Medicaid Drug Rebate Program: Inadequate Oversight Raises Concerns about Rebates Paid to States
Published: 2005-06-22T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: To help control Medicaid spending on drugs, states receive rebates from pharmaceutical manufacturers through the Medicaid drug rebate program. Rebates are based on two prices--best price and average manufacturer price (AMP)--reported by manufacturers. GAO was asked to discuss issues relating to the rebate program and in February 2005 issued a report, Medicaid Drug Rebate Program: Inadequate Oversight Raises Concerns about Rebates Paid to States (GAO-05-102). For that report, GAO reviewed program guidance and OIG reports and conducted an analysis of rebates for brand name drugs. This testimony is based on the February 2005 report.
section_title: What GAO Found
paragraphs: As noted in the February 2005 report, GAO found that rebate program oversight does not ensure that manufacturer-reported prices or price determination methods are consistent with program criteria specified in the rebate statute, rebate agreement, and Centers for Medicare & Medicaid Services (CMS) program memoranda. In administering the program, CMS conducts only limited checks for reporting errors in manufacturer-reported drug prices and only reviews price determination methods when manufacturers request recalculations of prior rebates. In several reports, the Department of Health and Human Services' (HHS) Office of Inspector General (OIG) identified several factors that limited its ability to verify the accuracy of manufacturer-reported prices, including a lack of clear guidance on how AMP should be calculated. GAO noted that although in some cases OIG found problems with manufacturers' price determination methods and prices, CMS had not followed up with manufacturers to make sure that problems had been resolved. GAO also found considerable variation in the methods that manufacturers used to determine best price and AMP. In some cases, manufacturers' assumptions could have lowered rebates; in other cases, their assumptions could have raised rebates. Manufacturers are allowed to make assumptions when determining best price and AMP, as long as they are consistent with the law and the rebate agreement. GAO found that manufacturers made varying assumptions about which sales and prices to include and exclude from their determinations of best price and AMP. Manufacturers also differed in how they accounted for certain price reductions, fees, and other transactions when determining best price and AMP. The rebates that manufacturers pay to states are based on prices and financial concessions manufacturers make available to entities that purchase their drugs but may not reflect certain financial concessions they offer to other entities. In particular, the rebate program does not clearly address certain manufacturer payments negotiated by pharmacy benefit managers (PBM) on behalf of third-party payers. These types of financial arrangements are relatively new to the market. CMS's guidance to manufacturers has not clearly stated how manufacturers should treat these payments when determining best price and AMP. Additional guidance on how to account for these payments could affect rebates, although whether rebates would increase or decrease as a result, and by how much, is uncertain.

section_title: Letter
paragraphs: I am pleased to be here today to discuss our report entitled Medicaid Drug  Rebate Program: Inadequate Oversight Raises Concerns about Rebates  Paid to Saes, which we issued in February 2005. Prescription drug tt spending accounts for a substantial and growing share of state Medicaid  program outlays. The Omnibus Budget Reconciliation Act of 1990  established the Medicaid drug rebate program to help control Medicaid  drug spending. Under the rebate program, pharmaceutical manufacturers  pay rebates to states as a condition for the federal contribution to  Medicaid spending for the manufacturers’ outpatient prescription drugs. In  recent years, the importance of Medicaid rebates to states has grown as  Medicaid spending on prescription drugs has risen. From fiscal year 2000  to 2003, Medicaid drug spending increased at an annual average rate of   18 percent, while Medicaid spending as a whole grew 10 percent annually  during that period. In fiscal year 2003, Medicaid drug expenditures were  $33.8 billion out of $273.6 billion in total Medicaid spending; under the  rebate program, manufacturers paid rebates to states of about $6.5 billion  for covered outpatient drugs.
Medicaid rebates for brand name outpatient drugs are calculated with two  prices that participating manufacturers must report to the federal  government for each drug: the “best price” and the “average manufacturer  price” (AMP). Best price and AMP represent prices that are available from  manufacturers to entities that purchase their drugs. Best price for a drug is  the lowest price available from the manufacturer to any purchaser, with  some exceptions. AMP for a drug is the average price paid to a  manufacturer by wholesalers for drugs distributed to the retail pharmacy  class of trade. Both best price and AMP must reflect certain financial                                                                                                                                     t concessions, such as discounts, that are available to drug purchasers. The  basic Medicaid rebate for a brand name drug equals the number of units of  the drug paid for by the state Medicaid program multiplied by the basic  “unit rebate amount” for the drug, which is either the difference between  best price and AMP, or 15.1 percent of AMP, whichever is greater. The  closer best price is to AMP, the more likely the rebate will be based on  15.1 percent of AMP—the minimum rebate amount.
The Centers for Medicare & Medicaid Services (CMS) administers and  oversees the rebate program, entering into rebate agreements with  manufacturers, collecting and reviewing manufacturer-reported best  prices and AMPs, and providing ongoing guidance to manufacturers and  states on the program. The Secretary of Health and Human Services, by  law, may verify manufacturer-reported prices and has delegated that  authority to the Department of Health and Human Services’ (HHS) Office  of Inspector General (OIG).
In this testimony, I will discuss our February 2005 report, in which we  addressed (1) federal oversight of manufacturer-reported best prices and  AMPs and the methods manufacturers used to determine those prices,   (2) how manufacturers’ methods of determining best price and AMP could  have affected the rebates they paid to state Medicaid programs, and   (3) how the rebate program reflects financial concessions available in the  private market.
In carrying out our work, we reviewed the rebate statute, the standard  rebate agreement between CMS and participating manufacturers, CMS  program memoranda, OIG reports on the rebate program, and market  literature; interviewed officials from CMS and OIG; and conducted an  analysis of rebates for brand name drugs, for which we reviewed the  pricing methodologies for the 13 manufacturers that accounted for the  highest Medicaid expenditures in the last two quarters of 2000. We  compared manufacturers’ methods of determining best price and AMP to  the rebate statute, rebate agreement, and relevant CMS program  memoranda. In addition, we examined sales transaction data provided by  these manufacturers. We received data for the 10 brand name drugs that  produced the highest Medicaid expenditures for the last two quarters of  2000 for each manufacturer, as well as data for 5 additional frequently  prescribed brand name drugs—135 drugs in total. We examined the sales  transaction data to understand how manufacturers implemented their  price determination methods and to calculate the impact of manufacturer  practices on rebates. Because we purposely selected manufacturers and  drugs that accounted for a large share of Medicaid drug spending, the  results of our analysis cannot be generalized. We performed our work  from December 2003 through January 2005 in accordance with generally  accepted government auditing standards.
In brief, we reported in February 2005 that rebate program oversight does  not ensure that manufacturer-reported prices or price determination  methods are consistent with program criteria as specified in the rebate  statute, rebate agreement, and CMS program memoranda. We found that  CMS conducts only limited checks for reporting errors in manufacturer- reported drug prices and only reviews price determination methods when  manufacturers request recalculations of prior rebates. In addition, OIG  reported that its review efforts were hampered by unclear CMS guidance  on how manufacturers are to determine AMP and by a lack of  manufacturer documentation. Although OIG in some cases identified  problems with manufacturers’ price determination methods and reported  prices, CMS had not followed up with manufacturers to make sure that  those problems had been resolved. We also found considerable variation  in the methods that the manufacturers we reviewed used to determine  best price and AMP. In some cases, manufacturers’ assumptions could  have lowered rebates; in other cases, their assumptions could have raised  rebates. Manufacturers are allowed to make reasonable assumptions when  determining best price and AMP, as long as those assumptions are  consistent with the law and the rebate agreement. We found that  manufacturers made varying assumptions about which sales and prices to  include and exclude from their determinations of best price and AMP. We  also found that manufacturers differed in how they accounted for certain  price reductions, fees, and other transactions when determining best price  and AMP. Finally, we found that the rebates that manufacturers pay to  states are based on prices and financial concessions that manufacturers  make available to entities that purchase their drugs but may not reflect  certain financial concessions they offer to other entities in today’s  complex market. In particular, the rebate program does not clearly  address certain concessions that are negotiated by pharmacy benefit  managers (PBM) on behalf of third-party payers—concessions that are a  relatively new development in the market.
We concluded that although the rebate program relies on manufacturer- reported prices to determine the level of rebates that manufacturers pay to  states, CMS has not provided clear program guidance for manufacturers to  follow when determining those prices; in addition, oversight by CMS and  OIG has been inadequate to ensure that manufacturer-reported prices and  methods are consistent with the law, rebate agreement, and CMS program  memoranda. We recommended that CMS take several steps to improve  program guidance and oversight, namely, to issue clear guidance on  manufacturer price determination methods and the definitions of best  price and AMP; update such guidance as additional issues arise; and  implement, in consultation with OIG, systematic oversight of the price  determination methods employed by pharmaceutical manufacturers and a  plan to ensure the accuracy of manufacturer-reported prices and rebates  to states. HHS agreed with the importance of guidance to manufacturers,  but disagreed with our conclusion that there has been inadequate program  oversight. We acknowledged HHS’s oversight actions, but stated that HHS  oversight does not adequately ensure the accuracy of manufacturer- reported prices and rebates paid to states. Some of the manufacturers that  supplied data for the report raised concerns about our discussion of  certain methods they used to determine rebates, and we clarified our  discussion of manufacturers’ price determination methods.
subsections: section_title: Background
paragraphs: The Medicaid drug rebate program provides savings to state Medicaid  programs through rebates for outpatient prescription drugs that are based  on two prices per drug that manufacturers report to CMS: best price and  AMP. These manufacturer-reported prices are based on the prices that  manufacturers receive for their drugs in the private market and are  required to reflect certain financial concessions such as discounts.
Pharmaceutical manufacturers sell their products directly to a variety of  purchasers, including wholesalers, retailers such as chain pharmacies, and  health care providers such as hospitals that dispense drugs directly to  patients. The prices that manufacturers charge vary across purchasers.  The amount a manufacturer actually realizes for a drug is not always the  same as the price that is paid to the manufacturer at the time of sale.  Manufacturers may offer purchasers rebates or discounts that may be  realized after the initial sale, such as those based on the volume of drugs  the purchasers buy during a specified period or the timeliness of their  payment. The private market also includes PBMs, which manage  prescription drug benefits for third-party payers and may also operate  mail-order pharmacies.
The statute governing the Medicaid drug rebate program and the standard  rebate agreement that CMS signs with each manufacturer define best price  and AMP and specify how those prices are to be used to determine the  rebates due to states. In the absence of program regulations, CMS has  issued program memoranda in order to provide further guidance to  manufacturers regarding how to determine best price and AMP. The  rebate agreement states that in the absence of specific guidance on the  determination of best price and AMP, manufacturers may make  “reasonable assumptions” as long as those assumptions are consistent  with the “intent” of the law, regulations, and the rebate agreement. As a  result, price determination methods may vary across manufacturers,  particularly with respect to which transactions they consider when  determining best price and AMP.
Under the rebate statute, best price is the lowest price available from the  manufacturer to any wholesaler, retailer, provider, health maintenance  organization (HMO), or nonprofit or government entity, with some  exceptions. Best price is required to be reduced to account for cash  discounts, free goods that are contingent on purchase requirements,  volume discounts and rebates (other than rebates under this program), as  well as—according to the rebate agreement and a CMS program  memorandum—cumulative discounts and any other arrangements that  subsequently adjust the price actually realized. Prices charged to certain  federal purchasers, eligible state pharmaceutical assistance programs and  state-run nursing homes for veterans, and certain health care facilities— including those in underserved areas or serving poorer populations—are  not considered when determining best price. Prices available under  endorsed Medicare discount card programs, as well as those negotiated by  Medicare prescription drug plans or certain retiree prescription drug  plans, are similarly excluded from best price. Nominal prices—prices that  are less than 10 percent of AMP—also are excluded from best price.
AMP is defined by statute as the average price paid to a manufacturer for  the drug by wholesalers for drugs distributed to the retail pharmacy class  of trade. The transactions used to calculate AMP are to reflect cash  discounts and other reductions in the actual price paid, as well as any  other price adjustments that affect the price actually realized, according to  the rebate agreement and a CMS program memorandum. Under the  rebate agreement, AMP does not include prices to government purchasers  based on the Federal Supply Schedule, prices from direct sales to  hospitals or HMOs, or prices to wholesalers when they relabel drugs they  purchase under their own label.
The relationship between best price and AMP determines the unit rebate  amount and thus the size of the rebate that states receive for a brand name  drug. The basic unit rebate amount is the larger of two values: the  difference between best price and AMP, or 15.1 percent of AMP. The  closer best price is to AMP, the more likely the rebate for a drug will be  based on the minimum amount—15.1 percent of AMP—rather than the  difference between the two values. A state’s rebate for a drug is the  product of the unit rebate amount and the number of units of the drug paid  for by the state’s Medicaid program.
Manufacturers pay rebates to states on a quarterly basis. They are required  to report best price and AMP for each drug to CMS within 30 days of the  end of each calendar quarter. Once CMS receives this information, the  agency uses the rebate formula to calculate the unit rebate amount for the  smallest unit of each drug, such as a tablet, capsule, or ounce of liquid.  CMS then provides the unit rebate amount to the states. Each state  determines its Medicaid utilization for each covered drug—as measured by  the total number of the smallest units of each dosage form, strength, and  package size the state paid for in the quarter—and reports this information  to the manufacturer within 60 days of the end of the quarter. The  manufacturer then must compute and pay the rebate amount to each state  within 30 days of receiving the utilization information.
Manufacturers are required to report price adjustments to CMS when there  is a change in the prices they reported for a prior quarter. These  adjustments may result from rebates, discounts, or other price changes  that occur after the manufacturers submit prices to CMS. Manufacturers  also may request that CMS recalculate the unit rebate amounts using  revised prices if they determine that their initially reported prices were  incorrect because of, for example, improper inclusion or exclusion of  certain transactions. In 2003, CMS issued a final rule that, effective  January 1, 2004, limits the time for manufacturers to report any price  adjustments to 3 years after the quarter for which the original price was  reported.
section_title: Program Oversight Does Not Ensure That Manufacturer- Reported Prices or Price Determination Methods Are Consistent with Program Criteria
paragraphs: As we reported in February 2005, the minimal oversight by CMS and OIG  of manufacturer-reported prices and price determination methods does  not ensure that those prices or methods are consistent with program  criteria, as specified in the rebate statute, rebate agreement, and CMS  program memoranda. CMS conducts limited reviews of prices and only  reviews price determination methods when manufacturers request  recalculations of prior rebates. In addition, OIG reported that its review  efforts had been hampered by unclear CMS guidance on how to determine  AMP and by a lack of manufacturer documentation. Although OIG in some  cases identified problems with manufacturers’ price determination  methods and reported prices, CMS had not followed up with  manufacturers to make sure that those problems were resolved.
CMS reviews drug prices submitted by approximately 550 manufacturers  that participate in the program. Each quarter, CMS conducts automated  data edit checks on the best prices and AMPs for about 25,000 drugs to  identify reporting errors. These checks are intended to allow CMS to  ensure that, for example, prices are submitted in the correct format and  that the reported prices are for drugs covered by Medicaid. When data  checks indicate a potential reporting error, CMS asks the manufacturer for  corrected drug prices, but CMS does not have a mechanism in place to  track whether the manufacturer submits corrected prices. CMS sometimes  identifies other price reporting errors when it calculates the unit rebate  amount for a drug, but the agency does not follow up with manufacturers  to verify that errors have been corrected. For example, CMS notifies a  manufacturer if the unit rebate amount for a drug deviates from that of the  prior quarter by more than 50 percent. It would be up to that manufacturer  to indicate whether the underlying reported prices were correct. If the  manufacturer determined that there were problems with the reported  price—for example, typographical errors such as misplaced decimals—it  would send corrected data to CMS. If the manufacturer did not send  revised pricing data to CMS, then the unit rebate amount would remain the  same.
CMS does not generally review the methods and underlying assumptions  that manufacturers use to determine best price and AMP, even though  these methods and assumptions can have a substantial effect on rebates.
Furthermore, CMS does not generally check to ensure that manufacturers’  methods are consistent with the rebate statute and rebate agreement, but  rather reviews the methods only when manufacturers request  recalculations of prior rebates. A manufacturer may request a  recalculation of a prior rebate any time it changes the methods it uses to  determine best price or AMP. CMS requires the manufacturer to submit  both its original and its revised methods when requesting a recalculation  of prior rebates so that the agency can evaluate whether the revised  methods are consistent with the rebate statute, rebate agreement, and  program memoranda. Recalculations can involve substantial amounts of  money; for example, six approved recalculations we examined reduced  prior rebates to states by a total of more than $220 million.
In reports on its audits of manufacturer-reported prices, OIG stated that its  efforts were hampered by unclear CMS guidance on determining AMP and  by a lack of manufacturer documentation. In its first review of  manufacturer-reported prices in 1992, OIG found that it could not verify  the AMPs reported by the four manufacturers it reviewed. OIG could not  evaluate manufacturers’ methods for determining AMP because neither  the rebate statute nor CMS had provided sufficiently detailed instructions  on methods for calculating AMP. OIG therefore advised CMS that it  planned no future AMP data audits until CMS developed a specific written  policy on how AMP was to be calculated. CMS disagreed, saying that the  rebate statute and rebate agreement had already established a  methodology for computing AMP and stressed that this methodology was  clarified, at manufacturer request, on an as-needed basis through  conversations with individual manufacturers.
In its second review of manufacturer-reported prices, in 1995 OIG  attempted to verify one manufacturer’s recalculation request. While OIG  reported that it could not complete its analysis because of inadequate  manufacturer documentation, it was able to identify some manufacturer  errors in determining AMP. In its review, OIG found that the manufacturer  had miscalculated its revised AMP because it included “free goods”  specifically excluded in the rebate agreement, miscalculated cash  discounts, and improperly included sales rebates applicable to a period  other than the quarter being audited. OIG recommended that CMS have  the manufacturer revise its AMP data. Although CMS agreed with OIG’s  recommendations, as of October 2004, it had not required any such  revision of the audited manufacturer’s AMP determinations.
In its third review, conducted in 1997, OIG attempted to review a  manufacturer’s recalculation request but again reported that it was unable  to complete its evaluation because of a lack of specific guidance on  determining AMP and a lack of manufacturer documentation supporting  its revised AMP. In the absence of guidance from CMS, OIG defined retail  pharmacy class of trade for this audit to include only independent and  chain pharmacies that sold drugs directly to the public. Therefore, OIG  recommended that CMS ask the manufacturer to exclude from the  calculation of AMP transactions that OIG determined were to nonretail  entities such as mail-order pharmacies, nursing home pharmacies,  independent practice associations, and clinics. OIG also found that the  manufacturer used a flawed methodology to identify certain sales that it  had included in the retail class of trade and thus AMP. As a result, OIG  recommended that CMS ask the manufacturer to exclude those sales from  AMP unless the manufacturer could provide additional documentation to  support the inclusion of those sales in AMP. Although CMS did not agree  with OIG’s definition of retail pharmacy class of trade, CMS concurred  with OIG’s recommendation to ask the manufacturer to recalculate AMP.  As of October 2004, CMS had not required any revision of this  manufacturer’s AMP determinations.
In its fourth review of manufacturer-reported prices, issued in 2001, OIG  investigated how manufacturers were treating repackagers—entities like  HMOs that repackage or relabel drugs under their own names—in their  best price determinations. The work followed up on previous work OIG  conducted in response to a congressional inquiry in 1999. The rebate  statute states that HMO sales are required to be included in best price  determinations. CMS’s June 1997 program memorandum stated that sales  to other manufacturers that repackage the drugs are to be excluded from  best price determinations. However, the rebate statute, rebate agreement,  and CMS program memoranda did not address how HMOs should be  treated when they act as repackagers. In a letter issued in response to the  1999 congressional request, OIG reported that excluding drug sales to two  HMOs that acted as repackagers from best price determinations lowered  state rebate amounts by $27.8 million in fiscal year 1998. In July 2000,  CMS issued an additional program memorandum to manufacturers stating  that sales to an HMO should be considered in best price determinations  regardless of whether the HMO was a repackager. In 2001, OIG reported  that states lost $80.7 million in rebates in fiscal year 1999 because of  improperly excluded drug sales to HMO repackagers. In September 2004,  a CMS official told us that CMS planned to release a program  memorandum instructing manufacturers to revise prior rebates for which  they had excluded sales to HMOs from best price. However, CMS does not  have a mechanism in place to track that manufacturers have made these  rebate adjustments and therefore cannot verify that manufacturers have  made or will make these adjustments.
As we reported, OIG officials told us that, despite the program releases  issued by CMS, they remain unable to evaluate AMP because of the lack of  clear CMS guidance, particularly related to the retail pharmacy class of  trade and treatment of PBM transactions.
section_title: Manufacturer Price Determination Methods Varied: Some Could Have Led to Lower Rebates
paragraphs: As we reported, we found considerable variation in the methods that the  manufacturers we reviewed used to determine best price and AMP.  Manufacturers are allowed to make reasonable assumptions when  determining best price and AMP, as long as those assumptions are  consistent with the law and the rebate agreement. The assumptions often  pertain to the transactions, including discounts or other price reductions,  that are considered in determining best price and AMP. We found that in  some cases manufacturers’ assumptions could have led to lower rebates  and in other cases to higher rebates. Manufacturers can later revise their  assumptions and request recalculations of previously paid rebates, which  can result in states repaying any excess rebates.
We found that manufacturers made varying assumptions about which  sales and prices to include and exclude from their determinations of best  price and AMP. For example, some included sales to a broad range of  facilities in AMP, excluding only transactions involving facilities explicitly  excluded by the law, rebate agreement, or CMS program memoranda. In  contrast, others included sales to a narrower range of purchasers—only  those purchasers explicitly included in AMP by the law, rebate agreement,  or CMS program memoranda. Manufacturers also differed in how they  treated certain types of health care providers that are not explicitly  addressed by the law, rebate agreement, or CMS program memoranda. For  example, some manufacturers included sales to physician groups in AMP,  while others did not. These assumptions can affect the reported prices  and, in turn, the size of rebates paid to states.
We also found that manufacturers also differed in how they accounted for  certain price reductions, fees, and other transactions when determining  best price and AMP. For example, manufacturers differed in how they  accounted for certain transactions involving prompt payment discounts. In  some cases, manufacturers’ assumptions could have reduced rebates  below what they otherwise would have been. In other cases,  manufacturers’ methods could have raised rebates. For example, some  manufacturers included in the determination of best price the contract  prices they had negotiated with purchasers, even if they made no sales at  those prices during the reporting quarter. This practice could have  increased rebates to states.
section_title: Rebate Program Does Not Clearly Address Certain Financial Concessions Negotiated by PBMs
paragraphs: As we reported, the rebates that manufacturers pay to states are based on  a range of prices and financial concessions that manufacturers make  available to entities that purchase their drugs, but they may not reflect  certain financial concessions manufacturers offer to other entities in  today’s complex market. In particular, the rebate program does not clearly  address certain concessions that are negotiated by PBMs on behalf of  third-party payers, such as employer-sponsored health plans and other  health insurers. The rebate program did not initially address these types of  concessions, which are relatively new to the market. CMS’s subsequent  guidance to manufacturers has not clearly stated how manufacturers  should treat these concessions in their determinations of best price and  AMP. Within the current structure of the rebate formula, additional  guidance on how to account for manufacturer payments to PBMs could  affect the rebates paid to states, although whether rebates would increase  or decrease as a result, and by how much, is uncertain.
Certain manufacturer financial concessions that are negotiated by PBMs  on behalf of their third-party payer clients are not clearly reflected in best  price or AMP. PBMs, in one of the roles they play in the market, may  negotiate payments from manufacturers to help reduce their third-party  payer clients’ costs for prescription drugs. (In these circumstances, the  third-party payer does not purchase drugs directly from the manufacturer  but instead covers a portion of the cost when its enrollees purchase drugs  from pharmacies.) The basis of these PBM-negotiated manufacturer  payments varies. For example, manufacturers may make a payment for  each unit of a drug that is purchased by third-party payer enrollees or may  vary payment depending on a PBM’s ability to increase the utilization, or  expand the market share, of a drug. The payment may be related to a  specific drug or a range of drugs offered by the manufacturer. The amount  of financial gain PBMs receive from these negotiated payments also varies.  A PBM may pass on part or all of a manufacturer’s payment to a client,  depending on the terms of their contractual relationship. Manufacturers  may not be parties to the contracts that PBMs have with their clients and  so may not know the financial arrangements between the PBMs and their  clients.
These types of financial arrangements between manufacturers and PBMs  are a relatively new development in the market. When the program began  in 1991, PBMs played a smaller role in the market, managing fewer  covered lives and providing a more limited range of services—such as  claims processing—for their clients. Since then, PBMs’ role has grown  substantially, contributing to a market that is much more complex,  particularly with respect to the types of financial arrangements involving  manufacturers. PBMs now commonly negotiate with manufacturers for  payments on behalf of their clients, in addition to providing other services.  Although complete data on the prevalence and magnitude of PBM- negotiated manufacturer payments are not readily available, PBM officials  and industry experts have said that these and other manufacturer  payments to PBMs are a large portion of PBMs’ earnings; further, recent  public financial information suggests that manufacturer payments to PBMs  as a whole are substantial and key to PBMs’ profitability.
CMS has acknowledged the complexity that arrangements between  manufacturers and PBMs introduce into the rebate program but has not  clearly addressed how these arrangements should be reflected in  manufacturer-reported prices. In 1997, CMS issued program memoranda  that noted new types of arrangements involving manufacturer payments to  PBMs and attempted to clarify whether those arrangements should be  reflected in best price and AMP. However, in a program memorandum  issued shortly thereafter, CMS stated that there had been confusion  concerning the intent of the previous program memoranda and that the  agency had “intended no change” to program requirements. At the time,  CMS said that staff were reexamining the issue and planned to shortly  clarify the agency’s position. As of January 2005, CMS had not issued such  clarifying guidance on how PBM-negotiated manufacturer payments  should be reflected in best price and AMP when PBMs have negotiated on  behalf of third parties. CMS officials with responsibility for issuing  program memoranda advised us that they could comment only on specific  situations. They stated that financial arrangements among entities in the  market are complex and always changing; in their view, the market is too  complicated for them to issue general policy guidance that could cover all  possible cases. Rather, these officials told us that they make  determinations about PBM payments on a case-by-case basis, but only  when manufacturers contact them regarding this issue.
Within the current structure of the rebate formula, additional guidance on  how to account for manufacturer payments to PBMs could affect the  rebates paid to states, although whether rebates would increase or  decrease as a result, and by how much, is uncertain. Because of the  structure of the rebate formula, any change in the determination of best  price and AMP could raise or lower rebates for any given drug, depending  on how the change affects the relationship between those prices.  Incorporating PBM-negotiated manufacturer payments into the rebate  determination could decrease the unit rebate amount for a drug if, for  example, it reduced AMP but had no effect on best price. Alternatively, if  such a change increased the difference between AMP and best price for a  drug, the unit rebate amount could increase.
section_title: Concluding Observations
paragraphs: As we stated in our report, because the rebate program relies on  manufacturer-reported prices, adequate program oversight is important to  ensure that states receive the rebates to which they are entitled. However,  CMS has not provided clear program guidance for manufacturers to follow  when determining prices, and this has hampered OIG’s efforts to audit  manufacturers’ methods and reported prices. In addition, oversight by  CMS and OIG has been inadequate to ensure that manufacturer-reported  prices and methods are consistent with the law, rebate agreement, and  CMS program memoranda. As a result, we recommended that CMS take  several steps to improve program guidance and oversight, namely, to issue  clear guidance on manufacturer price determination methods and the  definitions of best price and AMP; update such guidance as additional  issues arise; and implement, in consultation with OIG, systematic  oversight of the price determination methods employed by pharmaceutical  manufacturers and a plan to ensure the accuracy of manufacturer-reported  prices and rebates to states. We believe that these actions could help  ensure that the Medicaid drug rebate program achieves its objective of  controlling states’ Medicaid drug spending. HHS agreed with the  importance of guidance to manufacturers, but disagreed with our  conclusion that there has been inadequate program oversight. We  acknowledged HHS’s oversight actions, but stated that HHS oversight does  not adequately ensure the accuracy of manufacturer-reported prices and  rebates paid to states. Some of the manufacturers that supplied data for  the report raised concerns about our discussion of certain methods they  used to determine rebates, and we clarified our discussion of  manufacturers’ price determination methods.
Mr. Chairman, this concludes my prepared statement. I would be happy to  respond to any questions you or other Members of the Subcommittee may  have.
section_title: Contact and Staff Acknowledgments
paragraphs: For further information about this testimony, please contact Kathleen King  at (202) 512-7118. Debra Draper, Robin Burke, and Ann Tynan also made  key contributions to this statement.
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