CDU Associate

The Centers for Medicare and Medicaid Services (CMS) in mid-March proposed steep cuts in various areas of Medicare reimbursement that, if implemented, could have significant implications for the medical device industry. And, most notably – and if finally fully implemented – these reductions could pummel various sub-sectors of cardiovascular devices, primarily pacemakers, defibrillators and stents. By comparison, proposed changes for orthopedic products such as replacement hips and knees were relatively moderate.

The proposed reductions were issued in a weighty 1,192 page report proposing significant revisions to how hospitals are reimbursed for inpatient services. The agency said the changes, which it noted include the first significant revision of the inpatient prospective payment system (IPPS) since its implementation in 1983, are geared at paring down costs and revamping the system for classifying patient cases.

When fully implemented – scheduled for FY08 and potentially earlier – CMS said the revised IPPS would improve the accuracy of payment rates for inpatient stays by basing the weights assigned to diagnosis related groups (DRGs) on hospital costs rather than charges, and adjusting the DRGs for treating the sickest patients.

‘Far worse than expected’

Glenn Novarro, analyst with Bank of America (New York), in a research note termed the initial version of the new payment rules “far worse than expected” and said they would mean dramatic cutbacks to reimbursement of both coronary stent and cardiac rhythm management procedures.

Reimbursements for stents appear to fare the worst, with cuts in the 20% to 30% range. Not far behind, reimbursement for implantable cardioverter defibrillators (ICDs) would drop more than 20% under the new guidelines. For a representative selection of the reductions in the cardio sector, see Table 4, below.

“The ICD and stent companies will feel the brunt [of CMS changes] while orthopedic companies could benefit as the relative profitability of those procedures is largely unchanged,” said Thomas Gunderson, analyst with Piper Jaffray (Minneapolis), in a research report. “We expect to see significant revisions in the final rule, but the headwinds in cardio just got worse and the sailing in ortho is getting easier.”

CMS noted that the proposed changes, which reflect recommendations from the Medicare Payment Advisory Commission (MedPAC), are aimed, among other things, at closing loopholes used by specialty hospitals – such as cardiac, orthopedic and surgical centers – allowing them to “cherry-pick” more profitable cases.

The reforms will significantly affect payments to specialty hospitals – hospitals that typically are owned, in whole or in significant part, by physicians who serve as referral sources. The growth in specialty hospitals has been slowed temporarily by statute or regulation since the Medicare Modernization Act was signed in December 2003.

Thus, under the proposed rules, by 2008 cardiac hospitals will experience an 11.7% decline in payments; orthopedic centers, a 9.4% reduction; and surgical hospitals, a 7.2% decline, according to CMS.

Doing the two-step

To achieve its aims, the agency said it is considering a two-step process of transformation. The first step, set out in the proposed rule, would assign weights to DRGs based on hospital costs, rather than hospital charges. This would theoretically eliminate biases in the current DRG system arising from the differential markup that hospitals assign for ancillary services among the DRGs. The new DRG weights would go into effect Oct. 1, 2006.

A second step, thus far scheduled for FY08, would replace the current 526 DRGs with either the proposed 861 consolidated severity-adjusted DRGs or an alternative 70 adjusted DRG system developed in response to the public comments CMS is sure to receive on this issue, many most likely from special interest groups affiliated with the hospital and device industries. CMS said it is also considering ways of improving recognition of severity in the current DRG system by FY 2007.

When the two steps are fully implemented, CMS said hospitals can expect more accurate payment for their services.

“The hospital payment reforms we are proposing today will mean payments for hospital inpatient services will more accurately reflect the costs of providing the services,” said CMS Administrator Mark McClellan, MD, PhD. “We are taking important steps to make payments fairer to hospitals and to assure beneficiary access to services in the most appropriate setting.”

Questions – but few answers

During a CMS-sponsored conference call following roll-out of the proposed reimbursement changes, Tom Gustafson, deputy director of the Center for Medicare Management, indicated a willingness to have a dialogue around the idea of having a gradual phase-in of the rules to ease the pain. “You can judge, based on our past behavior,” he said, “that we have been receptive to that kind of idea, and we’ll certainly look for the reactions of the community to this.”

But he wasn’t able to provide any answers concerning how the new reimbursement schedule was determined or what, specifically, it was based on.

This clearly frustrated some of the analysts and other callers who participated in the Q&A session.

One caller aggressively questioning the methodology issue noted that the reimbursement rate under the new plan calls for an ICD to be covered to between $23,000 to $24,000 and the average selling price for the devices falls within that same range, leaving no wiggle room for the many ancillary costs associated with the device in the hospital, let alone the cost for the implanting procedure.

This is of particular concern in relation to cardiovascular procedures because a higher percentage of their total procedural costs are associated with ancillary services than in other segments of the healthcare field.

Gustafson’s answer was less than satisfactory. He advised the caller to forward comments on the issue to CMS, and he offered no insight into the complex formula that his agency used to come up with the reimbursement numbers.

He said he could appreciate the frustration of the caller but that there was little more he could say on the methodology, because of laws governing such disclosures under the Administrative Procedures Act.

“There’s a limit of how we’re able to communicate at this point,” he said, adding the caveat that his agency “has its hearing aids tuned up and [is] listening really carefully” to what the public has to say. Until the final rule is implemented around Aug. 1, he said the information is essentially sealed in a “black box.”

Cardio not targeted

In another conference call – this one sponsored by investment banking firm Harris Nesbitt (New York) – Dr. Henry Dove, an independent healthcare consultant to managed care organizations and a member of Casemix Consulting, said CMS had not targeted cardiovascular manufacturers in developing the new plan, with an attempt to drive down payments in that sector.

“The main challenge that CMS faced was that they wanted to address the imbalance of the relative [DRG] weights. They in no way had it in for the cardiology devices or the orthopedic devices.”

Dove noted that hospitals may try to “pass the buck” on to device firms. But he said that they will only be able to pass on roughly 5% of the reimbursement impact to the hospital.

One trend that the proposed changes might produce in hospital activity, he predicted, will be a shift to treating “medical” patients as opposed to “surgical” patients.” That too could impact some medical devices areas since hospitals would be less likely to open new surgical wings.

Ultimately, he said the “big battle that is going to be occurring with respect to hospitals is going to be between managed care organizations and hospitals and between hospitals and medical suppliers.” Who is going to win those discussions, he said, most likely “depends on the local market.”

To access the full CMS report interested parties can go to http://www.cms.hhs.gov/AcuteInpatientPPS/downloads/cms1488p.pdf.