Article

The challenges of gross-to-net functions in life sciences

Nov. 21, 2023 · Authored by Timothy J. Nugent, Jeff K. Clayton

There are a myriad of challenges and considerations pharmaceutical manufacturers experience in financial reporting, as well as formulating major business decisions relevant to product pricing, commercial contracting and assessing the impact of new legislations or changes in the distribution channel. One critical and common aspect that poses significant challenges is developing a strong gross-to-net (GTN) function. GTN represents the difference between a pharmaceutical manufacturer's gross sales revenue and the net revenue that is recognized after accounting for various sales deductions and adjustments. This process is crucial for understanding the true financial performance of a pharmaceutical product and recognizing revenue appropriately, but it is laden with complexities and uncertainties. The following explores some of the major challenges faced by pharmaceutical manufacturers in accurately calculating, reporting, and relying on gross-to-net figures.

Revenue recognition points

One of the primary challenges associated with GTN is ensuring an in-depth understanding of the various revenue recognition points (RRP) within the distribution channel while also considering compliance with revenue recognition accounting standards such as ASC 606 and/or IFRS -15 (Revenue from Contracts with Customers). Revenue recognition refers to the process of identifying when and how revenue should be recognized in a company's financial statements. For pharmaceutical manufacturers, revenue recognition is typically complex due to a variety of factors such as sales discounts, rebates, chargebacks, product returns and other contractual obligations that can impact net revenue. The various RRP within the distribution channel are key to determining the appropriate timing and estimation methodologies for the various commercial and government sales deductions and adjustments a company is subject to, which also significantly impact revenue recognition.

The challenge of cost

Understanding costs within the product supply channel also creates major challenges in calculating gross-to-net. These challenges stem from the intricate and evolving nature of the pharmaceutical market. Manufacturers must navigate a multitude of pricing contracts and rebate programs with various stakeholders, such as government payers, private insurers, pharmacy benefit managers (PBMs) and wholesalers. Each of these entities has different reimbursement mechanisms, formulary requirements and pricing agreements that impact final net revenue. Tracking and accounting for the costs associated with these contracts and programs can be difficult and often requires a sophisticated set of assumptions and processes to forecast, true-up and adjust forecasting methods on an ongoing basis while ensuring compliance and accuracy.