BILL ANALYSIS
SENATE JUDICIARY COMMITTEE
Martha M. Escutia, Chair
2003-2004 Regular Session
SB 749 S
Senator Escutia B
As Amended April 28, 2003
Hearing Date: May 6, 2003
Business and Professions Code 7
CJ/GMO:rm 4
9
SUBJECT
Hospital: Group Purchasing Organizations
DESCRIPTION
This bill would define a group purchasing organization as a
medical supply purchasing agent and would impose certain
restrictions on a group purchasing organization when acting
as an agent. This bill would codify the industry's
existing code conduct and require group purchasing
organizations to adhere to certain code of conduct
principles such as a) prohibiting all employees from
accepting gifts; b) requiring employees to divest in
suppliers' stocks; c) prohibiting product bundling; d)
requiring hospital officials to disclose ties with vendors;
and e) requiring agents to disclose to hospital members
payments received from vendors.
BACKGROUND
Medical supply purchasing agents, also known as group
purchasing organizations (GPOs) are used by the nation's
hospitals, nursing homes, and outpatient clinics to keep
procurement costs down. GPOs use member hospitals'
collective purchasing power to negotiate contracts for
medical supplies at lower prices than what hospitals would
otherwise be able to negotiate individually.
Unlike some purchasing agents however, GPOs are financed by
suppliers rather than by member hospitals. Supply
(more)
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companies pay GPOs from a percentage of total annual
purchases. The more clients spend on medical supplies, the
more money GPOs make from their suppliers.
In 1986, Congress exempted purchasing agents from federal
anti-kickback laws, with the caveat that GPOs could not
charge in excess of three percent of vendor fees. Because
these buying groups were established to save hospitals
money, Congress allowed suppliers to cover the buying
groups' costs by charging sales fees from manufacturers
instead of from hospitals. However, GPOs have exceeded
those guidelines by taking fees of up to 20 percent or by
accepting stock in product manufacturers.
In March of 2002, the New York Times commenced publishing a
series of reports on "middlemen" purchasing agents with
questionable financial ties to their vendors. These close
ties to manufacturers and unethical business practices led
to questions by the U.S. Senate Judiciary's antitrust
subcommittee about the business practices of the purchasing
companies and whose interests the buying groups really
serve.
Federal investigations revealed that although the two
largest GPOs negotiated over $34 billion in contracts last
year, they provided no public accounting of how much
suppliers pay them to purchase their products or the terms
of individual contracts. This leaves hospitals with little
or no oversight or control over steadily increasing
supplies expenditures, according to GPO critics.
GPOs' contracting practices also came under federal
scrutiny, which revealed that they have tight control over
the types of products hospitals can choose from, leaving
physicians little product choice, thereby limiting the
quality of care they may give to their patients. In
addition, smaller medical manufacturers with superior or
cheaper products were locked out of contracts due to GPOs'
questionable business practices.
Following the federal hearings last year, the industry's
trade association responded to allegations of
anti-competitive and unethical business practices and
established a code of conduct for its members. This bill
would codify some of these provisions to promote disclosure
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and transparency of GPOs and their business practices.
CHANGES TO EXISTING LAW
Existing law on agency generally defines the authority,
responsibility, and obligations of an agent with respect to
a principal [Civil Code Sec. 2295 et seq.].
Existing law does not regulate hospital group purchasing
organizations, but it does impose certain fiduciary
responsibilities upon purchasing agents [Civil Code Sec.
2295 et seq.].
This bill would define a group purchasing organization
(GPO) as a purchasing agent that negotiates contracts with
vendors on behalf of its member health care service
providers by using the combined purchasing power of its
members to obtain the best prices for medical supplies.
This bill would:
a) prohibit management employees, or other employees in a
position to influence
contracting decisions to accept any gifts, honoraria,
favors or personal services from any vendor that
contracts with a GPO.
b) require a GPO or any of its employees, officers,
directors, and advisory board
members to disclose any corporate equity interest in any
of its vendors to its member hospitals.
c) prohibit GPOs with corporate equity interest in a vendor
to obligate, require,
or commit a member hospital to purchase goods or services
from that vendor.
d) prohibit "bundling"- the practice of packaging unrelated
or unwanted clinical
products, sometimes from different manufacturers, and
requiring a member hospital to purchase the combination
in order to obtain the lowest price.
e) require GPOs to disclose payments received from vendors
to its member
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hospitals.
This bill makes legislative findings and declarations that
the industry has not successfully self-regulated and that
the provisions in the code of conduct must be codified into
statute to enforce the industry standards established
pursuant to federal investigations.
COMMENT
1. Stated need for the bill
According to the author's office, rising healthcare costs
are one of the underlying causes of the nation's
healthcare crisis. Medical supplies account for a
quarter of a hospital's costs and are the second largest
expense, following labor. Control of the medical supply
market by hospital buying groups is one reason why the
cost of medical supplies continues to rise sharply.
These buying groups, the author argues, are not
sufficiently complying with their own industry's code of
conduct and therefore need regulation enforced by statute
to prevent further abuses.
Transparency is crucial because GPOs are using public
funds to buy supplies for hospitals that charge for their
services under Medi-Cal and Medicaid claims. Full
disclosure of the relationships between the suppliers,
the middlemen (the GPOs), and the hospital owners will
give regulators and consumers a better idea of whether or
not these companies operate in the interest of their
clients or profit at the expense of these struggling
hospitals and their patients and, ultimately, the
taxpayers.
2. Hospital buying groups have a fiduciary responsibility to
their members as purchasing agents: analogy to real
estate agents
GPOs negotiate contracts for many of the nation's
hospitals, including contracts for non-profit hospitals.
By pooling their collective purchasing power, GPOs are
able to negotiate considerable cost savings for their
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member hospitals from medical supplies vendors. These
purchasing agents were established to allow hospitals to
seek better prices for goods and services, therefore
performing a beneficial function on behalf of their
members.
As purchasing agents, GPOs have a fiduciary
responsibility to their members to negotiate contracts
with the best interest of the member, not the agent, in
mind. Unlike a dealer that sells products or services at
a mark-up, a purchasing agent usually works for a flat
fee to handle the entire purchasing process (i.e., vendor
selection, bidding and value engineering, approvals,
purchase orders, shipping, receiving, and warranty
information). The agent has a fiduciary duty, founded in
agency law, to act on the member's behalf in all areas of
the transaction. The sole negotiation between an agent
and the member is the purchasing fee. After that, unlike
"dealer" transactions, the agent is sitting on the
member's side of the table, negotiating solely for the
member's benefit.
One of the key benefits a purchasing agent provides is
the ability to compare cost and benefits for the member.
When the agent fails to fulfill this role, the agent has
failed to fulfill its responsibility to negotiate in good
faith for its client. This "good faith" has been
interpreted to impose an obligation to act reasonably in
order to avoid negligent handling of the members'
interests as well the duty not to favor anyone else's
interest, including the GPOs' own interest over that of
the member.
Further, if an agent should find itself in a position of
conflicting interests, the agent must disclose the dual
agency (acting for two parties at the same time) or risk
being accused of constructive fraud (breach of fiduciary
duty) in regards to both or either parties.
3. GPOs: ripe for some control
a) GPOs investigated by the federal government last year
Federal investigations revealed that hospital buying
groups also invest in medical supply companies, the
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same companies they must objectively review and
negotiate purchasing contracts with on behalf of their
member hospitals. This close relationship with
manufacturers creates a conflict of interest.
The way GPOs collect fees also poses a conflict of
interest. Suppliers finance buying groups, by paying a
percentage of sales to GPOs from total sales to
hospitals. However, these fees add an extra layer of
cost to each product, and provide the incentive for
GPOs to negotiate the purchases of more expensive
products to extract higher fees from their vendors.
Although the federal government initiated
investigations last year, no legislation has been
introduced to reform the industry. However, another
round of investigations is being planned this summer
by the U.S. anti-trust subcommittee to follow up on
last year's investigations.
b) SB 749 would impose restrictions on GPOs
SB 749 would enact restrictions established and agreed
to by the trade association of GPOs. However, many
GPOs have been slow to comply with their association's
existing code of conduct. Proponents of the bill
believe that enacting the code into statute would
encourage GPOs to abide by their own association's
guidelines. Since these provisions would be placed in
the Business and Professions Code, they would be
enforced in a manner similar to other regulatory
statutes in the Business and Professions Code.
i) SB 749 would prohibit all employees from
accepting gifts and require employees to divest in
suppliers' stocks. These provisions seek to
eliminate conflicts of interest between buyers and
vendors by removing any financial interest or
influence on purchasers by vendors.
ii) This bill would prohibit product bundling - - the
practice of packaging unrelated or unwanted products
from several manufacturers and requiring hospitals
to purchase the entire combination to receive a
discount. Physicians report that this practice is
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problematic because it limits the amount of
discretion over what types of products they have to
choose from to treat their patients, thereby
compromising patient care.
iii) This bill would require hospital officials to
disclose financial ties with vendors to prevent
potential conflicts of interest. Members report
that there is little oversight as to these
relationships.
iv) This bill would require agents to disclose to
hospital members payments received from vendors to
guard against potential self-dealing by GPOs and
promote transparency.
Critics of GPOs say that the industry's code of
conduct does not address some of the more
anti-competitive contracting practices. (See Comment
4 for a description of additional restraints
proposed by physicians and manufacturers).
4. Amendments proposed by physicians and small medical
device manufacturers
Small medical device manufacturers and physicians
express concerns that this bill does not go far enough
because it does not address GPOs' most egregious
contracting practices and abuses. Therefore they
suggest amendments to strengthen the industry's code
of conduct by addressing the conflicts of interest and
anti-competitive contracting practices.
Some suggested amendments are:
a) Cap vendor fees at three percent following
federal guidelines.
In 1986, Congress imposed a three percent cap on
vendor fees to prevent vendors from exerting undue
influence on GPOs and prevent self-dealing.
Enforcing the federal government's original intent
would allow smaller companies that cannot afford to
pay up to 20 percent in administrative fees (now
being charged by GPOs in some cases) to compete for
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contracts.
Physicians also believe that by capping fees, GPOs
would negotiate contracts with vendors with the best
interest of their hospitals in mind and without the
influence of a higher fee being paid from a
particular vendor.
b) Eliminate single source contracts.
Small medical device manufacturing companies contend
that GPOs eliminate competition by issuing large
manufacturers exclusive contracts. Requiring GPOs
to offer several contracts in each supply category
would promote competition by allowing smaller or
better manufacturers to enter the market and keep
prices low.
Eliminating single source contracts and allowing
innovative products to compete also allows hospitals
and physicians broader and cheaper product choices.
The author may wish to consider working with these
groups to ascertain if stronger provisions are indeed
necessary.
5. Other healthcare areas under investigation
Suppliers and purchasers in other areas of the healthcare
industry have also attracted attention, and are being
investigated by both state and federal officials.
Pharmaceutical companies, such as Merck-Medco and Tenet
are currently under intense scrutiny for their symbiotic
relationship with physicians, fraudulently billing
Medi-Cal and Medicaid for prescriptions at inflated
rates, and a number of allegations of misconduct similar
to the actions this bill is seeking to address.
Support: Applied Medical; California Advocates for
Nursing Home Reform; Congress of California
Seniors; Electrical Engineering Department, San
Diego State University; Gibbons Surgical
Corporation; Impact Worldwide, LLC; Masimo
Corporation; Medical Device Manufacturers
Association; Pevco Systems International, Inc.
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Opposition:None Known
HISTORY
Source: Author
Related Pending Legislation:AB 103 (Reyes) would require
pharmaceutical companies to report
gifts to health care providers,
and would impose fines of up to
$10,000 for violators. [The bill
is in Assembly Appropriations
Committee]
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