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Leroy B. Schwarz
(Credit: Purdue University)

Game theory study says GPO fees don't hurt hospitals

by Brendon Nafziger , DOTmed News Associate Editor
Group purchasing organizations receive flak from skeptics who wonder if the administrative fees they charge medical device and drug manufacturers drive up hospitals' supply chain costs.

But a new study by Purdue University researchers using the complicated mathematics of game theory suggests the fees cut into manufacturers' profits -- without raising the prices hospitals pay.

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"The manufacturer's assertion [is] that they have to raise prices for everyone in order to cover the [contract administration fee]," Leroy B. Schwarz, a study co-author and professor of management at Purdue, told reporters in a call Tuesday. "However commonsensical that might seem, the math just doesn't show it to be the case."

In the study, researchers argue GPOs lower purchasing costs, particularly for smaller hospitals, and that administrative fees collected by GPOs don't distort their incentives to save.

The results come after medical device giant Medtronic Inc.'s February walkout on contracts with the GPO Novation, in a move some analysts called a "watershed moment" for the industry.

When asked on a call if the timing had been planned, Curtis Rooney, president of the Health Industry Group Purchasing Association (HIGPA), a GPO lobby, joked, "No, that would have been very clever though."

GPOs are middlemen who say they help member hospitals save money by negotiating contracts for them from suppliers. Because the hospitals couldn't drive much of a bargain alone, the argument goes, they could push for lower prices together because of the higher volumes.

More than 20 years ago, Congress passed a "safe harbor" provision that lets GPOs pocket administrative fees from vendors, typically to the tune of 3 percent of the volume contracted. It's estimated that GPOs net at least half their revenue through these payments.

GPO critics argue that these fees pose a conflict-of-interest problem, as they give the GPOs an incentive not to lower prices. Some critics estimate that repealing the "safe harbor" provisions would save the health care system billions of dollars a year.

Studies on GPOs' health care impact have been mixed. A 2006 report based on case studies from Novation suggested a contract price of $3,116 for providers buying directly from the manufacturer but only $1,749 going through a GPO.

But last fall, in a study commissioned by the Medical Device Manufacturers Association, economists compared GPO contracts with winning bids on an after-market auction service called MEMdata. They found the auction prices were 10 to 14 percent cheaper than the original GPO price over the 10 years of data they had available.
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