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entitled 'Medicare Part B Drugs: CMS Data Source for Setting Payments 
is Practical but Concerns Remain' which was released on July 13, 2006.

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Testimony:

Before the Subcommittee on Health, Committee on Ways and Means, House 
of Representatives:

United States Government Accountability Office:

GAO:

For Release on Delivery Expected at 1:00 p.m. EDT:

Thursday, July 13, 2006:

Medicare Part B Drugs:

CMS Data Source for Setting Payments Is Practical but Concerns Remain:

Statement of A. Bruce Steinwald:
Director, Health Care:

GAO-06-971T:

GAO Highlights:

Highlights of GAO-06-971T, a testimony before the Subcommittee on 
Health, Committee on Ways and Means, House of Representatives

Why GAO Did This Study:

In 2005, the Centers for Medicare & Medicaid Services (CMS), as 
required by law, began paying for physician-administered Part B drugs 
using information on the drugs’ average sales price (ASP). 
Subsequently, CMS selected ASP as the basis to pay for a subset of Part 
B drugs provided at hospital outpatient departments. To calculate ASP, 
CMS uses price data submitted quarterly by manufacturers. GAO was asked 
to discuss its work on Medicare payment rates for Part B drugs. This 
testimony is based on several GAO products: 

* Medicare Hospital Pharmaceuticals: Survey Shows Price Variation and 
Highlights Data Collection Lessons and Outpatient Rate-Setting 
Challenges for CMS, GAO-06-372, Apr. 28, 2006.

* Medicare: Comments on CMS Proposed 2006 Rates for Specified Covered 
Outpatient Drugs and Radiopharmaceuticals Used in Hospitals, GAO-06-
17R, Oct. 31, 2005.

* Medicare: Payments for Covered Outpatient Drugs Exceed Providers’ 
Costs, GAO-01-1118, Sept. 21, 2001. 

Specifically, GAO’s statement discusses (1) ASP as a practical and 
timely data source for use in setting Medicare Part B drug payment 
rates and (2) components of ASP that are currently unknown and 
implications for Medicare rate-setting. 

What GAO Found:

In summary, using an ASP-based method to set payment rates for Part B 
drugs is a practical approach compared with methods based on 
alternative data sources, for several reasons. First, ASP is based on 
actual transactions and is a better proxy for providers’ acquisition 
costs than average wholesale price or providers’ charges included on 
claims for payment, neither of which is based on transaction data. 
Second, ASPs, which manufacturers update quarterly, offer information 
that is relatively timely for rate-setting purposes. In comparison, 
rates for other Medicare payment systems are based on data that may be 
at least 2 years old. Finally, using manufacturers as the data source 
for prices is preferable to collecting such data from health care 
providers, as the manufacturers have data systems in place to track 
prices, whereas health care providers generally do not have systems 
designed for that purpose. 

CMS lacks certain information about the composition of ASP that 
prompted GAO, in commenting on CMS’s 2006 proposed payment rates for a 
subset of Part B drugs, to call ASP “a black box.” Significantly, CMS 
lacks sufficient information on how manufacturers allocate rebates to 
individual drugs sold in combination with other drugs or other 
products; this is important, as CMS does not have the detail it needs 
to validate the reasonableness of the data underlying the reported 
prices. In addition, CMS does not instruct manufacturers to provide a 
breakdown of price and volume data by purchaser type—that is, by 
physicians, hospitals, other health providers, and wholesalers, which 
purchase drugs for resale to health care providers. As a result, CMS 
cannot determine how well average price data represent acquisition 
costs for different purchaser types. In particular, to the extent that 
some of the sales are to wholesalers that subsequently mark up the 
manufacturer’s price in their sales to providers, the ASP’s 
representation of providers’ acquisition costs is weakened. 
Additionally, a sufficient empirical foundation does not exist for 
setting the payment rate for Medicare Part B drugs at 6 percent above 
ASP, further complicating efforts to determine the appropriateness of 
the rate. Given these information gaps, CMS is not well-positioned to 
validate the accuracy or appropriateness of its ASP-based payment rates.

[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-06-971T].

To view the full product, including the scope and methodology, click on 
the link above. For more information, contact A. Bruce Steinwald at 
(202) 512-7101 or steinwalda@gao.gov.

[End of Section] 

Madam Chairman and Members of the Subcommittee:

I am pleased to be here as you discuss Medicare's method of paying for 
outpatient drugs covered under the program's Part B, the part of 
Medicare that covers a broad range of medical services, including 
physician, laboratory, and hospital outpatient department (HOPD) 
services and durable medical equipment (DME). Part B-covered drugs are 
typically administered by a physician or other medical professional 
rather than by patients themselves. In contrast, drugs covered under 
the new prescription drug benefit, known as Part D, are generally self- 
administered by patients.[Footnote 1] In 2005, Medicare paid more than 
$9 billion for Part B drugs furnished in conjunction with physician 
services, HOPD services, dialysis services, and services performed 
using DME, such as nebulizers.[Footnote 2],[Footnote 3]

Until 2005, Medicare's method of paying physicians for Part B drugs was 
based on the drug's average wholesale price (AWP), which, despite its 
name, was neither an average nor what wholesalers charged.[Footnote 4] 
It was a price that manufacturers derived using their own criteria; 
there were no requirements or conventions that AWP reflect the price of 
an actual sale of drugs by a manufacturer.[Footnote 5] An analysis we 
conducted in 2001 on Part B drug prices found that Medicare's AWP-based 
payments often far exceeded market prices that were widely available to 
health care providers.[Footnote 6]

The Medicare Prescription Drug, Improvement, and Modernization Act of 
2003 (MMA) mandated that, beginning in 2005, payments for physician- 
administered drugs be based on the drug's average sales price (ASP)-- 
that is, an average, calculated from price and volume data reported by 
drug manufacturers, of sales to all U.S. purchasers.[Footnote 7] The 
law directed that ASPs be net of rebates and other price concessions 
and that 2005 payments to physicians for these drugs be set at 106 
percent of ASP.[Footnote 8]

The MMA took a different approach to setting rates for a subset of 
Medicare Part B drugs delivered in the HOPD setting. Prior to the MMA, 
Medicare paid HOPDs for Part B drugs based on hospitals' 1996 median 
costs for these drugs. In response to concerns that payments would not 
reflect the cost of newly introduced pharmaceutical products--such as 
those used to treat cancer or rare blood disorders--1999 legislation 
authorized augmented payments for these drugs on a temporary 
basis.[Footnote 9] Subsequently, the MMA defined a new payment category 
for these drugs called specified covered outpatient drugs (SCOD). The 
MMA required the Centers for Medicare & Medicaid Services (CMS) in the 
Department of Health and Human Services (HHS) to set rates for this 
subset of Part B drugs. Specifically, it directed CMS to set 2006 
payment rates for SCOD products equal to hospitals' average acquisition 
costs--the cost to hospitals of acquiring a product, net of rebates. 
Subsequently, CMS selected ASP as the basis to pay for SCODs provided 
at HOPDs.

In several related requirements, the MMA directed us to provide 
information on SCOD costs and CMS's proposed rates. Among them was a 
requirement to conduct a survey of a large sample of hospitals to 
obtain data on their acquisition costs for SCODs and provide 
information based on these data to the Secretary of Health and Human 
Services for his consideration in setting 2006 Medicare payment 
rates.[Footnote 10] We were also required to evaluate CMS's proposed 
rates for SCODs, comment on their appropriateness in light of the 
survey we conducted, and advise on future data collection efforts by 
CMS based on our survey experience.[Footnote 11] We issued reports in 
2005 and 2006 in response to these requirements, and my remarks about 
ASP are based on that work. Specifically, my remarks today will focus 
on (1) ASP as a practical and timely data source for use in setting 
Medicare Part B drug payment rates and (2) components of ASP that are 
currently unknown and implications for Medicare rate-setting. Our work 
was conducted in accordance with generally accepted government auditing 
standards.

In summary, using an ASP-based method to set payment rates for Part B 
drugs is a practical approach compared with methods based on 
alternative data sources, for several reasons. First, ASP is based on 
actual transactions and is a better proxy for health care providers' 
acquisition costs than AWP or health care providers' charges included 
on claims for payment, neither of which is based on transaction data. 
Second, ASPs, which manufacturers update quarterly, offer information 
that is relatively timely for rate-setting purposes. In comparison, 
rates for other Medicare payment systems are based on data that may be 
at least 2 years old. Finally, using manufacturers as the data source 
for prices is preferable to collecting such data from health care 
providers, as the manufacturers have data systems in place to track 
prices, whereas health care providers generally do not have systems 
designed for that purpose.

Despite these advantages, CMS lacks certain information about the 
composition of ASP that prompted us, in our report commenting on CMS's 
proposed 2006 SCOD rates, to call ASP "a black box."[Footnote 12] 
Significantly, CMS lacks sufficient information on how manufacturers 
allocate rebates to individual drugs sold in combination with other 
drugs or other products; this is important, as CMS does not have the 
detail it needs to validate the reasonableness of the data underlying 
the reported prices. In addition, CMS does not instruct manufacturers 
to provide a breakdown of price and volume data by purchaser type--that 
is, by physicians, hospitals, other health care providers, and 
wholesalers, which purchase drugs for resale to health care providers. 
As a result, CMS cannot determine how well average price data represent 
acquisition costs for different purchaser types. In particular, to the 
extent that some of the sales are to wholesalers that may subsequently 
mark up the manufacturer's price in their sales to health care 
providers, the ASP's representation of providers' acquisition costs is 
weakened. Additionally, a sufficient empirical foundation does not 
exist for setting the payment rate for Medicare Part B drugs at 6 
percent above ASP, further complicating efforts to determine the 
appropriateness of the rate. Given these information gaps, CMS is not 
well-positioned to validate the accuracy or appropriateness of its ASP- 
based payment rates.

Background:

CMS calculates payment rates for each Part B drug with information on 
price data that manufacturers report quarterly to the agency. In 
reporting their price data to CMS, manufacturers are required to 
account for price concessions, such as discounts and rebates, which can 
affect the amount health care providers actually pay for a drug.

ASP Is a Price Measure Established in Law and Calculated with 
Manufacturers' Data:

The MMA defined ASP as the average sales price for all U.S. purchasers 
of a drug, net of volume, prompt pay, and cash discounts; charge-backs 
and rebates. Certain prices, including prices paid by federal 
purchasers, are excluded, as are prices for drugs furnished under 
Medicare Part D. CMS instructs pharmaceutical manufacturers to report 
data to CMS--within 30 days after the end of each quarter--on the 
average sale price for each Part B drug sold by the manufacturer. For 
drugs sold at different strengths and package sizes, manufacturers are 
required to report price and volume data for each product, after 
accounting for price concessions. CMS then aggregates the manufacturer- 
reported ASPs to calculate a national ASP for each drug 
category.[Footnote 13]

Varying Payment Arrangements Affect the Price Purchasers Pay at the 
Time of Sale:

Common drug purchasing arrangements can substantially affect the amount 
health care providers actually pay for a drug. Physicians and hospitals 
may belong to group purchasing organizations (GPO) that negotiate 
prices with wholesalers or manufacturers on behalf of GPO members. GPOs 
may negotiate different prices for different purchasers, such as 
physicians, suppliers of DME, or hospitals. In addition, health care 
providers can purchase covered outpatient drugs from general or 
specialty pharmaceutical wholesalers or can have direct purchase 
agreements with manufacturers. In these arrangements, providers may 
benefit from discounts, rebates, and charge-backs that reduce the 
actual costs providers incur. Discounts are applied at the time of 
purchase, while rebates are paid by manufacturers some time after the 
purchase. Rebates may be based on the number of several different 
products purchased over an extended period of time. Under a charge-back 
arrangement, the provider negotiates a price with the manufacturer that 
is lower than the price the wholesaler normally charges for the 
product, and the provider pays the wholesaler the negotiated price. The 
manufacturer then pays the wholesaler the difference between the 
wholesale price and the price negotiated between the manufacturer and 
the provider.

ASP Is a Practical Payment Approach, Given the Limitations of Other 
Data Sources Available for Rate-Setting:

Using an ASP-based method to set prices for Medicare Part B drugs is a 
practical approach compared with alternative data sources for several 
reasons. First, unlike AWP, ASP is based on actual transactions, making 
it a useful proxy for health care providers' acquisition costs. Whereas 
AWPs were list prices developed by manufacturers and not required to be 
related to market prices that health care providers paid for products, 
ASPs are based on actual sales to purchasers. For similar reasons, 
payments based on ASPs are preferable to those based on providers' 
charges, as charges are made up of costs and mark-ups, and mark-ups 
vary widely across providers, making estimates of the average costs of 
drugs across all providers wide-ranging and insufficiently precise. In 
addition, basing payments on charges does not offer any incentives for 
health care providers to minimize their acquisition costs.

Second, ASPs offer relatively timely information for rate-setting 
purposes. Manufacturers have 30 days following the completion of each 
quarter to report new price data to CMS. Before the end of the quarter 
in which manufacturers report prices, CMS posts the updated Part B drug 
payment rates, to take effect the first day of the next quarter. Thus, 
the rates set are based on data from manufacturers that are, on 
average, about 6 months old. In comparison, rates for other Medicare 
payment systems are based on data that may be at least 2 years old.

Third, acquiring price data from manufacturers is preferable to 
surveying health care providers, as the manufacturers have data systems 
in place that track prices, whereas the latter generally do not have 
systems designed for that purpose. In our survey of 1,157 hospitals, we 
found that providing data on drug acquisition costs made substantial 
demands on hospitals' information systems and staff. In some cases, 
hospitals had to collect the data manually, provide us with copies of 
paper invoices, or develop new data processing to retrieve the detailed 
price data needed from their automated information systems.[Footnote 
14] Hospital officials told us that, to submit the required price data, 
they had to divert staff from their normal duties, thereby incurring 
additional staff and contractor costs. Officials told us their data 
collection difficulties were particularly pronounced regarding 
information on manufacturers' rebates, which affect a drug's net 
acquisition cost.[Footnote 15] In addition, we incurred considerable 
costs as data collectors, signaling the difficulties that CMS would 
face should it implement similar surveys of hospitals in the future.

CMS Lacks Information on ASP Necessary to Monitor Payment Rate Accuracy 
and Appropriateness:

Despite its practicality as a data source, ASP remains a "black box." 
That is, CMS lacks detailed information about the components of 
manufacturers' reported price data--namely, methods manufacturers use 
to allocate rebates to individual drugs and the sales prices paid by 
type of purchaser. Furthermore, for all but SCODs provided in the HOPD 
setting, no empirical support exists for setting rates at 6 percent 
above ASP, and questions remain about setting SCOD payment rates at 
ASP+6 percent. These information gaps make it difficult to ensure that 
manufacturers' reported price data are accurate and that Medicare's ASP 
rates developed from this information are appropriate.

Significantly, CMS has little information about the method a 
manufacturer uses to allocate rebates when calculating an ASP for a 
drug sold with other products. Unlike discounts, which are deducted at 
the point of purchase, rebates are price concessions given by 
manufacturers subsequent to the purchaser's receipt of the product. In 
our survey of hospitals' purchase prices for SCODs, we found that 
hospitals received rebate payments following the receipt of some of 
their drug purchases but often could not determine rebate amounts. 
Calculating a rebate amount is complicated by the fact that, in some 
cases, rebates are based on a purchaser's volume of a set, or bundle, 
of products defined by the manufacturer. This bundle may include more 
than one drug or a mixture of drugs and other products, such as 
bandages and surgical gloves. Given the variation in manufacturers' 
purchasing and rebate arrangements, the allocation of rebates for a 
product is not likely to be the same across all manufacturers. CMS does 
not specifically instruct manufacturers to provide information on their 
rebate allocation methods when they report ASPs. As a result, CMS lacks 
the detail it needs to validate the reasonableness of the data 
underlying the reported prices.

In addition, CMS does not require manufacturers to report details on 
price data by purchaser type. Because a manufacturer's ASP is a 
composite figure representing prices paid by various purchasers, 
including both health care providers and wholesalers, CMS cannot 
distinguish prices paid by purchaser type--for example, hospitals 
compared with other institutional providers, physicians, and 
wholesalers. In particular, to the extent that some of the sales are to 
wholesalers that may subsequently mark up the manufacturer's price in 
their sales to health care providers, the ASP's representation of 
providers' acquisition costs is weakened. Thus, distinguishing prices 
by purchaser type is important, as a central tenet of Medicare payment 
policy is to pay enough to ensure beneficiary access to services while 
paying pay no more than the cost of providing a service incurred by an 
efficient provider. In our 2005 report on Medicare's proposed 2006 SCOD 
payment rates, we recommended that CMS collect information on price 
data by purchaser type to validate the reasonableness of ASP as a 
measure of hospital acquisition costs.[Footnote 16]

Better information on manufacturers' reported prices--for example, the 
extent to which a provider type's acquisition costs vary from the CMS- 
calculated ASP--would help CMS set rates as accurately as possible. For 
most types of providers of Medicare Part B drugs--physicians, dialysis 
facilities, and DME suppliers--no empirical support exists for setting 
rates at 6 percent above ASP. In the case of HOPDs, a rationale exists 
based on an independent data source--our survey of hospital prices--but 
the process of developing rates for SCODs was not simple. In commenting 
on CMS's proposed 2006 rates to pay for SCODs, we raised questions 
about CMS's rationale for proposing rates that were set at 6 percent 
above ASP.[Footnote 17] CMS stated in its notice of proposed rulemaking 
that purchase prices reported in our survey for the top 53 hospital 
outpatient drugs, ranked by expenditures,[Footnote 18] equaled ASP+3 
percent on average, and these purchase prices did not account for 
rebates that would have lowered the product's actual cost to the 
hospital.[Footnote 19] We noted that, logically, for payment rates to 
equal acquisition costs, CMS would need to set rates lower than ASP+3 
percent, taking our survey data into account. In effect, ASP+3 percent 
was the upper bound of acquisition costs. Consistent with our 
reasoning, CMS stated in its notice of proposed rulemaking that 
"Inclusion of … rebates and price concessions in the GAO data would 
decrease the GAO prices relative to the ASP prices, suggesting that 
ASP+6 percent may be an overestimate of hospitals' average acquisition 
costs." In its final rule establishing SCOD payment rates, CMS 
determined that our survey's purchase prices equaled ASP+4 percent, on 
average, based on an analysis of data more recent than CMS had first 
used to determine the value of our purchase prices. CMS set the rate in 
the final rule at ASP+6 percent, stating that this rate covered both 
acquisition costs and handling costs.[Footnote 20] We have not 
evaluated the reasonableness of the payment rate established in the 
final rule.

Lacking detail on the components of ASP, CMS is not well-positioned to 
confirm ASP's accuracy. In addition, CMS has no procedures to validate 
the data it obtains from manufacturers by an independent source. In our 
2006 report on lessons learned from our hospital survey,[Footnote 21] 
we noted several options available to CMS to confirm the 
appropriateness of its rates as approximating health care providers' 
drug acquisition costs. Specifically, we noted that CMS could, on an 
occasional basis, conduct a survey of providers, similar to ours but 
streamlined in design; audit manufacturers' price submissions; or 
examine proprietary data the agency considers reliable for validation 
purposes. HHS agreed to consider our recommendation, stating that it 
would continue to analyze the best approach for setting payment rates 
for drugs.

Concluding Observations:

Because ASP is based on actual transaction data, is relatively timely, 
and is administratively efficient for CMS and health care providers, we 
affirm the practicality of the ASP-based method for setting Part B drug 
payment rates. However, we remain concerned that CMS does not have 
sufficient information about ASP to ensure the accuracy and 
appropriateness of the rates. To verify the accuracy of price data that 
manufacturers submit to the agency, details are needed--such as how 
manufacturers account for rebates and other price concessions and how 
they identify the purchase prices of products acquired through 
wholesalers. Equally important is the ability to evaluate the 
appropriateness of Medicare's ASP-based rate for all providers of Part 
B drugs over time. As we recommended in our April 2006 report, CMS 
should, on an occasional basis, validate ASP against an independent 
source of price data to ensure the appropriateness of ASP-based rates.

Madam Chairman, this concludes my prepared statement. I will be happy 
to answer any questions you or the other Subcommittee Members may have.

Contact and Staff Acknowledgments:

For further information regarding this testimony, please contact A. 
Bruce Steinwald at (202) 512-7101 or steinwalda@gao.gov. Phyllis 
Thorburn, Assistant Director; Hannah Fein; and Jenny Grover contributed 
to this statement. Contact points for our Offices of Congressional 
Relations and Public Affairs may be found on the last page of this 
statement.

FOOTNOTES

[1] Medicare Part A covers inpatient hospital services; Medicare Part 
C, known as Medicare Advantage, covers beneficiaries enrolled in 
managed care plans. 

[2] In this testimony, we will refer to physicians, hospital outpatient 
services, dialysis services, and durable medical equipment suppliers 
collectively as providers. 

[3] A nebulizer is a device driven by a compressed air machine. It 
allows the patient to inhale medicine in the form of a mist.

[4] Until 2004, Medicare paid physicians 95 percent of AWP. Legislation 
changed Medicare's payment to 85 percent of AWP in 2004.

[5] Manufacturers reported AWPs to organizations that published them in 
drug price compendia, and the Medicare claims administration 
contractors that pay claims for Part B drugs based physicians' payments 
on the published AWPs. 

[6] GAO, Medicare: Payments for Covered Outpatient Drugs Exceed 
Providers' Costs, GAO-01-1118 (Washington, D.C.: Sept. 21, 2001). 

[7] Certain prices were excluded, including prices paid to federal 
purchasers and prices for drugs furnished under the Part D program.

[8] The term rebates refers to price concessions given to purchasers by 
manufacturers subsequent to receipt of the product.

[9] See the Medicare, Medicaid, and SCHIP Balanced Budget Refinement 
Act of 1999, Pub. L. No. 106-113, app. F, § 201 (b), 113 Stat. 1501A- 
321, 1501A-337--1501A-339.

[10] We provided information from this survey in two reports--one on 
drugs and another on radiopharmaceuticals. See GAO, Medicare: Drug 
Purchase Prices for CMS Consideration in Hospital Outpatient Rate 
Setting, GAO-05-581R (Washington, D.C.: June 30, 2005), and GAO, 
Medicare: Radiopharmaceutical Purchase Prices for CMS Consideration in 
Hospital Outpatient Rate Setting, GAO-05-733R (Washington, D.C.: July 
14, 2005). The Secretary of HHS considered the price data we provided 
but elected not to use these data as the basis for 2006 rates.

[11] We provided our comments on the proposed rates in GAO, Medicare: 
Comments on CMS Proposed 2006 Rates for Specified Covered Outpatient 
Drugs and Radiopharmaceuticals Used in Hospitals, GAO-06-17R 
(Washington, D.C.: Oct. 31, 2005). We provided information on our data 
collection experience in GAO, Medicare Hospital Pharmaceuticals: Survey 
Shows Price Variation and Highlights Data Collection Lessons and 
Outpatient Rate-Setting Challenges for CMS, GAO-06-372 (Washington, 
D.C.: Apr. 28, 2006).

[12] GAO-06-17R.

[13] Manufacturers' reported price data are based on the Food and Drug 
Administration's (FDA) system of National Drug Codes, while the ASP 
that CMS calculates for each drug is based on the agency's Healthcare 
Common Procedure Coding System, which uses categories that are broader 
than the FDA's coding system. 

[14] The burden was more taxing for some hospitals than for others. 
Many hospitals were able to rely on price data downloaded from their 
drug wholesalers' information systems.

[15] Typically, hospitals did not systematically track all 
manufacturers' rebates on drug purchases, although nearly 60 percent of 
hospitals reported receiving one or more rebates.

[16] GAO-06-17R.

[17] GAO-06-17R.

[18] These drugs accounted for 95 percent of Medicare spending on all 
SCODs in the first 9 months of 2004.

[19] The purchase prices hospitals reported to us took account of 
discounts but not rebates. 

[20] Handling costs include providers' expenses associated with 
storing, preparing, and disposing of drugs.

[21] GAO-06-372. 

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