In seeking to provide their hospital customers with medical-surgical products at favorable prices, GPOs engage with manufacturers in certain contracting processes and sometimes use certain strategies to obtain price discounts. Many manufacturers bid for GPO contracts because hospital purchases with these contracts may increase manufacturers’ market share. GPOs are subject to federal antitrust laws. A statement developed by enforcement agencies helps GPOs determine whether their business practices are likely to be challenged under the antitrust laws. Many manufacturers use GPO contracts to sell their medical-surgical products. These products include two types—commodities and medical devices. Commodities such as cotton balls and bandages are examples of items for which physicians and other clinicians generally do not have strong preferences. Manufacturers commonly use GPO contracts to sell hospitals these non-preference products because hospitals purchase these items in large quantities. In contrast, medical devices can be “clinical preference” items—that is, those for which physicians and other practitioners are likely to express a preference. High-technology medical devices such as pacemakers and stents are examples of clinical preference items. Some manufacturers prefer to sell these items directly to hospitals. The GPO industry that purchases products for hospitals is large and moderately concentrated. Experts have not determined a precise number of GPOs currently in business, but some estimate that there are hundreds of GPOs. While some GPOs operate regionally, this study focused on seven national GPOs with purchasing volumes over $1 billion that account for more than 85 percent of all hospital purchases nationwide made through GPO contracts. In 2002, the combined purchasing volume of these GPOs totaled about $43 billion, excluding distribution dollars. (See table 1.) Among the GPOs in our study, the two largest GPOs account for about 66 percent of total GPO purchasing volume for all medical products (including, among other things, medical-surgical products, pharmaceuticals, capital equipment, and food). These two GPOs also account for 70 percent of the seven GPOs’ total medical-surgical product volume. One of the two largest GPOs has as members 1,569 of the nation’s approximately 6,900 hospitals; the other has 1,469 hospital members. One of the two largest GPOs permits its members to belong to other national GPOs, whereas the other largest GPO does not. A GPO’s contracting process for manufacturers’ medical-surgical products generally includes several phases—namely, product identification and selection, requests for proposals or invitations to bid, review of submitted proposals and applications, assessment of product quality, contract negotiation, and contract award. The contract negotiation phase may include the negotiation of a contract administrative fee. This fee is designed to cover a GPO’s operating expenses and serves as its main source of revenue. Contract administrative fees are calculated as a percentage of each customer’s purchases of the particular product included in a GPO contract. In negotiating contracts, GPOs use certain contracting strategies as incentives for manufacturers to provide deeper discounts and for hospital members to concentrate purchasing volume to obtain better prices. These strategies are not limited to use by GPOs, as some manufacturers also use them in negotiating contracts with GPOs to increase market share. Key contracting strategies include the following: Sole-source contracts give one of several manufacturers of comparable products an exclusive right to sell a particular product through a GPO. Commitment refers to a specified percentage of purchasing volume that, when met by the GPO’s customer (such as a hospital), will result in a deeper price discount. Commitment levels can be set either by the GPO or the manufacturer. For example, a manufacturer might offer greater discounts to GPO customers that purchase at least 80 percent of a certain group of products from that manufacturer. Commitment requirements can also be tiered, resulting in the opportunity for the customer to commit to different percentages of purchasing volume: the higher the percentage, the lower the price. Bundling links price discounts to purchases of a specified group of products. GPOs award several types of bundling arrangements. One type bundles combinations of products from one manufacturer. A manufacturer may find this arrangement advantageous because it allows increased sales of products in the bundle that may not fare well as stand-alone products. Another type bundles products from two or more manufacturers. Also, contracts can be bundled for complementary products, such as protective hats and shoe coverings used in hospital operating rooms, while others bundle unrelated products such as patient gowns and intravenous solutions. Hospitals that purchase bundles of unrelated products receive a price discount on all products included in the bundle. Contracts of long duration—those in effect for 5 years or more—can direct business to manufacturers for an extended period. When used by GPOs with a large market share, these contracting strategies have the potential to reduce competition. For example, if a large GPO negotiates a sole-source contract with a manufacturer, the contract could cause an efficient, competing manufacturer to lose business and exit from the market and could discourage other manufacturers from entering the market. Certain aspects of GPOs’ operations are specifically addressed by federal statute, regulation, and policy. While “anti-kickback” provisions of the Social Security Act prohibit payments in return for orders or purchases of items for which payment may be made under a federal health care program, the act also contains an exception for amounts paid by vendors of goods or services to a GPO. Therefore, GPOs are allowed to collect contract administrative fees from manufacturers and other vendors that could otherwise be considered unlawful. In addition, regulations issued by the Department of Health and Human Services establishing “safe harbors” for purposes of the “anti-kickback” provisions provide that GPOs are to have written agreements with their customers either stating that fees are to be 3 percent or less of the purchase price, or specifying the amount or maximum amount that each vendor will pay. The GPOs must also disclose in writing to each customer, at least annually, the amount received from each vendor with respect to purchases made by or on behalf of the customer. The Office of Inspector General in the Department of Health and Human Services is responsible for enforcing these regulations. Recognizing that GPO arrangements may promote competition among manufacturers and yield lower prices in some cases and may reduce competition in other cases, the U.S. Department of Justice and the Federal Trade Commission issued a statement in 1993 for joint purchasing arrangements. This statement sets forth an “antitrust safety zone” for GPOs that meet a two-part test, under which the agencies will not generally challenge GPO business practices under the antitrust laws. Essentially, the two-part test in the context of medical-surgical products is as follows: (1) purchases through the GPO account for less than 35 percent of the total sales of the product in the relevant market, and (2) the cost of the products purchased through the GPO accounts for less than 20 percent of the total revenues from all products sold by each GPO member. In recent years, some manufacturers of medical-surgical products have contended that GPOs employ a slow product selection process and set high administrative fees that have made it difficult for some firms to obtain GPO contracts. These firms tend to be small manufacturers that may have fewer financial resources available to successfully complete GPOs’ contracting processes than large manufacturers. The GPOs we studied reported generally having contracting processes that can be modified for certain types of products. They also reported receiving from manufacturers administrative fees that were generally consistent with federal regulations established by HHS. In discussing GPOs’ selection of products and negotiation of fees, several manufacturers we contacted pointed to the paperwork and duration of these processes as burdensome. Not all manufacturers shared the same perspective. One small manufacturer commented that the process could sometimes be relatively easy but that the selection process can be more difficult if the manufacturer is selling only one product. The GPOs we studied were able to alter the duration of their process for selecting products to place on contract, particularly when they considered these products to be innovative. Based on their reported information, GPOs’ product selection processes generally took 6 months, and ranged from as short as 1 month to as long as 18 months. One GPO specifically reported expediting or modifying its formal selection process when it considered a product to be innovative and wanted to award a contract quickly. Most GPOs did not have a distinctly separate process for selecting innovative technology but reported that these products were generally selected in a shorter amount of time compared with other products. Figure 1 shows, across the seven GPOs, the average minimum, most frequent, and maximum times taken for product selection. The GPOs in our study reported consulting various sources before making a decision, including the GPO’s customers requesting the product; published studies about the product; internal and external technology assessments; and different manufacturers of the product, both with and without a GPO contract. In all cases, the GPOs cited customer requests for products as the most important factor in identifying which products to place on contract. In selecting a manufacturer, six of the seven GPOs, including the two largest, solicit proposals publiclyeither through requests for proposals or requests for bids through their Web sites. The extent to which these processes are open to all manufacturers varies by GPO and by product. For example, one of the GPOs solicits proposals publicly for clinical preference products, but not for commodities. GPO-reported information on new contracts awarded in 2002 suggest that GPOs’ solicitations were not limited to manufacturers already on contract. Nearly one-third of all the newly negotiated contracts awarded by the seven GPOs in 2002 were awarded to manufacturers with which the GPO had not previously contracted. The percentage of such contracts ranged from 16 percent to 55 percent for the GPOs in our study. For the two largest GPOs, this share was 29 percent and 55 percent.