DEPARTMENTAL GRANT APPEALS BOARD
Department of Health and Human Services
SUBJECT: Texas Department of Human Services
Docket Nos. 87-137 87-177 88-09 88-70
Decision No. 961
DATE: June 9, 1988
DECISION
The Texas Department of Human Services (Texas/State) appealed a series
of
determinations by the Health Care Financing Administration
(HCFA/Agency)
disallowing a total of $2,147,422 in federal funds claimed
by the State under
the Medicaid program of the Social Security Act (Act)
for the period March 1,
1986 through December 31, 1987. The
disallowance was based on HCFA's
finding that Texas' reimbursement
methodology for prescription drug
dispensing fees violated the
controlling federal regulations set out at 42
C.F.R. 447.331 (1986) et
seq. Specifically, HCFA contended that the
methodology was improper in
that the dispensing fees included a profit based
on the cost of the drug
being dispensed. HCFA also alleged that the
State's dispensing fee
resulted in a double reimbursement to providers who
did not charge
Medicaid recipients for prescription deliveries.
Texas argued that HCFA had misinterpreted the applicable regulations.
The
State contended that HCFA based the disallowance on the preamble to
the
regulatory predecessor of 42 C.F.R. 477.331 et seq., as well as
an
Information Memorandum, neither of which were binding upon the
State.
In the alternative, Texas agreed that if the disallowance was
sustained
in principle, HCFA would be justified in recalculating the
disallowance
based on the State's "old" methodology (that is, the methodology
in
effect prior to March 1986). However, Texas asserted that
HCFA's
recalculation should take into account updated cost report data
which
would include increases in the dispensing fee which would have
occurred
during the period at issue. Texas alleged that this
recalculation would
effectively cancel the disallowances. Finally,
Texas maintained that
HCFA's analysis of the manner in which the State
reimbursed "free
delivery" costs of providers was incorrect.
The parties agreed that since these four disallowances addressed
identical
issues they should be considered jointly. The record for this
decision
consists of briefs and evidence submitted by the parties as
well as the
transcript of a hearing conducted on March 29, 1988.
Based on the following analysis, we uphold the disallowances
in
principle. We sustain the full amount of the
disallowances
provisionally, subject to the limited opportunity for Texas to
present
evidence to reduce the amount of federal funding disallowed as
discussed
in section IV below.
Applicable Law
Section 1902(a)(30)(A) of the Act mandates that a State plan for
medical
assistance must--
provide such methods and procedures
relating to the utilization
of, and the
payment for, care and services available under
the
plan . . . as may be necessary . . .
to assure that payments are
consistent
with efficiency, economy, and quality of care;
The regulation at 42 C.F.R. 447.331 provides that a state agency--
(a) . . . may
not pay more for prescribed drugs than
the
lower of ingredient cost plus a
reasonable dispensing fee or the
provider's usual and customary charge to the general public.
The dispensing fee must be set by the state agency in accordance with
42
C.F.R. 447.333 which, in relevant part, provides that--
(a) The agency
may set the dispensing fee by taking
into
account the results of surveys of
the costs of pharmacy
operation.
The agency must periodically survey
pharmacy
operations including--
(1) Operational data;
(2) Professional services data;
(3) Overhead data; and
(4) Profit data.
(b) The dispensing fee may vary according to--
(1) Size and location of pharmacy;
(2) Whether the
drug is a legend item (for which Federal
law
requires a prescription) or
non-legend item; and
(3) Whether the
drug is dispensed by a physician or an
outpatient department of an institution.
In the preamble to 42 C.F.R. 250.30(b)(2)(i), the regulatory
predecessor
of 42 C.F.R. 447.333, HCFA articulated a policy against setting
a
dispensing fee as a percentage mark-up of a drug ingredient cost.
The
preamble provided that such a system--
. . . is not acceptable since a
percentage mark-up would be an
incentive
to use higher cost drug items and thus it would
run
counter to the objectives of the
regulations. A GAO study in
1966
strongly recommended against this method.
40 Fed. Reg. 34516 (August 15, 1975).
Further, although they were never published in final form, HCFA
developed
draft guidelines on its Medicaid drug reimbursement policy
entitled,
Prepublication Draft Guidelines on Payment of Reasonable
Charges for
Prescribed Drugs, Information Memorandum IM-77-27(MSA), June
2, 1977.
The draft guidelines addressed the issue of mark-up
reimbursement systems and
stated--
[Dispensing] fees compensate pharmacies
for providing specific
professional and
dispensing services. There is no
economic
rationale for the fee to
fluctuate according to the ingredient
cost value of each prescription. The amount of professional
time
and overhead cost used in
dispensing prescriptions of dissimilar
ingredient cost, except for the rare instance when a product
is
compounded, is generally the
same.
Id. at Sec. 6-32A.
The State's Reimbursement Methodologies
Prior to March 1986, the State's provider payments to pharmacists
were
calculated by adding the drug ingredient cost and the
provider's
dispensing fee. The dispensing fee was the dispensing
expense plus a
percentage of that expense. Illustrated mathematically,
the provider
payment was calculated as follows:
Drug Cost + Dispensing Expense + Dispensing Expense
Profit
Component
Hearing Transcript (Tr.), pp. 12-13. (We will refer to this as
the
"old" methodology or system.)
After March 1, 1986, the State's provider payment for a
pharmaceutical
transaction was calculated--
. . . by adding the estimated
acquisition cost (EAC) of the drug
dispensed, and a dispensing fee . . . ($3.26) and a 5.5%
profit
on the selling price.
Texas Brief (Br.), p. 5
Texas illustrated the formula as:
Drug Cost + Dispensing Expense = Provider Payment 1/
Profit
Component
Texas Br., p. 6; Texas Exhibit (Ex.) N. (We will refer to this as
the
"new" methodology or system.) Thus, under the new methodology
the
profit component was factored into the ingredient cost as well as
the
dispensing fee. It is that aspect of the new methodology which
the
Agency asserts is improper.
Texas explained the circumstances leading to the development of its
new
reimbursement methodology. Under the old methodology the
Ingredient
Cost of a drug was the Average Wholesale Price (AWP) for that
item. The
AWP was basically the suggested price for that drug, which
the State
likened to the sticker price on a new car. Texas .revealed
that
pharmacists routinely received discounts on the AWP from
wholesalers.
Thus, while claiming reimbursement using the AWP as a cost basis
for the
drug, the providers actually paid much less than the AWP. Tr.,
pp.
64-66.
Responding to this practice in 1985, HCFA directed the states in the
HCFA
regional area encompassing Texas to devise an estimated acquisition
cost
(EAC) for drugs. The EAC would be a price below the
suggested
price of the item. Texas indicated that as a result of HCFA's
directive
its EAC is at least 10.49% lower than suggested drug prices.
Further
emphasizing the economy of its new methodology, Texas indicated that
it
had developed a maximum allowable cost (MAC) program. The MAC was
a
figure somewhere between the minimum and maximum prices at which
the
drug was available. Texas would not reimburse providers in excess
of
the MAC for a drug. Texas asserted that the MAC forces providers to
use
generic drugs 97-98% of the time, with the exceptions arising when
the
prescribing physician determines that the brand name drug is
required.
Tr., pp. 66-69.
Thus, as Texas explained, under the old system a provider would claim
as
its ingredient cost the AWP of the particular drug, even though
the
provider actually paid significantly less than that price to
the
wholesaler. Assuming this to be true, the provider was able to
garner a
larger profit because Texas was reimbursing the provider for an
inflated
ingredient cost figure. Under the new methodology, Texas would
not pay
an ingredient cost in excess of the MAC, thereby discouraging use
of
costlier drugs since a provider would be unable to recapture costs
in
excess of the MAC. Texas therefore implied that its new system would
not
encourage use of costlier drugs, as HCFA had alleged, yet would
still
enable the provider to earn a reasonable profit from the
transaction.
Background
HCFA's primary basis for the disallowance was that the Texas
methodology
resulted in a mark-up of the drug (ingredient) cost based on the
profit
component. HCFA argued that this form of a mark-up was
prohibited by
the regulations at 42 C.F.R. 447.331. HCFA asserted that such a
system
runs counter to the intent of section 1902(a)(30)(A) of the Act
because,
by factoring a profit component into the ingredient cost, the
State
encouraged providers to attempt to escalate profits by using
higher
priced drugs. Thus, the State's system did not promote economy
as
directed by the Act. 2/
HCFA disallowed the additional amount claimed by Texas in excess of
what
would have been allowable under the State's reimbursement methodology
as
it existed just prior to March 1, 1986, the date the new system
was
adopted. HCFA alleged that it would have been justified in
disallowing
the entire amount of FFP claimed by Texas, but recognized that
the
providers had incurred an expense and deserved to be reimbursed.
Tr.,
pp. 170-175.
Texas argued that HCFA's interpretation of the regulations at 42
C.F.R.
447.333(b) was impermissibly narrow because, it claimed, the
factors
affecting the dispensing fee were not limited to the variables set
out
in the regulation. Rather, the State contended that the
regulation
should be read in a permissive manner, thereby encompassing its
system.
Texas also asserted that HCFA's reliance upon the draft guidelines
and
regulatory preamble are not proper bases for the
disallowance.
Additionally, given the economy of its new system, Texas
contended that
it was justified in allowing part of the provider's return to
be drawn
from a profit factor on the ingredient cost.
In the alternative, Texas agreed that if the Board were to sustain
the
disallowance, then HCFA could reasonably use the State's old
methodology
as the basis for calculating the disal- lowance. However,
Texas argued
that any recalculation of "allowable" costs under the old
methodology
should include the appropriate adjustments made to reflect
updated cost
report figures, which it .provided as part of its appeal file,
resulting
in a higher allowable dispensing fee. Texas indicated that
a
recalculation in this manner would eliminate the penalty which HCFA
was
attempting to exact. Texas Reply Br., pp. 7-8.
Analysis
I. THE REGULATION DOES NOT PERMIT THE DISPENSING FEE TO
VARY BASED ON
THE COST OF INGREDIENTS.
The regulation providing for the upper limits of payment for
prescribed
drugs in the Medicaid program is clear and specific. The Medicaid
agency
may not pay more than "ingredient cost plus a reasonable
dispensing
fee." 42 C.F.R. 447.331(a). 3/
The State argued that the language in 42 C.F.R. 447.333 did not limit
the
factors by which the dispensing fee may vary to those contained in
that list
(i.e., size and location of pharmacy, if the drug is available
by
prescription, whether the drug is dispensed by a physician or
an
institution). The State argued first that the list is
stated
"permissively rather than exclusively." The regulatory
language,
however, states that the dispensing fee may vary according to
certain
specific factors which are definitely identified. The
regulation does
not say that the fee may vary according to certain factors,
including
the following, or, for example, the following. The fee may
vary only
according to identified, named factors. The States's argument
would
require the regulation to state that the dispensing fee may
vary
according to the following named factors, "and no other factors."
There
is no basis for adding such "overkill" language to a clear
provision.
The State goes on to contend that if the three factors had been stated
as
exclusive of all other factors, there would have been no purpose in
requiring
states to collect data in their periodical surveys on anything
but these
factors. In fact, the states were required to survey for
operational
and professional services, overhead, and profit data, and
could routinely
take other factors into consideration in setting
dispensing fees.
The flaw in the State's argument is that it does not recognize
the
difference in setting a dispensing fee and varying it. The State
sets
the dispensing fee "by taking into account the results of surveys of
the
costs of pharmacy operation." (Emphasis added) The State
must
periodically survey the costs of pharmacy operation; these
surveys
include, but are not necessarily limited to, operational
and
professional services data, overhead data, and profit data.
Thus, it is perfectly plausible that "HCFA has consistently recognized
the
ability of states to include other factors in the dispensing fee,"
including
certain specific expenses from Texas. Texas Br., p. 10. But
the
significant difference is between a factor used to set the
dispensing fee and
a factor used to vary it once it is set. Costs of
operating a pharmacy,
other than those listed in the regulation, may be
taken into account in
setting the dispensing fee. Once the fee is set,
the State may not vary
it except for one of the listed three variable
factors.
The Texas dispensing fee, contrary to the regulation, varies based on
the
cost of the drug dispensed, not on any of the three factors. As
Texas
noted, payment to a pharmacist is calculated by adding the cost of
the drug
and the dispensing fee, "which on average included the
statewide base
dispensing expense and a 5.5% profit on the selling
price." Texas Br.,
p. 5. Thus, the total payment for furnishing a drug
will in each case
include a profit factor which does not depend only on
the cost of operating
the pharmacy but depends also on the cost of the
ingredients of the drug
dispensed.
As the State pointed out in explaining its system, if the drug
supplied
costs $10.00 and the dispensing "expense" was $3.26, the
dispensing
"fee" would be $4.03, representing the dispensing expense of $3.26
plus
77 cents profit. Texas Br., p. 6.
Now assuming a drug cost $20.00, the dispensing "expense" should be
the
same $3.26. However, using the same formula, the dispensing "fee"
now
comes out to $4.61, representing the dispensing expense of $3.26 plus
a
profit of $1.35. 4/
It is obvious what Texas has done. It has based the payment to
a
pharmacy on ingredient cost plus a variable dispensing fee; this fee
is
computed on dispensing expense plus a profit, which varies in
amount
(but not in percentage), based on the cost of the ingredient.
This is
contrary to the regulation, which says that payment is to be based
on
ingredient cost plus a flat dispensing fee; this fee is computed on
all
operating costs, plus a profit factor included in it. Once the
flat
dispensing fee is computed, it may not vary except for the factors
in
the regulation; cost of ingredient is not one of the factors.
II. THE DISCUSSION OF A MARK-UP SYSTEM IS IRRELEVANT.
The State spent considerable time arguing about a mark-up system.
Its
contention was threefold:
1. The regulation did not prohibit a mark-up system.
2. The proscription of a mark-up system
in the preamble to the
regulation was invalid.
3. In any event, the Texas methodology was not a mark-up system.
The entire discussion as to a mark-up system is really a non-
issue
here. We have concluded above that the Texas methodology did not
comply
with the regulation; whether the regulation did or did not prohibit
a
mark-up system, or even whether the Texas system kept the price of
drugs
down, is therefore irrelevant. The Board is bound by all applicable
laws
and regulations. 45 C.F.R. 16.14. 5/ However, we will consider
the
State's arguments as presented.
The State is correct that the regulation does not in so many
words
prohibit a mark-up system. The regulation does not mention the
word
"mark-up," either in connection with the ingredient cost or
the
dispensing fee. The preamble, however, does mention mark- up.
The State's argument is that the prohibition against using a
mark-up
system in drug reimbursement charges is found only in the preamble;
and
a specific requirement stated only in a preamble is invalid. The
State
cites prior Board decisions which have held that the purpose of
a
preamble is to explain the purpose and meaning of a regulation, not
to
enact specific requirements. See Texas Br., pp. 10-11.
The State's argument is valid, but it does not apply here.
The
statement in the preamble does not prohibit a mark-up system in and
of
itself; it merely explains why there is no mark-up system provided
for
in the regulations.
We must first examine the notice of proposed rule making (NPRM),
published
in 39 Fed. Reg. 41480 (November 27, 1974). This outlined that
upper
limits for prescribed drugs should be based on the cost of the
drug plus a
dispensing fee. 45 C.F.R. 250.30(b)(2). The dispensing
fee
should be ascertained by analysis of pharmacy operational data,
"which
includes such components as overhead, professional services, and
profit."
250.30(b)(2)(i). As in the final regulation, the dispensing
fee may
vary according to the size and location of the pharmacy,
according to whether
the dispensing is done by a physician or by an
institution's outpatient
drug department and whether the drug is a
legend (prescription)
item.
The NPRM did not mention mark-ups any more than the final regulation.
It
provided for charges for drugs based on cost of ingredients plus a
dispensing
fee. The dispensing fee is ascertained by analysis of
operational data
of pharmacies, to include such components as overhead,
professional services,
and profit. The dispensing fee computed in this
manner may then vary
according to three variables. Mark-up did not
enter into the
picture. There was to be a flat dispensing fee, which
could vary in
three named situations. It did not vary based on the cost
of the drug
ingredient.
The preamble to the final regulation has a discussion about mark- up
only
because someone asked about it. A state Medicaid agency commented
on
the NPRM, suggesting that "the method of determining a dispensing fee
should
be based on a percentage mark-up rather than on a fixed fee
basis." 40
Fed. Reg. 34516 (1975). Clearly the commenter realized that
the
proposed regulation provided for a "fixed" dispensing fee.
The
commenter thought that the dispensing fee should, instead, be based on
a
"percentage mark- up."
The Agency response to the comment explains why a percentage mark-up
was
not used in the proposed regulation, rather than a fixed fee.
A
percentage mark-up was "not acceptable" since it would be:
. . . an incentive to use higher cost
drug items and thus it
would run counter
to the objectives of the regulations. A
GAO
study in 1966 strongly recommended
against this method.
40 Fed. Reg. 34516 (1975)
This part of the preamble does just what everyone agrees is the
proper
function of a preamble, namely, it explains a regulation. Here
the
preamble explains why something--a mark-up system--is not in
the
regulation. The preamble did not add to the regulation a
prohibition on
the use of a mark-up system in computing a dispensing fee; it
simply
answered the specific comment by explaining why the regulation
provided
for determining a dispensing fee on a fixed fee basis rather than
a
percentage mark-up.
A. The Texas Methodology uses a mark-up system.
The State strenuously contended that its new methodology for
drug
reimbursement is not a mark-up system. There- fore, argued Texas,
even
if a mark-up system was prohibited by the regulation including
the
preamble, this did not invalidate the Texas method of computation of
a
dispensing fee.
We need go no further than the two examples set out above, which are
based
on the formula in the State's brief. On an ingredient cost of
$10.00
the pharmacist is allowed a dispensing fee of $4.03, for a profit
of 77
cents. On an ingredient cost of $20.00 the dispensing fee comes
out to
$4.61, representing a profit of $1.35.
If we increase the hypothetical cost of the ingredient to $50.00,
the
difference becomes more obvious. The dispensing expense of $3.26
plus
profit of $3.10 now yields a dispensing fee of $6.36. Thus as the
cost
of the ingredient goes up, the dispensing fee goes up, or in
common
parlance, is "marked-up." The higher the cost of the ingredient,
the
greater the dispensing fee, and the greater the actual amount of
profit,
even though the percentage of net profit remains a constant 5.5%.
B. The rationale for the regulation is reasonable.
If we are to consider the State's argument on mark-up (even
though
unnecessary to our decision), then we should also examine the
rationale
given by the Agency for a fixed dispensing fee. This appeared first
in
the NPRM, which in the preamble stated that the dispensing fee
system
"recognizes that the cost of dispensing is not necessarily related
to
the cost of the drug." 39 Fed. Reg. 41480 (1974). Then we have
the
preamble to the final regulation, already referred to, which stated
that
a percentage mark-up "would be an incentive to use higher cost
drug
items" and therefore "run counter to the objectives of the
regulations."
Perhaps the clearest explanation is found in the 1977 Draft
Guidelines
stating that:
There is no economic rationale for the
fee to fluctuate according
to the
ingredient cost value of each prescription. The amount
of
professional time and overhead cost
used in dispensing
prescriptions of
dissimilar ingredient cost . . . is
generally
the same. 6/
The State's attempted answer is that it does cost more to fill a
more
expensive prescription, because a pharmacist needs more capital to
keep
the higher priced drugs in stock. If this is not a factor used
in
determining the overhead costs for fixing a dispensing fee, then it
can
be taken care of in the profit factor, which is applied based on
average
costs. The State further contends that the Agency's drug
payment
requirements will not enable Texas to comply with 42 C.F.R.
447.204.
This states that the agency's payments "must be sufficient to
enlist
enough providers" so that services are available to Medicaid
recipients
at least to the extent that those services are available to the
general
population.
If the payments for drugs do not meet this requirement then the answer
is
not to change the methodology but to increase the profit factor to be
used in
determining the dispensing fee. As the State said in its
opening
statement - the profit component, "so long as it's not
outlandish, is not an
issue." Tr., p. 13. So the way to assure
availability of pharmacies for
Medicaid patients is for the state
Medicaid agency to increase the profit
factor which goes into computing
the fixed dispensing fee, rather than having
the fee vary with the cost
of the ingredient.
The State argued that furnishing prescriptions to Medicaid patients
is
somehow like "selling Chevrolets or grapes or land, real
estate;
whatever" - it requires a rate of return consistent with
ingredient
costs." Tr., p. 34. They are not the same. As
the NPRM pointed out,
statutes required that there be a "safeguard against
payments in excess
of reasonable charges for drugs, consistent with
efficiency, economy,
and quality of care." The NPRM continued, that
"achieving the mandated
economies in drug cost reimbursement" involved two
principal elements,
the cost of the drug to the provider and the provider's
charge for
dispensing. The Agency decided that the economies could be
better
achieved by a fixed dispensing fee, which would not vary with the
cost
of the ingredient. The Texas methodology does not comport with
this
requirement.
III. THE COMPARISON OF THE TEXAS METHODOLOGY TO METHODOLOGIES IN
OTHER
STATES IS IRRELEVANT.
Texas argued that, in effect, its new methodology was no different
than
the methodologies in other states, except that in other states
the
pharmacist's profit comes out of the acquisition cost of the drug.
In
other words, the pharmacist and not the state received the benefit
of
any difference between the cost claimed by the pharmacist and what
the
pharmacist actually paid the wholesaler. Then the pharmacist
could
still charge a fixed dispensing fee, and obtain a profit which
varied
with the cost of the ingredient. If a pharmacist could get a
10%
discount on drugs he purchased, clearly he would end up with more
profit
on a $50.00 drug than a $10.00 one, even if he was limited to a
fixed
dispensing fee. The State referred to the practice in other
states as
"manipulating" the system. 7/
Throughout the hearing, Texas expressed dissatisfaction with the fact
that
HCFA required it to keep the cost of drugs down to what it
estimated
pharmacies actually paid for their drugs, yet allowed other
states to
consistently ignore the fact that their pharmacists were
overcharging the
Medicaid system for drug costs. Texas' allegations on
this point are unproven
and irrelevant to the issue before us. In any
event, even if Texas'
allegations are true, they would not constitute a
basis for overturning this
disallowance.
IV. TEXAS SHOULD BE GIVEN THE OPPORTUNITY TO SHOW WHAT THE
AMOUNT OF
THE DISALLOWANCE WOULD HAVE
BEEN UNDER THE OLD METHODOLOGY.
The State proposed an alternative to its position that its new
methodology
was valid under the regulation. If the new methodology was
found
improper, and the disallowance was therefore correct in principle,
then the
amount of the disallowance should be recalculated. The amount
should be
based on the difference between the invalid dispensing fee
under the new
methodology and the fee calculated by projecting the old
methodology into the
disallowance period after March 1, 1986, but with
updated cost data.
The Agency's position, on the other hand, was that the State revoked
the
old methodology when it adopted the new. When the new
methodology
turned out to be invalid, Texas .was left with no methodology at
all.
Therefore, HCFA could "validly disallow all payments the State
made
under the invalid methodology in excess of the cost of the
drugs
dispensed." HCFA Summation, p. 3. However, to be
reasonable, HCFA
disallowed only "the difference between the 'new' invalid
dispensing fee
and the last (and highest) dispensing fee established under
valid
methodology, the 'old' methodology." Id. The Agency
therefore
calculated the disallowance on the projection of the $3.86
dispensing
fee throughout the disallowance period.
By acting in what it terms a "reasonable" manner (disallowing only some
of
the payments), HCFA has taken the position that it has
considerable
discretion to establish the amount of the disallowance.
Nothing in the
record indicates that HCFA is incorrect in this
position. However, this
also means that HCFA's calculation of the
amount of the disallowance is
not the only permissible one, and the issue
becomes whether HCFA's
exercise of its discretion to set the disallowance was
arbitrary or
unreasonable. We conclude that, given the foregoing and
the
circumstances of this case, HCFA would be unreasonable to fix
the
disallowance at the current amount without giving the State
an
opportunity to prove that the disallowance would be less if the
State
had continued using its old methodology.
The regulation (42 C.F.R. 447.331 et seq.) does not set a dispensing
fee
for the states. It merely fixes an upper limit for what a
state
Medicaid agency may pay for prescription drugs. This agency "may set
the
dispensing fee," based on certain requirements set out in
section
447.333. The methodology in place prior to March 1, 1986,
was
acceptable to HCFA and had created a reimbursement dispensing fee
which
was also acceptable. Tr., p. 171. The State should at least be
allowed
to show what the dispensing fee would have been had Texas never
tried
the new methodology.
The witness for the Agency who calculated the disallowance testified
as
follows:
I would assume that costs probably have
increased by some amount,
if you use
inflation factors, which is part of the
old
methodology the state employed.
Tr., p. 177.
We must take into consideration the fact that the Agency itself
originally
planned to base its disallowance on a continuation of the old
dispensing fee
because it was not able to adjust it for the disallowance
period. The
same Agency witness testified that after March 1, 1986,
when the State
implemented a reimbursement methodology that was
unacceptable, "we, the
regional office, had no means by which to
calculate anything else."
Tr., p. 171. He went on to say that the
regional office did contemplate
at one time taking exception to the
entire amount of the dispensing fee
reimbursement, "but felt like the
state and the providers were entitled to
FFP." He again stated that the
Agency could not calculate what might
have been, saying: "[W]e had no
other way of determining the amount so
the $3.86 was used as the point
of departure." Id.
If HCFA believed that it was unfair to penalize the State and
the
pharmacists by disallowing the entire dispensing fee for
the
disallowance period, then the State and the pharmacists should not
be
penalized by refusing to allow the State to try to show what
the
dispensing fee would have been if the old methodology had continued
in
effect.
While we believe that HCFA was unreasonable in refusing to look at
any
change that might have occurred in the dispensing fee, it would
be
equally unreasonable to require HCFA to accept the State's
calculations
presented so far. The State claims that if the old
methodology were
continued, the dispensing fees computed for the disallowance
period
would be greater than under the new methodology, and there would in
fact
be no disallowances. This approach is immediately suspect in
principle,
since presumably the purpose of the new methodology was to give
Texas
pharmacists more of an opportunity for profit.
In addition, the figures themselves presented by the State are suspect.
In
February 1986, just before the new methodology was to go into effect,
the
dispensing expense was $3.26, and the flat dispensing fee was $3.86.
Texas
Ex. J, p. 5. According to the State's projected calculation, for
the
quarters of March 1986 through December 1986, the dispensing expense
would be
$4.15 and the average basic dispensing fee would be $5.66. Id.
at 4.
This represents an increase in the dispensing expense of 27%, and
an increase
in the average basic dispensing fee of 46%. Obviously these
increases have no
reasonable relation to an inflation factor.
It is not our function to determine how any discrepancies may have
crept
into the State's calculations. Two factors do, however,
suggest
themselves from the record before us. The first is that the
State, in
its computations, used both pay claim data, from its claims
payment
file, and cost report data, while the dispensing fee for the
period
prior to March 1986 had been computed using only cost report
data. Tr.,
pp. 165-66, State Ex. J, p. 1.
A second factor is that for the period of March through December 1986
the
State used 1984 cost data (instead of 1983) and inflated it to
midyear
1986. We do not know from the record when the State would have
started
using 1984 cost data under the old system. The State updated
once a
year, ordinarily, so there may not have been an update due during
the period
at all. Also, it appears that under the old system Texas
would not have
constantly updated for inflation by taking the midpoint
of the period, but
instead would set the dispensing fee prospectively
for a full year ahead.
In any event, whether or not these factors affected the
State's
computations, we believe it is the State's burden to convince the
Agency
of what is the correct computation.
The State should have the opportunity to show, by objective evidence,
that
if it had continued the old methodology during the entire
disallowance
period, using exactly the same type of data it would have
used, and updating
on exactly the same basis, the disallowance would
have been less in a
specified amount. If the State cannot duplicate the
same methodology it
would have used, then unfortunately it will have to
take HCFA's figures for
the disallowances. It is the State that caused
this situation by
attempting to use a methodology which was contrary to
regulations.
The State should provide this evidence within 30 days after receipt
of
this decision (or within such longer time as HCFA itself may choose
to
allow). If the State does not present any such evidence within
this
time, the disallowance is upheld in full as now stated. If the
State
does present evidence, HCFA should review the material and
determine
whether, and by what amount, the disallowance should be reduced,
and
advise the State in writing. If the State disputes this
determination,
the State may return to the Board within 30 days after
receiving HCFA's
determination.
Conclusion
Based on the preceding analysis, we sustain the disallowances
in
principle. We sustain the full amount of the
disallowances
provisionally, subject to the limited opportunity for the State
to
present evidence to reduce the amount of the disallowances, as
discussed
above in section IV.
________________________________ Donald
F.
Garrett
________________________________ Norval
D.
(John) Settle
________________________________
Alexander
G. Teitz Presiding Board Member
1. It is clear from the context of the State's argument that the
more
precise illustration of the left side of the formula was:
Drug Cost + Drug Cost + Dispensing Expense + Dispensing Expense
Profit
Profit Component Component
2. HCFA alleged that the Texas provider reimbursement
methodology
contained an additional dispensing fee which resulted in an extra
$.10
added to the reimbursement to providers who furnish no-charge
delivery
service. HCFA asserted that this additional reimbursement
violated the
State's rules on reimbursement and therefore constituted a
double
reimbursement which was prohibited under section 1902(a)(30) of the
Act.
See HCFA Br., pp. 7-8; Texas Ex. A. At the hearing, HCFA indicated
that
although it raised and briefed this issue, no part of the
disallowance
calculation was actually based on this issue. Tr., p.
180-181, 187-189;
see also, HCFA Summation, p. 5. Since there has been
no disallowance of
federal funds based on HCFA's allegation, we do not need
to address this
issue.
3. The regulation actually requires the upper limit of payment to
be
the lower of ingredient cost plus a reasonable dispensing fee, or
the
provider's usual and customary charge to the general public. The
"usual
and customary charge" was not an issue here.
4. The profit on the $20.00 ingredient is not quite twice what
it
would be on a $10.00 ingredient. This will be discussed further
in
considering the State's argument that its methodology is not a
"mark-up"
system.
5. The fact that we are so bound effectively negates a
secondary
argument offered by Texas, that the glut of generic drugs on the
market
made it unnecessary to have a regulation (such as the one at
issue)
designed to discourage the use of higher priced drugs. The
regulation
was in effect during the period at issue and it did prohibit the
State's
new methodology.
6. As we noted earlier, these guidelines were never promulgated
in
final form. Although the State contended that specific requirements
in
the guidelines might not be binding on a state, they are set out
here
only as an explanation or interpretation of the fixed fee provision
in
the regulation.
7. The Agency objected when testimony was first offered as
to
reimbursement of pharmacists in other states. Tr., p. 74. When
counsel
for the State assured the Board that this was done only
for
"illustrative purposes" (Tr., pp. 75, 79, 81), the testimony was
allowed
in, subject to a later motion to strike. Tr., p. 81. Counsel
for HCFA
was given a continuing objection. Tr., p. 82. Testimony of the
witness
Harriss pertaining to the "manipulation" of drug costs in other
states
was eventually stricken. Tr., pp. 118, 123, 128. However,
other
testimony as to procedures in other states was allowed to stand and
no
later motion to strike