Court Deals Setback to VA Attempt to Obtain Drug Refunds

In its decision dated September 11, 2006, the United States Court of Appeals for the Federal Circuit (?"CAFC?") set aside the Dear Manufacturer letter implementing a new TRICARE retail pharmacy network refund system and remanded the matter to the Department of Veterans Affairs (?"VA?") for compliance with the procedural requirements of the Administrative Procedure Act (?"APA?"). The Coalition for Common Sense in Government Procurement d/b/a/ The Coalition for Government Procurement v. Sec'y of Veterans Affairs, No. 05-7130 (Fed. Cir., Sept. 11, 2006). The CAFC concluded that the Dear Manufacturer letter was a substantive rule and that its issuance was procedurally defective because the VA had not complied with the notice and comment procedures of the APA. The court's decision did not settle the question of whether retail pharmacy sales are subject to the discounted prices mandated by statute.

Under the Veterans Health Care Act, manufacturers are required to agree not to charge the Department of Defense (?"DoD?") or VA (or the Coast Guard or Public Health Service) a price higher than the "Federal Ceiling Price?" (?"FCP?"), a discounted price prescribed by a statutory formula, for a "covered drug?" procured either through Federal Supply Schedule contracts or a "depot contracting system.?" See 38 U.S.C. §8126. Historically, drugs dispensed to TRICARE beneficiaries through a retail pharmacy network have not been subject to the FCP. Effective May 2004, DoD restructured its TRICARE Pharmacy Benefits Program to utilize a Pharmacy Benefits Manager to oversee the distribution and payment for prescription drugs through the retail pharmacy network. VA determined that this arrangement was a "virtual?" depot contracting system that qualified for the statutory discounted price pursuant to 38 U.S.C. § 8126. Consequently, by letter dated October 14, 2004, addressed to pharmaceutical manufacturers, VA directed manufacturers of "covered drugs?" to "refund?" to DoD the difference between the price the manufacturers charged their commercial customers and the FCP for prescriptions dispensed to DoD beneficiaries by retail pharmacies for which DoD pays the cost.

In its decision, the CAFC concluded that the Dear Manufacturer letter must be characterized as a substantive rule because it changed existing law and affected individual obligations, (1) by creating a new refund system to impose FCPs on pharmaceutical manufacturers for covered drugs purchased at retail pharmacies; and (2) by requiring manufacturers to change their sales data for the purpose of calculating the Non-Federal Average Manufacturer Price. Moreover, it was clear to the court that the letter was intended to be binding not only within the VA but in courts called upon to adjudicate manufacturer compliance with the requirements. As a substantive rule, the Dear Manufacturer letter was subject to the APA requirement for notice and comment procedures, 5 U.S.C. §553. The VA did not follow these procedures before issuing the Dear Manufacturer letter. Given this conclusion, the court found it unnecessary to consider the Coalition's challenge to the substantive validity of the Dear Manufacturer letter because of its reliance on erroneous constructions by VA of terms in the Veterans Health Care Act (i.e., "procure,?" "covered drug?" and "depot?").

In fact, since the time the VA issued the Dear Manufacturer letter, rulemaking has begun on the extension of FCPs to drugs dispensed through virtual depot systems. A Proposed Rule with comment period (?"Proposed Rule?") was published by the General Services Administration (?"GSA?") in the Federal Register on April 12, 2005 regarding the Federal Agency Retail Pharmacy Program (70 Fed. Reg. 19045-19051). (The Federal Supply Schedule is administered by GSA, which has delegated its authority for administering the schedule for medical devices and pharmaceuticals to the VA.) The proposed rule referred to DoD's TRICARE Retail Pharmacy Program as "the first such virtual depot system [and] the prototype for future systems.?" 70 Fed. Reg. 19046. Presumably, the agencies' next step is to move to issue a final rule, after considering the comments submitted last year.1  Of course, parties adversely impacted by a final rule have the opportunity to assert legal challenges.  Those challenges can assert that the rule violates federal law or otherwise is arbitrary and capricious.

The VA also has several options to seek judicial review of the Federal Circuit decision: at the Court of Appeals for the Federal Circuit, by the panel of judges who issued the decision or by all of the judges en banc (within 45 days after entry of judgment); and/or by petition for writ of certiorari to the Supreme Court (within 90 days after entry of judgment).