Generic drugs play a key role in the US healthcare system. In Medicaid, coverage of outpatient prescription drugs is governed by the Medicaid Drug Rebate Program (MDRP), which requires manufacturers to pay rebates in return for guaranteed coverage. These rebates include a base rebate and an inflation rebate that applies when a drug’s average manufacturer price (AMP) increases faster than the rate of inflation.

Intended to restrain drug price increases, the inflation penalty affects both brand and generic products, but poses unique challenges for generic manufacturers, due in large part to the differing dynamics of the multi-source (generic) versus single-source (brand) markets. Purchasing pattern fluctuations, including changes in customer base and seasonal changes in product usage, can raise a generic product’s AMP even when the manufacturer did not increase the price. In addition, pricing for generic drugs is highly affected by the commoditized nature of the multi-source generic market. Price competition in many generic markets has driven prices down to just above production costs, with minimal margins to absorb any fluctuations (e.g., increases in manufacturing or ingredient costs). This downward pressure may result in price increases for generic manufacturers when input costs increase or when there is a shortage. This is particularly likely when the AMP benchmark is low, which occurs when a manufacturer enters the market after others or if it is an older generic drug (where there has been sustained price competition).

This paper details five scenarios of how AMP increases may occur and lead to a generic manufacturer being subject to inflation rebates in situations where the generic manufacturer is not taking a price increase beyond the inflation rate:

• Scenarios in which a generic manufacturer may be faced with a Medicaid inflation rebate without increasing the price of the drug:
  • Scenario A: Change in customer base (e.g., loss of high-rebate, high-volume contract)
  • Scenario B: Seasonal fluctuations in product usage and product costs
• Scenarios in which a generic manufacturer is faced with a Medicaid inflation rebate due to price increases driven by market pressures:
  • Scenario C: Increases in product input cost not reflected in the Consumer Price Index for All Urban Consumers (CPI-U)
  • Scenario D: Drugs in shortage
  • Scenario E: Mature generics and late entrants to the generics market

The application of inflation rebates in these instances can cause generic products to become unprofitable in Medicaid. This can lead to product withdrawals and, over time, less competitive and sustainable markets.

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Funding for this research was provided by the Association for Accessible Medicines. Avalere retained full editorial control.