“Bona Fide Service Fees” Lawsuit Underscores Need For Care In Distributor Contracts, Medicaid AMP Calculations

Litigation being pursued by former drug wholesale association exec alleges that manufacturers inappropriately classed bona fide service fees as discounts, causing them to report inaccurate average manufacturer prices to CMS.

A federal whistleblower lawsuit on service fees is the latest indication that drug manufacturers must carefully negotiate a complicated set of issues in calculating average manufacturer prices for reporting to Medicaid and exercise extreme care in service contracts with wholesalers.

Manufacturers are finding some aspects of AMPs murky as they await final regulations on the price calculations, and wonder whether CMS will provide the detailed guidance they seek. At issue in the lawsuit is how manufacturers treated “bona fide service fees” for Medicaid purposes.

Manufacturers must report the AMPs of product sales to retail pharmacies, net of discounts. The AMPs are used to determine Medicaid rebates and upper limits used by states to set reimbursement levels to pharmacies for multi-source drugs. The Accountable Care Act made a number of changes to AMPs, and, as under earlier statutes, specifically excludes fees for bona fide services in AMP calculations. Bona fide services fees (BFSF) are fair market value payments that manufacturers pay to a wholesaler or pharmacy for costs such as inventory management or patient care programs.

The suit alleges that rather than excluding certain fees, some manufacturers treated them as price discounts or credits against future price increases.

It was brought by Ron Streck, a well-known executive in the drug wholesale industry for many years, having headed the Healthcare Distribution Management Association and later the Rx Distribution Network, a network of regional wholesalers. The suit is before the U.S. District Court for the Eastern District of Pennsylvania.

The lawsuit originally charged 30 manufacturers under the False Claims Act and various state laws, but has been amended a number of times so that only 13 manufacturers are now named. The allegations are that four manufacturers (AstraZeneca, Biogen Inc., Cephalon Inc., Genzyme Corp., a.k.a. the “discount defendants”) counted BFSFs as discounts that were included in average manufacturer price and that nine manufacturers (Allergan Inc., Amgen Inc., Bradley, Eisai Co. Ltd., Mallinckrodt AG, Novo Nordisk AS, Reliant Pharmaceuticals Inc. , Sepracor, Upsher-Smith Laboratories Inc., a.k.a. the “service fee defendants”) prevented price increases from being part of the AMP calculation by requiring wholesalers to credit the service fees manufacturers paid with any price increases the wholesalers took advantage of by selling purchased stock at the new higher price.

Streck alleged that the defendants “fraudulently reported their average manufacturer price (“AMP”) to the government in an effort to pay a smaller Medicaid rebate.” While the precise impact of the alleged actions would depend on the details in each situation, in general, actions that lower AMP also lower rebates owed. Rebates currently are set at 23.1% of AMP for brands and 13% of AMP for generics; the Medicaid drug rebate program was first established under a law passed in 1990.

The defendants contended to the court that they relied on a good faith interpretation of the definition of AMP when reporting it to the government. In a July ruling on their motion to dismiss, the court said it will allow the case to proceed against the discount defendants for AMPs submitted after Jan. 1, 2007. The portion of the suit against the service fee defendants was dismissed.

The court said that it is allowing the case against the discount defendants to go forward because CMS issued regulations on AMP under the Deficit Reduction Act (which took effect Jan.1, 2007) in October 2007, so facts could show that the defendants were at least reckless in concluding that their service agreements were not for bona fide services.

The AMP regs were withdrawn in 2010 following revisions made in the Affordable Care Act, which again stipulated that BFSFs are to be excluded from the calculation of AMP. It also gave specific examples of BFSFs for exclusion (see box). CMS expects to issue a final AMP regulation to implement ACA’s changes in 2013, after reviewing comments on a proposed rule (Also see "Calculating AMP: Medicaid Proposed Rule Provides Answers, Some Detailed, Some Vague, To Manufacturers’ Questions" - Pink Sheet, 6 Feb, 2012.) and (Also see "Medicaid AMP Final Rule Not Expected Until 2013, CMS Official Says" - Pink Sheet, 8 May, 2012.).

AMP-Excludable Bona Fide Service Fees*

• Distribution service fees;
• Inventory management fees;
• Product stocking allowances; and
• Fees associated with administrative service agreements and patient care programs (such as medication compliance programs and patient education programs).

*as listed in the Affordable Care Act; excludable BFSFs are not limited to this list

While the government opted not to intervene in the Streck litigation, he is pushing forward. The court is currently considering his motion to amend the court’s judgment and reverse its dismissal of claims against the service fee defendants. And although the government is not taking over responsibility for the case, it may still submit position statements offering the government’s perspective to the court. Should Streck prevail, the government would collect damages, with a percentage going to him.

Regardless of the litigation’s outcome, it suggests the pitfalls manufacturers can face, particularly in the absence of clear regulatory guidelines from CMS on certain aspects of AMP.

Bill Sarraille, a partner in the law firm Sidley Austin, which is representing some of the defendants, said in an interview, “This case underscores what regulatory lawyers within and outside of manufacturers have said for years, which is that there is a clear and critical need for CMS to provide additional guidance. There have been, in many cases, questions which have gone unanswered for now, more than two decades.”

He further noted that it is years since the wholesalers moved to a fee-for-service contracting model with manufacturers, and “we still have fundamental issues that have not been resolved.” Drug wholesalers made a push in 2005 to move to a fee-for-service payment model, replacing the less predictable revenue from the previous buy-and-hold model that relied on drug price increases (Also see "Wholesalers Forecast More Accurate Sell-Side Margins From Fee-For-Service Contracts" - Pink Sheet, 16 Jun, 2005.).

“Given that now this service fee model is the mechanism by which the vast majority, if not all, pharmaceutical and biological products are distributed in the United States, and given that those relationships are critical to determining accurately best price and average manufacturer price, the cornerstones of the Medicaid rebate program, it’s a real problem that we don’t have better, more thorough, more carefully articulated guidance in this area.”

Sarraille added, “It is a complicated program that should specify what manufacturers can and can’t do in an ever-changing market where the underlying transactions that are supposed to be captured in government price reporting are becoming more and more complicated with each and every day. … It’s not just a problem for manufacturers. It’s a problem for the program.”

Looking For Guidance On “Fair Market Value”

Another specific issue manufacturers are grappling with is determining “fair market value.” One of the tests for determining that a fee is a BFSF, and thus should be excluded from AMP calculations, is that the manufacturer paid fair market value for it (see box). In its proposed regulation, CMS says it will not define fair market value, but says manufacturers should “make reasonable assumptions” in setting FMV (Also see "AMP Rule Tells Manufacturers To “Make Reasonable Assumptions” In Determining Fair Market Value For Service Fees" - Pink Sheet, 31 Jan, 2012.). As a result, should future lawsuits arise, manufacturers could be in the same position as in the Streck case of relying on “good faith interpretation.”

Four Parts Of The Bona Fide Service Fee Test*

• The fee paid must be for a bona fide, itemized service that is actually performed on behalf of the manufacturer;
• The manufacturer would otherwise perform or contract for the service in the absence of the service arrangement;
• The fee represents fair market value for the services rendered; and
• The fee is not passed on in whole or in part to a client or customer of any entity.

*as contained in the now-withdrawn AMP rule of 2007 and as proposed in CMS’ draft AMP rule of 2012

Sarraille said there is no expectation for CMS to set dollar figures for different types of services, but the agency should provide a methodology manufacturers can follow in determining FMV. “They might talk about a system under which manufacturers could share certain assumptions about the way in which they have undertaken fair market value analyses.”

However, some attorneys doubt that manufacturers’ hopes for such guidance will be fulfilled. In a Sept. 27 webinar on BFSFs sponsored by Huron Life Sciences, King & Spalding attorney Elizabeth Gluck noted that “in its proposed rule, CMS indicated that it’s not going to define fair market value. It would be quite a surprise if they actually did in the final rule.”

As a result, Gluck advised manufacturers to “start the ball rolling on the FMV assessment. … FMV is of increasing importance to the agency. It will not define it, and since it takes some time to actually complete those analyses, it’s a good idea to get in front of that assessment, even in the absence of a final rule.”

To get started, manufacturers should review their current service contracts, looking for consistency of payments across contracts and whether the services are actually itemized in the contracts. “It’s important to have accurate contracts that list the services that are provided by the service provider and it’s also important that those services be linked to payment so that it’s clear and well-documented in the contract, what you’re actually paying for,” Huron Life Sciences consultant John Moose said.

Manufacturers also should be documenting the business need for services, he said. “There should be a reason that the company is receiving those services, clearly. The data should be used and it should be documented how it’s being used in order to treat it as a bona fide service fee in your pricing calculations. If it’s not being used, the implication is that the fair market value for that company may be zero or minimal.” There should also be internal controls set up to verify and document the receipt of services and data.

Some current contracts may not be able to withstand a government audit, Moose’s comments suggest. In his firm’s review of contracts, “what we have found is that contracts are fairly ambiguous at times regarding what the services provided are and lack a lot of definition and circumstances around the services. They also may very well list services that aren’t actually received.”

The consultants suggested that manufacturers value services by figuring a cost for a single activity, such as making a phone call as part of a compliance program, then multiply it by the number of times that activity is to be performed, to arrive at fair market value for the service. The manufacturer’s assessment of fair market value for a service can result in a range, rather than a specific price point, within which the parties can negotiate the final fee, thus providing pricing flexibility along with consistency. To oversee this process, Gluck recommended that companies set up a contracting committee.

As with everything compliance-related, documentation of the decision-making process is essential.

Gluck said: “If you’re investigated by OIG and you’re sitting across the table from an investigator and they say, ‘Show us how these payments tie to fair market value, to any of the criteria under the bona fide service fee test,’ the more specific examples and ties that you can provide, the better your case is.”