For a patient with hepatitis C, a potentially deadly disease, the prospect of finding a cure with minimal side effects is a really big deal. Also a big deal is the cost of Sovaldi (sofosbuvir), an oral drug approved by the Food and Drug Administration in December 2013 for the treatment of chronic hepatitis C. Sovaldi has been priced by its manufacturer, Gilead, at $1,000 per pill, or an estimated $84,000 for its entire 12-week regimen. It joins the treatment arsenal with several older drugs generally thought either to be less effective or to have more side effects, and another newly approved drug to be taken in combination with other drugs. More drugs are expected to gain approval within the year.

Sovaldi’s price tag has drawn attention in part because an estimated 3 million Americans have the hepatitis C virus and could be considered candidates for new drugs. Patients will clearly benefit from a long-awaited cure, and public and private payers could potentially see a reduction in health care spending over the long term if Sovaldi successfully cures this disease and fewer patients require high-cost liver transplants. But private insurers and public programs will face significant budgetary pressures if a large number of patients receive this treatment at current prices.

To date, attention has focused on cost implications for private health plans, Medicaid, and the Department of Veterans Affairs (VA). For example, UnitedHealth reported that the cost of Sovaldi was “multiple times” its expectations. State Medicaid officials and Medicaid plans have warned that the cost of the new treatments will pose significant fiscal challenges to state budgets and plan payment rates, even though Medicaid receives a 23.1 percent rebate (discount) for all brand drug purchases. The VA has decided to cover the drug and secured from Gilead a discount of 44 percent, one that applies to certain other federal purchasers, but is targeting treatment to the sickest patients while waiting for less expensive drugs to become available.

Less attention has been paid to the cost implications for Medicare, where coverage of Sovaldi will fall under Part D, the program’s outpatient prescription drug benefit administered by private plans. Given the drug’s effectiveness, most if not all of Part D plans will likely cover Sovaldi. The anticipated impact on costs to Medicare will be revealed to CMS later this month, when plans submit premium bids for 2015. Plans will increase their bids to cover the expected costs of new treatments, which will raise costs for both the federal government and Part D enrollees who pay premiums. CMS will release the average Part D premium for 2015 in August.

The cost to Medicare may be substantial. Based on our analysis of the National Health and Nutrition Examination Survey (NHANES), 350,000 Medicare beneficiaries have hepatitis C, although less than half of them are aware they have the disease. Because hepatitis C is most prevalent among baby boomers, the number of patients seeking treatment under Part D could rise unless they are cured before reaching the age of Medicare eligibility. HHS is currently encouraging at-risk individuals to get hepatitis C screening, which could boost the number of people, including Medicare beneficiaries, seeking a cure. Medicare may soon begin to cover the cost of Hepatitis C screening for those at risk, which could further increase the number of beneficiaries seeking Medicare-covered treatments.

Estimating Medicare Costs For Sovaldi: Two Scenarios

To estimate the potential cost to Medicare, we looked at two scenarios for how many Medicare beneficiaries might be treated with Sovaldi. In each scenario, we assume a 12-week course of treatment of Sovaldi, by itself, at a total price of $84,000.

In the first scenario, we assume that 25,000 Medicare beneficiaries — or roughly 10 percent of Part D enrollees with the hepatitis C virus and about one-fourth of enrollees who have been diagnosed — are treated with Sovaldi. At this level of treatment, Medicare spending would increase by about $2 billion in new Part D drug costs in 2015 over 2014 — a 3 percent increase in federal Part D outlays and Part D premiums from this drug alone.

The second scenario assumes 75,000 Part D enrollees get treated, equivalent to most of those who are aware they have the virus, but far less than the 350,000 infected beneficiaries. This higher rate of treatment would mean about $6.5 billion more in Part D drug spending, an increase of about 8 percent in both federal Part D outlays and enrollee premiums — a bigger increase than in any year since 2008.

These estimates of new costs to Medicare might be conservative. Medicare costs could be considerably higher because doctors often prescribe Sovaldi in conjunction with other medications. In addition, the cost to Medicare would be higher if a larger number of beneficiaries are diagnosed and treated than we assumed. But it is also possible that costs could be lower than our estimates if fewer people get treated, if new equally effective drugs become available at a lower cost, or if Part D plans are able to negotiate lower prices.

A Lack Of Leverage For Medicare Drug Plans

Yet, it is likely to be hard for plans (and thus for Medicare) to have an impact on price in the case of Sovaldi. In Part D, price negotiations are conducted by private plan sponsors on the premise that they can leverage lower prices from pharmaceutical companies by trading volume for discounts, as well as by deciding whether to cover the drug and at what level of cost sharing. This approach works best when multiple drugs achieve similar outcomes. But what happens when a newly approved drug lacks direct competitors, based on its high cure rate and low rate of side effects? Absent competitive pressures, Part D sponsors have little negotiating power.

The high price of Sovaldi is expected to have cost implications for Medicare beneficiaries seeking treatment. Even with coverage under Medicare Part D, patients receiving the treatment are likely to incur high out-of-pocket costs, paying as much as $7,000 in cost sharing over a 12-week period for Sovaldi, taking into account the deductible, coinsurance, coverage gap, and the 5 percent coinsurance above the catastrophic limit. Total out-of-pocket costs would be even higher for Part D enrollees who take Sovaldi in combination with other drugs.

Furthermore, if the high cost of Sovaldi leads plans to impose prior authorization restrictions to manage utilization, some patients could face barriers to getting treatment at any cost. However, the publicity over a recent denial of coverage by a Part D plan — and its subsequent reversal — highlights the potential pitfalls for plans in exercising this type of utilization management.

Potential savings and who would get them. The intense focus on the costs of treatment for Medicare and patients does not take into account the potential for longer-term savings. Clinical evidence suggests that successful treatment of the disease may reduce costs associated with liver disease down the road. Milliman has estimated that Medicare beneficiaries with hepatitis C have three times the average overall medical costs as other Medicare beneficiaries. If these higher costs were eliminated or substantially reduced, the savings achieved over a longer term could offset the one-time cost of the drug for any given patient. However, because Part D is funded and provided separately from other Medicare benefits, these savings would accrue to Medicare, not to the stand-alone Part D plans. By contrast, Medicare Advantage drug plans could potentially realize savings over the longer term, provided beneficiaries stay in the same plan for many years.

Policy Responses To Sovaldi And Similar Drugs  

When high-priced, innovative drugs come to market with no real competitors, the federal government could consider strategies to reduce the cost to Medicare. As noted above, Medicare does not receive the discounts obtained by the VA or Medicaid; in fact, the program is explicitly prohibited by law from negotiating drug pries directly with pharmaceutical manufacturers. The public, however, has expressed a favorable view of giving the government greater authority to negotiate lower drug prices in Medicare, despite the reluctance of lawmakers to move in this direction. A limited way to change the existing ban on government negotiation could be a binding arbitration system designed by Richard Frank and Joseph Newhouse for a scenario where a clinically important drug lacks competition from clinical alternatives.

Medicare might also consider a means of taking into account the medical savings that might result down the road from treatment with expensive drugs like Sovaldi. Medicare could design a way to hold back from the manufacturer some portion of the payment to see if savings materialize. The idea is to create a lower price, but offer a means of sharing savings if they materialize.

At a time when the nation is focused on how to control health costs, Sovaldi raises interesting and difficult questions which are likely to recur each time a highly priced breakthrough drug comes to the market with little or no competition, leaving public and private payers, and patients themselves, to absorb the costs. For now, Medicare is slated to pay top dollar to provide an important treatment that will potentially save lives. The question for policymakers is whether that is a sustainable policy for the longer term.

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