Medicare is the federal program that helps pay for a variety of health care services for about 44 million elderly and disabled beneficiaries. Most Medicare beneficiaries participate in Medicare Part B, which helps pay for certain physician, outpatient hospital, laboratory, and other services; medical equipment and supplies, such as oxygen, wheelchairs, hospital beds, walkers, orthotics, prosthetics, and surgical dressings; and certain outpatient drugs. Medicare Part B pays for most medical equipment and supplies using a series of fee schedules. Generally, Medicare has a separate fee schedule for each state that includes most items, and there are upper and lower limits on the allowable amounts that can be paid in different states to reduce variation in what Medicare pays for similar items in different parts of the country. Medicare pays 80 percent of the lesser of the actual charge for the item or fee schedule amount for the item, and the beneficiary pays the balance. Beneficiaries typically obtain medical equipment and supplies from suppliers, who submit claims to Medicare on beneficiaries’ behalf. Suppliers include medical equipment retail establishments and outpatient providers, such as physicians, home health agencies, and physical therapists. To handle claims processing for medical equipment and supplies, CMS contracts with durable medical equipment Medicare administrative contractors. Using its authority under the BBA, CMS conducted a competitive bidding demonstration to set Medicare Part B payment rates for groups of selected medical equipment and supplies. CMS contracted with Palmetto Government Benefits Administrators (Palmetto) to administer the competitive bidding demonstration, which was implemented in two locations—the Polk County, Florida, metropolitan statistical area and parts of the San Antonio, Texas, metropolitan statistical area. Two cycles of bidding took place in Polk County, with competitively set fees effective from October 1, 1999, to September 30, 2001, and from October 1, 2001, to September 30, 2002. One cycle of bidding took place in San Antonio, and competitively set fees were effective from February 1, 2001, to December 31, 2002. Bidding and implementation processes were similar at both locations. The demonstration ended on December 31, 2002. In December 2003, the MMA required CMS to conduct competitive bidding for DME, supplies, off-the-shelf orthotics, and enteral nutrients and related equipment and supplies on a large scale. The MMA required that competition under the program begin in 10 of the largest metropolitan statistical areas in 2007, in 80 of the largest metropolitan statistical areas in 2009, and in other areas after 2009. The law established a new accreditation requirement for all Medicare suppliers of medical equipment and supplies and required CMS to develop financial and quality standards to use in selecting suppliers for the competitive bidding program. The law required CMS to take appropriate steps to ensure that small suppliers have an opportunity to be considered for participation in the competitive bidding program. CMS was required to establish a methodology for selecting bids from suppliers so that enough suppliers were selected to meet demand for competitively bid items within a given area. The law specified that at least two suppliers would be selected in each competitive area. The law also precluded judicial or administrative review of CMS’s decisions to establish payment amounts, award contracts, designate areas for competition, select items and services, phase in implementation, and determine the bidding structure and number of suppliers selected under the competitive bidding program. The MMA required that an advisory committee be established to assist in carrying out the program. To help implement the competitive bidding program, CMS published its notice of proposed rulemaking on May 1, 2006, and its final rule on April 10, 2007. CMS’s final rule provided more detail on the agency’s implementation steps. For example, the law specified that the agency could not award a contract to an entity unless it met applicable financial standards specified by the Secretary of HHS. In its regulation, CMS specified the financial documents that had to be submitted by suppliers to be considered as potential bidders. Similarly, while the law indicated that the agency needed to ensure that small suppliers had an opportunity to participate, the regulation sets out a process to include a certain number of small suppliers based on the percentage of those who bid and met all applicable requirements. CMS established the initial round of bidding in 10 metropolitan statistical areas that included Charlotte, N.C.; Cincinnati, Ohio; Cleveland, Ohio; Dallas, Tex. ; Kansas City, Mo. ; Miami, Fla.; Orlando, Fla.; Pittsburgh, Pa.; Riverside, Calif.; and San Juan, P.R. On April 9, 2007, CMS opened the initial registration of suppliers for the first round of bidding and the bid period opened on May 15, 2007. As part of its program implementation for the first round, CMS conducted a supplier-education campaign, which included meetings, listserve announcements, a dedicated Web site, and a toll-free help desk. The bid period closed on September 25, 2007. CMS concluded bid evaluations and began the contracting process in March 2008, and the agency plans to announce the first round of winning suppliers in May 2008. Suppliers whose bids were disqualified because their bid did not meet program and bidding requirements will receive a letter informing them of the reason or reasons for their disqualification. After the program begins, suppliers whose bids were not chosen generally cannot receive Medicare payment for the competitively bid items in the metropolitan statistical areas included in the competitive bidding program. However, suppliers of certain rental items or oxygen that did not become suppliers in the competitive bidding program could continue to serve their existing Medicare customers. Suppliers that did not have bids chosen in the first round of the program may bid in the future rounds of competition. CMS said it plans to conduct a beneficiary-education campaign before the program goes into effect on July 1, 2008. Competitive bidding could reduce Medicare program payments by providing an incentive for suppliers to accept lower payment amounts for items and services to retain their ability to serve beneficiaries and potentially increase their market share. Using competition to obtain market prices in order to set payments for medical equipment and supplies is a new approach for Medicare that is fundamentally different than relying on fee schedules based on suppliers’ historical charges to Medicare. Competitive bidding allows the market to provide information to CMS on what amounts suppliers will accept as payment to serve beneficiaries. In its demonstration, CMS used a competitive bidding process to determine which suppliers would be included and the competitively set fees that they would be paid. From among the bidders, the agency and Palmetto selected multiple demonstration suppliers to provide items in each group of related products. Suppliers could submit bids and have winning bids for one or more groups of items. These suppliers were not guaranteed that they would increase their business or serve a specific number of Medicare beneficiaries. Instead, the demonstration suppliers had to compete for beneficiaries’ business. All demonstration suppliers were reimbursed for each competitively bid item provided to beneficiaries at the demonstration fee schedule amounts. The new fee schedules were based on the winning suppliers’ bids for items included in the demonstration. Any Medicare supplier that served demonstration locations could provide items not included in the demonstration to beneficiaries. Evidence from the demonstration suggests that, for the items selected, competition helped set lower payment amounts and resulted in estimated program savings of $7.5 million. The demonstration’s independent evaluators also estimated that beneficiaries saved $1.9 million. The demonstration provided evidence to health policy experts, including us and the Medicare Payment Advisory Commission, that competitive bidding for medical equipment and supplies could be a viable way for the program to use market forces to set lower payments without significantly affecting beneficiary access. About a year after the demonstration ended, the MMA required CMS to implement competitive bidding on a large scale and added requirements that suppliers would have to meet to participate in the competitive bidding program. The MMA also required the agency to develop quality standards and for suppliers to be assessed on those standards by accreditation organizations. In addition, the agency had to include a financial and quality assessment of suppliers as part of competitive bidding. The competitive bidding program was structured to operate much like the demonstration. Suppliers submitted bids, along with other materials specified by CMS. The application required suppliers to submit 3 years of financial documents, including income statements, credit reports, and balance sheets. The review of the financial documents was used as part of the criteria for determining which bids to consider. The bidders had to have a valid Medicare supplier billing number and be accredited. Suppliers had to submit bids for one or more groups of items. CMS then evaluated the bids based on demand, capacity, and price and chose bids that were at or under a certain amount. CMS estimates that the first round of its competitive bidding program will result in payment amounts that overall average 26 percent less than the current fee schedule amounts for the groups of items included, leading to savings for the Medicare program and its beneficiaries. CMS based its estimate on the price points suppliers submitted with their bids, weighted by market area and past utilization of items in each group. The estimated savings differed by groups of items, with the largest savings of 43 percent estimated for mail-order diabetic supplies. Competitive bidding changes Medicare’s relationship with suppliers. Competitive bidding is designed to reduce payments by allowing CMS to choose suppliers based on their bids—a change from the long-standing policy that any qualified provider can participate in the program. The competitive bidding process was designed to limit the number of suppliers to those whose bids were at or under a certain amount while ensuring that enough suppliers were included to meet beneficiary demand. In the demonstration, 50 percent to 55 percent of the suppliers’ bids were selected. With few exceptions, only the suppliers whose bids were chosen could be reimbursed by Medicare for competitively bid items provided to beneficiaries residing in the demonstration area. Furthermore, competitive bidding could help reduce improper payments because it provides CMS with the authority to select suppliers, based in part on new scrutiny of their financial documents and other application materials. In November 2007, CMS estimated that 10.3 percent of Medicare payments made to suppliers of medical equipment and supplies were improper—more than double the percentage of improper payments to other Medicare providers.