BBI Contributing Writers

It's no secret that Medicare's hospital Outpatient Prospective Payment System (OPPS) is having a significant impact on medical device companies. Increasingly, medical device companies are finding themselves in a strange new world as they work with the Centers for Medicare and Medicaid Services (CMS; formerly the Health Care Financing Administration; Baltimore, Maryland) and hospital customers to ensure Medicare reimbursement for their products.

That strange new world is becoming an increasingly more hostile one with last month's release by CMS of a proposed OPPS rule that the agency said could require "a significant pro-rata reduction" for special pass-through payments to advanced outpatient technologies (see Market Updates, page 199, this issue).

CMS, in a program memo issued last spring, encouraged hospitals to "first work with their manufacturer" to provide appropriate coding information about their device(s). For many manufacturers, this invitation is welcomed. It is an opportunity to provide added-value services to their customers and learn more about their customers needs. It also opens doors to a reimbursement decision-making process under Medicare that was historically carried out behind closed doors. On the other hand, expenses increase as companies devote more resources to reimbursement strategies and billing compliance.

The OPPS system relies on a system of Ambulatory Patient Classifications (APCs) that provide a fixed rate of reimbursement for categories of hospital outpatient services. To account for medical device costs that were not initially calculated into APC payments, the OPPS allows for separate payment of the devices for a period of two to three years. Pass-through payments for devices are established by taking the hospital charges for each item (on an item-by-item basis), reducing them to cost by use of a cost-to-charge ratio, and subtracting an amount representing "old" device costs that already are contained in the procedure-based APC payments. The resulting payment represents, in effect, the net substitution cost of the new technology. At the end of the designated period, payment for the specified device will be incorporated into the associated APC category payment rate, eliminating the need for extra payment.

At the onset of the OPPS program in August 2000, device companies submitted to HCFA an application of eligibility for each product they wanted considered for a pass-through payment. Predictably, HCFA couldn't process the high volume of applications in a timely manner. Consequently, the approval process for pass-through payments was delayed in many cases. Because hospitals could not obtain reimbursement without official HCFA approval of the device, a false competition between device companies with an approved product and companies without an approved product resulted. In addition, hospitals faced the additional burden of monitoring and incorporating approved product-specific codes into their billing systems.

New rules in place

In part due to political pressure from the medical device and hospital industries, provisions in the Benefits Improvement and Protection Act (BIPA 2000), enacted by then-President Bill Clinton in December 2000, required HCFA to transition from an individual product-based pass-through payment to a categorical pass-through payment. This should streamline the process of obtaining pass-through payments. The introduction of device categories does not change how payment for these devices is calculated or the current eligibility criteria for pass-through payment. All currently approved devices for pass-through fit into these newly established categories. The critical change is that devices not yet approved no longer need to be individually qualified by the agency, now bearing the CMS name. According to CMS, if a hospital believes a product fits the description of the category and meets eligibility criteria, the hospital can bill for it. As a result, hospitals will look to manufacturers to provide appropriate information and materials about billing for pass-through. In Program Memo A-01-41, CMS addresses billing compliance issues under OPPS. CMS will consider the materials submitted by manufacturers to be reasonable support for coding decisions regarding appropriateness of payments. Given CMS's historical displeasure with "aggressive" coding and billing practices, however, any information that device companies provide to hospitals should be carefully validated.

Eligibility criteria for pass-through payments continue to be debated between the medical device industry and CMS. Initially, the lack of clarity limited the number of devices that were eligible. Although the policy was revised and expanded, controversy still remains. For example, one eligibility condition is that the item must be either "surgically inserted or implanted" to be eligible. A number of device companies disagree with CMS's interpretation of how their device is applied and are working toward appealing their eligibility denials. For a complete list of eligibility criteria, go to the CMS web site ( to find Program Memo A-01-41.

How it can work

The good news is that the BIPA regulations have temporarily eased the burden for hospitals in purchasing and using some new technologies. This has provided obvious benefits to those manufacturers for which transitional pass-through payments have been approved.

On the other hand, manufacturers with technologies that do not meet transitional pass-through criteria are facing stronger-than-usual challenges from hospitals. Some hospitals are reportedly adopting purchase policies that preclude any technologies that are not eligible for pass-through payment. While this is clearly not a sustainable position, it speaks to the problems that both hospitals and manufacturers still face in adapting to the new system.

The lack of enthusiasm many hospitals are displaying for newer technologies is not likely to improve any time soon because hospital financials continue to be depressed. Despite rollbacks in reimbursement cuts scheduled under the 1997 Balanced Budget Act, hospital systems posted an operating profit of 2.3% in 2000, up slightly from 2.1% in 1999, but far below levels considered healthy for the industry. Smaller, non-system hospitals did even worse. At the same time, hospital costs continue to rise, fueled in large part by increases in the cost of pharmaceuticals, without commensurate gains in reimbursement from commercial insurers or Medicare.

When hospitals face declining profits, they begin to cut back on purchases of all types, particularly when reimbursements for the products are uncertain or unavailable. Consequently, technology manufacturers with products that don't qualify for a pass- through payment have to make the purchase argument on the basis of information other than technological merit and reimbursement-based revenue. The argument should include evidence of the product's value to the institution and its patients. And an integral part of the value analysis is the impact of the technology on the economics of the hospital.

Using evidence of value

In the absence of additional reimbursement, hospitals respond to two primary types of economic data: 1) information showing how improvements in clinical outcomes can improve profitability under current reimbursement and 2) information illustrating how new technologies can improve hospital operations and/or support more business within the same hours of operation and fixed costs.

Under the OPPS system, hospitals in general are paid every time a procedure is performed in the outpatient setting, irrespective of whether follow-up procedures are required to correct errors or treat complications from the initial procedure. Consequently, a technology's ability to reduce errors or complications is unlikely to generate economic outcomes that are more favorable to a hospital than if the technology does not contain such attributes. (It will enhance a hospital's clinical profile, however, if the improvement in mortality and morbidity statistics is monitored by contracting health insurers.)

A more useful approach is to address the question of hospital operating improvements. The relevant issues tend to cluster into two broad areas: operating cost reductions and procedure time improvements. Operating cost reductions typically affected by new medical technologies include potential savings on variable costs associated with outpatient procedures. Variable costs include costs associated with medical supplies, drugs, laboratory tests, equipment and some types of nursing and other staff labor – in short, any service or supply that is used as part of the actual procedure being performed as opposed to being part of the ongoing fixed costs of running the hospital facility. Companies developing medical technologies that can reduce or offset variable costs can develop data demonstrating how their product can pay for itself through savings in these costs.

Another fruitful area of analysis involves investigating whether the new technology can create operating improvements in busy outpatient areas like the cath lab and outpatient surgery suites. Hospitals that can schedule additional patients can generate significantly increased revenue with only modest increases in variable costs and no increase in fixed costs, leading to dramatically improved profitability in these areas.

Key variables to examine include the amount of time saved by the use of the new technology, the number of new cases that could be scheduled in this time period, the reimbursement and costs associated with new cases and the ability of the facility to "capture" some percentage of the potential new cases. Under the right circumstances, the hospital facility can enhance market position and profitability by using new technology.

The impact of OPPS will continue to evolve as customers of medical device manufacturers adjust to the changing economics brought about by this payment system. Medical device companies are learning to incorporate reimbursement strategies and cost modeling into their business planning. It helps strengthen the relationship between manufacturers and their customers, it helps bolster the customer's confidence in their own economic position and ultimately, it helps the bottom line.

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