Courts Evaluate the Role of Contract Pharmacies in the 340B Drug Discount Program
Legal Sidebari
Courts Evaluate the Role of Contract
Pharmacies in the 340B Drug Discount
Program
October 13, 2022
Congress created the 340B Drug Discount Program (340B) in 1992 through the Veteran’s Health Care Act
(P.L. 102-585) to enable safety net providers (those that provide health care services to “uninsured,
Medicaid and other vulnerable patients”) to purchase drugs at lower costs. The U.S. Department of Health
and Human Services’ (HHS) Health Resources and Services Administration (HRSA) oversees the
Program. The authorizing statute—Section 340B of the Public Health Service Act—requires drug
manufacturers that participate in Medicaid to offer drugs to “covered entities” at discounted prices.
Covered entities include Federally Qualified Health Centers, children’s hospitals, and other providers that
care for rural and underserved populations. Since its creation, Congress has expanded the Program several
times. HRSA estimates that 340B sales constitute about 7.2% of the U.S. drug market, and reports that in
2020, total Program sales exceeded $38 billion.
The majority of covered entities participating in the 340B Program do not have their own “in house”
pharmacies but use contract pharmacies to ensure their patients have access to affordable outpatient
medications. (A contract pharmacy is an outside pharmacy that is not owned or operated by the covered
entity.) Since 2020, a growing number of drug manufacturers claim that covered entities’ use of contract
pharmacies has increased fraud and abuse and has resulted in duplicate discounts, which are prohibited by
the 340B statute. As a result, several manufacturers have imposed price restrictions on covered entities
that use contract pharmacies to purchase drugs. The restrictions have financial consequences on these
providers, many of whom are now paying thousands of dollars more for 340B drugs. Some in Congress
have encouraged HRSA to act on manufacturers’ refusal to provide 340B discounts to covered entities
that use contract pharmacies. For example, in July 2022, 181 Members of the House of Representatives
signed a letter urging the agency to “take quick action to protect the integrity of the program,” and impose
penalties on manufacturers who imposed conditions on contract pharmacies in violation of the 340B
statute.
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Background
The 340B statute requires the Secretary of HHS to enter into purchase price agreements with drug
manufacturers that participate in the Medicaid Program. These agreements require manufacturers to sell
certain covered drugs at a “ceiling price,” which is calculated based on a statutory formula. The statute
imposes requirements on both drug manufacturers and covered entities. For example, it prohibits covered
entities from receiving duplicate discounts, and manufacturers are subject to civil monetary penalties if
they overcharge for covered drugs. The statute also requires HRSA to ensure that both covered entities
and manufacturers remain in compliance with the 340B Program.
In summer 2020, drug manufacturers began announcing plans to impose restrictions on covered entities
that purchase 340B medications through contract pharmacies. According to an advocacy organization
representing 340B covered entities, there are currently eighteen manufacturers imposing such restrictions
on contract pharmacies. On May 17, 2021, HRSA sent violation letters to several manufacturers notifying
them that the restrictions imposed on covered entities that use contract pharmacies violated the 340B
statute. The agency threatened enforcement action, including civil money penalties, if the manufacturers
failed to return to compliance. Manufacturers have since challenged the violation letters in four federal
district courts across the country.
Litigation over the Violation Letters
A central issue in all of the district court cases is whether HHS acted within the scope of its statutory
authority in issuing violation letters to drug manufacturers that impose 340B pricing restrictions on
contract pharmacies. This question turns on whether HRSA’s interpretation of the 340B statute accords
with the statutory text, the Administrative Procedure Act (APA), and other laws. (Although several
manufacturers argued that the violation letters constituted a taking under the Constitution’s Fifth
Amendment, the courts uniformly dismissed these claims, which are not discussed further in this Sidebar.)
When reviewing an agency’s actions under the APA, courts set aside those that are “arbitrary, capricious,
[or] an abuse of discretion,” actions that are “contrary to a constitutional right, power, privilege, or
immunity,” actions that are taken “in excess of statutory jurisdiction,” or actions conducted “without
observance of procedure required by law,” among other factors. This section explores the parties’ legal
arguments and the courts’ different interpretations of the text, legislative history, and agency’s guidance
documents.
Legal Arguments Surrounding the 340B Statute
Before the district courts, HRSA argued that the statute’s text and legislative history support its reading
that manufacturers are required to offer 340B pricing to covered entities that use contract pharmacies.
HRSA pointed to the statute’s requirements that manufacturers both “offer” and “sell” drugs, which
HRSA contended should include their delivery to contract pharmacies. HRSA argued that because the
statute’s “shall offer” provision lacks language expressly allowing manufacturers to restrict drug sales,
manufacturers could not condition discounts on the covered entities’ distribution method. HRSA also
stated that the legislative history, when read in the context of the statutory text, supported the agency’s
issuance of the violation letters, because Congress’s intent in creating 340B was to enable safety net
providers to purchase drugs at lower costs. Finally, HRSA urged that although its position on its power to
enforce the 340B statute had evolved over time, the agency’s guidance on whether contract pharmacies
are permitted in the Program had remained consistent. HRSA reasoned that such consistency supported its
authority to issue the violation letters.
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Drug manufacturers generally argued that the statutory text, legislative history, and HRSA’s guidance on
contract pharmacies all supported their view that manufacturers may impose conditions on contract
pharmacies and that HRSA acted outside of its statutory authority by issuing the violation letters. The
manufacturers contended that the statute’s plain language did not require them to deliver drugs to an
unlimited number of contract pharmacies because the “shall offer” provision, and specifically the term
“offer,” does not include drug delivery to contract pharmacies. They also pointed to the statute’s failure to
mention contract pharmacies specifically, arguing their actions in restricting sales to covered entities that
use contract pharmacies was permissible, because the statute did not expressly ban it. The manufacturers
also pointed to legislative history to argue that Congress intended for 340B pricing to be limited to
covered entities alone. The manufacturers also provided evidence that the increasing number of contract
pharmacies in recent years had led to fraud and abuse, and they urged that some covered entities were
receiving duplicate discounts in violation of the 340B statute. Finally, the manufacturers alleged that
HRSA issued inconsistent guidance on whether contract pharmacies were permitted by the Program,
which they claimed made the letters “arbitrary and capricious” in violation of the APA.
Courts Setting Aside Violation Letters
Two federal district courts disagreed with HRSA’s position that the 340B statute requires drug
manufacturers to offer 340B discounts to contract pharmacies, holding that HRSA lacked the authority to
issue the violation letters. The courts began with the statute’s text, and particularly its directive that
manufacturers “shall . . . offer each covered entity covered outpatient drugs for purchase at or below the
applicable ceiling price.” In Novartis Pharmaceuticals Corp. v. Espinosa, the U.S. District Court for the
District of Columbia agreed with the U.S. District Court for the District of Delaware in AstraZeneca
Pharmaceuticals LP v. Becerra that “the statute’s silence on [contract pharmacies] suggests that the
statute does not compel any particular outcome with respect to covered entities’ use of pharmacies.” The
D.C. district court further found that HRSA failed to explain how the statute’s plain language allowed
manufacturers to impose some conditions on covered entities, but not others, reasoning that the statute
had no language expressly forbidding manufacturers from imposing conditions on covered entities.
Given the lack of statutory clarity on contract pharmacies, the courts also looked to the legislative history
in concluding that HRSA violated the APA in its interpretation of the 340B statute. In AstraZeneca, the
Delaware district court noted that in 1992, Congress considered adding contract pharmacy-specific
language to the original 340B statute to clarify that 340B discounts apply to drugs “purchased and
dispensed by, or under a contract entered into for on-site pharmaceutical services with” covered entities.
Congress later removed this language, which is not part of the 340B statute. In finding that HHS violated
the APA, the AstraZeneca court stated that the exclusion of this specific language “indicates that Congress
did not clearly intend for drug manufacturers to be required to facilitate sales of covered drugs for
dispensing by an unlimited number of contract pharmacies.”
The courts also pointed to HRSA’s guidance under the 340B statute as evidence that the agency violated
the APA by sending out violation letters. HRSA argued that the guidance documents issued in 1994, 1996,
and 2010 all consistently reflect its “longstanding interpretation of the statute” that covered entities may
use contract pharmacies. But in Novartis, the D.C. district court concluded that the agency’s guidance on
contract pharmacies had shifted over time, and this was evidence that HRSA was trying to “fill a gap in
the statute,” which it did not have the authority to do. Similarly, the Delaware court noted in AstraZeneca
that HRSA’s position on contract pharmacies had evolved and that AstraZeneca’s current policy to restrict
the sale of drugs to contract pharmacies would actually comply with the 1996 guidance. The courts
agreed that HRSA’s interpretation of the 340B statute had changed over time, which they reasoned was
evidence that HRSA violated the APA and lacked the authority to issue the violation letters.
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Courts Upholding Violation Letters
Two other district courts arrived at the opposite conclusion. With respect to the “shall offer” provision, the
U.S. District Court for the Southern District of Indiana concluded in Eli Lilly & Co. v. U.S. HHS that
Congress’s use of general language did not mean that drug manufacturers could condition the sale of
340B drugs to contract pharmacies. The court reasoned that the statute must be interpreted in its context,
and that “the fairest and most reasonable interpretation . . . would not authorize drug manufacturers to
impose unilateral restrictions on the distribution of [340B] drugs.” In Sanofi-Aventis U.S., LLC v. U.S.
HHS, the U.S. District Court for the District of New Jersey agreed, finding that the manufacturers took
the “shall offer” provision “afield of its context” and that at least one contract pharmacy is “permissible as
a drug dispensing mechanism” under the statute.
The Indiana and New Jersey federal district courts also found the legislative history to support HRSA’s
interpretation of the 340B statute with respect to contract pharmacies. Like Novartis and AstraZeneca, the
Eli Lilly court noted that Congress considered adding language specific to contract pharmacies in 1992.
But in Eli Lilly, the Indiana district court concluded, “the fact that Congress once considered but rejected
restricting covered entities’ choice of dispensing mechanism” supported HRSA’s interpretation that
manufacturers may not restrict sales to covered entities that use contract pharmacies. Moreover, in Sanofi-
Aventis, the New Jersey district court agreed that the legislative history supported HRSA’s position,
“most significantly” because Congress had previously considered adding contract pharmacy-specific
language but did not. The court’s opinion notes that the statute, as currently written, does not limit
covered entities’ dispensing mechanisms and “[b]ecause Congress eliminated a clear limitation on
contract pharmacy arrangements in the drafting process, it likely did not intend to prohibit them
altogether.”
Finally, the Sanofi-Aventis court analyzed guidance that HRSA issued on contract pharmacies in 1996 and
2010, finding it supported HRSA’s authority to issue the violation letters. The court reasoned that the
2010 guidance “clarified” 340B hospitals could use contract pharmacies, stating that “from the beginning,
HHS has always affirmatively answered the implicit premise of the letters: contract pharmacies are a
permissible drug delivery system under the 340B statute.” The court dismissed the manufacturers’
arguments that HRSA’s guidance was “legally flawed” and violated the APA because it changed over the
course of thirty years, finding that HRSA’s rationale on contract pharmacies “has remained the same.” In
Eli Lilly, however, the Indiana district court did not go so far. It remanded the violation letters to the
agency, holding that while HRSA had sufficient authority to issue the violation letters, doing so was
arbitrary and capricious because HRSA did not acknowledge it had changed its position on its
enforcement authority under the statute.
Considerations for Congress
Three of the district court cases were appealed to the Courts of Appeals for the Third, Seventh, and D.C.
Circuits. Differing outcomes in these cases could lead to more uncertainty surrounding the 340B Program,
and potentially lead more drug manufacturers to consider whether to restrict covered entities that use
contract pharmacies from 340B drug pricing.
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The federal district court Sanofi-Aventis observed: “[M]any of the issues in this case would be best
addressed were Congress to step in and expressly state its intentions for the direction of the 340B statute,
as well as HHS’ role in administering it.” If Congress considers it appropriate, it could respond in several
ways. Given the statutory ambiguity and its silence on the role of contract pharmacies in the 340B
Program, Congress could amend the 340B statute to clarify the role that contract pharmacies can play in
the Program and whether to impose any additional restrictions on covered entities’ use of contract
pharmacies. Congress could also clarify HRSA’s authority to enforce the statute and any permissible
actions the agency could take in the future for alleged violations.
Author Information
Hannah-Alise Rogers
Legislative Attorney
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