As pharmaceutical manufacturers continue to impose restrictions on the use of 340B pricing for drugs dispensed through contract pharmacies, hospitals and health systems participating in the 340B Drug Pricing Program have been forced to explore creative alternatives to maintain access to the program’s benefits. One such workaround has been the development of so-called “alternative distribution models” – or ADMs – in which the 340B-purchased drug is initially delivered directly to the covered entity, who takes physical possession of the drug, and then transferred to the contract pharmacy.
While these models seek to preserve the core value proposition of 340B in the face of manufacturer-imposed limitations, they raise a host of legal, compliance, and operational risks—particularly around redistribution, drug wholesaling, and state and federal supply chain requirements. This article explores the rise of these models, how they differ from traditional contract pharmacy arrangements, and the key risks that covered entities and contract pharmacies must manage when participating in an ADM.
I. Background: Contract Pharmacy Restrictions and Legal Fallout
Beginning in 2020, a number of drug manufacturers—including Eli Lilly, AstraZeneca, Sanofi, and others—began unilaterally restricting access to 340B pricing for drugs shipped to contract pharmacies. These restrictions varied in scope but often required covered entities to designate a single contract pharmacy or to submit extensive claims data to manufacturers as a condition of continued access.
The Health Resources and Services Administration (HRSA) initially attempted to push back by issuing enforcement letters and initiating the 340B Administrative Dispute Resolution (ADR) process. However, federal courts subsequently ruled in favor of the manufacturers in several high-profile cases, including Eli Lilly v. Becerra and AstraZeneca v. HHS, finding that the 340B statute does not clearly prohibit manufacturers from conditioning access to contract pharmacy arrangements. While several states have since passed legislation aimed at protecting the ability of contract pharmacies to obtain 340B products (which have been the subject of their own litigations), these rulings nevertheless have largely left covered entities without a regulatory remedy to restore unrestricted access to contract pharmacy use.
II. Anatomy of an Alternative Distribution Model
In the wake of these legal setbacks, some covered entities have adopted ADMs as a workaround. While these models have many variations, archetypical ADMs involve covered entities making purchases of 340B-priced drugs directly from the manufacturer or primary wholesaler, and taking physical possession of the drugs—either at an on-site pharmacy, warehouse, or secure storage location. The covered entity then physically transfers the drugs to one or more contract pharmacies for use in dispensing prescriptions to eligible patients. When the contract pharmacy receives this inventory, it must segregate this 340B inventory from all other stock to avoid diversion and ensure 340B compliance. This approach differs fundamentally from traditional replenishment-based models, which typically involve a virtual inventory tracked through split-billing software, with the product drop-shipped directly from the wholesaler to the pharmacy under a bill-to/ship-to arrangement.
III. Legal and Regulatory Risks of ADMs
Given the unique regulatory nature of the 340B program, along with the intersection of pharmacy dispensing and drug wholesaling, there are numerous legal, regulatory and contractual risks associated with ADMs. These range from 340B program compliance risks, wholesaler license considerations, manufacturer pushback, and compliance risks with payor agreements.
- 340B Program Compliance Risks
The 340B statute prohibits diversion of discounted drugs to ineligible patients. With ADM models, the physical movement of drugs dramatically increases the risk of commingling or misallocation unless strict inventory controls are in place. Covered entities must maintain clear records demonstrating that each unit of 340B inventory transferred to the contract pharmacy was ultimately dispensed to a 340B-eligible patient. If HRSA were to scrutinize these practices, any misstep could be construed as a violation of program rules, especially since the model does not align with traditional virtual inventory replenishment frameworks that HRSA guidance has implicitly endorsed. Moreover, the 340B statute contains language explicitly providing that a covered entity shall not resell or otherwise transfer the drug to a person who is not a patient of the entity, and thus, there is potential risk that HRSA could interpret these physical transfers as prohibited “resales,” even if the product were ultimately dispensed to eligible patients.
- State Drug Wholesaling Laws
By purchasing and then physically transferring the drugs to another pharmacy, covered entities may be engaging in “wholesaling” activity under state law, potentially requiring a state drug wholesaler license. Many states define drug wholesaling broadly and require an entity that transfers prescription drugs to a third party to hold a wholesaler license—even if there is no markup or resale. Some states may have exemptions for transfers between health system affiliates or for de minimis transfers from one licensed pharmacy to another, but such exemptions are often narrow and are unlikely to cover the redistribution of 340B inventory from health system pharmacies to independent contract pharmacies. As such, covered entities need to evaluate whether they must become licensed as a drug wholesaler in each state into which they are shipping 340B inventory.
- Drug Supply Chain Security Act (DSCSA) Compliance
In that same vein, covered entities must ensure compliance with federal rules regarding drug distribution, including the Drug Supply Chain Security Act (DSCSA). The DSCSA requires a wholesaler to provide “T3” product tracing documentation (i.e., Transaction Information, Transaction History, and Transaction Statement) each time a drug is transferred from one party to another in the supply chain. By taking physical possession and physically transferring product to the contract pharmacies, covered entities may be acting as direct trading partners with the contract pharmacies, and must ensure that they are able to generate and transfer compliant T3 documentation. Failure to comply with DSCSA obligations could trigger enforcement action from the FDA and jeopardize the integrity of the supply chain.
- Manufacturer and Distributor Pushback
Having already pushed back on contract pharmacy arrangements by imposing certain restrictions, manufacturers may view ADMs as a circumvention tactic and could seek to aggressively audit or challenge ADMs on the basis that it is resulting in unlawful diversion. In some cases, wholesalers may also scrutinize or push back on these models, particularly if they believe the covered entity’s handling of the product violates contract terms within the covered entity’s vendor agreement (such as an “own use” provision) or runs afoul of DSCSA requirements.
- PBM and Payor Implications
Finally, covered entities should be mindful of the risks they face from PBMs for participating in ADMs. Many PBM manuals require network pharmacies to purchase drugs from NABP-accredited wholesalers or authorized distributors of record as listed by the manufacturer. PBMs may take issue with pharmacies billing for drugs they did not procure directly from a manufacturer or authorized wholesaler, particularly where the covered entity does not hold NABP accreditation as PBM’s contract terms require that drugs be obtained from “authorized distributors” or “recognized sources.
IV. Conclusion
As HRSA, state boards of pharmacy, and other relevant authorities with a duty to oversee the 340B program continue to increase scrutiny over 340B drug distribution practices, covered entities implementing alternative distribution models should be ready for increased compliance related audits and investigations. Frier Levitt regularly represents hospitals and health system pharmacies in seeking to navigate the complexities of these arrangements. Contact us to speak with an attorney.
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