Department of Health and Human Services


OFFICE OF 

INSPECTOR GENERAL 

HOW INFLATED PUBLISHED 


PRICES AFFECT DRUGS 


CONSIDERED FOR THE


FEDERAL UPPER LIMIT LIST


Daniel R. Levinson


Inspector General 


September 2005


OEI-03-05-00350

Office of Inspector General 
 http://oig.hhs.gov 

The mission of the Office of Inspector General (OIG), as mandated by Public Law 95-452, 

as amended, is to protect the integrity of the Department of Health and Human Services 

(HHS) programs, as well as the health and welfare of beneficiaries served by those 

programs. This statutory mission is carried out through a nationwide network of audits, 

investigations, and inspections conducted by the following operating components: 

Office of Audit Services 

The Office of Audit Services (OAS) provides all auditing services for HHS, either by 

conducting audits with its own audit resources or by overseeing audit work done by others. 

Audits examine the performance of HHS programs and/or its grantees and contractors 

in carrying out their respective responsibilities and are intended to provide independent 

assessments of HHS programs and operations in order to reduce waste, abuse, and 

mismanagement and to promote economy and efficiency throughout HHS. 

Office of Evaluation and Inspections 

The Office of Evaluation and Inspections (OEI) conducts management and program 

evaluations (called inspections) that focus on issues of concern to the HHS, Congress, 

and the public. The findings and recommendations contained in the inspections generate 

rapid, accurate, and up-to-date information on the efficiency, vulnerability, and 

effectiveness of departmental programs. OEI also oversees State Medicaid Fraud 

Control Units which investigate and prosecute fraud and patient abuse in the Medicaid 

program. 

Office of Investigations 

The Office of Investigations (OI) conducts criminal, civil, and administrative 

investigations of allegations of wrongdoing in HHS programs or to HHS beneficiaries 

and of unjust enrichment by providers. The investigative efforts of OI lead to criminal 

convictions, administrative sanctions, or civil monetary penalties. 

Office of Counsel to the Inspector General 

The Office of Counsel to the Inspector General (OCIG) provides general legal services to 

OIG, rendering advice and opinions on HHS programs and operations and providing all 

legal support in OIG's internal operations. OCIG imposes program exclusions and civil 

monetary penalties on health care providers and litigates those actions within HHS. 

OCIG also represents OIG in the global settlement of cases arising under the Civil False 

Claims Act, develops and monitors corporate integrity agreements, develops compliance 

program guidances, renders advisory opinions on OIG sanctions to the health care 

community, and issues fraud alerts and other industry guidance. 
Δ EXECUTIVE SUMMAR Y 

OBJECTIVE 

To determine (1) the extent to which the mandated method for 

calculating Medicaid Federal upper limit amounts causes qualified 

products to be excluded from the Federal upper limit list and (2) the 

potential financial implications of these exclusions to Medicaid. 

BACKGROUND 

The Federal upper limit program was put in place to ensure that the 

Federal Government acts as a prudent payer by taking advantage of 

current market prices for multiple-source drugs. Statutory and 

regulatory criteria generally require the Centers for Medicare & 

Medicaid Services (CMS) to include a drug on the Federal upper limit 

list if: (1) at least three versions of the drug are rated as therapeutically 

equivalent by the Food and Drug Administration (FDA), and (2) the 

drug has at least three suppliers listed in current editions of national 

compendia. The Federal upper limit amount for a drug is set at 

150 percent of the published price for the least costly, therapeutically 

equivalent product found in national compendia plus a reasonable 

dispensing fee. 

CMS applies an additional standard in determining which drugs should 

be subject to Federal upper limits. According to CMS staff, only drugs 

for which a Federal upper limit could potentially lead to savings should 

be included on the Federal upper limit list. Therefore, if a drug does not 

have a published price that, when multiplied by 150 percent, is lower 

than the average wholesale price (AWP) (upon which reimbursement is 

typically based), CMS does not include the product. 

For the covered outpatient drugs of a manufacturer to be eligible for 

Federal matching funds under Medicaid, section 1927(a)(1) of the Social 

Security Act mandates that the manufacturer must enter into a rebate 

agreement with CMS and pay quarterly rebates to State Medicaid 

agencies. Under these rebate agreements and the law, manufacturers 

must provide CMS with the average manufacturer prices (AMP) for 

each of their covered drugs on a quarterly basis. Pursuant to Federal 

statute, the AMP is the average price paid to a manufacturer for a drug 

in the United States by wholesalers for drugs distributed to the retail 

pharmacy class of trade, net of customary prompt pay discounts. The 

Medicare Prescription Drug, Improvement, and Modernization Act of 

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EXE CUTIVE S U MMAR Y 

2003 recognizes the AMP as a potential measure to be substituted in 

Medicare reimbursement calculations. 

For each drug product approved between 2001 and 2003 that met all 

statutory and regulatory criteria for inclusion on the Federal upper 

limit list but did not meet CMS’s additional criterion, we calculated the 

minimum AMP, average AMP, and maximum AMP in the first and 

second quarters of 2004. To follow current procedures prescribed by 

Federal regulation, we limited the calculation to products that (1) were 

rated therapeutically equivalent by FDA and (2) were available in the 

most commonly listed package size. We also limited the analysis to 

products with Medicaid utilization in the first two quarters of 2004. 

To determine the potential implications if CMS were able to use AMPs 

rather than published prices to set Federal upper limit amounts, we: 

(1) multiplied the minimum, average, and maximum AMPs for the 

reviewed drugs by 150 percent (the percentage stated in current 

regulation); (2) subtracted 150 percent of the minimum, average, and 

maximum AMPs from the average Medicaid reimbursement amount 

(less the dispensing fee) in each of the first two quarters of 2004; and 

(3) multiplied the difference calculated in step two by the number of 

units of the drug product reimbursed during these quarters. This figure 

provided us with the savings that could have resulted in just two 

quarters for drugs that were not included on the Federal upper limit list 

due to issues with their published prices. 

FINDINGS 

In the first two quarters of 2004, 58 drug products that met all 

statutory and regulatory requirements were not added to the Federal 

upper limit list due to inflated published prices. Of the 252 first-time 

generic drug products approved between 2001 and 2003, 58 met all 

statutory and regulatory requirements as of June 30, 2004, but were not 

included on the Federal upper limit list because their addition would 

not have lead to savings. Each of these 58 products had at least 

3 A-rated versions and 3 suppliers, but did not have a published price 

that when multiplied by 150 percent was less than the AWP. 

Overall, average AWPs were more than three times higher than the 

average AMPs for the reviewed drug products. Even the minimum 

published prices for these drugs were substantially higher than the 

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EXE CUTIVE S U MMAR Y 

average AMP. Given that Federal law requires that these “minimum” 

published prices be multiplied by 150 percent, the difference between 

Federal upper limit amounts and AMPs would grow even wider. 

Basing Federal upper limit amounts on AMPs could save Medicaid 

over $100 million per year by allowing otherwise qualified products 

to be included on the Federal upper limit list. As the previous finding 

shows, inflated published prices are causing CMS to exclude otherwise 

qualified drug products from the Federal upper limit list because their 

Federal upper limit amount would exceed the reimbursement amount 

set under the usual methods. However, if Medicaid based Federal upper 

limit amounts on 150 percent of the average reported AMP rather than 

150 percent of the lowest published price, the program may have saved 

$75 million in just two quarters of 2004 due to these excluded drugs 

being added to the Federal upper limit list. Furthermore, if Medicaid 

could have used the lowest reported AMP multiplied by 150 percent 

when calculating Federal upper limit amounts, the program would have 

saved an estimated $111 million in the first and second quarters of 2004 

for these drugs. Even if Federal upper limit calculations were based on 

150 percent of the highest reported AMP, the program would have saved 

almost $39 million. 

CONCLUSION 

In the past several months, the President, Congress, and individual 

State Medicaid programs have expressed heightened interest in 

ensuring that Medicaid drug reimbursement amounts more closely 

resemble actual acquisition costs. In addition, the Office of Inspector 

General (OIG) has recently released a number of reports that once again 

showed that the published prices used as the basis for Medicaid 

reimbursement bear little or no resemblance to prices based on actual 

sales, especially for generic drugs. The Federal upper limit program is 

particularly affected by this disconnect between published prices and 

acquisition costs among generic drugs. 

Congress created the Federal upper limit program to help Medicaid take 

advantage of current market prices for lower-cost generic drugs. 

However, Federal regulation requires that Federal upper limit amounts 

be based on 150 percent of the prices published in national compendia. 

Not only does the pricing methodology prescribed by Federal law cause 

artificially high Federal upper limit amounts for those products on the 

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EXE CUTIVE S U MMAR Y 

Federal upper limit list, it also causes other qualified drugs to never be 

included on the list in the first place. This secondary effect is costing 

Medicaid millions of dollars per year, in addition to the considerable 

losses the program faces due to the inflated prices of drugs already on 

the Federal upper limit list. 

Based on years of work by OIG, the Government Accountability Office, 

and others revealing the inflated nature of AWPs and other published 

prices, the Medicare program eliminated the use of AWP in its pricing 

methodology for Part B covered drugs. The fact that Medicaid still uses 

these published prices to determine Federal upper limit amounts makes 

little sense. We believe that reimbursement in general and Federal 

upper limit amounts in particular should reliably reflect the actual costs 

of drugs to pharmacies. Consequently, there is an urgent need for the 

Medicaid policymaking community to revise Federal upper limit 

policies, thereby ensuring that reimbursement amounts for generic 

drugs accurately reflect market prices, and that the Federal upper limit 

program better meets its original intent. 

Agency Comments 

CMS concurred with our findings, stating that the use of published 

prices as the basis for Federal upper limit amounts precludes the 

addition of some drugs to the Federal upper limit list. CMS also noted 

the recent changes to the basis of reimbursement for Medicare drugs 

made by the Medicare Prescription Drug, Improvement, and 

Modernization Act of 2003, and indicated that the same types of 

measures should be enacted for Medicaid. The full text of CMS’s 

comments is presented in Appendix A. 

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Δ T ABLE OF CONTENTS 

EXECUTI VE SUMMARY ........................................ i

INTRODUCTI ON ................................................ 1 

FINDI NGS

Fifty-eight drugs were not added to list due to inflated prices .... 9 

Current calculation method could be costing Medicaid millions ... 9 

CONCLUSION .................................................. 11 

APPENDIX 

A : Centers for Medicare & Medicaid Services Comments....... 13

ACKN O W LEDGMENTS ......................................... 15 

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Δ INTRODU C TION 

OBJECTIVE 

To determine (1) the extent to which the mandated method for 

calculating Medicaid Federal upper limit amounts causes qualified 

products to be excluded from the Federal upper limit list and (2) the 

potential financial implications of these exclusions to Medicaid. 

BACKGROUND 

Medicaid Program 

Medicaid is a jointly funded Federal and State health insurance 

program for certain low income and medically needy people. Individual 

States establish eligibility requirements, benefits packages, and 

payment rates for their Medicaid programs under broad Federal 

standards administered by the Centers for Medicare & Medicaid 

Services (CMS). Medicaid requirements mandate that States provide 

basic services to beneficiaries to receive Federal matching funds. States 

may also receive Federal funding if they provide other optional services. 

One universally offered optional service is prescription drug coverage. 

All 50 States and the District of Columbia currently offer prescription 

drug coverage under the Medicaid program. In calendar year 2003, 

CMS estimates that Medicaid payments for prescription drugs totaled 

over $34 billion.1 

Medicaid Drug Reimbursement Methodology 

Each State is required to submit a Medicaid State plan to CMS 

describing its payment methodology for covered drugs. Federal 

regulations require, with certain exceptions, that each State’s 

reimbursement for a drug not exceed the lower of its estimated 

acquisition cost plus a reasonable dispensing fee or the provider’s usual 

and customary charge to the public for the drug. 

CMS allows States flexibility to define estimated acquisition cost. Most 

States base their calculation of estimated acquisition cost on a drug’s 

average wholesale price (AWP) discounted by a certain percentage. As 

of the first quarter of 2005, this discount ranged from 5 to 50 percent of 

the AWP. A small number of States use wholesale acquisition costs plus 

a percentage markup rather than, or in addition to, discounted AWPs 

when determining estimated acquisition cost. 

1 This amount includes both the Federal and State shares of payments. Rebates collected 

under the Medicaid Drug Rebate program have not been subtracted from the total. 

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INTROD UCT ION 

For certain drugs, States also use the Federal upper limit and/or State 

maximum allowable cost programs in determining reimbursement 

amounts. CMS has established Federal upper limit amounts for more 

than 400 drugs. In addition, numerous States have implemented a 

maximum allowable cost program to limit reimbursement amounts for 

certain drugs. Individual States determine the types of drugs that are 

included in their maximum allowable cost programs and the methods by 

which the maximum allowable cost for a drug is calculated. 

In summary, States use a variety of mechanisms when setting drug 

reimbursement amounts. In most cases, States reimburse for a drug at 

the lower of the estimated acquisition cost, the Federal upper limit 

amount, or the State maximum allowable cost, plus a reasonable 

dispensing fee. 

Federal Upper Limit Program 

According to CMS’s “State Medicaid Manual,” the Federal upper limit 

program was created to ensure that the Federal Government acts as a 

prudent payer by taking advantage of current market prices for 

multiple-source drugs. Under 42 CFR § 447.332, CMS is to establish a 

Federal upper limit amount for a drug when: (1) all formulations of a 

drug have been rated as therapeutically equivalent by the Food and 

Drug Administration (FDA), and (2) at least three suppliers of the drug 

are listed in current editions (or updates) of the published compendia of 

cost information for drugs available for sale nationally. Section 4401 of 

the Omnibus Budget Reconciliation Act of 1990 (OBRA ’90) established 

new criteria requiring a drug to be included on the Federal upper limit 

list when three or more versions of a drug had been rated 

therapeutically and pharmaceutically equivalent by FDA, regardless of 

the ratings of other versions.2 FDA designates drugs that are 

therapeutically equivalent as “A-rated.” 

Federal regulation (42 CFR § 447.332) sets the Federal upper limit 

amount at 150 percent of the published price for the least costly, 

therapeutically equivalent product that can be purchased by 

pharmacists in quantities of 100 tablets or capsules plus a reasonable 

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2 According to the “State Medicaid Manual,” the language of OBRA ’90 “augments” the 

upper limits established by the regulation and creates “new criteria” for adding drugs to 

the Federal upper limit list. CMS has not modified the language of the regulation since it 

was promulgated in 1987, nor has the regulation been withdrawn. In practice, CMS relies 

on the language of the regulation and the OBRA ’90 provisions in establishing Federal 

upper limits. 

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INTROD UCT ION

dispensing fee. If the drug is not typically available in quantities of 

100 or if the drug is a liquid, the Federal upper limit amount is based on 

a commonly listed size. 

CMS applies an additional standard in determining which drugs should 

be subject to Federal upper limits. According to CMS staff, only drugs 

for which a Federal upper limit could potentially lead to savings should 

be included on the Federal upper limit list. Therefore, if a drug does not 

have a published price that, when multiplied by 150 percent, is lower 

than the AWP, CMS does not include the product. 

CMS publishes the Federal upper limit list in the “State Medicaid 

Manual” and on its Web site.3 Any revisions to the Federal upper limit 

list are typically noted on the Web site as well. CMS establishes an 

upper limit for specific forms and strengths for each multiple-source 

drug on the list. The Federal upper limit list also provides the source of 

the pricing information used to calculate the upper limit amount for 

each drug. 

The Medicaid Drug Rebate Program and Average Manufacturer Price 

For the covered outpatient drugs of a manufacturer to be eligible for 

Federal matching funds under Medicaid, section 1927(a)(1) of the Social 

Security Act (the Act) mandates that the manufacturer must enter into 

a rebate agreement with CMS and pay quarterly rebates to States. 

Under these rebate agreements and the law, manufacturers must 

provide CMS with the average manufacturer price (AMP) for each of 

their covered drugs on a quarterly basis. Pursuant to section 1927(k)(1) 

of the Act, the AMP is defined as the average price paid to a 

manufacturer for a drug in the United States by wholesalers for drugs 

distributed to the retail pharmacy class of trade, net of customary 

prompt pay discounts. The AMP is calculated as a weighted average of 

prices for all of a manufacturer’s package sizes of a drug sold during a 

given quarter. Section 1927(b)(3)(D) of the Act requires that, subject to 

certain exceptions, AMPs reported to CMS should not be publicly 

disclosed. 

In a December 2004 report, the Congressional Budget Office used the 

AMP to estimate what pharmacies pay to acquire drugs. While the 

acquisition costs for pharmacies that buy through wholesalers rather 

than directly from manufacturers may exceed the AMP, the wholesaler 

3 www.cms.hhs.gov/medicaid/drugs/drug10.asp 

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INTROD UCT ION 

markup is estimated to be a small proportion (approximately 3 percent) 

of the actual price.4 The Medicare Prescription Drug, Improvement, 

and Modernization Act of 2003 (MMA) also recognizes the AMP as a 

potential measure to be substituted in Medicare reimbursement 

calculations.5 

Related Work by the Office of Inspector General 

In June 2005, the Office of Inspector General (OIG) issued “Comparison 

of Medicaid Federal Upper Limit Amounts to Average Manufacturer 

Prices” (OEI-03-05-00110). OIG found that, overall, Federal upper 

limits were five times higher than the average AMPs for generic drug 

products in the third quarter of 2004. During the same period, the 

Federal upper limit amount was, on average, 22 times higher than the 

lowest reported AMP and usually exceeded even the highest reported 

AMP. Medicaid could save hundreds of millions of dollars a year by 

basing Federal upper limit amounts on reported AMPs. We 

recommended that CMS work with Congress in an effort to lower 

Federal upper limit amounts. 

In December 2004, OIG issued “Addition of Qualified Drugs to the 

Medicaid Federal Upper Limit List” (OEI-03-04-00320). OIG found that 

CMS does not add qualified drugs to the Federal upper limit list in a 

timely manner. Of the 252 first-time generic drugs approved between 

January 2001 and December 2003, 109 drugs met the criteria for 

inclusion on the Federal upper limit list; however, only 25 of these drugs 

were actually added. For the 25 that were added, CMS took an average 

of 36 weeks to place the products on the Federal upper limit list once 

the drugs were qualified for inclusion. Qualified drugs not being added 

to the list in a timely manner cost the Medicaid program an estimated 

$167 million between 2001 and 2003. We recommended that CMS 

establish an administrative procedure and schedule to govern the 

determination and publication of Federal upper limits. 

In February 2004, OIG issued “Omission of Drugs from the Federal 

Upper Limit List in 2001” (OEI-03-02-00670). OIG found that 90 drug 

products were not included on the Federal upper limit list in 

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4 As reported by the National Association of Chain Drug Stores in the Congressional Budget 

Office report, “Medicaid’s Reimbursement to Pharmacies for Prescription Drugs.” 

5 Medicare typically uses the manufacturer reported average sales price (ASP) plus 6 

percent as the basis for drug reimbursement. However, if the ASP for a drug exceeds the 

AMP by a threshold percentage, section 303 of the MMA allows the program to base 

reimbursement on 103 percent of the AMP instead. In 2005, this threshold is 5 percent. 

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INTROD UCT ION 

2001 despite meeting the criteria established by Federal laws and 

regulations. Medicaid could have saved $123 million in 2001 by adding 

55 of the 90 drug products to the Federal upper limit list. OIG 

recommended that CMS take steps to ensure that all drugs meeting the 

criteria set by Federal laws and regulations are included on the Federal 

upper limit list. 

In October 2003, OIG issued “State Strategies to Contain Medicaid Drug 

Costs” (OEI-05-02-00680). OIG found that States employ three main 

drug cost containment strategies: (1) limiting Medicaid reimbursement 

for drugs; (2) shifting use from higher to lower cost drugs; and 

(3) limiting the amount of prescription drugs a beneficiary can obtain. 

States reported facing challenges in their attempts to maximize drug 

cost savings, including a lack of accurate drug price information and 

stakeholder opposition to cost containment efforts. 

In September 2002, OIG issued “Medicaid Pharmacy - Additional 

Analyses of the Actual Acquisition Cost of Prescription Drug Products” 

(A-06-02-00041). The audit found that there was a wide range of 

discounts from the AWP for pharmacy purchases depending on the 

category of drug that is being purchased. For multiple-source drugs 

included on the Federal upper limit list, OIG estimated that pharmacy 

acquisition costs were 72.1 percent below the AWP. 

Recent Interest in Medicaid Drug Pricing Issues 

In June 2005, the U.S. Senate Committee on Finance held a hearing 

entitled “Medicaid Fraud, Waste, and Abuse: Threatening the Health 

Care Safety Net.” Excessive payments for Medicaid-covered drugs was 

a major focus area. Representatives from OIG, CMS, the Department of 

Justice, State Medicaid agencies, and the drug industry provided 

testimony. 

In December 2004, the U.S. House Committee on Energy and Commerce 

Subcommittee on Oversight and Investigations held a hearing entitled 

“Medicaid Prescription Drug Reimbursement: Why the Government 

Pays Too Much.” Representatives from OIG, CMS, several State 

Medicaid agencies, and the drug industry testified at this hearing. The 

role that Federal upper limits play in reducing costs for prescription 

drugs was a key area of interest to the subcommittee. 

The President’s 2006 budget proposes changes that would cause 

Medicaid reimbursement amounts to more closely approximate 

pharmacy acquisition costs. Specifically, the budget recommends that 

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INTROD UCT ION 

Medicaid reimbursement for prescription drugs be at 106 percent of a 

drug’s ASP. 

Prior to 2005, Medicare, like Medicaid, based drug reimbursement on 

published AWPs. However, due in part to numerous reports by OIG 

and the Government Accountability Office (GAO) that found that AWPs 

were significantly inflated, Congress required that Medicare begin 

basing reimbursement amounts on 106 percent of the ASP instead. 

Section 303 of the MMA defines the ASP as the manufacturer’s sales to 

all purchasers (with certain exemptions) divided by the number of units 

sold. The ASP is to be net of chargebacks, discounts, rebates, and other 

price concessions. ASPs are reported to CMS by drug manufacturers. 

METHODOLOGY 

Identifying Drugs Not Included Due to Pricing Issues 

In our December 2004 report, “Addition of Qualified Drugs to the 

Medicaid Federal Upper Limit List” (OEI-03-04-00320), we identified all 

first-time generic drug products approved between 2001 and 2003 that 

met the statutory and regulatory criteria for being included on the 

Federal upper limit list. During our analysis, we determined that a 

number of these drugs did not meet CMS’s additional pricing criterion. 

Each of these products had at least three A-rated versions and three 

suppliers, but did not have any published prices that when multiplied 

by 150 percent were less than the AWP. None of these drugs had been 

included on the Federal upper limit list as of June 30, 2004. 

Using data obtained from a national drug compendium, we compiled a 

list of all the national drug codes (NDC)6 associated with generic 

versions of each drug product not included on the Federal upper limit 

list during the first and second quarters of 2004 due to a failure to meet 

CMS’s additional pricing criterion. For each of these drug products, we 

calculated the average AWP among all therapeutically equivalent NDCs 

in the proper package size listed in the compendium. We also calculated 

the Federal upper limit amount that would have been set for each drug 

product under the required formula by multiplying the lowest published 

price among all relevant NDCs by 150 percent. 

6 Each individual drug product manufactured or distributed in the United States has a 

unique NDC. An NDC identifies the manufacturer of the drug product, the product 

dosage form, and the package size. 

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Obtaining Medicaid Utilization Data 

We downloaded 50 State Medicaid payment and utilization files for 

2004 from CMS’s Web site.7 We limited our analysis to utilization 

occurring in the first or second quarters of 2004.8 

The total State reimbursement amount listed in the State utilization 

files included both the payments made for the NDC and the dispensing 

fees paid to the pharmacy. To determine a State’s reimbursement for 

the drug product only, we removed the amount paid in dispensing fees 

for each corresponding NDC. We then calculated the average Medicaid 

reimbursement amount per quarter for each of the drugs under review 

by dividing the total reimbursement for the product (without the 

dispensing fee) by the total number of units reimbursed. 

Determining AMPs for Drugs Under Review 

We obtained AMP data for the first and second quarters of 2004 from 

CMS. We matched those data against the Medicaid utilization data to 

verify that all products upon which the comparisons would be made had 

actually been reimbursed by Medicaid. 

Federal regulations require that the prices on which Federal upper limit 

amounts are based be for therapeutically equivalent (A-rated) products 

in common package sizes. Therefore, we removed from the analysis any 

NDCs that represented drug products that were not A-rated. We also 

determined the most common package size listed in the compendium, 

and removed any NDCs that did not match this package size. We then 

calculated the minimum, average, and maximum AMPs among the 

remaining NDCs in each quarter for the drug products not included on 

the Federal upper limit list due to inflated published prices.9 

Calculating Potential Savings 

To determine the potential savings if CMS were able to use AMPs 

rather than published prices to set Federal upper limit amounts, we: 

7 The 50 files represent 49 States and the District of Columbia. Arizona’s data were not 

available for download because the State’s drug benefit is administered completely 

through managed care organizations and not the traditional fee-for-service system. 

8 Both first- and second-quarter utilization data for Delaware and Rhode Island were 

missing from CMS’s files. Second-quarter utilization data were missing for Colorado and 

Vermont. 

9 Two drug products under review did not have any AMPs listed on CMS’s first quarter 

AMP file. One of the two products also did not have AMPs listed on the second quarter 

file. These products were excluded from any calculations in the respective quarter(s). 

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INTROD UCT ION 

(1) multiplied the minimum, average, and maximum AMPs for the 

reviewed drugs by 150 percent (the percentage stated in current 

regulation); 

(2) subtracted 150 percent of the minimum, average, and maximum 

AMPs from the average Medicaid reimbursement amount (net of 

dispensing fees) in each of the first two quarters of 2004; and 

(3) multiplied the difference calculated in step 2 by the number of units 

of the drug product reimbursed during these two quarters. 

This figure provided us with the savings that could have resulted in just 

two quarters for drugs that were not included on the Federal upper 

limit list due to not meeting CMS’s additional criterion.10 

This evaluation was conducted in accordance with the “Quality 

Standards for Inspections” issued by the President’s Council for 

Integrity and Efficiency and the Executive Council for Integrity and 

Efficiency. 

10 Nine of the drug products did not become eligible for the Federal upper limit list until 

April 1, 2004. Therefore, these drugs were only included in the savings calculations for 

the second quarter of that year. 

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Δ FINDINGS

In the first two quarters of 2004, 58 drug products 

that met all statutory and regulatory requirements 

were not added to the Federal upper limit list due to 

inflated published prices 

Of the 252 first-time generic 

drug products approved between 

2001 and 2003, 58 met all 

statutory and regulatory 

requirements as of June 30, 

2004, but were not included on the Federal upper limit list because their 

addition would not have lead to savings. Each of these 58 products had 

at least 3 A-rated versions and 3 suppliers, but did not have a published 

price that, when multiplied by 150 percent, was less than the AWP.11 

Overall, average AWPs were more than three times higher than the 

average AMPs for the reviewed drug products in the second quarter of 

2004. Among the 58 individual drug products, the average AWP 

exceeded the average AMP by as much as 10 times. Even the minimum 

published prices for these drugs were substantially higher than AMPs. 

On average, the lowest manufacturer-reported AWP or wholesale 

acquisition cost was almost two-and-a-half times the average AMP. 

Given that Federal regulation requires that these “minimum” published 

prices be multiplied by 150 percent, the difference between Federal 

upper limit amounts and AMPs would grow even wider. 

Basing Federal upper limit amounts on AMPs 

could save Medicaid over $100 million per year 

by allowing otherwise qualified products to be 

included on the Federal upper limit list 

As the previous finding shows, 

inflated published prices are 

causing CMS to exclude otherwise 

qualified drug products from the 

Federal upper limit list because 

their Federal upper limit amount would exceed the reimbursement 

amount set under the usual methods. However, if Medicaid based 

Federal upper limit amounts on 150 percent of the average reported 

AMP rather than 150 percent of the lowest published price, the program 

may have saved $75 million in just two quarters of 2004 due to these 

excluded drugs being added to the Federal upper limit list. Ten versions 

of two drugs were responsible for more than half of the $75 million in 

11 For 50 of the 58 drug products, both wholesale acquisition costs and AWPs were 

published in the compendium. Although wholesale acquisition costs are generally lower 

than the AWP, none of the published wholesale acquisition costs for these 58 drugs was 

low enough to result in a Federal upper limit amount that could potentially lead to 

savings; i.e., 150 percent of the lowest wholesale acquisition cost was not less than the 

AWP. 

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potential savings. Adding six versions of amoxicillin/potassium 

clavulanate at 150 percent of their average AMP would have saved 

almost $21 million in the first and second quarters of 2004. Adding four 

versions of paroxetine would have saved nearly $19 million in just the 

one quarter that it was qualified.12 

Furthermore, if Medicaid used the lowest reported AMP multiplied by 

150 percent when calculating Federal upper limit amounts, the program 

could have saved an estimated $111 million in just two quarters of 2004. 

Even if Federal upper limit calculations were based on 150 percent of 

the highest reported AMP, the program could have saved almost 

$39 million. 

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12 According to our analysis, paroxetine (brand name Paxil) first qualified for the Federal 

upper limit list on April 1, 2004. Four versions of paroxetine were added to the Federal 

upper list on February 14, 2005. While the Federal upper limit amounts for the four 

versions were slightly below their average AWP, the amounts were at least 20 percent 

higher than average Medicaid reimbursement for the products in the second quarter of 

2004. Therefore, adding paroxetine at 150 percent of its lowest published price (the 

current method) is unlikely to save Medicaid a significant amount. 

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ΔF I NDING S 

 CONCLUSION 

In the past several months, the President, Congress, and individual 

State Medicaid programs have expressed heightened interest in 

ensuring that Medicaid drug reimbursement amounts more closely 

resemble actual acquisition costs. In addition, the OIG has recently 

released a number of reports that once again showed that the published 

prices used as the basis for Medicaid reimbursement bear little or no 

resemblance to prices based on actual sales, especially for generic drugs. 

The Federal upper limit program is particularly affected by this 

disconnect between published prices and acquisition costs among 

generic drugs. 

Congress created the Federal upper limit program to help Medicaid take 

advantage of current market prices for lower-cost generic drugs. 

However, Federal regulation requires that Federal upper limit amounts 

be based on 150 percent of the prices published in national compendia. 

Not only does the pricing methodology prescribed by Federal law cause 

artificially high Federal upper limit amounts for those products on the 

Federal upper limit list, it also causes other qualified drugs to never be 

included on the list in the first place. This secondary effect is costing 

Medicaid millions of dollars per year, in addition to the considerable 

losses the program faces due to the inflated prices of drugs already on 

the Federal upper limit list. 

Based on years of work by OIG, GAO, and others revealing the inflated 

nature of AWPs and other published prices, the Medicare program 

eliminated the use of AWP in its pricing methodology for Part B covered 

drugs. The fact that Medicaid still uses these published prices to 

determine Federal upper limit amounts makes little sense. We believe 

that reimbursement in general and Federal upper limit amounts in 

particular should reliably reflect the actual costs of drugs to 

pharmacies. Consequently, there is an urgent need for the Medicaid 

policymaking community to revise Federal upper limit policies, thereby 

ensuring that reimbursement amounts for generic drugs accurately 

reflect market prices, and that the Federal upper limit program better 

meets its original intent. 

Agency Comments 

CMS concurred with our findings, stating that the use of published 

prices as the basis for Federal upper limit amounts precludes the 

addition of some drugs to the Federal upper limit list. CMS also 

noted the recent changes to the basis of reimbursement for Medicare 

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C O NCL USIO N 

drugs made by the MMA, and indicated that the same types of 

measures should be enacted for Medicaid. The full text of CMS’s 

comments is presented in Appendix A. 

OIG Response 

OIG appreciates CMS’s comments on this report, and looks forward to 

assisting CMS and Congress in their efforts to reform Medicaid’s 

current reimbursement methodology. 

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APPENDIX ~ A 

Comments from the Centers for Medicare & Medicaid Services 
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APPENDIX ~ A 
Δ ACKNOWLEDGMENTS 

This report was prepared under the direction of Robert A. Vito, Regional Inspector 

General for Evaluation and Inspections in the Philadelphia regional office, and Linda 

M. Ragone, Deputy Regional Inspector General. Other principal Office of Evaluation 

and Inspections staff who contributed include: 

David Tawes, Team Leader 

Linda Boone Abbott, Program Specialist 

Tricia Davis, Director, Medicare and Medicaid Branch 

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