CVS 2010 Annual Report Download - page 58

Notes to Consolidated Financial Statements
The PSS determines whether it is the principal or agent for its retail pharmacy network transactions on a contract by contract
basis. In the majority of its contracts, the PSS has determined it is the principal due to it: (i) being the primary obligor in the
arrangement, (ii) having latitude in establishing the price, changing the product or performing part of the service, (iii) having
discretion in supplier selection, (iv) having involvement in the determination of product or service specifications and (v) having
credit risk. The PSS’ obligations under its client contracts for which revenues are reported using the gross method are separate
and distinct from its obligations to the third party pharmacies included in its retail pharmacy network contracts. Pursuant to these
contracts, the PSS is contractually required to pay the third party pharmacies in its retail pharmacy network for products sold,
regardless of whether the PSS is paid by its clients. The PSS’ responsibilities under its client contracts typically include validating
eligibility and coverage levels, communicating the prescription price and the co-payments due to the third party retail pharmacy,
identifying possible adverse drug interactions for the pharmacist to address with the physician prior to dispensing, suggesting
clinically appropriate generic alternatives where appropriate and approving the prescription for dispensing. Although the PSS
does not have credit risk with respect to Retail Co-Payments, management believes that all of the other indicators of gross revenue
reporting are present. For contracts under which the PSS acts as an agent, the PSS records revenues using the net method.
Drug Discounts – The PSS deducts from its revenues any rebates, inclusive of discounts and fees, earned by its clients. The
PSS pays rebates to its clients in accordance with the terms of its client contracts, which are normally based on fixed rebates per
prescription for specific products dispensed or a percentage of manufacturer discounts received for specific products dispensed.
The liability for rebates due to the PSS’ clients is included in “Claims and discounts payable” in the accompanying consolidated
balance sheets.
Medicare Part D – The PSS participates in the Federal Government’s Medicare Part D program as a Prescription Drug Plan
(“PDP”). The PSS’ net revenues include insurance premiums earned by the PDP, which are determined based on the PDP’s
annual bid and related contractual arrangements with the Centers for Medicare and Medicaid Services (“CMS”). The insurance
premiums include a beneficiary premium, which is the responsibility of the PDP member, but is subsidized by CMS in the case
of low-income members, and a direct premium paid by CMS. Premiums collected in advance are initially deferred in accrued
expenses and are then recognized in net revenues over the period in which members are entitled to receive benefits.
In addition to these premiums, the PSS’ net revenues include co-payments, deductibles and co-insurance (collectively, the
“Member Co-Payments”) related to PDP members’ actual prescription claims. In certain cases, CMS subsidizes a portion of
these Member Co-Payments and pays the PSS an estimated prospective Member Co-Payment subsidy amount each month.
The prospective Member Co-Payment subsidy amounts received from CMS are also included in the PSS’ net revenues. The
Company assumes no risk for these amounts, which represented 2.6%, 3.5% and 1.3% of consolidated net revenues in 2010,
2009 and 2008, respectively. If the prospective Member Co-Payment subsidies received differ from the amounts based on
actual prescription claims, the difference is recorded in either accounts receivable or accrued expenses.
The PSS accounts for CMS obligations and Member Co-Payments (including the amounts subsidized by CMS) using the gross
method consistent with its revenue recognition policies for Mail Co-Payments and Retail Co-Payments (discussed previously in
this document). See Note 7 for additional information about Medicare Part D.
Retail Pharmacy Segment – The RPS recognizes revenue from the sale of merchandise (other than prescription drugs) at the
time the merchandise is purchased by the retail customer. Revenue from the sale of prescription drugs is recognized at the time
the prescription is filled, which is or approximates when the retail customer picks up the prescription. Customer returns are not
material. Revenue generated from the performance of services in the RPS’ health care clinics is recognized at the time the services
are performed. See Note 13 for additional information about the revenues of the Company’s business segments.
COST OF REVENUES:
Pharmacy Services Segment – The PSS’ cost of revenues includes: (i) the cost of prescription drugs sold during the reporting
period directly through its mail service pharmacies and indirectly through its retail pharmacy network, (ii) shipping and handling
costs and (iii) the operating costs of its mail service pharmacies and client service operations and related information technology
support costs including depreciation and amortization. The cost of prescription drugs sold component of cost of revenues includes:
(i) the cost of the prescription drugs purchased from manufacturers or distributors and shipped to members in clients’ benefit
plans from the PSS’ mail service pharmacies, net of any volume-related or other discounts (see “Drug Discounts” previously in
this document) and (ii) the cost of prescription drugs sold (including Retail Co-Payments) through the PSS’ retail pharmacy
network under contracts where it is the principal, net of any volume-related or other discounts.
– 54 –
CVS Caremark 2010 Annual Report