Medicare Part B Drugs: Program Payments Should Reflect Market	 
Prices (21-SEP-01, GAO-01-1142T).				 
								 
The pricing of Medicare's part B-covered prescription		 
drugs--largely drugs that cannot be administered by patients	 
themselves--has been under scrutiny for years. Most of the part B
drugs with the highest Medicare payments and billing volume fall 
into three categories: those that are billed for by physicians	 
and typically provided in a physician office setting, those that 
are billed for by pharmacy suppliers and administered through a  
durable medical equipment (DME) item, and those that are also	 
billed by pharmacy suppliers but are patient-administered and	 
covered explicitly by statute. Studies show that Medicare	 
sometimes pays physicians and other providers significantly more 
than their actual costs for the drugs. In September 2000, the	 
Health Care Financing Administration's (HCFA)--now the Centers	 
for Medicare and Medicaid Services--took steps to reduce	 
Medicare's payment for part B-covered drugs by authorizing	 
Medicare carriers, the contractors that pay part B claims, to use
prices obtained in the Justice Department investigations of	 
providers' drug acquisition costs. HFCA retracted this authority 
in November 2000 after providers raised concerns. GAO found that 
Medicare's method for establishing drug payments is flawed.	 
Medicare pays 95 percent of the average wholesale price (AWP),	 
which, despite its name, may be neither an average nor what	 
wholesalers charge. It is a price that manufacturers derive using
their own criteria; there are no requirements or conventions that
AWP reflect the price of any actual sale of drugs by a		 
manufacturer. Manufacturers report AWPs to organizations that	 
publish them in drug price compendia, and Medicare carriers that 
pay claims for part B drugs base providers' payments on the	 
published AWPs. In 2001, widely available prices at which	 
providers could purchase drugs were substantially below AWP, on  
which Medicare payments are based. For both physician-billed	 
drugs and pharmacy supplier-billed drugs, Medicare payments often
far exceeded widely available prices. Physicians and pharmacy	 
suppliers contend that the excess payments for covered drugs are 
necessary to offset what they claim are inappropriately low or	 
nonexistent Medicare payments for services related to these	 
drugs. For delivery pharmacy supplier-billed drugs, Medicare's	 
payment policies are uneven. Pharmacy suppliers billing Medicare 
receive a dispensing fee for one drug type--inhalation therapy	 
drugs--but there are no similar payments for other		 
DME-administered or oral drugs. Other payers and purchasers, such
as health plans and the Department of Veterans Affairs, use	 
different approaches to pay for or purchase drugs that may be	 
instructive for Medicare. In general, they make use of the	 
leverage from their volume and competition to secure better	 
prices. 							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-01-1142T					        
    ACCNO:   A01969						        
  TITLE:     Medicare Part B Drugs: Program Payments Should Reflect   
             Market Prices                                                    
     DATE:   09/21/2001 
  SUBJECT:   Billing procedures 				 
	     Drugs						 
	     Health care programs				 
	     Health insurance cost control			 
	     Prices and pricing 				 
	     Federal Supply Schedule				 
	     Medicare Program					 

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GAO-01-1142T
     
Testimony Before the Subcommittee on Health and the Subcommittee on
Oversight and Investigations, Committee on Energy and Commerce, House of
Representatives

United States General Accounting Office

GAO For Release on Delivery Expected at 9: 30 a. m. Friday, September 21,
2001 MEDICARE PART B

DRUGS Program Payments Should Reflect Market Prices

Statement of William J. Scanlon Director, Health Care Issues

GAO- 01- 1142T

Page 1 GAO- 01- 1142T

Messrs. Chairmen and Members of the Subcommittees: I am pleased to be here
as you discuss the pricing of Medicare?s part Bcovered prescription drugs.
The pricing of these drugs- largely drugs that cannot be administered by
patients themselves- has been under scrutiny for several years. Most of the
part B drugs with the highest Medicare payments and billing volume fall into
three categories: those that are billed for by physicians and typically
provided in a physician office setting (such as chemotherapy drugs), 1 those
that are billed for by pharmacy suppliers and administered through a durable
medical equipment (DME) item (such as a respiratory drug given in
conjunction with a nebulizer 2 ), and those that are also billed by pharmacy
suppliers but are patient- administered and covered explicitly by statute. 3
Studies by the Department of Justice, the Department of Health and Human
Services? (HHS) Office of the Inspector General (OIG), and the House
Committee on Commerce show that Medicare?s payment for these drugs in some
cases is significantly higher than the actual costs to the physicians and
other providers who bill Medicare for these products.

In September 2000, the Health Care Financing Administration (HCFA)- now the
Centers for Medicare and Medicaid Services (CMS) 4 -took steps to reduce
Medicare?s payment for part B- covered drugs by authorizing Medicare
carriers, the contractors that pay part B claims, to use prices obtained in
the Justice Department investigations of providers? drug acquisition costs.
HCFA retracted this authority in November 2000 following concerns raised by
providers. In December 2000, as part of recent Medicare legislation, 5 the
Congress asked us to study Medicare?s payments for part B- covered drugs and
make recommendations for pricing

1 In the case of chemotherapy drugs, the common practice is for a nurse to
provide the services to administer the drug and for the physician to bill
Medicare accordingly. 2 A nebulizer is a device driven by a compressed air
machine. It allows the patient to take medicine in the form of a mist (wet
aerosol). 3 Medicare- covered drugs and biologicals that can be self-
administered include such drugs as blood clotting factors and some oral
drugs used in association with cancer treatment and immunosuppressive
therapy.

4 Our statement refers to HCFA when discussing actions it took under that
name. 5 The Medicare, Medicaid, and SCHIP Benefits Improvement and
Protection Act of 2000 (P. L. 106- 554, Appendix F).

Page 2 GAO- 01- 1142T

methodology refinements. We have reported our findings and made
recommendations, as mandated, today. 6

My remarks today will focus on (1) Medicare payment policies to cover part
B- covered drug costs and costs of administering the drugs and (2) key
features of other payers? reimbursement policies that suggest opportunities
to improve the appropriateness of Medicare?s payments. My comments are based
primarily on our study of Medicare payments for part B- covered drugs and a
forthcoming study of physicians? practice expense payments under Medicare?s
fee schedule.

In summary, our study shows that Medicare?s method for establishing drug
payments is flawed. Medicare pays 95 percent of the average wholesale price
(AWP), which, despite its name, may be neither an average nor what
wholesalers charge. It is a price that manufacturers derive using their own
criteria; there are no requirements or conventions that AWP reflect the
price of any actual sale of drugs by a manufacturer. Manufacturers report
AWPs to organizations that publish them in drug price compendia, and
Medicare carriers that pay claims for part B drugs base providers? payments
on the published AWPs.

We found that, in 2001, widely available prices at which providers could
purchase drugs were substantially below AWP, on which Medicare payments are
based. For both physician- billed drugs and pharmacy supplier- billed drugs,
Medicare payments often far exceeded widely available prices. Despite
concerns about what discounts may be available to smaller- volume
purchasers, physicians who billed Medicare for low volumes of drugs reported
receiving discounts from AWP, for most drugs, that were similar to or
greater than those afforded by the widely available prices we documented.

Physicians and pharmacy suppliers contend that the excess payments for
covered drugs are necessary to offset what they claim to be inappropriately
low or no Medicare payments for services related to the administration or
delivery of these drugs. For administering physicianbilled drugs, Medicare
makes explicit payments under the physician fee schedule. Our forthcoming
review of practice expense payments under the fee schedule will make several
points regarding oncologists? payments. It

6 Medicare: Payments for Covered Outpatient Drugs Exceed Providers? Costs
(GAO- 01- 1118, Sept. 21, 2001).

Page 3 GAO- 01- 1142T

will show that Medicare?s payments to these specialists were 8 percent
higher than they would have been if the program?s prior payment method had
remained in place and will show that oncologists? payments relative to their
estimated practice expenses were close to the average for all specialists.
However, we will also show that HCFA made questionable modifications to its
basic method of setting practice expense payments, which resulted in
lowering the average fees paid for the administration of drugs by
physicians? staffs.

For delivering pharmacy supplier- billed drugs, Medicare?s payment policies
are uneven. Pharmacy suppliers billing Medicare receive a dispensing fee for
one drug type- inhalation therapy drugs- but there are no similar payments
for other DME- administered or oral drugs. However, Medicare pays DME
suppliers for the rental or purchase of equipment and supplies, and long-
standing problems in the program?s payments for these items may result in
overpayments that implicitly compensate for some service delivery costs not
covered.

Other payers and purchasers, such as health plans and the Department of
Veterans Affairs (VA), employ different approaches in paying for or
purchasing drugs that may be instructive for Medicare. In general, they make
use of the leverage from their volume and competition to secure better
prices. The federal purchasers, furthermore, use that leverage to secure
verifiable data on actual market transactions to establish their price
schedules. Private payers? practices- such as negotiating prices that result
in selecting certain products or suppliers and arriving at terms without
open competition- would not be easily adaptable to Medicare, given the
program?s size and need to ensure access for providers and beneficiaries.
How other federal agencies have exercised their leverage may offer more
applicable lessons.

The traditional Medicare program does not have a comprehensive outpatient
prescription drug benefit, but under part B (which covers physician and
other outpatient services), it covers roughly 450 Background

Page 4 GAO- 01- 1142T

pharmaceutical products and biologicals. 7 In 1999, spending for Medicare
part B- covered prescription drugs totaled almost $4 billion. 8

A small number of products accounts for the majority of Medicare spending
and billing volume for part B drugs. In 1999, 35 drugs accounted for 82
percent of Medicare spending and 95 percent of the claims volume for these
products. 9 The 35 products included, among others, injectible drugs to
treat cancer, inhalation therapy drugs, and oral immunosuppressive drugs
(such as those used to treat organ transplant patients).

The physician- billed drugs accounted for the largest share of program
spending, while pharmacy supplier- billed drugs constituted the largest
share of the billing volume. Three specialties- hematology oncology, medical
oncology, and urology- submitted claims for 80 percent of total physician
billings for part B drugs. Two inhalation therapy drugs accounted for 88
percent of the Medicare billing volume for pharmacysupplied drugs
administered in a patient?s residence. 10

Medicare?s payment for part B- covered drugs is based on the product?s AWP,
which is a price assigned by the product?s manufacturer and may be neither
?average? nor ?wholesale.? Instead, the AWP is often described as a

?list price,? ?sticker price,? or ?suggested retail price.? The term AWP is
not defined in law or regulation, so the manufacturer is free to set an AWP
at any level, regardless of the actual price paid by purchasers.
Manufacturers periodically report AWPs to publishers of drug pricing data,
such as the Medical Economics Company, Inc., which publishes the Red Book,
and First Data Bank, which compiles the National Drug Data File. In paying
claims, Medicare carriers use published AWPs to

7 For the remainder of this statement, we will refer to ?drugs and
biologicals? as ?drugs.?

8 Spending is defined as Medicare?s total payment, of which Medicare?s share
is 80 percent and the beneficiaries? share is 20 percent. 9 Our analysis
excluded some high- volume and high- expenditure drugs because of inadequate
pricing data. Volume for a drug is measured in terms of the number of units
provided. Analyses exclude data on services supplied in Puerto Rico and the
U. S. Virgin Islands and exclude payments made on behalf of Railroad
Retirement Board beneficiaries.

10 These two drugs are ipratropium bromide and albuterol (unit dose form).
Small Number of Products

Accounts for Largest Shares of Program Spending and Claims Volume

Medicare Payments for Drugs Are Based on Published AWPs

Page 5 GAO- 01- 1142T

determine Medicare?s payment amount, which is 95 percent of AWP. 11 Thus,
given the latitude manufacturers have in setting AWP, these payments may be
unrelated to market prices that physicians and suppliers actually pay for
the products.

The actual price that providers pay for Medicare part B drugs is often not
transparent. Physicians and suppliers may belong to group purchasing
organizations (GPO) that pool the purchasing of multiple entities to
negotiate prices with wholesalers or manufacturers. GPOs may negotiate
different prices for different purchasers, such as physicians, suppliers, or
hospitals. In addition, providers can purchase part B- covered drugs from
general or specialty pharmaceutical wholesalers or can have direct purchase
agreements with manufacturers.

Certain practices involving these various entities can result in prices paid
at the time of sale that do not reflect the final net cost to the purchaser.
Manufacturers or wholesalers may offer purchasers rebates based on the
volume of products purchased not in a single sale but over a period of time.
Manufacturers may also establish ?chargeback? arrangements for end
purchasers, which result in wholesalers? prices overstating what those
purchasers pay. Under these arrangements, the purchaser negotiates a price
with the manufacturer that is lower than the price the wholesaler charges
for the product. The wholesaler provides the product to the purchaser for
the lower negotiated price, and the manufacturer then pays the wholesaler
the difference between the wholesale price and the negotiated price.

11 Technically, the payment equals 95 percent of AWP for the drugs grouped
under each HCFA Common Procedure Coding System (HCPCS) code. Individual
drugs are identified by the National Drug Code (NDC). NDCs are assigned by
the Food and Drug Administration and are the universal product identifiers
for drugs for human use. Each NDC specifies a chemical entity, manufacturer,
dosage form, strength, and package size. For example, a single drug-
marketed by one manufacturer in one form and strength but in three package
sizes- would have three NDCs. Because one HCPCS code may have multiple NDCs,
the carriers determine the Medicare payment by analyzing multiple NDCs?
AWPs. For multisource drugs, the payment allowance is 95 percent of the
lower of (1) the median AWP of all generic forms of the drug or (2) the
lowest brand name product?s AWP. Drug Supply Chain

Involves Multiple Parties and Arrangements That Influence the Net Price to
the End Purchaser

Page 6 GAO- 01- 1142T

For the part B- covered drugs accounting for the bulk of Medicare spending
and claims, Medicare payments in 2001 were almost always considerably higher
than wholesalers? prices that were widely available to physicians and
suppliers. This was true regardless of whether the drugs had competing
products or were available from a single manufacturer. Physicians who billed
Medicare for relatively small quantities of these drugs also obtained
similar prices.

Our study shows that there can be wide disparities between a drug?s
estimated acquisition cost and Medicare?s payment for that drug. Physician-
billed drugs account for the bulk of Medicare spending on part B drugs. Of
those billed by physicians, drugs used to treat cancer accounted for most of
Medicare?s expenditures. Specifically:

 Widely available discounts for 17 of the physician- billed drugs we
examined averaged between 13 percent and 34 percent less than AWP.

 For two other physician- billed drugs, Dolasetron mesylate and Leucovorin
calcium, average discounts were considerably larger- 65 percent and 86
percent less than AWP.

The discounts on physician- billed drugs, based on wholesaler and GPO
catalogue prices, are notably lower than Medicare?s payment, which reflects
a discount of 5 percent below AWP. The discounts indicate that Medicare?s
payments for these drugs were at least $532 million higher than providers?
acquisition costs in 2000. Further, the discounts we report may only be the
starting point for additional discounts provided to certain purchasers, as
chargebacks, rebates, and other discounts may drive down the final sale
price.

Concerns have been expressed that small providers either could not or do not
obtain such favorable prices. Therefore, we surveyed a sample of physicians
who billed Medicare for low volumes of chemotherapy drugs to see if they
were able to obtain similar discounts. 12 All of the low- volume purchasers
who responded to our survey reported obtaining similar or better discounts
than the widely available prices we had documented.

12 We conducted a telephone survey of a sample of physicians who billed
Medicare for a low- volume of cancer treatment drugs in 1999. For more
detail, see GAO- 01- 1118. Medicare?s Payment

for Part B- Covered Drugs Is Significantly Higher Than Prices Widely
Available to Providers

Wide Disparities Exist Between Drug Acquisition Costs and Medicare Payments

Page 7 GAO- 01- 1142T

More than one- third of these physicians reported belonging to GPOs and
obtained the GPOs? substantial discounts, while others said they had
contracts with manufacturers and wholesalers.

As with physician- billed drugs, Medicare?s payments for pharmacy supplier-
billed drugs generally far exceeded the prices available to these suppliers.
For the drugs we examined, Medicare?s payments were at least $483 million
more than what the suppliers paid in 2000. Further, the discounts we report
were largest for products that could be obtained from more than one source.
Inhalation therapy drugs administered through DME and oral immunosuppressive
drugs represent most of the highexpenditure, high- volume drugs billed to
Medicare by suppliers. Specifically:

 Two drugs, albuterol and ipratropium bromide, used with DME for
respiratory conditions, account for most of the pharmacy- supplied drugs
paid for by Medicare. In 2001, they were available to pharmacy suppliers at
prices that averaged, respectively, 85 percent and 78 percent less than AWP.

 Other high- volume DME- administered drugs had prices averaging 69 percent
and 72 percent less than AWP. These findings are consistent with prior
studies of the prices of similar drugs. 13

 Two of the four high- volume oral immunosuppressives were available from
wholesalers with average discounts of 14 percent and 77 percent. Wholesale
price information on the other two was not available, but retail prices from
online pharmacies were as much as 13 percent and 8 percent below AWP.

Medicare payment policies for administering or delivering a drug vary,
depending on who provides the drug to the patient. Physicians are
compensated directly for drug administration through the physician fee
schedule. Pharmacy suppliers are compensated for dispensing inhalation
therapy drugs used with a nebulizer, which make up the majority of their
part B drug claims. No explicit payments are made to pharmacy suppliers for
dispensing other drugs, but they may receive payments for equipment and
supplies associated with DME- administered drugs. Both physicians and
pharmacy suppliers contend that the excess in Medicare?s payments

13 Medicare Reimbursement of Albuterol (HHS OIG, OEI- 03- 00- 00311, June
2000) and Medicare Reimbursement of Prescription Drugs (HHS OIG, OEI- 03-
00- 00310, Jan. 2001). Policies to Pay for Related

Delivery and Administration Services Vary by Provider

Page 8 GAO- 01- 1142T

for part B- covered drugs compensates for related service costs inadequately
reimbursed or not explicitly covered at all.

In prior work on the Medicare physician fee schedule, we concluded that the
agency?s basic method of computing practice expense payments to physicians
was sound. 14 The implementation of this fee schedule, however, has been
controversial. The Congress required that payments be budget neutral
relative to prior spending. Medicare?s physician payments were, in the
aggregate, seemingly adequate, as most physicians were participating in
Medicare and accepting the program?s fees as payment in full. Because of the
budget neutrality requirement, if one specialty?s fees increased on average,
some others would have to decline. Such redistributions have occurred and
some are significant.

Oncologists, who represent the majority of physicians billing for drugs,
argue that Medicare?s payments for administering chemotherapy are
inappropriately low and that the excess Medicare drug payments are needed to
offset their losses. Yet oncology is one of the specialties to gain under
the resource- based physician fee schedule. In our separate study on
physicians? practice expenses under Medicare?s fee schedule, we will show
that payments to oncologists were 8 percent higher than they would have been
if the prior charge- based payment method had been maintained; the study
will also show that oncologists? payments relative to their estimated
practice expenses, which include chemotherapy administration, were close to
the average for all specialties.

While oncologists do not appear disadvantaged overall under the fee
schedule, adjustments HCFA made to the basic method of computing payments
reduced fees for some oncologists? services. In those adjustments, HCFA
modified the basic method in computing payments for services delivered
without direct physician involvement, like much of chemotherapy
administration. The modifications were intended to correct for perceived low
payments for these services. While they increased payments for some of these
services, they lowered them for many others. Moreover, they increased
payments on average for services involving physicians. Oncology payments
were particularly affected, as services without physician involvement
constitute about one- third of oncologists?

14 Practice expenses constitute one of three components in Medicare?s
physician fee schedule. The other two are work and malpractice expenses. For
the physician?s average fee in 1999, practice expenses accounted for about
42 percent; work, about 55 percent; and malpractice, about 3 percent.

Page 9 GAO- 01- 1142T

Medicare- billed services, compared to about 5 percent of all
physicianbilled services. Because of the modifications to the basic method,
oncology practice expense payments for nonphysician chemotherapy
administration were on average 15 percent lower, while payments for
physician- administered services were 1 percent higher, than if HCFA had
used the basic method. Across all services, the modifications resulted in
oncology practice expense payments that were 6 percent lower. 15 Using the
basic method for all services would eliminate these reductions and add about
$31 million to oncology payments. Our study will recommend that CMS revert
to the use of the basic methodology to determine practice expense payments
for all services.

We will also recommend that CMS address a data adjustment it made that
affects oncology payments under the new fee schedule. The agency reduced
oncology?s reported supply expenses to keep from paying twice for drugs that
are reimbursed separately by Medicare. Oncologists acknowledge that the
supply expense estimate needed to be reduced, but argue that the reduction
was too large. We have recommended that the agency develop the appropriate
data to more accurately estimate oncology supply expenses. Substituting a
supply expense estimate based on a methodology developed by the American
Society of Clinical Oncology would raise practice expense payments an
additional $20 million, 16 if done in conjunction with our recommendation to
use the basic method to calculate payments for all services.

Oncologists have raised concerns about whether the data used to estimate
their practice expenses constituted a representative sample of practices
surveyed and whether these data reflect current practices in delivering
services. How improvements in the data to estimate practice expenses may
affect payment levels is uncertain. Payments are based on the differences in
expenses of services of one specialty compared to those of others. Some of
the data concerns raised by oncologists may apply to other specialties as
well, so that additional and more current data may reveal that the relative
cost of one service compared to others may have changed only modestly. We
are conducting a separate study to determine

15 The source for these figures is our analysis of 2001 practice expense
fees, based on 1999 Medicare utilization. 16 The source for these figures is
our analysis of 2001 practice expense fees, based on 1999 Medicare
utilization.

Page 10 GAO- 01- 1142T

how CMS can improve and update the information used to estimate specialties?
practice expenses.

Similar to the physicians who bill for part B drugs, pharmacy suppliers and
their representatives contend that the margin on the Medicare drug payment
is needed to compensate them for costs not covered by Medicare- that is, the
clinical, administrative, and other labor costs associated with delivering
the drug. These include costs for billing and collection; facility and
employee accreditation; licensing and certifications; and providing printed
patient education materials. Medicare pays a dispensing fee of $5.00 for
inhalation therapy drugs used with a nebulizer, which are the vast majority
of the pharmacy- supplied drugs. This fee was instituted in 1994. It is
higher than dispensing fees paid by pharmacy benefit managers, which average
around $2.00, and is comparable to many state Medicaid programs, which range
from $2. 00 to over $6.00. For other pharmacy- supplied drugs, Medicare
makes no explicit payment for dispensing the drug.

Besides the profits on the DME- related drugs, pharmacy suppliers may
receive additional compensation through the payment for DME and related
supplies. Our prior work suggests that, for two reasons, Medicare DME and
supply payments may exceed market prices. 17 First, because of an imprecise
coding system, Medicare carriers cannot determine from the DME claims they
process which specific products the program is paying for. Medicare pays one
fee for all products classified under a single billing code, regardless of
whether their market prices are greatly below or above that fee. 18 Second,
DME fees are often out of line with current market prices. Until recently,
DME fees had generally been adjusted only for inflation because the process
required to change the fees was lengthy and cumbersome. As a result, payment
levels may not reflect changes in technology and other factors that could
significantly change market prices.

17 See Medicare: Need to Overhaul Costly Payment System for Medical
Equipment and Supplies (GAO/ HEHS- 98- 102, May 12, 1998). 18 The equipment
and supply payment is determined from a DME fee schedule, whose rates are
based on a state- specific fee schedule and subject to national minimum and
maximum payment limits. Fees are based on average historical supplier
charges that are adjusted for inflation over time.

Page 11 GAO- 01- 1142T

Private insurers and federal agencies, such as VA, employ different
approaches in paying for or purchasing drugs that may provide useful lessons
for Medicare. In general, these payers make use of the leverage of their
volume and competition to secure better prices. The federal purchasers,
furthermore, use that leverage to secure verifiable data on actual market
transactions to establish their price schedules. Private payers can
negotiate with some suppliers to the exclusion of others and arrive at terms
without clear criteria or a transparent process. This practice would not be
easily adaptable to Medicare, given the program?s size and need to ensure
access for providers and beneficiaries. How other federal agencies have
exercised their leverage may be more instructive and readily adaptable for
Medicare.

VA and certain other government purchasers buy drugs based on actual prices
paid by private purchasers- specifically, on the prices that drug
manufacturers charge their ?most- favored? private customers. 19 In exchange
for being able to sell their drugs to state Medicaid programs, manufacturers
agree to offer VA and other government purchasers drugs at favorable prices,
known as Federal Supply Schedule (FSS) prices. So that VA can determine the
most- favored customer price, manufacturers provide information on price
discounts and rebates offered to domestic customers and the terms and
conditions involved, such as length of contract periods and ordering and
delivery practices. 20 (Manufacturers must also be willing to supply similar
information to CMS to support the data on the average manufacturer?s price,
known as AMP, and best price they report for computing any rebates required
by the Medicaid program.)

VA has been successful in using competitive bidding to obtain even more
favorable prices for certain drugs. Through these competitive bids, VA has
obtained national contracts for selected drugs at prices that are even lower
than FSS prices. These contracts seek to concentrate the agency?s purchase
on one drug within therapeutically equivalent categories for the

19 Under federal procurement regulations, the government seeks to obtain the
price is intended to equal or better the price that the manufacturer offers
its most- favored nonfederal customer under comparable terms and conditions.

20 Because the terms and conditions of commercial sales vary, there may be
legitimate reasons why the government does not always obtain the most-
favored customer price. Hence, under the regulations, VA may accept a higher
price if it determines that (1) the price offered to the government is fair
and reasonable and (2) awarding the contract is otherwise in the best
interest of the government. Other Purchasers?

Practices Are Instructive for Reforming Medicare?s Method of Paying for Part
B- Covered Drugs

Page 12 GAO- 01- 1142T

agency?s national formulary. In 2000, VA contract prices averaged 33 percent
lower than corresponding FSS prices.

Medicare?s use of competition has been restricted to several limited- scale
demonstration projects authorized by the Balanced Budget Act of 1997. In one
of these demonstrations under way in San Antonio, Texas, suppliers bid to
provide nebulizer drugs, such as albuterol, to Medicare beneficiaries. While
Medicare normally allows any qualified provider to participate in the
program, under the demonstration only 11 bidders for nebulizer drugs were
selected to participate. In exchange for restricting their choice of
providers to the 11 selected, beneficiaries are not liable for any
differences between what suppliers charge and what Medicare allows.
Preliminary CMS information on the San Antonio competitive bidding
demonstration suggests no reported problems with access and a savings of
about 26 percent realized for the inhalation drugs.

Our study on Medicare payments for part B drugs shows that Medicare pays
providers much more for these drugs than necessary, given what the providers
likely paid to purchase these drugs from manufacturers, wholesalers, or
other suppliers. Unlike the market- based fees paid by VA and other federal
agencies, Medicare?s fees are based on AWP, which is a manufacturer-
reported price that is not based on actual transactions between seller and
purchaser. Physicians contend that the profits they receive from Medicare?s
payments for part B drugs are needed to compensate for inappropriately low
Medicare fees for most drug administration services. Similarly, the case
argued by some pharmacy suppliers for Medicare?s high drug payments is that
not all of their costs of providing the drugs are covered.

In our view, it should be a principle of Medicare payment policy to pay for
each service appropriately and not to rely on overpayments for some services
to offset inadequate payments for complementary services. If Medicare were
to follow this principle and lessons from other payers in setting fees for
part B drugs, it would use information on actual market prices net of
rebates and discounts- similar to information currently available to VA and
CMS- to establish Medicare payments. It could also determine market- based
fees, where appropriate, through a competitive bidding process. Medicare
would pay for administration and delivery of these drugs separately, as it
does currently for drugs supplied by physicians and for inhalation therapy
drugs. As the way drugs are supplied and administered varies, different
methods of determining payments would be necessary. Paying for these
services explicitly would enable Concluding

Observations

Page 13 GAO- 01- 1142T

Medicare to eliminate implicit payments that may have been made through
excessive payments for DME and the drugs associated with the DME payment. In
our report, we make recommendations reflecting these lessons to revise the
program?s payment methods.

Messrs. Chairmen, this concludes my statement. I would be happy to answer
any questions that you or Subcommittee Members may have.

For more information regarding this testimony, please contact me at (202)
512- 7114 or Laura Dummit at (202) 512- 7119. Other contributors to this
statement include Carol Carter, Iola D?Souza, Hannah Fein, Kathryn Linehan,
and James Mathews.

(290121) Contact and

Acknowledgments
*** End of document. ***