Indication-Based Pricing for Multi-Indication Drugs

Abstract

Many pharmaceutical drugs have multiple indications, for which they offer a varying degree of benefit for patients. Yet, in the current U.S. pricing system, the price of the drug is the same regardless of the indication for which it is prescribed. This uniform pricing policy can deter the payer from providing coverage for low-value indications, if the price is high relative to the potential benefit for patients, which can reduce patients’ access to the drug. It can also deter the drug manufacturer from investing in obtaining U.S. Food and Drug Administration (FDA) approval for new indications, as the lack of flexibility in pricing can result in too low demand (and thus profits) to recoup fixed investment costs. Indication-based pricing has been proposed as a new pricing mechanism for multi-indication drugs allowing the price to differ according to the indication, to better align the price of the drug to its value. In this paper, we analyze the effect of indication-based pricing in comparison with uniform pricing on the drug manufacturer’s profit and investment incentives, the patient demand and utility, the payer’s coverage incentives, and the payer’s objective. Under uniform pricing, we consider both the cases when the price can versus cannot be adjusted upon introduction of a new indication. We find that the drug manufacturer earns higher profits under indication-based pricing than under uniform pricing. Moreover, indication-based pricing improves incentives for the manufacturer to invest in a new indication and for the payer to cover the drug. If the fixed investment cost is high, indication-based pricing also benefits patients and the payer’s objective. Otherwise, the patient demand, patient utility and payer’s objective may be lower under indication-based pricing. Hence, payers who value the patient utility should carefully consider the tradeoffs involved in implementing this pricing system and where the bottlenecks are under uniform pricing. This paper was accepted by Carri Chan, healthcare management. Supplemental Material: The online appendices are available at https://doi.org/10.1287/mnsc.2022.01721 .