Costco is under investigation for an alleged kickback scheme where it demanded a drug company pay more than a million dollars to get its medications stocked at the giant store chain’s pharmacies.

The Ontario College of Pharmacists began its probe after a sales rep for generic drugmaker Ranbaxy filed a complaint accusing Costco of squeezing out nearly $1.3 million in unlawful rebates.

At the heart of the complaint is a secretly recorded phone conversation of a Costco director explaining to a drug company sales rep how much the drug company would have to pay to “greatly reduce the likelihood of somebody eating your business.”

Costco, in its response to the complaint, has said the contentious payments from Ranbaxy were for “advertising fees” and were not connected to its decision to buy specific medications from the drug company.

In Ontario, it’s illegal for pharmacies to receive any direct or indirect rebate from a drug company.

But outside the province, generic drugmakers routinely pay pharmacies a percentage of the cost of their drugs to induce them to stock their products. These rebates are sometimes upwards of 80 per cent.

For example, if the pharmacy buys a pill from a pharmaceutical company for $1, the drugmaker could rebate the pharmacy 80 cents. This would make the actual cost for the pharmacy 20 cents — about a fifth of what will ultimately be charged to a consumer or their insurance company.

For Costco in Canada, these payments amount to millions of dollars a year.

In his complaint to the pharmacist’s regulatory college, sales rep Tony Gagliese alleges the wholesale Costco chain required Ranbaxy to pay “renamed” rebates on its Ontario sales through pricey “clinic support or marketing initiatives” in order to circumvent the law.

“(Costco said) the company that pays the most will win the most listings,” Gagliese’s complaint alleges.

In Costco’s written response to the complaint, lawyer Jill Daley told the College the company followed provincial law and any rebate payments were based solely on purchases for locations outside of Ontario.

In addition to lawful rebates, lawyer Daley said Ranbaxy paid the retailer $1.266 million in “advertising fees” that went toward services offered at Costco’s pharmacy clinics.

“Advertising services were not in connection with the purchase and sale of any specific drug product,” Costco’s lawyer said.

The complaint is against two Costco pharmacy directors: pharmacists Joseph Hanna and Lawrence Varga.

The Star obtained a copy of the complaint file, including recordings of a phone conversation between Gagliese and Hanna, Costco’s director of Rx Buying in charge of choosing generic drug suppliers for the company’s pharmacies across Canada.

In the recording, pharmacist Hanna tells the drug company rep he would like “a minimum” of 60 per cent of Ranbaxy’s total sales to the Costco chain reimbursed back to the company.

For an estimated $6 million in total sales in 2014, he explains, Costco would want $3.6 million.

“As a rough estimate, let’s say that $2.5 of that $6 million is in Ontario and $3.5 is in the rest of Canada,” he says.

“Obviously, I cannot take $3.6 million of support on $3.5 million of sales.”

Hanna proceeds to describe different ways the payments could be split up: as much as $2.8 million in rebates from sales outside of Ontario and “$800,000 to $1.3 million in marketing initiatives.”

These initiatives, he explains, could be either through clinic support services at Costco pharmacies or an ad package in the Wellness Connection, a magazine published by the retailer.

Ranbaxy ultimately sold more than $5.5 million of generic drugs to Costco in 2014. The pharma company paid the retailer nearly $1.8 million in rebates for sales outside of Ontario and another $1.266 million for advertising fees and clinic support.

“Costco has clearly improperly characterized rebates as marketing services and clinic services,” Gagliese, a pharmacist, wrote in his complaint to the College.

“I am now certain beyond a shadow of a doubt that Costco Senior Management had a role in the development of this plan to enrich Costco financially.”

Gagliese told the Star he would not comment beyond what was in his written complaint.

When reached by phone, Costco’s Hanna declined to comment. A Costco spokesman said both Hanna and Varga are co-operating fully with the College’s investigation and provided responses to the investigator.

Costco’s Ron Damiani said in a statement: “The responses are solely for use in the ongoing investigation and should not have been disclosed to (the Star). For these reasons, we are sure you will understand the information contained in the responses should not be disseminated or published.”

Loading... Loading... Loading... Loading... Loading... Loading...

He said Costco “will not be addressing further questions outside of the College’s process.”

For now, all sides are waiting for the College to act. Once its investigators are done poring through the case, the regulator will decide on how to proceed, from dismissing the matter to moving it forward to a public disciplinary hearing.

A College spokeswoman would not comment on specifics about the Costco complaint, saying it is a confidential process.

The Ontario government banned direct rebates in 2006 as part of efforts to reduce the cost of generic drugs. Four years later, the province cracked down on the indirect “professional allowances,” payments the then health minister called part of a “scheme to enrich pharmacies.”

Indirect rebates were officially banned in 2013. That year, an Ontario pharmacist had his licence suspended for 15 months after pleading guilty to the “professional misconduct” of requesting and accepting rebates from drug companies.

In its disciplinary decision, the College of Pharmacists called the misconduct “disgraceful, dishonourable and unprofessional” and said it reduced the credibility of pharmacists in the eyes of the public.

In his complaint against Costco, Gagliese says Ranbaxy reluctantly paid the money because Costco “had threatened our company that other manufacturers were paying this amount and our business was at risk if we did not comply.”

In the recorded conversation, Hanna tells Gagliese that the drug company’s “support” — an industry term for payments such as rebates — was hovering too low at around 46 per cent of total sales.

“If we’re going to have somebody eating somebody else’s lunch, essentially everybody who is above 60 is going to eat everybody who is below 50,” Hanna says in the recording.

But Costco maintains in its filings to the College that the same audio recording shows Costco’s Hanna was not seeking rebates for its Ontario purchases.

While on the phone, Hanna realizes that a significant chunk of Ranbaxy’s business with Costco is a single drug — atorvastatin, the generic version of cholesterol-lowering drug Lipitor — supplied only to the Ontario pharmacies, not all of Canada.

“Well, that is why you can’t give me that much, can you?” Hanna says in the recording, later adding, “You could give me a lot more if you had (atorvastatin) nationally.”

In its filings to the College, Costco said the “statements make clear that Mr. Hanna confirmed that financial support is prohibited as it related to the sales and purchases of Ranbaxy’s atorvastatin in Ontario.”

“No improper rebate payments were received for Ontario sales and purchases.”

In the fall of 2014, Gagliese instructed Ranbaxy to stop making all rebate payments to Costco, even lawful ones, because the company showed no intention of ending rebates off Ontario sales, he alleges in his complaint.

A few months later, in January 2015, Costco decided not to renew its listings for two major Ranbaxy products, including the generic of Lipitor. Costco later terminated its supplier agreement with Ranbaxy.

The company said its decision was based in part on “the lack of financial support from Ranbaxy,” but also over concerns regarding past problems found by U.S. inspectors in some of the drug manufacturer’s Indian facilities.

Costco said Gagliese’s complaints to the company and the College arose only after their commercial relationship disintegrated.

Contact Jesse McLean at 416-869-4147 or jmclean@thestar.ca

Read more about: