Top Risk Areas for Internal Audit: Life Sciences

In 2025, the life sciences industry will continue to face heightened scrutiny and evolving regulations, particularly in the realm of commercial operations. Drug pricing, GTN calculations, and broader industry practices are under intense examination by federal governmental bodies and the public.

With legislative changes, such as the Inflation Reduction Act of 2022 (IRA) and regulatory actions targeting anticompetitive behaviors, life sciences companies must navigate a complex landscape. Further, the Trump administration and Republican-controlled Congress could bring new challenges and potential regulation modifications.

Understanding the key risks affecting the industry underscores the need for robust internal audit functions to validate compliance, financial accuracy, and strategic agility amid shifting priorities.

Drug pricing

Scrutiny from both the federal government and the public to better manage costs and reduce drug prices led to the passage of the IRA. Key drug pricing provisions within the legislation include mandating price negotiations for certain drugs with Medicare, imposing rebates for price hikes that exceed inflation under Medicare Part B and Part D, and replacing the Medicare Part D coverage gap discount program with a new discounting initiative.

In August 2024, the Biden administration announced the prices for the first 10 prescription drugs subject to negotiations between pharmaceutical companies and Medicare, marking a significant step in making expensive medications more affordable for older Americans. The Biden administration projected that Medicare enrollees would save $1.5 billion in out-of-pocket costs.

In addition to pharmaceutical companies, the federal government’s focus has also shifted to pricing practices of pharmacy benefit managers (PBMs), specifically practices that the federal government deems anticompetitive in nature. Consistent with actions taken against companies in other industries, the Federal Trade Commission (FTC) brought a lawsuit against the three largest PBMs in the U.S. as well as their affiliated group purchasing organizations (GPOs) for engaging in what the government alleges to be anticompetitive and unfair rebating practices.

The FTC identified vertical integration between the largest PBMs and pharmacies as one of the biggest factors in driving up costs and limiting patient access. The FTC found that the top three PBMs processed nearly 80% of all prescriptions dispensed by U.S. pharmacies in 2023, and pharmacies affiliated with the three largest PBMs now account for nearly 70% of all specialty drug revenue. The FTC also found that PBMs offer higher reimbursement rates to pharmacies with which they are affiliated, which drives up out-of-pocket costs for patients.

The Trump administration and a Republican-controlled Congress could amend, repeal, or alter provisions of the IRA, particularly those related to Medicare drug pricing negotiations and price control mechanisms. A rollback or modification of Medicare drug price negotiations could create uncertainty for pharmaceutical companies in their pricing strategies and GTN accounting. Reduced government intervention in drug pricing could increase focus on market-driven pricing models, with potential regulatory changes.

As well, regulators might impose conflict-of-interest rules on these types of practices to prohibit favoritism by the PBMs to their affiliated pharmacies, among other methods used by PBMs to steer patients and prescriptions to their pharmacies.

Potential internal audit efforts for 2025:

• Enterprise risk assessment. Assess how the organization and its leadership are thinking through changes in the industry landscape and the risks they present to the company and its ability to achieve its strategic objectives.
• GTN accounting consulting review. Assess how the organization is thinking about the impacts of the IRA from a GTN accounting perspective. While many smaller pharmaceutical companies will not be affected by the Medicare pricing negotiations, other IRA provisions such as the inflationary rebate and Medicare Part D redesign will have impacts across the industry.
• Third-party vendor review, focused on PBMs. Perform an internal audit of PBM relationships to determine compliance with key terms and conditions and to review pricing and payment structures.
• Third-party vendor review, focused on GPOs. Conduct an internal audit of GPO relationships. These reviews should be focused on key terms and conditions, adherence to key performance indicators, volume discounts, drug inclusion and exclusion, and hospital interactions.

GTN calculations

As one of the largest estimates on the financial statements, numerous variables can have a substantial impact on how life sciences manufacturers account for GTN reserves, and many of those variables are outside of manufacturers’ control. Private health plans and the PBMs that negotiate on their behalf continue to exercise their significant leverage to manage access and use while extracting higher rebates from manufacturers.

The IRA likely will precipitate this situation further through the redesign of the Medicare Part D discount program, in which prescription drug plans will need to contribute a much larger share of overall prescription drug costs than they currently do for Medicare Part D beneficiaries.

In turn, manufacturers can expect that PBMs will try to pass that additional cost back down to the manufacturers wherever possible, either through formulary exclusion, step edits, or other negotiating tactics. With these ever-changing industry forces, being able to reliably estimate and report GTN reserves becomes an increasing challenge for life sciences companies. This unpredictability is further compounded by the fact that much of the GTN estimation process still happens in manual spreadsheets with few automation solutions available.

Potential internal audit efforts for 2025:

• GTN accounting consulting review. Assess how the company is managing the risks around accurately calculating its GTN reserves. Identify potential opportunities to automate GTN estimation processes.
• Third-party contract compliance. Assess how rebates and chargeback claims are processed and reviewed, including the accuracy of those claims submitted by customers and PBMs.

Clinical trials and R&D

The ability to innovate and sustain a robust pipeline of new products remains a fundamental factor of success. Clinical trials and research and development (R&D) activities are pivotal in addressing unmet medical needs and ensuring the longevity of product portfolios, especially as patent protections expire.

In recent years, the industry has witnessed a strategic pivot toward oncology and rare diseases alongside a resurgence in R&D funding. The integration of technologies such as AI into the drug discovery and development process signifies a transformative phase that promises enhanced efficiency and precision in medical advancements.

As product patents expire and lose market exclusivity, life sciences companies should replenish their product portfolio with new and innovative products that address unmet medical needs among patients. Funding for R&D and deal activity saw an uptick in 2024 after a sharp decline during the COVID-19 pandemic and the years that followed. If inflationary conditions trend downward in 2025, that investment and spending could continue to increase.

In addition, biopharma companies likely will continue to focus on improving their return on those investments, identifying opportunities where technology and AI can facilitate the drug discovery and development process. To date, companies are deploying AI to identify novel compounds and improve knowledge of diseases to better focus R&D efforts on precision medicine.

Potential internal audit efforts for 2025:

• Clinical trial review. Assess how the organization manages its clinical trial operations in its budgeting and forecasting process, how it handles spend, and if it achieves compliance with existing regulations.
• Third-party contract compliance. Evaluate whether clinical research organizations are operating in compliance with existing contract agreements and expectations.
• AI governance review. Assess how the organization is deploying AI within its clinical trial operations and managing its risk.
• Internal control design and review of R&D controls. Understand how R&D is being developed and how it aligns to multiple clinical trials and products.

In today’s interconnected global marketplace, supply chain logistics serve as a critical backbone for organizational success. The landscape is fraught with logistical challenges that threaten operational continuity. From transportation delays and port congestion to infrastructure failures, these disruptions are exacerbated by geopolitical tensions, climate change, and shifting trade regulations. Addressing these risks is essential for maintaining smooth operations and preserving organizational resilience.

Logistics disruptions

In the global marketplace, efficient supply chain logistics are vital for organizational success. Logistics disruptions – such as transportation delays, port congestions, and infrastructure failures – pose significant risks to operational continuity.

So far in 2025, these disruptions are intensifying. Shifts in trade policies, particularly a return to America-first manufacturing policies, could disrupt global supply chains for pharmaceuticals, active pharmaceutical ingredients, and medical devices. Specifically, tariff increases on China could drive up costs for pharmaceutical ingredients and medical devices. In response to policy changes, the federal government could offer potential reshoring incentives for U.S. manufacturing of critical drugs and active ingredients, and geopolitical tensions and sanctions could further restrict supply chains, requiring companies to diversify sourcing strategies.

Logistics disruptions often lead to inventory shortages, increased costs, and failure to meet customer demands and ultimately affect revenue and brand reputation. The just-in-time inventory models and lean supply chains adopted by many organizations magnify the effects of any logistical hiccups. Dependence on global suppliers further exposes companies to regional disruptions, making logistics risk a critical concern that can ripple through every facet of the business.

Potential internal audit efforts for 2025:

• Assess supply chain vulnerabilities. Identify how the operations supply chain teams consider critical points in the logistics network that are susceptible to disruptions and evaluate the potential impact on operations.
• Evaluate business continuity plans. Review and test the effectiveness of existing contingency plans related to logistics and supply chain interruptions.
• Conduct supplier resilience internal audits. Examine the risk management practices of key suppliers, focusing on their ability to withstand and respond to logistics disruptions.
• Analyze inventory management strategies. Validate that inventory policies adequately mitigate the risk of supply shortages, including evaluating safety stock levels and alternative sourcing options.
• Review technology integration. Assess the reliability and security of logistics technologies, such as internet of things devices and transportation management systems, to prevent and detect disruptions.
• Monitor regulatory compliance. Stay informed about changes in trade laws, tariffs, and transportation regulations that could affect logistics operations to maintain compliance and adaptability.
• Conduct scenario planning exercises. Facilitate simulations and stress tests to evaluate the organization’s preparedness for various logistics disruption scenarios.

As private equity firms increase their presence in the life sciences sector, the acquisitions involved create a complex landscape of opportunities and challenges for the acquired companies. The influence of private equity investments extends beyond just financial support, ushering in strategic transformations that can affect research, operations, and organizational culture. As this trend continues, life sciences companies must strategically manage these changes to succeed in the long term.

Private equity and life sciences companies

When a private equity firm invests in a life sciences company, the effects can be transformative and multifaceted. From the perspective of the life sciences company, one of the most immediate and significant impacts is the influx of capital. This financial boost can be pivotal in accelerating research and development efforts, expanding product pipelines, and enhancing operational capabilities. With increased funding, the company can pursue ambitious projects, invest in cutting-edge technologies, and attract top-tier talent, all of which are essential for innovation and for maintaining a competitive edge in the highly dynamic life sciences sector.

However, the investment also brings a shift in strategic focus and operational dynamics. Private equity firms typically seek to optimize the financial performance of their portfolio companies, which can lead to a heightened emphasis on efficiency, cost management, and profitability. This process often involves implementing rigorous performance metrics, streamlining processes, and potentially restructuring certain aspects of the business.

While these changes can lead to significant improvements in operational efficiency and financial health, they also can introduce challenges such as cultural shifts and increased pressure on management and staff to meet short-term financial targets. Balancing the long-term nature of scientific research and development with the private equity firm’s expectations for timely returns requires careful strategic alignment and effective communication. Overall, while private equity investment can provide substantial growth opportunities and resources, it necessitates a thoughtful approach to integration and change management to yield sustainable success.

Potential internal audit efforts for 2025:

• Integration audit. Conduct an integration audit to assess how well the company is integrating with the private equity firm’s portfolio following an investment. This audit examines areas such as cultural alignment, process harmonization, technology system combinations, and achievement of integration milestones, and it can help execute a smooth transition and realization of synergies. Further, internal auditors could be the catalyst for system development cycle-type audits of new systems and be involved in the transition of the acquired organization’s enterprise resource planning systems to the acquiree.
• Operational audit. Evaluate the efficiency and effectiveness of the company’s operations with an operational audit. This audit examines processes, procedures, and controls to identify opportunities for improvement, cost savings, and enhanced productivity. After an acquisition, this audit can help align the company’s operations with the private equity firm’s performance expectations.
• Risk management audit. Identify and evaluate the risks that the company faces with a risk management audit that includes financial, operational, strategic, and compliance risks. This audit assesses the effectiveness of the company’s risk management framework and recommends improvements to mitigate identified risks, which is particularly important in the dynamic environment following an acquisition.