Friday, May 06, 2016

Seven Pharmacy and Channel Implications of the New AMP Final Rule (rerun)

This week, I’m rerunning some popular posts while I attend the 2016 Armada Specialty Pharmacy Summit. Click here to see the original post and comments from January 2016.

Well, pierce my ears and call me drafty! Late last week, the Centers for Medicare & Medicaid Services (CMS) finally released its long-overdue final rule regarding Average Manufacturer Price (AMP) under the Patient Protection and Affordable Care Act (ACA). Since 2012, CMS has announced—and then delayed—the release of the final rule at least five times. Makes you proud to be a taxpayer, doesn’t it?

Savor all of the bureaucratese for yourself in the oh-so-brief 658-page rule, known to the cool kids as CMS-2345-FC. (Note: Not the name of a new Star Wars droid.)

The rule is effective April 1, 2016. (Seriously.) Below, I highlight what it could mean for drug channels, including observations on:
  • Prescription reimbursement
  • Pharmacy profits
  • Manufacturers’ channel strategies
  • Bona fide service fees
  • Manufacturer-retail direct distribution arrangements
  • And more!


Let’s first delve into the arcane mysteries of Average Manufacturer Price (AMP).

AMP was redefined by the Patient Protection and Affordable Care Act (ACA; Public Law 111-148) as the average price that (1) wholesalers pay to a manufacturer for a drug distributed to retail community pharmacies, and that (2) retail community pharmacies pay for drugs purchased directly from the manufacturer. This definition excludes such dispensing outlets as mail pharmacies, clinics, and hospital pharmacies. AMP, therefore, reflects the multi-manufacturer average of purchase prices from the largest wholesalers and retail chains.

AMP is used primarily to compute a pharmaceutical manufacturer’s Medicaid rebates. AMP also affects a drug’s 340B price. A good chunk of the final rule addresses computation and definitional issues for AMP and best price.

In the Medicaid program, certain multisource drugs are subject to a Federal Upper Limit (FUL)—the federally established maximum amount that a state Medicaid agency can reimburse a pharmacy for dispensing a multiple-source drug to a Medicaid patient. States are required to meet the FUL requirements only in the aggregate. A state may pay more than the FUL amount for certain products as long as these payments are balanced out by lower payments for other products.

The ACA redefined a drug’s FUL to equal the weighted-average AMP multiplied by “no less than 175 percent.” These amounts are referred to as AMP-based FULs.

For the past 10 years, I have been covering the AMP drama on Drug Channels. (Yikes!) Long-time readers may vaguely recall my January 2012 write-up of the proposed rule in New AMP Rule Targets Bona Fide Service Fees.

FWIW, the National Association of Chain Drug Stores (NACDS) has just published a very useful History of AMP-Based Federal Upper Limits.


Only 50 pages of last week’s 658-page release were comprised of the actual regulatory changes. The rest of the document contains CMS’s responses to comments received on its 2012 proposed rules. These discussions give us insight into how CMS interprets the law.

Here are seven key observations from my initial review of this monster document. Page numbers refer to the 658-page PDF document, which will be replaced on February 1 with a formatted Federal Register document.

1) The acquisition-cost revolution is here.

An Acquisition Cost approach computes a pharmacy’s ingredient cost reimbursement based on data collected directly from pharmacies. Section 8.4. of our forthcoming 2016 Economic Report on Retail, Mail, and Specialty Pharmacies provides an extended analysis of acquisition-cost pharmacy reimbursement, which is already used by nine state Medicaid programs.

In the final rule, CMS replaced the term Estimated Acquisition Cost (EAC) with Actual Acquisition Cost (AAC) and now requires states to begin paying pharmacies based on the AAC of the drug. CMS explained: “[W]e believe that AAC will be more reflective of actual prices paid, as opposed to unreliable published compendia pricing…” (page 24).

CMS further noted that while “EAC may have been predictable, we do not believe it was an accurate standard for determining pharmacy reimbursement rates” (page 435). States have until April 2017 to modify their plans, if needed.

Note that the requirements for AAC and professional dispensing fees (discussed below) apply only to Medicaid fee-for-service. Medicaid managed care organizations are not required to adopt an AAC pharmacy reimbursement methodology.

Long-time readers know that I have been predicting the acquisition cost revolution for many years. Being right about the outcome but a little off on the timing is still pretty accurate for a blog.

2) As pharmacies’ spread profits decline, dispensing fees will rise.

As we discuss in Section 10.2.4. of our forthcoming 2016 Economic Report on Retail, Mail, and Specialty Pharmacies, the introduction of acquisition-cost-based reimbursement can benefit pharmacies. These models shift compensation for generic prescriptions from the spread-based model described in this chapter to a service-based model.

To support the adoption of AAC, CMS has replaced the term “dispensing fee” with “professional dispensing fee.” CMS stated that the move was “designed to reinforce our position that the dispensing fee should reflect the pharmacist’s professional services and costs to dispense the drug product to a Medicaid beneficiary” (page 113). A noble sentiment!

When ingredient cost reimbursement approximates drug acquisition costs, the gross profit per prescription equals the dispensing fee. For example, state Medicaid programs with acquisition-cost reimbursement have dispensing fees ranging from $9 to $21.

Here’s the new definition, which the pharmacy industry should like:
Professional dispensing fee means the professional fee which:
(1) Is incurred at the point of sale or service and pays for costs in excess of the ingredient cost of a covered outpatient drug each time a covered outpatient drug is dispensed;
(2) Includes only pharmacy costs associated with ensuring that possession of the appropriate covered outpatient drug is transferred to a Medicaid beneficiary. Pharmacy costs include, but are not limited to, reasonable costs associated with a pharmacist's time in checking the computer for information about an individual's coverage, performing drug utilization review and preferred drug list review activities, measurement or mixing of the covered outpatient drug, filling the container, beneficiary counseling, physically providing the completed prescription to the Medicaid beneficiary, delivery, special packaging, and overhead associated with maintaining the facility and equipment necessary to operate the pharmacy; and
(3) Does not include administrative costs incurred by the State in the operation of the covered outpatient drug benefit including systems costs for interfacing with pharmacies.
Note that the new definition explicitly incorporates specific pharmacist activities. By contrast, cost-of-dispensing (COD) studies usually just compute an average cost. CMS directed states to “calculate their professional dispensing fees to include those costs which are associated with ensuring that possession of the appropriate COD is transferred to a Medicaid beneficiary” (page 433). It also specified that states use a “transparent, comprehensive, and well-designed tool that addresses a pharmacy provider’s cost to dispense the drug product to a Medicaid beneficiary” (page 492).

I suspect that we’ll see a new type of COD study emerge to address the updated dispensing fee definition. BTW, CMS estimates that such COD studies cost $30,000 to $150,000 per state.

3) Pharmacy profits could rise with acquisition cost reimbursement.

The pharmacy industry will (should?) welcome a shift to acquisition cost reimbursement, which is a lower risk/lower return model for pharmacies. This reimbursement approach explicitly acknowledge pharmacists’ role as providers—rather than forcing them to earn money in a buy-low/sell-high spread business model.

Another potential benefit comes from the computations. National Average Drug Acquisition Cost (NADAC) and state-based Average Acquisition Cost (AAC) surveys do not necessarily reflect a pharmacy’s actual net acquisition costs. That’s because the surveys exclude off-invoice discounts, rebates, and price concessions. Such amounts could include volume-based rebates from wholesalers, buying groups, and manufacturers. Consequently, a pharmacy’s gross profit per prescription could be larger than the dispensing fee.

CMS states: “There will be a savings for states and the federal government for reimbursing pharmacists at AAC because of the highly inflated prices that the Medicaid programs are currently reimbursing providers” (page 614). Since almost all states already use MAC limits, I doubt that reimbursements are still inflated. And unless I missed it, CMS did not quantify the specific revenue or cost impacts on pharmacies.

CMS punted on this potential flaw, saying that “states have flexibility to establish a methodology to determine AAC, we decline to include a specific methodology for calculating AAC in the definition” (page 24). It further opined: “Off-invoice rebates and incentives are pricing concessions that are generally extended to pharmacy providers on a case-by-case basis under specific contracting arrangements with wholesalers, and CMS does not require states to include these pricing concessions in a survey of pharmacy prices. Further, we believe that survey prices that do not reflect off-invoice rebates and incentives tend to benefit pharmacy providers” (page 494). Well, if you say so...

I wonder if CMS has just laid the groundwork for a next generation McKesson/First DataBank lawsuit. (If you’re confused by that historical allusion, see this 2009 Drug Channels blast from the past: Farewell, AWP. )

4) NADAC is the new lower limit for upper limits—and minimizes the pharmacy profit impact from the rule.

CMS received many comments on the “no less than 175 percent” computation for AMP-based FULs. Not surprising, given the OIG’s predictions that AMP-based FULs would hurt pharmacies’ profits. Before issuing the rule, CMS conducted an analysis of the NADAC files, which found that about 40 percent of the individual FUL values calculated using the 175% multiplier were lower than the corresponding NADACs.

CMS therefore modified the statutory definition of FULs in one important way. If an AMP-based FUL is lower than the pharmacy’s acquisition cost, as measured by the product’s National Average Drug Acquisition Cost (NADAC), then the FUL will be set equal to a drug’s NADAC. Consequently, NADAC will now be the effective floor for the new FULs, which will reduce the revenue loss to pharmacies compared with using only AMP-based FULs.

The new FULs will be effective as of April 1, 2016. CMS also tartly reminded pharmacies where to send any reimbursement complaints: “We note that to the extent pharmacy providers have concerns with payment amounts, they should raise those concerns with the state” (page 471), i.e., don't call us.

5) Manufacturers get a small win on evaluating Bona Fide Service Fees (BFSF) paid to wholesalers and others.

The ACA used the phrase “bona fide service fees paid by manufacturers to wholesalers or retail community pharmacies.” In response to multiple comments, CMS has amended the definition to be “bona fide service fees paid by manufacturers to an entity.” Expect renewed scrutiny and heightened compliance requirements of fees paid to any channel service providers.

Here’s the new definition:
Bona fide service fee means a fee paid by a manufacturer to an entity that represents fair market value for a bona fide, itemized service actually performed on behalf of the manufacturer that the manufacturer would otherwise perform (or contract for) in the absence of the service arrangement, and that is not passed on in whole or in part to a client or customer of an entity, whether or not the entity takes title to the drug. The fee includes, but is not limited to, distribution service fees, inventory management fees, product stocking allowances, and fees associated with administrative service agreements and patient care programs (such as medication compliance programs and patient education programs).
CMS also made an important modification to the “not passed on” element of the four-part BFSF test. Per CMS: “Therefore, if a manufacturer has determined that a fee paid meets the other elements of the definition of bona fide service fee, then the manufacturer may presume, in the absence of any evidence or notice to the contrary, that the fee paid is not passed on to a client or customer of any entity” (page 33).

Note that CMS did state: “However, when a manufacturer does have specific knowledge that a fee is being passed on in whole or in part, it must be accurately accounted for in the determination of AMP and best price” (page 42).

On the downside, CMS declined to provide further examples of, or additional clarity about, which specific services can be considered to be BFSF. CMS also ignored comments and concerns about its vague fair market value guidance. Good news for lawyers, I suppose.

6) CMS addresses channel inventory appreciation, but declines to specify how or when manufacturers should collect these "credits."

Per Chapter 4 of our 2015-16 Economic Report on Pharmaceutical Wholesalers and Specialty Distributors, pharmaceutical manufacturers usually negotiate agreements that recapture the value of price appreciation on inventory held in wholesalers’ warehouses and on order with the manufacturer. If a manufacturer recaptures the full inventory appreciation value, then a wholesaler earns only the buy-side fees and does not benefit from taking inventory purchased at the old price and then selling it at the new higher price. The distribution service agreements of major manufacturers typically include recapture and revaluation clauses.

CMS refers to the recapture of inventory appreciation as “price appreciation credits” and has reiterated that these payments are not bona fide service fees. CMS states that “…these credits would amount to a subsequent price adjustment affecting the average price to the manufacturer and should be recognized for purposes of AMP…” (page 206).

Contrary to some expectations, CMS did not provide any guidance or regulations about the timing for when manufacturers should collect these credits from wholesalers. And if CMS believes that these payments are "credits," does it also think that the credits should be timed to offset a debit?  Hmmm.

7) A discrepancy in the treatment of prompt payment discounts could trigger more direct sales that bypass wholesalers.

Check out this definition:
Customary prompt pay discount means any discount off of the purchase price of a drug routinely offered by the manufacturer to a wholesaler for prompt payment of purchased drugs within a specified timeframe and consistent with customary business practices for payment.
Note the specific wording. Prompt payments extended to wholesalers are excluded from AMP, but those same discounts are included in AMP when the manufacturer sells directly to a pharmacy. All else being equal, a manufacturer’s Medicaid liability would be lower if it sold drugs directly rather than via a wholesaler. The AMP-based FULs used for pharmacy reimbursement would also be lower.

I wonder if this language will encourage more arrangements such as the Valeant-Walgreens deal.

Bonus Observations

Here are five other items that caught my eye:
  • CMS is finalizing a new definition of “United States” to mean the 50 states and the District of Columbia and, beginning April 1, 2017, the Commonwealth of Puerto Rico, the Virgin Islands, Guam, the Northern Mariana Islands and American Samoa. This means that the territories will be able to receive drug manufacturers’ Medicaid rebates. It should also trigger some changes in how manufacturers manage trade channels in the U.S. territories.
  • According to CMS, reconfiguring pricing systems and other start-up costs to implement the updated AMP and best price definitions will cost pharmaceutical manufacturers more than $300 million. Manufacturers will also be paying billions more in rebates due to the new definitions. Wow.
  • In its 2012 proposed rule, CMS had included specialty pharmacies, home infusion pharmacies, and home health care providers as “retail community pharmacies.” In its final rule, CMS backed away from this controversial move, noting that these other pharmacy formats would be included if they operate as one of the four dispensing formats identified in the ACA: independent pharmacy, chain pharmacy, supermarket pharmacy, or mass merchandiser pharmacy. This approach also allows CMS to avoid defining “specialty pharmacy.” As CMS notes: “There is no standard set of characteristics associated with specialty pharmacies” (page 186). You don’t say!
  • CMS finalized a definition of “wholesaler,” but it differs from the federal regulatory definition of a “wholesale distributor” in Title II of The Drug Quality and Security Act (DQSA), which was signed into law in November 2013. Oh well. Just another downside of waiting four years to finalize the proposed regulations.
  • Pity poor CMS. It took a lot of criticism for waiting a scant four years to finalize its 2012 proposed rule. Luckily, some of the commenters did their best to boost this put-upon agency’s self-esteem. CMS gratefully acknowledged these obsequious comments. To at least six comments, CMS’s entire response consisted of such statements as “We appreciate the support that the commenters have expressed” and “We appreciate the commenter’s support.” Buck up, CMS!

Whew. Those are the high points from my initial slog through the final rule.

And if you also made it through the whole document, I salute you!

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