Could Government Drug-Price Negotiations Sound The Death Knell For Biotech Stocks?

Since years, people have complained about the high cost of prescription drugs. Medicare will soon take action to reduce the cost of prescription drugs. Experts who follow pharmaceutical and biotech stock warn about unintended consequences. They are sounding the death-knell for profits, innovation and patient care at drug companies.

Industry watchers warn that the groundbreaking change to how Medicare purchases drugs could put the profits of large drug companies such as Pfizer, Bristol Myers Squibb and Johnson & Johnson at risk.

The Inflation Reduction Act (IRA) requires the Centers for Medicare & Medicaid Services to negotiate prices for the most expensive drugs that the agency purchases. The first new round of price changes will take effect in 2026. Later, the agency's price negotiations will include a growing number of drugs.

The 2022 law, say pharmaceutical and biotech industry experts, will severely restrict medical research and development. While Joe Biden is hoping the IRA can keep Medicare solvent for 25 more years. Drug companies will be forced to innovate more carefully as they have less money to invest in research.

Brad Loncar is the chief executive officer of Loncar Investments. He said, "It's impossible to estimate how many future cures will not be possible because of this." Loncar is the provider of indexes to two exchange traded funds that focus on biotech stocks. Investor's Business Daily reported that he told the publication that IRA was "the most harmful piece of legislation for medical research" he had ever seen.

Crosshairs on Prescription Drug Prices

Some people say that the price of drugs has been stagnant for a long time.

Harry Nelson, cochair of Adaptive Health Capital's board, believes that it is easy to predict the end for an industry with a powerful and well-funded lobbying group, which has been able to avoid price negotiations over the years. Nelson is an attorney, as well as a health policy expert. Adaptive Health Capital offers financial and strategic support for health care entrepreneurs, companies and investors.

Nelson says that some patients stretch their medications by halving the dose of pills or injections, or even skipping them altogether.

Is it true that innovation is dying out due to the IRA? He laughs.

Nelson told IBD: "The idea that innovation will dry up because we increase the price a bit is absurd to me."

Biotech stocks and the IRA

There is still a lot of uncertainty about the IRA's impact on drug prices. Michael Levesque is a Moody's Investors Service Analyst. He says that three provisions will have an impact on pharmaceutical and biotech stock prices. One provision has already been implemented.

As of April 1, Medicare beneficiaries will pay less for 20 drugs in Part B as part a rebate program. Part B drugs are usually prescribed by medical professionals.

These 20 drugs' price increases have been faster than inflation. This list contains well-known drugs such as AbbVie's (ABBV), immunology blockbuster Humira, and a cancer medication from Seagen (SGEN), called Padcev.

Health and Human Services has estimated that beneficiaries can save up to $372 per dose, depending on the drug. The list started with 27 drugs. According to Endpoints, a later updated list removed drugs such as Gilead Sciences' (GILD), cancer meds Yescarta, and Tecartus, from the roundup.

The IRA caps the out-of pocket costs of seniors purchasing Part D drugs to $2,000 per year. Part D drugs can be self-administered, like some pills or injections. This will begin in 2025. Moody's Levesque states that this will only have a minor impact on biotech stock.

He told IBD that seniors used to pay 5% of the cost for these expensive drugs before the IRA. "The IRA caps all that at $2,000." Manufacturers will be required to contribute some funds.

September Looms For Biotech Stocks

Medicare is the key to IRA success.

Investors in pharmaceutical and biotech stocks who are preparing for Medicare negotiations will not know anything more until September. The list of 10 first drugs to be negotiated will be released in September. New prices will be implemented in 2026.

In the first two-year period of the new law only drugs covered by Part D will be subjected to price adjustments. Medicare will begin to loop in Part B medications in 2028.

In a long document, Medicare officials outlined the rules of negotiation.

Howard Deutsch is the principal partner of consulting firm ZS Associates. He says that the document has left him with many more questions than it did answers. One big question: How will Medicare decide the lowest price it is willing to pay for an negotiated drug?

He told IBD that the statute only specifies a maximum price. It does not specify a minimum. How are we going determine in advance if the negotiated price will be at the ceiling, at a penny, or anywhere between?

What will Medicare consider when it comes to biotech stocks?

Richard Hughes, an Epstein Becker Green attorney, said CMS officials would likely take into account a drug's benefit clinically, the amount of money a company invested to develop it, and the unmet market need. Hughes was the former vice-president of policy at Moderna.

The initial list of drugs for 2026 is also not known. Both biotech and pharmaceutical shares could be affected by the answer.

Levesque believes he can guess which drugs will be included on the list. In a recent report, Levesque said that the most expensive Part D drugs for Medicare are Eliquis and Pfizer's blood thinner, Bristol Myers.

The next two are Revlimid, a cancer drug from Bristol Myers, and Xarelto, a blood thinner made by J&J. Other drugs include those from AbbVie (AbbVie), Eli Lilly (LLY), Merck MRK (MRK), Sanofi SNY (SNY), and Novo Nordisk NVO (NVO).

There are some drugs that come with a significant caveat. They can ask for a delay if they are due to compete with a biosimilar or generic within two years after their inclusion on the negotiation list.

Seven years after their approval, small molecule drugs (most pills and tablets) could be subject to negotiation. The new price would then come into effect two years later. Before biologic drugs can be placed on the CMS list, they have to wait 11 years. The new price will be set at 13 years after approval.

Some patients are struggling with pharmaceutical stocks

The price of drugs has been steadily rising for years, say supporters.

Nelson, from Adaptive Health, said that even before the pandemic there was a problem with the affordability of drugs and health care for many people. There were many stories of people cutting the prescribed amount in half or breaking pills because they could not afford to buy their medicine.

The pandemic prompted a number subsidies to help people. These subsidies are now disappearing. As a result, more people are becoming aware of the fact that they may not be able to afford certain medicines.

Eight out of ten adults in a survey conducted by the Kaiser Family Foundation in October said that the price of prescription medications is excessive. Seven out of ten adults said they could still afford their medications.

In its report, the foundation stated that "about three out of ten adults reported not taking their prescribed medicines at some point during the last year due to the cost." This includes one-sixth (16%) of adults who haven't filled a prescription. One-fifth (22%) have taken an over-the counter drug in place. And 13% have said they've cut pills in half, or skipped doses.

Biotech Stock Innovation Drives Prices Higher

Nelson also notes that drug prices are increasing. This is partly due to the incredible innovations.

He said, "We are living in an exciting time for drug development with small molecules, all these new drugs to treat diabetes, and immuno-oncology." There are all these scientific advances. Each new drug for a particular condition is more costly than the previous one. Ironically, scientific advances are constantly driving more and more expensive medications."

Biotech stocks are also continuing to tread water. After initially falling, the 800-company biotech stock group retook the 200-day moving median line. This was around the same time that CMS clarified the IRA provisions. According to MarketSmith.com, the group has also recently moved above its 50 day line, which indicates an improvement in recent trends.

Experts say that the drug price changes will also have a profound impact on pharmaceutical stock prices. IBD classifies 39 pharmaceutical stocks into two groups.

Performance of Pharmaceutical Stocks

Pfizer, Merck and other major pharmaceutical companies are included in the Medical-Ethical Drugs Industry Group. The group is now ranked No. Based on the six-month performance of IBD's 197 groups, it now ranks 53. Stocks have seen a recent rise and have a relative strength rating of 80. This puts their 12-month performance among the top five groups.

Medical-Diversified, led by Eli Lilly has also seen recent growth. The industry, however, has a lower RS rating and is ranked just No. 140.

Matt Wetzel is a partner in the law firm Goodwin Proctor LLP. He says that drugmakers have 30 days to reply to Medicare's first offer. Wetzel wrote in an online posting that Medicare does not appear to have limitations or restrictions as to whether it will accept or reject the counteroffer.

Loncar is the provider of ETF indexes. He claims that this will not be a negotiation.

Loncar explained that it was "like negotiating with a mob." You have two options: Get whacked or try to negotiate with us. Negotiating when you can get punched is not really negotiation. "Really, the government is setting the prices of the drugs."

R&D Investment In New Drugs

Experts say that as a result of this, revenue and profit will be lower for companies. Loncar says that they will be able to invest less in the development of new drugs. Pharma and biotech stocks may also suffer a long-term decline.

Loncar stated that "if you have price controls by the government in any industry, including ours, it will completely chill that industry. It will also lower innovation and creativity as well as risk-taking among people who work there." If it is implemented in the current form, it will have a major impact on our industry.

He gives a good example of cancer drugs. The IRA states that drug prices will be lower nine to thirteen years after the first approval of the active ingredient. The majority of cancer drugs were initially developed for patients with rare forms or severe illnesses. It is often easier to prove the benefit of a drug in a more sickly group of patients. Companies test the drugs on larger populations.

This new law may completely change the script for biotech and pharmaceutical stocks and leave sickest patients behind.

Loncar stated that it was not financially viable for companies to develop drugs with rare indications. "The clock would start as soon as the drug is approved, and the product will be on the market in a niche market," he said.

Innovation At Biotech Stocks

Deutsch, principal of ZS Associates, says that it's a straightforward math problem.

He said, "From a R&D perspective, you will easily see two things." "Big Picture: You'll see less things coming to market. Fundamentally, you can expect less opportunities if you lower the value.

Companies will also avoid developing small-molecule drugs, such as pills that control blood pressure, cholesterol, diabetes, and other ailments that increase with age. Drug sales are usually affected after 14 years of being on the market, when patents expire. This opens a new lane for generics. The nine-year clock set by the IRA allows companies to profitably recoup their costs for developing a new drug.

Bill Melville is an analyst at Clarivate. He says that fewer efforts in the early stages will be successful. In an interview, he stated that if you are the pharmacy that manufactures the next blockbuster Alzheimer’s drug, it will be worth a great deal. "Will you be afraid of that? I don't really know. It may happen that some drugs fail to perform well in clinical studies. "They might be thrown out a bit earlier than in the past to reduce losses."

Drug Industry Acquisitions and Mergers

There is a strong appetite for innovation. This is the fuel that drives biotech and pharmaceutical stock prices.

Levesque believes that companies will have to be smart. The drug price control will be like a patent cliff. This is a reduction in revenue earlier.

He said that it was not a "new dynamic," but rather an acceleration in the timeframes and pricing levels the companies had hoped to achieve. "Because this is not a brand new dynamic, it just impacts the timing. The strategies to deal with the situation are similar to those companies have used to deal with the patent cliffs."

He anticipates more mergers between biotech companies. Amgen (AMGN), which is currently spending $28 billion on Horizon Therapeutics, (HZNP), are two recent examples. Pfizer will spend $43 billion to acquire cancer specialist Seagen. Levesque claims that both deals were likely made due to strategic reasons based on the IRA.

Merck announced recently that it had acquired Prometheus (RXDX), a company with a drug at a late stage of development for inflammatory colitis.

Insulin makers drop prices on their own voluntarily

Recent events have thrown the drug pricing debate into a frenzy.

Recently, the three largest diabetes treatment manufacturers -- Eli Lilly Sanofi and Novo Nordisk - announced steep price cuts on some of their insulin products.

After intense public and legislative pressure, and after hearing stories of diabetics who are insulin-dependent and have suffered extreme consequences from not taking their medication, the decision was made. Levesque s