    [Senate Hearing 112-729]
    [From the U.S. Government Publishing Office]

                                                            S. Hrg. 112-729

      SHORT-SUPPLY PRESCRIPTION DRUGS: SHINING A LIGHT ON THE GRAY MARKET

    =======================================================================

                                    HEARING

                                   before the

                             COMMITTEE ON COMMERCE,
                          SCIENCE, AND TRANSPORTATION
                              UNITED STATES SENATE

                          ONE HUNDRED TWELFTH CONGRESS

                                 SECOND SESSION

                                   __________

                                 JULY 25, 2012

                                   __________

        Printed for the use of the Committee on Commerce, Science, and
                                 Transportation

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           SENATE COMMITTEE ON COMMERCE, SCIENCE, AND TRANSPORTATION

                          ONE HUNDRED TWELFTH CONGRESS

                                 SECOND SESSION

                JOHN D. ROCKEFELLER IV, West Virginia, Chairman
    DANIEL K. INOUYE, Hawaii             KAY BAILEY HUTCHISON, Texas,
    JOHN F. KERRY, Massachusetts             Ranking
    BARBARA BOXER, California            OLYMPIA J. SNOWE, Maine
    BILL NELSON, Florida                 JIM DeMINT, South Carolina
    MARIA CANTWELL, Washington           JOHN THUNE, South Dakota
    FRANK R. LAUTENBERG, New Jersey      ROGER F. WICKER, Mississippi
    MARK PRYOR, Arkansas                 JOHNNY ISAKSON, Georgia
    CLAIRE McCASKILL, Missouri           ROY BLUNT, Missouri
    AMY KLOBUCHAR, Minnesota             JOHN BOOZMAN, Arkansas
    TOM UDALL, New Mexico                PATRICK J. TOOMEY, Pennsylvania
    MARK WARNER, Virginia                MARCO RUBIO, Florida
    MARK BEGICH, Alaska                  KELLY AYOTTE, New Hampshire
                                         DEAN HELLER, Nevada
                        Ellen L. Doneski, Staff Director
                       James Reid, Deputy Staff Director
                         John Williams, General Counsel
                 Richard M. Russell, Republican Staff Director
                David Quinalty, Republican Deputy Staff Director
       Rebecca Seidel, Republican General Counsel and Chief Investigator

                                C O N T E N T S

                                  ----------
                                                                       Page
    Hearing held on July 25, 2012....................................     1
    Statement of Senator Rockefeller.................................     1
    Statement of Senator Boozman.....................................    39
    Statement of Senator Klobuchar...................................    84
    Statement of Senator Lautenberg..................................    86
    Statement of Senator Begich......................................    87
    Statement of Senator Thune.......................................    89

                                   Witnesses

    Virginia Herold, Executive Officer, California Board of Pharmacy.    41
        Prepared statement...........................................    44
    Hon. Tom Harkin, U.S. Senator from Iowa..........................    46
        Prepared statement...........................................
    Dr. David Mayhaus, Chief Pharmacy Director, Cincinnati Children's
      Hospital Medical Center; Member, Executive Committee,
      Children's Hospital Association Pharmacy Forum.................    47
        Prepared statement...........................................    49
    Hon. Elijah E. Cummings, Ranking Member, U.S. House Committee on
      Oversight and Government Reform................................    51
        Prepared statement...........................................    53
    John Coster, Ph.D., R.Ph., Senior Vice President, Government
      Affairs and Director, NCPA Advocacy Center, National Community
      Pharmacists Association........................................    55
        Prepared statement...........................................    57
    John M. Gray, President and CEO, Healthcare Distribution
      Management Association (HDMA)..................................    60
        Prepared statement...........................................    61
    Patricia Earl, Industry Analyst, National Coalition of
      Pharmaceutical Distributors (NCPD).............................    62
        Prepared statement...........................................    64

                                    Appendix

    Allan Coukell, Director, Medical Programs, Pew Health Group, The
      Pew Charitable Trusts, prepared statement......................    95
    Letter dated August 2, 2012 to Chairman John D. Rockefeller IV,
      Committee on Commerce, Science, and Transportation from Curtis
      Rooney, President, Healthcare Supply Chain Association.........    98
    Letter dated August 31, 2012 to Hon. John D. Rockefeller,
      Committee on Commerce, Science, and Transportation from John M.
      Gray, President and CEO, Healthcare Distribution Management
      Association....................................................   111
    Mark Snyder, Chief Executive Officer, Superior Medical Supply,
      Inc., prepared statement.......................................    99
    Response to written questions submitted by Hon. Roger F. Wicker
      to:
        Virginia Herold..............................................   107
        Dr. David Mayhaus............................................   109
        Dr. John Coster..............................................   109
        John M. Gray.................................................   112
        Patricia Earl................................................   112
    Response to written questions submitted by Hon. John Boozman to:
        Virginia Herold..............................................   108
        Dr. David Mayhaus............................................   109
        Dr. John Coster..............................................   111
        John M. Gray.................................................   112
        Patricia Earl................................................   114

      SHORT-SUPPLY PRESCRIPTION DRUGS: SHINING A LIGHT ON THE GRAY MARKET

                                  ----------

                            WEDNESDAY, JULY 25, 2012

                                           U.S. Senate,
            Committee on Commerce, Science, and Transportation,
                                                        Washington, DC.
        The Committee met, pursuant to notice, at 2:35 p.m. in room
    SR-253, Russell Senate Office Building, Hon. John D.
    Rockefeller IV, Chairman of the Committee, presiding.

           OPENING STATEMENT OF HON. JOHN D. ROCKEFELLER IV,
                    U.S. SENATOR FROM WEST VIRGINIA

        The Chairman. Good afternoon. This hearing will come to
    order, and it should be an interesting hearing. Others will be
    appearing, do not despair.
        We are holding this hearing today because some, I would
    say, very unscrupulous people have figured out a way to make a
    quick buck at the expense of sick patients, hospitals, and, in
    the end, our entire health care system. For the past few years,
    hospitals all over the country have been struggling with the
    terrible problems of drug shortages: they don't have certain
    drugs when they need them.
        The drugs that have been in short supply are not allergy
    drugs. They're not blood pressure pills. They tend to be cancer
    drugs, powerful drugs that doctors need to treat cancer
    patients and/or to perform surgery. These drugs, in their
    shortage, make it very difficult and sometimes impossible for
    doctors and for hospitals and nurses and other health care
    professionals to do their job, which is to care for us when
    we're critically ill.
        A West Virginia hospital recently told me about two young
    ovarian cancer patients who traveled several hours to reach the
    hospital and start their treatment. When they arrived, the
    hospital had to send them home. The hospital had to send them
    home because it didn't have the needed drug. They didn't say it
    didn't exist. They just didn't have it.
        The main purpose of this hearing today is not to talk about
    the causes of drug shortages on a general scale. There have
    been hearings in other committees about this issue. I know that
    the Food and Drug Administration and the drug industry are
    working hard to avert shortages, and I applaud them and urge
    them to keep up their work. There would be nothing more
    terrifying than to think about being in a hospital and needing
    a drug, and you can't get it, because somebody else is hoarding
    it and jacking up the price on it.
        What we are here to talk about today are the opportunists
    who suddenly appear when drugs are in short supply. They are
    profiteers, people who exploit the misery of sick patients to
    make a quick buck. We usually call them gray market companies.
    There are other names that are ascribed to them, but we'll
    stick with gray market companies.
        These gray market companies seem to know when drugs are in
    shortage--that is their leverage, their key to success--even
    before the hospitals know it. And they always seem to be able
    to get their hands on short-supply drugs, even when authorized
    prescription drug distributors don't have them in stock.
        For the past few months, my friends, Senator Harkin, who I
    believe is coming, and Congressman Elijah Cummings, who I'm
    pretty sure is coming--he's running a meeting now but I think
    he wants to make a statement, and I want him to. I'm hopeful
    also that Senator Enzi might be here. He certainly is invited.
    We would be honored to have him. And myself--all of us have
    been investigating who these gray market companies are and
    where they're getting their drugs.
        At this point, I ask unanimous consent to insert our staff
    report on this investigation into the record of this hearing.
        What we have found is that our drug distribution system has
    weak points, and gray market companies know exactly how to
    exploit weak points. We have learned that there are people in
    the drug supply chain who ignore their professional and
    business obligations and sell their drugs to gray market
    companies instead of to doctors and to patients or hospitals.
    This is the report.
        We have carefully mapped out dozens of cases where
    prescription drugs that should have been delivered to hospitals
    and administered to sick patients instead spent weeks
    circulating in the gray market. We're not sure about everything
    that happens to the drugs when they are being passed from hand
    to hand in the gray market, but here's one thing we do know.
    Every company in the chain charges a big markup.
        By the time the gray market has done its work, a cancer
    drug that originally costs maybe $10 or $12 has become a drug
    that costs $500 or even $1,000. You're talking about markups of
    1,000 percent or more. And the person who makes the drug, the
    distributor who distributes the drug, to the hospital who needs
    the drug--but in between is the gray market, these little boxes
    of people who are using shortages to drive up the cost of--the
    profit they can make.
        This kind of price gouging is disgusting to me and,
    obviously, indefensible. Not even gray market companies
    themselves are willing to defend it. I invited the five
    companies we looked at in this investigation to testify at this
    hearing. They all declined my invitation, and that's because
    they all know what they're doing is wrong. I could subpoena
    them. We've subpoenaed some of their records, and maybe some
    day I'll subpoena them, just because I like to see people who
    don't do good things squirm.
        We need to close down this gray market, I would suggest to
    you, and do a better job making sure that prescription drugs
    are safe and affordable. And that's what I look forward to
    talking about today.
        [The information previously requested follows:]

                      ``Shining Light on the Gray Market''

    An Examination of Why Hospitals Are Forced to Pay Exorbitant Prices for
                  Prescription Drugs Facing Critical Shortages

     Staff Report prepared for: Senator John D. Rockefeller IV, Chairman,
    Senate Committee on Commerce, Science, and Transportation, Senator Tom
      Harkin, Chairman, Senate Committee on Health, Education, Labor, and
      Pensions, Representative Elijah E. Cummings, Ranking Member, House
          Committee on Oversight and Government Reform--July 25, 2012

                               Table of Contents
    Executive Summary
    I. The Growing Shortages of Drugs Used to Treat Critically Ill Patients

        A.  The Impact of Drug Shortages on Patients and Hospitals

        B.  The Causes of Drug Shortages

        C.  The Appearance of Gray Market Companies

        D.  How Drug Distribution Chains Typically Work

        E.  Background on Congressional Investigation

    II.  Findings

        A.  Exorbitant Prices Charged for Drugs in Gray Market

          1.  Significant Markups Throughout Gray Market Distribution
                Chains

          2.  Similar Results Found for All Five Shortage Drugs Examined

          3.  Additional Information on Gray Market Chains

        B.  How Drugs Enter the Gray Market

          1.  Drugs Entering Gray Market Primarily Through Pharmacies

          2.  Some Pharmacies Selling Their Entire Inventories Into Gray
                Market

          3.  Using Pharmacies as Purchasing Agents for Shortage Drugs

          4.  Establishing Fake Pharmacies

          5.  Common Ownership and Shared Employees

          6.  Wholesalers Handling the Drugs Have Disciplinary or Licensing
                Problems
    Conclusion
    Appendix
                                     ______

    Executive Summary
        This investigation has examined a group of companies that buy and
    sell prescription drugs that hospitals and other health care providers
    urgently need to treat their sick patients. Operating outside of
    authorized distribution networks, these ``gray market'' companies take
    advantage of drug shortages to charge exorbitant prices for drugs used
    to treat cancer and other life-threatening conditions. These companies'
    questionable business practices put patients at risk and cost the
    United States health care system hundreds of millions of dollars each
    year.

    The Role of Gray Market Companies in Drug Shortages
        Over the past several years, a growing number of prescription drugs
    sold in the United States have experienced supply shortages. Because
    these shortages have been most severe among a group of injectable drugs
    used to treat patients with cancer and other serious illnesses, they
    have had a particularly serious impact on hospitals. Hospitals across
    the country have struggled to provide appropriate care to their
    patients and have spent hundreds of millions of dollars managing the
    administrative and clinical problems drug shortages cause.
        During drug shortages, hospitals are sometimes unable to buy drugs
    from their normal trading partners, usually one of the three large
    national ``primary'' distributors, AmerisourceBergen, Cardinal Health,
    or McKesson. At the same time, hospitals are deluged by sales
    solicitations from gray market companies offering to sell the shortage
    drugs for prices that are often hundreds of times higher than the
    prices they normally pay. Hospital pharmacists have been both angered
    and confused by these offers. They have asked, ``why the hospitals
    can't get these products but the `scalpers' can.''

    Gray Market Drugs ``Leak'' Out of Authorized Distribution Chains
        The drug ``pedigree'' documents reviewed in this investigation show
    that some short-supply injectable drugs do not reach health care
    providers through the manufacturer-wholesaler distributor-dispenser
    chain that policymakers and industry stakeholders present as the
    typical model for drug distribution. Instead, these drugs ``leak'' into
    longer gray market distribution networks, in which a number of
    different companies--some doing business as pharmacies and some as
    distributors--buy and re-sell the drugs to each other before one of
    them finally sells the drugs to a hospital or other health care
    facility.
        In more than two-thirds (69 percent) of the 300 drug distribution
    chains reviewed in this investigation, prescription drugs leaked into
    the gray market through pharmacies. Instead of dispensing the drugs in
    accordance with their professional duties, state laws, and the
    expectations of their trading partners, these pharmacies re-sold the
    drugs to gray market wholesalers. Some pharmacies sold their entire
    inventories into the gray market. The wholesalers in turn sold the
    drugs--usually at significant markups - to other gray market companies.
        In the drug chain illustrated below, which documents the shipment
    of 25 vials of a chemotherapy drug called fluorouracil in September
    2011, the leakage point was a Maryland pharmacy called Priority
    Healthcare. Instead of dispensing the drug to patients, the owner of
    this company, Marianna Pesti, sold the vials to a New Jersey
    distributor called Tri-Med America, which was owned by Ms. Pesti's
    husband, Gabor Szilagyi. The drugs were sold five more times before
    reaching their end user, a hospital in California.

    Gray Market Companies Aggressively Mark Up Drug Prices
        As the drugs pass through these gray market distribution chains,
    they are significantly marked up, sometimes to prices that are hundreds
    of times higher than the prices that hospitals and other health care
    providers normally pay. The markups in these chains often bear no
    relation to the companies' cost of purchasing, shipping, or storing the
    drugs. Instead, they reflect an intent to take advantage of the acute
    demand for short-supply drugs by charging health care providers
    exorbitant prices.
        In the example above, each company in the chain marked up the vials
    by large margins, two by more than 100 percent, even if they never took
    physical custody of the vials or only held them for a short time. The
    hospital that purchased the drug ended up paying $600 per vial for a
    drug that a pharmacy had purchased for $7 per vial. Hospitals purchase
    short-supply drugs at these exorbitant prices because, as one hospital
    explained, ``We have no other choice . . . We have to take care of our
    patients.''
        Other significant findings of this investigation are:

            ``Fake Pharmacies'' Acquire Prescription Drugs from Authorized
            Distributors and then Sell Them Into the Gray Market. The
            investigation has identified a number of businesses holding
            pharmacy licenses that do not dispense drugs, but instead
            appear to operate for the sole purpose of acquiring short-
            supply drugs that can be sold into the gray market.

            ``Drug Brokers'' Recruit Pharmacies to Purchase Drugs for the
            Gray Market. Some gray market wholesalers gain access to
            shortage drugs by recruiting pharmacies to act as their
            purchasing agents.

            Gray Market Business Practices Are Widespread. Pedigree and
            price information collected for five different short-supply
            injectable drugs, documenting the activities of 125 different
            companies, showed similar patterns of leakage and aggressive
            gray market price markups. For all five drugs, units normally
            costing $10 to $20 were regularly marked up to prices of $200
            or more while they traveled through the gray market.

            Gray Market Drugs Are Marked Up as They Quickly Pass from Owner
            to Owner. On average, the prescription drugs examined in this
            investigation were owned by three to four different gray market
            businesses before being sold to a hospital; most of the drugs
            traveled through the gray market in five days or less.

            Gray Market Companies Sometimes Charge Hospitals Significantly
            Different Prices for the Same Drug Product on the Same Day.
            Gray market companies sold units of the exact same drug product
            to different hospitals on the same day at significantly
            different prices. On the same day, for example, a gray market
            company sold a drug to a U.S. military hospital for $315 per
            unit, and sold the exact same drug product to another hospital
            for $215 per unit.

    I. The Growing Shortages of Drugs Used to Treat Critically Ill Patients
        The Food and Drug Administration (FDA) defines a drug shortage as
    ``a situation in which the total supply of all clinically
    interchangeable versions of an FDA-regulated drug is inadequate to meet
    the current or projected demand at the patient level.'' \1\ Federal
    government officials and health care professionals have observed a
    growing rate of shortages in recent years. According to drug shortage
    tracking conducted by the FDA's Center for Drug Evaluation and Research
    (CDER) and the American Society of Health-System Pharmacists, drug
    shortages more than quadrupled between 2005 and 2011. For example, CDER
    reported that drug shortages increased from 61 in 2005 to 251 in
    2011.\2\
    ---------------------------------------------------------------------------
        \1\ U.S. Food and Drug Administration, A Review of FDA's Approach
    to Medical Product Shortages, 8 (Oct. 31, 2011).
        \2\ Id. at 9 (2005-10 shortage numbers). See also U.S. Food and
    Drug Administration, Overview: U.S. Drug Shortage Trends, Reasons for
    Drug Shortages, FDA's Role, View of the Future, 10 (July 2012) (2011
    shortage numbers). ASHP defines a drug shortage as ``a supply issue
    that affects how the pharmacy prepares or dispenses a drug product or
    influences patient care when prescribers must use an alternative
    agent,'' Rola Kaakeh, et al., Impact of Drug Shortages on U.S. Health
    Systems, Vol. 68 American Journal of Health-Systems Pharmacy, 1811
    (Oct. 1, 2011).
    ---------------------------------------------------------------------------
    Figure I--FDA Count of U.S. Drug Shortages

        The rising number of drug shortages has been concentrated primarily
    in the area of generic sterile injectable drugs, liquids packaged in
    sterile glass vials that are ``parenterally'' administered to the body
    through syringes or an intravenous (i.v.) administration set. Drugs
    administered in this manner reach their target treatment area more
    quickly than oral drugs, but also carry greater risks of infection and
    complications caused by incorrect dosages.\3\ Administering a drug
    intravenously usually requires a trained health care professional who
    can carefully monitor the dosage and the patient's reaction to the
    drug.\4\
    ---------------------------------------------------------------------------
        \3\ David E. Golan, et al., Principles of Pharmacology, 3rd
    Edition, 30-31 (2012).
        \4\ Id.
    ---------------------------------------------------------------------------
        Of the 251 drug shortages the CDER reported in 2011, 182 of the
    shortages (73%) involved sterile injectables.\5\ An October 2011
    analysis of short-supply drugs conducted by the IMS Institute for
    Healthcare Informatics also found that most of the reported shortages
    involved generic sterile injectable drugs. The largest number of drugs
    in this group (20) were sterile injectables used in chemotherapy
    treatment for cancer patients.\6\ In its report, IMS noted the group of
    patients who were most directly affected by these shortages:
    ---------------------------------------------------------------------------
        \5\ U.S. Food and Drug Administration, supra note 2, at 10.
        \6\ IMS Institute for Healthcare Informatics, Drug Shortages: A
    Closer Look at Products, Suppliers, and Volume Volatility, 7 (Nov.
    2011).

            The drug shortage problem is almost entirely affecting generic
            injectable drugs, which means that the impacted patients are
            mostly acute care patients being treated by providers in
            hospitals and out-patient facilities. Of the total generic
            injectable market, half are on the shortages list.\7\
    ---------------------------------------------------------------------------
        \7\ Id. at 3.

        The sterile injectables in shortage have also included frequently-
    used items such as anesthetics for surgery, ``crash cart'' drugs used
    in emergency rooms, and electrolytes for intravenous feeding.\8\ A
    representative of the American Society of Health-System Pharmacists
    recently commented that the shortages have ``the potential to affect
    almost every patient that comes into a hospital.'' \9\
    ---------------------------------------------------------------------------
        \8\ See, e.g., Senate Committee on Health Education Labor &
    Pensions, Prescription Drug Shortages: Examining a Public Health
    Concern and Potential Solutions, 112th Cong. (Dec. 15, 2011) (written
    statement of Sherry Glied, Ph.D., Assistant Secretary for Planning and
    Evaluation, Department of Health and Human Services).
        \9\ Waning Cancer Drug Supplies a Growing Concern at St. Jude
    Children's Research Hospital, The Commercial Appeal (Mar. 25, 2012).
    ---------------------------------------------------------------------------
    A.  The Impact of Drug Shortages on Patients and Hospitals
        According to many health care professionals, the recent widespread
    shortage of sterile injectable drugs has had a serious impact on
    patients suffering from cancer and other life-threatening conditions.
    Nearly all hospitals across the country (99.5%) reported experiencing
    at least one serious drug shortage from January to June 2011.\10\ When
    drugs are unavailable, health care providers are sometimes forced to
    delay treatments or procedures, or to make the difficult choice to use
    an alternative treatment. Either choice can lead to negative
    consequences. Delaying treatment can allow conditions to worsen or can
    even lead to death, while alternative therapies may be less effective
    than shortage drugs or may cause more significant side effects.\11\
    ---------------------------------------------------------------------------
        \10\ American Hospital Association, AHA Survey on Drug Shortages
    (July 12, 2011).
        \11\ See, e.g., Senate Committee on Health Education Labor &
    Pensions, Prescription Drug Shortages: Examining a Public Health
    Concern and Potential Solutions, 112th Cong. (Dec. 15, 2011) (statement
    of Dr. John Maris, Chief of the Division of Oncology, Children's
    Hospital of Philadelphia); Senate Committee on Finance, Drug Shortages:
    Why They Happen and What They Mean, 112th Cong. (Dec. 7, 2011)
    (statement of Dr. Patrick Cobb, Oncologist, Frontier Cancer Center,
    Billings, MT); Chemotherapy Shortage Prevents Patients from Getting
    Treatment, The Daily Oklahoman (Aug. 26, 2011) (quoting Erin Fox,
    Pharm.D, Manager, Drug Information Service, University of Utah
    Hospitals and Clinics, on the difficulty of using alternative
    treatments during drug shortages: ``That's what makes a chemo shortage
    very difficult. These aren't easy drugs to switch out like Legos.'').
    ---------------------------------------------------------------------------
        Hospitals also spend a significant amount of money and
    administrative resources managing drug shortages. A 2011 American
    Society of Health-System Pharmacists (ASHP) report estimated that drug
    shortages cost hospitals more than $400 million a year, including the
    higher costs that hospitals pay to purchase shortage drugs and the cost
    of labor that is dedicated to managing the shortages.\12\ Increased
    labor costs associated with drug shortages include time that
    pharmacists, physicians, nurses, and other staff spend searching for
    shortage drugs or alternative treatments. Some hospitals have dedicated
    staff members to managing shortages on a full-time basis.
    ---------------------------------------------------------------------------
        \12\ Kaakeh, supra note 2, at 1818.
    ---------------------------------------------------------------------------
    B. The Causes of Drug Shortages
        Policymakers have offered a number of different explanations for
    why drug shortages occur. The short-term supply of a drug may drop
    because a manufacturer shuts down a production line to investigate a
    quality problem, or upgrade or repair its facilities. In the case of
    sterile injectables, which are usually manufactured by only two or
    three companies and require specialized equipment and processes, it is
    difficult for competitors to quickly increase their production to make
    up for this lost production.\13\ In some cases, manufacturers stop or
    slow down production because they cannot obtain the Active
    Pharmaceutical Ingredients (API) they need to produce the drugs.\14\
    ---------------------------------------------------------------------------
        \13\ U.S. Department of Health and Human Services, Office of the
    Assistant Secretary for Planning and Evaluation (ASPE), Office of
    Science and Data Policy, ASPE Issue Brief: Economic Analysis of the
    Causes of Drug Shortages (Oct. 2011).
        \14\ Id.
    ---------------------------------------------------------------------------
        According to an FDA review of 127 drug shortages reported in 2010
    and 2011, the most common cause for shortages was manufacturers'
    decisions to shut down facilities to address drug quality problems.\15\
    A Government Accountability Office (GAO) analysis of 15 drug shortages
    occurring in 2009 and 2010 found that 12 of the shortages were caused
    by ``manufacturing problems.'' \16\ Manufacturers themselves have
    reported to ASHP that the top reason for these shortages was
    ``production-related issues and increased demand.'' \17\
    ---------------------------------------------------------------------------
        \15\ Id.
        \16\ U.S. Government Accountability Office, Drug Shortages: FDA's
    Ability to Respond Should be Strengthened, 22-23 (Nov. 2011) (GAO-12-
    116).
        \17\ IMS Institute for Healthcare Informatics, supra note 6, at 9.
    ---------------------------------------------------------------------------
        Other observers have pointed to the broader business dynamics of
    the generic sterile injectable market to explain the recent shortages.
    They argue that the strong bargaining power of group purchasing
    organizations (GPOs) and Medicare Part B reimbursements tied to the
    ``Average Sales Price'' cause manufacturers to operate with only very
    small profit margins.\18\ According to these observers, manufacturers
    do not make the investments necessary to increase their capacity to
    produce the drugs, and potential competitors have no financial
    incentive to enter the market, because they have little or no ability
    to raise the prices of their products.\19\
    ---------------------------------------------------------------------------
        \18\ Group purchasing organizations, or ``GPOs,'' are organizations
    that act as purchasing intermediaries between medical product vendors
    and the hospitals, pharmacies, and other health care providers that are
    members of the GPOs. Among other things, GPOs negotiate the prices for
    which drug manufacturers sell prescription drugs to GPO members.
    Typically, drug manufacturers ship their products to wholesalers who
    then sell the drugs to health care providers at GPO-negotiated prices.
        \19\ See e.g., Senate Committee on Finance, Drug Shortages: Why
    They Happen and What They Mean, 112th Cong. (Dec. 7, 2011) (statement
    of Rena M. Conti Ph.D., Assistant Professor of Health Policy and
    Economics, University of Chicago); See also Ali Yurukoglu, Medicare
    Reimbursement and Shortages of Sterile Injectable Pharmaceuticals
    (National Bureau of Economic Research, Working Paper No. 17987 at 7)
    (April 2012)) (online at http://www.nber.org/papers/
    w17987.pdf?new_window=1).
    ---------------------------------------------------------------------------
    C. The Appearance of Gray Market Companies
        As a growing number of sterile injectable drugs went into short
    supply in 2010 and 2011, hospitals around the country began receiving
    increasing numbers of telephone, fax, and e-mail solicitations from
    ``gray market'' drug companies.\20\ These companies claimed to have
    supplies of short-supply drugs that the hospitals could not obtain
    through their normal distribution channels. The companies' offers
    generally mentioned the fact that the drugs were in short supply and
    often suggested that their supplies were very limited.\21\
    ---------------------------------------------------------------------------
        \20\ Institute for Safe Medication Practices (ISMP) Medication
    Safety Alert, Gray Market, Black Heart: Pharmaceutical Gray Market
    Finds a Disturbing Niche during the Drug Shortage Crisis (Aug. 25,
    2011). More than half of respondents reported daily solicitations.
        \21\ Premiere Healthcare Alliance, Buyer Beware: Drug Shortages and
    the Gray Market (Aug. 2011) (quoting one solicitation as stating ``[w]e
    only have 20 of this drug left and quantities are going fast'').
    ---------------------------------------------------------------------------
        The gray market companies appeared to be taking advantage of supply
    shortages to sell the drugs at prices much higher than hospitals paid
    their normal suppliers. An analysis by the Premier Healthcare Alliance
    of 636 solicitations made to hospitals in early 2011 found that gray
    market companies were selling short-supply drugs at prices that were on
    average 650% higher than the prices hospitals paid for the drugs
    through their group purchasing agreements. In some cases, companies
    were selling the drugs at markups as high as 3,000% to 4,000% over
    their typical contract prices.\22\
    ---------------------------------------------------------------------------
        \22\ Id.
    ---------------------------------------------------------------------------
        In May 2011, for example, Mark Richerson, the pharmacy director of
    Christus Santa Rosa Health Care in San Antonio, Texas, reported that
    Allied Medical Supply, a gray market company based in Miami, had
    offered to sell him 2-gram vials of the shortage cancer drug cytarabine
    for $995 per vial.\23\ The hospital's normal average purchase price for
    the drug was $15.76 per vial. Mr. Richerson told the San Antonio
    Express-News:
    ---------------------------------------------------------------------------
        \23\ Drug Shortages, Skyrocketing Prices Anger Pharmacists, San
    Antonio Express-News (May 3, 2011).

            I don't understand this shortage, and it makes me angry because
            the drug is unavailable for patients who need it. . .What I
            want to know is, how did these distributors get this drug when
            no one else has it, and what is the basis for their pricing?
            Isn't this kind of price gouging illegal? \24\
    ---------------------------------------------------------------------------
        \24\ Id.

        Many hospital pharmacists and purchasing agents like Mr. Richerson
    were frustrated and angered by gray market solicitations. When the
    Institute for Safe Medication Practices (ISMP) surveyed a large group
    of hospitals in July and August 2011, it received hundreds of comments
    complaining about the gray market solicitations and asking ``why
    hospitals can't get these products, but the `scalpers' can.'' \25\
    Hospital pharmacists also ``reported feeling pressured by physicians
    and hospital administrators to purchase medications from the gray
    market.'' \26\
    ---------------------------------------------------------------------------
        \25\ Institute for Safe Medication Practices, supra note 20.
        \26\ Id.
    ---------------------------------------------------------------------------
        Choosing between having no supply of a drug or purchasing the drug
    at an exorbitant price from an unknown gray market company raised
    difficult ethical and business questions for hospitals. While some
    hospitals set policies to buy drugs only through their regularly
    trusted networks,\27\ others decided to buy drugs from gray market
    companies because, as one hospital pharmacist explained, ``[w]e have no
    other choice . . . We have to take care of our patients.'' \28\
    According to a report in a recent newsletter of the National
    Association of Children's Hospitals and Related Institutions (NACRI):
    ---------------------------------------------------------------------------
        \27\ See, e.g., Eric T. Rosenthal, Frustration Over Gray-Market
    Drugs Lingers Throughout Nation, Journal of the National Cancer
    Institute (Feb. 22, 2012) (``Our pharmacy purchasing department
    receives [gray market] solicitations every day, but we disregard them
    all. We have a very conservative, black-and-white approach and will not
    use any drugs that come from outside our regular wholesalers or
    manufacturers.'').
        \28\ San Antonio Express-News, supra note 23. See also Shortages
    Are Often Costly for Hospitals, West Central Tribune (Nov. 17, 2011)
    (quoting the pharmacy director at Rice Memorial Hospital in Willmar,
    Minnesota as saying that the hospital tries to avoid purchasing
    prescription drugs from secondary wholesalers ``if at all possible''
    and has only made such purchases ``on occasion where there literally
    were no other options'').

            Some children's hospitals refuse to deal with the gray market
            in any capacity. Others only purchase from gray market
            distributors when they've exhausted all other outlets for
            access to a drug critical in a life-threatening situation for a
            patient and if the pedigree contains documented proof of origin
            and transfer. There are risk management and quality and
            efficacy issues in addition to the exorbitant cost of gray
            market drugs. The astronomical cost of the gray market cannot
            be passed on to the patient or payer, so it must be absorbed by
            the hospital.\29\
    ---------------------------------------------------------------------------
        \29\ John VanEeckhout, Financial Implications of the Drug Shortage
    Crisis, Children's Hospitals Today (Winter 2012).

        Many hospitals and other stakeholders expressed concern about the
    safety of drugs purchased from gray market companies because they did
    not understand how gray market vendors obtain short-supply prescription
    drugs. During a recent FDA workshop on drug shortages, an executive of
    drug manufacturer APP Pharmaceuticals explained, ``we don't know how it
    gets there either. We're as perplexed as the customers are, the health
    care professionals are.'' \30\ A representative of the University of
    Utah Health System explained during the workshop why it had implemented
    a policy not to purchase prescription drugs from gray market vendors:
    ---------------------------------------------------------------------------
        \30\ Transcript of Workshop, Food and Drug Administration, Center
    for Drug Evaluation and Research, Drug Shortage Workshop (Sept. 26,
    2011) at 316-17 (statement of Scott Meacham, Executive Vice President &
    Chief Commercial Officer, APP Pharmaceuticals).

            Now we feel like there are very significant safety issues with
            these products. We don't know where they've come from. We don't
            know if they've stored [sic] properly, so it's been our
            hospital's policy not to purchase from these companies, and we
            have not ever purchased from those companies.\31\
    ---------------------------------------------------------------------------
        \31\ Id. at 69 (statement of Erin R. Fox, Pharm.D, Manager, Drug
    Information Service University of Utah Hospitals & Clinics).

        The Fox Chase Cancer Center in Philadelphia will not purchase
    prescription drugs in the gray market for the same reason: ``It's not
    because of the cost issues, but the main thing is: If I can't be
    absolutely sure of the integrity of the drug, then I can't administer
    it to a patient.'' \32\
    ---------------------------------------------------------------------------
        \32\ Jaimy Lee, Providers Fuel Gray Market: Some Sell While Others
    Buy During Drug Shortage, Modern Healthcare (Sept. 5, 2011).
    ---------------------------------------------------------------------------
        Some hospital pharmacists believe that gray market wholesalers
    contact them to learn which drugs the hospitals are having trouble
    acquiring so that the gray market wholesalers can quickly attempt to
    buy quantities of those drugs. A drug buyer at All Children's Hospital
    in St. Petersburg, Florida, explained, ``[t]hey will ask you, `What are
    you having a hard time getting?' '' She said that answering the
    question is ``the worst thing you can do, because then they will go and
    buy it all up from the manufacturers.'' \33\
    ---------------------------------------------------------------------------
        \33\ Short of Drugs, Hospitals Wary of `Gray Market,' St.
    Petersburg Times (Nov. 7, 2011).
    ---------------------------------------------------------------------------
    D. How Drug Distribution Chains Typically Work
        A typical drug distribution chain has three elements: (1) a
    manufacturer, which creates and sells a prescription drug to (2) a
    wholesale distributor, which then sells the drug to (3) a hospital or
    pharmacy, which dispenses it to patients. (See Figure II).

    Figure II--Commonly Understood Drug Distribution Model

        In some cases, additional authorized parties might be involved in
    these chains. Drug manufacturers sometimes sell their products to
    ``repackagers,'' before the drugs are distributed.\34\ In addition,
    large ``primary'' distributors sometimes sell drugs to ``secondary''
    distributors, which then sell the drugs to pharmacies or hospitals.
    Such sales to secondary distributors comprise only a small percentage
    of primary distributors' sales. Distributors that have an ongoing
    relationships with manufacturers serve as ``authorized distributors of
    record'' (ADR) for the manufacturers.\35\ About 85 percent of all
    revenues in the wholesale market are generated by three national
    distributors--AmerisourceBergen, Cardinal Health, and McKesson--that
    serve as ADRs for many manufacturers.\36\ Distributors that
    predominantly buy prescription medicines from the manufacturers and
    predominantly distribute them directly to health care providers such as
    hospitals and pharmacies are called ``primary'' distributors.\37\
    ``Secondary'' distributors are also sometimes ADRs, and they obtain
    access to drugs from primary distributors or other sources.\38\ Figure
    III shows the FDA's illustration of a typical distribution chain.
    ---------------------------------------------------------------------------
        \34\ ``In the U.S., wholesale drugs in bulk containers are often
    repackaged into smaller containers prior to sale to an end user.
    Repackaging operations are performed by independent entities, wholesale
    distributors, or by distribution centers owned by large pharmacies.''
    Food and Drug Administration, Counterfeit Drug Task Force Report
    (October 2003).
        \35\ Authorized distributors of record are ``distributors with whom
    a manufacturer has established an ongoing relationship to distribute
    such manufacturer's products.'' 21 U.S.C. Sec. 353(e)(3)(A).
        \36\ Pew Charitable Trusts, Pew Health Group, After Heparin:
    Protecting Consumers from the Risks of Substandard and Counterfeit
    Drugs, 63 (July 12, 2011) (online at http://www.pew
    health.org/reports-analysis/reports/after-heparin-85899367953).
        \37\ Healthcare Distribution Management Association, HDMA Fact
    Sheet on PDMA (online at http://www.healthcaredistribution.org/
    press_room/pdma_facts.asp).
        \38\ Id.
    ---------------------------------------------------------------------------
    Figure III--FDA Drug Distribution Model

        Distributors and pharmacies play distinct roles in the distribution
    chain and are subject to different regulatory and licensing
    requirements. Under Federal law, distributors have the authority to
    purchase drugs from manufacturers and deliver them to pharmacies,
    hospitals, and other parties that are not patients.\39\ Pharmacies are
    the end point of the chain, responsible for dispensing the drug in a
    manner that is consistent with the appropriate treatment of a
    patient.\40\
    ---------------------------------------------------------------------------
        \39\ Under Federal law, the wholesale distribution of drugs is
    defined as the ``distribution of drugs . . . to other than the consumer
    or patient.'' 21 U.S.C. Sec. 353(e)(3)(B).
        \40\ According to the Model Pharmacy Act, the ``Practice of
    Pharmacy'' means ``the interpretation, evaluation, and implementation
    of Medical Orders; the Dispensing of Prescription Drug Orders;
    participation in Drug and Device selection; Drug Administration; Drug
    Utilization Review (DUR); the Practice of Telepharmacy within and
    across state lines; Drug or Drug-related research; the provision of
    Patient Counseling; the provision of those acts or services necessary
    to provide Pharmacist Care in all areas of patient care, including
    Primary Care, Medication Therapy Management, Collaborative Pharmacy
    Practice, the ordering, conducting, and interpretation of appropriate
    tests, and the recommendation and administration of immunizations.''
    National Association of Boards of Pharmacy, Model State Pharmacy Act
    Sec. 104.
    ---------------------------------------------------------------------------
        In addition to the obligations that come with their licenses as
    distributors or pharmacies, companies involved in drug distribution
    chains often also have contractual obligations to their trading
    partners. Most large distributors purchase drugs from manufacturers
    pursuant to ADR agreements, which sometimes restrict the distributors'
    freedom to buy and sell the drugs. The drug manufacturer Hospira, for
    example, requires its ADRs to commit that ``they will purchase Hospira
    products directly from Hospira, and only sell Hospira products to end
    users of our products.'' \41\
    ---------------------------------------------------------------------------
        \41\ Letter from Brian J. Smith, Senior Vice President, General
    Counsel and Secretary, Hospira, to Senate Commerce Committee Chairman
    Rockefeller, Senate Health, Education, Labor, and Pensions Committee
    Chairman Harkin, and House Oversight and Government Reform Committee
    Ranking Member Cummings (Jan. 5, 2012).
    ---------------------------------------------------------------------------
        Primary wholesale distributors commonly place similar ``own use''
    restrictions on their customers. For example, one of the primary
    wholesale distributors requires most of its customers that hold
    themselves out as ``Final Dispensers,'' such as pharmacies, to certify
    ``that they do not and will not redistribute prescription
    pharmaceuticals purchased from [that primary wholesale distributor]
    into the Secondary Market.'' \42\ The same primary wholesale
    distributor also requires its secondary wholesaler customers to sell to
    ``Final Dispensers'' the pharmaceutical products they purchase from
    that primary wholesale distributor.\43\ Another primary wholesale
    distributor typically requires its final dispenser customers to agree
    to use purchased products for their ``own use'' and its secondary
    wholesaler customers to agree to sell purchased products only to final
    dispensers.\44\
    ---------------------------------------------------------------------------
        \42\ Primary Wholesale Distributor, Policy Statement on Secondary
    Market Sales.
        \43\ Primary Wholesale Distributor, Wholesaler Safe Product
    Practices.
        \44\ E-mail from Primary Wholesale Distributor to Senate Committee
    on Commerce, Science, and Transportation Staff (July 19, 2012).
    ---------------------------------------------------------------------------
        Ensuring that drugs pass through as few hands as possible on their
    way to patients helps to ensure the integrity and safety of the drug
    supply chain. According to the FDA, counterfeit drugs are most likely
    to be introduced as part of a drug supply chain involving multiple
    wholesalers.\45\ Dr. Michael Link, Immediate Past President of the
    American Society of Clinical Oncology, has expressed the same concern
    about drugs that pass through multiple gray market vendors, ``[i]t's
    not just the price gouging and taking advantage of patients, it's also
    the idea that when you buy gray market drugs it doesn't have the legacy
    of the drug. It's not the same quality assurance and you don't know its
    authenticity.'' \46\
    ---------------------------------------------------------------------------
        \45\ Food and Drug Administration, Counterfeit Drug Task Force
    Report (October 2003).
        \46\ Eric T. Rosenthal, The `Gray Market' Raises Concerns about
    Cost, Safety, Ethics, Journal of the National Cancer Institute (Feb. 8,
    2012).
    ---------------------------------------------------------------------------
    E. Background on Congressional Investigation
        In October 2011, House Committee on Oversight and Government Reform
    Ranking Member Elijah Cummings opened this investigation by sending
    information request letters to five gray market companies that were
    aggressively marketing five prescription drugs to hospitals that were
    at the time in short-supply, according to the FDA.\47\ Four of the
    drugs are used to treat various forms of cancer, and one is used to
    treat seizures during pregnancy. The letters asked the companies where
    they had obtained the short-supply drugs they were offering for sale
    and how much they were charging hospitals for the drugs.
    ---------------------------------------------------------------------------
        \47\ U.S. House Committee on Oversight and Government Reform
    Democrats, Cummings Investigates Potential Prescription Drug Price
    Gouging (Oct. 5, 2011) (online at http://democrats.oversight.house.gov/
    index.php?option=com_content&view=article&id=5445:gray-
    market&catid=146:democratic-agenda&Itemid=107).

    ------------------------------------------------------------------------
                                                             Distributor
                     Manufacturers        Treatment           Receiving
                                                         Information Request
    ------------------------------------------------------------------------
    Cytarabine     APP, Bedford,      Leukemia in        Allied Medical
                    Hospira            children and       Supply, Inc.,
                                       adults             Miami, FL
    ------------------------------------------------------------------------
    Fluorouracil   APP, Mylan, Teva   Colon, stomach,    PRN
                                       breast, and        Pharmaceuticals,
                                       pancreatic         Rockville, MD
                                       cancer
    ------------------------------------------------------------------------
    Leucovorin     APP, Bedford,      Advanced colon     Premium Health
                    Teva               cancer             Services Inc.,
                                                          Columbia, MD
    ------------------------------------------------------------------------
    Magnesium      American Regent,   Seizures during    Reliance Wholesale,
     Sulfate        APP, Hospira      pregnancy           Inc., Miami, FL
    ------------------------------------------------------------------------
    Paclitaxel     APP, Bedford,      Breast and         Superior Medical
                    Hospira, Sagent,   ovarian cancer     Supply, Inc.,
                    Sandoz, Teva,                         Superior, CO
                    Pfizer (started
                    in 2012)
    ------------------------------------------------------------------------

        In December 2011, Senator John D. Rockefeller IV, Chairman of the
    Senate Committee on Commerce, Science, and Transportation, and Senator
    Tom Harkin, Chairman of the Senate Health, Education, Labor, and
    Pensions Committee, joined Ranking Member Cummings in the
    investigation.\48\ Since that time, the three Members of Congress have
    requested information from more than 50 prescription drug
    manufacturers, distributors, and pharmacies.\49\ Staff has also talked
    to a large number of industry experts, regulators, and stakeholders
    about how short-supply prescription drugs are distributed, marketed,
    and sold.
    ---------------------------------------------------------------------------
        \48\ Senate Committee on Commerce, Science, and Transportation,
    Senate Chairmen Join Cummings' Investigation of ``Gray Market'' Drug
    Companies (Dec. 15, 2011).
        \49\ Senator Rockefeller issued a Senate Commerce Committee
    subpoena to one company, Superior Medical Supply, that refused to
    respond voluntarily to an information request.
    ---------------------------------------------------------------------------
        A key source of information in this investigation has been ``drug
    pedigree'' documents, which record the distribution route a drug has
    traveled since it left the manufacturer. Many businesses that
    distribute drugs in the United States are required, either by state or
    Federal laws, to provide these pedigrees to their customers.\50\
    ---------------------------------------------------------------------------
        \50\ See 21 U.S.C. Sec. 353(e)(1)(A). Drug manufacturers and
    authorized distributors of record are exempt from the Federal pedigree
    requirement.
    ---------------------------------------------------------------------------
        Congressional investigators carefully studied 300 of these ``paper
    pedigrees,'' which list the names of all parties that purportedly took
    possession of the drug and the dates of their possession. The 300
    pedigrees show 125 different companies that were involved in selling
    short-supply prescription drugs. Staff used the pedigrees to
    reconstruct how and when drugs entered gray market distribution chains
    and contacted companies listed in the pedigrees to collect information
    regarding the prices for which they purchased and re-sold the drugs.
    Staff obtained specific information from the companies listed on 58 of
    the pedigrees, including the prices for which they purchased and sold
    the drugs and the dates they possessed them.

    II. Findings

    A.  Exorbitant Prices Charged for Drugs in Gray Market
        Documents obtained during the investigation demonstrate that drug
    wholesalers often charge exorbitant prices to health care providers for
    drugs facing critical national shortages that are used to treat cancer
    and other life-threatening illnesses. These inflated prices are often
    the result of unnecessarily long distribution chains that include
    significant markups at almost every level.

    1.  Significant Markups Throughout Gray Market Distribution Chains
        The short-supply generic injectable drugs examined in this
    investigation did not reach doctors and patients through the typical
    distribution chain model described above. Instead of following the
    distribution route policymakers and industry stakeholders expect them
    to follow, these drugs were diverted into longer ``gray market''
    distribution networks in which a number of different companies bought,
    sold, and transferred them.

    Figure IV--``Gray Market'' Drug Distribution Model

        As Figure IV demonstrates, the drugs were not dispensed directly to
    the hospitals, but instead ``leaked out'' of their authorized
    distribution chains and were bought and sold by additional companies
    before reaching the hospitals. As they traveled through these longer
    gray market chains, the drugs were marked up to prices that were often
    hundreds of times higher than the prices the hospitals and other health
    care providers normally paid for them.

    Figure V--``Gray Market'' Shipment of 25 Vials of 2.5g/50mL Vials of
            Fluorouracil

        Figure V illustrates how 25 vials of fluorouracil, a sterile
    injectable drug used to treat colon, stomach, breast, and pancreatic
    cancer, traveled from its manufacturer, APP Pharmaceuticals, to Sonora
    Regional Medical Center in Sonora, California. At the time of these
    transactions, September 2011, fluorouracil was on the FDA's list of
    shortage drugs.
        On September 20, 2011, the primary distributor, McKesson, sold the
    vials to Priority Healthcare, a pharmacy that was then licensed in
    Maryland.\51\ Instead of dispensing the drug to a doctor treating
    cancer patients, on September 22, 2011, Priority sold the vials to a
    New Jersey distributor called Tri-Med America, which in turn sold the
    vials to DTR, another New Jersey distributor. In total, eight companies
    in four different states took ownership of the drug before a gray
    market distributor sold it to the California hospital on September 27,
    2011.
    ---------------------------------------------------------------------------
        \51\ See section II.B.4. of this report for further discussion of
    Priority Healthcare.
    ---------------------------------------------------------------------------
        As Figure V shows, there were significant price markups at each
    level of this gray market distribution chain. McKesson originally sold
    the vials to Priority Healthcare for $7 per vial. As they moved through
    the gray market distribution chain, the vials increased in price to
    $600 per vial, about 85 times their initial price, at an increase of
    8,471%.\52\
    ---------------------------------------------------------------------------
        \52\ Gray market drug distributors sometimes cite shipping costs as
    one of the reasons they mark up the per unit price of the drugs they
    sell. But in many transactions examined in this investigation, the gray
    market companies billed shipping as a separate line item cost on their
    invoices. The shipping costs varied, but generally were less than $100
    per invoice. In some transactions, the gray market companies never took
    physical possession of the drugs and instead arranged for drugs to be
    ``drop shipped,'' directly from the company from which they purchased
    the drugs, to the customer to which they sold them.
    ---------------------------------------------------------------------------
    2.  Similar Results Found for All Five Shortage Drugs Examined
        The pedigree and price information that was collected on the five
    sterile injectable drugs that were the subject of this investigation
    show a similar pattern. In almost all instances, the drugs were sold by
    a primary distributor to a buyer that the primary distributor expected
    to act as a dispenser, at prices that reflected the negotiated rates of
    manufacturers, distributors, and dispensers. Instead of dispensing the
    drugs to doctors and patients, however, the expected dispensers re-sold
    the drugs to gray market companies, which marked up the drugs to
    exorbitant prices before selling them to hospitals. In other words,
    gray market companies diverted part of the existing scarce supply of
    drugs, and then sold it back to legitimate end users at highly inflated
    prices.
        The price markups examined in the course of this investigation bear
    little or no relation to the companies' costs of purchasing, shipping,
    or storing the drugs. Instead, they reflect an intent to take advantage
    of the acute demand for short-supply drugs by charging health care
    providers exorbitant prices. The appendix to this report provides
    examples of gray market distribution chains through which each of the
    five drugs traveled to hospitals in 2011.
        Exhibit IV in the Appendix for example, documents how two vials of
    cytarabine, a sterile injectable drug used to treat leukemia patients,
    were marked up by almost 4,900% by a succession of gray market
    distributors before being sold to the Mississippi Baptist Health System
    for $995 per vial on March 18, 2011. Allied Medical Supply, the gray
    market company that sold the vials to the hospital, had purchased the
    vials two days earlier for $399 per vial. Allied added $596 to the cost
    of each vial before selling them to Mississippi Baptist Health
    System.\53\
    ---------------------------------------------------------------------------
        \53\ Allied may have been able to charge such a high markup for
    cytarabine while the drug was in shortage, in part, because there is no
    alternative drug for treating the form of leukemia known as acute
    myeloid leukemia. Shortage Worsens of Leukemia Drugs, Wall Street
    Journal (Apr. 14, 2011).
    ---------------------------------------------------------------------------
        Exhibit III in the Appendix shows that price markups could be
    substantial even in cases where small numbers of gray market actors
    handled the drug. In the transaction shown there, 30 vials of
    paclitaxel, which is used to treat breast and ovarian cancer patients,
    were sold to the Heartland Regional Medical Center in St. Joseph,
    Missouri on July 20, 2011 for $185 per vial. The New Jersey pharmacy
    that leaked these vials into the gray market had purchased them on June
    15, 2011 for $8 per vial from the drug wholesaler H.D. Smith. The two
    gray market parties that handled the vials before they were sold to the
    hospital--a New Jersey distributor called Investigational Drug Delivery
    (IDD) and a Colorado distributor called Superior Medical Supply--marked
    them up by $177 per vial, or 2,213%.\54\
    ---------------------------------------------------------------------------
        \54\ As discussed below in section II.B.5., Edison Pharmacy and IDD
    share common ownership. The common ownership likely explains why Edison
    Pharmacy was willing to ``sell'' paclitaxel to IDD without marking the
    price up. As discussed in Section II.B.6., the owner of IDD pleaded
    guilty to Federal criminal charges in 2011.
    ---------------------------------------------------------------------------
    3.  Additional Information on Gray Market Chains
        As part of the investigation, congressional investigators carefully
    analyzed 58 drug distribution chains from beginning to end; these
    ``vertical reviews'' included establishing purchase and sale prices for
    all of the individual transactions within the 58 chains. Some of the
    most significant results of this analysis were the following:

       In more than half of the transactions, prices for the drugs
            increased by $200 per unit or more while traveling through the
            gray market. In six chains, the price increase was $500 or more
            per unit. The largest increase was $975 per unit.

       On average, drugs traveling through these gray market chains
            were owned by three to four separate business entities before
            reaching the hospital or provider that administered the drugs
            to a patient.

       Most of the drugs traveling through the gray market (60.8%)
            were sold to hospitals within five days or less after they
            entered the gray market.\55\ In 13 chains, the drugs remained
            in the hands of gray market companies longer than 10 days.
    ---------------------------------------------------------------------------
        \55\ Staff were able to determine the number of days during which
    the drugs traveled through the gray market in 51 of the 58 drug
    distribution chains that were part of the ``vertical review.''

    Figure VI--Distribution of Number of Days in the Gray Market, from
            Authorized Distributor to Hospital or Provider's Office

        The drug distribution chains that congressional investigators
    examined also showed that gray market wholesalers sometimes sold units
    of the exact same drug to different hospitals on the same day at
    significantly different prices. For example:

       Reliance Wholesale charged Madigan Army Medical Center in
            Washington $315 per unit for a magnesium sulfate product when
            it charged Twin Cities Community Hospital in California $215
            per unit for the same product. Reliance Wholesale had purchased
            the magnesium sulfate for $100 per unit.

       Reliance Wholesale charged the VA Medical Center-Reno $450
            per unit for a magnesium sulfate product when it charged Sacred
            Heart-St. Mary's Hospital in Wisconsin $349 per unit. Reliance
            Wholesale had paid $245 per unit for the product.

       Superior Medical Supply charged Children's National Medical
            Center in Washington, DC, $400 per vial for a paclitaxel
            product when it charged Heartland Regional Medical Center in
            Missouri $325 per vial for the same product. Superior had
            purchased the product for $200 per vial.

        The hospitals that purchased short-supply drugs through the 300
    gray market chains staff reviewed include a range of small and large
    hospitals, urban and rural hospitals, for-profit hospitals, and
    military, veteran, and other nonprofit hospitals located in all regions
    of the United States. To estimate the financial impact that gray market
    purchases have on hospitals, congressional investigators compared
    actual gray market prices for one form of each of the five drugs
    reviewed to hospitals' contract price for the same drug product. The
    per-unit costs in the gray market were dramatically higher than the
    hospitals would have incurred to purchase the same drugs from their
    primary wholesale distributors:

       Staff's analysis revealed that hospitals overspent nearly
            $750,000 on over 2,100 units of the five prescription drugs
            examined as a result of purchasing the drugs from the gray
            market instead of their normal distributors. The more than
            2,100 units included in this analysis are just a fraction of
            the total number of drug units that were sold in the 300 gray
            market chains.

       For example, hospitals that usually pay $12 to purchase a 2
            g, 20 mL vial of the cancer drug cytarabine instead paid an
            average of $736 per vial to purchase that product in the gray
            market.

       Instead of paying $9 per 500 mg/mL, 2 mL vial package of
            magnesium sulfate, hospitals paid an average of $307 per
            package to purchase them on the gray market.

    B.  How Drugs Enter the Gray Market
        Based on a review of documents obtained during the investigation,
    it appears that shortage drugs are leaking into the gray market
    primarily through entities that hold pharmacy licenses. It also appears
    that gray market drug companies are taking advantage of a patchwork of
    inconsistent state regulations to obtain drugs through questionable and
    sometimes illegal means.

    1.  Drugs Entering Gray Market Primarily Through Pharmacies
        In more than two-thirds (69 percent) of the 300 short-supply drug
    distribution supply chains reviewed in this investigation, the drugs
    entered the gray market through pharmacies. These pharmacies purchased
    their drugs from manufacturers' ADRs, but instead of dispensing the
    drugs in accordance with their state laws, their professional duties,
    and their contractual obligations, these pharmacies re-sold the drugs
    to wholesalers.\56\ The wholesalers in turn sold the drugs--usually at
    significant markups--to other gray market entities. The pharmacies do
    not appear to have had any other reason for purchasing these drugs--all
    of which are predominantly used by health care professionals in a
    hospital setting -than to sell them into the gray market.
    ---------------------------------------------------------------------------
        \56\ The pharmacies that purchased drugs from ADRs and sold them to
    secondary distributors included members of the independent pharmacy
    networks of each of the three national primary distributors.
    ---------------------------------------------------------------------------
        For example, in the distribution chain involving fluorouracil
    illustrated in Exhibit I of the Appendix and described in Section
    II.A.1 above, a company called Priority Healthcare, which held a
    pharmacy license issued by the State of Maryland, was the first entity
    to purchase the drug from the authorized primary distributor, McKesson.
    Rather than selling the drug to a health care provider or to patients,
    Priority Healthcare sold it to a gray market wholesaler, Tri-Med
    America, at a significant markup.\57\ In addition to the manufacturer,
    seven entities owned the drug before a gray market distributor finally
    sold it to a medical center for $600 per vial.
    ---------------------------------------------------------------------------
        \57\ As noted in section II.B.4. below, a husband-wife team owned
    both Tri-Med America and Priority Healthcare.
    ---------------------------------------------------------------------------
    2.  Some Pharmacies Selling Their Entire Inventories into Gray Market
        Evidence that some pharmacies are selling short-supply injectable
    drugs to gray market wholesalers suggests that these pharmacies are not
    complying with their states' pharmacy laws that limit re-sales. Some
    states allow pharmacies to re-sell portions of their inventories in
    emergency circumstances, while other states permit up to 5% of
    pharmacies' annual sales to come from re-selling their drugs. The
    parameters of these exceptions rules vary from state to state. Some
    states' rules appear to be intended to resolve local supply problems by
    allowing pharmacies to sell drugs to each other, while other states'
    rules may permit pharmacies to re-sell their drugs to wholesalers.
        Documents obtained during the investigation indicate that some
    pharmacies are clearly exceeding these limited re-sale exceptions. For
    example, in a letter to Ranking Member Cummings, the owners of a
    Maryland pharmacy called HealthRite Pharmaceuticals reported that from
    March 2011 to February 2012, the pharmacy sold 100 percent of its
    products to a distributor business they also owned.\58\ These sales
    appear to violate a Maryland law that requires pharmacies to obtain
    separate wholesaler licenses if they re-sell more than 5 percent of
    their products.\59\ On April 10, 2012, HealthRite Pharmaceuticals
    informed the Maryland Board of Pharmacy that it had ceased
    operations.\60\
    ---------------------------------------------------------------------------
        \58\ Letter from Mackie A. Barch, Managing Director of HealthRite
    Pharmaceuticals to Ranking Member Elijah E. Cummings, House Oversight
    and Government Reform Committee (Apr. 20, 2012).
        \59\ Code of Maryland Regulations 10.34.22.02(23) (defining a
    ``wholesale distributor'' as ``[a] retail pharmacy that conducts
    wholesale distribution, if the wholesale distribution business accounts
    for more than 5 percent of the retail pharmacy's annual sales'').
        \60\ E-mail from Maryland Board of Pharmacy to House Committee on
    Oversight and Government Reform, Minority Staff (Apr. 25, 2012).
    ---------------------------------------------------------------------------
        Similarly, a New Jersey pharmacy, Morningstar Pharmacy, reported
    that, from March 2011 to February 2012, all of its revenues came from
    re-sales,\61\ which appears to violate New Jersey pharmacy laws. New
    Jersey law permits pharmacies to engage in ``the sale, purchase or
    trade of a prescription drug, or an offer to sell, purchase or trade a
    prescription drug for emergency medical reasons.'' \62\
    ---------------------------------------------------------------------------
        \61\ E-mail from Alton Chatmon, Owner, Morning Star Pharmacy, to
    House Committee on Oversight and Government Reform, Minority Staff
    (Apr. 17, 2012).
        \62\ New Jersey Statutes Sec. 24:6B-14.
    ---------------------------------------------------------------------------
        In addition, some pharmacies appear to sell to wholesalers portions
    of their inventories that exceed the 5 percent thresholds. For example,
    B&C Health, a Maryland pharmacy, reported that 21 percent of its gross
    sales came from drug sales to wholesalers.\63\
    ---------------------------------------------------------------------------
        \63\ Letter from Prince Dennis, Owner, B&C Health Services, to
    House Committee on Oversight and Government Reform, Minority Staff
    (Mar. 27, 2012).
    ---------------------------------------------------------------------------
    3.  Using Pharmacies as Purchasing Agents for Shortage Drugs
        Documents obtained during the investigation indicate that
    wholesalers and independent brokers often approached pharmacies and
    convinced them to purchase shortage drugs on their behalf, promising
    significant profits.\64\ Twenty-one of the 25 pharmacies that responded
    to requests for information about their purchases and sales of shortage
    drugs stated that wholesalers or brokers representing wholesalers had
    asked them to purchase shortage drugs for them.\65\
    ---------------------------------------------------------------------------
        \64\ According to a 2011 survey of hospital pharmacists, ``[m]ore
    than 13% of respondents reported receiving solicitations, mostly
    weekly, from gray market vendors who wanted to purchase vital
    medications in short supply from the hospital, presumably to sell to
    other hospitals at steeply inflated prices. Institute for Safe
    Medication Practices, supra note 20.
        \65\ Three pharmacies refused to respond to this information
    request: PMO Pharmacy of Pearl, Mississippi, Polk's Discount Drugs of
    Brandon, Mississippi, and Ranch Pharmacy of Scottsdale, Arizona.
    ---------------------------------------------------------------------------
        For example, an e-mail from a pharmaceutical consultant to a
    pharmacy owner, dated June 13, 2011, states, ``[w]e guarantee our
    Pharmacies 20 percent or more every time.'' \66\ Another e-mail from an
    outside buyer to a pharmacy owner on August 19, 2011, stated, ``please
    look at your distributor site as soon as you can for these items. The
    more you find, the more you make.'' \67\
    ---------------------------------------------------------------------------
        \66\ E-mail from broker to pharmacy owner (June 13, 2011).
        \67\ E-mail from broker to pharmacy owner (Aug. 19, 2011).
    ---------------------------------------------------------------------------
        Pharmacy owners told congressional investigators that brokers
    sometimes approached them directly to try to convince them to buy
    shortage drugs. One pharmacy owner stated that a broker came into her
    pharmacy and conducted ``a presentation and provided credentials'' to
    convince her to buy shortage drugs on his behalf.\68\ Another
    pharmacist told investigators that a broker approached the pharmacist
    at a trade show, introduced the pharmacist to other pharmacy owners
    that had purchased shortage drugs for him, and promised a 20 percent
    profit margin for doing the same.\69\ Other pharmacy owners who sold
    drugs to wholesalers were motivated by the desire to alleviate
    shortages. For example, the president of one pharmacy told
    investigators that his pharmacy was ``approached by a wholesaler/
    distributor . . . with the idea to redistribute the pharmaceuticals to
    vendors and pharmacies in need.'' \70\
    ---------------------------------------------------------------------------
        \68\ E-mail from pharmacy owner to House Committee on Oversight and
    Government Reform, Minority Staff (Apr. 14, 2012).
        \69\ E-mail from pharmacist to House Committee on Oversight and
    Government Reform, Minority Staff (June 7, 2012).
        \70\ E-mail from pharmacy owner to House Committee on Oversight and
    Government Reform, Minority Staff (May 22, 2012).
    ---------------------------------------------------------------------------
        Brokers and consultants who convinced pharmacists to purchase
    shortage drugs on their behalf established close relationships with
    routine contact. One pharmacist informed investigators that pharmacists
    were placed on e-mail distribution lists ``sometimes twice a day''
    circulating ``a list of drugs they are looking for.'' \71\ One such e-
    mail from a broker to a pharmacist dated September 22, 2011, directed
    the pharmacist as follows, ``[p]lease check your distributors as soon
    as possible and let me know what's available how much and the price.''
    \72\ Attached to the e-mail was a spreadsheet that contained a list of
    drugs. According to the Drug Information Service at the University of
    Utah, virtually all of the drugs listed in the spreadsheet were in
    short supply as of that date.\73\
    ---------------------------------------------------------------------------
        \71\ E-mail from pharmacy owner to House Committee on Oversight and
    Government Reform, Minority Staff (Mar. 29, 2012).
        \72\ E-mail from broker to pharmacy owners (Sept. 22, 2011).
        \73\ E-mail from Erin Fox, Manager of the University of Utah Drug
    Information Service, to House Committee on Oversight and Government
    Reform, Minority Staff (July 22, 2012).
    ---------------------------------------------------------------------------
        Figure VII is a ``protocol'' document obtained during the
    investigation that guides a pharmacy owner through the purchase and
    subsequent sale of shortage drugs to gray market drug companies.\74\ As
    the document indicates, brokers sometimes placed orders directly using
    a pharmacy's account.\75\ In addition, brokers created invoices for the
    pharmacies to facilitate the shipping process.
    ---------------------------------------------------------------------------
        \74\ Fax from broker to pharmacy owner (Sept. 15, 2011).
        \75\ E-mail from pharmacy owner to House Oversight and Government
    Reform, Minority Staff (June 12, 2012).
    ---------------------------------------------------------------------------
        According to a report in the Bakersfield Californian, the
    California Board of Pharmacy recently cited more than 50 pharmacies for
    acting as purchasing agents for gray market companies. The Board cited
    the pharmacies for unlawfully selling short-supply prescription drugs
    to a San Diego-based drug distributor named Priority Pharmaceuticals
    and, in some instances, other distributors.\76\ According to the Board,
    the pharmacies received lists of drugs that Priority Pharmaceuticals
    wanted them to order and used their ``ordering ability with a [primary]
    wholesaler to purchase [the] drugs'' for the purpose of reselling them
    to Priority Pharmaceuticals.\77\ The distributors then distributed the
    drugs ``to government hospitals and other health care facilities at''
    what the Board described as ``exceedingly high mark-ups.'' \78\ The
    Board determined that the pharmacies violated the California Business
    and Professional Code by acting as ``purchasing agents'' for Priority
    Pharmaceuticals.\79\
    ---------------------------------------------------------------------------
        \76\ Local Pharmacy Faces a Barrage of Charges, The Bakersfield
    Californian (Mar. 22, 2012).
        \77\ Id.
        \78\ Id.
        \79\ See, e.g., California Department of Consumer Affairs, Board of
    Pharmacy, Citation and Fine, Citation Number CI 2011 49887, Medical
    Arts Pharmacy, Phy 45941 (citing and fining Medical Arts Pharmacy for
    acting as a purchasing agent for Priority Pharmaceuticals, Dubin
    Medical, Gulf Coast Pharmaceuticals, and Vital Healthcare); California
    Department of Consumer Affairs, Board of Pharmacy, Citation and Fine,
    Citation Number CI 2011 49813, Los Altos Pharmacy at El Camino
    Hospital, Phy 50153 (citing and fining Los Altos Pharmacy at El Camino
    Hospital for acting as a purchasing agent for Priority
    Pharmaceuticals).
    ---------------------------------------------------------------------------
    Figure VII: Protocol for Brokers' Use of Pharmacies as Purchasing
            Agents
        Below is the proper protocol for the entire operation

       I will place an order via log-in or drop ship (``Ardie''
            will be the PO name)

       When the product arrives, immediately send me the invoice/
            packing slip with lot #, exp date, and your pharmacy cost via
            fax or email (remember time is of the essence)

       Within a couple hours I will send a PO & Fed EX Label for
            the product via fax or email

       I will schedule a pick up Fed Ex and verify this with my
            contact at the pharmacy

       The pharmacy will then make sure the product is packed
            properly, place the pre-paid label on the box, and make sure it
            ships. If a Packing Slip is provided, place the packing slip in
            the box with the product. The Purchase Order will stay at the
            pharmacy.

        Documents obtained during the investigation also reveal that
    brokers and consultants monitor the release of new drug shipments from
    manufacturers and their distributors. For example, on January 20, 2012,
    one broker sent an e-mail indicating that a new batch of metoprolol had
    been released, and asked various pharmacies to buy up the shortage
    drug, ``we jsut [sic] found some it's been a release find it get sale
    it [sic].'' \80\ Metoprolol is a drug used to improve survival after a
    heart attack and in the treatment of heart failure.
    ---------------------------------------------------------------------------
        \80\ E-mail from broker to pharmacy owner (Jan. 20, 2012).
    ---------------------------------------------------------------------------
        Wholesalers operating in the gray market purchased a significant
    portion of prescription drugs through pharmacies. For example, Vital
    Healthcare, a gray market company based in Georgia, estimated that it
    uses brokers to locate approximately 25 percent to 35 percent of its
    annual 123,700 unit prescription drug sales volume.\81\ Similarly,
    Harford Health Services, a Maryland company, purchased 25 percent of
    its $2 million prescription drug volume from pharmacies between March
    2011 and February 2012.\82\ During the same time frame, California-
    based Optimal Pharmaceuticals told investigators that it purchased 44%
    of its total volume from pharmacies.\83\
    ---------------------------------------------------------------------------
        \81\ Letter from J. Patrick Connell, Ellis, Painter, Ratterree &
    Adams LLP, representing Vital Healthcare to Minority Staff, House
    Committee on Oversight and Government Reform (May 31, 2012).
        \82\ Letter from Jose Torres, Harford Health Services, Inc., to
    Senate Committee on Commerce, Science, and Transportation, Majority
    Staff (June 11, 2012).
        \83\ E-mail from Ismail Kabook, Optimal Pharmaceuticals, to House
    Committee on Oversight and Government Reform, Minority Staff (May 29,
    2012).
    ---------------------------------------------------------------------------
    4.  Establishing Fake Pharmacies
        Documents obtained during the investigation identified numerous
    entities that appear to have established ``fake pharmacies'' to gain
    greater access to shortage drugs. After obtaining these drugs, the
    ``pharmacies'' typically did not dispense the drugs to patients
    pursuant to their pharmacy licenses, but instead sold them to
    wholesalers they also owned or in which they had interests.

            LTC Pharmacy and International Pharmaceuticals: LTC Pharmacy, a
            pharmacy in Durham, North Carolina, purchased drugs in short
            supply and transferred them to International Pharmaceuticals, a
            wholesaler located in the same building, which then sold them
            into the gray market. Jessica Hoppe owned both companies.
            Between May 23, 2011 and Sept. 19, 2011, a quarter of the
            prescription drug products invoiced to International by LTC
            were on the FDA shortage list as of April 2012.\84\ State
            regulators in North Carolina found that, ``International
            Pharmaceuticals and LTC Pharmacy willfully violated NC
            wholesaler prescription drug distribution laws,'' \85\ and LTC
            Pharmacy ``is not an operating pharmacy.'' \86\ Licenses for
            both companies have recently been surrendered or denied.\87\
            Figure VIII below shows photos that the North Carolina Board of
            Pharmacy Inspectors took of LTC Pharmacy.
    ---------------------------------------------------------------------------
        \84\ E-mail from North Carolina Department of Agriculture and
    Consumer Services to Minority Staff, House Committee on Oversight and
    Government Reform (June 12, 2012).
        \85\ E-mail from North Carolina Department of Agriculture and
    Consumer Services to former International Pharmaceuticals employee
    (Jan. 3, 2012).
        \86\ North Carolina Board of Pharmacy, Miscellaneous Inspection
    Report (Sept. 19, 2011).
        \87\ E-mail from North Carolina Department of Agriculture and
    Consumer Services to former International Pharmaceuticals employee
    (Jan. 3, 2012).
    ---------------------------------------------------------------------------
    Figure VIII--Photos of LTC Pharmacy Taken by North Carolina Board of
            Pharmacy Inspectors

            Priority Healthcare and Tri-Med America: A husband and wife
            team, Marianna Pesti and Gabor Szilagyi, established a pharmacy
            and a wholesale company. On multiple occasions, the couple
            purchased the cancer drug fluorouracil, transferred it to their
            own wholesaler, and then sold it to another gray market drug
            company at significant markups, sometimes on the same day as
            the original purchase. Exhibit I in the Appendix illustrates
            one such transaction.\88\ New Jersey officials have recently
            revoked Tri-Med America's license.\89\ Maryland state
            regulators found that Priority Healthcare committed numerous
            violations of state law.\90\ Priority Healthcare is no longer
            in business.\91\
    ---------------------------------------------------------------------------
        \88\ This transaction is also discussed in section II.A.1.
        \89\ State of New Jersey Department of Health and Senior Services,
    Wholesale Drug Project Revocations (online at http://nj.gov/health/
    foodanddrugsafety/rev_sus.shtml) (accessed June 7, 2012).
        \90\ Maryland Board of Pharmacy, Consent Order: In the Matter of
    Priority Healthcare, LLC (Oct. 19, 2011) (online at http://
    www.dhmh.maryland.gov/pharmacy/docs/FormalOrders/P/
    Priority%20Healthcare,%20LLC%2010-19-11.pdf).
        \91\ Maryland Board of Pharmacy, Establishment Detail (online at
    https://license.mdbop.org/verification/veri/
    establishmentDetail.asp?PermitNo=PW0275) (accessed June 10, 2012).

            Columbia Med Services and Columbia Medical Distributors:
            Columbia Med Services, a pharmacy in Maryland, transferred
            short-supply drugs without a wholesaler license to Columbia
            Medical Distributors, a wholesaler in Maryland, which then sold
            them into the gray market. The companies were owned by the same
            person and were located in the same industrial office
            complex.\92\ Figure IX below shows photos of Columbia Med
            Services' location.
    ---------------------------------------------------------------------------
        \92\ See Maryland Secretary of State, Articles of Incorporation for
    a NonStock Corporation (filed Aug. 5, 2005) (listing Brenda Marshall as
    the incorporator for Columbia Med Services, LTD at 9693 Gerwig Lane
    Unit 1R, Columbia MD 21046); Maryland Secretary of State, Articles of
    Organization of Columbia Medical Distributors, LLC (filed Jan. 22,
    2002) (listing Brenda Lee Marshall as the initial member of Columbia
    Medical Distributors at 9687-C Gerwig Lange, Columbia, MD 21045).
    ---------------------------------------------------------------------------
    Figure IX--Photos of Columbia Med Services

            J&A Pharmaceutical Services and North, Inc.: J&A Pharmaceutical
            Services, a pharmacy in North Carolina, sold drugs without a
            wholesaler license to North, a licensed wholesaler. Both
            entities were located at the same address and had the same
            owner.\93\ The North Carolina Board of Pharmacy found that J&A
            Pharmaceutical Services ``ordered numerous injectable medicals,
            also found on the FDA Drug Shortage List, with no records of
            dispensation for any of them from June 2011 through December
            2011.'' \94\ J&A voluntarily surrendered its pharmacy license
            in March 2012.\95\
    ---------------------------------------------------------------------------
        \93\ North Carolina Department of Agriculture and Consumer
    Services, Inspection Report (Apr. 23, 2012).
        \94\ E-mail from North Carolina Board of Pharmacy to North Carolina
    Department of Agriculture and Consumer Services (Mar. 22, 2012).
        \95\ North Carolina Department of Agriculture and Consumer
    Services, Inspection Report (Mar. 28, 2012).

            HealthRite Pharmaceuticals and AmeriSure Pharmaceuticals:
            According to its owner, AmeriSure Pharmaceuticals ``was
            established and licensed under Maryland law to act as a
            wholesaler for any drug procured by HealthRite,'' a pharmacy
            licensed in Maryland. Both companies were owned by the same
            individual and were located in the same address. HealthRite
            informed Ranking Member Cummings that the company sold all of
            its drugs to AmeriSure.\96\
    ---------------------------------------------------------------------------
        \96\ Letter from Mackie A. Barch, Managing Director of HealthRite
    Pharmaceuticals, to Ranking Member Elijah E. Cummings, House Committee
    on Oversight and Government Reform (Apr. 20, 2012).
    ---------------------------------------------------------------------------
    5.  Common Ownership and Shared Employees
        Pedigree chains reviewed in this investigation reveal that groups
    of companies routinely worked together to procure shortage drugs. In
    some cases, these business dealings were not arms-length transactions
    because the companies had common owners or shared employees.
        For example, a network of seven companies in New Jersey all located
    within a 30-mile radius routinely worked together to obtain and sell
    drugs that were in short supply. Companies with pharmacy licenses--
    Avenel Pharmacy, Old Bridge Drug and Surgicals, Red Bank Pharmacy,
    Sewaren Innovative Pharmaceutical Packaging (SIPP), Colonia Natural
    Pharmacy, and Edison Pharmacy--used their pharmacy licenses to obtain
    shortage drugs from various ADRs.\97\ As Figure X illustrates, rather
    than dispensing these drugs to patients, the pharmacies sold the
    shortage drugs to one of the network's wholesalers, Avenel Pharmacy or
    Investigational Drug Delivery (IDD), which operated as the network hub.
    These wholesalers then re-sold the shortage drugs to other secondary
    wholesalers at a markup. Exhibit III in the Appendix shows how 30 vials
    of the cancer drug paclitaxel traveled through this network and were
    later sold to a hospital in Missouri.
    ---------------------------------------------------------------------------
        \97\ Several pharmacies outside of this local area also sold drugs
    into this network through Avenel Pharmacy.
    ---------------------------------------------------------------------------
        Hank Incognito was an owner, officer, and/or director of four of
    these companies, IDD, Avenel Pharmacy, SIPP, and Edison Pharmacy, at
    the time of the transactions examined in this investigation.\98\ Nunzio
    Gallo was an owner or director of Avenel Pharmacy and Edison Pharmacy
    when the transactions occurred.\99\
    ---------------------------------------------------------------------------
        \98\ See New Jersey Department of the Treasury, Division of
    Revenue, Certificate of Formation for Investigational Drug Delivery
    Limited Liability Company (filed Jan. 14, 2011) (listing Hank Incognito
    and Stephen F. Corba, Jr. as members/managers); New Jersey Certificate
    of Incorporation for Avenel Pharmacy, Inc. & Registration of Alternate
    Name of Avenel Pharmacy, Inc., d/b/a Avenel Surgical & Pharmaceuticals
    (filed July 7, 2003 & July 7, 2010) (listing Hank Incognito as
    president and director & Nunzio Gallo as director); New Jersey
    Department of the Treasury, Division of Revenue, Certificate of
    Formation for Investigational Drug Delivery Limited Liability Company
    (filed Jan. 14, 2011) (listing Hank Incognito and Stephen F. Corba as
    members/managers); New Jersey Department of the Treasury, Division of
    Revenue, Certificate of Formation for Sewaren Innovative Pharmaceutical
    Packaging Limited Liability Company (filed Feb. 4, 2011) (listing Hank
    Incognito as authorized representative); New Jersey Certificate of
    Incorporation for N G H I, Inc. & New Jersey Department of the
    Treasury, Division of Revenue, Renewal Notice and Filing Form for
    Alternate Business Name for N G H I, Inc., d/b/a Edison Pharmacy (filed
    Dec. 19, 2003 & Dec. 29, 2003) (listing Hank Incognito as director &
    Nunzio Gallo as owner & director); Service a Priority at Edison
    Pharmacy, Courier News (June 6, 2011) (identifying Hank Incognito and
    Nunzio Gallo as the co-owners of Avenel Pharmacy and Edison Pharmacy).
        \99\ Id.
    ---------------------------------------------------------------------------
        The investigation also uncovered a network of Kentucky pharmacies
    that purchased shortage drugs for the same Kentucky wholesaler. In this
    case, a licensed wholesaler, Central Compound Pharmacy Supply,
    routinely purchased drugs from local pharmacies--Bluegrass Pharmacy,
    the Medicine Shoppe of Springfield, Hurst Discount Drugs and Medicine
    Centre Pharmacy.\100\ Gary Smith signed pedigree documents for these
    pharmacies and identified himself as the ``compliance manager'' for the
    pharmacies. Central Compound Pharmacy Supply's website identifies Gary
    Smith as part of its ``team.'' \101\
    ---------------------------------------------------------------------------
        \100\ All of these listed pharmacies also held Kentucky wholesale
    distribution licenses.
        \101\ Central Compound Pharmacy Supply website, Meet The Team!
    (online at http://centralpharmacysupply.com/career.html) (accessed July
    22, 2012).
    ---------------------------------------------------------------------------
    Figure X--Network of New Jersey Companies that Sell Shortage Drugs

    6.  Wholesalers Handling the Drugs Have Disciplinary or Licensing
            Problems
        Some of the pedigree chains congressional investigators examined
    include secondary distributors whose owners have a history of
    disciplinary actions.
        For example, Alliance Wholesale Distributors of Richton Park,
    Illinois purchased and sold cytarabine and leucovorin. Phil Giannino,
    its owner, was sentenced in Federal court in late 2009 for conspiracy
    to defraud the United States by distributing diverted pharmaceutical
    drugs. The court ordered him to pay almost $4 million in
    restitution.\102\ Based on this conviction, Illinois revoked Mr.
    Giannino's pharmacist license and Alliance Wholesale Distributors' drug
    distributor license in 2011, stating that, ``Giannino is prohibited
    from being employed or otherwise working for an Illinois wholesale drug
    distributor in any capacity.'' \103\
    ---------------------------------------------------------------------------
        \102\ United States v. Phillip Giannino, Case No. 05-00315-16-CR-W-
    ODS (W.D. Mo. entered Dec. 15, 2009).
        \103\ Illinois Department of Financial and Professional Regulation,
    News (Apr. 28, 2011) (online at http://www.idfpr.com/Forms/DISCPLN/
    1103_dis.pdf).
    ---------------------------------------------------------------------------
        Stephen F. Corba, Jr., a managing member of Investigational Drug
    Delivery (IDD), was involved in the purchase and sale of magnesium
    sulfate and paclitaxel. In August 2011, Mr. Corba pleaded guilty to
    conspiracy to commit wire fraud and conspiracy to commit money
    laundering in a $40 million mortgage fraud case.\104\ His sentence is
    pending, and he has already agreed to a $489,000 forfeiture order.\105\
    ---------------------------------------------------------------------------
        \104\ The United States Attorney's Office, District of New Jersey,
    Fourth Man Pleads Guilty in $40.8 Million Mortgage Fraud Scheme (Aug.
    16, 2011) (online at www.justice.gov/usao/nj/Press/files/
    Williams,%20Michael%20Plea%20News%20Release.html).
        \105\ Defendant's Plea Agreement, United States v. Stephen F.
    Corba, Jr., Case No. 1:11-cr-00523-JEI-1 (D.N.J. May 13, 2010).
    ---------------------------------------------------------------------------
        It is difficult for state regulatory agencies to stay abreast of
    disciplinary actions, revocations, and non-renewals of wholesalers
    entities operating in other states. For example, the state of North
    Carolina chose not to renew the wholesaler license for International
    Pharmaceuticals in December 2011 as a result of the company ``willfully
    violat[ing] NC wholesale prescription drug distribution laws for an
    extended period of time during 2011.'' \106\ As of March 2012,
    International Pharmaceuticals still had active wholesaler licenses in
    at least 23 other states; these other state licenses referenced the
    company's primary license in North Carolina. In addition, the owner and
    sales manager of International Pharmaceuticals and LTC Pharmacy
    recently opened a new wholesaler business called ``KY Meds'' in
    Kentucky.\107\ This company has already obtained wholesaler licenses in
    Kentucky as well as two other states.\108\
    ---------------------------------------------------------------------------
        \106\ E-mail from North Carolina Department of Agriculture and
    Consumer Services to former International Pharmaceuticals employee
    (Jan. 3, 2012).
        \107\ Commonwealth of Kentucky Articles of Incorporation for KY
    Meds Inc. (filed Jan. 10, 2012) (listing Jennifer Colon, former Sales
    Manager for International Pharmaceuticals, as the President and Owner);
    E-mail from Jessica Hoppe, Sales Manager for KY Meds Inc., to pharmacy
    owner (July 13, 2012).
        \108\ Kentucky Board of Pharmacy, License Verification Details;
    Ohio Board of Pharmacy, License Center; and Pennsylvania Department of
    Health, Drug Device and Cosmetic Program Public Lookup (July 16, 2012).
    ---------------------------------------------------------------------------
    Conclusion
        This investigation has found that gray market companies that
    operate outside of authorized distribution networks take advantage of
    drug shortage situations to charge exorbitant prices for drugs used to
    treat cancer and other life-threatening conditions. Gray market drugs
    leak out of authorized distribution chains, often through pharmacies
    that sell to wholesale distributors, and are sold to end users at
    aggressively marked-up prices. The questionable business practices of
    the distributors and pharmacies engaged in gray market sales result in
    higher health care costs and potential risks to patients.
                                     ______

                                     ______

                                     ______

                                     ______

                                     ______

                                     ______

                                     ______

        I turn now to my esteemed Ranking Member, Senator Boozman,
    from the great state of Arkansas.

                    STATEMENT OF HON. JOHN BOOZMAN,
                       U.S. SENATOR FROM ARKANSAS

        Senator Boozman. Thank you, Mr. Chairman, very much. And I
    appreciate your efforts and appreciate that of the staff
    working so hard in this particular area.
        I agree with Chairman Rockefeller. It is indefensible that
    we have cancer patients that have to wait to get chemotherapy.
    No hospital should pay $1,000 for a drug that only costs a few
    bucks. But I think we are missing the bigger picture. Drug
    shortages are the root of the problem. I hear about shortages
    all across Arkansas nearly every day. Shortages create
    significant problems.
        This hearing is really about supply and demand. No one pays
    $250 for a loaf of bread. There are no 8,000 percent markups in
    a competitive market. In this investigation, four of the five
    cases involve generic injectable cancer drugs. These drugs are
    very inexpensive. Some cost $5 or $6. Some have been around for
    many, many years, and they save lives.
        There should be no shortage of life-saving $6 drugs,
    period. But today, companies are producing dozens of these
    generic cancer drugs at or near a loss. This is the real
    danger. This is the real threat to patients. Artificial
    Medicare drug pricing caps have created this problem.
    Aggressive FDA oversight has exacerbated this problem. And
    Ezekiel Emanuel, President Obama's health advisor said, ``the
    long-term solution is to make the production of generic cancer
    drugs more profitable.''
        We need to reform Medicare pricing and address the root of
    the problem. It's not a complicated problem. It's not an
    expensive problem. But it's a very, very serious problem.
        Second, before we use this investigation as a justification
    for new Federal rules, I think we should stop and ask, are
    state pharmacy boards and regulators enforcing the laws on the
    books?
        The fact is, people have oversight responsibilities under
    current law. There's no reason to expect people to comply with
    new layers of rules if they're violating the ones that
    currently exist.
        Yes, we can create a new Federal agency. We can pass
    restrictions and burden manufacturers, distributors, and
    pharmacists with red tape. But, again, there's no substitute
    for people fulfilling their responsibilities. Shell pharmacies
    simply should not exist. If they do, someone is not doing their
    job.
        In addition, as we talk about secondary distributors and
    reselling, there is a story that we should keep in mind, and I
    actually was part of this. In 2005, Hurricane Katrina hit New
    Orleans. It was a disaster in every sense of the word. Thirteen
    thousand evacuees were sent to Fort Smith, Arkansas. Many
    needed medical attention. Time was short, and the Federal
    Government was unresponsive.
        Thankfully, a pharmacist named John Vinson coordinated an
    incredible emergency response. Community leaders, independent
    pharmacists, secondary distributors, chain pharmacies, and
    wholesalers all came together. It was all hands on deck. They
    aggregated, resold, and dispensed drugs. Their actions kept
    many out of the hospital, and they saved many lives.
        As we move forward, let's not forget that secondary
    distributors and intermediary drug markets serve a critical
    role. In times of tightened supply and limited stockpiles, they
    help address gaps in the supply chain. Across Arkansas, we have
    compound pharmacists who register as distributors and
    pharmacists. They have been critical throughout the drug
    shortage emergency. Without them, doctors could not perform
    needed surgeries. In rural or neglected areas, distributors can
    plug holes in the system or address needs that may go
    overlooked.
        Like nearly every industry, pharmacists also need backup
    options. They need tools to unload excess stock and flexibility
    to address sudden spikes in demand. So, again, let's not forget
    the necessary role that distributors and pharmacists play.
        Last, it's time we learn our lesson about healthcare
    consolidation. From the manufacturing plant through the
    distribution system, pharmacy, clinic, and hospital, we've seen
    so much consolidation. If we expect to meet the growing
    healthcare needs of every American, we need choices. Choices
    satisfy niche markets. Choices facilitate competition.
    Regulations that crowd out smaller actors eliminate choices. So
    we've got to move carefully.
        Mr. Chairman, again, I thank you so much for your efforts
    in regard to bringing this important problem forward, and I
    really look forward to our witnesses today.
        The Chairman. Thank you very much, Senator Boozman.
        Actually, I'm looking at an interesting situation, because
    Elijah Cummings is doing exactly this kind of work in the
    House, and I'm looking at his name plate. But the Congressman
    is not here. So let's decide this is what we're going to do. I
    want, please, Virginia Herold, Dr. David Mayhaus, John Coster,
    John Gray, and Patricia Earl all to come forward and take a
    seat at the table.
        Senator Boozman. Mr. Chairman, as they come forward, can I
    ask that the hearing be kept open for 2 weeks for additional
    statements and questions for the record?
        The Chairman. Absolutely.
        Senator Boozman. Thank you, Mr. Chairman.
        The Chairman. And then I thought also if Senator Harkin
    comes--I've been to his committee on coal-related things, coal
    mine safety, and he has me sit at the dais. So I'm inviting him
    to sit at the dais. And I think if Senator Enzi comes, he
    should also sit at the dais and ask questions and stay as long
    as they want.
        If Elijah Cummings comes--he's conducting a hearing and
    will be continuing to after he makes a statement. So I may have
    him come to the dais and just make his statement. But there's
    still plenty left to do.
        So, Virginia Herold, let's start with you. You're the
    Executive Officer of the California Board of Pharmacy.

      STATEMENT OF VIRGINIA HEROLD, EXECUTIVE OFFICER, CALIFORNIA
                           BOARD OF PHARMACY

        Ms. Herold. Chairman Rockefeller and members of the
    Committee, thank you for the invitation to come and speak
    before you today. I'm Virginia Herold. I'm the Executive
    Officer of the California State Board of Pharmacy.
        The Board of Pharmacy in California licenses pharmacies,
    pharmacists, drug wholesalers. We are the largest regulator of
    pharmacists in the country. We have over 40,000 pharmacists
    licensed with us. Within the state of California, we have 6,200
    community pharmacies, another 500 hospital pharmacies, and 500
    wholesalers located within the state. We have another 700
    wholesalers located out of state that are licensed to ship into
    California legally.
        The Board's paramount mandate, which is expressly stated in
    California law, is consumer protection. So, above all else,
    that is our focus.
        California state law provides the limited circumstances
    under which a pharmacy may provide prescription drugs to any
    entity. You have a copy at the back of my testimony. One of the
    provisions provides that a pharmacy may furnish prescription
    drugs to another pharmacy or wholesaler to alleviate a
    temporary shortage of a dangerous drug that could result in the
    denial of healthcare and only in quantities sufficient to
    alleviate the shortage. Violations can be charged up to $5,000
    per occurrence. This would mean per invoice, for example.
        In the fall of 2011, the Board initiated an investigation
    following a pharmacist's inquiry to the Board about the
    legality of the pharmacy ordering prescription drugs from
    another wholesaler in short supply. These sales would be
    initiated at the behest and solicitation of the second
    wholesaler who informed the pharmacy that the prescription
    drugs were declared as temporarily short. Thus it would be OK.
    We have a provision in California state law that very much
    limits when a pharmacy can sell drugs to a wholesaler.
        The pharmacy's role would be to act as a purchasing agent
    for the wholesaler, purchasing drugs specifically on a list of
    prescription drugs in short supply that the wholesaler provided
    the pharmacy. The arrangement between the pharmacy and
    wholesaler was financial. The pharmacy would be paid an agreed
    amount, typically 10 percent over invoice plus shipping
    expenses.
        As of today, the Board has identified cases in which 55
    pharmacies purchased drugs in short supply for this one
    wholesaler on 514 occasions, totaling wholesale prices over
    $330,000. Each of the pharmacies and their pharmacists in
    charge have been cited and fined in various amounts up to
    $70,000 for violation of California law. Appeals of these
    citations and fines are currently pending, and the wholesaler
    has not yet had discipline completed. So we are still going
    through the process.
        However, these actions and investigations are very
    important, we believe, to share with the Committee. And we are
    hoping and looking to the Committee as finding ways to secure
    additional means to provide safeguards into the supply chain.
        The Board's investigations generally identified that, one,
    a pharmacy would be visited by a sales agent representative of
    the wholesaler, who explained the dire impact that the drug
    shortages presented to the patients and healthcare providers
    and stressed the inability of the wholesaler to obtain these
    drugs on its own. The soliciting wholesaler advised it was
    another source of pharmaceuticals for medical facilities and
    needed these medications.
        Sales were triggered from a list that the wholesaler
    released each week to the pharmacies that was titled ``Items We
    Are Looking For.'' The pharmacies involved were all independent
    community pharmacies. The drugs were principally medication
    that would be used by hospitals and rarely would be needed by
    community pharmacies.
        The Board did not find cases where the pharmacies purchased
    drugs for their own patients as well. All drugs were purchased
    exclusively for the wholesaler, using the list. The pharmacies
    had no independent knowledge of the shortage. They would
    sometimes verify once they were told there was a shortage of
    the drug. But, generally, that shortage was made at the time of
    purchase from their primary wholesaler.
        Some of the pharmacies seemingly circumvented the
    allocation that was set up by manufacturers by making multiple
    orders on the same day at different times so that they could
    maximize what they purchased. For example, one pharmacy ordered
    one drug 12 times in 1 day to maximize the amount purchased.
    Other times, very large orders were made. For example, we had
    another case where 30 boxes--each box had 25 units or vials--of
    a particular short-supply drug--were purchased, which is far in
    excess of what the community pharmacy would have ever needed,
    in fact, this particular drug is used in hospitals for infants.
    It's a very select drug.
        Pharmacies were typically paid 10 percent over the invoice
    for the drugs they purchased for the wholesaler. However, the
    wholesaler also sought direct access to the pharmacy's primary
    wholesaler ordering systems, which was granted by 23 of the 55
    pharmacies. This allowed the wholesaler to directly order the
    drugs it sought without the active involvement of the pharmacy.
    For this access, the pharmacy was paid 12 to 15 percent, a
    higher rate.
        Several pharmacies also sold drugs in short supply to
    several other wholesalers, including several wholesalers out of
    California who are not licensed to do business in the state.
    The wholesaler made considerably more when it resold the short-
    supply drugs than the 10 to 15 percent it paid the pharmacy to
    obtain the drugs.
        Some of the extreme examples include a Naval hospital that
    paid 6,246 percent markup for a drug over what----
        Senator Rockefeller. Could you repeat that?
        Ms. Herold.--6,246 percent, and it was very much like the
    situation you gave. This was a drug that was $1.50 per
    container. They charged over a hundred and something dollars
    per vial for that. There was another hospital that had another
    drug that they paid over 1,200 percent markup to get the drug.
    So this was a distortion of the market allocation system that
    was set up to ensure everyone had fair access.
        The wholesaler also resold over 10 percent of the short-
    supply drugs it had purchased to other wholesalers, not to
    pharmacies or healthcare providers. Hence, they're now
    reshipping the product throughout the supply chain. The Board
    also documented cases where the wholesaler resold the entire
    quantity it purchased from the pharmacy to another wholesaler.
        The Board moved forward with these cases because instead of
    alleviating the shortage of drugs, the wholesaler instead
    removed more drugs from the availability in the legitimate
    supply chain which had allocations in place to most equitably
    distribute the product. We believe that it increased the
    shortage of the drugs and dramatically increased the cost of
    these drugs to other healthcare entities and thus to patients.
        That concludes my remarks.
        [The prepared statement of Ms. Herold follows:]

           Prepared Statement of Virginia Herold, Executive Officer,
                       California State Board of Pharmacy

        Dear Chairman Rockefeller, Ranking Member Hutchison and Committee
    Members:

        Good afternoon.
        I am Virginia Herold, Executive Officer of the California State
    Board of Pharmacy. It is a privilege to be given this opportunity to
    address the Committee on California's efforts to address some of the
    unethical and illegal behavior surrounding manipulation of prescription
    drug shortages by wholesalers and pharmacies, to the detriment of the
    public health. As I speak today, our investigations and resultant
    enforcement activities that I describe below are not yet fully
    completed.
        The California State Board of Pharmacy licenses pharmacies,
    pharmacists, drug wholesalers and other entities that dispense, ship,
    transport or store prescription drugs and devices into, throughout and
    from California. The board is the largest licenser of pharmacies and
    pharmacists in the country--nearly 40,000 pharmacists, 6,200 community
    pharmacies and 500 wholesalers are located in California and licensed
    by the board. The board's paramount mandate, which is expressly stated
    in the California Business and Professions Code, is consumer
    protection.
        California state law provides the limited circumstances under which
    a pharmacy may provide prescription drugs to any entity. One of the
    provisions provides that a pharmacy may furnish prescription drugs to
    another pharmacy or wholesaler to alleviate a temporary shortage of a
    dangerous (or prescription) drug that could result in the denial of
    health care and only in quantities sufficient to alleviate the
    temporary shortage. Violations can be charged up to $5,000 per
    occurrence (e.g., invoice). A copy of this code section is provided as
    an attachment to this testimony.
        In the fall of 2011, the board initiated an investigation following
    a pharmacist's inquiry about the legality of the pharmacy ordering
    prescription drugs in short supply from its primary wholesaler,
    expressly for sale to another wholesaler. These sales would be
    initiated at the behest and solicitation of the second wholesaler, who
    informed the pharmacy that the prescription drugs were declared as
    temporarily short and thus these sales were legal.
        The pharmacy's role would be to act as a purchasing agent for the
    wholesaler, purchasing drugs specifically on a list of prescription
    drugs in short supply that the wholesaler provided to the pharmacy. The
    arrangement between the pharmacy and wholesaler was financial: the
    pharmacy would be paid an agreed amount, typically 10 percent over
    invoice, plus shipping expenses.
        The board initiated an investigation of the California wholesaler
    making this solicitation, which yielded hundreds of invoices from 55
    California pharmacies that had sold prescription drugs in short supply
    to this wholesaler, at the wholesaler's request. The board next
    investigated each of the 55 pharmacies, interviewing the pharmacists-
    in-charge or others who had knowledge of the sales. Again, invoices
    were obtained from each pharmacy.
        As of today, the board has identified cases in which 55 pharmacies
    purchased drugs in short supply for the wholesaler on 514 occasions,
    totaling wholesale prices of over $330,000. Each of the pharmacies and
    their pharmacist-in-charge have been cited and fined in various amounts
    up to $70,000 for violation of California law. Appeals of these
    citations and fines are currently pending. The wholesaler has not yet
    had discipline completed. Thus none of these actions and investigations
    is fully concluded. However, we are sharing this information to the
    Committee in hopes of securing enhanced ways to stop the practices
    identified by the board.
        The board's investigations generally identified that:

      1.  A pharmacy would be visited by a sales agent/representative of
            the wholesaler, who explained the dire impact that drug
            shortages presented to patients and health care providers, and
            stressed the inability of the wholesaler to obtain these drugs
            on its own. This soliciting wholesaler advised that it was
            another source of pharmaceuticals for medical facilities, and
            needed these medications.

      2.  Sales were triggered from a list the wholesaler released each
            week to the pharmacies titled ``Items we are looking for.''

      3.  The pharmacies involved were all independent, community
            pharmacies.

      4.  The drugs were principally medication that that would be used by
            hospitals and rarely would be needed by community pharmacies.
            The board did not find cases where the pharmacies purchased
            drugs for their own patients needs'--all drugs were purchased
            exclusively for the wholesaler using the list.

      5.  The pharmacies had no independent knowledge of the shortage.

      6.  Some of the pharmacies seemingly circumvented the allocation
            system set up by manufacturers by making multiple orders on the
            same day at different times. For example, one pharmacy ordered
            acetylcysteine 12 times in one day to maximize the amount
            purchased. Other times, large orders were made (30 boxes of 25
            vials of magnesium sulfate).

      7.  Pharmacies were typically paid 10 percent over invoice for the
            drugs they purchased for the wholesaler.

      8.  However, the wholesaler also sought direct access to the
            pharmacies' primary wholesaler ordering systems, which was
            granted by 23 pharmacies--allowing the wholesaler to directly
            order the drugs it sought without the active involvement of the
            pharmacy. For this access, typically the pharmacy was paid 12
            to 15 percent over invoice.

      9.  Several pharmacies also sold drugs in short supply to other
            several other wholesalers, including several wholesalers out of
            California who were not licensed to do business in the state.

        The wholesaler made considerably more when it resold the short
    supply prescription drug than the 10 to 15 percent it paid the
    pharmacy. Some of the extreme examples include:

      1.  Labetalol sold to a Naval hospital: 6,246 percent markup.

      2.  Leucovorin sold to a hospital: 996 percent markup.

      3.  Famotidine sold to a hospital in Georgia: 1240 percent markup.

      4.  Calcium gluconate sold to a hospital in Los Angeles: 441 percent
            markup.

        The wholesaler also resold about10 percent of the short supply
    drugs it had purchased to other wholesalers, not to pharmacies or
    health care providers. These wholesalers were charged lower fees (e.g.,
    sometimes 40 percent over the price paid by the wholesaler). The board
    also documented cases where the wholesaler resold the entire quantity
    purchased to another wholesaler.
        The board moved forward with these cases because instead of
    alleviating the shortage of these drugs, the wholesaler instead removed
    more drug from availability in the legitimate supply chain, which had
    allocations in place to most equitably distribute the product. We
    believe that it increased the shortage of the drugs and dramatically
    increased the cost of these drugs to other health care entities, and
    thus to patients.
        This concludes my statement. Thank you again for this opportunity.
    Attachment of Section 4126.5, California Business and Professions Code
        4126.5. (a) A pharmacy may furnish dangerous drugs only to the
    following:

        (1)  A wholesaler owned or under common control by the wholesaler
            from whom the dangerous drug was acquired.

        (2)  The pharmaceutical manufacturer from whom the dangerous drug
            was acquired.

        (3)  A licensed wholesaler acting as a reverse distributor.

        (4)  Another pharmacy or wholesaler to alleviate a temporary
            shortage of a dangerous drug that could result in the denial of
            health care. A pharmacy furnishing dangerous drugs pursuant to
            this paragraph may only furnish a quantity sufficient to
            alleviate the temporary shortage.

        (5)  A patient or to another pharmacy pursuant to a prescription or
            as otherwise authorized by law.

        (6)  A health care provider that is not a pharmacy but that is
            authorized to purchase dangerous drugs.

        (7)  To another pharmacy under common control.

      (b)  Notwithstanding any other provision of law, a violation of this
            section may subject the person or persons who committed the
            violation to a fine not to exceed the amount specified in
            Section 125.9 for each occurrence pursuant to a citation issued
            by the board.

      (c)  Amounts due from any person under this section on or after
            January 1, 2005, shall be offset as provided under Section
            12419.5 of the Government Code. Amounts received by the board
            under this section shall be deposited into the Pharmacy Board
            Contingent Fund.

      (d)  For purposes of this section, ``common control'' means the power
            to direct or cause the direction of the management and policies
            of another person whether by ownership, by voting rights, by
            contract, or by other means.

        The Chairman. You did OK.
        Ms. Herold. I came in under 5 minutes, and I wasn't sure
    I'd do it. I talked as quickly as I could.
        The Chairman. Thanks a lot. You did a good job.
        At this point, I'd like to interrupt and have Chairman Tom
    Harkin, who is head of Labor, Education, Health, and several
    other things--chairs that committee--and he's very much
    involved in this, and I want him to--and if Mike Enzi comes, I
    hope--and Elijah Cummings is also coming a few minutes out.
        But we welcome any words you have to say.

                     STATEMENT OF HON. TOM HARKIN,
                         U.S. SENATOR FROM IOWA

        Senator Harkin. Well, thank you, Mr. Chairman, and I thank
    the panel for letting me intervene at this moment. I'm sorry
    I'm a bit late in getting here.
        But, first of all, I want to thank you, Chairman
    Rockefeller, for your great leadership in this area and for
    working with us on our committee and also with the House
    committee, also. This truly is a problem that cries out for
    something to be done. It's not just costs that I heard you
    commenting about on these huge markups. It's also about patient
    safety, too. How do we know just how safe some of these drugs
    are when they go through four or five or six different hands?
        And we've had instances in our committee of people saying
    that expiration dates were changed. Different things were taken
    out of vials and put into other vials. So it has to do with
    safety, also.
        Mr. Chairman, when we did the FDA reauthorization bill
    recently that the president just signed into law, we had great
    bipartisan agreement on the upstream side of the drug safety
    issue in terms of where the drugs come from to the
    manufacturer. And we gave the FDA a lot more authority to
    police that and to make sure that both the non-pill form type
    of drugs, the bulk drugs coming in, but also the finished drugs
    coming in were under heightened scrutiny from here on.
        What we did not have bipartisan agreement on--general
    agreement on--was the downstream side, which you're looking at
    right here, and that is from the manufacturer on down to the
    patient, to the purchaser. And, hopefully, we can find
    agreement on how to move ahead. It's very complicated. I've
    looked at this in great detail. It's a very complicated issue,
    but that doesn't mean it's not solvable. It is solvable, and we
    just have to do it.
        Just last week, the FBI and the U.S. Attorney in Manhattan
    charged 48 people in connection with a massive scheme in which
    crooks bought HIV/AIDS medications from Medicaid patients and
    then sold them to prescription drug wholesalers, who got the
    drugs back into the hands of pharmacies and patients. So a
    system where drugs sold for cash on street corners can make
    their way back to legitimate pharmacies--a system that is
    crying out for some kind of reform.
        So your hearing today moves us a step forward. In that way,
    the work done by your committee, Chairman Rockefeller, and mine
    and Congressman Cummings', I believe, will better define the
    problem. And I'm committed to work with you, Mr. Chairman, and
    our ranking members to practice and to get a system in there
    where--we've got the upstream, and now we have to make sure
    that we get this gray market thing out of the system so that we
    can keep the price of drugs down and also make sure they're
    safe for patients.
        So thank you very much, Mr. Chairman. And I thank our panel
    for letting me intervene.
        The Chairman. Thank you very much, Chairman Harkin.
        Chairman Harkin and I came into the Senate the same year,
    and we're fairly inseparable.
        Senator Harkin. That was in the last century, wasn't it?
        The Chairman. Yes, it was. All right.
        Now, Dr. Mayhaus, I'm having a trauma over pronouncing your
    name correctly.
        Dr. Mayhaus. You are pronouncing it correctly--Mayhaus.
        The Chairman. Good. OK. You are the Chief Pharmacy Director
    of the Cincinnati Children's Hospital Medical Center, where my
    wife and my children all got tested for allergies.
        Dr. Mayhaus. I hope they had a great experience.
        The Chairman. Just a little plug.
        Dr. Mayhaus. OK. Good.
        The Chairman. Please go ahead.

            STATEMENT OF DR. DAVID MAYHAUS, CHIEF PHARMACY
       DIRECTOR, CINCINNATI CHILDREN'S HOSPITAL MEDICAL CENTER;
     MEMBER, EXECUTIVE COMMITTEE, CHILDREN'S HOSPITAL ASSOCIATION
                             PHARMACY FORUM

        Dr. Mayhaus. Chairman Rockefeller and members of the
    Committee, my name is David Mayhaus, and I am Chief Pharmacy
    Director at Cincinnati Children's Hospital Medical Center. I am
    grateful for the opportunity to speak to you today, not only on
    behalf of Cincinnati Children's, but also as a member of the
    Executive Committee for the Children's Hospital Association
    Pharmacy Forum.
        My goal today is to describe the process Cincinnati
    Children's uses for managing drugs when they reach critical
    shortages and how these issues have impacted our pharmacy
    operations over the past 5 years.
        Cincinnati Children's is a tertiary care research facility
    that was recently ranked third in the nation among all Honor
    Roll Hospitals in U.S. News and World Report's Best Children's
    Hospital ranking. Within Cincinnati Children's, the Division of
    Pharmacy is an extremely busy unit, dispensing approximately
    7,500 doses per day. When there is a sudden drug shortage
    crisis, the impact can be felt throughout our entire system.
        Today, at Cincinnati Children's, there are currently 30
    drugs that we are actively managing on a daily basis. The
    buyers that work for me check our primary wholesaler or the
    manufacturer on a daily basis. We meet several times a day to
    discuss where we are and possible mitigation plans. Our buyers
    spend 30 percent of their time just dealing with drug shortages
    and trying to prevent Cincinnati Children's from experiencing a
    crisis.
        As Chief Pharmacy Director, approximately 10 percent of my
    time is also dedicated to these issues, including what I am
    doing here today, appealing to you to assure an adequate supply
    of medications to our patients. Everything we do is in the best
    interest of our pediatric patients.
        Once a drug is determined to be in shortage, our clinical
    pharmacists identify our utilization pattern and estimate the
    number of base supplies that we have in inventory. If the
    anticipated length of the shortage exceeds our current supply,
    we develop a mitigation plan which could include purchase of
    the gray market in extreme cases.
        Our goal at this point is to extend the amount of inventory
    until the drug is released to the market. Work also begins at
    this stage with the impacted medical divisions to explore if
    various safe alternatives and treatments exist.
        The vast majority of drugs purchased for Cincinnati
    Children's are from two primary wholesalers. At the point all
    inventory of the affected drug has been exhausted, regular
    wholesalers and manufacturers have no product, and the
    mitigation plan has run its course, Cincinnati Children's has
    in the past looked for alternative wholesalers for the product.
    Let me be clear. Cincinnati Children's only uses these
    alternative wholesalers as a last resort when it is determined
    that the absence of the drug could cause harm to one of our
    small patients.
        In these extreme cases, Cincinnati Children's has very
    specific due diligence procedures for obtaining drugs from
    alternate wholesalers, which includes an examination of the
    drug pedigree. Over the past 12 months, Cincinnati Children's
    has purchased only nine out of the 2,800 different line item
    drugs from these alternative wholesalers.
        As a medical team, it was determined that all these drugs
    were critical. In fact, three of them are drugs used to
    maintain life support during a code. Cincinnati Children's
    believed running out of the stock of these drugs was not an
    option and would have the potential to cause significant harm
    to our patients.
        Critical chemotherapy drugs have been frequently reported
    in short supply. One specific example is when we needed to
    purchase a very important chemotherapy called Cytarabine that
    was in short supply. Cytarabine is used to treat acute
    lymphoblastic leukemia and is the drug our oncology division
    firmly believes has the most efficacy for treatment.
        After careful consideration and the due diligence described
    above, and because there is no treatment alternative for this
    particular disease, Cincinnati Children's did, in fact,
    purchase this drug from alternative wholesalers. Because of
    this purchase, we did not run out of this important drug, and
    all the patients received all the appropriate doses.
        It is a daily reality that our buyers in the division
    receive e-mails and phone calls from alternative wholesalers.
    It is our experience that the call activity increases when a
    new or critical drug goes into a shortage situation. The prices
    vary from wholesaler to wholesaler. Cincinnati Children's has
    had the experience of the price changing rapidly, even between
    phone calls, within the same alternative wholesaler, depending
    on the market activity and the critical nature of the drug.
        These business practices are not the normal procedure for
    our primary wholesaler or any other of our activities within
    the practice of pharmacy. As you can surmise, it is also a fact
    that in all of our purchases through alternative wholesalers,
    Cincinnati Children's did, in fact, pay substantially more than
    our normal contracted price. In some cases, the price exceeded
    35 times the normal pricing.
        Finally, on behalf of my colleagues at the other children's
    hospitals across the country, I would like to conclude by
    thanking this committee for its efforts to gain a full
    understanding of the complexity of this issue. As Cincinnati
    Children's has seen over the past 5 years, the fragile nature
    of the pharmaceutical supply chain does have a direct
    correlation to the treatment of our patients. At Cincinnati
    Children's, safety is paramount, and there is nothing more
    important to the institution than making sure a child gets the
    right care in the appropriate setting with the very best
    quality and competency that can be delivered.
        Thank you for allowing me to share our experiences with you
    today, and I would be happy to respond to questions later.
        [The prepared statement of Dr. Mayhaus follows:]

       Prepared Statement of Dr. David Mayhaus, Chief Pharmacy Director,
       Cincinnati Children's Hospital Medical Center; Member, Executive
           Committee, Children's Hospital Association Pharmacy Forum

        Chairman Rockefeller and members of the Committee, my name is David
    Mayhaus and I am the Chief Pharmacy Director at Cincinnati Children's
    Hospital Medical Center. I am grateful for the opportunity to speak to
    you today not only on behalf of Cincinnati Children's, but also as a
    member of the Executive Committee for the Children's Hospital
    Association Pharmacy Forum. My goal today is to describe the process
    Cincinnati Children's uses for managing drugs when they reach critical
    shortage and how these issues have impacted our pharmacy operations
    over the past five years.
        Cincinnati Children's was recently ranked third in the Nation among
    all Honor Roll hospitals in U.S. News and World Report's Best
    Children's Hospitals ranking. Our institution is ranked in the top 10
    for all of the pediatric specialties ranked. On the research side,
    Cincinnati Children's is one of the top two pediatric recipients of
    grants from the National Institutes of Health. In FY 2011 there were
    over 1 million patient encounters at Cincinnati Children's from 48
    states and over 50 countries. Cincinnati Children's operates over 570
    registered beds including a Heart Institute, a Perinatal Institute and
    a Cancer and Blood Disease Institute. Cincinnati Children's division of
    pharmacy is a large facility which dispenses approximately 7,500 doses
    per day. When there is a sudden drug shortage crisis the impact can be
    felt through our entire system.
        Our division of pharmacy consists of 150 FTEs. Three of these FTE
    are pharmacy buyers. These buyers are responsible for managing the
    inventory of approximately 2800 line items of drugs. Over the past
    several years, more and more time has been dedicated to management of
    medications that are in short supply. Over time I have seen it grow to
    the point where today our buyers spend 30 percent of their day just
    dealing with drug shortages and trying to prevent Cincinnati Children's
    from experiencing a crisis. In addition to our drug buyers; clinical
    pharmacists and directors spend an inordinate portion of their time
    monitoring drug supply which can range from modification of therapy, to
    alternative medications. Our pharmacists have contacted manufacturers,
    wholesalers and alternative suppliers to get what we need. As Chief
    Pharmacy Director approximately 10 percent of my time is also dedicated
    to these issues including what I am doing today, appealing to you to
    assure adequate supply of medications for our patients.
        Today at CCHMC there are currently 30 drugs being actively managed
    on a daily basis and approximately an additional 70 where there have
    been concerns about shortage in the recent past. The buyers who report
    to me check our primary wholesaler on a daily basis for the 30 drugs on
    the critical list. We meet informally several times a day as a group
    and discuss where we are and possible mitigation plans. As a pediatric
    institution, it is vitally important to continually monitor the drug
    shortage market and react quickly to the changes.
        There are several mechanisms to determine new and ongoing drug
    shortages. The 3 most important are the American Society of Health-
    System Pharmacists (ASHP) website, The FDA website and the Children
    Hospital's Association's pharmacy directors and buyers list serve.
    Other less helpful mechanisms are the primary wholesaler and
    manufacturer notifications. It is the experience of Cincinnati
    Children's that these last two tend to be delayed in their announcement
    of shortages. For these reasons we applaud the Senate for their passage
    of the Senate Bill 3187, the FDA user fee legislation, which will
    create an early-warning notice system that will give providers like
    myself more timely notice ahead of a critical shortage.
        Everything we do is in the best interest of our pediatric patients.
    Once a drug is determined in shortage, our clinical pharmacists
    identify our utilization pattern and an estimate for days supply is
    developed. If the anticipated length of the shortage exceeds our
    current supply, we meet to develop a mitigation plan which could
    include purchase from the gray market in extreme circumstances. Our
    goal at this point is to extend the amount of inventory until the drug
    is released to the market. Work also begins at this stage with the
    impacted medical divisions to explore if various safe alternatives in
    treatment exist. Mitigation plans could include: reducing the dosing
    guidelines within medical staff approval for the affected drug,
    changing the current distribution from readily available to pharmacy
    dispensed therefore maximizing product or changing to a similar drug in
    the pharmaceutical class. None of these decisions would be made without
    complete and thorough consultation with the medical team.
        The vast majority of the drugs purchased from Cincinnati Children's
    are from two primary wholesale companies. At the point all inventory of
    the affected drug has been exhausted, regular wholesalers have no
    product and the mitigation plan has run its course, Cincinnati
    Children's has in the past looked to alternative wholesalers for
    product. Let me be clear, Cincinnati Children's only use these
    alternative wholesalers as a last resort when it is determines that the
    absence of the drug could cause harm to our patients.
        In those situations where Cincinnati Children's decides to purchase
    a drug from an alternative wholesaler, we follow extensive due
    diligence procedures including checking the prescription drug pedigree.
        Over the past 12 months Cincinnati Children's has purchased only 9
    out of 2,800 different line item drugs from these alternative
    wholesalers. As a medical team it was determined that all of these
    drugs were critical and in fact three of them are drugs used to
    maintain life support during a code. Cincinnati Children's believes
    running out of stock of these drugs is not an option and would have had
    the potential to cause significant harm to our patients.
        Critical chemotherapy drugs have been frequently reported to be in
    short supply. One specific example is approximately 18-24 months ago
    the institution needed to purchase a very important chemotherapy
    (Cytarabine) that was in short supply. Cytarabine is used to treat
    Acute Lymphoblastic Leukemia (ALL) and is the drug that our number
    three ranked oncology division firmly believes has the most efficacy
    for treatment. After careful consideration and the due diligence
    described above and because there is no treatment alternative for this
    particular drug, Cincinnati Children's did in fact purchase this drug
    from alternative wholesalers. Because of the purchase, we did not run
    out of this important drug and all patients received the appropriate
    dose.
        It is a daily reality that the buyers in our division receive e-
    mails and phone calls from alternative wholesalers. It is our
    experience that the call activity increases when a new or critical drug
    goes into a shortage situation. The prices vary from wholesaler to
    wholesaler. Cincinnati Children's has had the experience of the price
    changing rapidly, even between phone calls, within the same alternative
    wholesaler depending on the market activity and the critical nature of
    the drug. These business practices are not the normal procedure for our
    primary wholesaler or for any other activity within the practice of
    pharmacy. As you can surmise, it is also a fact that in all of our
    purchases through alternative wholesalers, Cincinnati Children's paid
    substantially more than our normal contracted price. In some cases this
    price exceeded 35 times more than normal pricing.
        Finally, on behalf of my colleagues at the other children's
    hospitals across the country, I would like to conclude by thanking this
    Committee for its efforts to gain a full understanding of the
    complexity of these issues. As Cincinnati Children's has seen over the
    past five years the fragile nature of the pharmaceutical supply chain
    does have a direct correlation to treatment for patients. At Cincinnati
    Children's safety is paramount and there is nothing more important to
    the institution than making sure a child gets the right care, in the
    appropriate setting with the very best quality and competence that can
    be delivered.
        Thank you for allowing me to share our experiences with you today
    and I will be happy to respond to questions.

        The Chairman. Thank you very much, Dr. Mayhaus. You spoke
    in a quiet manner, but your testimony was very potent.
        And now I would once again call upon my colleagues and our
    witnesses to allow a very distinguished visitor, Elijah E.
    Cummings, who is Ranking Member of the Oversight and Government
    Reform Committee in the House, who has been working on this and
    so many other issues. We've done a number of things together,
    and we've been in each other's daises, so to speak. But he has
    something he would like to say on this, and I hope that my
    colleagues and the witnesses will listen carefully to what he
    has to say, because then he has to go right back and continue
    chairing a hearing.

                 STATEMENT OF HON. ELIJAH E. CUMMINGS,

         RANKING MEMBER, U.S. HOUSE COMMITTEE ON OVERSIGHT AND
                           GOVERNMENT REFORM

        Mr. Cummings. Thank you very much Chairman Rockefeller and
    Ranking Member Hutchison and members of the Committee, and I
    thank you for inviting me to testify here today. Let me also
    extend my personal thanks to Chairman Rockefeller and Chairman
    Harkin and their staffs for their great work during this
    investigation and for their comprehensive report issued today.
        If I may, I would like to focus briefly on why I launched
    this investigation and what we found so far and what we can do
    about it. I initiated this investigation last year after
    receiving a heartfelt letter from Brenda Frese. Brenda is the
    head coach of the women's basketball team at the University of
    Maryland, and these are pictures of Brenda and her son, Tyler.
        Brenda wrote to me about a critical shortage in a drug
    called Cytarabine, which treats leukemia in children. Let me
    read what she wrote. ``Without Cytarabine, many leukemia
    patients won't be cured and they will die. What makes this hit
    home even more for me and my family is that my 3-year-old son,
    Tyler, is a leukemia patient who has benefited from
    Cytarabine,'' end of quote.
        As we began investigating this shortage, we found something
    very disturbing. Hospitals such as Johns Hopkins, the
    University of Maryland, and others told us that even though
    they could not get the drug from their authorized distributors,
    they were being inundated with phone calls, e-mails, and faxes
    from gray market companies offering the shortage drugs and
    others at highly inflated prices. They were outraged by this
    and so was I.
        Based on the information provided by the hospitals, we
    started with five drugs facing critical shortages, and we
    identified five gray market companies marketing them at
    exorbitant prices. We asked these companies where they were
    getting these drugs and how much money they were making by
    selling them. Based on their initial responses, we expanded our
    investigation to cover 125 different companies, and we reviewed
    300 different drug transaction chains.
        The report issued today does a terrific job laying out the
    facts in detail. So let me highlight one example that
    illustrates our findings.
        First, let me put up a chart that shows how things are
    supposed to work. Under normal circumstances, drugs go from
    manufacturers to distributors to hospitals, pharmacies, or
    other healthcare providers that dispense them to patients. But
    that is not what happens in the gray market. In the gray market
    transactions, shortage drugs are being diverted into a much
    longer distribution chain.
        Let me show you an example, the transaction involving
    Fluorouracil. This drug is used to treat various forms of
    cancer, including colon cancer, stomach cancer, breast cancer,
    and pancreatic cancer. As you can see, instead of the three
    stops, in this case there are nine. The main problem is that
    each one of these entities marked up the price of the drug. Let
    me show you how much.
        This is the same chart now listing the prices for each
    transaction. The drug started at $7--listen to what I'm
    saying--$7 per vial when it was sold by the authorized
    distributor. It was later sold for $50, then $69, then $95,
    then $275, then $375. And, remember, it started at $7, and it
    was sold finally to a hospital at an astonishing $600.
    Something is wrong with that picture. That was for a single
    vial of this cancer drug, more than 85 times its initial price.
        This was not an isolated incident. We found this same
    pattern with all the drugs we examined. This system makes
    absolutely no sense for patients who need these critical drugs
    or for hospitals that treat them. The current system allows
    this network of private companies to boost their profits, and
    for what? For doing nothing but charging offensively high
    prices, increasing the overall cost of our nation's healthcare
    system, and raising significant safety concerns as these drugs
    criss-cross the country with markups at every single stop.
        So how could this happen? How do these gray market drug
    companies get their hands on these drugs when our hospitals
    cannot? And I guarantee you almost every single hospital in
    this country, if you ask them about it, will tell you they're
    experiencing the same thing.
        The answer is through pharmacies. In more than two-thirds
    of the drug sale chains we examined, gray market companies were
    able to buy shortage drugs from entities with pharmacy
    licenses. In the same chain we have been discussing, you can
    see that the third company was a pharmacy named Priority
    Healthcare. Rather than dispensing the drug to patients, this
    pharmacy sold it to a gray market wholesaler called Tri-Med
    America, which then sold it down the line.
        During our investigation, we discovered that Priority was
    actually a fake pharmacy. It sold all of its drugs to Tri-Med
    and none, absolutely none, to patients. We also discovered that
    the owner of the pharmacy was married to the owner of Tri-Med,
    the gray market wholesaler. State regulators found that the
    pharmacy committed numerous violations of state law, and the
    wholesaler's license has now been revoked.
        Again, this was not an isolated incident. In North
    Carolina, for example, an individual named Jessica Hoppe set up
    two companies, LTC Pharmacy and International Pharmaceuticals,
    a pharmacy and wholesaler. But when state regulators went to
    inspect these companies, this is what they found. They reported
    that LTC Pharmacy, and I quote, ``was not an operating
    pharmacy,'' and that, quote, ``no dispensing has taken place
    since opening,'' end of quote. Licenses for both companies have
    now been surrendered or denied. However, just last week, we
    learned that the owner has now opened a new company, just under
    a different name and in a different state.
        Even legitimate pharmacies are being used by unscrupulous
    gray market companies to obtain access to shortage drugs. Gray
    market companies and their brokers have been approaching
    pharmacies, asking them to buy drugs on their behalf and
    promising big profits in return.
        For example, an e-mail to one pharmacy said, and I quote,
    ``We guarantee our pharmacies 20 percent or more every time,''
    end of quote. Another e-mail encouraged a pharmacy to locate
    shortage drugs, saying, and I quote, ``The more you find, the
    more you make,'' end of quote. Some gray market companies even
    dupe pharmacies into believing that buying shortage drugs for
    them would help needy patients obtain drugs faster. In fact,
    all they were doing is artificially driving up prices.
        The good news is that there is something we can do about
    this, and we must do something about it. In May, I introduced
    legislation, and there are two provisions I would just like to
    highlight as I close.
        First, my bill would prohibit wholesalers from buying drugs
    from pharmacies. There is no legitimate reason for wholesalers
    to do this, and this is how many shortage drugs are being
    diverted into the gray market.
        Second, my bill would create a national wholesaler data
    base that would allow state boards of pharmacy to share
    information more easily. One of the biggest challenges state
    regulators face is monitoring enforcement actions in other
    states. We have already found examples of gray marketers being
    shut down in one state, only to open their doors in another.
        Let me close by emphasizing again why this investigation is
    so very, very important. As Brenda Frese said to me in her
    letter last year, this is a matter of life and death. And
    nobody, absolutely nobody, should be allowed to profiteer at
    the expense of patients by jacking up the price of drugs in
    critically short supply.
        We're talking about kids, with leukemia in some cases,
    children with life threatening illnesses. And these companies
    are taking advantage of them to boost their own bottom lines.
        Again, I want to thank Chairman Rockefeller and Chairman
    Harkin, and I want to thank you for lending to us and helping
    us with your phenomenal staffs. They have been absolutely
    incredible, and we really do appreciate them. Without your
    direct involvement and your sustained leadership, there is
    absolutely no way we would have uncovered as much as we did
    during this investigation.
        And I apologize because I have to run back to the House.
    I'm managing a bill. But, again, thank you and may God bless.
        [The prepared statement of Mr. Cummings follows:]

      Prepared Statement of Hon. Elijah E. Cummings, Ranking Member, U.S.
     House of Representatives, Committee on Oversight and Government Reform

        Chairman Rockefeller, Ranking Member Hutchinson, and Members of the
    Committee, thank you for inviting me to testify. Let me also extend my
    personal thanks to Chairman Rockefeller, Chairman Harkin, and their
    staffs for their great work during this investigation and for the
    comprehensive report issued today.
        If I may, I would like to focus briefly on why I launched this
    investigation, what we have found so far, and what we can do about it.
        [Figure 1: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigur
    e1%283%29.pdf] I initiated this investigation last year after receiving
    a heartfelt letter, http://democrats.oversight.house.gov/images/
    stories/freselettertocummings.pdf, from Brenda Frese. Brenda is the
    head coach of the women's basketball team at the University of
    Maryland, and these are pictures of Brenda and her son Tyler. Brenda
    wrote to me about a critical shortage in a drug called cytarabine,
    which treats leukemia in children. Let me read what she wrote:

            Without cytarabine, many leukemia patients won't be cured and
            will die. What makes this hit home even more for me and my
            family is that my three year old son Tyler is a leukemia
            patient who has benefited from cytarabine.

        As we began investigating this shortage, we found something very
    disturbing. Hospitals told us that even though they could not get the
    drug from their authorized distributors, they were being inundated with
    phone calls, e-mails, and faxes from gray market companies offering
    this shortage drug and others at highly inflated prices. They were
    outraged by this, and so was I.
        Based on information provided by the hospitals, we started with
    five drugs facing critical shortages, and we identified five gray
    market companies marketing them at exorbitant prices. We asked these
    companies where they were getting these drugs, and how much money they
    were making by selling them. Based on their initial responses, we
    expanded our investigation to cover 125 different companies, and we
    reviewed 300 different drug transaction chains.
        The report issued today does a terrific job laying out the facts in
    detail, so let me highlight one example that illustrates our findings.
        [Figure 2: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigure2%283%29.pdf]
    First, let me put up a chart that shows how things are
    supposed to work. Under normal circumstances, drugs go from
    manufacturers to distributors to hospitals, pharmacies, or other health
    care providers that dispense them to patients. But that is not what
    happens in the gray market. In gray market transactions, shortage drugs
    are being diverted into much longer distribution chains.
        [Figure 3: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigure3%283%29.pdf]
    Let me show you an example. This transaction involved
    fluorouracil, which is used to treat various forms of cancer, including
    colon, stomach, breast, and pancreatic cancer. As you can see, instead
    of three stops in this case, there were nine. The main problem is that
    each one of these entities marked-up the price of the drug.
        [Figure 4: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigure4%283%29.pdf]
    Let me show you how much. This is the same chart, now
    listing the prices for each transaction. This drug started at $7 per
    vial when it was sold by the authorized distributor. It was later sold
    for $50 . . . $69 . . . $95 . . . $275 . . . $375 . . . In the end, it
    was finally sold to a hospital for an astonishing $600. That was for a
    single vial of this cancer drug--more than 85 times its initial price.
        This was not an isolated incident. We found this same pattern with
    all of the drugs we examined. This system makes absolutely no sense for
    patients who need these critical drugs or for hospitals that treat
    them. The current system allows this network of private companies to
    boost their profits. And for what? For doing nothing but charging
    offensively high prices, increasing the overall costs to our Nation's
    health system, and raising significant safety concerns as these drugs
    crisscross the country with mark-ups at every stop.
        So how could this happen? How do these gray market drug companies
    get their hands on these drugs when hospitals cannot? The answer is
    through pharmacies. In more than two-thirds of the drug sale chains we
    examined (69 percent), gray market companies were able to buy shortage
    drugs from entities with pharmacy licenses.
        [Figure 5: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigure5%283%29.pdf]
    In the same chain we have been discussing, you can see
    that the third company was a pharmacy named Priority Healthcare. Rather
    than dispensing the drug to a patient, this pharmacy sold it to a gray
    market wholesaler called Tri-Med America, which then sold it down the
    line.
        During our investigation, we discovered that Priority was actually
    a fake pharmacy. It sold all of its drugs to Tri-Med and none to
    patients. We also discovered that the owner of this pharmacy was
    married to the owner of Tri-Med, the gray market wholesaler. State
    regulators found that the pharmacy committed numerous violations of
    state law, and the wholesaler's license has now been revoked.
        Again, this was not an isolated incident. In North Carolina, for
    example, an individual named Jessica Hoppe set up two companies--LTC
    Pharmacy and International Pharmaceuticals, a pharmacy and a
    wholesaler. But when state regulators went to inspect these companies,
    this is what they found.
        [Figure 6: http://democrats.oversight.house.gov/images/stories/
    GrayMarketFigure6%283%29.pdf]
    They reported that LTC Pharmacy was ``not an operating
    pharmacy'' and that ``no dispensing has taken place since opening.''
    Licenses for both companies have now been surrendered or denied.
    However, just last week, we learned that the owner has now opened a new
    company, just under a different name and in a different state.
        Even legitimate pharmacies are being used by unscrupulous gray
    market companies to obtain access to shortage drugs. Gray market
    companies and their brokers have been approaching pharmacies, asking
    them to buy drugs on their behalf, and promising big profits in return.
    For example, an e-mail to one pharmacy said this: ``We guarantee our
    Pharmacies 20 percent or more every time.'' Another e-mail encouraged a
    pharmacy to locate shortage drugs, saying this: ``The more you find,
    the more you make.''
        Some gray market companies even duped pharmacies into believing
    that buying shortage drugs for them would help needy patients obtain
    drugs faster, when in fact all they were doing is artificially driving
    up prices.
        The good news is that there is something we can do about this. In
    May, I introduced legislation, and there are two provisions I would
    like to highlight. First, my bill would prohibit wholesalers from
    buying drugs from pharmacies. There is no legitimate reason for
    wholesalers to do this, and this is how many shortage drugs are being
    diverted into the gray market.
        Second, my bill would create a national wholesaler database that
    would allow state boards of pharmacy to share information more easily.
    One of the biggest challenges state regulators face is monitoring
    enforcement actions in other states. We have already found examples of
    gray marketers being shut down in one state only to open their doors in
    another.
        Let me close by emphasizing again why this investigation is so
    important. As Brenda Frese said to me in her letter last year, this is
    a matter of life and death. Nobody should be allowed to profiteer at
    the expense of patients by jacking up the price of drugs in critically
    short supply. We're talking about kids with leukemia in some cases--
    children with life-threatening illnesses--and these companies are
    taking advantage of them to boost their bottom-line.
        I would like to thank Chairman Rockefeller and Chairman Harkin once
    again, as well as your staffs. Without your direct involvement and your
    sustained leadership, there is no way we would have uncovered as much
    as we did during this investigation. Thank you.

        The Chairman. Thank you very much, Congressman Cummings.
    You're a remarkable person, and we wish you well.
        Again, I've never sort of done this before. So, again, I
    want to apologize to my colleagues that were all sort of
    looking at me in a slightly skeptical way. But, fortunately, we
    work on the seniority system here, so there's not much you can
    do about it.
        [Laughter.]
        The Chairman. However, now I want to go to John Coster, who
    is Senior Vice President of Government Affairs and Director of
    the NCPA, which is the National Community Pharmacists
    Association.
        Please.

    STATEMENT OF JOHN COSTER, Ph.D., R.Ph., SENIOR VICE PRESIDENT,
    GOVERNMENT AFFAIRS AND DIRECTOR, NCPA ADVOCACY CENTER, NATIONAL
                   COMMUNITY PHARMACISTS ASSOCIATION

        Dr. Coster. Chairman Rockefeller, Senator Boozman, members
    of the Senate Commerce Committee, I'm John Coster, Senior Vice
    President of Government Affairs for the National Community
    Pharmacists Association. I am also a licensed pharmacist in the
    states of New York, Maryland, and Virginia. Thank you for
    conducting this hearing and for allowing us to submit our views
    on this very important and timely issue.
        NCPA represents the owners and operators of 23,000
    independent community pharmacies in the United States. We
    appreciate your focusing this hearing on the issues surrounding
    the shortages of prescription drugs. While most of the drug
    shortages to date have been experienced by hospitals and other
    institutional settings for injectable and infusion drugs, many
    community pharmacies also experience daily shortages of vital
    prescription medications.
        How do community pharmacies manage an inventory of
    thousands of drug products on their shelves and also handle
    drug shortages? Pharmacy inventory is a function of many
    factors, including local prescribing patterns and patient
    populations served. Pharmacies do their very best to
    efficiently manage their inventories because drug products are
    very expensive.
        A typical independent community pharmacy has a great deal
    of capital invested in inventory items, likely hundreds of
    thousands of dollars. Over 90 percent of the average
    independent pharmacy's dollar inventory is tied up in
    prescription products. However, the last message a pharmacist
    wants to deliver to a patient standing at the counter is that
    their drug is not in stock or, worse, temporarily unavailable.
        The relationship between community pharmacies and their
    wholesale distributors is one of critical importance to manage
    inventory and prevent shortages. Community pharmacists rely
    heavily on their wholesalers to ensure that they have the
    necessary access to virtually all medications at all times in
    order to ensure that their patients' needs are met.
        Most community pharmacies rely on a primary wholesaler to
    meet the majority of their ongoing prescription drug needs.
    However, community pharmacies typically need to have at least
    one or more backup or secondary wholesalers that they can call
    upon in the event that there is a shortage.
        Recently, there have been troubling reports of shell
    pharmacies, fake pharmacies, paper pharmacies that seem to have
    been established for the sole purpose of buying medications in
    short supply from primary wholesalers in order to sell them to
    unethical secondary wholesalers. NCPA condemns these activities
    and applauds the Committee for its investigative work in this
    area. No pharmacy, whether fake or legitimate, should be in the
    business of acting as a conduit to facilitate the activities of
    an illegitimate gray market. These few pharmacies cast a pall
    over all the good community pharmacies that do work in their
    communities.
        It is our understanding that the Committee's investigation
    focuses mainly on injectable and infusion drugs that are not
    typically sold to or dispensed by community pharmacies. These
    aberrant purchases by these pharmacies should have been a
    warning signal to wholesalers selling these drugs that
    something could be wrong.
        How was it that some of these pharmacies could open and
    operate in the first place? Typically, state boards conduct an
    onsite investigation of any new pharmacy. However, sometimes in
    certain situations boards may issue a temporary license with
    the permanent license withheld pending the results of an actual
    inspection.
        Beyond the appreciated actions already taken by Congress to
    address drug shortages in the recently enacted FDA bill,
    Congress continues to examine ways to further secure the supply
    chain. We support these discussions and want to continue to
    serve as a resource on the best way to achieve these objectives
    in a seamless, efficient, patient-oriented manner.
        What practices do pharmacies currently use to address
    shortages of medications? First, it is in the normal course of
    business that community pharmacies return outdated or short-
    dated products to wholesalers or distributors. We need a way to
    do this in order to return product because of the significant
    amount of capital tied up in these returns.
        Second, at times, where permitted by law, pharmacies do
    sell inventory to other pharmacies. For example, some state
    practice acts allow retail pharmacies to sell a small amount of
    their inventory in certain situations. Pharmacies will do this
    on occasion to alleviate temporary shortages.
        Finally, some states permit appropriate licensed pharmacy
    sales to wholesalers. These sales are also permitted to
    alleviate a temporary shortage of drugs. In surveying our
    members, however, we have found very few that actually do this.
        We want to work with the Committee to assure that community
    pharmacies can continue to manage their inventories while being
    able to meet their individual prescription drug needs. For
    example, we support the implementation of Federal standards for
    wholesale distributors. In addition, there should be greater
    emphasis on the importance for all participants in the supply
    chain to perform their due diligence with respect to business
    partners.
        In conclusion, it is necessary for pharmacies to have
    options to address temporary shortages in the marketplace. We
    urge Congress to not take actions that might limit the ability
    of pharmacies to take care of their patients. The primary and
    secondary wholesale markets play an important role in ensuring
    that all patients have seamless access to virtually all
    products they require. Having said that, it is unethical for
    pharmacists to act as a conduit for the illegitimate gray
    market, which is contrary to the goals of providing the best
    patient care.
        We appreciate the opportunity to provide our views to the
    Committee, and I look forward to answering any questions.
        [The prepared statement of Dr. Coster follows:]

    Prepared Statement of John Coster, Ph.D., R.Ph., Senior Vice President,
        Government Affairs and Director, NCPA Advocacy Center, National
                       Community Pharmacists Association

        Chairman Rockefeller, Senator Boozman, and Members of the Senate
    Commerce Committee. I am John Coster, Ph.D., R.Ph., Senior Vice
    President of Government Affairs for the National Community Pharmacists
    Association. I am a licensed pharmacist in the states of New York,
    Maryland, and Virginia. Thank you for conducting this hearing and for
    allowing us to submit our views on this very important and timely
    issue. NCPA represents the owners and operators of more than 23,000
    independent community pharmacies in the United States. Our members
    provide about 40 percent of all outpatient prescription drugs in the
    United States. We are also major providers of pharmacy services to long
    term care and assisted living facilities. Our members are also
    prevalent in urban and rural areas.
        We appreciate your focusing this hearing on the issues surrounding
    the shortages of prescription drugs. While most of the drug shortages
    to date have been experienced by hospitals and other institutional
    settings for injectable and infusion drugs, many community pharmacies
    also experience daily shortages of vital prescription medications. In
    particular, recently there have been critical shortages of medications
    to treat ADD and ADHD. The newly enacted FDA law will take important
    steps to help address these types of shortages, as well as require
    better coordination between FDA and the Drug Enforcement Administration
    (DEA) on determining and updating the quotas for the production of
    these medications. We appreciate the bipartisan steps that Congress
    took to address this shortage situation.
    Pharmacies Rely on Combination of Wholesalers
        How do community pharmacies manage an inventory of the thousands of
    drug products on their shelves and handle drug shortages? Pharmacy
    inventory is a function of many factors, including local prescribing
    patterns and the patient population served. Pharmacies do their best to
    efficiently and effectively manage their inventories because drug
    products are very expensive.
        A typical independent community pharmacy has a great deal of
    capital invested in inventory items, likely hundreds of thousands of
    dollars. Over 90 percent of the average independent pharmacy's dollar
    inventory is tied up in prescription products. However, the last
    message a pharmacist wants to deliver to a patient standing at the
    counter is that their drug is not in stock, or worse, is temporarily
    unavailable.
        The relationship between community pharmacists and their wholesale
    distributors is one of critical importance to manage inventory and
    prevent shortages. Community pharmacists rely heavily on their
    wholesalers to ensure that they have the necessary access to virtually
    all medications at all times in order to ensure that patient needs are
    met. Most community pharmacists rely on a primary wholesaler to meet
    the majority of their on-going prescription drug supply needs. However,
    community pharmacists typically need to have at least one or more
    ``back-up'' or secondary distributors that they can call upon in the
    event that their primary distributor for some reason cannot meet their
    needs at any particular time.
        The term ``primary wholesaler'' generally describes entities that
    purchase the vast majority of their product directly from drug
    manufacturers. This market is highly concentrated, as the ``big three''
    wholesalers generate approximately 85 percent of all revenues from
    pharmaceutical wholesaling in the United States. Most manufacturers
    typically limit the number of entities that they will sell to directly
    and most do not sell directly to smaller companies that are not
    interested in purchasing extremely large, bulk amounts
        The term ``secondary'' wholesaler generally describes distributors
    that do not purchase the majority of their products directly from a
    pharmaceutical manufacturer. They often play an important role for
    patients and pharmacies by serving as a ``back-up'' source of supply to
    pharmacies who may use a primary wholesaler for their usual and
    expected day-to-day needs. They also provide necessary competition for
    the primary wholesalers which helps keep costs down.
    Illicit Activities by ``Shell'' Pharmacies and Gray Market Distributors

            Unethical
        Recently, there have been troubling reports of ``shell pharmacies''
    or ``paper pharmacies'' that seem to have been established for the sole
    purpose of buying medications in short supply from primary wholesalers
    in order to sell them to seemingly unethical secondary wholesalers.
    NCPA condemns these activities and applauds the Committee for its
    investigative work in this area. No pharmacy should be in the business
    of acting as a conduit to facilitate the activities of an illegitimate
    gray market.
        It is our understanding that the Committee's investigation focuses
    mainly on injectable and infusion drugs that are not typically sold to
    or dispensed by most community pharmacies. The aberrant purchases by
    these pharmacies should have been a strong warning signal to
    wholesalers selling these drugs to these pharmacies that something
    could be wrong.
        How was it that these shell pharmacies could even open and operate
    in the first place? Typically, state boards of pharmacy conduct an on-
    site inspection of any new pharmacy; however, sometimes boards may
    issue a temporary license with the permanent license withheld pending
    the results of an actual inspection.
    Efforts to Curb Unacceptable Practices Should Not Harm Patient Care
        Beyond the actions already taken by Congress to address drug
    shortages in the recently-enacted FDA bill, Congress continues to
    examine ways to furthers secure the pharmaceutical supply chain. We
    support these discussions and want to continue to serve as a resource
    to Congress on the best ways to achieve these objectives in a seamless,
    efficient, patient-oriented manner. What current practices allow
    pharmacies to address shortages of medications to meet patient needs,
    while managing their inventory?
        First, it is in the normal course of business that community
    pharmacies return outdated or short dated products to wholesalers or
    distributors, or products that were sent to the pharmacy in error.
    Pharmacies need a way to return products because of the significant
    amount of pharmacy capital tied up in these returns. We appreciate that
    our business partners work with us on taking back these returns, and we
    urge Congress to continue to allow us to return these products.
        Second, at times, where permitted by law, community pharmacies do
    sell pharmaceutical products to other pharmacies. For example, some
    state pharmacy practice laws allow retail pharmacies to sell a small
    amount of their inventory in certain situations. Pharmacies will do
    this on occasion to alleviate temporary shortages, to assure that
    patients are able to receive needed drugs, or to assure that ``short
    dated'' drugs will not be wasted before they expire. We believe that
    this is an appropriate practice. This helps to facilitate the
    functioning of the market and helps to assure timely and appropriate
    cost effective patient care. This is particularly important in rural
    areas where daily wholesaler deliveries may be more sporadic.
        Finally, some states permit pharmacy sales to wholesalers. These
    sales are permitted to alleviate a temporary shortage of drugs. In
    surveying our members, however, we have found very few that hold both
    types of licenses. Having said that, we think that this situation
    contrasts with the unethical practices found by the Committee where a
    pharmacy was knowingly buying short supply inventory it knew it would
    not use and did not need, with the intended purpose of selling it into
    the illegitimate gray market.
        However, one of the options discussed to address the issues
    identified by the Committee is a potential prohibition of pharmacies
    selling drug products to wholesalers. While this would appear to be a
    logical solution to the problem, we ask the Committee to carefully
    consider whether this option would have unintended consequences for
    patients.
    Supply Chain Partners Need to Know Their Customers
        We would want to work with the Committee to assure that community
    pharmacies can continue to manage their pharmaceutical inventories,
    while being able to meet the prescription drug needs of individual
    patients, including in shortage situations.
        For example, NCPA supports the implementation of Federal standards
    for wholesale distributors, as well as a proposed lot-level tracking
    system for prescription drugs that will make it much easier to keep
    track of the purchase and sale of pharmaceuticals. Uniformly raising
    the bar for all entities that wish to engage in this line of business
    should provide a greater assurance for all participants in the supply
    chain that they are doing business with a legitimate entity.
        In addition, there should be greater emphasis on the importance for
    all participants in the supply chain to also perform their ``due
    diligence'' with respect to their business partners. NCPA currently
    publishes a manual that provides assistance to pharmacists who are
    seeking to open their own pharmacy and a portion of this document deals
    with the selection of a wholesaler or wholesaler(s). The manual
    includes a list of questions that each pharmacy should ask before
    retaining the services of any wholesaler. Notably, NCPA also stresses
    the fact that every pharmacy needs to have more than one wholesaler
    ``because no wholesaler can offer every product that you may need to
    stock.''
        In conclusion, it is necessary for pharmacies to have options to
    address temporary shortages in the marketplace. We urge Congress to not
    take actions that might limit the ability of pharmacies to take care of
    their patients. The primary and secondary wholesaler markets both play
    an important role in ensuring that all patients have seamless access to
    virtually any product that they may require.
        Having said that, it is unethical for pharmacists to act as a
    conduit for the illegitimate gray market, which is contrary to the goal
    of providing the best patient care at the lowest cost. Problems or
    questionable practices should certainly be investigated and addressed,
    but any solution needs to be carefully tailored so that the
    pharmaceutical supply chain is not unduly disrupted and patients do not
    suffer due to shortages that may occur. We appreciate the opportunity
    to provide our views to the Committee and I look forward to answering
    any questions.

        The Chairman. Thank you very much, Mr. Coster.
        And now Mr. John Gray, who is President and CEO of
    Healthcare Distribution Management Association.

       STATEMENT OF JOHN M. GRAY, PRESIDENT AND CEO, HEALTHCARE
               DISTRIBUTION MANAGEMENT ASSOCIATION (HDMA)

        Mr. Gray. Thank you. Good afternoon, Chairman Rockefeller,
    Ranking Member Boozman, members of the Senate Commerce
    Committee. I'm John Gray, President and CEO of the Healthcare
    Distribution Management Association. I want to thank you for
    the opportunity to come here and provide an overview of the
    pharmaceutical distribution system with respect to the
    critically important issue of drug shortages.
        We applaud the Committee's efforts to address the shortage
    issue and some of the resulting symptoms, including gray market
    diversion of products in short supply. For purposes of the
    discussion today, I'll reference a recent report from the
    Premier Healthcare Alliance that defines the gray market as a
    parallel market that is, quote, ``unofficial, unauthorized, or
    unintended by the original manufacturer,'' end quote.
        Given that context, and to distinguish HDMA members from
    the gray market, I'll share with you information about the
    primary pharmaceutical distribution industry. HDMA is the
    national association representing those primary healthcare
    distributors, which we consider the vital link between
    manufacturers and providers in our nation's healthcare system.
        Approximately 90 percent of all pharmaceutical product
    sales in the United States today flow through HDMA's 34
    distributor members. Each business day, HDMA member companies
    ensure that more than nine million prescriptions and healthcare
    products from more than 1,100 manufacturers are delivered
    safely and efficiently to nearly 200,000 healthcare providers,
    which include pharmacies, hospitals, nursing homes, clinics,
    and other healthcare entities. Our provider customers generally
    place orders for prescription medicines by 8 p.m. in the
    evening and receive deliveries from the distributors the next
    morning.
        Wholesale distribution is defined as, quote ``the
    distribution of prescription drugs to persons other than a
    consumer or a patient.'' HDMA members are these primary
    wholesalers. That is, our members are predominantly Authorized
    Distributors of Record, as designated by the pharmaceutical
    companies themselves. Our members purchase the majority of
    product directly from pharmaceutical manufacturers and sell
    only to appropriately licensed healthcare providers and
    entities.
        In 1988, the Prescription Drug Marketing Act, PDMA, was
    enacted to increase safeguards in the drug distribution system
    by preventing the introduction and retail sale of substandard,
    ineffective, or counterfeit drugs. It has also helped define
    the pharmaceutical distribution industry as we know it today.
    Our distributor members operate in accordance with the
    requirements set forth in the PDMA as well as licensing rules
    and standards in all 50 separate states.
        HDMA and its members are strong advocates for increased
    wholesale licensure standards and a uniform Federal pedigree
    system to enhance the safety and security of the pharmaceutical
    supply chain. In addition to fundamentally addressing
    counterfeit and diverted medicines, Federal pedigree, we
    believe, will be a major tool and useful in discouraging gray
    market activities associated with drug products in short
    supply.
        Effectively addressing the drug shortage problem is a
    difficult and complex challenge for the entire healthcare
    community, in large part because the shortage typically appears
    with little or no warning and often requires significant
    resources to manage. HDMA member companies are working hard to
    improve communications within our supply chain and, where
    possible, to mitigate the impact of these shortages.
        Distributors do not manufacture the products, so we can do
    little about the root causes of the shortages. However, we do
    play an important role in helping coordinate and share
    information about the shortages when they arise. Distributors
    are typically notified of a shortage by a manufacturer or
    provider partner.
        Once that information is received, our distributors
    communicate with their manufacturer partners about product
    availability to understand the scope and expected duration of
    the shortage. They then work as quickly as possible with
    customers to fill orders, to the extent they are able, based
    usually upon each customer's historical purchasing patterns.
    And, if necessary, distributors work with customers and the
    manufacturers to identify alternative product options.
        HDMA, in collaboration with all its distributor members,
    manufacturers, and providers, recently completed voluntary
    industry guidelines on improving communications with the supply
    chain in the event of these kinds of shortages. We hope this
    effort, combined with the enhanced wholesale licensure
    standards and a uniform federal pedigree system, will
    contribute to the better management of product shortage issues
    in the future.
        HDMA is committed as an organization to work with the
    Congress, all relevant regulatory agencies, and the entire
    supply chain to develop the necessary collaborative solutions
    that mitigate the impact of drug shortages and the impact that
    these have on the most important stakeholder, our patients.
        I thank you again for the invitation to participate, and I
    look forward to the Committee's questions. Thank you very much.
        [The prepared statement of Mr. Gray follows:]

       Prepared Statement of John M. Gray, President and CEO, Healthcare
                      Distribution Management Association

        Good morning Chairman Rockefeller, Ranking Member Hutchison and
    Members of the Senate Commerce Committee. I am John Gray, president and
    CEO of the Healthcare Distribution Management Association (HDMA). Thank
    you for the opportunity to provide an overview of the pharmaceutical
    distribution system with respect to the critically important issue of
    drug shortages.
        We applaud the Committee's efforts to address the drug shortage
    issue and some of the resulting symptoms, including gray market
    diversion of products in short supply.
        For the purposes of our discussion today I will reference a recent
    report from the Premier Healthcare Alliance that defines the gray
    market as a parallel market, ``that is unofficial, unauthorized or
    unintended by the original manufacturer.'' Given that context, and to
    distinguish HDMA members from the gray market, I will share with you
    information about the primary pharmaceutical distribution industry.
        HDMA is the national association representing America's primary
    healthcare distributors--the vital link between manufacturers and
    providers in our Nation's healthcare system. Approximately 90 percent
    of all pharmaceutical product sales in the United States flow through
    HDMA's 34 distributor members. Each business day, HDMA member companies
    ensure that more than nine million prescription medicines and
    healthcare products from more than 1,100 manufacturers are delivered
    safely and efficiently to nearly 200,000 healthcare providers
    including, pharmacies, hospitals, nursing homes, clinics and other
    healthcare entities. Our provider customers generally place orders for
    prescription medicines by 8 p.m. in the evening and receive deliveries
    from their distributors the next morning.
        Wholesale distribution is defined as the ``distribution of
    prescription drugs to persons other than a consumer or patient.'' HDMA
    members are primary wholesalers, that is our members are predominantly
    Authorized Distributors of Record (ADRs), as designated by
    pharmaceutical manufacturers. Our members purchase the majority of
    product directly from pharmaceutical manufacturers and sell only to
    appropriately licensed healthcare providers and entities.
        In 1988, the Prescription Drug Marketing Act (PDMA) was enacted to
    increase safeguards in the drug distribution system by preventing the
    introduction and retail sale of substandard, ineffective or counterfeit
    drugs. It also helped define the pharmaceutical distribution industry
    as we know it today. Our distributor members operate in accordance with
    the requirements set forth in the PDMA, as well as licensing rules and
    standards in all 50 states.
        HDMA and its members are strong advocates for increased wholesaler
    licensure standards and a uniform Federal pedigree system to enhance
    the safety and security of the pharmaceutical supply chain. In addition
    to fundamentally addressing counterfeit and diverted medicines, Federal
    pedigree may be a useful tool in discouraging gray market activities
    associated with drug products in short supply.
        Effectively addressing a drug shortage is a difficult and complex
    challenge for the entire healthcare community, in large part because a
    shortage typically appears with little or no warning and often requires
    significant resources to manage. HDMA member companies are working hard
    to improve communications within the supply chain and, where possible,
    to mitigate the impact of drug shortages. Distributors do not
    manufacture product and so can do little about the root causes of
    shortages. However, distributors do play an important role by helping
    to coordinate and share information about drug shortages when they
    arise.
        Distributors are typically notified of a shortage by a manufacturer
    or provider partner. Once information is received, distributors
    communicate with their manufacturer partners about product availability
    to understand the scope and expected duration of any shortage. They
    then work as quickly as possible with their customers to fill orders,
    to the extent they are able, usually based upon each customer's
    historical purchasing patterns. If necessary, distributors work with
    customers and manufacturers to identify alternative product options.
        HDMA, in collaboration with its distributor members, manufacturers
    and providers, recently completed voluntary industry guidelines on
    improving communication between supply chain partners in the event of a
    product shortage. We hope this effort, in conjunction with enhanced
    wholesale licensure standards and a uniform Federal pedigree system,
    will contribute to the better management of product shortage issues in
    the future.
        HDMA is committed to working with the Congress, all relevant
    regulatory agencies and the entire supply chain to develop
    collaborative solutions that mitigate the impact drug shortages have on
    the most important stakeholder: the patient.
        I thank you again for the invitation to participate in this hearing
    and hope this overview was valuable to the Committee as it explores
    this important and timely topic.

        The Chairman. Thank you very much, sir.
        And, finally, Ms. Patricia Earl, who is the Industry
    Analyst for the National Coalition of Pharmaceutical
    Distributors.

             STATEMENT OF PATRICIA EARL, INDUSTRY ANALYST,

           NATIONAL COALITION OF PHARMACEUTICAL DISTRIBUTORS

                                 (NCPD)

        Ms. Earl. Great. It's great to be last. Good afternoon. I
    would first like to thank Chairman Rockefeller, Senator
    Boozman, and distinguished members of the Ccommittee for the
    Committee's strong leadership in addressing the critical
    problem of short-supply prescription drugs in the supply chain.
    I have submitted a more complete statement. But in this portion
    of my testimony, I would like to discuss the issues you have
    brought to light.
        I have more than a quarter century of experience in the
    pharmaceutical supply chain and understand all sides of the
    distribution model. In addition to my experience in the
    distribution industry, I have served as an industry expert in
    Federal court proceedings involving supply chain practices.
        I'm here today to represent the views of the National
    Coalition of Pharmaceutical Distributors, NCPD, and its
    members, which are predominantly small and independent
    pharmaceutical companies. I cannot emphasize enough the value
    that small, or secondary, pharmaceutical distributors bring to
    the healthcare system. These organizations are there when no
    one else is, in the middle of the night, on the weekends, and
    in remote parts of the country where no one else wants to
    deliver because it's not considered profitable.
        As a result, small distributors help save lives every
    single day. They save lives by making it their business to
    ensure that quality medicines reach a patient in the safest,
    fastest, and most cost-effective way possible, no matter the
    time or location. Few others can say the same thing. Their
    value is so profound that we have e-mail after e-mail from
    customers, including the NIH, thanking them for the help that
    they have provided to find medicine or deliver it at the last
    minute to save a life and at a reasonable price, a function
    primary wholesalers are simply not geared to perform.
        Despite their value, small secondary distributors have come
    under fire recently because few people really understand them
    or have the time to see where they fit in the supply chain. The
    arguments have ranged from accusations of price gouging to
    shifting product between multiple companies as a means to
    increase profit to working with fake pharmacies.
        These allegations are not grounded in reality. What's more,
    these characterizations fail to reflect one basic fact of the
    market. There are thousands of small distributors that work
    with hospitals across the Nation. To remain competitive, they
    must comply with all laws, follow pedigree and handling
    requirements to the letter, and still offer an economical price
    point that allows for only a modest profit margin. If they do
    anything else, they run the risk of permanently losing a
    customer.
        See, hospitals comparison shop. If they don't like a price
    offered by one company, they will call another. When it comes
    to working with secondaries, healthcare providers don't face
    the same restrictions they do with the big three wholesalers.
    They are free to move their accounts elsewhere. This is a
    reality that every small distributor out there is well aware
    of. And they know that if they were to engage in the types of
    activities you accuse them of, they would not be in business
    very long.
        As you learn more about this industry which represents less
    than 1 percent of all drugs bought and sold across the nation,
    you will see that the activities being painted as nefarious
    actually have legitimate and reasonable explanations. On the
    subject of price gouging, or markups, secondary distributors
    pay the highest prices for drugs in the entire U.S. supply
    chain, sometimes as much as 91 percent more than one of the big
    three wholesalers would ultimately pay for the same product.
        What's more, many people look at a pedigree and compare the
    cost the distributor paid for a drug to the price he sold it
    for and assume the entire amount was pocketed as profit. That's
    the furthest thing from the truth. Pedigrees do not show how
    much was spent on things like shipping, which can be much more
    expensive than the drug itself if the hospital needs it
    delivered overnight.
        On the subject of several companies being involved in the
    handling of a product, we are aware, Mr. Chairman, that you are
    in possession of a handful of pedigrees that show multiple
    distributors handled a product before it got to the patient. I
    do not know the circumstances that led to these situations, so
    I can't defend these pedigrees specifically. But what I can say
    is that these incidents are anomalies.
        Our members work tirelessly to make sure that the route
    from the distributor to the customer is as straight as
    possible, because they want to get the product to those who
    need it as fast as possible, and because they know that they
    face stiff competition. Even when a drug is in short supply,
    more than one distributor can get it, and, as I said, hospitals
    comparison shop.
        So for every one pedigree you find that shows multiple
    touch points, we have literally tens of thousands of pedigrees
    that show only one or two distributors were involved and with a
    nominal profit realized. In fact, one NCPD distributor handles
    1.2 million pedigrees every year. The handful of pedigrees in
    your possession do not even equal one-tenth of 1 percent of the
    number of products he handles in one year.
        Finally, on the subject of fake pharmacies, by law,
    pharmacies are allowed to sell a small portion, 5 percent or
    less, of their inventory to distributors as long as they comply
    with state regulatory requirements. In most cases, pharmacies
    take advantage of this law to sell drugs that will expire
    within 90 days that they do not believe they can dispense in
    that timeframe.
        Instead of letting them go to waste, many pharmacies will
    sell the products to an authorized distributor, both small
    independent companies as well as large wholesalers. The
    authorized distributor, in turn, will sell it to a medical
    provider that can use it immediately. Ultimately, this practice
    is a win-win. Drugs don't go to waste. Pharmacies don't lose
    large quantities of money on products that are expiring, and
    providers are able to get pharmaceuticals at a discounted rate.
        This is a legitimate and necessary practice and is not a
    fake pharmacy. Our members will not work with fake pharmacies
    or pharmacies that do not dispense drugs to patients and will
    report them to the proper authorities when they encounter them.
        That ends my oral presentation, and I urge you to read the
    more comprehensive testimony that I submitted.
        Thank you, Mr. Chairman, Senator Boozman, and members of
    this Committee.
        [The prepared statement of Ms. Earl follows:]

            Prepared Statement of Patricia Earl, Industry Analyst,
               National Coalition of Pharmaceutical Distributors

        Good afternoon, first I would like to thank Chairman Rockefeller,
    Ranking Member Hutchison and distinguished Members of the Committee for
    the Committee's strong leadership in addressing the critical problem of
    short-supply prescription drugs in the supply chain. The record
    shortage of drugs we are currently experiencing has had an adverse
    effect on the health and safety of communities across the country, and
    is a contributing factor to rising healthcare costs.
        I am here today to represent the views that the National Coalition
    of Pharmaceutical Distributors (NCPD) and its members, which are
    predominantly small and independent pharmaceutical distributors, have
    regarding the distribution of short-supply prescription drugs and the
    role that the coalition's members play in distributing the drugs in the
    U.S. supply chain. The three key issues presented in this discussion
    are ones that NCPD believes the Committee has brought to light for this
    hearing.
        I can offer this insight because I am an expert in the
    pharmaceutical distribution supply chain, having spent more than
    twenty-six years in the industry, working with large and small
    distributors as a senior executive on supply chain management as it
    relates to hospitals and group purchasing contracts, as well as running
    distribution centers. My background has resulted in me being called as
    an expert witness in Federal court cases

    Introduction
        In recent months, there has been a great deal of controversy and
    speculation swirling around the entire distribution chain offered by
    people who do not understand or have first-hand knowledge of how the
    health care supply chain fits together. The issues raised fit into
    three basic categories:

      1.  So-called ``price gouging'' or mark-ups

      2.  Several companies being involved in the handling of a product

      3.  Fake pharmacies

        I will address each of these objections in turn, but I wanted to
    start by helping everyone here understand the various companies
    involved in supply chain management.
        Drug sales and distribution is a complex market with many key
    players, including ``primary'' traditional wholesalers, who are members
    of HDMA, group purchasing organizations--otherwise known as (GPOs), and
    ``secondary'' distributors, members of NCPD. All play a vital role in
    ensuring that quality medicines reach a patient in the safest, fastest
    and most cost-effective way possible. Small distributors fill a gap in
    the market, offering versatility and flexibility that primary
    distributors can't provider while also serving less profitable rural
    regions of the country.

    Role of Small Distributors--Filling A Gap
        I cannot emphasize enough the value that small--or secondary--
    pharmaceutical distributors bring to the health care system. These
    organizations are there when no one else is--in the middle of the
    night, on the weekends and in remote parts of the country where no one
    else wants to deliver because it's not considered profitable. As a
    result, small distributors help save lives every single day. They save
    lives by making it their business to ensure that quality medicines
    reach a patient in the safest, fastest and most cost-effective way
    possible--no matter the time or location.
        Few others can say the same thing.
        Their value is so profound that we have e-mail after e-mail from
    customers--including the NIH--thanking them for the help they have
    provided to find medicine or deliver it at the last minute to save a
    life (and at a reasonable price)--a function primary distributors are
    simply just not geared to perform.
        Our members do this work as part of long standing relationships
    they have with health care providers in which they fill in the gaps
    when the primary has a drug shortage. The secondary distribution
    industry primarily serves smaller medical facilities, doctor's offices
    and pharmacies, many of which are found in rural or other underserved
    locations around the country. As a practical matter, large distributors
    are organized to take advantage of volume sales; therefore, they set
    prohibitively high minimum monthly purchasing requirements for a health
    care provider to have an account with them and they organize their
    supply network around major population centers, where they are more
    likely to find facilities that meet their minimum requirements. They
    are not well suited to cost-effectively distribute medication to more
    remote locations.
        This is where secondary distributors come in. Hospitals, health
    care centers and pharmacies in rural locations and those too small to
    meet the minimums of large distributors rely on secondary distributors
    to fill critical needs for life-saving medicine. What's more, every
    sector of the health care industry depends critically upon secondary
    distributors because they act as the safety-net in times of national
    shortages to secure and distribute scarce drugs in short supply.
        While they are crucial in getting life-saving drugs to critically
    ill patients, small distributors are on an individual basis, one of the
    smallest customers of ``traditional'' wholesalers. These same
    wholesalers do billions of dollars of sales to large hospitals, but
    will not supply smaller clinics and facilities. In addition, small
    distributors are required to pay the highest acquisition cost offered
    in the U.S. supply chain, putting them at a competitive disadvantage.
        Despite their value, small, secondary distributors have come under
    fire recently because few people really understand them or have taken
    the time to see where they fit in the supply chain. The arguments have
    ranged from accusations of price gouging to shifting product between
    multiple companies as a means to increase profits to working with fake
    pharmacies.
        These allegations are little more than character assassinations and
    are not grounded in reality. What's more, these characterizations fail
    to reflect one basic fact of this market: There are thousands of small
    distributors that work with hospitals across the Nation. To remain
    competitive, they must comply with all laws, follow pedigree and
    handling requirements to the letter and still offer an economical price
    point that allows for only a modest profit margin. If they do anything
    else, they run the risk of permanently losing a customer.
        That's because hospitals comparison shop. If they don't like a
    price offered by one company, they will call another.
        This is a reality that every small distributor out there is well
    aware of. And they know that if they were to engage in the types of
    activities you accuse them of, they would not be in business very long.
        As you learn more about this industry you will see that the
    activities you are trying to paint as nefarious actually have
    legitimate and reasonable explanations:

    1. So-Called ``Price Gouging'' Or Mark-Ups
        Drug prices are established on an intricate system that is far more
    complex than most free markets. Manufacturers set a number of price
    points for a product, including the Wholesale Acquisition Cost--or
    WAC--which is the lowest price at which a wholesaler or distributor can
    buy the product. As with many markets, hospitals and physicians can
    negotiate the price they are willing to pay for a drug. The more
    product a hospital or doctor expects to use, the more power they have
    in securing to negotiate a lower price. Neither large nor small
    distributors have the ability to influence drug price negotiations. To
    secure the best prices for patients, most hospitals belong to one of
    the major GPO's, which leverage the strength of the collective buying
    power of their members when negotiating contracts with manufacturers.
    GPOs require hospitals to adhere to specific rules, such as select a
    primary wholesaler--generally one of the Big3: McKesson, Cardinal or
    AmerisourceBergen--and if their primary does not have a drug, they are
    prohibited from using another primary. Instead, they must contact their
    second-line--or ``secondary--distributor to supply their needs.
    Secondary distributors are able to work with all of the primary
    wholesalers, plus their network of small distributors to locate and
    secure drugs, even those that are in short-supply. Because small
    distributors are not restricted by GPO contracts, they are able to use
    avenues that hospitals cannot, such as large distributors that compete
    with the hospital's primary wholesalers.
        Small distributors have been inaccurately portrayed when it comes
    to the price of products. As I noted before, secondary distributors pay
    the highest prices for drugs in the entire U.S. supply chain--sometimes
    as much as 91 percent more than one of the Big 3 would ultimately pay
    for the same product. What's more, many people will look at a pedigree
    and compare the cost a distributor paid for a drug to the price he sold
    it for and assume the entire amount was pocketed as profit. That's the
    furthest thing from the truth. The reality is that the pedigree does
    not show how much was spent on things like shipping, which can be much
    more expensive than the drug itself if the hospital needs it delivered
    overnight.
        As I said before, every small distributor knows that the hospitals
    they work with are going to comparison shop. If a hospital doesn't like
    the price that one secondary distributor quotes to them, they will call
    another. Or, if they need it right away and can't risk losing it, they
    will buy it, but will find another secondary distributor to work with
    moving forward. When it comes to working with secondaries, health care
    providers do not face the restrictions they do with the Big 3. They are
    free to move their account elsewhere, so secondary distributors have to
    remain competitive and will often sacrifice their own profit margins to
    make sure they keep a customer.

    2. Number of Companies Involved in Distribution of A Single Product
        We are all aware, Mr. Chairman, that you are in possession of a
    handful of pedigrees that show multiple distributors handled a product
    before it made its way to a patient. While I cannot defend these
    pedigrees specifically because I do not know the circumstances that led
    to this situation, what I can say is that these incidents are
    anomalies. Our members work tirelessly to make sure that the route from
    distributor to customer is as straight as possible. No detours, no
    additional mark-ups, no changing of hands multiple times. Why? Because
    our members are concerned about making sure the products get to those
    who need it as fast as possible, and because they know that they face
    stiff competition. Even when a drug is in a shortage situation, more
    than one distributor will still be able to get it, and hospitals
    comparison shop--looking for new ways to get the product at a lower
    price.
        So, for every one pedigree you can find that shows multiple touch
    points, we have literally thousands of pedigrees that show a straight
    line in which only one or two distributors were involved with only a
    nominal profit realized. In fact, one distributor that I work with
    handles 1.2 million pedigrees every year--enough to stretch more than
    680 miles if laid end-to-end. And that's just one distributor. The
    handful that you have shown would not even equal one-tenth of 1 percent
    of what the number of products he handles every single year.
        His focus--and the focus of all of our members--is to provide much-
    needed products at the most competitive price they can while still
    making a modest profit. If they did anything else, they would be out of
    business very quickly.

    3. Fake Pharmacies
        Under law, pharmacies are allowed to sell a small portion--5
    percent or less--of their inventory to distributors, as long as they
    comply with state regulatory requirements. In most cases, pharmacies
    take advantage of this law to sell drugs that will expire within 90
    days that they do not believe they can dispense in that timeframe.
    Instead of letting them go to waste, many pharmacies will sell the
    products to an authorized distributor--both small, independent
    companies, as well as large wholesalers--at a discounted rate. The
    authorized distributor, in turn, will sell it to a hospital, medical
    clinic or physician office that can use it immediately.
        Ultimately, this practice is a win-win--drugs don't go to waste,
    pharmacies don't lose large quantities of money on products that are
    expiring and providers are able to get pharmaceuticals at a discounted
    rate. This is a legitimate and necessary practice, and is not a fake
    pharmacy.
        Unfortunately, there is a small group of people out there who have
    discovered this and have set up a few ``fake pharmacies'' across the
    Nation. Fake pharmacies are those that buy and sell pharmaceutical
    products, but do not actually dispense drugs to patients. Let's be
    clear here--dispensing pharmacies that exercise their right to sell a
    small portion of their inventories are legitimate. Only those that do
    not dispense drugs are fake pharmacies.
        It is the position of the NCPD that fake pharmacies are detrimental
    to the integrity of the entire health care supply chain. The coalition
    and its member companies constantly looking for companies operating in
    the black market and report any company they believe is operating a
    fake pharmacy.
        Further, it is the position of NCPD that legitimate pharmacies that
    sell a small portion of inventory into the supply chain are working to
    ensure that every drug in the supply chain is available to people in
    need and these operations should not be under scrutiny.
    Role That NCPD Members Played In Distributing Short-Supply Drugs
        Much activity has driven these secondary relationships that have
    been the realities for the pharmaceutical supply chain during this
    period of increasing short-supply of critical drugs. One of the
    practical circumstances that have fed the expansion of these
    relationships in the secondary distribution industry is the fact that
    this industry of small suppliers primarily serves as a safety-net or
    back-up supplier to all hospitals, both large and small in the U.S. Add
    to that, the fact that this industry is the primary supplier of all
    drugs to smaller medical facilities, doctor's offices and pharmacies.
    Despite their crucial role in getting life-saving drugs to critically
    ill patients, they are also on an individual basis, one of the smallest
    customers of the ``traditional'' wholesalers that do billions of
    dollars of sales to these large hospitals and are required to pay the
    highest acquisition cost offered in the U.S. supply chain. As a
    practical matter, every sector of the healthcare industry depends
    critically upon secondary distributors due to the fact that they act as
    the safety-net in times of national shortages to secure and distribute
    scarce drugs in short supply.
        During the protracted recent drug shortages, customers of the Big 3
    wholesalers were placed on product rationing based upon historical
    purchase volumes. For the secondary distributors, who may by necessity
    have much smaller average monthly purchase volumes, this often meant
    receiving only a handful of items each month under rationing process--
    certainly not enough to satisfy the demands of the smaller facilities
    who depend upon the secondary distribution industry. Importantly, it
    also meant that secondary distributors were unable to meet the monthly
    purchasing minimums required to maintain a Big 3 account (not to
    mention those direct manufacturer accounts with similar minimums). The
    Big 3, other large ADR distributors and many manufacturers used the
    inability of secondary distributors to meet these minimums as the
    justification for broadly terminating or closing secondary
    distributor's accounts during 2010, 2011 and 2012. The real impetus
    underlying these terminations, however, appeared to be a desire of
    these larger entities to distance themselves from the widespread
    negative publicity about secondary distributors that had been
    engendered by the media and other's false and misleading report
    alleging ``price gouging.''
        Despite losing their primary Big 3 accounts, the primary customer
    base and their loyal, secondary customer base continued to need
    critical medications to treat their patients. As a result secondary
    distributors found themselves clamoring to develop new supplier
    relationships that could replace the loss of their Big 3 accounts and
    ensure that these medications continued to be available for the health
    and welfare of underlying patients. These practical realities, as much
    as anything, drove increasing use by the secondary distribution
    industry of accepting short-supply drugs from multiple distributor
    links reflected on a small number of pedigrees that have surfaced
    during this committee's investigations. However, given that these
    secondary suppliers do thousands for transactions per month leading to
    hundreds of thousands on annual basis, only a handful of these
    transactions seem to have been outside their normal distribution
    channels that in reality are pedigreed from the manufacturer . . . to
    an ADR wholesaler . . . to a distributor . . . to another distributor .
    . . and ultimately to the end dispenser.
    Doing The Right Things
        Many of the assertions made in recent reports include activities
    that are illegal and would cause a small distributor to lose its
    license, but more importantly would cause them to lose their loyal
    customers that support the business model of their entire segment.
        The NCPD members have stayed in business for the last 20 to 30
    years (and even longer for some) because they bring a valuable service
    to their loyal customers. They know if they are perceived as ``price
    gougers'' and ``profiteers'', they will not get repeat business and
    their goals depend on that customer coming back to them month-in and
    month-out, not just in times of drug shortages. Again as a practical
    analysis of this segment would show, primary wholesalers guarantee to
    supply 98 percent of the non-backordered products 98 percent of the
    time, not 100 percent. Therefore, the business model for secondary
    distributors depends on them doing the right things, at the right times
    and keeping their customers coming back every month.
        If the implications that these companies routinely charge prices
    that are in excess of their usual and customary cost of the drugs plus
    a mark up that covers their higher cost of ordering, receiving,
    handling, packaging, shipping and special delivery that equates to
    their business model based on price gouging and profiteering, they
    would not have repeat customers--nor would NCPD be standing here today
    defending that practice.
        What we are saying is that drug sales and distribution is a complex
    market with many key players and at times on the surface, an analysis
    will find the anomalies, the special circumstances where higher mark-
    ups were passed from one distributor to another or a cost averaging
    model is used to achieve an average net profit on all items in certain
    categories. These selected examples are just samplings that reflect an
    example of what happens in a situation where a reaction to supply and
    demand rarely has anything to do with suppliers taking advantage of
    customers, but more to do with reacting to market conditions that
    included rationing, loss of access to products from normal supply chain
    and finding a solution to getting a critically needed product to fill a
    high demand request of a hospital that had a patient in life-
    threatening situations.
        NCPD represents the interests of small and independent reputable
    distributors. All member distributors go through a thorough background
    check and must meet all licensing standards. The NCPD and its members
    condemn all drug distribution activities conducted by ``gray market'
    distributors including stealing and selling drugs, setting up ``fake''
    pharmacies, buying back drugs and reselling them, stockpiling drugs
    that are needed, and gross ``profiteering.'' The NCPD is actively and
    aggressively lobbying in support of the most comprehensive and
    stringent Federal pedigree standard for the industry. As part of this,
    the NCPD has pushed for enhanced licensure standards and penalties for
    all distributors who fail to comply with laws and standards.
        The NCPD recommends that hospitals work with their trusted
    secondary distributor to fill needs that primary distributors may not
    be able to provide and to report offers from a distributor they do not
    know or medicine that is offered at priced well below or well above
    that offered by other distributors to regulatory agencies.
        Thank you Mr. Chairman, Ms. Ranking Member and members of this
    committee.
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        The Chairman. Thank you very much, Ms. Earl. And from my
    point of view, you represent the gray market. From your point
    of view, we're talking about just a few--I should tell you that
    we have at least 300 pedigrees in our possession, and there are
    plenty more where they came from.
        Now, I want to--because we made life more difficult--to
    call first upon Senator Klobuchar and then Senator Lautenberg
    and then Senator Begich.

                   STATEMENT OF HON. AMY KLOBUCHAR,
                      U.S. SENATOR FROM MINNESOTA

        Senator Klobuchar. Very nice. Thank you, Mr. Chairman, and
    thank you to the witnesses here.
        I got involved in this issue a few years ago and introduced
    the first bill on this in the Senate on drug shortage. We had
    only a few authors and got more and more support as we went on.
    Senator Harkin agreed to do a hearing, and I think from there,
    we were able to get the early notification requirements in
    place, and I thank those of you who helped us with that issue.
    And this really came from patients and pharmacists in my
    state--where we believe you should always have excellent
    medical care, in Minnesota--that came to me, and we were able
    to get this done.
        But I thank the Chairman for continuing this fight and
    looking at this critical issue of the gray market, which is
    clearly a major part of the problem. It's bad enough that we
    have the shortages. It's even worse to think that there are
    people who are preying on those shortages and making money off
    of them.
        So my first question is of you, Ms. Herold. Distributors
    and pharmacies all need to be licensed by the states that they
    practice in. These licenses dictate the rules by which these
    companies and providers practice. California is known to have
    one of the most stringent set of regulations when it comes to
    the prescription drug supply chain. Even with these rules, your
    testimony describes a situation where a wholesaler was able to
    recruit pharmacies to purchase drugs in short supply and then
    divert them into the gray market.
        Is the investigation you described in your testimony an
    unfortunate anomaly, or is it a frequent occurrence? And how do
    you think we should fix this?
        Ms. Herold. I most certainly hope it is not a frequent
    occurrence. The difficulty we have with 6,200 pharmacies in the
    state, 400 million prescriptions dispensed within the state
    during the course of a year, and 500 wholesalers, not to
    mention what's coming in from outside through mail order or
    other sources--it's a busy place. We only know what we know.
    And we exist for the bad 5 percent, let's say, that can't
    operate without having a regulator in the space to assure that
    they follow laws, behave themselves, and that the public safety
    is enhanced by the healthcare providers.
        I don't know. I will tell you that we have--I believe it's
    three other investigations involving the very same thing. We
    did not find shell pharmacies in this case doing the kind of
    thing that your committee and Mr. Cummings has found. But we do
    have shell pharmacies that are bilking our state's Medicaid
    program for millions of dollars. And when they go out and do an
    audit--surprise, there's no pharmacy there. Now, where those
    drugs go, we don't know, either.
        Senator Klobuchar. Thank you. I appreciate that and your
    work.
        Dr. Mayhaus, we have a hospital that spent in excess of
    $1.5 million in extra fees for short-supply products and during
    the last year had to assign three full time pharmacists to
    handle the sourcing, shortage guidelines, alternatives, and
    communications around the shortages. Can you talk about what
    you think this is costing your hospital?
        Dr. Mayhaus. I think we've spent about $100,000 only over
    the last year. We've been very good in being able to maintain
    an adequate supply of drugs. So from a dollar amount of cost of
    goods sold, it's only about that amount. We spend about 30
    percent of our technician time in overtime to manage the drug
    shortage issue.
        Senator Klobuchar. Thank you. And as you know, we have such
    limited funds right now for care. I just don't think we should
    be spending it on that.
        Ms. Earl, as with any industry, there are good actors and
    bad actors, and your testimony clearly defends the actions of
    the distributors. However, what we're trying to do is to figure
    out how to address the bad actors. We're clearly seeing, as
    Representative Cummings' chart showed and Senator Rockefeller's
    investigation has shown, that there are people that are
    gouging. How do you think we weed out the bad actors from the
    good actors and get at this problem?
        Ms. Earl. You know, one of the aspects of our association,
    the National Coalition of Pharmaceutical Distributors, is our
    distributors that are part of our organization all are licensed
    by the States' Board of Pharmacies. They all work with the FDA
    if they need to and the DEA. There's a lot of regulations today
    that guide pharmacies and that could be used to weed out the
    bad actors.
        We do not support the bad actors, you know, the fake
    pharmacies or anyone who does price gouge. We would just like
    the paint brush that has been brushed against all small
    distributors, secondary distributors, to basically take into
    effect that there are a lot of--you know, hundreds and
    thousands of small distributors that have been working for 20
    years, that they----
        Senator Klobuchar. You do acknowledge, though, if we see a
    case of a 750 percent markup in cost that we have a problem.
        Ms. Earl. Well, yes. I would say we have a problem. But I
    wouldn't say that just because you can look at a pedigree and
    an invoice that you have found the root of that problem. You
    know, we have distributors today that have given us some
    documentation on some of the pedigrees that--when a hospital
    calls them--and I will give you--you know, I will say thank you
    to Dr. Mayhaus. My children go to that hospital.
        But yesterday or Monday, when we were on the phone for this
    hearing, getting ready for it, we had an e-mail come to five of
    our distributors that work with his hospital looking for
    pharmaceuticals, you know, on a secondary basis. And our
    distributors do that every day, and they do not price gouge,
    you know, in the routine normal business. Otherwise, they
    wouldn't have repeat customers, like Children's Hospital of
    Cincinnati, come looking for them.
        However, there are a lot of complexities and abnormalities
    in the way drugs are priced and the cost of shipping to receive
    an order. The inbound shipping to get the order to be able to
    process it and ship it out overnight to a hospital is sometimes
    100 percent or even more for that drug. And that's not taken
    into effect on a lot of the pedigrees that you're looking at,
    because you can't see the actual cost of the inbound freight.
        Senator Klobuchar. I have to turn my time over here to
    other people. But, I mean, clearly, there must be some problem
    here when we're seeing these markups. Or you don't see a
    problem at all?
        Ms. Earl. I see that there's a problem in the way that the
    system is designed today. First of all, for secondary
    distributors, for the small distributors, because of the price
    that they do have to pay, it is the highest price out there.
    You know, they don't have the advantage of being able to
    acquire and sell drugs at the lower price that Dr. Mayhaus's
    hospital is used to buying them at. So they've got to buy them
    at a much higher price. And then they've got to pay the cost of
    processing that drug and the freight to get it there, because
    it's----
        Senator Klobuchar. OK. I just think we are dealing with a
    lot more than the cost of the freight. And I will turn it over
    to my colleague.
        Thank you.
        The Chairman. Thank you, Senator Klobuchar.
        Senator Lautenberg.

                STATEMENT OF HON. FRANK R. LAUTENBERG,
                      U.S. SENATOR FROM NEW JERSEY

        Senator Lautenberg. Thanks, Mr. Chairman. When I think of
    the situation that's presented, it's the equivalent of having a
    gun pointed at a person and threatening their health at every
    turn and seeing, apparently, a network that prospers with this
    kind of activity.
        Ms. Earl, in your written testimony, you claim that your
    members work tirelessly to make sure that the route from the
    distributor to the customer is as straight as possible. So
    you're saying that the price differentials are fair. But this
    investigation shows that drugs sometimes change hands half a
    dozen times before reaching patients. Some of these companies
    never sell drugs to hospitals or patients. They're effectively
    middle men. It's like a trading market.
        How does having so many middle men benefit the patients?
        Ms. Earl. I do want to say, you know, we do not support the
    multiple transactions where it goes through multiple
    distributors before it gets to the patient. In the norm, our
    distributors--you know, most of our pedigrees, the thousands of
    pedigrees that we have that are done, are usually between one
    or two. You'll see one or two distributors on there.
        The multi-pedigrees that you're seeing now are anomalies.
    They're extreme cases. I saw the one that's up on the board
    there, and, you know, the first several distributors in there--
    where you've got five distributors in that chain outside of the
    manufacturer to the large wholesaler to the pharmacy, you know,
    they're not our members. They're not in our network.
        So how that's getting into their hands--I think we do need
    to stop what's happening on the fake pharmacies, the shell
    pharmacies----
        The Chairman. Then don't say they're anomalies. Cancer is
    an anomaly, but it hurts, and it costs, and people die. So be
    straight with us.
        Excuse me, Senator Lautenberg.
        Senator Lautenberg. That's all right, because the questions
    here are being raised. I mean, is the gray marketplace a
    legitimate part of a mechanism that sells material when they
    have it, and upping the price, gouging the price? I've learned
    in this committee that drugs can be marked up as much as 85
    times their original price.
        Is it your testimony that a markup of that magnitude is
    justified and appropriate?
        Ms. Earl. I do not believe that a markup--I think that
    there's a lot more that goes into a markup than what you're
    seeing.
        Senator Lautenberg. Such as?
        Ms. Earl. A markup is not all profit. A lot of that markup
    is expense that is incurred to acquire that drug and ship that
    drug.
        Senator Lautenberg. Well, then, they're part of a price-
    gouging ring. I mean, if you're saying divide it up enough and
    everybody gets a piece of it, that's not so bad. But it's what
    the final outcome is that's the distressing part of this.
        Ms. Earl. Well, I didn't say divide it up and everybody
    should put a markup----
        Senator Lautenberg. No, but I said it, because that's the
    way you frame it. You said that no one is making these gigantic
    profits, or you intimate that no one is getting these gigantic
    profits. But, nevertheless, there is this chain of people
    standing there, hands out, taking a little nip in part of this.
        And so you have to make up your mind. Is it justifiable
    that at the end, the patient is there, begging for mercy,
    begging for life, and having to pay an outrageous price? Now,
    you may not think it's outrageous, but I think the chairman was
    very clear to say that it's outrageous to the person who is, in
    many cases, breathlessly awaiting the medication to arrive that
    they can afford.
        Thanks, Mr. Chairman.
        The Chairman. Thank you, Senator Lautenberg.
        Senator Begich to be followed by Senator Thune.

                    STATEMENT OF HON. MARK BEGICH,
                        U.S. SENATOR FROM ALASKA

        Senator Begich. Thank you very much, Mr. Chairman.
        And, Senator Klobuchar, to answer your question, in Alaska,
    our large medical hospital system has chosen to limit their
    activity, if at all, with the gray market. But it costs another
    $15 million for operations to deal with the pharmaceutical
    components of ensuring where they get it and all the things--so
    just to add that as part of your question to the individual
    here.
        Ms. Earl, I'm struggling here with your testimony. Let me
    ask you this. If the Committee gave you the list of the 300
    folks, companies, would you submit to us if any of those are
    your members? I know associations like to hold their membership
    lists. So if we give you a list, will you tell us if any of
    these are your members? Yes or no? It's not a complicated
    question.
        Ms. Earl. I would ask my NCPD, and they would have to give
    us permission to do that.
        Senator Begich. OK. Mr. Chairman, I'd want to put that on
    the record.
        Second, have you ever, out of your association, kicked
    someone out for this type of activity?
        Ms. Earl. I'm not aware.
        Senator Begich. Have you ever kicked anyone out for any
    activities that might violate or come in question of their
    business practices?
        Ms. Earl. I will tell you that before we take new members
    in, we do vet the new----
        Senator Begich. That's not what I asked you.
        Ms. Earl. I know that's not what you asked me.
        Senator Begich. So of members that are part of your
    organization----
        Ms. Earl. I am not aware that we have kicked any members
    out.
        Senator Begich. So all your members are perfect.
        Ms. Earl. No. I'm not saying all of our members are
    perfect.
        Senator Begich. Can I ask you for the record--I've got
    limited time here, a very short time here. Can you provide to
    me or to the Committee, however it works here, anybody within
    your organization that has violated these types of issues--
    maybe law or ethically--that you just said this is not our
    practice--and submit that to the Committee so we can understand
    how your organization works?
        Ms. Earl. I believe we have some members that would be
    willing to share with you. But we haven't seen the data, so I--
    --
        Senator Begich. Well, that's what I'm asking. Forget about
    the report. What I'm asking you--you understand the problem.
    You said here on the record that seldom do your folks have more
    than one or two stops to the customer. OK? I'll take you at
    that, and so show me the data. You must have lots of members
    who have never done this, so just show me that.
        We're asking you now for the data, because you don't
    necessarily like this data. So I want your data to prove
    differently. OK? That's my question.
        I don't know, Mr. Chairman. I'll just put that out there. I
    don't know what the right approach is.
        Also, you made a comment, ``We don't price gouge in the
    normal situation.'' Now, I'm assuming you meant you don't price
    gouge at all.
        Ms. Earl. I meant we do not price gouge. It is not a
    practice of our members to price gouge. If they did, they would
    be out of business and they wouldn't, you know----
        Senator Begich. Would they be out of your association?
        Ms. Earl. If we had proof that they were price gougers.
        Senator Begich. And let me just say this. As someone from
    Alaska, I understand shipping, you know. We're still not part
    of the United States for some reason for some companies. So I'd
    buy your argument for a certain point of the debate, but
    there's no way, because thanks to Congress, we have bypass now
    that gets to every village in our state at a reasonable rate to
    deliver products, especially pharmaceutical products. That's
    why bypass mail is in place.
        So we are the most expensive place to get products to, and,
    you know, you're shipping--pharmaceuticals are easy to ship.
    And when you talk about overnight in the worse conditions and
    having to deliver it to the hardest places in the country,
    Alaska is it. So I do not buy from a $7 product--and, again,
    this is one example--to $600. I mean, you have to agree that
    there is a reasonableness we have to have in the pricing of
    product. Yes?
        Ms. Earl. Yes. I agree there's a reasonable----
        Senator Begich. Do you believe in a standard--I don't know
    if this is the right question--but that we should be able to
    track the pedigree through an electronic system, like FedEx can
    track everything--I mean, the minute I place an order, within
    15 seconds, I know where that order is, to the time it gets
    delivered to my door from a small company that I've ordered
    something from. Do you believe in that kind of tracking system?
        Ms. Earl. Yes, we do. In fact, our association----
        Senator Begich. So you support it.
        Ms. Earl. Our association supports track-and-trace all the
    way down to the unit level, which Ginny's state is also
    supporting at this point. Yes, I do believe that electronic
    track-and-trace is important. Our association does.
        Senator Begich. Mr. Chairman, I know my time is up here.
        But I guess on the flip side, Ms. Earl, I do recognize
    there is a need for some of these distributors in small
    amounts, because the large ones do control a lot of the market.
    I understand that. And your pricing question--I would encourage
    you, as many groups that I have worked with--when I was mayor
    of Anchorage, small cities joined together to create co-ops to
    buy products at a higher volume, lower price. But put that
    aside. I recognize that there is a role.
        But somehow we have to get at this, because, you know, you
    talk about people angry, when I caught onto this issue, it
    wasn't long--I mean, I don't know how many e-mails I've
    received from Alaskans about drug shortages and pricing of the
    drug shortages. And for people to take advantage of the
    situation is outrageous.
        Now, maybe a small amount--the point is it's still
    happening, and we can argue at what degree it's happening. But
    we need to figure this out, because the supply chain of
    pharmaceutical goods for health is critical. So I'll just leave
    it at that.
        Mr. Chairman, thank you very much for allowing me a few
    minutes here.
        The Chairman. Thank you, Senator Begich.
        Senator Thune.

                     STATEMENT OF HON. JOHN THUNE,
                     U.S. SENATOR FROM SOUTH DAKOTA

        Senator Thune. Thank you, Mr. Chairman.
        This issue does seem to be quite wrapped up in the issue of
    drug shortages. And I serve on the Finance Committee with
    Senator Rockefeller, as well, and the Finance Committee held a
    hearing last fall on the topic of drug shortages. And one issue
    that came up was the current pricing structure in Medicare for
    injectable medications that uses average sales price. I'm
    wondering if anybody would like to comment about whether you
    think that drug shortage issues can be attributed in any way to
    the pricing structure within Medicare.
        Dr. Coster. Senator Thune, I can tell you from the
    community pharmacy perspective that those reimbursements for
    products both in Medicare and Medicaid come down. You tend to
    see some of the suppliers get driven out of the market, because
    as the pressure is put on us, we try to put the pressure on
    them. And as they get driven out of the market because of the
    pricing pressures, you will see manufacturers leave the market,
    which may create a shortage situation.
        So we do think reimbursement policy in Medicare and
    Medicaid can have a direct effect on, at least, pharmacies'
    abilities to buy certain medications, because if the
    manufacturers are not able to recoup some of their investments
    and maintain all the processes they need to comply with Federal
    regulations, they may just leave the market or go out of
    business. So we agree that reimbursement can have a direct
    impact on short-supply drugs.
        Senator Thune. And it also seems that part of the problem
    stems from questions about the supply chain, which you've
    mentioned. And I'm curious as to whether you could give your
    opinion on what measures might be taken to tighten that supply
    chain. Does anybody want to take a stab at that?
        Ms. Herold?
        Ms. Herold. In California, we have on the books--it will
    take effect in 2015 on a staggered basis out to 2017 and a
    half--an electronic pedigree requirement that must start with
    the manufacturer. Every change of ownership has to be certified
    into the electronic pedigree, and not only just the change of
    ownership. The seller certifies into the pedigree that it sold
    the product to the specific buyer. The buyer specifically
    certifies to the seller that it's buying the product. That's
    creating a chain of custody.
        And, thus, when we, as a regulator, walk in and scan a
    product, we can see everywhere that product has been. And if
    there should be a gap in, suddenly, where the drug was acquired
    from, for example, we know that the point prior to that is
    where the introduction occurred. And so it allows us to police
    the distribution of drugs in California as well as across the
    nation, because Federal regulators are going to be looking at
    this, too, that they can use in investigations, because once
    that product goes across state lines, it's very difficult to
    track.
        And there are rings of these things set up--much like what
    the FBI did in New York last week. Those products are moving
    from one location to another location, but almost always across
    multiple state lines. So it's virtually impossible to track
    them as a state regulator.
        Senator Thune. How many states have electronic pedigrees?
        Ms. Herold. We are the only state that has the depth of the
    requirement that we have. And it is a complex process----
        Senator Thune. Process to get there?
        Ms. Herold. Yes, it really is. But without that--you need
    to put the onus on each member of the supply chain to certify
    they are a legitimate and ethical buyer, and you do that every
    time you buy or sell a product, because without that, people
    will slip things in, and you won't be able to do anything about
    it. And, regrettably, it needs to be done at the unit level,
    much like the FedEx tracking is. You have to track every single
    one of those packages, or else you don't know where it is or
    where it's been.
        Senator Thune. Anybody else?
        Mr. Gray?
        Mr. Gray. In our organization, we've been working with
    Ginny for six or 7 years back to the development of the
    California law and, most recently, at the direction of the
    Congress here, for a uniform Federal pedigree. Our position has
    been since the adoption of California that what we need is a
    Federal system. It's not enough to do something in California.
    Our members dealing in all 50 states need some consistency in
    the business process by which we ship drugs into every state.
        And Florida, for example, has a completely different paper-
    based pedigree system, quite different from California's, but,
    nonetheless, it's a pedigree system. So we have been proponents
    of, hopefully, getting the Congress to approve a national
    uniform pedigree system and work out the technology
    requirements to do that.
        But our members have been advocating this since 2004. And
    we got perilously close a month ago. We're not giving up the
    fight on this one yet. We think this can have a large impact,
    just as Ginny described, as far as how we can keep an eye on
    all six of those steps and know where these drugs have been and
    whose hands they've exchanged for security reasons as well as
    cost.
        Senator Thune. When did California put its pedigree system
    in?
        Ms. Herold. Initially, 2004. Then it was pushed back with
    respect to implementation four times. It started in 2007. It
    was then moved via legislation to 2009. The Board pushed it to
    2011, which it did. And then, finally, in 2008, the current
    dates were established on a staggered basis so the supply piece
    could come up in stages. As the product moves through the
    supply chain, each stage of that supply chain will have an
    opportunity to make sure their component in it is working.
        Senator Thune. Great. I see my time has expired.
        Thank you, Mr. Chairman.
        Senator Boozman. Ms. Herold, I was impressed with your
    testimony. It sounds like you are doing your very best to
    police a very difficult situation. We appreciate the community
    pharmacies so much. In places like West Virginia and Arkansas
    and much of the country, that is the source of healthcare in
    very small communities. That's one of the most respected
    professions in the country.
        We in Congress are at about 18 percent now. We've worked
    our way up from 12. So, again, we do appreciate it. This is an
    important hearing. But we shouldn't lose sight of that.
        In your testimony, it sounds like the activities that were
    going on--and, again, I think Senator Rockefeller described
    them as despicable and things like that. We would all agree.
    But those were illegal under the current statutes that exist,
    weren't they? I mean, it sounded like you got very aggressive
    and moved on them.
        Ms. Herold. Our first pedigree law in 2004 included the
    very provision that we're prosecuting these pharmacies and the
    wholesaler under--that you don't want a pharmacy in the
    business of wholesaling drugs. And when it gets over a nominal
    amount and very limited to address a specific shortage, they've
    crossed over, and profit becomes the motive, not healthcare.
    And when that occurs, that becomes a problem, and so we have--
    we are able to use that.
        The problem is in some cases, it's the buyer, the hospital,
    pharmacy, that has to buy those drugs. It has no way of knowing
    where that product has been. And we do not believe that a paper
    pedigree is a complete solution, because how do you know this
    piece of paper goes to that bottle?
        Senator Boozman. The pedigree--was that put in place for $2
    injectables to treat cancer, or was that more put in place for
    the tremendous problem that we've got now with prescription
    pain killers and things like that?
        Ms. Herold. It was actually put in place because patients
    would go to California pharmacies with a legitimate
    prescription and often for AIDS or cancer drugs and walk out
    with a fake drug, because the drug was very valuable. And we
    couldn't detect where this product came from with any
    certainty, and we couldn't prosecute at a level we needed to to
    ensure the safety of the California public. So every single
    product, whether it's $1 or $6,000 a dose--that product itself
    has to be pedigreed, with a few exceptions, but pretty much
    every single unit.
        Senator Boozman. Right. And, again, what I'm trying to do
    is get at the root of the problem, not to address, really, Dr.
    Mayhaus's problem so much of the $1 or $2 drugs that it seems
    like are so cheap now--they've been around forever--that it's
    simply--because of the fact that Medicare and, thus, insurance
    companies will only pay so much, it gets to the point it's not
    profitable to make them.
        The other problem that I see is if we add another layer--
    and, again, you guys are doing such a good job in California,
    and we could encourage the other states. My fear is if we layer
    more regulation and more hassle on the pharmacists, that
    increases their cost to the point where they don't want to fool
    with them because they are such low priced drugs.
        Dr. Mayhaus, when you get in these terrible situations, you
    know, where you're trying to supply medicines to your
    oncologists in treating these kids, when you reach out to
    people, what percentage do you feel like are people that are
    acting in good faith, you know, really busting their tails,
    trying to get out, to call around and see where the drugs are
    available, as opposed to the kind of people that we'd like to
    get rid of?
        Dr. Mayhaus. We would definitely prefer 100 percent of our
    drugs to come through our primary wholesaler. And as I stated
    in my testimony, when we determine there's a shortage and we
    run through our mitigation plan and there's no drug in the
    market, then we do sometimes call the alternative wholesalers
    to see if they have a market for that. But we have paid an
    exorbitant amount of money for some of those drugs.
        The Cytarabine situation that I described earlier--our cost
    was about $12 through our buying group, and we did pay $966 for
    that. We bought six doses of that drug. It was for one
    particular patient, and if that patient would not have received
    Cytarabine, we believe that the outcome of that patient would
    have suffered.
        Senator Boozman. Again, I'm glad that you mentioned that
    story, because that highlights the terrible problem that we've
    got and the problem that you face. I guess what I'm wondering
    is if we get rid of all of the secondary folks, are you still
    going to face that problem or not?
        Dr. Mayhaus. I believe that the drugs will be available in
    the primary wholesaler. So if the drug is there, the primary
    wholesaler or those distributors should have the drug and not
    the alternative wholesaler.
        Senator Boozman. So you feel like the alternative
    wholesalers are stocking the drug to the extent that it's
    causing a shortage.
        Dr. Mayhaus. I do not think that, no. I think the drug is
    short, and somehow they react to the market. I'm not sure how
    that happens, but they tend to get the drug sometimes before we
    even know there's a shortage. But they are not causing the
    shortage of the drugs, no.
        Senator Boozman. Good. And, again, I guess my point is that
    we can address this problem and we should. I'd like to see the
    state boards address it--and, again, the pedigrees--for lots of
    reasons, in the sense of the other problems that we're dealing
    with with prescription drugs, pain killers, you know, things
    like that, which would greatly help in that regard.
        But I think we're misleading ourselves if we feel that
    dealing with the secondary issue, which needs to be dealt with
    for other reasons--to me, it's like a big football game. If
    West Virginia and Arkansas were playing, and we were both
    undefeated, you're going to have scalping because you're going
    to have a shortage of tickets.
        So, hopefully, we can work together to make it such--if we
    can deal with this without overregulating--but also make it so
    that you're not put in a position where you've got some child
    that desperately needs care and you're faced with an $8 drug or
    whatever, paying $900 for it.
        Thank you, Mr. Chair.
        The Chairman. Thank you very much, Senator Boozman. Ms.
    Herold, you don't have this situation in California?
        Ms. Herold. Actually, we do. But, as I said, we have not
    found the shell pharmacies operating in this realm, but,
    regrettably, we have pharmacies that are buying drugs at the
    behest of a secondary wholesaler. The pharmacy is buying the
    full allocation available to it from that wholesaler, and if it
    can, it will buy multiple times from that primary wholesaler so
    that it can maximize the amount of drug.
        They were told in a face-to-face meeting with the sales
    agent from the wholesaler--and I can't call it anything else
    but a sales agent--that ``we will pay you 10 percent over
    invoice, but you are helping alleviate a shortage. Patients are
    desperate, providers are desperate, and you can help.''
        The Chairman. But I'm reading here that you have a new law
    in California that will prevent these abuses.
        Ms. Herold. It won't prevent them. It allows us to
    discipline when we identify them.
        The Chairman. And when you discipline them, what does that
    mean?
        Ms. Herold. Well, in this particular case, it means we
    cited and fined up to $70,000 the pharmacies, each, for their
    behavior. We cited and fined the pharmacists in charge, and, in
    many cases, they're going to be required to take a 20-hour
    ethics course so this does not occur. And with the wholesaler,
    that's still currently under investigation. We have not
    disciplined the wholesaler yet.
        The Chairman. So whether it's an anomaly or not, if it's
    just 1 percent or 2 percent or 3 percent, whatever, you treat
    it seriously, and you find them and find ways to try to stop
    them.
        Ms. Herold. I don't think we would become involved with a 1
    percent or a 2 percent over invoice that they bought from the
    pharmacy and then----
        The Chairman. No. I mean of the total pharmacy population.
        Ms. Herold. Yes. We don't believe it's everyone.
        The Chairman. I know it isn't everyone. But for those who
    it does affect, you have in whatever your new law is ways to
    find them and to discourage them from doing that, because
    they're often--the wife may be the distributor and the husband
    may be the pharmacist. Right?
        Ms. Herold. We found exactly what your results of the
    Committee was in our investigations. And, early on, we reached
    out to Mr. Cummings, because at the same time he initiated his,
    we were doing ours, and we found pretty much the same thing.
    The only thing different was they were different players.
        The Chairman. Very well. We are meant to have a vote
    starting now, which means we'd better head down.
        Mr. Coster, you worked together with David Pryor, didn't
    you?
        Dr. Coster. I did, Senator, many years ago, and with many
    of your staff as well.
        The Chairman. I did get a letter a week ago. I wrote him
    back two nights ago. He's well.
        Dr. Coster. He's doing well? Thank you.
        The Chairman. Yes.
        Dr. Coster. He's a great man.
        The Chairman. A great influence on my life.
        I want to thank you all. One thing I regret about this
    hearing is that there was so much--so many questions were
    addressed to Ms. Earl, because it means that we didn't--I mean,
    for example, Dr. Mayhaus, there's a whole bunch of questions I
    would have liked to have asked you. And you don't really have a
    problem, so to speak. You always have what you need on hand,
    and that bears investigation, as to how you manage a hospital
    successfully like that.
        But, anyway, hearings are what hearings are. And in this
    case, what we're trying to do--we're an oversight and
    investigations committee here, in terms of this particular
    hearing. And we're trying to root out bad behavior and disallow
    bad behavior. We've done that with the health insurance
    industry, and, as a result of that, they have now refunded
    about $4 billion of what they thought they could get away with
    charging to the premium payers.
        So, anyway, that's what we do. And I very much appreciate
    you all taking the time to be here, and I'm sorry we didn't do
    the questioning more thoughtfully. No, that's not what I mean.
    Well, we'll leave it at that.
        The hearing is adjourned.
        [Whereupon, at 4:10 p.m., the hearing was adjourned.]

                                A P P E N D I X

       Prepared Statement of Allan Coukell, Director, Medical Programs,
                  Pew Health Group, The Pew Charitable Trusts

        Chairman Rockefeller, Ranking Member Hutchison, and members of the
    Commerce Committee, thank you for the opportunity to present testimony.
    I thank you for holding this hearing and for your efforts to reveal and
    address risks to our pharmaceutical supply.
        Through research and analysis, the Pew Health Group seeks to
    improve the health and well-being of all Americans by reducing
    unnecessary risks to the safety of medical and other consumer products
    and supporting medical innovation.
        The focus of my testimony today is the drug distribution system--
    the weaknesses in the system and the risks of counterfeit and stolen
    drugs.
        In July of 2011, Pew released a report entitled ``After Heparin:
    Protecting Consumers from the Risks of Substandard and Counterfeit
    Drugs.'' \1\ The report, which underwent extensive external review, was
    based upon information from regulatory and public documents, peer-
    reviewed journal articles and interviews with dozens of supply chain
    experts from numerous perspectives. It was informed by a two-day
    conference we hosted in March 2011 that included representatives of
    brand and generic pharmaceutical manufacturers, active drug ingredient
    makers, major and secondary pharmaceutical wholesalers, chain and
    independent pharmacies, consumer and health professional organizations,
    the U.S. Food and Drug Administration (FDA), state regulators and
    independent supply chain experts.
    ---------------------------------------------------------------------------
        \1\ Pew Health Group. ``After Heparin: Protecting Consumers from
    the Risks of Substandard and Counterfeit Drugs.'' (2011) http://
    www.prescriptionproject.org/after_heparin_report.
    ---------------------------------------------------------------------------
        In our report we explain that numerous entities are involved in
    drug distribution, and the routes to market are not always simple.
    Drugs can be bought and sold by one wholesaler or by many before
    reaching a pharmacy. Drugs may be traded between distributors, and may
    travel back from distributors and pharmacies in local markets to major
    wholesalers through sales or returns before ultimately reaching
    patients. Some drugs travel through repackagers; some are transported
    by third-party logistics providers who do not actually purchase the
    drug; that is, the physical movement of drugs does not always conform
    to transfers of ownership, further complicating drug tracking. This
    potential for complexity is not inherently problematic, but absent
    sufficient safeguards bad actors are able to take advantage of weak
    links in the chain.
    Risks to the Drug Distribution System
        One of our key findings is that incidents of counterfeiting and
    drug diversion in this country--while thankfully far less common here
    than in other parts of the world--are a matter of serious concern.
        Just last week, on July 17th, the U.S. Attorney for the Southern
    District of New York charged 48 individuals in a large-scale criminal
    scheme to buy prescription drugs ``on the street'' from patients, re-
    package them and re-sell them back into distribution through licensed
    pharmaceutical wholesalers, who in turn sold the drugs to
    pharmacies.\2\
    ---------------------------------------------------------------------------
        \2\ United States Attorney's Office, Southern District of New York.
    Manhattan U.S. Attorney Announces Charges Against 48 Individuals in
    Massive Medicaid Fraud Scheme Involving the Diversion and Trafficking
    of Prescription Drugs. July 17, 2012. http://www.justice.gov/usao/nys/
    pressreleases/july12/prescriptiondrugs.html. Accessed July 20, 2012.
    ---------------------------------------------------------------------------
        The scheme included medicines for HIV, schizophrenia, and asthma.
    If the patient labeling was apparent, the criminals would use solvents
    to remove it. If the medicine's label was damaged or said the drugs
    were expired, a new, fake label would be printed and applied.\3\
    ---------------------------------------------------------------------------
        \3\ United States Attorney's Office, Southern District of New York.
    Manhattan U.S. Attorney Announces Charges Against 48 Individuals in
    Massive Medicaid Fraud Scheme Involving the Diversion and Trafficking
    of Prescription Drugs. July 17, 2012. http://www.justice.gov/usao/nys/
    pressreleases/july12/prescriptiondrugs.html. Accessed July 20, 2012.
    ---------------------------------------------------------------------------
        This scheme cost the Medicaid program an estimated half-billion
    dollars. But this crime is also a serious patient safety issue. Drugs
    were allegedly stored in inappropriate, sometimes egregious conditions.
    In some cases pills were removed from the bottles and handled loose
    \4\--creating a risk for contamination. Disturbingly, we do not know
    the frequency and extent of crimes like this, but numerous, similar
    examples have been brought to light over the past decade.
    ---------------------------------------------------------------------------
        \4\ United States Attorney's Office, Southern District of New York.
    Manhattan U.S. Attorney Announces Charges Against 48 Individuals in
    Massive Medicaid Fraud Scheme Involving the Diversion and Trafficking
    of Prescription Drugs. July 17, 2012. http://www.justice.gov/usao/nys/
    pressreleases/july12/prescriptiondrugs.html. Accessed July 20, 2012.
    ---------------------------------------------------------------------------
        The United States currently has no national system to detect or
    prevent such incidents. The U.S. pharmaceutical distribution system is
    sometimes described as a ``closed'' system, meaning that it is not
    legal to import drugs that were not manufactured for the U.S. market.
    However, the system is not closed in the sense that we have over a
    thousand individual licensed wholesalers, large and small, providing
    multiple points of entry to the legitimate distribution system.
    Sometimes medicines are bought and sold numerous times before reaching
    a pharmacy. Today we have learned about cases where pharmacies are not
    the last stop in the supply chain, selling drugs to wholesalers for
    further distribution.
        Legitimate companies--manufacturers, wholesalers, and pharmacies--
    work together to keep drug distribution safe, secure and efficient. But
    bad actors exist that are willing to take advantage of supply chain
    weaknesses for profit.
        A few additional examples will help to illustrate the nature of the
    risks.
        In another series of arrests this spring, the New York Attorney
    General announced that a pharmacy in New York had allegedly accepted
    bribes to purchase drugs sourced from the black market worth over $247
    million from shell companies.\5\
    ---------------------------------------------------------------------------
        \5\ New York State Office of the Attorney General. A.G.
    Schneiderman Announces Arrests In $274 Million Black Market
    Prescription Drug Operation. April 4, 2012. http://www.ag.ny.gov/press-
    release/ag-schneiderman-announces-arrests-274-million-black-market-
    prescription-drug-operation. Accessed July 20, 2012.
    ---------------------------------------------------------------------------
        Another threat is drug theft. In 2009, thieves stole a tractor-
    trailer containing 129,000 vials of insulin. This drug, which needs to
    be refrigerated, disappeared for a number of months before being sold
    back into distribution.\6\ While most of the stolen drug was never
    recovered, the FDA has said that some of it was found at retail chain
    pharmacies in Texas, Georgia and Kentucky, having passed through the
    hands of licensed wholesalers in at least two other states.\7\
    ---------------------------------------------------------------------------
        \6\ U.S. Food and Drug Administration. Update to FDA Alert About
    Stolen Insulin. August 26, 2009. http://www.fda.gov/ForConsumers/
    ConsumerUpdates/ucm180320.htm. Accessed November 12, 2010.
        \7\ Ciolek, Michelle M., Special Agent, Office of Criminal
    Investigations, U.S. Food and Drug Administration. Affidavit in support
    of search warrant. July 21, 2009. USA v. Altec Medical Inc. and RX
    Healthcare Inc. Document number: 8:09-cr-00814-WMC.
    ---------------------------------------------------------------------------
        In another case, thieves stole $75 million worth of pharmaceuticals
    from an Eli Lilly warehouse in Connecticut. It was a sophisticated
    operation, the largest dollar-value loss from a warehouse in U.S.
    history.\8\ The theft was in 2010. Just this spring, those stolen drugs
    were discovered stored in South Florida.\9\ One investigator who spoke
    at the Pew conference and who is an expert in pharmaceutical
    distribution crime believes that a scheme of drug thieves is to steal
    the product then hold it, hidden, for a year or two, letting the alarm
    die down before selling it back in to the system.
    ---------------------------------------------------------------------------
        \8\ Forsaith, Chuck. Corporate Director, Supply Chain Security,
    Purdue Pharma L.P. ``Cargo Theft.'' Presentation, 2010 PDA/FDA
    Pharmaceutical Supply Chain Workshop. Bethesda, MD. April 26-28, 2010.
        \9\ United States Attorney's Office, Southern District of Florida.
    Eleven Indicted in Pharmaceutical Thefts. May 3, 2012. http://
    www.justice.gov/usao/fls/PressReleases/120503-01.html. Accessed July
    20, 2012.
    ---------------------------------------------------------------------------
        Finally, we have incidents of outright counterfeits reaching
    unsuspecting American patients. This spring cancer patients in the U.S.
    were exposed to counterfeit Avastin--a critical chemotherapy agent
    used to treat numerous types of the disease. In 2001, counterfeit
    Serostim, a human growth hormone used to treat AIDS-related wasting,
    was found in at least seven states and passed through multiple
    wholesalers.\10\ \11\ \12\ EMD Serono, the manufacturer of Serostim,
    has since put in place a secured distribution program, with a unique
    serial number assigned to each vial that must be verified by the
    dispensing pharmacy.\13\ It is an example of how drug distribution
    security can, and should, be improved.
    ---------------------------------------------------------------------------
        \10\ Serono, Inc. Serostim [somatropin (rDNA origin) for
    injection]. Press Release, January 2001. http://www.fda.gov/Safety/
    MedWatch/SafetyInformation/SafetyAlertsforHumanMedicalProducts/
    ucm173895.htm. Accessed February 17, 2011.
        \11\ Otto, Alex. Counterfeit Serostim Found Nationwide. Pharmacy
    Today. American Pharmacists Association. March 1, 2001. http://
    www.medscape.com/viewarticle/406804. Accessed October 13, 2010.
        \12\ Dutchess Business Services Inc. v. Nevada State Board of
    Pharmacy. No. 46345. September 11, 2008. http://caselaw.findlaw.com/nv-
    supreme-court/1219556.html. Accessed February 17, 2011.
        \13\ Williamson, Joyce P. Statement of Serono before the task force
    on drug importation. http://archive.hhs.gov/importtaskforce/session2/
    presentations/Serono.pdf, Accessed February 17, 2011.
    ---------------------------------------------------------------------------
        Finally, your own investigation highlights the potential of the
    drug shortage crisis to exacerbate existing supply chain weaknesses.
    When a pharmacy or hospital can't obtain an essential drug from usual
    channels, they may purchase from unfamiliar sources. This supply chain
    flexibility is a good thing, and secondary wholesalers play an
    important role in optimizing distribution. But it also creates an
    opportunity for bad actors to introduce illegitimate product. We
    currently lack national standards for wholesaler licensure. Any such
    standards should address pharmacies that function as de facto
    wholesalers.

    A National Serialization and Traceability System to Secure Distribution
        The United States lacks strong uniform national standards for
    licensure of pharmaceutical wholesalers, and we lack a standard system
    for companies to keep track of our pharmaceuticals during distribution.
    There is currently no way to check whether an individual vial or bottle
    is authentic or counterfeit.
        Some state laws exist. California has put in statute a
    comprehensive system that would require manufacturers to put a serial
    number on each bottle or vial, and would require wholesalers and
    pharmacies to check the drugs they buy and sell to ensure they are
    authentic. California's law is scheduled to come into effect three
    years from now. Despite the strength of the law, a patchwork of state
    requirements is not ideal either for companies or for consumers.
        Congress is now considering Federal requirements for drug
    distribution security. However a national standard that preempts state
    laws like California's must not replace them with a weaker standard,
    especially one that would not prevent patients from receiving the kind
    of stolen and counterfeit drugs I have just described.
        To protect patients, a system must include the following two
    components:

    1. Unit-level Traceability
        The key to improved security of drug distribution is knowing who
    handles the drugs as they move from manufacturer, through a succession
    of wholesalers, to the pharmacy or hospital and, ultimately, the
    patient.
        Some have proposed a system to track drugs by the lot number, but a
    lot can contain numerous cases of many thousands of individual bottles
    or packs of vials. Each case or vial may be sold separately, and
    tracking by lot does not allow industry or regulators to ever know who
    bought and sold a given drug through distribution.
        Maintaining data about lots may provide an incremental benefit over
    the status quo, but it would fail to catch unsafe drugs in many
    scenarios.
        For example, if a bad-acting pharmacy agrees to sell expensive
    injectables out the back door to drug diverters, regulators that
    discover those drugs will not be able to tell where the vials left the
    legitimate system. They will only know the lot number--and this lot of
    drugs could have traveled through multiple distributors and reached
    multiple pharmacies.
        Also, if part of a lot is stolen and illicitly reintroduced into
    commerce, a pharmacist or patient will have no way to tell if the
    product on their shelf is compromised. However if unit-level data is
    kept, specific stolen unit serials could be identified. Even if
    manufacturers are willing to recall an entire lot when only part is
    stolen, shortage situations create a compelling public health argument
    that recalls be as targeted as possible.
        Today, some companies are required to track a drug's transaction
    history through paper ``pedigrees''. An electronic system would be a
    welcome replacement to this paper-based paradigm--Congress should
    certainly not replace pedigrees with a structure that does less to
    capture chain of custody than today's imperfect system.

    2. Routine Checking to Identify Diverted and Counterfeit Drugs
        Most stakeholders agree that drug packages should bear unique
    serial numbers. A key reason to do this is so that pharmacies and
    others who handle the drugs use the numbers to verify the authenticity
    of the drugs. However, Congress is considering a proposal that would
    not require these serials to be checked before a drug reaches a
    patient. This act of checking alone could have prevented the massive
    criminal recycling of government subsidized drugs--a serial number that
    has been retired because it has already reached a pharmacy would be
    caught on its second trip around. Without required checking, a criminal
    could sell a recycled drug or a counterfeit drug with a fake serial
    number, and no one would detect it. They could also sell thousands of
    fake vials with the exact same serial number--real or phony.
        Pew supports required authentication of drug products by companies
    involved in distribution. Required checking would help ensure fake or
    otherwise flagged serials are caught, and not allowed to make it to
    patients. In addition to preventing crime, such a requirement would
    support enforcement of responsible purchasing by wholesalers and
    pharmacies

    Conclusion
        The risk of stolen or counterfeit products reaching and harming
    patients through the drug distribution system is small, but real.
    Recently, both the U.S. Counterfeit Pharmaceutical Inter-agency Working
    Group and the office of the U.S. Intellectual Property Enforcement
    Coordinator have recommended implementation of a track-and-trace system
    to secure drug distribution against counterfeits in separate March 2011
    reports.\14\ \15\ The impending implementation of California's law
    creates momentum for a single national standard. We urge Congress to
    create a robust national system--one that protects patients today and
    provides the flexibility to ensure we can build upon it in the future.
    ---------------------------------------------------------------------------
        \14\ Counterfeit Pharmaceutical Inter-Agency Working Group Report
    to the Vice President of the United States and to Congress. March 2011.
    http://www.whitehouse.gov/sites/default/files/omb/IPEC/
    Pharma_Report_Final.pdf. Accessed April 22, 2011.
        \15\ Administration's White Paper on Intellectual Property
    Enforcement Legislative Recommendations. March 2011. http://
    www.whitehouse.gov/sites/default/files/ip_white_paper
    .pdf. Accessed April 22, 2011.
    ---------------------------------------------------------------------------
        Thank you, and I welcome your questions.
                                     ______

                            Healthcare Supply Chain Association
                                         Washington, DC, August 2, 2012
    Chairman John D. Rockefeller IV,
    Committee on Commerce, Science, and Transportation,
    Washington, DC.

    Dear Chairman Rockefeller:

        I am writing on behalf of the Healthcare Supply Chain Association
    (HSCA) to request that this correspondence be included in the record
    for the hearing held before your Committee on July 25, 2012. We applaud
    you for holding this important hearing and examining these so-called
    ``gray market'' drug companies that drive up the cost of short-supply
    prescription drugs. The hearing and corresponding staff report
    entitled, ``Shining Light on the ``Gray Market'': An Examination of Why
    Hospitals Are Forced To Pay Exorbitant Prices for Prescription Drugs
    Facing Critical Shortages'' provided valuable insight into why
    hospitals and other health care providers sometimes struggle to obtain
    short-supply prescription drugs they need to treat patients suffering
    from cancer and other life-threatening conditions.
        We want to clear up any misstatements made by the witnesses for the
    National Coalition for Pharmaceutical Distributors attempting to blame
    Group Purchasing Organizations (GPOs). We also want to address any
    questions or misconceptions the reports mention of group purchasing
    organizations and the role they play in the supply chain may raise.
    Specifically, the report cites information from ``some observers'' that
    have linked ``the broader business dynamics of the generic sterile
    injectable market to explain the recent shortages.'' These observers
    argue that the bargaining power of the GPOs and Medicare Part B
    reimbursements tied to the ``Average Sales Price'' cause manufacturers
    to operate with only very small profit margins.'' The facts are that
    GPOs have worked vigorously with hospitals, providers, manufacturers,
    distributors, the FDA, and Congress to bring critical issues related to
    drug shortages to light, to help find market-based solutions to
    managing and preventing shortages, and to help ensure that hospitals
    and patients have uninterrupted access to lifesaving drugs.
        GPOs negotiate vigorously on behalf of our hospital members and
    clients. These negotiations are between extremely sophisticated
    parties, and while GPOs have continually demonstrated our success in
    lowering prices to bring savings to our members, clients and taxpayers,
    we do not have the ability--nor would it be in our interest--to force
    manufacturers into contracts that undermine their ability to deliver
    product. Drug companies regularly and quickly adjust pricing of GPO
    contracts when they experience shocks to production, and GPOs manage
    thousands of price changes annually, both increases and decreases. Drug
    shortages are a complex problem and one without an easy or overnight
    fix. GPOs are clearly part of the solution, and we support recent
    regulatory and legislative activities aimed at solving the drug
    shortage problems. As an industry, we are committed to mitigating this
    public health crisis.
        In addition, we are concerned that the materials submitted by the
    witness for the National Coalition for Pharmaceutical Distributors to
    the Committee contain inaccuracies and statements that should not go
    unchallenged. We would like to clear up the record on a few key points.
    For example, it was stated that GPOs limit access for ``small
    distributors or only contract with the ``Big 3.'' In fact, GPOs
    contract with a range of distribution providers, including national,
    regional and family-owned businesses. Most GPOs have dozens of
    distributors on contract to provide members with maximum choice and
    flexibility. Also, any hospital can purchase off contract any time they
    choose--they often do so, especially in times of shortage. It is
    standard practice to include provisions in GPO contracts allowing any
    member to seek alternatives sources of supply in the instance of a
    product shortage.
        GPOs have been at the forefront of advancing private sector
    solutions to drug shortages and seeking common-sense policy solutions.
    The market realities are that some drugs, particularly older, generally
    low margin generics, may only have 1 or 2 suppliers. The fact that GPOs
    only contract with 1-2 companies is not by choice. It's because that's
    all there is to work with. And if one of those companies experiences a
    problem, we all can see the results. Drug shortages are caused by a
    variety of reasons, but GPOs are not the problem but rather an
    important part of the solution.
        The Healthcare Supply Chain Association is a broad-based trade
    association that represents 15 group purchasing organizations,
    including for-profit and not-for-profit corporations, purchasing
    groups, associations, multi-hospital systems and healthcare provider
    alliances. The GPO industry stands ready to work with you and all
    parties to address today's drug shortages. I appreciate the opportunity
    to correct the record and to share our role in the healthcare delivery
    system. We are proud of the savings we achieve for our customers and
    the contribution we make toward containing costs in an unstable
    pharmaceutical market.
        If you have any questions or would like additional information
    about GPOs, please do not hesitate to contact me. Thank you for your
    consideration of our comments.
                Sincerely,
                                                 Curtis Rooney,
                                                             President,
                                       Healthcare Supply Chain Association.
                                     ______

          Prepared Statement of Mark Snyder, Chief Executive Officer,
                         Superior Medical Supply, Inc.

        Chairman Rockefeller, Ranking Member Hutchison, I thank you for the
    opportunity to submit written testimony for this hearing entitled:
    ``Short-Supply Prescription Drugs: Shining a Light on the Gray
    Market.'' I commend the Senate Commerce, Science and Transportation
    Committee for conducting oversight of the important issues surrounding
    our pharmaceutical supply chain. The serious and protracted drug
    shortages plaguing this country are undoubtedly a tragedy from the
    perspective of the patient who cannot obtain critically necessary
    medication, and all healthcare stakeholders and policymakers who will
    need to work together to resolve these dangerous shortages in a fashion
    that can truly benefit all patients in every healthcare sector. I
    strongly support the Committee's effort to help ensure that patients
    receive the medication that they need and deserve. I offer this written
    testimony today to discuss the business practices of my company,
    Superior Medical Supply, Inc. (subsequently referred to as
    ``Superior'').

    Background
        Superior was formed in 2004 as a small family-held company to
    engage in nationwide wholesale pharmaceutical distribution. Superior
    suffered substantial losses in its first several years, due to the
    difficulty of establishing a competitive foothold in the heavily-
    consolidated distribution industry. Early on, it became readily
    apparent that Superior, like most specialty distributors, could not
    offer competitive pricing in the large and lucrative hospital sector.
    Despite these competitive challenges, Superior has been able to
    establish a healthy customer base in its 8+ years as a specialty
    surgical distributor catering to the non-hospital sector. Because of
    this specialized customer base, Superior's single largest inventory
    component is injectable medications, especially sterile injectables
    used in the operating room, most of which are produced in a generic,
    non-branded form.
        Today, Superior plays an important and indispensable role in the
    pharmaceutical supply chain primarily serving these smaller surgical
    facilities operating outside the hospital sector, including those
    facilities in more remote locations that are not well served by the
    larger primary distributors, including the Authorized Distributors of
    Record or ``ADRs'' for the drug manufacturers. Superior's business
    model focuses on providing pharmaceuticals to these smaller medical
    facilities that otherwise cannot acquire them in the primary
    distribution market. The necessity of the smaller more flexible
    wholesaler couldn't be more apparent than it is today, with monthly
    minimum purchasing requirements by the major wholesalers often
    exceeding $100,000/month for a direct account, thus excluding most
    smaller facilities from participation in these accounts.
        As a specialty wholesaler, Superior currently serves hundreds of
    these small facilities as a primary--if not only--source of necessary
    medications, while also servicing thousands of other facilities, both
    large and small, as a supplemental or ``secondary'' source of supply.
    In many cases, Superior provides a very low volume of medications (such
    as one or two vials) to a facility in need, and necessarily incurs
    substantial overhead expenses in operating this low-volume, high-cost
    specialized service throughout the entire U.S. But, as noted, many of
    these smaller facilities necessarily depend upon the services of
    Superior and other specialty distributors to obtain their medications.
    If these smaller medical facilities and private physicians are to get
    the medications that they--and their patients--desperately need,
    secondary wholesalers like Superior must meet this demand.
        Superior prides itself on offering its customers the most favorable
    pricing possible under then-prevailing market conditions. As a smaller
    distributor, however, Superior must pay a proportionally higher
    ``Wholesaler Acquisition Cost'' or ``WAC'' to acquire its
    pharmaceutical supplies than the larger wholesalers--and this is
    generally true regardless of whether acquired directly from the
    manufacturer itself, a large primary wholesaler, or another secondary
    wholesaler. Like many specialty distributors, simply Superior lacks the
    economy of scale to qualify for more favorable volume-based pricing
    from many drug manufacturers and larger wholesale distributors and
    ADRs. As a result of this market dynamic, Superior's customer pricing
    tends to be significantly higher than the larger wholesalers and ADRs
    even under normal market conditions where there are few critical drug
    shortages. The concentrated critical drug shortages, however, have made
    it more difficult and expensive for everyone to obtain their
    medications, including Superior's specialized customer base.
        The medical and surgical facility customers of Superior definitely
    value the important service that they receive. Superior has a series of
    written customer testimonials which illustrate the strong regard that
    Superior is held in by its customers (sample testimonials can be viewed
    online at www.superiormedicalsupply.com). Some of these customer
    testimonials also highlight the difficulties faced by the customers who
    rely upon specialty distributors like Superior, including the
    escalating drug costs caused by these critical shortages. For example,
    as an attachment to this written testimony (Exhibit #1), I provide for
    the hearing record a recent testimonial from a surgery center in
    Casper, Wyoming, which both thanks Superior for its indispensable
    services but also bemoans the lack of better pharmaceutical
    availability and pricing to smaller facilities. I am attaching this
    exhibit for inclusion in the hearing record.

    Drug Shortages
        I described above how Superior's business model serves many smaller
    surgical facilities as a primary source of their pharmaceuticals,
    particularly sterile injectable medications used in virtually every
    operating room in this country. This means that Superior's customer
    base competes directly with the hospital sector for many of the same
    necessary OR drug supplies. To meet the needs of its specialized
    customer base, Superior has expended substantial time and resources in
    developing an extensive supply network that can offer its customers the
    best drug pricing possible under then-prevailing market conditions,
    particularly for generic injectables.
        As manufacturer backorders and other shortages of pharmaceuticals
    have intensified, however, Superior has found it increasingly
    difficult, if not impossible, to locate certain medications at
    favorable wholesale prices through the customary channel of the larger
    primary wholesalers, including ADRs. These large wholesalers operate on
    a ``just in time'' inventory system that maintains only about one (1)
    week of stock on hand, so that when a drug shortage strikes the market,
    their inventory is almost immediately exhausted by the sudden spike in
    demand. When this happens, Superior is forced to purchase these
    backordered pharmaceuticals at a much higher price on the open market,
    or in other words, from other secondary wholesalers who have them in
    stock at the time.
        Thus, due to the Company's specialized customer base, the shortages
    that you are now investigating have placed Superior squarely in the
    ``hard-to-find'' or backorder drug market as a matter of necessity.
    According to a recent Health and Human Services report, ``in 2010,
    there were 178 drug shortages. . . . Currently, shortages are
    concentrated in the area of sterile injectable drugs, 132 of which are
    now in shortage.'' Office of the Assistant Secretary for Planning and
    Evaluation, Office of Science and Data Development, U.S. Department of
    Health and Human Services, Economic Analysis of the Causes of Drug
    Shortages at 2 (October 2011).
        Thus, even though Superior's business model is not focused upon
    servicing the so-called ``hard-to-find'' drug market, our participation
    in this particular market has necessarily increased substantially
    because of the concentration of these shortages in sterile injectables.
    These critical drug shortages have been so protracted in the generic
    injectable market, in fact, that Superior is now forced to acquire most
    of its inventory on the open market from other secondary wholesalers,
    rather than through its direct accounts with drug manufacturers and ADR
    wholesalers at a more favorable wholesale pricing. This market reality
    prompted Superior to form its Backorder Management Division to offer
    expertise in this ``hard-to-find'' marketplace as a specialized
    customer service. This group is specifically tasked with locating and
    acquiring backordered pharmaceuticals that our customers need and
    cannot otherwise locate. Though important to our customers, this
    service has not supplanted our primary model of distribution to our
    smaller medical facility customer base.
        It is important to note that this service is almost entirely
    reactive (not proactive). In response to customer requests, Superior
    expends substantial time and significant labor cost to locate the
    desired medications on the open market at the best price then
    available, but as a practical matter, this price point is always
    significantly higher than the price that would be paid under normal
    market conditions when Superior is able to obtain medications directly
    from the manufacturer or primary ADR wholesalers. Superior typically
    purchases these backordered medications only if the customer authorizes
    the particular purchase price. Superior typically receives hundreds of
    requests per week from both established and prospective customers
    desperately seeking these backordered medications.
        As the success of this Division grew, so did our customer base.
    Through customer referrals, industry word of mouth, and an outreach
    program, many hospitals too began to find value in utilizing Superior
    to fill in the gaps of medications that they could not acquire though
    their primary wholesalers. Over the last several years, and as the
    shortages had worsened, the customer base of hospitals that utilized
    Superior in this supplemental or secondary capacity had grown to
    several hundred customers strong. However, with the widespread
    publicity focused on secondary distributors servicing hospitals,
    Superior and many other specialty wholesalers have found it necessary
    to pull back from servicing hospitals as a matter of business survival.
    Many specialty distributors around the country have suffered
    substantial lost business from this negative publicity, forcing many to
    lay off more than half of their staff members in order to survive.
    Superior has now reduced its hospital base to only a handful of
    preferred customers, and intends to ultimately cease all distribution
    into this sector to minimize further business losses. Superior is not
    alone. We now receive numerous calls daily from hospitals around the
    country desperately seeking drugs.
        Although there are several drivers for drug shortages ranging from
    raw material deficiencies to manufacturing plant closures, the most
    prominent shortage type in Superior's experience revolves around
    regional shortages. As noted above, the large primary ADR wholesalers
    operate on ``just in time'' inventory systems that maintain minimal
    stock on hand at any given time. In the hospital sector, virtually
    every hospital belongs to a Group Purchasing Organization or ``GPO,''
    which obtains preferential ``contract'' drug pricing for its hospital
    members by leveraging their collective purchasing power and negotiating
    extremely favorable direct pricing from the drug manufacturers. The GPO
    product management and allocation systems are operated primarily by the
    largest wholesale distributors, which function by separate regional
    distribution centers (``DCs'') spread across the country; each hospital
    member is typically assigned to a single regional DC to obtain their
    pharmaceuticals at the favorable GPO contract price This GPO
    distribution structure is fundamentally flawed due to the lack of
    flexibility caused by the restrictive pricing and distribution
    structure that hospitals are held to under their GPO contracts. This
    often results in situations where a hospital customer is told that a
    particular medication is on ``backorder'' and unavailable, when in fact
    the same drug may be in stock in other regional DC's of the same
    primary distributor, and is almost always available from other
    wholesalers within the region, particularly secondary wholesalers.
        In Superior's industry experience, these regional DCs of the
    largest distributors actually compete with each other intra-company,
    resulting in a real disincentive to cooperate with each other to
    alleviate these regional drug shortages. The typical policies of these
    largest distributors also tend to discourage and effectively penalize--
    through, for example, cost-prohibitive transfer or service ``fees''--
    GPO hospital customers from acquiring products from another regional DC
    with product in stock. These situations result in a localized shortage
    to the hospital that cannot acquire pharmaceuticals through its GPO
    distributor, and must then go out on the open market to acquire these
    medications for its patients and necessarily pay a substantially higher
    price--often hundreds of times more--than the artificially low GPO
    contract price. This is where Superior and other secondary distributors
    typically enter the picture in servicing the hospital sector,
    performing a critical market reallocation function that the
    inflexibility of the GPO distribution system simply cannot accommodate.
    While hospitals must pay higher prices to acquire necessary medications
    from secondary distributors, there are undeniable benefits to the
    patients who avoid unnecessary suffering and death due to this critical
    role of distributors like Superior.

    Congressional Investigation Into the Pricing of Paclitaxel
        On October 5, 2011, Superior received letter from the Ranking
    Member of the House Oversight and Government Reform Committee, the
    Honorable Elijah Cummings (D-MD), requesting documents related to our
    purchase and sale of Paclitaxel. This drug is used to treat breast and
    ovarian cancer. A subsequent request for this information was made on
    December 15, 2011 by the following Members of Congress: Senator John
    Rockefeller, the Chairman of the Senate Committee on Commerce, Science,
    and Transportation; Senator Tom Harkin, the Chairman of the Senate
    Committee on Health, Education, Labor and Pensions; and Representative
    Cummings. We met repeatedly and worked cooperatively with the staff of
    these three committees, providing them with proprietary and
    confidential materials regarding these Paclitaxel transactions and
    Superior's standard business practices.
        The greatest area of interest to the committees was the difference
    in the price Superior had paid to acquire the Paclitaxel and the price
    it charged when it subsequently sold the drug to its customers. In
    response to this inquiry, Superior provided data to the committees on
    its pricing structure and practices. Pursuant to this data, Superior
    showed that its average gross margin on all of its sales of Paclitaxel
    was less than 40 percent overall. The committees also expressed
    particular interest in the higher-priced sales of Paclitaxel. The data
    provided to the committees specifically showed that, for the Paclitaxel
    sales in the higher $500.00 range, the average gross sales margin in
    this price range was less than 25 percent. This data shows,
    importantly, that market supply and demand will tolerate only so high
    of drug prices, and that Superior actually makes less profit as a drug
    shortage worsens and market prices trend upward. In other words,
    because Superior's primary inventory component of sterile injectable
    medications has been the class of drugs most affected by the current
    shortages, these medications have been subject to greater price
    escalation caused by market supply and demand, resulting in lower
    operating revenues for Superior than during normal market conditions
    where few drug shortages exist.
        I do not believe that these gross margins are excessive,
    unreasonable, unconscionable, or amount to ``price gouging.'' This is
    particularly true given that these gross margins do not account for the
    substantial overhead costs of running a small business, paying
    employees, providing them with benefits like health insurance and
    retirement accounts, or even keeping the lights on in the office. As
    alluded to above, Superior's overhead costs are higher operating in
    this low-volume, high-cost ``hard-to-find'' marketplace, wherein
    Superior often provides a very low volume of necessary medication--
    sometimes only one or two vials--to a needy facility (as a practical
    matter, the high market prices of these ``hard-to-find'' drugs means
    that most customers purchase only the minimum amount of medication for
    their immediate patient needs). Since many sterile injectable
    medications are produced in glass vials, and sometimes must be kept
    refrigerated, there are also additional labor and packaging and
    shipping costs associated with the delivery of these particular drugs
    to customers. In general, Superior and other small specialty
    distributors must internalize substantial overhead costs in the form of
    labor expenses, pedigree authentication and compliance, packing
    materials, dry ice and other refrigerated packing materials and
    methods, as well as the high costs of maintaining a common carrier
    account (such as UPS or FedEx) to deliver numerous smaller shipments of
    critical medications across the U.S.
        In fact, as shown to the investigating committees, Superior's costs
    are up substantially while annual revenues have decreased by several
    million dollars. If given a choice, Superior would strongly prefer not
    to have to operate in this difficult secondary market, and would gladly
    return to the normal market conditions that provide more stability and
    sustainability to its core business model. But Superior still prides
    itself on supplying its regular customers with all of the medications
    that their patients need, even if it makes for difficult operating
    conditions.
        When looking at the gross margins on Paclitaxel, several key points
    must be considered. First, Paclitaxel represents a specialty drug with
    a need to immediately get it to customers, yet comply with the costly
    and time-consuming burdens of verifying/creating paper pedigrees, hand
    packaging glass vials (including, if applicable, additional
    refrigerated packing), delivering product safely and on time, and then
    invoicing the customer and subsequently collecting payment. Second,
    operating a small business in the pharmaceutical industry includes
    significant fixed overhead and operating costs, such as the following:
    licensing, insurance, bonds, compliance, pedigree, shipping, payroll,
    rent, utilities, and taxes, among other things To illustrate, Superior
    currently maintains 112 different licenses for its distribution
    operations, and each of these licenses must be annually renewed at
    substantial expense to Superior and other similarly situated small
    businesses, yet the costs of maintaining this licensure is roughly the
    same as expended by the largest wholesalers in this country.\1\
    Superior is just not big enough to recognize the ``economies of scale''
    that its larger competitors enjoy, resulting in proportionally higher
    total operating costs for Superior and other small, specialty
    distributors.
    ---------------------------------------------------------------------------
        \1\ Under these licenses, Superior is accountable to the rules of
    numerous administrative agencies and bodies, including but not limited
    to the various state boards of pharmacy, the U.S. Drug Enforcement
    Administration, the U.S. Food and Drug Administration, the Federal
    Aviation Administration, the U.S. Department of Transportation, and
    others. The costs of complying with these multiple, and sometimes
    conflicting, laws and rules are extraordinary, including substantial
    employee training and monitoring expenses.
    ---------------------------------------------------------------------------
        Shipping is one of the particular areas where we find ourselves
    unable to compete. For example, as shown to the investigating
    committees, the annual cost to maintain Superior's UPS shipping account
    ranks second only to employee payroll as its largest annual operating
    expense. In contrast, the major wholesalers utilize their own internal
    carriers to deliver product to their customers. They have the luxury of
    placing their products in plastic totes with little to no packing
    material as these totes are not being handled through processing
    centers by common carriers. Each package that Superior ships to a
    customer must be meticulously packed, often times requiring each unit
    to be wrapped in bubble wrap, surrounded by paper or Styrofoam
    material, possibly packed in a manner to maintain adequate
    refrigeration conditions during shipment, and then placed inside a
    cardboard box, addressed and shipped. This sort of packaging
    ``overkill'' is costly but necessary to ensure that shipments of
    valuable medications reach the intended patient in time and intact.
        Furthermore, even when Superior purchases products under a direct
    manufacturer or ADR contract, we pay significantly higher prices than
    larger wholesalers and other volume-based organizations like GPOs. To
    illustrate, there have been many instances in Superior's existence
    where, under normal market conditions, we have been able to acquire
    needed product cheaper on the open market from other wholesalers (even
    taking into account their additional markup) than we could pursuant to
    our direct accounts with drug manufacturers or ADR wholesalers.
    Available evidence suggests that while volume-based discounting is a
    standard practice in nearly every U.S. industry, drug manufacturers
    engage in more pronounced forms of price differentiation based on
    customer type, or ``price discrimination,'' \2\ than in other
    industries. For example, the Minority staff of the House Committee on
    Government Reform in 1999 found that price differentials are far higher
    for drugs than they are for other consumer goods. According to their
    findings, the average price differential of the specific drugs
    evaluated was 134 percent, whereas the price differential for consumer
    goods in other industries was only 22 percent. Minority Staff, Special
    Investigations Division, Committee on Government Reform, U.S. House of
    Representatives at ii (November 9, 1999). Superior and other specialty
    distributors, and the small customers who critically depend upon them,
    can attest firsthand to the anti-competitive effects of the pronounced
    price differentials in the pharmaceutical industry.
    ---------------------------------------------------------------------------
        \2\ Price Discrimination is defined as ``the practice of charging
    different prices for the identical product to distinct buyers.'' See
    Ernst R. Berndt & Joseph P. Newhouse, Pricing and Reimbursement in U.S.
    Pharmaceutical Markets at 29 (Harvard Research Working Paper Series,
    September 2010).
    ---------------------------------------------------------------------------
    Response to Release of Exhibits by the Senate Commerce Committee
        The Senate Commerce Committee released five exhibits to the public
    on July 25, 2012. Exhibit III summarized a specific pedigree involving
    Paclitaxel and Superior's involvement in the distribution of this drug.
    This exhibit listed Heartland Regional Medical Center in St. Joseph,
    Missouri as the end user of Paclitaxel in this transaction. As a
    response to this release of information by the Senate Commerce
    Committee, I am attaching for inclusion in the hearing record as
    Exhibit #2 a customer testimonial from Heartland. Heartland is one of
    Superior's preferred hospital customers and we have enjoyed working
    closely with Heartland for many years to assist it in locating hard-to
    find drugs that it cannot acquire from its primary wholesaler. Attached
    to my written testimony is a customer testimonial that Heartland
    provided to Superior attesting to the excellent customer service, fair
    pricing, and overall professionalism of Superior as a specialty
    wholesaler. Heartland closes its testimonial with the following
    statement that really sums up the important service that we provide
    during times of shortage:

            ``Superior offers fair pricing that is often better than other
            similar companies in this business, and they deliver fast and
            overnight if necessary. Superior Medical recently obtained a
            very important chemotherapy drug (paclitaxel) that Heartland
            could not obtain through any other sources. We would not have
            received the paclitaxel if not for Superior. Superior is able
            to help us find several different drugs that have been in very
            short supply recently. We will continue to use Superior
            Medicals services in the future.''

        This customer testimonial shows the close working relationship that
    many specialty distributors like Superior have with the individual
    hospital pharmacy buyers. These buyers are responsible for maintaining
    adequate pharmaceuticals to meet the needs of critical patients on a
    day-to-day basis. As a result, these buyers often have a unique
    perspective on the real value that specialty distributors can bring to
    the table in terms of industry knowledge, drug supply trends, inventory
    management, and meeting the immediate needs of the underlying patients.
    These hospital pharmacy buyers often have a markedly different
    perspective on the value of secondary distributors to the hospital
    sector, particularly during times of drug shortages, than do the
    hospital administrators or compliance officers who are not involved
    with the secondary distribution industry on a regular basis and, thus,
    often do not truly understand the unique value that specialty
    distributors like Superior can bring to the table for hospital
    purchasing departments.

    Recommendations by Superior to Address Drug Shortages
        Superior would like to offer a couple recommendations to address
    drug shortages.

        1.  Encourage the use of smaller distributors by the major
            wholesalers to help alleviate national and regional shortages,
            as well and to increase the availability of drugs to more
            remote or less populous regions of the U.S. Also increase the
            supply channels between the primary and secondary distribution
            industry so that our customers--and their patients--can readily
            obtain the critical drugs they need at more reasonable price
            points.

        2.  Pass new laws and/or administrative policies to lessen the
            anticompetitive effects of differential pricing in the
            pharmaceutical industry, and to level the playing field for the
            hundreds of small distributors like Superior and the small
            medical facilities that depend upon them for their critical
            drug supplies.

        3.  Implement a nationalized electronic pedigree system and openly
            support any effort to make this happen. As the current pedigree
            law was crafted to exempt 90-95 percent of the pharmaceutical
            wholesale transactions that occur daily, the unilateral burden
            of pedigree on the secondary distribution industry undercuts
            our ability to compete with larger wholesalers and offer better
            pricing to the customers who depend upon us. Because of the
            pedigree burden, specialty distributors like Superior must
            process mountains of paperwork each day, raising the cost of
            product that each pedigree-compliant company transacts in by
            adding hundreds of man-hours each week. Perhaps more
            importantly, absent a national pedigree system that applies to
            all stakeholders in the supply chain from top to bottom, this
            country cannot realize the Prescription Drug Marketing Act's
            original promise of a true closed system of drug distribution
            that can better ensure drug integrity and resulting patient
            safety.

        4.  Simplify the license structure for small business
            pharmaceutical suppliers. Superior maintains over 100 licenses
            between two distribution centers at a cost no different than
            what a $100 million company is required to pay. Also simplify
            the bonds required by the various state boards of pharmacy and
            other administrative agencies in order to be licensed in this
            industry. Superior would propose a uniform national bond
            requirement, with tiered-pricing according to the scale of each
            licensee. In this way, tiered licensing and bonding overhead
            costs would level the playing field for small distributors and
            the customers and their patients who depend upon us.

    Conclusion
        Thank you for the opportunity to provide written comments for this
    important hearing.
        I understand the objective of the Committee is to better
    understanding the function of the secondary or specialty wholesalers
    and Superior does function in this capacity when necessary. However,
    Superior is genuinely more interested in operating in a market without
    shortages.
        We believe that Superior helps represent an indispensable part of
    the pharmaceutical supply chain. Our job is to get the drugs to those
    medical and surgery facilities that desperately need them for their
    patients. Thanks again for this opportunity.
        Enclosure of Exhibits

                                     ______

       Response to Written Question Submitted by Hon. Roger F. Wicker to
                                Virginia Herold

        Question. Can you give us your opinion on what measures could be
    taken to tighten the supply chain or to prevent these types of
    ``questionable'' transactions from taking place?
        Answer. Actually, we see two questions in Senator Wicker's comment.
    We strongly believe that the questionable transactions involved in the
    gray market of prescription drugs in short supply that were highlighted
    by the Committee result from opportunists, and not health care
    providers, who see an opportunity to make a profit from a supply and
    demand inequity involving prescription medication. As such, the
    consequences of engaging in such activity should involve substantial
    fines or other financial sanctions that cannot be readily discharged.
    Additional, deterrent sanctions are needed when the transactions are
    committed by unlicensed entities selling and buying prescription drugs.
        In 2004, California enacted changes to pharmacy law to stem one
    source of drug diversion--to prohibit a pharmacy from acting like a
    wholesaler, except in limited circumstances. As a deterrent, the board
    was granted the extraordinary ability to issue fines at $5,000 per
    invoice, which correlates a higher fine which repeated involvement in
    performing prohibited acquisitions or sales. In our experience:
    pharmacies should be prohibited from engaging in wholesale transactions
    except in limited circumstances, and correspondingly wholesalers should
    be barred from buying from pharmacies except in rare circumstances (the
    latter provision we do not have in law currently).
        The answer to the second question--how to tighten the supply chain
    against questionable transactions--we believe requires greater
    transparency in the supply chain, and specifically, the tracking of all
    sales transactions from the manufacturer to the purchaser (wholesaler,
    pharmacy) in a tamperproof manner. A purchaser needs to be able to
    review everyone who has owned the product before the sale. Because the
    supply chain is more of a network than a true chain, this is virtually
    impossible now to know where a drug has been before purchase.
        If a purchaser has the information needed to track (in a
    tamperproof manner) the product back to the manufacturer, this will aid
    detection against the sudden, unauthorized entry into the supply chain
    of a product at a specific point. This is because such insertions would
    be traceable to a particular owner who did the insertion, and thus
    serve as a deterrent to unauthorized insertions of any product into the
    supply chain, making the pharmaceutical supply chain more secure. Such
    entries are not now readily detected.
        In California, such a system is in place via the e-pedigree law,
    which will take effect on a staggered basis from 2015 through July
    2017. The law will require electronic tracking of every owner of
    pharmaceutical product from the manufacturer to the dispenser.
                                     ______

        Response to Written Questions Submitted by Hon. John Boozman to
                                Virginia Herold

        Question 1. Mr. Coster testified that, depending on state
    requirements, pharmacies may be allowed to open with a temporary
    license before regulators conduct an on-site inspection. When dealing
    with potentially lifesaving drugs that must be handled and stored
    properly, how does a state board determine whether a pharmacy can open
    without an on-site inspection? How long can a pharmacy operate without
    being inspected? If this practice was changed, would it prevent fake
    pharmacies from operating?
        Answer. We had to change our practices in performing pre-opening
    inspection relatively recently, Since 2010 California now does pre-
    opening inspections of new non-chain store pharmacies before a pharmacy
    license is issued. This is a resumption of a requirement that was in
    effect until approximately 1996 for all pharmacies.
        From approximately 1996 to 2010, California discontinued pre-
    opening inspections of all new pharmacies before a license was issued.
    During these years, the board viewed pre-opening inspections as
    providing little value where staff resources could be better deployed
    after the pharmacy was operating. Specifically, the inspection of a
    pharmacy before it operates, before it has been issued a license, and
    before it has been authorized to purchase drugs resulted in the board
    making visits to sites in pre-1995 inspections where there was little
    to inspect. Essential functions and operations could not be reviewed
    because the sites had not been operating, staff were not present and
    there were no records to review. Instead, the board opted to inspect
    the pharmacy after the first 120 days of operation, and where the board
    could cancel the license if there was no pharmacy present (pursuant to
    California law).
        However in 2010, the board reinstituted pre-opening inspections of
    non-chain store pharmacies due to a flurry of fake pharmacies that once
    licensed, began to defraud MediCal or divert drugs. The resumption of
    these inspections has permitted the detection of truly fake pharmacies.
    The board will continue to conduct these pre-licensure inspections.
        To additionally ensure the safety of the public, we also try to
    inspect pharmacies sometime after 120 days of operation to review their
    functioning.

        Question 2. Does California have any compliance cost estimates for
    independent pharmacies for the new electronic tracking system?
        Answer. No. The few pilots underway between manufacturers and
    wholesalers do not currently involve many pharmacies, perhaps because
    e-pedigree implementation for pharmacies will not occur for another
    five years (July 2017). We expect to see more involvement of community
    pharmacies in the future once the current pilots involving the
    manufacturer/wholesaler interface mature.
        However, one area in which the board is cognizant of decreased
    costs is in the area of e-pedigree readers for the serialized product.
    In discussions with the supply chain in 2008 and earlier, the supply
    chain was projecting readers would be required in a pharmacy in at
    least three different forms (RFID high frequency, RFID ultra-high
    frequency and 2-D bar code). Some of the readers then in use were bulky
    and expensive.
        Today, we are aware that readers in cell phones are possible, which
    greatly reduces this cost component to pharmacies, as well as the size
    of the reader. Moreover, manufacturers are principally using 2-D bar
    codes to serialize their products, and RFID high frequency is
    disappearing for this purpose. We expect continual evolution in the
    technology in this area in the future.
                                     ______

       Response to Written Question Submitted by Hon. Roger F. Wicker to
                               Dr. David Mayhaus

        Question. Can you give us your opinion on what measures could be
    taken to tighten the supply chain or to prevent these types of
    ``questionable'' transactions from taking place?
        Answer.
        a.  I might recommend a look at the main business market of
            secondary distributors. Specifically, if their role is to
            provide pharmaceuticals to community pharmacies, then why do
            they need to purchase intravenous drugs and chemotherapeutic
            agent used exclusively in hospitals? There should be some kind
            of accountability from the manufacturer or primary wholesaler
            where the initial transaction took place to verify the
            legitimacy of the purchase of hospital used pharmaceuticals.
            Cincinnati Children's would not use the secondary wholesalers
            if the product was available through our primary. Some of our
            pedigrees have indicated that the initial distributer listed
            was a primary wholesaler. I was not aware that primary
            wholesalers sold drugs to secondary wholesalers. If there is a
            process to determine if the secondary wholesaler had a
            legitimate market for intravenous drugs used exclusively in
            hospitals, it may deter this type of transaction.

        b.  Limiting the number of wholesalers that can handle a
            pharmaceutical might be something to consider. As described in
            other's testimony, as the number of wholesalers involved with
            the drug increased, so did the price. Setting a limit of 2-3
            distributors permitted on a pedigree may significantly curtail
            this activity.
                                     ______

        Response to Written Question Submitted by Hon. John Boozman to
                               Dr. David Mayhaus

        Question. How often do you turn down business offers from secondary
    distributors because you identify inaccurate, incomplete, or unsettling
    information in your procurement process?
        Answer. The buyers at Cincinnati Children's decline the offers of
    approximately 90 percent of the calls they receive. The reasons are
    either they are not licensed as a wholesaler in Ohio, too high of
    price, or the secondary wholesaler wants a purchase order given to them
    without confirmation of the needed drug in supply. The issuance of a
    purchase order prior to providing firm confirmation the secondary
    wholesaler has the actual drug in supply is not normal pharmacy
    business practice of Cincinnati Children's.
                                     ______

      Response to Written Questions Submitted by Hon. Roger F. Wicker to
                                Dr. John Coster

        Question 1. Can you give us your opinion on what measures could be
    taken to tighten the supply chain or to prevent these types of
    ``questionable'' transactions from taking place?
        Answer. There are a number of actions or measures that could be
    taken to tighten the supply chain. These could include making sure that
    all pharmacies must have an actual on-site inspection prior to being
    allowed to open. This would ensure that the pharmacy is, in fact, an
    operational and legitimate pharmacy and not a ``shell'' pharmacy. In
    addition, NCPA has gone on record in support of Federal standards for
    wholesaler licensure.
        A number of years ago, there was a flurry of publicity around the
    fact that in many states, the licensure requirements necessary in order
    to operate as a drug wholesaler were not terribly consistent or robust.
    In response, many states took the necessary steps to tighten up or
    increase these requirements in order to provide a greater degree of
    assurance that only legitimate entities were operating in this area.
    That being said, there are still some states in which the wholesaler
    licensure requirements are more rigorous than others. Uniform, Federal
    requirements for wholesaler licensure would create a consistently high
    standard for these entities across the country.
        NCPA has also publicly stated its support for a lot-level form of
    tracking for prescription drugs that could be used in the event of a
    recall or to investigate suspect product. Such a system would make it
    much easier for each participant in the supply chain to keep track of
    exactly who products are purchased from and subsequently sold to. In
    addition, NCPA feels that there should be a greater emphasis on the
    importance of all participants in the supply chain to perform their due
    diligence with respect to their business partners.

        Question 2. Is there a valid reason why a pharmacy may sell a small
    amount of his or her inventory to either another pharmacy or perhaps
    even to a wholesaler, and do the states address this issue in a
    consistent manner? In light of the types of activities we have heard
    about, should these practices be allowed to continue?
        Answer. Many state pharmacy practice acts recognize the value of
    allowing pharmacies to sell small amount of his or her inventory to
    another pharmacy in order to alleviate temporary shortages. In
    addition, some states also permit appropriate licensed pharmacy sales
    to wholesalers as well to alleviate temporary shortages. In addition, a
    pharmacy may sell a product which is close to the expiry date to a
    wholesaler who has a client with an immediate need, to ensure that the
    product will not go to waste and can actually be used for patient
    benefit. This is also critical for small pharmacy owners due to the
    significant amount of capital that is tied up in inventory stock.
        States do not address these issues in a uniform fashion. There are
    some states that specifically allow these types of sales or exempt
    these transactions from the state definition of wholesale distribution.
    There are other states that allow these types of sales but only in
    instances of the existence of an actual patient need or as long as a
    pharmacy does not sell over a certain percentage of their inventory.
    NCPA feels that greater clarity or consistency from state to state in
    how these types of transactions are allowed would certainly be helpful.
    No pharmacy, whether fake or legitimate, should be in the business of
    acting as a conduit to facilitate the activities of a gray market or
    placing specific orders with a primary wholesaler for the sole purpose
    of immediately selling to a secondary wholesaler.
        NCPA does feel that pharmacies do need to have the option to engage
    in these types of sales in certain circumstances in order to address
    temporary shortages in the workplace and to respond to patient needs.
    We feel that any remedial action taken to prohibit the types of
    activities highlighted in the hearing should be narrowly tailored. We
    urge Congress to not take any overly broad actions that might limit the
    ability of pharmacists to take care of their patients or manage their
    inventories.

        Question 3. Is there a valid role for secondary distributors in the
    market? If so, could you elaborate on ways in which your members
    utilize these entities?
        Answer. Yes, NCPA feels that there is a valid role for secondary
    distributors in the market. Most community pharmacies rely on a primary
    wholesaler to meet the majority of their ongoing prescription drug
    needs. However, community pharmacies typically need to have at least
    one or more backup or secondary wholesalers that they can call upon in
    the event that there is a shortage. ``Primary wholesaler'' generally
    describes entities that purchase the vast majority of their product
    directly from drug manufacturers. This market is highly concentrated--
    the ``big three'' wholesalers generate approximately 85 percent of all
    revenues from pharmaceutical wholesaling in the United States.
    ``Secondary'' wholesaler generally describes distributors that do not
    purchase the majority of their products directly from a pharmaceutical
    manufacturer. Most manufacturers typically limit the number of entities
    that they will sell to directly and most do not sell directly to
    smaller companies that are not interested in purchasing extremely
    large, bulk amounts. Secondary wholesalers play an important role in
    the industry by serving as a ``back-up'' source of supply to pharmacies
    who may use a primary wholesaler for their usual and expected day-to-
    day needs and also provide necessary competition for the primary
    wholesalers which helps keep costs down. These entities also frequently
    specialize or focus on a subset of the market, such as a geographical
    region or specific product categories such as differing types of
    specialty drugs such as oncology or HIV.
                                     ______

        Response to Written Questions Submitted by Hon. John Boozman to
                                Dr. John Coster

        Question 1. Do you think that a national pedigree or track and
    trace system would prevent nefarious activities by wholesalers or fake
    or real pharmacies with respect to the buying and selling of shortaged
    drugs?
        Answer. It is important to recognize that no system, whether a
    national pedigree or track and trace system would solve all problems or
    ``loopholes'' that may exist in the pharmaceutical supply chain. NCPA
    favors a multi-pronged approach to bolstering the integrity of the
    supply chain including uniform, Federal licensure standards for
    wholesalers, cracking down on illegal Internet pharmacies as well as a
    lot-level form of tracking for prescription drugs that could be used in
    the event of a recall or to investigate suspect product. In addition,
    there needs to be a greater emphasis on each sector of the supply chain
    to thoroughly ``vet'' their trading partners--their suppliers and their
    customers.

        Question 2. What track-and-trace system do small pharmacies support
    and why? How will such a system improve the supply chain?
        Answer. NCPA supports a lot-level form of tracking for prescription
    drugs that could be used in the event of a recall or to investigate
    suspect product. This system, known as RxTEC, is the result of a year-
    long effort by a multi-stakeholder workgroup that sought to create a
    system that would recognize both tangible safety improvements and
    appropriate industry burden.
        Implementation of this type of system would make it much easier for
    each participant in the supply chain to keep track of exactly who
    products are purchased from and subsequently sold to. NCPA does not at
    this time support the electronic tracking and tracing of prescription
    drugs at the unit level due to the costs of the hardware and software
    to small businesses that would be required to set up and maintain such
    a system as well as the significant time and labor costs associated
    with its implementation.
                                     ______

                 Healthcare Distribution Management Association
                                         Arlington, VA, August 31, 2012
    Hon. John D. Rockefeller,
    Committee on Commerce, Science, and Transportation,
    Washington, DC.

    Dear Chairman Rockefeller:

        Thank you for the opportunity to testify before the Senate
    Committee on Commerce, Science and Transportation on July 25, 2012 at
    the hearing entitled ``Short-Supply Prescription Drugs Shining a Light
    on the Gray Market.'' I have attached my response to the Questions for
    the Record forwarded to us by your staff.
        As a result of the Commerce committee hearing and release of the
    ``Shining Light on the Gray Market'' report, we understand that
    responsible pharmacies are more acutely aware of the potential impact
    of drug shortages on patient health and may be ending their practices
    of reselling product, to the extent they had previously done so. While
    this is a very positive development, we are encouraging our members to
    remain vigilant for any change in tactics from gray market suppliers.
    These gray market entities may pursue other avenues to obtain drugs in
    short supply, such as through veterinary and dental providers.
        In fact, the Federal Trade Commission is convening a workshop to
    examine certain veterinary drug prescribing and distribution practices,
    including instances in which ``veterinarians purchase pet medications
    from manufacturers or authorized distributors and then resell some
    portion of their purchase to secondary suppliers for a profit.'' 77
    Fed. Reg. 40,355, 40,356 (July 9, 2012).
        Thank you for your leadership and we look forward to continuing to
    work with you and your staff on the important issue of drug shortages.
                Sincerely,
                                                  John M. Gray,
                                                       President & CEO.
                                     ______

       Response to Written Question Submitted by Hon. Roger F. Wicker to
                                  John M. Gray

        Question. Can you give us your opinion on what measures could be
    taken to tighten the supply chain or to prevent these types of
    ``questionable'' transactions from taking place?
        Answer. HDMA and its members are strong advocates for increased
    wholesaler licensure standards and a uniform Federal pedigree system to
    enhance the safety and security of the pharmaceutical supply chain. In
    addition to fundamentally addressing counterfeit and diverted
    medicines, Federal pedigree may be a useful tool in discouraging gray
    market activities associated with drug products in short supply.
        Further, HDMA supports a prohibition on wholesalers' purchasing
    prescription drugs from pharmacies. When HDMA members sell any drugs
    (regardless of their shortage status) to pharmacies or providers, it is
    with the intention that the product will be dispensed or administered
    to a patient in the usual course of pharmacy or medical practice.
                                     ______

        Response to Written Question Submitted by Hon. John Boozman to
                                  John M. Gray

        Question. According to Dr. Coster's testimony, the NCPA encourages
    pharmacists to conduct due diligence on potential wholesalers before
    engaging in business transactions. Has HDMA developed industry
    guidelines to assist primary distributors in vetting their customers?
        Answer. In 2008, HDMA published the Industry Compliance Guidelines:
    Reporting Suspicious Order and Preventing Diversion of Controlled
    Substances (ICGs) (http://www.healthearedistribution.oregov_affairs/
    pdf_controlled/20081113_ieg.pdf).
        These guidelines emphasize ``Know Your Customer''--that is,
    obtaining and reviewing thorough background information about a
    distributor's prospective customers prior to doing business with them.
    The ICGs support due diligence efforts to provide assurance that
    pharmacy customers are appropriately licensed by state and Federal
    authorities and that these entities intend to dispense drug products
    for legally acceptable purposes.
        The ICGs were specifically developed to help evaluate customer
    orders for controlled substances and report those that are
    ``suspicious'' to the Drug Enforcement Administration (DEA) as required
    under Federal law'.\1\ These guidelines are also intended to aid
    distributors in evaluating and incorporating DEA interpretations of
    distributors' responsibilities for responding to ever-evolving changes
    in the diversion and illicit use of these much needed medications.
    ---------------------------------------------------------------------------
        \1\ 21 C.F.R. Sec. 1301.74(b).
    ---------------------------------------------------------------------------
        As important as it is for distributors to take responsibility to
    prevent diversion of controlled substances, it is equally important for
    all members of the supply chain (including manufacturers, dispensers,
    and prescribers) to take steps to help prevent drug abuse as well as
    preventing the diversion of product into the gray market.
                                     ______

      Response to Written Questions Submitted by Hon. Roger F. Wicker to
                                 Patricia Earl

        Question 1. Can you give us your opinion on what measures could be
    taken to tighten the supply chain or to prevent these types of
    ``questionable'' transactions from taking place?
        Answer. Who is NCPD: Founded in 2006, the National Coalition of
    Pharmaceutical Distributors (NCPD) has represented and promoted the
    interests and priorities of small and independent pharmaceutical
    distributors before legislatures, regulatory organizations, industry
    partners and the community at large by advocating sound and responsible
    public policy. In this manner, NCPD is committed to preserve the well-
    being of its members; to ensure distribution system efficiency; and to
    strengthen the pharmaceutical supply chain to the greatest degree
    possible. Our members are regulated by the FDA, the DEA and every State
    Board of Pharmacy in which we operate. Our companies produce pedigrees,
    engage in current good manufacturing practices and provide heightened
    product quality assurance. NCPD members operate inside ordinary, lawful
    channels of distribution referred to as the authorized distribution
    networks.

        Question 2. How did the ``gray market'' root causes emerge?
        Answer. Industry changes have placed medication in short supply.
    The FDA website provides frequently asked questions and answers. One
    noted question is this: What has caused drugs to be in short supply?''
    The FDA answered the question as follows:

            ``The major reason for these shortages has been quality/
            manufacturing issues. However there have been other reasons
            such as production delays at the manufacturer and delays
            companies have experienced receiving raw materials and
            components from suppliers. Discontinuations are another factor
            contributing to shortages. FDA can't require a firm to keep
            making a drug it wants to discontinue. Sometimes these older
            drugs are discontinued by companies in favor of newer, more
            profitable drugs. With fewer firms making older sterile
            injectable drugs, there are a limited number of production
            lines that can make these drugs. The raw material suppliers the
            firms use are also limited in the amount they can make due to
            capacity issues at their facilities. This small number of
            manufacturers and limited production capacity for older sterile
            injectables, combined with the long lead times and complexity
            of the manufacturing process for injectable drugs, results in
            these drugs being vulnerable to shortage. When one company has
            a problem or discontinues, it is difficult for the remaining
            firms to increase production quickly and a shortage occurs.''

        The Staff Report prepared for Chairman John D. Rockefeller, IV,
    Chairman Tom Harkin and Representative Elijah E Cummings entitled ``An
    Examination of Why Hospitals Are Forced to Pay Exorbitant Prices for
    Prescription Drugs Facing Critical Shortages'' confirmed those root
    causes from the Committee's extensive examination of the authorized
    distribution networks.

        Question 3. So what are the repercussions of drug shortages and
    what measures are needed to prevent these ``questionable'' gray market
    transactions?
        Answer. Following shortages, supply and demand allowed for prices
    to increase. The healthcare market is not immune to the basic
    principles of supply and demand. Supply represents how much the market
    can offer. The quantity supplied refers to the amount of a certain good
    producers are willing to supply when receiving a certain price. The
    correlation between price and how much of a good or service is supplied
    to the market is known as the supply relationship. Price, therefore, is
    a reflection of supply and demand. When there is a short supply of
    drugs, as has been noted by the FDA, there is an opportunity for ``bad
    actors'' to take advantage of the system. NCPD members do not engage in
    pricing gouging behavior even though market conditions are ripe for it
    because they know it is inherently bad business to gouge customers that
    you want to come back and buy from you next week. Our members know you
    can't stay in business long unless your prices are fair and competitive
    and that is how NCPD members have done business with their long-
    standing relationships. Further, a typical hospital pharmacy purchaser
    has multiple back-up small distributors from which to choose. As such,
    a secondary distributor will typically seek to offer the best price
    available to ensure that its hospital customer will continue to utilize
    its services in the future.
        Congress is presently considering various legislative proposals
    intended to enhance the Federal government's ability to track and trace
    prescription drugs beginning with the manufacturer and continuing with
    every subsequent transaction until the product is ultimately provided
    to the patient or consumer NCPD supports Federal pedigree legislation
    that includes unit level track and trace mandates. Since 2006, its
    members are the only companies required to authenticate drugs and pass
    pedigrees. We support the serialization of drugs for national track and
    trace system both level and with 2D bar codes. Many of our members
    serialize drugs today for tracking and billing purposes where
    distribution in small unit of use packs. We support stringent Federal
    licensure standards and penalties for those who fail to comply with
    laws and standards. This concept--commonly referred to as
    ``pedigree''--is considered critical to ensuring that misbranded,
    adulterated or counterfeit prescription products do not enter the
    pharmaceutical supply chain. NCPD has actively supported congressional
    efforts to reform Federal pedigree laws with more stringent and
    effective requirements for supply chain participants.
        NCPD does not support the ``shell pharmacies'' or illegal
    wholesalers that divert drugs that would have gone directly from
    manufacturer to independent distributors and been available for normal
    distribution supply chain safety net. Plugging those holes with more
    stringent Federal licensure standards and penalties for failure to
    comply should be the most important measure to prevent these
    questionable transactions.
        Rather than focusing on how the ``bad apples'' received the
    ``leaked'' product, a better solution for all normal trading partners
    in the ordinary, lawful channel of distribution would be to get product
    to the registered, licensed, compliant, traditional safety-net
    secondary distributors that have historically been able to redistribute
    short supply product without extraordinary measures of multiple
    distributors touching the products. Historically, secondary
    distributors have stepped in to fill the gap that the normal trading
    partners cannot because of their inability to handle the exceptions
    created by the current fragile supply chain. The solution to keeping
    the supply chain safe is to have all the ``ordinary, lawful channels of
    distribution'' have equal access to their fair share of the available
    inventory based on their customer's historical needs and not allow,
    such unlawful, fake pharmacies and their unlawful business partners
    sneak into the supply chain and siphon off the legitimate inventory to
    gain illegal and unlawful profits at the expense of everyone else.
                                     ______

        Response to Written Question Submitted by Hon. John Boozman to
                                 Patricia Earl

        Question. There are a number of price markups of critical,
    lifesaving drugs that have been uncovered during the course of this
    investigation. What would account for these significant markups? I
    understand that small distributors have to pay higher prices than those
    negotiated under GPO contracts, but will you explain how your members
    price their drugs? Putting shipping costs aside, can you explain why
    secondary wholesalers may charge more than $100 to pass along product
    to another entity in the distribution chain?
        Answer. Analyzing prices of the drugs that were examined in the
    Staff Report, the first questions we have to ask is ``Is the comparison
    apple to apples?'' On page 10 of the report, it was stated that five
    prescription drugs were the focus of the examination. Those five drugs
    were all compared using the manufacturer--GPO--wholesaler ``normal
    contract pricing'' to establish the baseline for the mark-ups to the
    hospitals. As you have requested, we will do our response based on the
    industry standard, Wholesale Acquisition Cost, which is what a
    distributor will pay for the drug in the ``authorized distribution
    network.'' It appears in the report, that these examinations make the
    assumption that all stakeholders track their purchases using the unique
    identifier, NDC number that is the manufacturer identification code for
    only one manufacturer's chemical entity for that drug. That NDC
    tracking process must be used to trace a drug transaction from the
    manufacturer to the normal trading partner and to the GPO hospital in
    order to process the GPO contract, file chargebacks and pay
    administration fees. Only the contract transactions must follow that
    specific NDC track for that one product and since many of our members
    are restricted from the GPO agreements, they are free to interchange
    competing manufacturer products under one Generic Sequence Number
    (GCN). The manufacturer wholesaler acquisition prices are published in
    three national data warehouses, First Data Bank (FDB), RedBook and
    MediSpan. These database files are used to set the WAC by NCPD members
    and many times are used in lieu of a company's actual acquisition price
    for single items.
        As defined in FDB, the GCN Sequence number is a unique number
    representing a generic formulation. It is specific to the generic
    ingredients, route of administration, dosage form and strength.
    According to FDB, the GCN Sequence Number is the same across
    manufacturers and/or package sizes and therefore can be used to
    interchange equivalent products. As a consequence of our distributor
    members not being restrained in their inventory management systems to
    tracking by specific NDC numbers, they may set up a shelf-keeping-unit
    (SKU) system by GCN code in order to run all equivalent GCN products
    under one unique item number for the purpose of financial accounting
    and inventory valuation. They may create an SKU number that is
    proprietary to their company, i.e., Paclitaxel 300mg and track that
    item by their SKU number. That SKU record will establish their base
    cost for purchasing and selling price algorithms based on the average
    costing or FIFO or LIFO cost of the drug. In these situations, they may
    have multiple manufacturers that make that same drug and sell in
    different package sizes and they all sell at a different manufacturer
    wholesaler acquisition price. Since our members do not have to follow
    the GPO process of selling only one specific manufacturer's NDC number
    at a pre-negotiated contract price, they can use the most recent
    published market price established for that item. Here is an example of
    that pricing comparison is the Paclitaxel 300mg 50ml Vial and its GCN
    equivalent of 5ml Vials that is listed in the First Data Bank and the
    Redbook data repositories.

        As you can see, there are multiple manufacturer-specific
    generically equivalent products that have published Wholesale
    Acquisition Costs (WAC). If we look at four of these products to see
    the variance in the WAC for the purpose of establishing a market in-
    bound cost for a distributor to use as the competitive threshold to
    price the product when it is acquired from another trading partner, we
    will see that manufacturers have created wide variances in how they set
    their company's WAC and that there are wide spreads in the dollars and
    the percentage difference by manufacturer.

                                         Drug Name: PACLITAXEL 300 MG/50 ML VIAL
    ----------------------------------------------------------------------------------------------------------------
                                                                                                          Mark-Up  %
                                                        Pkg     Pkg                          Mark-Up  $      over
                NDC                      MFG           Desc    Size   WAC  Unit   WAC  Pkg      over     Lowest  MFG
                                                                                            Lowest  WAC      WAC
    ----------------------------------------------------------------------------------------------------------------
    61703-0342-50               Hospira                 Vial      50      $1.45     $72.53          N/A          N/A
    63323-0763-50               APP                     Vial      50      $2.59    $129.30       $56.77       78.27%
    55390-0314-50               Bedford                 Vial      50      $7.00    $350.00      $277.47      382.56%
    66758-0043-03               Sandoz                  Vial      50      $9.05    $452.55      $380.02      523.95%
    ----------------------------------------------------------------------------------------------------------------

                                         Drug Name: PACLITAXEL 300 MG/5 ML VIAL
    ----------------------------------------------------------------------------------------------------------------
                                                                                                          Mark-Up  %
                                                        Pkg     Pkg                          Mark-Up  $      over
                NDC                      MFG           Desc    Size   WAC  Unit   WAC  Pkg      over     Lowest  MFG
                                                                                            Lowest  WAC      WAC
    ----------------------------------------------------------------------------------------------------------------
    61703-0342-09               Hospira                 Vial       5      $1.61      $8.03          N/A          N/A
    63323-0763-05               APP                     Vial       5      $2.58     $12.93        $4.90       61.02%
    55390-0314-05               Bedford                 Vial       5      $7.00     $35.00       $26.97      335.87%
    66758-0043-01               Sandoz                  Vial       5      $9.05     $45.26       $37.23      463.64%
    ----------------------------------------------------------------------------------------------------------------

        When our members purchase a Paclitaxel 300mg 50ml Vial or a 5ml
    Vial, they put in the market price of the product based on what the
    First Data Bank, Redbook or MediSpan has published as the WAC and if
    they have purchased two of the four above and the SANDOZ product was
    one of those two, their base cost for that product would be $452.00 not
    the $129.30 that APP had priced their lowest contract negotiated
    product. Therefore, when a hospital was quoted their price on the
    Paclitaxel 300mg 50ml Vial as a non-primary customer of our member,
    they would be priced on the highest WAC, unless they have a pre-
    negotiated supply agreement with our member for sell price based on
    actual cost.
        This is a common practice in the ``secondary distributor'' industry
    because a hospital has committed to buy 100 percent of their contract
    items from the primary distributor -referred to in the report as
    ``normal trading partners.'' Since a secondary distributor does not
    know what products, if any, or how much dollar volume that a hospital
    will purchase from them, they normally sell at a cost plus based on
    their market intelligence and that is based on the higher of published
    WAC or their Commercial Price File established by their inventory and
    pricing guidelines. Our members receive letters from their customers
    like this one on a consistent basis:

            ``This is to say THANK YOU for all the vital service you have
            provided to our company. You play a critical role in my daily
            routine as I rely on your e-mails that contain drugs that I
            currently need and you are quick to act on it. You are a life
            saver as I have never been without in spite of the current drug
            shortages. You have fair prices and I have referred your
            company to many of my colleagues so they too can receive the
            vital service you provide. Thank you again for the great
            service and I will continue to look forward to doing business
            with you as always!'' RN, CNOR Surgery Center Customer

        There are additional factors that determine the selling price mark-
    ups and they include higher costs of acquisition of these life-saving,
    critical short supply drugs. Some of our members have long-standing
    relationships with hospitals and clinics (like the one above) to be the
    last resort in finding a drug that is critical to saving a patient's
    life. In these extreme situations, our members use extraordinary
    measures to find those drugs by contacting other trusted suppliers that
    have assisted them in the past. These extreme situations can cost
    hundreds of dollars in operational, administrative and labor costs.
    Many times either experienced sales reps or customer service management
    will spend hours in tracking down and locating the available product.
    They negotiate the rapid response to expedite the drug to the hospital
    or clinic. They incur special handling costs, packaging and labeling
    materials for hazardous (oncology), breakables (injectables and
    liquids) and sensitive transporting (OMD guidelines) of the product to
    a viable shipper. There are incremental costs for all these activities
    that must go into the cost of processing the drug.
        Lastly, our members are required by PDMA and state statutes to
    provide a readable pedigree document in these situations that may
    involve tracking transactions from the manufacturer to the dispensing
    customer. Pedigree documentation not only involves labor costs but also
    our members are required to pay a fee to the ``normal trading
    partners'' in order to get access to that pedigree. The cost to get
    pedigree documentation from the primary wholesalers is a fixed fee of
    $5,000 per month or $60,000 per year and that is for one pedigree or
    for many per month. Internal labor costs for pedigree administration
    carries an average cost of $60,000 or more to authenticate and pass
    pedigree on these items. Many of our members have invested in software
    systems that have a license fee that has to be paid for the service. If
    our members passed on the actual cost of that pedigree service on these
    transactions, it could easily add at least $100 per item just for the
    authentication documents. Because this is an arduous, labor intensive
    process, in many instances, our members lose money on these emergency,
    hard-to-find situations in order to keep a good customer and to save a
    patient's life.
        As benchmark tools for our industry, we have prepared some
    financial analysis to show the economic impact of the small
    distributions and how it relates to the normal trading partners.
    Prescription drugs move though a very complex distribution model that
    has many players. These multiple providers each play an important role
    in getting the right drugs, to the right patient, at the right time.
    However, because of the sheer volume of over $307 Billion, according to
    the Center for Healthcare Supply Chain Research, 2011-2012 HDMA
    Factbook, each traditional distributor placed more than 385,000 orders
    for healthcare products in 2012 from an average of 1,100 manufacturers
    delivering drugs daily to over 200,000 providers across the U.S. While
    this provider network is vast, distributors were able to consistently
    provide services levels exceeding 95 percent while operating
    efficiently and keeping the cost of distributor low. These large,
    national distributors are able to offer economies of scale by
    aggregating volumes and inventory for both manufacturers and providers.
    This systems works for drug distribution in a fast and efficient manner
    at least 95 percent of the time, but for the balance of that 5 percent,
    a back-up, secondary distributor is called on to provide the same level
    of service that these primary companies provide.

                 Table 1.--Flow of U.S. Prescription Sales ($B) and Contribution by Channel (%) in 2010.
    ----------------------------------------------------------------------------------------------------------------
       Total U.S. Pharmaceutical Market         Contribution by Channel ($)          Contribution by Channel (%)
    ----------------------------------------------------------------------------------------------------------------
    Manufacturers                                                       $307 B                                 100%
    ----------------------------------------------------------------------------------------------------------------
    Traditional and Specialty Distributors                              $268 B                                  87%
    ----------------------------------------------------------------------------------------------------------------
    Direct to Chains, Mass Merchandisers                                 $39 B                                  13%
     and Food Stores
    ----------------------------------------------------------------------------------------------------------------
    Total Generic and Brand Prescription
     Drugs Sold through Traditional
     Wholesalers to Following Providers:
    ----------------------------------------------------------------------------------------------------------------
    Chain Warehouses purchased from                                      $51 B                                  21%
     Wholesalers
    ----------------------------------------------------------------------------------------------------------------
    Chain Pharmacies                                                     $59 B                                  24%
    ----------------------------------------------------------------------------------------------------------------
    Hospitals, HMO's, Clinics and Nursing                                $61 B                                  25%
     Homes
    ----------------------------------------------------------------------------------------------------------------
    Independent Community Pharmacies                                     $38 B                                  16%
    ----------------------------------------------------------------------------------------------------------------
    Mail Order Pharmacies                                                $33 B                                  13%
    ----------------------------------------------------------------------------------------------------------------
    Others (Distributors)                                                 $2 B                                   1%
    ----------------------------------------------------------------------------------------------------------------
    1. Total value of goods flowing through traditional distributors, as per IMS National Sales Perspectives. 2011-
      12 HDMA Factbook (Tables 1 and 3 and 109.)
    2. Sources: Center for Healthcare Supply Chain Research, 2012-12 HDMA Factbook, IMS Health, Inc., Booz & Company
      Analysis, The Role of Distributors in the U.S. Healthcare Industry

        NCPD members, small and independent distributors, have estimated
    that this market segment does less than one percent of the total goods
    flowing through this supply chain or approximately $2 Billion annually.
    It is often hard to understand where secondary distributors fit into
    the flow of prescription drugs in this supply chain and the role that
    NCPD members play every day in distributing prescription drugs to their
    small healthcare customers and as a second-line supplier to the largest
    providers listed in Table 1. Much activity has driven these secondary
    relationships that have been the realities for the pharmaceutical
    supply chain during this period of increasing short-supply of critical
    drugs. One of the practical circumstances that have fed the expansion
    of these relationships in the secondary distribution industry is the
    fact that this industry of small suppliers primarily serves as a
    safety-net or back-up supplier to all hospitals, both large and small
    in the U.S. Add to that, the fact that this industry is the primary
    supplier of all drugs to smaller medical facilities, doctor's offices
    and pharmacies. Despite their crucial role in getting life-saving drugs
    to critically ill patients, they are also on an individual basis, one
    of the smallest customers of the ``traditional'' wholesalers that do
    billions of dollars of sales to these large hospitals and are required
    to pay the highest acquisition cost offered in the U.S. supply chain.
    As a practical matter, every sector of the healthcare industry depends
    critically upon secondary distributors due to the fact that they act as
    the safety-net in times of national shortages to secure and distribute
    scarce drugs in short supply.
        Many manufacturers, hospitals, health care centers and pharmacies
    in rural locations and those too small to meet the minimums of large
    distributors rely on secondary distributors to fill critical needs for
    life-saving medicine. What's more, every sector of the health care
    industry depends critically upon secondary distributors because they
    act as the safety-net in times of national shortages to secure and
    distribute scarce drugs in short supply. While they are crucial in
    getting life-saving drugs to critically ill patients, small
    distributors are on an individual basis, one of the smallest customers
    of ``traditional'' wholesalers. These same wholesalers do billions of
    dollars of sales to large hospitals, but will not supply smaller
    clinics and facilities. In addition, small distributors are required to
    pay the highest acquisition cost offered in the U.S. supply chain,
    putting them at a competitive disadvantage.
        In spite of their proven value, small, secondary distributors have
    come under fire recently because few people really understand them or
    have taken the time to see where they fit in the supply chain. The
    arguments have ranged from accusations of price gouging to shifting
    product between multiple companies as a means to increase profits to
    working with fake pharmacies. These allegations are not grounded in
    reality. What's more, these characterizations fail to reflect one basic
    fact of this market: There are thousands of small distributors that
    work with hospitals across the Nation. To remain competitive, they must
    comply with all laws, follow pedigree and handling requirements to the
    letter and still offer an economical price point that allows for only a
    modest profit margin. If they do anything else, they run the risk of
    permanently losing a customer. That's because hospitals comparison
    shop. If they don't like a price offered by one company, they will call
    another. This is a reality that every small distributor out there is
    well aware of. And they know that if they were to engage in the types
    of activities you accuse them of, they would not be in business very
    long. As you learn more about this industry you will see that the
    activities you are trying to paint as nefarious actually have
    legitimate and reasonable explanations:
    So-Called ``Price Gouging'' Or Mark-Ups
        Drug prices are established on an intricate system that is far more
    complex than most free markets. Manufacturers set a number of price
    points for a product, including the Wholesale Acquisition Cost--or
    WAC--which is the lowest price at which a wholesaler or distributor can
    buy the product. As with many markets, hospitals and physicians can
    negotiate the price they are willing to pay for a drug. The more
    product a hospital or doctor expects to use, the more power they have
    in securing to negotiate a lower price. Neither large nor small
    distributors have the ability to influence drug price negotiations. To
    secure the best prices for patients, most hospitals belong to one of
    the major group purchasing organizations--GPO's, which leverage the
    strength of the collective buying power of their members when
    negotiating contracts with manufacturers. GPOs require hospitals to
    adhere to specific rules, such as select a primary wholesaler--and if
    their primary does not have a drug, they are prohibited from using
    another primary. Instead, they must contact their second-line--or
    ``secondary--distributor to supply their needs. Secondary distributors
    are able to work with all of the primary wholesalers, plus their
    network of small distributors to locate and secure drugs, even those
    that are in short-supply. Because small distributors are not restricted
    by GPO contracts, they are able to use avenues that hospitals cannot,
    such as large distributors that compete with the hospital's primary
    wholesalers.
        Small distributor companies measure key profitability by comparing
    income and expenses, which are significantly higher than the large
    traditional wholesalers because they do not have the depth, breadth and
    economies of scale that the larger companies can spread expenses across
    billions of dollars in pharmaceutical revenues. In fact, the small and
    independent distributors are very similar in size and scope to the
    small, independent, community pharmacies that are members of the
    National Community Pharmacy Association. We have used the data from the
    HDMA Factbook and the 2011 NCPA Digest to compare and contrast the
    revenues, gross profit margins, operating expenses and net operating
    incomes of these three industries.

       Table 2.--Industry vs. Small Distributor. Percentage of Revenues, Expenses, Gross Margins  and Net Margins
    ----------------------------------------------------------------------------------------------------------------
                                                                  NCPA  Industry              NCPD  Small
        Proforma Categories      HDMA industry  Avg.--   Avg. %     Avg.--Small    Avg. %    Distributors    Avg. %
                                    Wholesalers \1\                Pharmacy \2\                  Avg.
    ----------------------------------------------------------------------------------------------------------------
                                                        Revenues
    ----------------------------------------------------------------------------------------------------------------
    Rx Sales Per Location             $2,615,865,364     100.00%      $3,698,748   100.00%      $7,500,000   100.00%
    ----------------------------------------------------------------------------------------------------------------
    Cost of Goods Sold                $2,528,757,047      96.67%      $2,812,250    76.00%      $5,625,000    75.00%
    ----------------------------------------------------------------------------------------------------------------
    Gross Margin $ Sales After           $87,108,317       3.33%        $886,498    24.00%      $1,875,000    25.00%
     All Discounts
    ----------------------------------------------------------------------------------------------------------------
    Gross Margin % After All                   3.33%                      23.97%                    25.00%
     Discounts
    ----------------------------------------------------------------------------------------------------------------
                                                        Expenses
    ----------------------------------------------------------------------------------------------------------------
    Payroll Expense                      $15,845,003      18.19%        $110,812    12.50%        $215,625    11.50%
    ----------------------------------------------------------------------------------------------------------------
    Payroll Taxes, Workers                $3,188,164       3.66%         $17,730     2.00%         $37,500     2.00%
     Comp, Empl. Benefits
    ----------------------------------------------------------------------------------------------------------------
    Total Payroll Expenses               $19,033,167      21.85%        $128,542    14.50%        $253,125    13.50%
    ----------------------------------------------------------------------------------------------------------------
    Administrative Expense                  $409,409       0.47%              $0     0.00%              $0     0.00%
    ----------------------------------------------------------------------------------------------------------------
    Sales and Marketing Expense             $226,482       0.26%          $4,432     0.50%          $8,438     0.45%
    ----------------------------------------------------------------------------------------------------------------
    Buying Expense                           $17,422       0.02%              $0     0.00%              $0     0.00%
    ----------------------------------------------------------------------------------------------------------------
    Insurance                                     $0       0.00%          $2,659     0.30%          $9,375     0.50%
    ----------------------------------------------------------------------------------------------------------------
    Supplies, Storage and Ship                    $0       0.00%          $4,432     0.50%         $12,188     0.65%
     Containers, Packing,
     Labels
    ----------------------------------------------------------------------------------------------------------------
    Postage                                       $0       0.00%            $886     0.10%          $3,563     0.19%
    ----------------------------------------------------------------------------------------------------------------
    Shipping and Delivery                   $261,325       0.30%          $3,546     0.40%         $12,188     0.65%
    ----------------------------------------------------------------------------------------------------------------
    Information and Technology              $182,927       0.21%          $3,546     0.40%          $5,625     0.30%
    ----------------------------------------------------------------------------------------------------------------
    Rent                                    $130,662       0.15%         $10,638     1.20%         $71,250     0.95%
    ----------------------------------------------------------------------------------------------------------------
    Utilities amd Telephone                       $0       0.00%          $3,546     0.40%          $9,375     0.50%
    ----------------------------------------------------------------------------------------------------------------
    Contract and Chargeback                  $17,422       0.02%              $0     0.00%              $0     0.00%
    ----------------------------------------------------------------------------------------------------------------
    Pedigree Authentication                       $0       0.00%              $0     0.00%         $42,188     2.25%
    ----------------------------------------------------------------------------------------------------------------
    Licensure, Bonds and                          $0       0.00%              $0     0.00%         $15,000     0.80%
     Compliance
    ----------------------------------------------------------------------------------------------------------------
    Other Operating Expense                       $0       0.00%         $23,935     2.70%         $28,125     1.50%
    ----------------------------------------------------------------------------------------------------------------
    Total Operating Expense              $31,247,820       1.19%        $776,737    21.00%      $1,668,000    22.24%
     (includes some lines not
     broken out separately
     above)
    ----------------------------------------------------------------------------------------------------------------
    Net Operating Income \3\             $55,860,497       2.13%        $110,962     3.00%        $207,000     2.76%
    ----------------------------------------------------------------------------------------------------------------
    \1\ Center for Healthcare Supply Chain Research 2011-2012 HDMA Factbook (Pg. 19-24, 51).
    \2\ National Community Pharmacy Association 2011 NCPA Digest Sponsored by Cardinal Health.
    \3\ Center for Healthcare Supply chain Research 2011-2012 HDMA Factbook (Table 20).

        Small distributors are very competitive with their pricing for
    products and services particularly geographically--close proximity to
    their distribution centers. For extreme situations where FedEx Air
    overnight deliver is provided, they face the possibility of the
    shipping, handling, packaging and related delivery costs to be more
    expensive than the actual drug itself. Many members have reported that
    the large distributors have discounts of 80 percent or more off
    delivery schedules. Patient safety is their first concern when
    requested to ship an emergency drug. Consistent temperature, humidity
    and quality control is vital for a critical, life-saving drug to be
    delivered to provide immediate benefits to a patient. They have
    experienced high quality warehouse advocates that provide excellent
    quality control when a hospital expects reliable, safe and secure drugs
    to be delivered just-in-time to save a patient. This manual processing
    from the receipt to the delivery of the emergency drug falls outside
    the normal cost of the division.
        Small distributors have been inaccurately portrayed when it comes
    to the price of products. As I noted before, secondary distributors pay
    the highest prices for drugs in the entire U.S. supply chain--sometimes
    as much as 91 percent more than one of the traditional wholesalers
    would ultimately pay for the same product. What's more, many people
    will look at a pedigree and compare the cost a distributor paid for a
    drug to the price he sold it for and assume the entire amount was
    pocketed as profit. That's the furthest thing from the truth. The
    reality is that the pedigree does not show how much was spent on things
    like shipping, which can be much more expensive than the drug itself if
    the hospital needs it delivered overnight.
        Every small distributor knows that the hospitals they work with are
    going to comparison shop. If a hospital doesn't like the price that one
    secondary distributor quotes to them, they will call another. Or, if
    they need it right away and can't risk losing it, they will buy it, but
    will find another secondary distributor to work with moving forward.
    They are free to move their account elsewhere, so secondary
    distributors have to remain competitive and will often sacrifice their
    own profit margins to make sure they keep a customer.

        Question 1a. How does our pricing work and does it contributes to
    the ``questionable'' gray market activities?
        Answer. Pharmaceutical pricing is complex and difficult to
    understand; because of this the investigative reports and ``gray
    market'' reports have unfairly and incorrectly discounted the value of
    small pharmaceutical distributors that operate inside of authorized
    distribution networks. Let's talk about the layers of this business and
    the service each layer provides.

      (1)  Drug manufacturers discover patent, study, create, market and
            sell various drugs. Manufacturers build a service fee into
            their product price to recoup their cost.

      (2)  Authorized Distributors of Record's (ADRs) negotiate with drug
            manufacturers in order to buy large quantities of drugs at
            extremely low prices. ADRs buy from multiple manufacturers.
            When a hospital wants to buy certain drugs and does not want to
            be constrained by manufacturer product lines, they buy from
            ADRs. The best ADRs have strong negotiating power allowing them
            to offer low prices and multiple manufacturer product
            portfolios to customers. ADRs build a service fee into their
            price to account for their negotiation and marketing work.

      (3)  Pharmaceutical Distributors such as our NCPD members buy bulk
            product from manufacturers and ADRs. Some of us just sell the
            product in its original container. Others re-package and/or re-
            label product in accordance with current good manufacturing
            procedures and are regulated by the FDA and DEA. When product
            is repackaged from bulk bottles and placed into individual
            count bottles, many FDA quality regulations are mandatory.
            These quality regulations are not applicable to pharmacies,
            such as those referred to in the report entitled ``Shining
            Light on the Gray Market'' prepared and presented July 25, 2012
            at the Senate Committee on Commerce, Science, and
            Transportation. Also, our companies service locations with
            little to no buying power. Many rural area clinics and doctor's
            offices, for example, are precluded from buying manufacturer
            direct or from an ADR because they do not purchase sufficient
            quantities of product. Our companies cater to these clients and
            ensure that they receive quality, safe products; we are an
            integral part of the supply chain. Pharmaceutical Distributors
            build a service fee into their price to account for their
            operational, administrative and labor costs for sourcing,
            purchasing, regulatory compliance to pedigree, storage,
            handling, special packaging, labeling, quality checking,
            marketing and distribution services. Higher costs are incurred
            for special situations that involve life-saving, critical,
            short supply drugs.

      (4)  The service provided by each layer is necessary and an increased
            price is a necessary corollary arising from the layers; each
            layer must be compensated for their service.

      (5)  So why are the reports saying that pharmaceutical distributors
            are price gougers? Despite the fact that pharmaceutical
            distributors provide quality, necessary services, the media has
            skewed the world's view of pharmaceutical distributors. For
            instance, Premier Healthcare Alliance report published in 2011
            incorrectly calculated the percent markup charged by small
            distributors overstating the high-end by 3,804 percentage
            points or 521 percent. ``Many people mistakenly believe that
            distributors that deal in medicines have greater negotiating
            power than they really do. This isn't like a car dealership,
            where people generally don't have to pay MSRP because of dealer
            incentives and rebates. In health care, small distributors must
            pay what's called a Wholesale Acquisition Cost that is many
            times greater than what the GPOs have negotiated. When you
            compare the cost a small distributor must pay for a medicine to
            the final price it charges a hospital, you find that the gross
            profit margin is often in a very reasonable range. It is not
            the 1,400 percent markup you find when you compare to GPO
            numbers--a practice that is misleading and doesn't represent
            the complexities of the health care market. GPOs have created a
            market that is anticompetitive and exclusionary, which actually
            leads to shortages and higher prices on alternative products in
            times of market disruptions. The fact that the numbers in the
            original report were so drastically miscalculated indicates
            that it is another unjustified attack on the business integrity
            of small distributors. It was disingenuous for Premier
            Purchasing Partners who created and understand the system
            better than anyone, to point their fingers at small
            distributors, which must pay significantly higher prices for
            the same products to serve health care providers.

      (6)  Stories about a few ``bad actors, fake pharmacies and fake
            distributors'' have tainted the gray market debate. During 2005
            and 2006, rogue companies in Florida took advantage of a flawed
            regulatory system and introduced counterfeits and unsafe
            practices into the U.S. pharmaceutical supply chain. NCPD was
            founded to represent the wellbeing and interests of reputable
            small distributors. We worked to help enact Federal
            legislations to revamp the Nation's chain of custody laws for
            drugs. A new system was put in place to make sure that our
            supply chain was safe from the criminals that could open a
            storefront, buy drugs off the street and resell them without
            any regard for patient safety or regulations. In order to fix
            the system, we need to look at all the links in the system, the
            manufacturers who bid for contracts and cannot supply, the
            traditional wholesalers who have a fragile supply chain with
            just-in-time inventory and no safety stock, and especially the
            group purchasing organizations that are protected by anti-
            kickback and safe harbor exemptions which create a smokescreen
            intended to prevent simple comparisons of GPO vs. non-GPO
            prices. As a knee jerk reaction to fix that 2005-2006 crisis
            and to make sure that we put some standards into place, we saw
            the manufacturers, the traditional wholesalers and the group
            purchasing organizations tighten their relationships.

      (7)  The FDA instituted the pedigree requirements that any
            distributor that did not buy from the manufacturer direct would
            have to create a pedigree record and authenticate that chain of
            custody all the way back to the manufacturer. The manufacturers
            then exempted Authorized Distributors of Record from the
            pedigree statutes. Manufacturers subjectively terminated all
            secondary distributors' direct accounts unless the distributor
            was a member of the legacy association, HDMA, representing
            large, traditional, full-line distributor and manufacturers.
            HDMA, at that time, decided to pare down their membership to
            only the top 20-30 distributors that could meet their stringent
            financial requirements. The group purchasing organizations
            pared down their list of authorized distributors to the ones
            with direct contracts with manufacturers. The traditional
            wholesaler's, who had done business with the smaller
            distributors over the last 20 some years, were given fee for
            services and inventory management agreements from the
            manufacturers and from their GPO partners. All three of the
            large wholesalers then blocked sales to the secondary
            distributors because they would lose their rights to purchase
            hospitals products and to sell into the large GPO members
            hospitals. Small independent distributors were essentially
            denied access, restricted, blocked and tackled from every
            direction, and the only source of product suppliers that they
            could buy from were small manufacturers that could not play in
            the GPO contracts, small generic manufacturers that could not
            win the large GPO contracts, (note that many of those suppliers
            went out of business or picked up new products that did not
            compete with the GPO manufacturers) thus leaving no safety net
            suppliers for products in the supply chain. The secondary
            distributors were on an island and their only source of support
            and trading partners were each other. They have seen millions
            of dollars evaporate off their shelves and balance sheets.
            Secondary distributors, by comparison, are often family-owned
            businesses. The companies try to obtain their products from the
            manufacturer, where permitted, and use a traditional wholesaler
            that is an ADR and from other trusted, well-known distributors,
            just like them. Secondary distributors, so called because they
            fill a need when a hospital's primary wholesaler cannot fill
            it, are a beneficial, integrated and official part of the
            authorized distribution network. They are required to pay much
            higher prices than traditional distributors, are excluded from
            GPO contracts, and restricted from filing for chargeback
            differentials with the manufacturer when a hospital has a GPO
            contract and buys off-contract with a secondary distributor.
            Their customers understand they will not get the GPO pricing,
            but know the service may help, or even save a patient. They are
            the safety-net in the market, ensuring quality medications
            reach a patient in the safest, fastest and most cost-effective
            way possible.

        Question 2. You state in your written testimony that NCPD members
    report fake pharmacies they uncover. How often do you come across these
    fake or ``shell'' pharmacies? Is action taken to shut them down when
    reported?
        Answer. As we stated earlier in this response, NCPD represents and
    promotes the interests and priorities of small and independent
    pharmaceutical distributors before legislatures, regulatory
    organizations, industry partners and the community at large by
    advocating sound and responsible public policy. In this manner, NCPD is
    committed to preserve the well-being of its members; to ensure
    distribution system efficiency; and to strengthen the pharmaceutical
    supply chain to the greatest degree possible.
        NCPD was founded in 2006 as a voluntary, horizontal, member-
    directed association that succeeds in differentiating the participants
    by a common set of guiding principals for self-governance. New members
    are accepted after being vetted by a membership steering committee. The
    criteria for vetting a new member may include, but is not be limited
    to:

       Do they meet all industry regulatory standards for licensing
            and business practices?

       Do they adhere to provisions of Prescription Drug Marketing
            Act for handling, packaging, storage, and shipping of drugs?

       Are they in full compliance with all governing federal,
            state and local laws?

       Provides pedigree and authenticates its inventory according
            to state statutes.

       Approved through VAWD certification, when applicable to
            business model.

       Follows cGMP guidelines from FDA in packaging, mail order
            and covered facilities.

       Employs mutual-nondisclosure agreements to meet anti-trust
            thresholds.

       Does business only with other licensed distributors or that
            meet their stringent customer inspection and monitoring
            policies.

       Have Standard Operating Procedures for diversion control and
            suspicious ordering reporting.

       Have rigorous governance policies in place to ensure
            internal and external practices for fair treatment of customers
            and employees.

       Legal aspects of the association will be carefully monitored
            by Board. When pricing and group purchasing are discussed, we
            abide by the provisions of Robinson-Patman Act and other anti-
            trust regulations pertaining to competitive activities.

       Member companies are independent of other member companies
            in all other respects--and transactions are strictly
            confidential.

       All member's business information, volumes, pricing, and
            supplier information are kept confidential.

       Members must approve release of any information.

       NCPD recognizes that most aspects of the supplier/member
            relationship remain under the individual member's full control.

        In addition to the criteria above that we may use to evaluate and
    approve new members, each of our members has their own due diligence
    process when they accept new customers. That process follows certain
    specific PDMA, DEA and State Board of Pharmacy licensing criteria
    whereby the customer:

       If a Retail Pharmacy, Physician Office or Healthcare Clinic,
            it meets all DEA and state licensing and regulatory practices.

       Requires a physical inspection of pharmacy sites.

       If a Distributor, adheres to provisions of Prescription Drug
            Marketing Act for packaging, storage, and shipping and other
            applicable requirements.

       Is in full compliance with all governing federal, state and
            local laws.

       Provides pedigree and authenticates its inventory according
            to state statutes.

       Approved through VAWD certification, when applicable to
            business model.

       Follows cGMP guidelines from FDA in packaging, mail order
            and covered facilities.

        As we said above, NCPD is a voluntary, member-directed association
    and is not a regulatory enforcement agency. However, NCPD does provide
    our members with the most recent Federal, State and local legislative
    and regulatory updates to keep them up-to-date on the best practices of
    the industry. We have Annual Meetings to educate members on current
    trends and regulatory practices. When we receive notices of a
    counterfeit, adulteration, fake pharmacy or any unlawful or illegal
    activity that affects our membership, we have an immediate notification
    process in place to make sure the information gets to the NCPD members
    and, if applicable to the regulatory agencies involved.