Costco is under investigation by an Ontario government forensic team that specializes in "allegations of wrongdoing against government" after the retail giant received $1.2 million in potentially illegal payments from a generic drugmaker, The Fifth Estate has learned.

The revelation follows guilty pleas of professional misconduct in front of the Ontario College of Pharmacists from two pharmacy executives with the company known for its bulk deals and rock bottom pharmacy dispensing fees.

The college accused Joseph Hanna and Lawrence Varga of demanding illegal payments from the generic drug company Ranbaxy.

Hanna and Varga said the demands could "reasonably be regarded by members of the profession as unprofessional," according to statements from them that were included in the college's decision.

Each pharmacist was fined $20,000 and ordered to pay $30,000 in costs.

At the time of the fine, in January 2018, Costco had collected $1.2 million in potentially illegal payments from the drug company and so far has been allowed to keep that money.

Tony Gagliese was a salesman with Ranbaxy Pharmaceuticals. (CBC)

Tony Gagliese, a salesman with Ranbaxy Pharmaceuticals at the time, blew the whistle on the company by filing a complaint with the Ontario College of Pharmacists.

"I basically said: 'I don't understand what's going on,' " Gagliese told The Fifth Estate in an exclusive television interview.

"Costco always followed the law and suddenly you're breaking the law from my understanding and no one is here to help me."

'I prefer to call it a kickback'

The allegations stem from a questionable industrywide practice that inflates the price of generic drugs, known as pharmacy rebates.

"You call it a rebate. I prefer to call it a kickback," says Amir Attaran, a professor of medicine and law at the University of Ottawa.

Pharmacy chains sometimes demand a payment from a generic drug company to stock its brand of drugs.

Most provinces allow rebates, but Ontario made them entirely illegal in 2013 in an effort to drive down the overall price of generic drugs.

Canadians are really seriously gouged on the price of generic drugs. - Amir Attaran

If pharmacy chains stopped demanding rebates, the province argued, then generic drug companies could afford to lower the price of drugs for Canadians.

Canadians pay some of the highest generic drug prices in the world, with last year's spending estimated at nearly $6 billion. A large percentage of that — likely billions of dollars — went directly to pharmacy chains in the form of rebate payments.

"Canadians are really seriously gouged on the price of generic drugs," says Attaran.

"That's largely because in the price of a drug in Canada there's not just the drug. There's a portion of the price that goes to the pharmacy in the form of a rebate or a kickback."

Law upheld

Various players in the industry launched challenges to Ontario's law.

In upholding the law in 2013, the Supreme Court of Canada called rebates a "tenacious problem" and said manufacturers have been "charging exceptionally high prices for generic drugs flowing not from the actual cost of the drugs, but from the manufacturers' cost in providing financial incentives to pharmacies to induce them to purchase their products."

The Fifth Estate has learned Ontario's Forensic Investigation Team, or FIT, launched its investigation into Costco in the fall of 2017.

Costco says its lower dispensing fees saved its customers in Ontario more than $16.4 million in 2014. (David Donnelly/CBC)

That came after Gagliese turned his evidence over to the province. Then the Forensic Investigation Team called him for a meeting.

"What I was told, and I quote: 'Help us Tony to put together a ... case against Costco,' " says Gagliese.

FIT is a provincial team independent of Ontario's Ministry of Health and Long-Term Care that investigates financial issues and "allegations of wrongdoing against government," according to the head of the team in a speech.

It conducts civil investigations and can pass its findings on to law enforcement for followup criminal investigations.

Practice stopped

The Fifth Estate has seen emails confirming FIT's involvement.

"The ministry has engaged the Forensic Investigation Team to conduct a second phase of investigation," wrote David Schachow, director for the Drug Programs Delivery Branch with Ontario's Ministry of Health.

When asked about FIT's involvement, the Health Ministry says it "is unable to provide further information about ongoing inspection or investigation activities."

Costco CEO Craig Jelinek and its top Canadian executive, Andrée Brien, both declined to be interviewed by The Fifth Estate.

In a statement, Brien says it didn't believe any of the payments were illegal at the time, that it stopped the practice after its own internal investigation and the payments it demanded were ultimately good for consumers because it could use the money to lower their prices.

Secret tapes

At the heart of the Costco case is a phone call Gagliese secretly recorded between himself and Hanna, Costco's national director of drug buying.

The Fifth Estate has obtained a copy of that recording.

Hanna began the conversation, recorded in February 2014, by telling Gagliese that Ranbaxy wasn't paying Costco enough money to keep his products on its shelves.

He wants a higher percentage of Ranbaxy's generic drug sales in what would be considered a rebate.

"My analysis essentially shows that your support is approximately, and I might be off by a couple per cent or I might be off by a lot more if you tell me differently, around 46-ish per cent," Hanna said.

"Here's sort of what I'm going to kind of tell you, if you want to compete, it's going to have to be sort of 60 [per cent] plus," Hanna told Gagliese.

It was obvious to me that they weren't interested in following the law. - Tony Gagliese

Gagliese says the request raised an alarm for him.

"They asked for a 60 per cent rebate retroactive to April [2013] and I pointed out to them it's illegal [in Ontario] what you're asking for," Gagliese told The Fifth Estate.

"It was obvious to me that they weren't interested in following the law."

Costco says Gagliese "used the recordings and the threat of proceedings as leverage to try and force Costco to purchase additional generic drugs from the company he represented."

The University of Ottawa's Amir Attaran calls Gagliese a hero.

"I think he's behaved in a selfless and heroic way," he says.

"He has shed light on one of the murkier sides of the pharmaceutical business. Costco has been caught with its hand in the till. Clearly."

'Marketing support'

Costco wanted Ranbaxy to pay $3.6 million in total, in exchange for $6 million in Canadian sales.

In Ontario, Costco wanted Ranbaxy to make the payments by investing in what Costco called its "advertising and customer education programs."

On the secret tapes, Hanna lays out how Ranbaxy can make the payments for its sales in the rest of Canada, where rebates are legal, versus Ontario, where they aren't.

In Ontario, instead of using the term rebate, Hanna says Ranbaxy can pay up to $1.3 million for what he calls "marketing support."

The remaining $2.3 million can be paid as a straight rebate. If Ranbaxy refused to pay, Costco's Hanna says the company could lose its business with the retail giant.

"This is what I would like to see and this is a minimum to ensure that, not ensure but a minimum to greatly reduce the likelihood of somebody eating your business," Hanna said.

No guidance, Costco says

Hanna also declined an interview request from The Fifth Estate.

In an email to The Fifth Estate, he says he had no idea the payments he was asking for would be considered an illegal rebate in Ontario and that neither the Ontario College of Pharmacists nor the province had provided any guidance on the issue.

Neither I, nor Costco, would ever knowingly accept a payment that was prohibited. - Joseph Hanna

"I genuinely believed at the time Ranbaxy made the payments in question that they were permissible," he says. "Neither I, nor Costco, would ever knowingly accept a payment that was prohibited."

Hanna says that the secretly recorded phone call does not appear to be "complete" and that "a number of other conversations that provide context … have not been provided."

Amir Attaran, a professor of medicine and law at the University of Ottawa, says Gagliese has 'shed light on one of the murkier sides of the pharmaceutical business.' (CBC)

In one of those conversations, Hanna says he told Gagliese that he "did not believe the payment was a rebate."

Hanna also says he personally did not receive any of the funds in question.

In her email, Brien, Costco's top Canadian executive, says the company stopped the payment scheme in Ontario immediately after it did its own internal investigation and not because of any "finding of wrongdoing" on its part but because it wants "further clarification from the Ontario government."

Brien also points out that in its decision, the College of Pharmacists says the Costco executives were "operating in a legal environment that was not crystal clear" and that the payments were not "rebates on their face."

Funds not used to 'line our pockets'

"We acknowledge that the advertising payment received from Ranbaxy was considered to be a rebate by the college in the particular circumstances of the case," she says.

"However, where advertising fees are charged, we have not used these funds to 'line our pockets' while we continue to charge high fees. To the contrary, payments received for advertising are used to defray our operating costs to allow us to pass the savings on to our customers."

Costco says its lower dispensing fees saved its customers in Ontario more than $16.4 million in 2014.

Both Costco pharmacy executives who pleaded guilty to professional misconduct continue to act in their senior roles with the company.

Costco pharmacy executive Joseph Hanna says he 'genuinely believed' at the time Ranbaxy made the payments that they were legal. (CBC)

Gagliese, on the other hand, has been unable to find work as a drug salesperson since going public.

Without the secretly record audio tape, he believes Costco would not be under scrutiny right now.

"I think without the tape, nothing would've happened. I think that the tape is the only reason why Costco decided to plead guilty," he says.

"You can't debate the tape. I didn't ask him, I didn't set him up, he told me how to pay him, so Costco's story is in that tape."