Are drug company profits excessive?

July 31, 2012

Free Market Foundation

Critics of the prescription drug industry say drugs cost too much and point to drug company profits as proof. The implication is that price controls would make drugs more affordable. But are the criticisms true?

Critics point to the U.S. industry’s median profit of 18 percent as a percentage of revenue in 1999.

Yet companies spending far less on research and development make more than the most profitable drug companies: Nabisco made a 36 percent profit; Coca Cola, competitively priced, outperformed most drug companies throughout the ’90s; and Tribune, which owns a number of major newspapers, made a 46 percent profit.

Pharmaceutical companies spent about 21 percent of their sales in 2000 developing and testing new drugs, more R&D than any other industry and twice as much as the computer software industry.

Yet Microsoft reported a 39 percent profit last year and BMG Software 28 percent.

Are price controls the answer to higher drug prices? A Wharton School study of Canada’s experiences shows that while people may pay less for some drugs, they pay more for others if they can get them at all.

Canadian prices were 13 percent lower to three percent higher than U.S. prices, and generic drugs 45 percent of the American prescription drug market tend to cost more in Canada.

But access is an even bigger problem, since between 1994 and 1998 the Canadian government considered 400 new drugs for reimbursement under its single-payer health system, but decided only 24 were substantial improvements.

Furthermore, each province has its own review apparatus, so that of 99 new drugs approved for reimbursement by the Canadian government in 1998 and 1999, only 24 were listed in the Ontario formulary.

Since Canadians must pay out of pocket for unapproved drugs, demand is low, pharmacies tend not to stock them and Canadians go to the U.S. to buy them.

The bottom line is that drug companies aren’t profitable because they charge so much, but because they make products patients and their doctors want.

Source: Merrill Matthews (visiting scholar, Institute for Policy Innovation), The Myth of Greedy Drug Firms: Their Profits Are Not Out Of Line, Investor’s Business Daily, February 13, 2001.

For more on International Drug Issues http://www.ncpa.org/pi/health/hedex7q.html