Risky Business

Every quarter, pharmaceutical manufacturers confront a dizzying array of price reporting obligations. Participation in the Medicare, Medicaid, Veterans Administration (VA), and Public Health Service (PHS) programs requires manufacturers to collect, organize, distill and manipulate vast quantities of information, and to generate from that data reportable figures that can have an enormous impact on the company's bottom line. It is critical that these figures be correct, not only to help ensure the integrity of these public programs, but because submission of false data to a federal agency is a prosecutable criminal offense, and the civil penalties and exposure can be staggering.

Learn the Lingo

This article describes the four major federal drug pricing regimes, identifies the most common mistakes that companies make in calculating and reporting drug prices under these programs, and offers a series of recommendations that can help companies reduce their risk in these complex and high-stakes areas. It explains why companies should review their pricing policies, and flag some key issues that should be encompassed in such reviews.

Drug Pricing Formulas

There are four principal figures that need to be calculated and reported every quarter. The first, which governs reimbursement for Medicare Part B drugs, is the Average Sales Price (ASP). First made mandatory in 2004, the ASP is the successor to the flawed Average Wholesale Price reimbursement formula. ASP as a price reporting formula is unique in a number of ways, not the least of which is its statutory prescription for estimating lagged payments—that is, making estimates in the reporting quarter of charge-backs, rebates, and other adjustments that will not take effect until future quarters.

The second key pricing reporting figure is Average Manufacturer's Price (AMP), which plays an important role in the calculation of Medicaid rebates. AMP is the average price paid to the manufacturer for covered drugs distributed to the retail pharmacy class of trade. AMP is also used in setting the discounted price at which PHS entities buy drugs.

The third figure is the Best Price, or the lowest price at which the manufacturer sells a drug in any pricing structure (other than sales to certain government programs), taking into account all price concessions. Along with AMP, the Best Price is integral in setting the amount manufacturers pay in Medicaid rebates. It is important to note that Best Price is not an average—it only takes one sale to one customer to set a Best Price.

The fourth figure, for VA price-setting purposes, is the Non-Federal Average Manufacturer's Price (non-FAMP). Unlike the ASP and AMP, the non-FAMP is intended to capture the average price to the wholesale—not retail—class of trade. As the name suggests, sales to federal programs are also exempt from the non-FAMP calculation. The non-FAMP is used in determining pricing offered under the Federal Supply Schedule (FSS), a program through which the government purchases products for its own use.

Rules of Calculation

The government's rules for calculating each of these figures are complicated and incomplete. The Medicare, Medicaid, and VA statutes set out the basics; regulations interpret the statutes. The Centers for Medicare & Medicaid Services (CMS) and VA guidances, and "Dear Manufacturer" letters address narrow matters of interpretation of the regulations; common industry practice is often a helpful guide. Yet many questions are not codified in any government publication. Guidances are non-binding, but are generally thought to be reliable indicators of the government's position. Unfortunately, even the guidances don't reach all aspects of the calculations. Given the complexity of the pharma sales and distribution system, and the penalties for noncompliance, manufacturers often clamor for more explicit guidance.

Two fundamental principles should guide manufacturers' decision-making process. First, manufacturers should strive to be accurate in all calculations. This principle is reiterated throughout the statutes and regulations governing the calculations. When otherwise left in the dark about a step in the calculation, choose the path that gives your result the eminently defensible benefit of greater accuracy. Second, when in doubt, the safest position to take is one of deference to the government. Make no mistake, the cards are stacked against the manufacturer—that's intentional. Therefore, the cost of attempting to swim upstream through a perceived loophole in the calculation regulations could be extraordinary.

Luckily, there are mechanisms for most of the reportable figures that allow manufacturers to backstop any decisions made in the absence of regulation or guidance. The ASP statute, for instance, requires manufacturers to submit the "reasonable assumptions" they have made in the course of determining the ASP. Submitting these assumptions for consideration does not guarantee that they will be found to be legitimate, but doing so will go a long way toward defeating a charge of intentional fraud. AMP and Best Price can be restated retroactively, giving manufacturers the opportunity to re-file based on new guidance. Moreover, both CMS and the VA encourage communications regarding calculation questions, even if they're often painfully slow about responding to these inquiries.

Trouble Spots

Every manufacturer is different. Size, product portfolio, internal structure, utilization of technology, product distribution scheme, and many other factors play into the landscape of government price reporting at any particular company. So while it is impossible to set a prescription for every drug company, many features and mechanisms are common to most pharmaceutical manufacturers.

A persistent difficulty for any pharmaceutical compliance officer is the number of departments, divisions, and individuals within the company that have to work together to produce acceptable ASPs, AMPs, Best Prices, and non-FAMPs. Among others, the pricing and contracting, sales and marketing, accounting/finance, contract management, information technology, and legal departments need to participate in the process. The individual responsible for submitting the figures needs to be confident in the strength of every link in this chain, as an error or misinterpretation by one can fatally undermine the entire calculation. This is especially true for the company official who certifies every quarter that the ASP submission is accurate and complete.

Here are seven specific examples of areas particularly prone to weakness. While by no means exhaustive, the list identifies many potentially troublesome areas that all manufacturers should closely consider when reviewing their government price calculation methodologies:

Classification of customers and transaction types Whether or not a sale to a particular customer is included in a specific calculation is of fundamental importance to every calculation. Each of the four reportable figures has a different set of eligible and ineligible customer classes; correctly classifying each customer according to its type (e.g., retail pharmacy, hospital, mail order) is therefore very important. Likewise, identifying the transaction type (e.g., sale, nominal sale, donation, inter-company transfer), which is distinct from the customer type, is key to accurate price reporting.

Treatment of lagged payments and receipts Improper treatment of out-of-quarter adjustments can have a substantial impact on the reportable figures. Charge-back adjustments, rebate payments, and returns received in one quarter, but that relate to sales in previous quarters, must be accounted for properly in order to ensure accuracy. A lag of even a week can bring sales from one quarter into another, potentially setting a new Best Price. If prices are rising, this can be a very costly error.

Identification and treatment of price concessions It is always important to ask whether a rebate, free good, discount, administrative fee, or promotional activity is a price concession that needs to be factored into the net price. The practice of bundling drugs also implicates this concern. Allegedly improper treatment of off-invoice price concessions has been the basis for many recent lawsuits in the pricing area.

Monitoring for reference pricing Manufacturers must have systems that constantly monitor and flag certain sales. For instance, specially discounted sales may create new Best Prices, and sales to the VA's most favored customers may set new FSS prices. Similarly, sales that were once thought to be nominal may creep up in price (relative to AMP) and have to be included in the calculations. Moreover, manufacturers bear the responsibility of ensuring that approved entities (340B-eligible) receive the PHS pricing. Compliance with this requirement vexes many manufacturers."

Data integrity As the saying goes, "garbage in, garbage out." Manufacturers must have adequate systems in place to correctly capture and manipulate an extraordinary amount of data every quarter, completely and without unnecessary manual overrides. These systems must have adequate controls in place to ensure data integrity, including, but not limited to, real-time data validation procedures. Often, companies have multiple computer systems and databases feeding the calculation. The interfaces between these systems, which often are not designed to work with one another, have to be integrated and seamless.

Written policies and procedure Every company should have a set of internal manuals, policies, and standard operating procedures that set out all steps of the price calculation and reporting process. These manuals are critical to ensuring consistency and accuracy and to managing a transition when personnel changes are made in any area affecting price reporting. They are required of all companies under a Corporate Integrity Agreement (CIA) and could be of great help to the company in the event of an audit or investigation. The manuals should be reviewed and updated regularly to reflect the latest laws, regulations and guidances.

Inter-departmental communication As companies grow, specialization and segmentation can drive seemingly unrelated divisions apart. However, there are very few functions in a pharmaceutical company that are wholly unrelated to government price calculation and reporting. Maintaining adequate communication between all parts of this process is integral to achieving accurate results.

Reducing Your Company's Risk

First and foremost, every company that has not undertaken a substantial review of its government price calculation and reporting policies in the last couple of years should consider doing so—using internal or external resources (or both). In addition to the establishment of an entirely new ASP pricing scheme, the rules and guidance for AMP, Best Price, and non-FAMP continue to evolve, making it imperative for companies to periodically reassess their policies, procedures and internal controls. This does not have to be an expensive or lengthy process but it should be sufficiently rigorous for two reasons: to ensure that someone within the organization has taken responsibility for keeping the company and its processes up-to-date, and to identify any areas of potential weakness that merit closer inspection and review. The review should be conducted by or under the auspices of the legal department, and followed up, when necessary, with remedial action.

As part of the compliance review, map the flow of data backward from the final reportable figures to the first moment a wholesale order is placed. Oftentimes, it is in this reverse engineering of the AMP or ASP, chasing back the threads of input that feed into the calculation, that procedural errors are discovered.

If manuals do not exist that document the methodologies employed, create them. If they do exist, update them. Not only will their creation or modification force thoughtful consideration of how the calculations are done, but they will be an invaluable resource in the event of a personnel change, audit, or investigation. Consider whether to disclose to the relevant authority any revisions to your methodology, and if so, how.

Don't be afraid to ask questions. If your organization has a question about the interpretation of a certain statute or regulation, chances are yours is not the only one. CMS and the VA are staffed fairly leanly, and they have certainly not considered every nuance associated with the reportable figures. Therefore, they are very willing to consider manufacturers' requests for guidance. Generally, they tend to be more responsive to requests from business people, but if you are unwilling to make the request directly, have your outside counsel do so on a blinded basis.

Establish a set of procedures through which ASP, AMP, Best Price, and non-FAMP submissions are automatically subjected to regular historical review. Significant deviations from historical norms should trigger close inspection of pricing figures before they are submitted to CMS or the VA.

Establish a data storage facility where pricing data can be kept for at least 10 years. By rule, manufacturers are required to maintain records on their participation in the Medicaid and Medicare programs for at least 10 years, and longer if the company is subject to an audit or investigation.

Government price reporting requirements can be daunting and demanding, particularly for executives, lawyers, and business managers who do not have time to master and stay abreast of the detailed legal and regulatory requirements. But companies that use such complexity as an excuse for not ensuring the accuracy and integrity of the data they report to the government are taking significant risks in today's regulatory environment. The consequences of performing the calculations improperly can be truly disastrous to a pharmaceutical manufacturer that hopes to continue selling its products in the United States. Most companies that have taken the time to review and update their pricing policies and procedures have found it to be a very worthwhile investment.

Anthony Farino (anthony.l.farino@us.pwc.com) is a US pharmaceutical advisory services leader and Timothy Nugent (timothy.nugent@us.pwc.com) is a director with PricewaterhouseCoopers. John T. Bentivoglio (jbentivoglio@kslaw.com), partner, and John Shakowjshakow@kslaw.com, counsel, are with law firm King & Spalding.