Wednesday, August 08, 2018

Still Possible: Hospitals Overcharge Health Plans for Specialty Drugs

Over the years on Drug Channels, I have explained the two primary reasons a drug’s list price doesn’t reflect what a third-party payer actually spends for that drug: (1) channel intermediaries and providers add markups that account for the costs, profits, and value of the services, and (2) manufacturers provide rebates and discounts to third-party payers.

Two recently-released reports confirm the often-overlooked magnitude of provider markups.

As you will see below, commercial payers use reimbursement approaches that permit hospitals to inflate specialty drug costs by thousands of dollars per claim when compared with physician offices. This is not about differences in patient care. It’s about hospitals adding big markups to drug costs.

Meanwhile, commercial insurers complain about “drug prices,” going so far as to publish misleading data about drug spending. Yet insurers conveniently forget to mention their own role in allowing powerful providers inflate drug spending. As evidenced by the proposed outpatient prospective payment system (OPPS) rule, the Secretary (of Health and Human Services) does not disavow any knowledge of site-neutral payments.


Our analysis below relies on the following two reports:
Both reports are available as free downloads.


Medicare does not generally permit large variations among different sites of care for drug reimbursement. In most circumstances, the Medicare Part B program uses a drug’s Average Sales Price (ASP) for reimbursing provider-administered drugs. Hospital outpatient departments and physician offices usually (though not always) receive comparable reimbursements for separately-payable drugs. For a detailed overview, see Section 3.1. of our 2017–18 Economic Report on Pharmaceutical Wholesalers and Specialty Distributors.

Commercial payers, however, have very different reimbursement methodologies for the two types of administration sites. Here are the data from this year’s EMD Serono Specialty Digest:
  • Physician offices. For these sites in 2017, 49% of the plans followed Medicare and used the ASP benchmark for provider-administered specialty drug reimbursement. A further 21% relied on the list price benchmarks of Average Wholesale Price (AWP) or Wholesale Acquisition Cost (WAC).
  • Hospital outpatient facilities. Hospitals were reimbursed most commonly by commercial payers based upon a negotiated percentage of charges—a hospital’s self-defined list price for a drug. Basically, a hospital marks up a drug to create an inflated "charge." It then discounts this charge to a merely outrageous rate negotiated with the payer.

    Unlike public drug benchmarks (ASP, AWP, and WAC), charges are arbitrary and do not have to follow any particular methodology. One study found that hospitals’ charges for drugs were marked up 590% above the hospital’s costs. (See US Hospitals Are Still Using Chargemaster Markups To Maximize Revenues, from Health Affairs.)
These figures are summarized in the chart below. They are comparable with separate survey data from 2016.

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The chart below draws from 2017 Medical Pharmacy Trend Report. It compares a commercial payer’s average cost per claim at a hospital outpatient facility with that of a physician office. It includes the five drugs—Remicade, Neulasta, Herceptin, Rituxan, Avastin—that accounted for the highest shares of commercial medical benefit drug spending. These five products collectively accounted for about one-third of commercial medical benefit drug spending.

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In each case, the hospitals received thousands of dollars more than the physician offices. For commercial payers, hospitals’ percentage-of-charges approach allows them to be paid about twice as much as physician offices.

This was due primarily to differences in cost per unit, not to differences in patient mix or treatment intensity. For example, the average cost per unit of Remicade administered in a physician office was $90. But the average cost per unit of Remicade administered in a hospital outpatient setting was $227—more than 250% higher.

Note that the chart above refers only to the provider’s revenues from a commercial plan. Thanks to the 340B Drug Pricing Program, hospitals can purchase drugs at deeply discounted prices. As I estimated last year, hospitals can even earn more than the drug’s manufacturer, when the extreme mark-ups shown above are combined with discounted 340B acquisition costs.

The above results apply to a broader set of drugs, too. The Moran Company analyzed the Magellan data and found that hospitals’ reimbursement exceeded ASP by 252% percent, on average. See Hospital Charges and Reimbursement for Drugs: Analysis of Markups Relative to Acquisition Cost.


Health plans appear only indirectly to manage hospitals’ higher mark-ups on drugs.

For instance, they often try to move infusions to lower-cost sites of care. This is done typically thorugh utilization management strategies that guide patients to lower-cost and/or better-performing sites of care. Common site-of-care management tactics include: lowering patient cost sharing at preferred sites; requiring prior authorization for non-preferred sites; mandating the use of certain sites of care; and utilizing white-bagging strategies.

The EMD Serono Specialty Digest survey data show that commercial health plans have increased their use of these tactics over the past five years, from 26% of plans in 2013 to 61% in 2017. What took them so long?

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Instead of site-of-care management, health plans could simply utilize site-neutral payment methodologies. These would equalize payments so that hospitals would no longer be paid a large premium over physician offices for providing the same drugs.

The Centers for Medicare & Medicaid Services (CMS) keeps pushing for more site-neutral reimbursement, as evidenced by its recently proposed changes to the Medicare hospital outpatient prospective payment system (OPPS). (Enjoy here: Proposed Changes to Hospital Outpatient Prospective Payment and Ambulatory Surgical Center Payment Systems and Quality Reporting Programs). The proposed has multiple changes that would equalize payments between different sites of care.

CMS also proposed extending the ASP minus 22.5% drug payment policy to off-campus provider-based departments (PBDs). As you may recall, in 2018, CMS reduced hospital reimbursement for certain separately payable drugs and biologicals acquired under the 340B Drug Pricing Program. For these products, reimbursement was reduced from ASP plus 6% to ASP minus 22.5%. Some of the off-campus sites were physician office infusion locations that hospitals had acquired. Extending the 340B rules would reduce incentives for hospitals to shift care from their main facility to these satellite locations.


Clearly, hospitals and health systems are still able to leverage their negotiating power with commercial insurers. They maximize markups and inflate drug costs compared to other sites of care. Time to call Jim Phelps Ethan Hunt?

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