Last week, the Government Accountability Office (GAO) released a report examining group purchasing organization (GPO) practices.  The GAO questioned whether the current structure of GPO funding through administrative fees is appropriate and urged the Department of Health and Human Services (HHS) to explore whether hospitals are appropriately reporting the revenue from GPO administrative fees on their cost reports when such fees are passed down to hospitals.

GPOs are purchasing intermediaries between health care providers - mostly hospitals - and vendors of medical and pharmaceutical products and services. Providers use GPOs because GPOs tend to take on the administrative burden of negotiating contracts, and they are seen as having better bargaining power given their ability to pool purchasing. GPOs are funded through an administrative fee charged to the vendors, which are permitted by a statutory exception and safe harbor under the Anti-Kickback Statute. To fall within the GPO safe harbor, the administrative fees must meet certain requirements; for example, the administrative fees must be 3 percent or less of the purchase price or the contract must specify the amount or maximum amount that each vendor will pay.  GPOs are also allowed to distribute these fees to their health care provider customers through rebates and discounts. Hospitals are then required by the discount safe harbor to report the revenue from GPOs on their cost report submitted to the Centers for Medicare & Medicaid Services (CMS). The GAO made note of the continuing importance of this cost report information that is, for example, used by the OIG in its audit activities and by the MedPAC in its annual consideration of hospital payment updates.

The GAO indicates that this funding structure involves an inherent conflict: GPOs should negotiate the lowest rate for their customers; however, because they are funded through administrative fees that are a percentage of the contract costs, their incentives are not necessarily to seek the lowest price possible.  Furthermore, the GAO questioned if hospitals are fully accounting for GPO revenue on their Medicare cost reports, and notes that CMS has not reviewed cost reports for this information since 2005.  The GAO indicates that the failure to fully account for these fees could be impacting Medicare rates because these fees account for a significant amount of money.  In 2012, the top 5 GPOs collected nearly $2.3 billion in fees, with almost 70 percent distributed to GPO owners and customers, such as hospitals.

Although the GAO did not go as far as recommending the repeal of the GPO exception and safe harbor, it made the important finding that such a change in the GPO funding structure “could eliminate misaligned incentives” with a potential impact on Medicare costs.  It noted that any repeal could disrupt the health care supply chain in the near term, but over the longer term “GPOs and hospitals are likely to adapt to the new market environment.”  The GAO focused on the issue of hospitals’ potential underreporting of administrative fee revenue, and suggested this “immediate risk” can be addressed by further oversight without changing the current GPO funding structure.  For these reasons the GAO is urging HHS to audit hospital cost reports to determine if there is underreporting and its impact on Medicare rates.

The report underscores the importance for hospitals of ensuring that all discounts and rebates they receive — whether directly from purchase agreements or from administrative fees passed down from GPOs — are included in their cost reports.  More importantly, given the questions raised regarding the GPO funding structure and the need for hospitals to be vigilant in determining if they are obtaining the best pricing possible, hospitals should continue to explore whether there is better value in direct purchasing contracts with manufacturers and distributors or other creative purchasing options.

Lauren Moldawer contributed to this article. She is a law clerk, acting under the guidance and supervision of Members of the D.C. office.