for the payment of claims resulting from a qualifying event covered by the insurance features of our programs is borne by the third-party insurers. Our supplemental benefits segment accounted for 1%, 3% and 6% of our revenue in 2007, 2006 and 2005,
respectively. Individuals are the major purchasers of these programs.
Beginning with the first quarter of 2008, we will no longer be
presenting supplemental benefits as a separate reportable operating segment because it no longer constitutes a reportable segment under SFAS No. 131,
Segment Reporting
. Consequently, the PBM segment will be our only reportable operating
segment.
We were incorporated in Delaware in 1999. Our principal executive offices
are located at 800 King Farm Boulevard, 4
th
Floor, Rockville, Maryland 20850. Our telephone number is 301-548-2900.
Our Internet website is
www.healthextras.com
. We make available free of charge on or through the website our annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we
electronically file such material with, or furnish it to, the SEC. This reference to our website is for the convenience of shareholders as required by the SEC and shall not be deemed to incorporate any information on the website into this Form 10-K
or our other filings with the SEC.
PHARMACY BENEFIT MANAGEMENT
Our PBM segment provides our clients access to a contracted, non-exclusive national network of approximately 60,000 pharmacies. We provide our
clients members with timely and accurate benefit adjudication, while controlling pharmacy spending trends through customized plan designs, clinical programs, physician orientation programs, and member education. We use an electronic
point-of-sale system of eligibility verification and plan design information, and offer access to rebate arrangements for certain branded pharmaceuticals. When a member of one of our clients presents a prescription or health plan identification card
to a retail pharmacist in our network, the system provides the pharmacist with access to online information regarding eligibility, patient history, health plan formulary listings, and contractual reimbursement rates. The member generally pays a
co-payment to the retail pharmacy and the pharmacist fills the prescription. We electronically aggregate pharmacy benefit claims, which include prescription costs plus our claims processing fees for consolidated billing and payment. We receive
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payments from clients, make payments of amounts owed to the retail pharmacies pursuant to our negotiated rates, and retain the difference (except where we
have entered into pass-through pricing arrangements with clients), including claims processing fees.
The Industry
The PBM industry has developed and grown in response to the increased utilization of pharmaceuticals, increased unit costs and broader application of
prescription drugs to various conditions. These factors have combined to create a significant and recurring escalation in the cost of drug coverage offered by state and local governments, managed-care organizations, self-insured employers and TPAs.
In order to understand, manage and mitigate these trends, many of these payor organizations have contracted for the specialized services offered by PBMs. According to the journal of Health Affairs, overall pharmacy expenditures in the United States
are expected to be approximately $248.8 billion in 2008, an 8.4% increase over 2007. While pharmacy expenditure increases have moderated since a peak period from the late 1990s through 2004, average annual increases of more than 8.6% are
expected through 2016. Volume and utilization are expected to contribute about half of the total of those expected spending increases, with the remainder resulting from price increases.
Factors contributing to the increase in pharmacy spending include:
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greater reliance on drug therapy by the physician community,
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increased preventative prescribing to manage high cholesterol levels and digestive disorders,
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efforts by drug manufacturers to increase market share and extend single-source brand use,
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the introduction of improvements over existing therapies, which normally carry higher unit prices than existing formulations,
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increased patient demand and education as a result of direct-to-consumer advertising and other pharmaceutical marketing or promotional efforts,
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increased obesity among all age groups, and
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improved techniques and technology to detect and diagnose diseases.
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PBMs are responsible for implementing and administering benefit plans that are care-effective and also seek to lower overall prescription spending by encouraging greater generic utilization, increasing the proportion
of brand drugs dispensed from the preferred category and encouraging, where appropriate, non-prescription therapy and treatment alternatives. These objectives are accomplished through a combination of clinical, administrative, educational and
technology initiatives directed towards pharmacies, physicians and members.
Over the past several years, plan design has increasingly
focused on the use of three-tier co-payment structures. Co-payments represent that portion of the cost of a prescription paid for by the member at the time the drug is dispensed. The purpose of these three-tier designs and the use of drug specific
formulary lists is to create financial incentives for members to utilize generic drugs where available and to select the most cost-effective brand drugs indicated for a specific diagnosis or condition. In general, these plans incorporate the lowest
member co-payments for generic drugs, with increases in co-payments for preferred brand drugs and co-payments reaching their highest level for non-preferred brands. Typically these categories might require member co-payments of $10, $20 and $35
respectively. The use of these tiered plans has increased significantly over the past decade and now applies to over 75% of employer-sponsored members. In recent years, both the levels of member co-payment and the differential between tiers have
continued to increase.
Competition
We
believe the primary competitive factors in our PBM business are price, quality of service and scope of available services. Market share for PBM services in the United States is highly concentrated, with a few firms controlling over 70% of
prescription volume. These larger national and regional PBMs, such as Medco Health Solutions, Inc., Express Scripts, Inc. and CVS Caremark, Inc., have significantly greater financial, marketing and technological resources at their disposal to expand
client base and grow their business. Large health insurers, certain HMOs, drug retailers, and physician practice management companies also have their own PBM capabilities.
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Scale is a particularly important factor in negotiating prices with pharmacies and drug manufacturers.
Though we have other advantages to offset our comparatively smaller scale, we could face more pricing competition in the future.
Some of
our PBM services, such as disease management services, informed decision counseling services and medical information management services, also compete with those being offered by pharmaceutical manufacturers, specialized disease management companies
and information service providers.
We have demonstrated our ability to serve a broad range of clients from large managed care
organizations and state governments to employer groups with fewer than a thousand members. We believe the following are our principal competitive strengths:
Flexible and Customized Services.
We believe it is important to provide our clients with customized solutions and recommendations with their best interests in mind. Accordingly, the formulary and plan designs
we suggest to clients are highly flexible and not influenced by manufacturer relationships. Our larger competitors that have manufacturer affiliations or mail order assets are often in a position where they may benefit from increasing the volume of
drug utilization generally or that of certain specific drugs. These conflicts arise where revenues from pharmaceutical manufacturers may support the inclusion of certain drugs on formulary which would not otherwise be included or may result from
mail order utilization serving as an important source of profit for the PBM.
Local Market Presence.
Our local market presence in
Arizona, California, Florida, Georgia, Hawaii, Iowa, Louisiana, Maryland, Mississippi, Nevada, New Mexico, Ohio, Oklahoma, Pennsylvania, Puerto Rico, Texas and the Carolinas allows us to offer attractive benefit pricing based on local pharmacy
network rates and formulary design. We support our local markets from our primary operating facilities in Ft. Lauderdale, Florida; Des Moines, Iowa; Las Vegas, Nevada; Raleigh, North Carolina and our corporate office in Rockville, Maryland. These
offices provide account management, customer service and clinical support programs, including dedicated clinical pharmacists with expertise in plan design, treatment protocols and various cost management initiatives.
Information-Based Cost-Containment Methods.
Through the use of our customized information technology systems, we believe that we provide our
clients and members with access to information on a rapid basis that allows us to work with our clients to manage the costs of prescription drugs. For example, our Web-based systems allow our clients to choose which metrics are most important to
them for the purposes of evaluating their pharmacy benefit management program. We then provide customized reporting solutions for these key performance indicators. In addition, members can access our Web-based programs to evaluate their costs for
selected drugs and pharmacies and the benefits of the options for prescription drugs, including over-the-counter alternatives, to which they have access through our benefit programs. We believe these services allow us to further differentiate
ourselves from our competitors.
Our Business Strategy
We seek to continue to increase our client base, revenue and profits. We intend to accomplish this by capitalizing on our competitive strengths and helping to address the challenges confronting payors.
Increasing our PBM Client Base by Targeting Certain Market Segments.
We have identified four segments of the market that provide us with the greatest opportunity for growth. We intend to focus our sales and marketing efforts to target these segments in order to gain new clients and
increase our membership base and revenues. Our analysis of our market opportunity by segment is as follows:
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Large Employer Groups (Self-Insured):
Representing over 12 million lives, employers in this segment are large enough to need a full-service PBM solution
to manage their increasing prescription benefits costs. By utilizing our information-based cost containment strategies, we offer these clients favorable results compared to larger PBMs, and a greater level of client and customer service.
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State and Local Governments:
State and local governments are also employers who provide health benefits to their employees and retirees. Some state
governments have a workforce and retiree population of comparable size to that of a Fortune 1000 employer. These clients are seeking the same customer service, attention to detail, and bottom line results as private sector employers. Because the
vast majority of members in this market segment are geographically concentrated, we can analyze the prescribing and
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utilization trends associated with a state and local government entity and actively influence physicians prescribing practices in a particular region.
These physician interactions draw on peer-reviewed clinical studies, generic drug utilization patterns, and the insights offered by the physicians themselves to deliver better care at lower costs.
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Mid-Tier Managed Care Organizations (MCOs):
There are hundreds of MCOs that each provide coverage to fewer than 200,000 lives. These MCOs collectively
represent more than 20 million lives and over $8.5 billion in annual drug spending. We believe that MCOs of this size are increasingly dissatisfied with the level of service and results they are receiving from larger PBM companies that devote
most of their attention to MCOs that have more than one million members. We have demonstrated that we can provide these MCOs with a complete, full-service PBM that includes all of the features that larger PBMs offer, with superior customer service,
market-specific retail networks and customized benefit plans.
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Third-Party Administrators (TPAs):
There are hundreds of TPAs in the U.S. that focus primarily on administering the health benefits of their clients. TPAs
provide services to millions of employees, dependents, and retirees, paying over $17 billion annually in total health claims. As the TPA market continues to consolidate, and TPA clients increasingly seek out complete health benefits solutions
from their TPA, we believe an increasing number of TPAs will be seeking a PBM partner to administer the prescription benefits of their clients.
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Leveraging Local Market Dynamics to Build Customized Networks and Manage Drug Spending.
Although clients contract with us
to provide PBM services nationwide, capitalizing on local and regional market dynamics is an effective way to manage drug spending and differentiate our PBM services from those offered by our competitors.
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Customized Pharmacy Networks:
In order to obtain greater pharmacy discounts for our clients, we work with clients to identify pharmacies that will agree to
deeper prescription discounts in a specific locality, based on the concentration of client members in that area, and the resulting store traffic those members represent to a drug, grocery, or retail chains non-pharmacy business. We have
established customized pharmacy networks in Florida, Iowa, Georgia, Louisiana, Mississippi, Nevada, New Mexico, Ohio, Oklahoma, Pennsylvania, Texas, and the Carolinas and intend to develop similar networks in other parts of the country.
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Data Analysis and Reporting to Improve Cost Management and Quality of Care:
We perform client-specific data analysis to monitor trends and develop insights
and conclusions that result in improved care while reducing costs. Many PBMs offer a variety of data analysis techniques from both a clinical and financial perspective. We differentiate ourselves by using the information we derive from our systems
to obtain regionally favorable prescription pricing, to actively influence the drivers of prescription drug utilization and to monitor clinical formulary and disease management trends.
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Extensive Use of Internet Facilities to Enhance Account Management Effectiveness:
We provide our clients Web-enabled decision support for prescription
benefit plan management, clinical evaluations, disease management, and compliance monitoring. These data analysis and reporting capabilities allow clients to assess top-level trend information for total population management and to analyze detail
for a particular drug, physician, member, or pharmacy. This functionality enables our clients to measure successes relative to formulary and disease management initiatives and assists in the identification of specific patient populations that may
benefit from specialty or other pharmacy programs.
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Offering Our Clients a Variety of Specialized Services Focused On Improving Health
Outcomes.
Clinical and Other Services.
Our clinical service teams work closely with clients to design and administer pharmacy
benefit plans that use formularies, plan design, and other techniques to promote clinically appropriate and cost-effective drug usage. We are often able to influence physician prescribing patterns by comparing individual behavior to physician peer
groups and encouraging change where practices differ from peer group norms and medical best practices. Because we operate with significant geographic focus, the consultations between our clinical pharmacists and local physicians tend to have higher
levels of effectiveness compared with less concentrated initiatives. Similarly, our programs with retail pharmacies support therapeutic interchange programs that encourage the evaluation of cost-effective drug alternatives where appropriate. We also
offer consulting services to assist clients in designing education and communication programs designed to support cost-effective prescription drug programs.
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Disease Management.
We assist clients in managing the cost and treatment of specific chronic
diseases in order to improve medical outcomes and lower the overall cost of health care. These disease management programs monitor the contracted population and intervene when individuals demonstrate symptoms of a specific disease or high risk
indications.
Our disease management programs are the responsibility of a dedicated team of clinicians and have been developed around three
key approaches:
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Data Analysis and Integration.
We evaluate and identify medical, laboratory, pharmacy and other relevant data within an identified population.
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Case Identification.
We identify patients who have a specific disease and evaluate the appropriateness of targeted interventions.
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Clinical and Program Interventions.
We communicate with identified patients and offer enhanced education about their condition and effective management
tools. We also integrate our recommendations with those of physicians, including treatment guidelines, patient profiles and patient management tools. Case management intervention programs are coordinated with other care-givers to monitor outcomes
and improve overall care.
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Pursuing Selective Acquisitions.
Consolidation has been, and may continue to be, an important factor in all aspects of the pharmaceutical industry, including the PBM segment. We will
continue to evaluate additional acquisition and joint venture opportunities to enhance our business strategy.
We have successfully
integrated three strategic acquisitions over the last five years. Our acquisitions have provided us with a more diverse and complete set of products and services to sell to a larger customer base and have expanded our geographic presence. The
acquisitions have also allowed us to better capture efficiencies in corporate overhead and information technology investments. In each of the acquisitions, we achieved our objectives by integrating operations, realizing operating efficiencies,
improving profitability and growing the revenue base of the acquired businesses. We will continue to look for acquisition opportunities that complement our existing operations and have characteristics similar to the companies previously acquired.
These characteristics include geographic membership concentrations, opportunities to improve profitability and a base from which to generate revenue growth. See Part II, Item 7, Managements Discussion and Analysis of Financial
Condition and Results of Operations Acquisitions.
Customers.
One of our customers, Wellmark Blue Cross Blue Shield of Iowa, accounted for 20% of our consolidated revenue in 2007. Another of our customers, the State
of Louisiana, accounted for 9% of our consolidated revenue in 2007. Our ten largest customers, including Wellmark Blue Cross Blue Shield of Iowa and the State of Louisiana, accounted for 58% of our consolidated revenue in 2007.
PBM Services
We provide our clients the tools,
information, and specialized expertise needed to offer the best drug therapy to their membership, while simultaneously working to lower the costs associated with a pharmacy benefit plan. Our PBM services involve managing member prescription drug
utilization to ensure high-quality, cost-effective pharmaceutical care through a combination of managed care principles, advanced data analysis and technologies, and the management of client specific cost control initiatives. Our PBM services
include:
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Benefit plan design and consultation:
Our pharmacy professionals work in conjunction with our clients to design benefit plans that meet the needs of our
clients and their members. We seek to maximize the quality of care members receive while controlling the cost of providing prescription pharmaceutical coverage by, among other efforts, creating financial incentives and reimbursement limitations on
the drugs covered by our plan, offering generic utilization incentives, and imposing reimbursement limitations on the amount of a drug that can be obtained in a specific period.
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Formulary administration:
We seek to maximize the clinical appropriateness of all drugs covered by our plans. In doing so, we actively seek to promote the
use of drugs that our clients identify as the preferred prescription alternative for certain clinical conditions, thereby reducing unnecessary overuse of new drugs or reformulations of old drugs in inappropriate circumstances.
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Formulary compliance and therapeutic intervention programs:
We seek to encourage compliance with the formularies established in conjunction with our clients
for our plans by instituting guidelines that create financial incentives both for our clients members and our pharmacy networks to comply with the formulary. For example, we design plan features such as tiered co-payments that require a member
to pay more for a non-formulary drug. At the same time, we also encourage the appropriate use of prescription drugs through prescriber education programs. Finally, we seek to encourage the use of generic formulations of branded pharmaceuticals,
thereby lowering the cost of prescription pharmaceuticals without compromising efficacy.
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Retail pharmacy network contracting and administration:
We contract with more than 60,000 retail pharmacies nationwide at competitive discount rates which
allow our members to access their benefits at a broad array of locations. We may offer clients access to sub-networks where higher discounts are available when offering a limited network of retail pharmacies to their members. We work with our retail
pharmacy network providers to achieve the goals of our clients: quality, responsible and cost-effective prescription drug coverage for their members.
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Advanced decision support and data analysis services:
We are able to help manage the expansion in the cost of providing prescription drug coverage through
intensive analysis and review of utilization data of our clients members. By recognizing inappropriate use or dispensing of certain prescription drugs for certain member groups or at certain network pharmacies, we are able to help manage rapid
inflation in prescription expenses.
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Flexible, customized reporting available via secure Internet connection:
We provide our clients members the ability to compare options available to
them for certain prescription drugs through our comprehensive Web site. For example, on our Web site members can compare the various options available to them for allergy medication, such as branded prescription pharmaceuticals, a generic
alternative, or an over-the-counter formulation.
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Contracted mail service pharmacy:
We are able to help control the costs of providing prescription drug coverage for our clients through the use of mail order
distribution capabilities to which we have access through contractual arrangements. We have negotiated favorable rates for our clients that allow them to maintain desired clinical outcomes while limiting prescription drug costs.
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SUPPLEMENTAL BENEFITS
Supplemental Benefit Programs
HealthExtras, Inc. provides supplemental benefit programs developed by us, which include lump
sum accidental disability benefits, accidental death and dismemberment benefits, and emergency accident and sickness medical reimbursement benefits. Our supplemental benefits segment accounted for approximately 1%, 3% and 6% of our revenue in 2007,
2006 and 2005, respectively.
Our supplemental benefit programs have been marketed and sold to individuals primarily by American Express ,
Citibank and Stonebridge, who incur the marketing expenses. We have experienced a steady decline in the marketing activity and in soliciting new membership by these companies. Accordingly, the generation of supplemental benefit program revenue from
enrolled members is primarily dependent on the extent and timing of marketing campaigns funded by these companies and the success they achieve in retaining these customers.
We contract with insurance companies to underwrite the insurance components of these programs. As a result, the financial responsibility for the payment
of claims resulting from a qualifying event covered by the insurance features of our programs is borne by the third-party insurers. All of the insurance and service features included in our programs are supplied by third-party insurance companies or
other vendors, and the programs are distributed through an independent, licensed and non-affiliated insurance agency.
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Our agreements with the program marketers are typically for a term of 12 months, with automatic annual
renewals unless cancelled upon written notice 30 or 90 days prior to an anniversary date. Some contracts also provide for termination by either party without cause upon 30 or 90 days prior written notice.
In December 2007, our marketing agreement with American Express Travel Related Services Company, Inc. (Amex) was terminated and, effective
January 1, 2008, we transferred the Amex cardholder portion of our supplemental benefits business to Amex. Additionally, as we previously disclosed on November 5, 2007, we entered into an agreement in principle with Alliance HealthCard
(Alliance). Under the proposed terms, Alliance would acquire a portion of our supplemental benefits business and HealthExtras would be the pharmacy benefit management provider for health care products offered to Alliances members.
Financial terms of the agreement will be based on business volumes and the persistency of the supplemental benefits membership base.
Beginning with the first quarter of 2008, we will no longer be presenting supplemental benefits as a separate reportable operating segment because it no longer constitutes a reportable segment under SFAS No. 131,
Segment
Reporting
. Consequently, the PBM segment will be our only reportable operating segment.
Competition
Our supplemental benefit programs compete with the traditional distributors of disability and accident insurance, such as captive agents, independent
brokers and agents, and direct distributors of insurance, and with banks, financial institutions, securities firms and mutual fund companies that sell insurance or alternative products to similar consumers. We believe that the principal competitive
factors in our supplemental disability and accident benefits markets are price, brand recognition, marketing expenditures and customer service. Many of our current and potential competitors have longer operating histories, larger consumer bases,
greater brand recognition and significantly greater financial, marketing, technical and other resources than our own. Certain of these competitors may be able to secure products and services on more favorable terms than we can obtain.
Any of the distributors described above could seek to compete against us in providing supplemental benefits through traditional channels or by copying
our products or business model. Increased competition may result in reduced operating margins, loss of market share and damage to our brand.
GOVERNMENT REGULATION
Various aspects of our business are governed by federal and state laws and regulations. Because
sanctions may be imposed for violations of these laws, compliance is a significant operational requirement. We believe we are in substantial compliance with all existing legal requirements material to the operation of our business. There are,
however, significant uncertainties involving the application of many of these legal requirements to our business. In addition, there are numerous proposed health care laws and regulations at the federal and state levels, many of which could
adversely affect our business, results of operations and financial condition. We are unable to predict what additional federal or state legislation or regulatory initiatives may be enacted in the future relating to our business or the health care
industry in general, or what effect any such legislation or regulations might have on us. We also cannot provide any assurance that federal or state governments will not impose additional restrictions or adopt interpretations of existing laws or
regulations that could have a material adverse effect on our business or financial performance.
Some of the state laws described below may
be preempted in whole or in part by the Employee Retirement Income Security Act of 1974, ERISA, which provides for comprehensive federal regulation of employee benefit plans. However, the scope of ERISA preemption is uncertain and is
subject to conflicting court rulings. We also provide services to certain clients, such as governmental entities, that are not subject to the preemption provisions of ERISA.
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Federal Laws and Regulations Affecting the PBM Segment
The following descriptions identify various federal laws and regulations that affect or may affect aspects of our PBM business:
Medicare Prescription Drug, Improvement, and Modernization Act of 2003.
The Medicare voluntary outpatient prescription drug benefit, Part D, established under the Medicare Prescription Drug, Improvement, and Modernization Act of 2003, or MMA, became effective on
January 1, 2006. The MMA also created new guidelines for Medicare HMOs, termed Medicare Advantage Plans, which offer both an outpatient prescription drug benefit and health care coverage.
Medicare beneficiaries who elect Part D coverage pay a monthly premium for the covered outpatient drug benefit. Assistance with premiums and cost sharing
are provided to eligible low-income beneficiaries. The voluntary outpatient prescription drug benefit requires coverage of essentially the same pharmaceuticals that are approved for the Medicaid program, although selection may be restricted through
a formulary. The new outpatient prescription drug benefit is offered on an insured basis by prescription drug plans, PDPs, in 34 regions across the United States and by Medicare Advantage Plans, along with health care coverage, in 26
regions across the United States.
We are neither a PDP nor a Medicare Advantage Plan; however, we contract with PDPs and Medicare
Advantage Plans, collectively Part D Plans, to provide various PBM services. In our capacity as a subcontractor with certain Part D Plan clients, we are indirectly subject to certain federal rules, regulations, and sub-regulatory
guidance pertaining to the operation of Medicare Part D. If the federal Centers for Medicare & Medicaid Services, referred to as CMS, determines that we have not performed satisfactorily as a subcontractor, CMS may request our
PDP or Medicare Advantage Plan client to revoke our Part D activities or responsibilities under the subcontract. While we believe that we provide satisfactory levels of service, under our respective subcontracts, we can give no assurances that CMS
or a Part D Plan will not terminate our business relationships insofar as they pertain to Medicare Part D.
Among other things, PDPs and
Medicare Advantage Plans are subject to provisions of the MMA intended to deter fraud, waste and abuse and are strictly monitored by CMS and its contracted Medicare Drug Integrity Contractors, MEDICs, to ensure that Part D
program funds are not spent inappropriately. Among other things, the fraud, waste and abuse provisions of CMSs Medicare Prescription Drug Benefit Manual cites the following examples of potential PBM fraud, waste and abuse risks in connection
with Part D: prescription drug switching, unlawful remuneration, inappropriate formulary decisions, prescription drug splitting or shorting, and failure to offer negotiated prices. CMS has offered additional sub-regulatory guidance regarding some of
these risk areas, particularly with respect to the Part D formulary decision making process which is highly regulated by CMS. We believe that we are in substantial compliance with the applicable laws pertaining to these risk areas. However, no
assurance can be given that we will not be subject to scrutiny or challenge under one or more of the underlying laws by the government enforcers or private litigants.
CMS requires PDPs and Medicare Advantage Plans to report 100% of all price concessions received for PBM services. The applicable CMS guidance suggests that best practices would require PDPs and Medicare Advantage
Plans to contractually require the right to audit their PBMs as well as require 100% transparency as to manufacturer rebates paid for drugs provided under the sponsors plan, including the portion of such rebates retained by the PBM as part of
the price concession for the PBMs services. Additionally, on December 5, 2007, CMS issued a final regulation requiring Part D Plan sponsors to ensure through their contractual arrangements with first tier, downstream and related entities
(which would include PBMs) that CMS has access to such entities books and records pertaining to services performed in connection with Part D. The December 5, 2007 final regulation also suggests that Part D Plan sponsors should
contractually require their first tier, downstream and related entities to comply with certain elements of the sponsors compliance program. The applicable provisions of the CMS final regulation will take effect on January 1, 2009. We do
not anticipate that such disclosure and auditing requirements, to the extent required by Medicare plan partners, will have a materially adverse effect on our business, results of operations, financial condition, or cash flows.
CMS issued a proposed regulation on May 25, 2007 that would require Part D plan sponsors to calculate beneficiary cost sharing based upon the price
ultimately received by the pharmacy or other dispensing provider, rather than upon the price paid by the plan. Such calculation could potentially result in lower pharmacy claims
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reimbursement by Part D plan sponsors to PBMs. In addition, the proposed rule would require that any profit realized or loss incurred by a PBM through price
negotiations with pharmacies or manufacturers be included as administrative costs to the plan rather than being factored into drug costs for reimbursement purposes. Because the majority of our business is currently already structured on a
passed through pharmacy claims model, we do not expect that such changes, if implemented, would materially adversely affect our business, results of operations, financial conditions or cash flows.
Federal Anti-Remuneration/Fraud and Abuse Laws.
The
federal healthcare Anti-Kickback Statute prohibits, among other things, an entity from paying or receiving, subject to certain exceptions and safe harbors, any remuneration, directly or indirectly, to induce the referral of individuals covered by
federally funded health care programs, including Medicare, Medicaid and the Civilian Health and Medical Program of the Uniformed Services, CHAMPUS, or the purchase, or the arranging for or recommending of the purchase, of items or
services for which payment may be made in whole or in part under Medicare, Medicaid, CHAMPUS or other federally funded health care programs. Sanctions for violating the Anti-Kickback Statute may include imprisonment, criminal and civil fines, and
exclusion from participation in the federally funded health care programs.
The federal healthcare Anti-Kickback Statute has been
interpreted broadly by courts, the Office of Inspector General, referred to as the OIG, within the U.S. Department of Health & Human Services, the DHHS, and other administrative bodies. Because of the statutes
broad scope and the limited statutory exceptions, federal regulations establish certain safe harbors from liability. For example, safe harbors exist for certain properly disclosed and reported discounts received from vendors, certain investment
interests, certain properly disclosed payments made by vendors to group purchasing organizations, certain personal services arrangements, and certain discount and payment arrangements between PBMs and HMO risk contractors serving Medicaid and
Medicare members. A practice that does not fall within an exception or a safe harbor is not necessarily unlawful, but may be subject to scrutiny and challenge. In the absence of an applicable exception or safe harbor, a violation of the statute may
occur even if only one purpose of a payment arrangement is to induce patient referrals or purchases of products or services that are reimbursed by federal health care programs. Among the practices that have been identified by the OIG as potentially
improper under the statute are certain product conversion programs in which benefits are given by drug manufacturers to pharmacists or physicians for changing a prescription, or recommending or requesting such a change, from one drug to another. The
Anti-Kickback Statute has been cited as a partial basis, along with state consumer protection laws discussed below, for investigations and multi-state settlements relating to financial incentives provided by drug manufacturers to retail pharmacies
as well as to PBMs in connection with such programs.
Additionally, it is a crime under the Public Contractor Anti-Kickback Statute, for
any person to knowingly and willfully offer or provide any remuneration to a prime contractor to the United States, including a contractor servicing federally funded health programs, in order to obtain favorable treatment in a subcontract. Violators
of this law also may be subject to civil monetary penalties.
In April 2003, the OIG published Final OIG Compliance Program Guidance
for Pharmaceutical Manufacturers, referred to as Compliance Guidance. The Compliance Guidance is voluntary and is directly aimed at the compliance efforts of pharmaceutical manufacturers. This Compliance Guidance highlights several
transactions as potential risks, including the provision of grants, prebates and upfront payments to PBMs to support disease management programs and therapeutic interchanges. The Compliance Guidance also indicates that the
provision of rebates or other payments to PBMs by pharmaceutical manufacturers may potentially trigger liability under the Anti-Kickback Statute, if not properly structured and disclosed.
In April 2007, a Pfizer subsidiary, Pharmacia & Upjohn Company, Inc., pleaded guilty to one count of violating the Anti-Kickback Statute for
offering to make excess payments on a distribution contract in the amount of $12.3 million to an unnamed PBM with the expectation of obtaining improved formulary status for its drug products and improved formulary ancillary benefits. Under terms of
a settlement agreement, Pharmacia & Upjohn Company was sentenced to pay a criminal fine of $19.68 million and, as a result of the criminal conviction, the company was permanently excluded from participation in all federal health care
programs. To date, we are not aware of a PBM settlement in connection with the above case.
9
In October 2006, Medco Health Solutions, Inc., a PBM, entered into a $155 million civil settlement of
claims that Medco destroyed and canceled valid patient prescriptions, solicited kickbacks from pharmaceutical manufacturers to favor their drugs, and paid kickbacks to health plans to obtain business. The case was settled under the False Claims Act,
discussed below, but many allegations were based on the federal healthcare Anti-Kickback Statute. Similarly, in September 2005, Caremark, Inc., a PBM, entered into a $137 million civil settlement of claims that its subsidiary, AdvancePCS, allegedly
solicited and received kickbacks from pharmaceutical manufacturers in the form of excessive administrative fees, over-priced services agreements as a reward for favorable formulary treatment, and improper flat fee rebates, and that AdvancePCS
allegedly paid kickbacks to customers and potential customers to induce them to contract with AdvancePCS. The case was settled under the False Claims Act, discussed below, but the crux of the allegations pertained to anti-kickback violations.
We believe that we are in substantial compliance with the legal requirements imposed by such anti-remuneration laws and regulations.
However, there can be no assurance that we will not be subject to scrutiny or challenge under such laws or regulations. Any such challenge could have a material adverse effect on our business, results of operations, financial condition or cash
flows.
Federal Statutes Prohibiting False Claims.
The Federal False Claims Act imposes civil penalties for knowingly making or causing to be made false claims with respect to governmental programs, such as Medicare and Medicaid, for services not rendered, or for
misrepresenting actual services rendered, in order to obtain higher reimbursement. Private individuals may bring
qui tam
or whistleblower suits against providers under the Federal False Claims Act, which authorizes the payment of a portion of
any recovery to the individual bringing suit. Such actions are initially required to be filed under seal pending their review by the Department of Justice. A few federal district courts have recently interpreted the Federal False Claims Act as
applying to claims for reimbursement that violate the anti-kickback statute or federal physician self-referral law under certain circumstances. The Federal False Claims Act generally provides for the imposition of civil penalties and for treble
damages, resulting in the possibility of substantial financial penalties for small billing errors that are replicated in a large number of claims, as each individual claim could be deemed to be a separate violation of the Federal False Claims Act.
Criminal provisions that are similar to the Federal False Claims Act provide that a corporation may be fined if it is convicted of presenting to any federal agency a claim or making a statement that it knows to be false, fictitious or fraudulent.
There have been several
qui tam
actions filed under the Federal False Claims Act, the Public Contractor Anti-Kickback Statute and
similar state laws in various federal courts against several PBMs. The complaints allege, among other things, that such PBMs improperly favored the products of certain pharmaceutical manufacturers over less expensive products and engaged in improper
mail order pharmacy practices. For example, in October 2006, Medco Health Solutions entered into a $155 million civil settlement of claims under both state and federal false claims statutes that it destroyed and canceled valid patient prescriptions,
solicited kickbacks from pharmaceutical manufacturers to favor their drugs, and paid kickbacks to health plans to obtain business. Also, in September 2005, Caremark Inc. entered into a $137 million civil settlement of claims under both state and
federal false claims statutes that its subsidiary, AdvancePCS, allegedly solicited and received kickbacks from pharmaceutical manufacturers in the form of excessive administrative fees, over-priced services agreements as a reward for favorable
formulary treatment, and improper flat fee rebates, and that AdvancePCS allegedly paid kickbacks to customers and potential customers to induce them to contract with AdvancePCS. Both Medco and Caremark agreed to enter into 5-year corporate integrity
agreements with the federal government in connection with their respective settlements.
Currently, we do not directly contract with the
federal government to provide services to beneficiaries of federally funded health programs. Therefore, we do not directly submit claims to the federal government. However, we do contract with and provide services to entities or organizations that
are federal government contractors, such as Medicare Part D PDPs. There can be no assurance that the government would not potentially view one or more of our actions in providing services to federal government contractors as causing or assisting in
the presentment of a false claim. We do not believe we are in violation of the Federal False Claims Act and we have a corporate compliance and ethics program, policies and procedures and internal controls in place to help maintain an organizational
culture of honesty and integrity.
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ERISA Regulation.
ERISA regulates certain aspects of employee pension and health benefit plans, including self-funded corporate health plans. We have agreements with self-funded corporate health plans to provide PBM services, and
therefore, we are a service provider to ERISA plans. ERISA imposes duties on any person or entity that is a fiduciary with respect to the ERISA plan. We administer pharmacy benefits for ERISA plans in accordance with plan design choices made by the
ERISA plan sponsors. We do not believe that the general conduct of our business subjects us to the fiduciary obligations set forth by ERISA, except when we have specifically contracted with an ERISA plan sponsor to accept fiduciary responsibility
and be named as a fiduciary for certain functions.
Numerous lawsuits have been filed against various PBMs by private litigants, whether a
Plan participant on behalf of an ERISA plan or by the ERISA Plan sponsor, alleging that the PBMs are ERISA fiduciaries and that, in such capacity, they allegedly violated ERISA fiduciary duties in connection with certain business practices related
to their respective contracts with retail pharmacy networks and/or pharmaceutical manufacturers. For example, in 2004, Medco settled a lawsuit that alleged that Medco was a functional fiduciary under ERISA and violated its fiduciary obligations by,
among other things, failing to make adequate disclosures regarding certain rebates from pharmaceutical manufacturers and steering clients toward more expensive pharmaceuticals with higher rebates benefiting Medco and its then-parent company,
Merck & Co., Inc. Pursuant to the settlement, Medco agreed to pay $42.5 million into a settlement fund to be distributed to plan participants. In addition, Medco agreed to implement and continue certain business practices aimed at
increasing transparency around formulary decisions and therapeutic interchanges. Medco did not admit, and the settlement did not require Medco to admit, any wrongdoing under ERISA or otherwise.
In 2007, several cases further addressed the issue of whether a PBM is a fiduciary under ERISA. In an action brought against Caremark, Inc., a plan
alleged that Caremark violated its fiduciary duty under ERISA by hiding pricing spreads that yielded significant revenue for the PBM but was not passed on to the plan. In November 2007, the United States District Court for the Middle District of
Tennessee found that Caremark was not a fiduciary under ERISA because Caremark did not have discretion to unilaterally set prices for prescriptions and because the agreement between Caremark and the plan did not prohibit Caremark from negotiating
with retail pharmacies for favorable pricing. Similarly, in another action against Caremark that was ultimately appealed to the United States Court of Appeals for the Seventh Circuit, a multiemployer health fund alleged that Caremark breached its
ERISA fiduciary duties by charging the fund higher prices for drugs than Caremark itself paid, as well as for failing to pass on to the fund all price concessions that Caremark received from retailers and manufacturers. In January 2007, the Seventh
Circuit found that Caremark was not a fiduciary because the fund possessed the sole authority to control and administer prescription drug benefits and because Caremarks contracts with the fund provided that Caremark was not a fiduciary. In
contrast, however, in a case brought by a labor organization against its health plans PBM, Express Scripts, the United States District Court for the Eastern District of Missouri held in October 2007 that Express Scripts was a fiduciary because
it exercised significant discretion on the labor unions behalf by negotiating drug prices and deducting costs from, or crediting rebates and discounts to, the plans assets.
In those cases where we have not accepted fiduciary status, there can be no assurance that the U.S. Department of Labor, which is the agency that
enforces ERISA, or a private litigant would not assert that the fiduciary obligations imposed by the statute apply to certain aspects of our operations.
ERISA also imposes civil and criminal liability on service providers to health plans and certain other persons if certain forms of illegal remuneration are made or received. These provisions of ERISA are similar, but
not identical, to the federal healthcare Anti-Kickback Statute discussed above. In particular, ERISA does not provide the statutory and regulatory safe harbor exceptions incorporated into the federal healthcare Anti-Kickback Statute. Like the health
care anti-kickback laws, the corresponding provisions of ERISA are written broadly and their application to particular cases is often uncertain. We have implemented policies regarding, among other things, disclosure to health plan sponsors with
respect to any commissions paid by or to us that might fall within the scope of such provisions and accordingly believe we are in substantial compliance with these provisions of ERISA. However, we can provide no assurance that our policies in this
regard would be found by the appropriate enforcement authorities and potential private litigants to meet the requirements of ERISA.
On
December 13, 2007, the U.S. Department of Labor published proposed rules under ERISA that, if made final, would redefine what constitutes a reasonable contract or arrangement exempt from the prohibited
11
transaction provisions of ERISA. Essentially, the proposed rules require a written agreement between certain service providers (such as a PBM) and an
employee benefit plan that would require the disclosure of compensation arrangements so that the plan fiduciary can assess the reasonableness of the compensation and the potential for conflicts of interests that could affect performance of the
negotiated services. The proposed rules would also require that for a contract to be considered reasonable it must permit termination by the ERISA plan on reasonably short notice without penalty to prevent the plan from being locked into a contract
that has become disadvantageous, although the plan can be charged a fee on early termination to allow the service provider to recover start-up costs. The Department of Labor will accept comments on the proposed rules, and there may be changes in
response to those comments that clarify or alter the proposed rules. Although we believe the proposed rules are not sufficiently specific in many technical regards, in principle, because of the transparent approach we have taken in conducting our
business, the disclosures already made, and the current marketplace regarding the length of contracts and pricing arrangements, we do not believe that complying with the proposed rules, should they become final in their current form, would have a
material adverse effect on our business, results of operations, financial condition or cash flows.
FDA Regulation.
The U.S. Food and Drug Administration, the FDA, generally has authority to regulate drug promotional materials that are disseminated by or on
behalf of a drug manufacturer. In January 1998, the FDA issued a Notice and Draft Guidance regarding its intent to regulate certain drug promotion and switching activities of PBMs that are controlled, directly or indirectly, by drug manufacturers.
After extending the comment period due to numerous industry objections to the proposed draft, the FDA has taken no further action on the Notice and Draft Guidance. However, there can be no assurance that the FDA will not attempt again to assert
jurisdiction over aspects of our PBM business in the future and, although we are not controlled directly or indirectly by any drug manufacturer, the impact future FDA regulation could materially adversely affect our business, results of operations,
financial condition or cash flows.
Antitrust Regulation.
The federal antitrust laws regulate trade and commerce and prohibit unfair competition as defined by those laws. Section One of the Sherman Antitrust Act prohibits contracts, combinations or conspiracies in restraint
of trade or commerce. Despite its sweeping language, however, Section One of the Sherman Act has been interpreted to prohibit only unreasonable restraints on competition. Section Two of the Sherman Act prohibits monopolization and attempts at
monopolization. Similarly, Section Seven of the Clayton Act prohibits unlawful mergers and acquisitions. In addition, the Robinson Patman Act, which is part of the Clayton Act, prohibits a variety of conduct relating to the sale of goods, including
prohibiting practices the statute defines as price discrimination. One section of the Robinson Patman Act prohibits a seller from selling goods of like grade or quality to different customers at different prices if the favorable prices are not
available to all customers competing in the same class of trade. Successful plaintiffs in antitrust actions are allowed to recover treble damages for the damage sustained as a result of the violation.
Numerous lawsuits are pending against several PBMs and pharmaceutical manufacturers under various state and federal antitrust laws by retail pharmacies
throughout the United States challenging certain branded drug pricing practices. The complaints allege, in part, that the defendant PBMs accepted rebates and discounts from pharmaceutical manufacturers on purchases of brand-name prescription drugs
and conspired with other PBMs to fix prices in violation of the Robinson Patman Act and the Sherman Antitrust Act. The suits seek unspecified monetary damages, including treble damages, and injunctive relief. These cases are in various stages of
litigation. Several have been consolidated in multidistrict litigation with outcomes pending.
We believe that we are in substantial
compliance with the legal requirements imposed by such antitrust laws. However, there can be no assurance that we will not be subject to scrutiny or challenge under such legislation. To the extent that we appear to have actual or potential market
power in a relevant market, our business arrangements and practices may be subject to heightened scrutiny under the antitrust laws. Any such challenge could have a material adverse effect on our business, results of operations, financial condition
or cash flows.
Proposed Legislation.
Various bills in Congress address additional issues pertaining to drug pricing. For example, while the MMA currently prohibits the federal government from negotiating drug prices or establishing a preferred drug formulary
12
(i.e. the non-interference policy), several Congressional bills introduced in 2007 propose varying degrees of federal government involvement in
negotiating drug prices on behalf of Part D beneficiaries. Such bills, if passed, could potentially materially impact our business. Other Congressional bills propose restricting PBMs in their ability to make certain drug interchanges, requiring PBMs
annually to disclose all compensation received from drug manufacturers, and requiring prompt payment of pharmacy claims under Part D. However, we do not at this time anticipate a material adverse impact from any of the proposed measures discussed in
the prior sentence.
State Laws and Regulations Affecting the PBM Segment
The following descriptions identify various state laws and regulations that affect or may affect aspects of our PBM business.
State Anti-Remuneration/False Claims Laws.
Several states have laws and/or regulations similar to the federal healthcare
Anti-Kickback Statute and Federal False Claims Act described above. Such state laws are not necessarily limited to services or items for which federally funded health care program payments may be made. Such state laws may be broad enough to include
improper payments made in connection with services or items that are paid by commercial payors. Both the 2006 Medco Health Solutions and 2005 Caremark Inc. settlements, discussed above under
Federal Statutes Prohibiting False
Claims
, included settlement of civil claims under several state false claims laws. Sanctions for violating these state anti-remuneration and false claims laws may include injunction, imprisonment, criminal and civil fines and exclusion
from participation in the state Medicaid programs. Additionally, under the Deficit Reduction Act of 2005, discussed in greater detail below, states are incentivized to pass broad false claims legislation similar to the Federal False Claims Act.
We believe that we are in substantial compliance with the legal requirements imposed by such laws and regulations. However, there can be
no assurance that we will not be subject to scrutiny or challenge under such laws or regulations. Any such challenge could have a material adverse effect on our business, results of operations, financial condition or cash flows.
State Consumer Protection Laws.
Most states have
enacted consumer protection and deceptive trade laws that generally prohibit payments and other broad categories of conduct deemed harmful to consumers. These statutes may be enforced by states and/or private litigants. Such laws have been and
continue to be the basis for investigations, prosecutions, and settlements of PBMs, initiated by state prosecutors as well as by private litigants. For example, in February 2008, CVS Caremark Corporation agreed to a settlement with 28 states
attorneys general for $41 million to resolve allegations that CVS Caremark engaged in deceptive business practices by retaining the discounts and rebates obtained from switching patients to different brand-name prescription drugs.
We believe that we are in substantial compliance with the legal requirements imposed by such laws and regulations. However, no assurance can be given
that we will not be subject to scrutiny or challenge under one or more of these laws, or under similar consumer protection theories.
State
Comprehensive PBM Regulation.
States continue to introduce legislation to regulate PBM activities in a comprehensive manner.
Legislation seeking to impose fiduciary duties or disclosure obligations on PBMs has been proposed in some states. Both Maine and the District of Columbia have enacted statutes imposing fiduciary obligations on PBMs. In March 2007, the U.S. District
Court for the District of Columbia lifted an injunction on implementation of the District of Columbia statute. The court originally granted this injunction on the grounds that the statute may cause PBMs to disclose proprietary trade secrets and may
be preempted by ERISA. The District of Columbia statute imposes fiduciary duties on PBMs and requires PBMs to disclose certain financial information, including the quantity of drugs purchased and the price paid by the PBM for such drugs.
In November 2005, the First Circuit Court of Appeals upheld the Maine disclosure law, which was passed in 2003. The First Circuit clarified that the
law applies only to contracts entered into in Maine with respect to PBM
13
customers, or covered entities in Maine. Further, the court held that PBMs are not ERISA fiduciaries, but rather that their relationship with their customers
is contractual. Under the Maine law, PBMs have a fiduciary responsibility to pass through to their clients any price concessions received from drug manufacturers that are associated with volume of sales or utilization of certain drug classes. The
law also requires PBMs to report all financial terms and arrangements for remuneration of any kind between the PBM and drug manufacturer. Similarly, North Dakota, South Dakota and Vermont have relatively comprehensive PBM laws that, among other
things, increase required financial transparency, and regulate therapeutic interchange programs.
In 2007, Connecticut passed legislation
requiring PBMs to obtain certificates of registration from the Insurance Department before operating in the state. Similarly, Iowa passed legislation in 2007 requiring PBMs to register with the state as third-party administrators, as well as
requiring disclosures of conflicts of interest and imposing restrictions on PBMs substitution of medications. Tennessee also passed legislation in 2007 that clarified certain duties of PBMs, such as establishing requirements for audits by PBMs
of pharmacies and pharmacists, appeals of unfavorable preliminary audits, and calculation of reimbursement by a PBM
.
Several other states have introduced bills containing similar regulation of various PBM activities. Such state laws do not
appear to be having a material adverse effect on our PBM business operations or our ability to negotiate and/or retain rebates and administrative fees from pharmaceutical manufacturers with respect to our customers in those states. However, we can
give no assurance that these and other states will not enact legislation with more adverse consequences in the near future; nor can we be certain that future regulations or interpretations of existing laws will not adversely change the consequences
experienced to date of existing laws.
In addition, certain quasi-regulatory organizations, such as the National Association of Boards of
Pharmacy, an organization of state boards of pharmacy, the National Association of Insurance Commissioners, the NAIC, an organization of state insurance regulators, URAC and the National Committee on Quality Assurance, NCQA,
both accreditation organizations, have considered or have recently passed proposals to regulate PBMs and/or PBM activities, such as formulary development and utilization management. On June 7, 2006, URAC announced the formation of a Pharmacy
Benefit Management Standards Committee to advise the organization on the creation of requirements for an accreditation program addressing pharmacy benefits management in the Medicare, commercial insurance, and health plan arenas. On July 31,
2007, URAC released voluntary accreditation standards for PBMs that include evaluation of organizational quality, customer service, communications, disclosure of pricing policies, pharmaceutical distribution, drug utilization management, and
pharmacy and therapeutics committees. We were among the first PBMs to apply for this newly available accreditation. On October 6, 2007, we received Drug Therapy Management accreditation, and we received full accreditation as a PBM on February
19, 2008. In the summer of 2003, the NAIC adopted the Health Carrier Prescription Drug Benefit Management Model Act which sets forth model provisions for states to regulate formularies and create an exceptions process to provide access
to non-formulary medicines and avoid drug management requirements such as step therapy. While the actions of the NAIC do not have the force of law, they may influence states to adopt requirements similar to the Model Act.
Many states have licensure or registration laws governing certain types of ancillary health care organizations, including preferred provider
organizations, TPAs, companies that provide utilization review services and companies that engage in the practices of a pharmacy. The scope of these laws differs significantly from state to state, and the application of such laws to the activities
of PBMs often is unclear.
We believe that we are in substantial compliance with all such laws and requirements where required, and
continue to monitor legislative and regulatory developments. There can be no assurance, however, regarding the future interpretation of these laws and their applicability to the activities of our PBM business. Future legislation or regulation, or
interpretations by regulatory and quasi-regulatory authorities of existing laws and regulations, could materially affect the cost and nature of our business as currently conducted.
14
Network Access Legislation.
A majority of states now have some form of legislation affecting our ability to limit access to a pharmacy provider network, referred to as any willing provider legislation, or removal of a network provider, referred
to as due process legislation. Such legislation may require us or our clients to admit any retail pharmacy willing to meet the plans price and other terms for network participation, or may provide that a provider may not be removed from a
network except in compliance with certain procedures. Similarly, there are any willing pharmacy provisions applicable to Medicare Part D plans with which we contract. These statutes have not materially affected our business.
State Legislation Affecting Plan or Benefit Design.
Some states have enacted legislation that prohibits certain types of managed care plan sponsors from implementing certain restrictive design features, and many states have legislation regulating various aspects of managed care plans,
including provisions relating to the pharmacy benefits. For example, some states, under so-called freedom of choice legislation, provide that members of the plan may not be required to use network providers, but must instead be provided with
benefits even if they choose to use non-network providers. Other states have enacted legislation purporting to prohibit health plans from offering members financial incentives for use of mail service pharmacies. Legislation has been introduced in
some states to prohibit or restrict therapeutic intervention, to require coverage of all FDA-approved drugs or to require coverage for off-label uses of drugs where those uses are recognized in peer-reviewed medical journals or reference compendia.
Other states mandate coverage of certain benefits or conditions and require health plan coverage of specific drugs, if deemed medically necessary by the prescribing physician. Such legislation does not generally apply to us directly, but may apply
to certain of our clients, such as HMOs and health insurers. If legislation were to become widely adopted, it could have the effect of limiting the economic benefits achievable through PBMs. This development could have a material adverse effect on
our business, results of operations, financial condition or cash flows.
State Regulation of Financial Risk Plans.
Fee-for-service prescription drug plans are generally not subject to financial regulation by the states. However, if a PBM offers to provide prescription
drug coverage on a capitated basis or otherwise accepts material financial risk in providing the benefit, laws in various states may regulate the plan. Such laws may require that the party at risk establish reserves or otherwise demonstrate
financial responsibility. Laws that may apply in such cases include insurance laws, HMO laws or limited prepaid health service plan laws. Currently, we do not believe that our PBM business currently incurs financial risk of the type subject to such
regulation. However, if we choose to become a regional PDP for the Medicare outpatient prescription drug benefit at some time in the future, we would need to comply with state laws governing risk-bearing entities in the states where we operate a
PDP.
State Discount Drug Card Regulation.
Numerous states have laws and/or regulations regulating the selling, marketing, promoting, advertising or distributing of commercial discount drug cards for cash purchases. Such laws and regulations provide, generally, that any person may
bring an action for damages or seek an injunction for violations. We administer a limited commercial discount drug card program that we do not consider material to our business. We believe our administration of the commercial discount drug card
program is in compliance with various state laws. However, there can be no assurance that the existence of such laws will not materially impact our ability to offer certain new commercial products and/or services in the future.
Combined Federal and State Laws, Regulations and Other Standards Affecting the PBM Segment
Certain aspects of our PBM business are or may be affected by bodies of law that exist at both the federal and state levels and by other standard setting
entities. Among these are the following:
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Deficit Reduction Act of 2005.
On February 8, 2006, President Bush signed the Deficit Reduction Act of 2005, the DRA, into law, enacting significant changes to the Medicaid system, a state and federally funded program, with respect
to prescription drugs. Among other things, the DRA revises the methodology used to determine federal upper payment limits, the maximum amount a state can reimburse, for generic drugs under Medicaid, permits stronger cost-sharing requirements
applicable to Medicaid prescription drugs, and contains provisions intended to reduce fraud, waste and abuse in the Medicaid program. The DRAs fraud, waste and abuse provisions, among other things, incentivize states to enact their own false
claims acts, mirrored on the Federal False Claims Act, described above, and appropriate federal funding to increase scrutiny of the Medicaid program. The fraud, waste and abuse provisions also include a provision intended to strengthen
Medicaids status as payer of last resort relative to private health insurance by specifying that PBMs and self-insured plans may be liable third parties. Although we do not contract directly with any state Medicaid programs, the provisions in
the DRA have the potential to impact the PBM industry by means of increased prosecutorial and private litigant scrutiny of the pharmaceutical industry in general, which may include PBMs. Additionally, the DRA mandates the public availability of
pharmaceutical manufacturer average manufacturer prices, or AMPs, and creates incentives to states to use AMPs for Medicaid reimbursement, potentially paving the way for a more general market shift in reimbursement mechanisms from
average wholesale price-based methodologies to AMP-based methodologies, discussed in more detail , below, under
Legislation and Litigation Affecting Drug Prices.
Additionally, the third party recovery provisions in the DRA may
lead to greater financial recoveries from third party PBMs in cases where Medicaid was not properly a primary payor on a drug claim, even where a PBM is not financially at risk. DRA provisions regarding pharmacy restocking and double billing are
discussed below in the section titled
Regulations Affecting Mail-Order Pharmacies
.
Privacy and Confidentiality Legislation.
Our activities involve the receipt or use of confidential medical information concerning individual members. In addition, we use aggregated
and anonymized data for research and analysis purposes. Many state laws restrict the use and disclosure of confidential medical information, and similar new legislative and regulatory initiatives are underway in several states. To date, no such laws
adversely impact our ability to provide our services, but there can be no assurance that federal or state governments will not enact such legislation, impose restrictions or adopt interpretations of existing laws that could have a material adverse
effect on our business, results of operations, financial condition or cash flows.
The final privacy regulations, the Privacy
Rule, issued by the DHHS pursuant to the Health Information Portability and Accountability Act, HIPAA imposes extensive restrictions on the use and disclosure of individually identifiable health information by certain entities
known under the Privacy Rule as covered entities. PBMs, in general, are not considered covered entities. However, our clients are covered entities, and are required to enter into business associate agreements with vendors, such as PBMs, that perform
a function or activity for the covered entity that involves the use or disclosure of individually identifiable health information. The business associate agreements mandated by the Privacy Rule create a contractual obligation for the PBM to perform
its duties for the covered entity in compliance with the Privacy Rule.
The final transactions and code sets regulation, the
Transaction Rule, promulgated under HIPAA requires that all covered entities that engage in electronic transactions use standardized formats and code sets. It is incumbent upon PBMs to conduct all such transactions in accordance with the
Transaction Rule to satisfy the obligations of their covered entity clients. DHHS promulgated a National Provider Identifiers, NPI, Final Rule which required large health plans to utilize NPIs in all Standard Transactions after
May 23, 2007 and requires small health plans to utilize NPIs in all Standard Transactions after May 23, 2008. NPIs are intended to replace National Association of Boards of Pharmacy numbers for pharmacies, Drug Enforcement Agency numbers
for physicians and similar identifiers for other health care providers.
We have configured our systems to comply with the NPI Final Rule
and the Transaction Rule. The final security regulations, the Security Rule, issued pursuant to HIPAA mandate the use of administrative, physical and technical safeguards to protect the confidentiality of electronic health care
information. Similarly to the other two rules issued pursuant to HIPAA, the Security Rule applies to covered entities. We have made the necessary arrangements to ensure compliance with the Security Rule, as we are subject to many of its requirements
as a result of our contracts with covered entities.
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Compliance with the Privacy Rule, the Transaction Rule and the Security Rule (the HIPAA
Regulations) has not had a material adverse effect on our business operations. Also, pursuant to HIPAA, state laws that are more protective of medical information are not pre-empted by HIPAA. Therefore, to the extent states enact more
protective legislation, we could be required to make significant changes to our business operations.
Independent of any regulatory
restrictions, individual health plan sponsor clients could increase limitations on our use of medical information, which could prevent us from offering certain services.
Legislation and Litigation Affecting Drug Prices.
Various federal and state Medicaid agencies, as
well as legislators and private litigants have raised the issue of how average wholesale price, AWP, is determined. AWP is a standard pricing unit published by third party data sources and currently used throughout the PBM industry as
the basis for determining drug pricing under contracts with clients, pharmacies and pharmaceutical manufacturers. Under MMA, AWP no longer serves as the basis for Medicare Part B Drug reimbursement, with certain limited exceptions. Rather, Part B
drugs generally are reimbursed on an average sales price, ASP, methodology. The ASP calculation methodology, which takes into account various discounts offered by drug manufacturers, may cause some drug manufacturers to reduce the levels
of discounts or rebates available to PBMs or their clients with respect to Medicare Part B drugs. Drugs that are reimbursed on an ASP reimbursement system by Medicare do not represent a significant portion of our business and we therefore do not
believe that ASP reimbursement for such drugs will have a material adverse effect on our business, results of operations, financial condition or cash flows. The extent to which ASP will be used in pricing outside the Medicare Part B context or
changes to AWP state and federal programs could alter the calculation of drug prices for federal and/or state programs. We are aware that at least one state, California, passed legislation in 2004 to implement a system to reimburse for Medicaid
drugs using an ASP-based methodology, but such system has not yet been implemented. We are unable to predict whether any such changes will be adopted on a larger scale, and whether such changes would have a material adverse effect on our business,
results of operations, financial condition or cash flows.
As part of a proposed class action settlement in the case of New England
Carpenters Health Benefits Fund v. First DataBank, in a federal court in Massachusetts, First DataBank, FDB, agreed to reduce the reported AWP of thousands of specific pharmaceutical products by five percent. Additionally, FDB agreed to
cease reporting AWPs for all pharmaceutical products within two years of the final settlement, with limited ability to resume publication of AWPs. In May 2007, Medispan was named as a defendant in a substantially similar class action litigation
involving the publication of AWP. Medispan similarly agreed to a proposed settlement under which Medispan would reduce the mark-up factor utilized in connection with the calculation of its AWP data field and, ultimately, discontinue publication of
its AWP data field for all drugs, subject to certain conditions. Although the Massachusetts federal court granted preliminary approval to settlements for both FDB and Medispan in June 2007, opposition to approval was brought by both pharmacy and PBM
associations, including the National Community Pharmacists Association (NCPA) and the Pharmaceutical Care Management Association (PCMA). In January 2008, the court refused to grant final approval of the proposed settlement
and will consider revisions to the settlement in early 2008.
According to the proposed settlement agreement, the AWP changes would take
effect either 60 days after the effective data of the settlement agreement or 270 days from preliminary approval of the settlement. Except when our health plan clients mandate the use of AWP as reported by FDB, our contracts with pharmacies in our
retail network and our health plan clients generally cite AWP as reported by Medispan, National Drug Data file, as a pricing source for brand name and certain generic drugs. If the final approved settlement agreement includes Medispans
proposed reductions in the AWP reported for specific pharmaceutical products, such reduction could create disruption in our retail pharmacy network due to the adverse impact on AWP-based retail pharmacy pricing and pharmacy efforts to negotiate
another drug pricing measure, such as AMP or Wholesale Acquisition Cost. However, most of our contracts with our clients and retail pharmacies contain terms that we believe will enable us to mitigate the adverse effect of any proposed reduction in
reported AWP. If the final approved settlement includes reductions in reported AWP, we would exercise our contractual rights so as to mitigate as far as practicable the adverse impact to us. Whatever the outcome of this case, we believe that payors,
pharmacy providers and PBMs will begin to evaluate other pricing benchmarks as the basis for contracting for prescription drugs and benefit management services in the future. We believe our business model can utilize one or more other consistently
calculated benchmarks but we cannot evaluate the overall financial impact that the transition to any such alternative benchmark might have. Due to
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these and other uncertainties, we can give no assurance that the short or long term impact of changes to industry pricing benchmarks will not have a material
adverse effect on our financial performance, results of operations, financial condition or cash flows in future periods.
The federal
Medicaid rebate statute provides that pharmaceutical manufacturers must provide rebates on all drugs purchased by the Medicaid program. Manufacturers of brand-name pharmaceuticals must provide the Medicaid program a rebate equivalent to the greater
of (1) 15.1% of AMP the average price for products sold to wholesalers, or (2) the difference between AMP and the best price given to customers other than the Medicaid program, with certain exceptions. We negotiate rebates with and
services payments from drug manufacturers. Investigations have been commenced by certain government agencies which question whether AMPs and best prices, and thus Medicaid rebates, were properly calculated, reported and paid by the manufacturers to
the Medicaid programs. We are not responsible for such calculations, reports or payments. Some pharmaceutical manufacturers may view the Medicaid rebate statute and/or the associated investigations as a disincentive to offer rebates and discounts to
private parties, including PBMs and this may adversely affect our ability to negotiate manufacturer rebates in the future.
Additionally,
in July 2007, CMS published final regulations intended to clarify the calculation of AMP under the DRA, discussed above, as well as to require the publication of manufacturer AMPs. Prior to the issuance of these regulations, we understood that
manufacturers took varying interpretations of the current law with respect to the treatment of rebates and administrative fees paid to PBMs in the AMP calculation. Under the final AMP regulations, rebates paid to PBMs on sales through retail network
pharmacies are excluded from manufacturers calculation of AMP. The final regulation also excludes rebates on PBM retail network sales from the calculation of manufacturers best price. However, the regulation characterizes sales through a
PBMs mail operation or specialty pharmacy as retail (i.e., as part of the retail class of trade) and, therefore, as eligible for inclusion in AMP calculation. In addition, the regulation indicates that certain prices to PBMs may be
excludable from manufacturers Best Price calculation. Further, CMS intends to post on its web site monthly AMP data and the federal upper limits (FULs) derived from them for multiple source drugs after the effective date of the
final rule. The final AMP regulations could potentially affect our ability to negotiate manufacturer administrative fees and rebates in the future. Increased transparency resulting from the AMP publication requirements imposed under the final
regulation also could affect the rates at which our pharmacies are reimbursed and the rates our plans pay us for pharmacy claims, but we cannot predict at this time whether the affect of such possible changes will be positive or negative. However,
the final AMP regulation was preliminarily enjoined in December 2007, with respect to the public reporting of AMP and the use of AMP in the FUL determination, due to ongoing litigation by the National Community Pharmacists Association and the
National Association of Chain Drug Stores. Additionally, the regulation itself may be subject to change, at least with respect to the definition of AMP and the determination of FULs, as CMS was formally accepting comments on these issues until
January 2, 2008.
In addition to these potential pricing developments on the federal level, some states have adopted so-called most
favored nation legislation providing that a pharmacy participating in the state Medicaid program must give the state the lowest price that the pharmacy makes available to any third-party plan. Such legislation may adversely affect our ability to
negotiate discounts in the future from network pharmacies.
Voluntary Industry Ethical Guidelines.
The Pharmaceutical Research and Manufacturers of America encourages its members to comply with a voluntary ethical code titled PhRMA Code On
Interactions with Healthcare Professionals. This code, which is generally voluntary, but has the force of law in California, provides guidance relating to several facets of pharmaceutical manufacturers marketing practices, particularly
with respect to payments to providers. We understand that the PhRMA Code may be in the process of revision, and we cannot predict at this time what the impact of such revision might be on our business. However, we believe that these ethical
guidelines, as currently drafted, do not have a material adverse effect on our business, results of operations, financial operations or cash flows.
Future Regulation.
We are unable to predict accurately what additional federal or state legislation or regulatory
initiatives may be enacted in the future relating to our businesses or the health care industry in general, or what effect any such
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legislation or regulations might have on us. For example, the federal government and several state governments have proposed Patients Bill of Rights or
other similar legislation aimed primarily at improving quality of care provided to individuals in managed care plans. Some of the initiatives propose providing greater access to drugs not included on health plan formularies, giving participants the
right to sue their health plan for malpractice, and mandating an appeals or grievance process. There can be no assurance that federal or state governments will not impose additional restrictions, via a Patients Bill of Rights or otherwise, or
adopt interpretations of existing laws that could have a material adverse effect on our business, results of operations, financial condition or cash flows.
Regulations Affecting Mail Order Pharmacies
We operate a facility in Fort Lauderdale, Florida that provides limited mail
order services to certain of our PBM customers. This facility principally fills workers compensation and hospice-related prescriptions. Nonetheless, we are subject to state and federal statutes and regulations governing the operation of
pharmacies, repackaging of drug products and dispensing of controlled substances.
Regulation of Controlled Substances.
Our mail order facility must register with the United States Drug Enforcement Administration and individual state controlled substance authorities in
order to dispense controlled substances. Federal law requires us to comply with the DEAs security, recordkeeping, inventory control, and labeling standards in order to dispense controlled substances. State controlled substance law requires
registration and compliance with state pharmacy licensure, registration or permit standards promulgated by the state pharmacy licensing authority.
State Licensure Laws.
Our mail order facility is located in Florida, and we are licensed to do business as a pharmacy
there. Furthermore, many states require out-of-state mail order pharmacies to register with the state board of pharmacy or similar governing body when pharmaceuticals are delivered by mail into the state. Also, some states require that an
out-of-state pharmacy employ a pharmacist that is licensed in the state into which pharmaceuticals are shipped. We believe we are in substantial compliance with state licensure and registration requirements.
Other Regulations.
The federal Deficit Reduction Act
of 2005 explicitly prohibits the restocking and double billing of prescription drugs in connection with the Medicaid Program. Additionally, the Federal Trade Commission, referred to as FTC, regulates advertising by mail order pharmacies
and requires such facilities to stock a reasonable supply of a product sold, to fill mail orders within 30 days and to provide customer refunds where appropriate. In addition, the FDA sets standards for the packaging of prescription drugs. Federal
and state anti-remuneration laws also apply to our mail order pharmacy. We believe we are in substantial compliance with state and federal requirements pertaining to our mail order pharmacy operations.
Regulations Affecting the Supplemental Benefits Segment
Because our supplemental benefit programs include insurance benefits, distribution of our programs must satisfy applicable legal requirements relating, among other things, to policy form and rate approvals, the licensing laws for insurance
agents and insurance brokers, and the satisfaction by a HealthExtras member who receives the insurance benefit of requisite criteria, for example being a resident of a state which has approved the insurance policy. We believe we satisfy applicable
requirements. The underwriter of the insurance benefits included in our supplemental benefit programs is responsible for obtaining regulatory approvals for those benefits. Independent licensed insurance agencies are responsible for the solicitation
of insurance benefits involved in those programs.
Complex laws, rules and regulations of each of the 50 states and the District of
Columbia pertaining to insurance impose strict and substantial requirements on insurance coverage sold to consumers and businesses. Compliance with these laws, rules and regulations can be arduous and imposes significant costs. Each
jurisdictions insurance regulator typically has the power, among other things, to:
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administer and enforce the laws and promulgate rules and regulations applicable to insurance, including the quotation of insurance premiums;
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approve policy forms and regulate premium rates;
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regulate how, by which personnel and under what circumstances an insurance premium can be quoted and published; and
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regulate the solicitation of insurance and license insurance companies, agents and brokers who solicit insurance.
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State insurance laws and regulations are complex and broad in scope and are subject to periodic modification, as well as differing interpretations. There
can be no assurance that insurance regulatory authorities in one or more states will not determine that the nature of our business requires us to be licensed under applicable insurance laws. A determination to that effect or that we or the
distributors are otherwise not in compliance with applicable regulations could result in fines, additional licensing requirements or our inability to market the products in particular jurisdictions. Such penalties could significantly increase our
general operating expenses and harm our business. In addition, even if the allegations in any regulatory or legal action against us turn out to be false, negative publicity relating to any such allegation could result in a loss of consumer
confidence and significant damage to our brand.
One of the primary means by which our programs are marketed is telemarketing, which the
marketers may outsource to third parties. The Federal Telemarketing and Consumer Fraud and Abuse Prevention Act of 1994, related state laws and FTC regulations prohibit deceptive, unfair or abusive practices in telemarketing sales. Both the FTC and
state attorneys general have authority to prevent certain telemarketing activities deemed by them to violate consumer protection.
In 2003,
the FTC established the national Do-Not-Call Registry. Both the FTC and the Federal Communications Commission have adopted rules to enforce restrictions on companies marketing their goods and services to consumers by telephone. Subject to certain
exemptions (such as an existing business relationship with the called party), telemarketers may not initiate telephone solicitations to individuals that have registered their numbers on the national Do-Not-Call Registry. Those who disregard the
national Do-Not-Call Registry can be fined up to $11,000 per call. Companies are also required to maintain their own lists of consumers that have stated that they do not wish to receive future marketing calls, and must not solicit such consumers by
telephone, even if the call falls within the scope of one of the exemptions to the national do-not-call rules.
The Do-Not-Call Registry
has not had a material adverse effect on the sale of our supplemental benefit programs. We have continued to meet our enrollment targets.
There can be no assurance that federal or state laws regulating telemarketing will not materially impact our business in the future. In addition, some states have enacted laws, and others are considering enacting laws, targeted directly at
regulating telemarketing practices. There can be no assurance that any such laws will not adversely affect or limit our current or future operations. While compliance with these laws and regulations is generally the responsibility of the marketers
and subcontractors, there can be no assurance that we would have no exposure to liability.
EMPLOYEES
As of December 31, 2007, we had 524 employees whose services are devoted full time to HealthExtras and its subsidiaries. We have never had a work
stoppage. Our personnel are not represented by any collective bargaining unit. We consider our relations with our personnel to be good. Our future success will depend, in part, on our ability to continue to attract, retain and motivate highly
qualified technical and managerial personnel, for whom competition is intense.
Risks Related To Our Pharmacy Benefits Management
Segment
Competition in our industry is intense and could reduce or eliminate our profitability.
The PBM industry is very competitive. PBM companies compete primarily on the basis of price, service, reporting capabilities and clinical services. If we
do not compete effectively, our business, results of operations,
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financial condition or cash flows could suffer. The industry is highly consolidated and dominated by a few large, profitable, well-established companies with
significantly greater financial and marketing resources, purchasing power and other competitive advantages, which we do not have. Scale is a particularly important factor in negotiating prices with pharmacies and drug manufacturers. A limited number
of firms, including national PBM companies such as Medco Health Solutions, Inc., Express Scripts, Inc., and CVS Caremark, Inc., have an aggregate market share of approximately 70% of prescription volume. Our competitors also include drug retailers,
physician practice management companies, and insurance companies/health maintenance organizations. We may also experience competition from other sources in the future.
If we lose key clients as a result of competitive bidding for contracts, contract renewals, consolidation of clients or otherwise, our business, profitability and growth prospects could suffer.
We depend on a limited number of clients for a significant portion of our revenue. Our top ten clients generated approximately 58%
of our revenue in 2007, including approximately 20% from Wellmark Blue Cross Blue Shield of Iowa and approximately 9% from the State of Louisiana. Our business, results of operations, financial condition or cash flows could suffer if we were to lose
any of our significant clients.
Many of our clients put their contracts out for competitive bidding prior to expiration. Competitive
bidding requires costly and time-consuming efforts on our behalf and, even after we have won such bidding processes, we can incur significant expense in proceedings or litigation contesting the adequacy or fairness of these bidding processes. We
could lose clients if they cancel their agreements with us, if we fail to win a competitive bid at the time of contract renewal, if the financial condition of any of our clients deteriorates or if our clients are acquired by, or acquire, companies
with which we do not have contracts. Over the past several years, self-funded employers, TPAs and other managed care companies have experienced significant consolidation. Consolidations by their very nature reduce the number of clients who may need
our services. A client involved in a merger or acquisition by a company that is not a client of ours may not renew, and in some instances may terminate, its contract with us. Our clients have been and may continue to be, subject to consolidation
pressures.
If we lose pharmacy network affiliations, our business, results of operations, financial condition or cash flows could suffer.
Our PBM operations are dependent to a significant extent on our ability to obtain discounts on prescription purchases from retail
pharmacies that can be utilized by our clients and their members. Our contracts with retail pharmacies, which are non-exclusive, are generally terminable by either party on short notice. If one or more of our top pharmacy chains elects to terminate
its relationship with us or if we are only able to continue our relationship on terms less favorable to us, access to retail pharmacies by our clients and their health plan members, and consequently our business, results of operations, financial
condition or cash flows could suffer. In addition, several large retail pharmacy chains either own or have strategic alliances with PBMs or could attempt to acquire or enter into these kinds of relationships in the future. Ownership of, or alliances
with, PBMs by retail pharmacy chains, particularly large pharmacy chains, could have material adverse effects on our relationships with those retail pharmacy chains, particularly the discounts they are willing to make available, and on our business,
results of operations, financial condition or cash flows.
If we lose relationships with one or more key pharmaceutical manufacturers or if rebate
payments we receive from pharmaceutical manufacturers decline, our business, results of operations, financial condition or cash flows could suffer.
We receive rebates from numerous pharmaceutical manufacturers based on the use of selected drugs by members of health plans sponsored by our clients, as well as fees for other programs and services. We believe our
business, results of operations, financial condition or cash flows could suffer if:
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we lose relationships with one or more key pharmaceutical manufacturers;
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we are unable to finalize rebate contracts with one or more key pharmaceutical manufacturers for 2008, or are unable to negotiate interim arrangements;
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rebates decline due to the failure of our health plan sponsors to meet market share or other thresholds;
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legal restrictions are imposed on the ability of pharmaceutical manufacturers to offer rebates or purchase our programs or services;
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pharmaceutical manufacturers choose not to offer rebates or purchase our programs or services; or
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rebates decline due to contract branded products losing their patents.
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Over the next few years, as patents expire covering many brand name drugs that currently have substantial market share, generic products will be
introduced that may substantially reduce the market share of these brand name drugs. Historically, manufacturers of generic drugs have not offered formulary rebates on their drugs. Our profitability could be adversely affected if the use of newly
approved, brand name drugs added to formularies does not offset any decline in use of brand name drugs whose patents expire.
Changes in industry
pricing benchmarks could adversely affect our financial performance.
Contracts in the prescription drug industry, including our
contracts with our retail pharmacy networks and with our PBM clients, generally use certain published benchmarks to establish pricing for prescription drugs. These benchmarks include AWP, AMP and wholesale acquisition cost, referred to as
WAC. Most of our contracts utilize the AWP standard. Recent events, including litigation involving FirstDatabank and Medispan, have raised uncertainties as to whether payors, pharmacy providers, PBMs and others in the prescription drug
industry will continue to utilize AWP as it has previously been calculated or whether other pricing benchmarks will be adopted for establishing prices within the industry.
Additionally, the final CMS regulation regarding AMP calculation could potentially impact our ability to negotiate rebates and discounts, as well as our
retail pharmacy network pricing and PBM client contracts. Because the status of the CMS regulation remains uncertain pending CMS consideration of comments on the AMP definition, the outcome of industry challenges to the regulation, and the
disposition of alternative legislative proposals for AMP calculation, we are unable to predict whether and to what extent the CMS AMP regulation will impact our business.
These matters are discussed in detail under BusinessGovernment Regulation/
Legislation and Litigation Affecting Drug Price
, above. We believe that payors, pharmacy providers and PBMs will begin
to evaluate other pricing benchmarks as the basis for contracting for prescription drugs and benefit management services in the future.
Due to these and other uncertainties, we can give no assurance that the short or long term impact of changes to industry pricing benchmarks will not have a material adverse effect on our financial performance, results of operations,
financial condition or cash flows in future periods.
If our business continues to grow rapidly and we are unable to manage this growth, our
business, results of operations, financial condition or cash flows could suffer.
Our business has grown rapidly since 2000, in part
due to acquisitions, with total annual PBM revenue increasing from $4.9 million in 2000 to $1.8 billion in 2007. Our business strategy is to continue to seek to expand our PBM operations, including through possible acquisitions. If we are unable to
finance continued growth, manage future expansion or hire and retain the personnel needed to manage our business successfully, then our business, results of operations, financial condition or cash flows could be adversely affected. Our growth in
operations has placed significant demands on our management and other resources, which is likely to continue. Under these conditions, it is important for us to retain our existing management, and to attract, hire and retain additional highly skilled
and motivated officers, managers and employees.
If we are unable to manage potential problems and risks related to future acquisitions, our
business, results of operations, financial condition or cash flows could suffer.
Part of our growth strategy includes making
acquisitions involving new markets and complementary products, services, technologies and businesses. If we are unable to overcome the potential problems and inherent risks related to such future acquisitions, our business, results of operations,
financial condition or cash flows could suffer. Our ability to continue to expand successfully through acquisitions depends on many factors, including our ability to identify acquisition prospects and negotiate and close transactions. Even if we
complete future acquisitions:
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we could fail to successfully integrate the operations, services and products of an acquired company;
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there could be inconsistencies in standards, controls, procedures and policies among the companies being combined or assimilated which would make it more difficult
to implement and harmonize company-wide financial, accounting, billing, information technology and other systems;
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we may experience difficulties maintaining the quality of products and services that acquired companies have historically provided;
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we could be required to amortize the identifiable intangible assets of an acquired business, which will reduce our net income in the years following its
acquisition, and we also would be required to reduce our net income in future years if we were to experience an impairment of goodwill or other intangible assets attributable to an acquisition;
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we could be exposed to unanticipated liabilities of acquired businesses;
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our managements attention could be diverted from other business concerns; and
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we could lose key employees or customers of the acquired business.
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There are risks associated with integrating and operating newly acquired businesses. We can give no assurance that if we do acquire any new business organizations in the future that we will successfully operate
integrate them. Many companies compete for acquisition opportunities in the PBM industry. Most of our competitors are companies that have significantly greater financial and management resources than we do. This may reduce the likelihood that we
will be successful in completing acquisitions necessary to the future success of our business.
If we become subject to liability claims that are not
covered by our insurance policies, we may be liable for damages and other expenses that could have a material adverse effect on our business, results of operations, financial condition or cash flows.
Various aspects of our business may subject us to litigation and liability for damages. These include the performance of PBM services and the operation of
our call centers and Web site. A successful product or professional liability claim in excess of our insurance coverage where we are required to pay damages, incur legal costs or face negative publicity could have a material adverse effect on our
business, results of operations, financial condition or cash flows, our business reputation and our ability to attract and retain clients, network pharmacies, and employees. While we intend to maintain professional and general liability insurance
coverage at all times, we cannot provide assurances that we will be able to maintain insurance in the future, that insurance will be available on acceptable terms or that insurance will be adequate to cover any or all potential product or
professional liability claims.
Disruption of our point of sale information system and transaction processing system, which relies on third parties,
could have a material adverse effect on our business, results of operation, financial condition or cash flows.
Our operations
utilize an electronic network connecting over 60,000 retail pharmacies to process third-party claims. This system is provided by a third-party adjudication vendor. Because claims are adjudicated in real time, systems availability and reliability are
key to meeting customers service expectations. Any interruption in real time service, either through systems availability or telecommunications disruptions can significantly damage the quality of service we provide. Our PBM services also
depend on third-party proprietary software to perform automated transaction processing. There can be no assurance that our business will not be harmed by service interruptions or software performance problems.
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The failure by our health plan clients to pay for prescription claims or a delay in payment of those claims could
have a material adverse effect on our business, results of operation, financial condition or cash flows.
Our contracts with retail
pharmacies which participate in our network generally obligate us to make payments for prescription claims even if we are not reimbursed by our clients. If our clients delay their reimbursement payments or fail to make payments for prescription
claims, it could have a material adverse effect on our business, results of operations, financial condition or cash flows.
If we fail to comply with
complex and rapidly evolving laws and regulations, we could suffer civil and/or criminal penalties, lose clients, be required to pay substantial damages and make significant changes to our operations.
During the past several years, the U.S. health care industry has been subject to an increase in governmental regulation at both the federal and state
levels. We are subject to numerous federal and state regulations. If we fail to comply with existing or future applicable laws and regulations, we could suffer civil or criminal penalties. We must devote significant operational and managerial
resources to comply with these laws and regulations. Although we believe that we substantially comply with all existing statutes and regulations applicable to our business, different interpretations and enforcement policies of these laws and
regulations could subject our current practices to allegations of impropriety or illegality, or could require us to make significant changes to our operations. In addition, we cannot predict the impact of future legislation and regulatory changes on
our business or assure you that we will be able to obtain or maintain the regulatory approvals required to operate our business.
Among the
legislation and government regulations that could affect us as a provider of PBM services are the regulatory matters discussed in detail in under BusinessGovernment Regulation, above.
Government efforts to reduce health care costs and alter health care financing practices could lead to a decreased demand for our services and to reduced rebates
from manufacturers.
Efforts to control health care costs, including prescription drug costs, are underway at the federal and state
government levels. Congress is also currently considering proposals to reform the U.S. health care system. These proposals may increase governmental involvement in health care and PBM services and may otherwise change the way our clients do
business. Our clients and prospective clients may react to these proposals and the uncertainty surrounding them by reducing or delaying the purchase of our PBM services, and manufacturers may react by reducing rebates or reducing supplies of certain
products. These proposals could lead to a decreased demand for our services and to reduced rebates from manufacturers.
In addition, both
Congress and state legislatures are expected to consider legislation to increase governmental regulation of managed care plans. Some of these initiatives would, among other things, require that health plan members have greater access to drugs not
included on a plans formulary and give health plan members the right to sue their health plans for malpractice when they have been denied care. The scope of the managed care reform proposals under consideration by Congress and state
legislatures and enacted by states to date vary greatly, and we cannot predict the extent of future legislation. However, these initiatives could greatly constrain our business practices and impair our ability to serve our clients.
The potential of being subject to lawsuits under ERISA and the potential liabilities associated with being found to be a fiduciary of a health plan governed by
ERISA.
As a service provider to ERISA plans, we are subject to potential litigation under ERISA claims and could face potential
liabilities if we are found to be acting as a fiduciary of a plan in carrying out the services for which we are under contract. While we do not believe that the general conduct of our business subjects us to the fiduciary obligations set forth by
ERISA, except when we have specifically contracted with an ERISA plan sponsor to accept fiduciary responsibility and be named as a fiduciary for certain functions, recent litigation has revealed uncertainties with respect to whether, and under what
circumstances, courts will find PBMs to be acting as plan fiduciaries. The potential impact of ERISA liability on our business operations is more fully described in the detailed discussion of ERISA regulation under BusinessFederal Laws
and Regulations Affecting the PBM Segment
ERISA Regulation
, above.
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MMA creates a voluntary outpatient prescription drug benefit, which subjects us to certain regulations and
scrutiny, even in our limited role as a subcontractor to Part D Plans.
There are many uncertainties presented by the MMA, which is
one of the reasons we opted not to participate under the interim endorsed drug discount card program or to directly sponsor a PDP. However, we do contract with Medicare Part D Plans, as described under BusinessGovernment
Regulation, above. In the limited capacity of a subcontractor we will be subject, indirectly, to certain regulatory requirements, as more fully described in the detailed discussion of the MMA and its potential implications under
BusinessGovernment Regulation, above.
Risks Related To Our Supplemental Benefits Segment
The National Do Not Call Registry under FTC rules may have a material adverse effect on the marketing of our supplemental benefit programs.
Over 50 million consumers have registered on the Do-Not-Call Registry established by the FTC, which became effective on October 1, 2003. This
Registry limits the ability to telemarket our supplemental benefit programs. Although we do not believe the Registry has had a material adverse effect on sales of our supplemental benefit programs to date, it could have such an effect in the future.
If we lose one or more or substantially change any of our marketing relationships, our access to potential customers would decline, and our
business, results of operation, financial condition or cash flows could suffer.
In December 2007, our marketing agreement with
American Express Travel Related Services Company, Inc. (Amex) was terminated and, effective January 1, 2008, we transferred the Amex cardholder portion of our supplemental benefits business to Amex. Additionally, as we previously
disclosed on November 5, 2007, we entered into an agreement in principle with Alliance HealthCard (Alliance). Under the proposed terms, Alliance would acquire a portion of our supplemental benefits business and HealthExtras would be
the pharmacy benefit management provider for health care products offered to Alliances members. A significant majority of the remainder of our supplemental benefit program sales will be attributable to our marketing relationships with
Stonebridge Life Insurance Company, a member of the AEGON Group of Companies. If we lose or substantially change this relationship and are unable to replace it with other marketing outlets, our access to potential customers would decline and our
business, results of operations, financial condition or cash flows attributable to our supplemental benefits segment could suffer.
If we lose our
relationships with the providers of the benefits under our programs, we could have difficulty meeting demand for our programs.
We
are dependent on third party providers for the benefits included in our supplemental benefit programs. Those benefits are provided pursuant to arrangements with insurance companies which may be terminated on relatively short notice. If we were to
lose these relationships and were unable to replace them quickly and cost effectively, we would not be able to satisfy consumer demand for our programs.
If the providers of the benefits included in our programs fail to pay or otherwise provide accrued benefits, or the extent of those benefits is deemed to be greater than the providers are obligated to pay, we could become subject to
liability claims by program members.
The benefits included in our member programs are provided by other firms. If the firms with
which we have contracted to provide those benefits fail to pay or otherwise provide them as required, or are negligent or otherwise culpable in providing them, or if it is determined that the level of benefits to which members are entitled exceeds
the obligations of the providers, we could become involved in any resulting claim or litigation.
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If we fail to comply with any of the various and complex laws and regulations governing our products and marketing,
we could be subject to fines, additional licensing requirements, and lose the ability to market in particular jurisdictions.
Complex laws, rules and regulations of each of the 50 states and the District of Columbia pertaining to insurance and other PBM business regulation impose strict and substantial requirements on insurance coverage and PBM services sold to
consumers and businesses.
Compliance with these laws, rules and regulations can be arduous and imposes significant costs. The underwriters
of the insurance benefits included in our programs are responsible for obtaining and maintaining regulatory approvals for those benefits. If the appropriate regulatory approvals for those insurance benefits are not maintained, we would have to stop
including them. An independent licensed insurance agency is responsible for solicitations regarding the insurance benefits involved in our programs.
State insurance laws and regulations are complex and broad in scope and are subject to periodic modification as well as differing interpretations. There can be no assurance that insurance regulatory authorities in one
or more states will not determine that the nature of our business requires us to be licensed under applicable insurance laws or related laws. A determination to that effect or that we or our business partners are not in compliance with applicable
regulations could result in fines, additional licensing requirements and the inability to market our programs in particular jurisdictions. Such penalties could significantly increase our general operating expenses and harm our business, results of
operations and financial condition. In addition, even if the allegations in any regulatory or legal action against us are false, negative publicity relating to any such allegation could result in a loss of consumer confidence and significant damage
to our brand.
Telemarketing is one of the primary means by which our programs are marketed. Telemarketing has become subject to an
increasing amount of federal and state regulation in the past several years. For example, these regulations limit the hours during which telemarketers may call consumers and prohibits the use of automated telephone dialing equipment to call certain
telephone numbers. The Federal Telemarketing and Consumer Fraud and Abuse Prevention Act of 1994 and FTC regulations prohibit deceptive, unfair or abusive practices in telemarketing sales.
Both the FTC and state attorneys general have authority to prevent certain telemarketing activities deemed by them to violate their consumer protection
mandate. The FTC has adopted regulations which prohibit most telemarketers from calling a number listed on a National Do Not Call Registry. Violators are subject to a fine of up to $11,000 per violation. Under those FTC regulations, telemarketers
can continue to call consumers with whom a company has an existing business relationship and consumers who request information about a companys products can be called for three months. In addition, some states have enacted laws and others are
considering enacting laws targeted directly at regulating telemarketing practices, and there can be no assurance that any such laws, if enacted, will not adversely affect or limit our current or future operations. While compliance with these
regulations is generally the responsibility of the marketers and subcontractors, there can be no assurance that we would have no exposure to liability.