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The GPOs: Where do they go from here?

Want to know one question about the GPOs Group Purchasing Organizations that no one can really answer? Try asking how many of them are actually out there!

Want to know one question about the GPOs—Group Purchasing Organizations—that no one can really answer? Try asking how many of them are actually out there!

Even if you limit the GPO universe to those active in healthcare, not even the General Accounting Office tries to put an actual number on it, noting only that the industry trade group, HIGPA, says that hundreds exist in one form or another. In foodservice, perhaps only a dozen of these are highly visible. But if you consider the fragmented nature of long term care facility ownership, as well as the prevalence of regional co-ops, the picture gets muddier.

Such groups have existed for years, not only among operators but also for groups like independent distributors. Yet it has been in healthcare that the term "GPO" has risen to prominence and taken on an identity of its own.

Much of their growth has been in response to intense cost-containment pressures exerted by managed care plans and the government, via Medicare and Medicaid. As a result, group purchasing arrangements have become almost universal in acute care and have spread rapidly in the long term care segment.

For self-operated foodservice departments, GPOs are often seen as essential to efforts to remain independent in the face of aggressive sales efforts targeted at hospital administrations by foodservice contractors.

Consolidation, too, has raised the stakes. Today the seven largest GPOs account for more than 85 percent of all hospital purchases nationwide, with a combined volume of over $60 billion. And the two largest organizations—Novation and Premier— account for more than half of all GPO volume.

Mines in the safe harbor

GPO contracts cover everything from ballpoint pens to CAT scanners, carpeting to syringes. Foodservice, which typically represents less than six percent of an acute care facility's expenditures, is not considered a primary driver when hospitals determine the GPO to which they will belong.

Still, GPOs do seek to drive member compliance within the full portfolio of their programs, and in that way have become a major factor in foodservice. As they penetrate long term care, where food expenditures often represent 50 percent or more of a facility's total, they may prove even more significant.

Finally, the influence GPOs wield is not without controversy. Their business models have long raised antitrust questions (see sidebar, p. 64), especially since so-called "safe harbor" provisions in federal law exempt them from some anti-trust rules. And recent moves by some to carry healthcare foodservice programs into other segments have raised class-of-trade and other channel concerns for manufacturers.

In this article, we'll take a brief look at these issues and also profile some of the more significant groups active in foodservice. But first, it's worth reviewing how the GPOs grew into the major force they are today.

Looking back

Students of the industry trace the origin of GPOs to the turn of the century, when local hospitals occasionally banded together to demand better utility rates from steam or power suppliers. But "most of the GPOs we know today had their roots in large metropolitan-area hospital associations," says Tom Wessling, vice president of nutrition and facility services at St. Louis-based Amerinet.

"They came together for advocacy, to deal with Blue Cross and Blue Shield, and then looked at purchasing. In the 1970s, med/surg supplies, lab services and IV solutions represented the big dollars in purchasing budgets and that's where they focused initially."

Food was eventually added to the list. Many original programs were little more than "market basket" spreadsheets, circulated to local distributors for price bids, then turned over to member hospitals.

The formation of VHA (Volunteer Hospitals of America) in 1977 was an early milestone, representing an effort to bring big hospital purchasing "clout" to the many community hospitals in its membership. Other GPO consolidation followed.

Premier as we know it today was formed in 1996, a merger of Premier Health Alliance, Sun Health and American Health Systems (AMHS). Novation followed two years later, a joint venture of VHAand UHC (the University Health Consortium).

On the distribution side, a ground-breaking move occurred in 1989 when Kraft Foodservice (one of the predecessors of US Foodservice) allied itself with Baxter, a leading healthcare supply organization. That eventually gave the distributor a dedicated field sales organization, and clearly positioned it as a healthcare specialist. It became the basis for the division known as Dietary Products and eventually paved the way for US Foodservice's unique position today as sole-source provider to both Premier and Novation.

A big change came for operators in the 80s with the advent of DRGs (Diagnostic Related Groups) and the "flat fees" they entailed.

"Hospitals were no longer automatically reimbursed for their costs," Wessling says. "Cost management began to receive much more attention. At the same time, outsourcing became a buzzword. If you weren't doing a good job managing your costs, your job could go away. That idea brought a lot of focus to the issue."

The Shift in Power

As GPOs grew larger, another change began to take place. Until then, most purchasing contracts were cost-plus arrangements with distributors, often hard to audit, with distributors negotiating their own pricing and allowances separately with manufacturers.

When GPOs only obtained rebates from manufacturers, they were tracked and redeemed separately. But as they grew more powerful, they began negotiating directly with manufacturers for the delivered price of goods, giving them a stronger basis for cost-plus distribution contracts with the distributors. That was a major shift in the power balance.

Despite such changes, all parties gained in many respects. While manufacturers had to make pricing concessions, they found in GPOs a reliable way to sell a difficult segment and a tool to drive regional distribution. Also, the GPOs gave them data on product movement that distributors had been reluctant to provide.

Distributors were forced to share the marketing allowance pie with GPOs, but they also got a long sought goal. As GPOs began to require prime distributor agreements, they gained the larger drops and committed customer relationships they wanted.

Finally, operators were big gainers with benefits that went beyond pricing. Many no longer had to worry about complex bids. Participating in a hospital's GPO was prima facie evidence you were "buying smart." The groups also provided new clinical programs and support services and helped fund muchneeded education programs.

Follow the money

GPOs' revenue and cost savings largely accrue in three ways. The first is from so-called "administrative fees" charged to distributors and vendors as a prerequisite for participating in the programs. These are usually capped at three percent of program volume and in foodservice usually average less than that. Typically, after a group pays overhead costs, the remainder is returned to members as patronage income.

A second type of member revenue is representedby back-end marketing allowances or rebates, typically a set amount per case, that are claimed after the sale and often structured as an incentive to help grow volume. Historically, these were tracked first by operators, then by servicing distributors, and finally by GPOs that grew very efficient at managing the purchasing and distribution data needed to redeem them. One of their advantages was visibility: when rebate checks came in, it was clear evidence of savings that could be reported to an administration. Another advantage of this approach is that discounts can sometimes fall outside of state bidding requirements.

A third and increasingly important source of GPO revenue is represented by deviated pricing. It appears in the form of off-invoice credits applied by a distributor at the time of invoicing, and which the distributor then "bills back" to the manufacturer for credit.

Most GPOs are technically registered as forprofit organizations even if their owners are non-profits. Some are shareholder owned; othersare owned privately. Each has its own culture and operating philosophy (see sidebars).

How much pricing power can be attributed directly to a GPO's relative size? Quite a bit, the largest groups argue. But evidence also exists to the contrary. For example, a GAO pilot study of the groups in 2002 found that in the purchases of items like needles and pacemakers, large GPOs did not always obtain better pricing for members than smaller groups.

Yet another view holds that GPOs should be evaluated like mutual funds, assuming that those with the least overhead provide members with the greatest benefit. GPO overhead varies widely and this has become a matter of significant interest to both oversight organizations and members.The significant growth of newcomer GPOs like MedAssets is apparently due to their streamlined business models which eliminate much of the overhead of traditional shareholder organizations in favor of a simple fee-for-service structure.

The distributor connection

One issue facing the largest GPOs is that it has become more and more difficult to separate a GPO's program from its distribution arrangements. US Foodservice, for example, has had a series of exclusive distribution contracts with Premier over the past eight years. In 2004, after Novation put its distribution contract up for bid, it made the decision to abandon its former multi-source contract and also go exclusively with US Foodservice.

Much to the consternation of rival Sysco, that has technically given USF a sole-source relationship with facilities controlling as many as two-thirds of all acute hospital beds. Meanwhile, Sysco has aggressively sought to retain as much of the Novation business as it can. Look for more contention—and controversy—in this area in the coming year.

More questions than answers

There are a variety of other issues that GPOs face, including those raised by an ongoing Senate investigation (see sidebar on p. 64). While many of the questions raised there mostly deal with product categories like medical devices, foodservice programs have issues of their own, including the following: Multiple memberships. Many groups seek program compliance by prohibiting members from belonging to more than one GPO. Still, multiple membership is common. If a member seeks to claim benefits from two programs in the same category, even inadvertently, it can create significant reconciliation issues—and overhead costs—for the GPOs, distributors and manufacturers who must sort out competing demands for purchase credits.

Double dipping. So-called "double dipping" issues have come to haunt manufacturers over the past decade as the increasing number of regional and national purchasing programs have begun to overlap in ways manufacturers did not intend. Some say the challenge of matching up data from multiple programs has grown into a reconciliation nightmare that is impossible to manage. Back-end allowances are particularly prone to this problem,-one reason the industry is moving towards deviated pricing that can be directly monitored in the invoicing process.

Bundling. Bundling—requiring a member to participate in two or more unrelated programs in order to participate in either of them— has been a hot button for regulators. In the past, it has been an issue in foodservice as well, with some groups requiring a member to use all of its committed manufacturer agreements if it wanted to take advantage of any of them.

Sole sourcing. So-called "sole sourcing" agreements are also a regulatory focus. Some argue they are anti-competitive since they lock members into a single provider for products or services.But even GPOs that seek to offer members multiple choices tend to be skeptical of such claims. They point out that sole source awards result from fairly intense open bidding and that plenty of opportunity for competition exists at that stage of the process.

"The U.S. government is the biggest purchaser in the country, and it sole-sources all the time," notes one GPO executive, wryly.

Operators have come to appreciate the buying opportunities so-called product " standardization" can provide, but most can also cite sole source arrangements they feel put them at a disadvantage if a contract forces a product choice that is clearly of a lower grade than alternatives.

"My view is that the group sometimes lets 'value engineering' override obvious quality assurance issues," says one high-visibility operator. "Money seals the deal. Our administrations see the savings, but we see the impact it can have on customer satisfaction."

Extendability. Perhaps the most controversial foodservice issue in the GPO community today has been the move by Premier and US Foodservice to extend Premier's healthcare program into other segments. This has been most visible in college dining, where Premier has signed about a dozen new members, but is reportedly also occurring in other segments.

Many manufacturers take strong exception to such "extendability," saying foodservice programs and pricing are based on "class of trade" factors, such as the costs they entail in servicing particular segments, the mix of product those segments consume, the "not for profit" status of most GPO members and other factors. They also argue there has always been an implicit understanding that healthcare programs are not automatically extendable without-approval. While the size and strength of GPOs as major customers makes this issue highly sensitive, confrontation is inevitable.

Contractor program overlaps. Another form of channel conflict arises when GPO members have foodservice departments that are contract-operated. In such cases, management companies are quick to compare GPO programs to their own manufacturer agreements and demand "equal treatment" when they believe unfair discrepancies exist.

All of these situations mirror classic trade issues that have existed for years between manufacturers, distributors and large chain restaurant operators. As in the past, reconciliation will likely be uneasy and driven by market pressures. Stay tuned.

Is growth necessary?

One aspect of the extendability issue can be summed up in a simple question: "Will the largest GPOs and their members benefit from still more volume?" In foodservice, many apparently think so. But with acute care largely saturated, the only growth most can reasonably expect must come either by convincing individual members or IDNs to switch allegiances, or by moving into other segments.

GPO membership has been fairly consistent for years (one distributor executive compares it to a college fraternity "rush" system, saying "It is a comfort level choice, and many times you are in it 'for life.'"). Still, there have been some significant membershift changes recently—Catholic Healthcare East recently left Premier and took its $500 million in purchases to Consorta. And upstart MedAssets says that 17 multi-facility IDNs have left larger groups to join it in the last two years.

"The GPOs have become much more aggressive in the marketing they do to prospective members," says one observer. "Today it is almost bare-knuckle fighting. Also, hospitals themselves are taking a hard look at GPO overhead and asking if all the activities they is paying for are really necessary. And as an older generation of hospital executives approaches retirement, GPO allegiances are being broken. That's another reason for more turnover."

Many GPOs see long-term care as their best opportunity for future growth. These facilities are typically smaller and more fragmented than those in acute care, with smaller drops that make them less profitable to distributors. Such factors are among those that make them a market that is increasingly receptive to GPO membership opportunities. As a result, longterm care will be a GPO membership battleground for the next decade.

The advent of e-commerce

What's ahead? More sophisticated data management, for one thing. It has always been at the core of a GPO's services; no matter how deals are structured, they involve a convoluted process in which individual purchases are tracked, incentives, allowances and rebates are calculated and claimed, and billbacks are reconciled between distributors and manufacturers. The sheer complexity of this job gave a competitive advantage early on to those organizations which invested in specialized systems to manage these data streams.

Those systems have evolved into the e-commerce and e-exchange web sites most major GPOs espouse today. In fact, without them, it would be virtually impossible to bring meaningful order to the GPO pricing landscape. Longer term, they could also potentially address some of the industry's more contentious trade issues, such as double dipping.

With the greater emphasis some groups are now putting on the revenue-enhancement side of operations, another next step could be for GPOs to tap member point-of-sale data to provide new services on that basis.

Still, these systems require very significant investments from the GPO and distributor organizations involved, cumulative investments that are clearly separating organizations into technology camps of "haves" and "have nots." They are also tending to shift more administration costs to distributors, requiring them to document that pricing arrangements are executed properly, that constantly changing program extensions, terminations and renewals are implemented on a timely basis, and so on.

The upshot? In the future, healthcare institutions will become more dependent on GPOs and their data management systems and partners to make far-reaching decisions about not only purchasing but also many other aspects of their operations. The GPOs in turn will become more dependent on sophisticated data-exchange relationships with distributors, manufacturers and their members. Mutual, data sharing inter-dependence will clearly drive the future of the industry.

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Making Choice a Core Value

Tom Wessling, VP, Nutrition and Facility Services

at a glance

Annual Purchasing Volume
$6.15 billion (FY 04)

Annual Foodservice Volume
$525 million (FY 04)
$500 million (FY 03)

Participating Facilities:
3500 total members
1800 participating in foodservice
225 extended care

Saint Louis-based Amerinet was formed in 1986 with the merger of three purchasing organizations: Intermountain Health Care, the Hospital Council of Western Pennsylvania (now Amerinet Central), and Haricomp (now Vector). They remain its primary shareholders today.We interviewed Tom Wessling, vice president, nutrition and facility services, whose responsibilities include foodservice, environmental services and engineering programs offered by the organization. He also leads its programs for non-acute care.

Membership. "Acute care represents about 40 percent of our foodservice purchased volume, nonacute care about 60 percent. Our typical member has traditionally been a small-to-medium-size facility, 100-400 beds, and today these often are part of an IDN, or Integrated Delivery Network. "

Sole vs. dual sourcing. "The question of sole vs. dual choice is one where there is a major philosophical difference between our group and many others.We believe in giving members a choice from among manufacturers and distributors and our programs are structured that way.

"In distribution, we have traditionally been sole source by region, but not nationally. Our belief is that no distributor is perfect in every region and we rely on members to reach a consensus as to which distributor represents the best regional option.We use about nine distributor companies overall, both nationals and independents, but have more regional contracts than that because a branch in one region may have a somewhat different program than a branch elsewhere.To use our program, members must commit to making 85 percent of their purchases through the regional distributor."

A regional approach to member services. "Our membership tends to coalesce into regions based on geography and common needs. Instead of having a large national meeting annually, we have regional meetings to bring people together for input on contracts and other programs. Our membership benefits go beyond pricing and supply relationships to services that help them obtain education, achieve operational efficiency and improve retail and promotional strategies."

Outsourcing. "It can be a political landmine in terms of independent members to say a GPO has a relationship with an outsourcing company. In the 1980s, we were one of the first to offer negotiated outsourcing contracts to members who wanted them, but today we are one of the few who don't offer them.

"GPOs, management companies and distributors all have their own program relationships with manufacturers. It is extremely difficult to sort out the overlaps that are permitted and not permitted when combining these, and the manufacturer is often forced to do so at the expense of one of the parties. Another issue is that management companies have developed systems based on their own portfolios of products; to achieve results, they may need full access to their own programs.

"While outsourcing is an important option for institutions, our view is it does not necessarily lend itself to taking full advantage of a GPO. But when a member determines it is the best option, we approach it consultatively, helping the member negotiate the best arrangement possible with its chosen provider. Outsourced operations typically do not participate in our foodservice program."

On the impact of IDNs. "The demands of IDNs mirror those of the original groups as they consolidated.As they grew larger, they demanded better pricing from manufacturers, who would then want more proof of compliance in return.As IDNs have formed, they've sought additional leverage beyond the basic GPO program in the same way.

"There are some I refer to as 'quasi-IDNs, groups of facilities that are affiliated but not really integrated.The question is, are you going to consolidate your ordering, payments, drops? If not, you are a system of hospitals, not a ten-hospital system.True IDNs integrate operations; they make decisions that apply to the whole system and drive compliance to support those decisions.

"Our view is that if an IDN can drive more compliance, they deserve special deals, and we develop customized programs based on their needs and efficiencies. For example, there may be two approved suppliers in a category, and one may wish for its own reasons to more deeply penetrate a given region. In such cases, an IDN may work through us to seek a committed deal with that manufacturer over a multi-year period."

Non-traditional business. "Healthcare is our primary market, but for years we've also serviced non-traditional accounts like athletic clubs, ice arenas and private schools.When we identify a non-traditional account that wants to use our programs, we approach suppliers to see if they are interested in the opportunity.They have the option to not extend the traditional program to other segments. It is a collaborative understanding between our group and business partners."

Growth opportunities in long term care. "To a large degree, acute care membership is at a status quo; non-acute is where the growth opportunities are.That is everything from oncology clinics to long term care.Amerinet overall will see its greatest growth in oncology over the next 12 months; but for foodservice, the greatest growth will be in long term care and assisted living facilities.

"These operators are not as affiliated as in acute care but their level of sophistication is increasing.Their needs are changing: in many cases they are looking for higher quality products, menu ideas, more brands. They are looking for help in running their businesses and we are emphasizing programs to help them do so.

General philosophy. "At the end of each month we return all monies to our owners except for operating expenses; they in turn distribute that money to members and affiliates based on participation.The biggest misconception about GPOs is that they add costs to the system. People look at admin fees and say,'If you didn't have GPOs, you'd save two percent.' In fact, you'd have to hire staff to do the work and it would likely cost you more than two percent. Plus, you wouldn't have the negotiating leverage the group has."

Novation, Inc.
Two Cultures with A Common Goal

Nancy Skodack, Director of Contract Management

at a glance

Annual Purchasing Volume
$26 billion (FY 04, est.)

Annual Foodservice Volume
$550 million (FY 04, est.)
$523 million (FY 03)
$498 million (FY 02)

No. of Participating Organizations:
2,400 VHA and UHC members

Dallas,TX-based Novation is the "big gorilla" on the GPO block. Formed in 1998 with the alliance of VHA, Inc., and UHC ( University HealthSystem Consortium), it represents a hugely diverse membership. It also caused a significant stir earlier this year when it moved from its traditional dual-source foodservice distribution contracts to a new, single-source agreement with US Foodservice.We interviewed Nancy Skodack, M.S., R.D., L.D., FADA, Novation's director of contract management, for a perspective on how Novation views its position in the foodservice marketplace.

Membership. "One of the biggest misperceptions about Novation is that we have 'members.' In fact, we are a supply organization, formed expressly to serve the alliance of VHA and UHC— they are the ones with the members.We are analagous to the concept of 'Intel Inside'—

Novation is a joint venture, dedicated to meeting the members' combined supply chain service needs. "The two organizations are quite different in their member profiles. UHC is a very homogenous group; it represents large academic medical centers associated with prestigious universities.VHA is more diverse, ranging from not-for-profit community hospitals—over 700 of them with fewer than 100 beds—to very large integrated delivery networks.VHA has a 75 percent ownership equity in Novation and UHC has a 25 percent ownership."

Procurement becomes a boardroom issue. "Throughout healthcare, many of the food operations are now managed by multi-department heads. I think one of the most significant changes over the last two decades was the evolution of the materials management role away from its position in the basement of many organizations to one welcome in the boardroom. Supply purchases make up the second largest item on the average hospital's balance sheet and it has become extremely important as a cost management focus for them."

The value proposition of a GPO. "I think consolidation in the GPO industry has produced several positive outcomes. By increasing aggregated purchasing-volume it has produced cost avoidance for suppliers in terms of sales, marketing and administrative expenses.This reduced manufacturers' need to maintain individual agreements with members and is what ultimately translated into the savings members have realized. GPOs offer a marketing service to manufacturers in that they effectively represent and communicate the value of participating in the national contract agreement to members.

"I think a key misperception is that GPOs generate revenues via fees charged to suppliers. We are actually collecting money on behalf of the members we serve. Critics complain that the GPO model is flawed because they accept fees from suppliers. Yet this business model is common in other industries: credit cards, real estate, even publishing!

"Another misperception is that we make purchasing decisions without member input. We engage our members to the highest extent possible in all contract activities. We only get paid when members utilize the contracts, so we pay very close attention to what they say."

Management company relationships. "Some Novation members do have contracted foodservice arrangements and Novation has professional services agreements with management companies for members who wish to take advantage of them. For example,VHA has a dual award with both Sodexho and Morrisson's.The point is that Novation focuses on procurement only, with a majority of our value driven by off-invoice allowances.There are members who use an outsource provider and also use Novation's procurement. It is a member decision and a contract arrangement, not a matter for Novation's policies."

Distributor relationships. "Formerly, we had a multi-source distribution agreement with Sysco, Shared Service Systems and US Foodservice. Under our new single source agreement, we require that members maintain a prime vendor relationship with US Foodservice for at least 80 percent of their foodservice purchases. That change was the result of an exhaustive and competitive bid process that involved a high degree of member input. The final decision was endorsed by our distribution task force and reflects the belief that the best value to our overall membership was provided by a single award.

"We tried to recognize the reality of the distribution world by designing the terms of the agreement so that a member has recourse if it feels a particular distributor branch is not adequately providing service within those terms. Overall, we think the value proposition of the new contract award will result in fairly aggressive new member signup this year."

The future of e-commerce. "The next major stage in the evolution of GPOs will occur as they help members move to sophisticated e-commerce platforms. Our members now use a single e-commerce exchange—what we call Marketplace@Novation—to access purchasing data in real time and to access analytical tools to evaluate supply chain spending.

"We see our exchange becoming the central point of information exchange between group members and their entire supply community. It will tie together the whole procurement process, beginning with the decision making leading up to initial purchase, tracking orders through the supply chain from warehouse to receiving dock, managing electronic invoicing and payment, and finally, providing reporting and analysis tools to more efficiently manage supply spending."


Consorta, Inc.
Shareholders as Equity Partners

Christopher Mantel, Senior Director, Contracting

at a glance

Annual Purchasing Volume
$3.6 billion (FY 04)

Annual Foodservice Volume
$225 million (FY 04)
$192 million (FY 03)
$160 million (FY 02)

No. of Participating Facilities:
491 acute care
225 extended care
1800 non-acute sites

Based in Schaumburg, IL, Consorta Inc., was formed by the 1998 merger of two groups—CMMA (Catholic Materials Management Association) and DHS (Sisters of the Sorrowful Mother Diversified Health Services). It is structured as a cooperative, with 13 shareholder organizations that together operate more than half of all Catholic hospitals in the U.S. Chris Mantel is senior director, contracting, with responsibility for several of the group's procurement specialties, including foodservice.

Consorta's members. "Our typical member is a U.S. Catholic institution.About 80 percent of our purchases are from the acute care side but we are seeing an enormous shift in the market toward long-term care.A few Catholic schools participate, but we do not have any colleges and universities. To be a shareholder, you must be a healthcare system with at least 1500 beds or $500 million in gross patient revenue; more importantly, you have to be willing to commit and to participate. If you want to shop around, Consorta is not for you.We've had a lot of growth in the social service market— our board sees such activities as aligned with its mission. For example, we just signed the National Human Services Assembly, which includes dozens of major, national nonprofits in the field."

On outsourcing. "Perhaps 18 percent of our members outsource their foodservices to management companies—the decision is site specific. If an operation is contracted, it must decide to use either the Consorta purchasing program or the contractor's program—it can't use both."

On compliance. "Our business charter stipulates that members participate only in the Consorta program.We believe that is an advantage to suppliers and a means of leverage in negotiations. To be successful as a GPO, you have to deliver the commitment of members—that is why some ' virtual' GPO models do not have long-term viability. It is not a mattter of saying 'our members represent this much potential purchasing power.' It is looking at the number of and size of the actual transactions in your compliance reports.

"Our members are required to purchase at least 80 percent of their foodservice volume through our program. We have about 220 vendor agreements that cover the top 80 percent of our foodservice volume.

"The questions for many GPOs may be—is compliance sustainable? Will all your members stay with you given your process? We think there will be additional shifts in membership based on the whole package a GPO offers, including issues like ethical standards, the transparency of its organization, adherance to government policies, its operating philosophy and basic business model."

On sole vs dual-source contracts. "Consorta's distribution contract is based on the regional preferences of shareholders; they decided that the best model is multiple-sourced. Our experience has been that sole source distribution agreements are very difficult to manage and that dual source agreements have competition built in.

"Sysco is our national distributor, for those who want a single national agreement. But in most regions, our members also can source product through select independent distributors, including Gordon Foodservice, Shamrock, Food Services of America, Cash-Wa and others.

"In contrast, on the manufacturer side, we have a significant number of sole source agreements. Our owners believe they have the right to sole source product when that is appropriate and that approach delivers value. We probably have 220 contracts with foodservice manufacturers, and about 45 percent of these are sole source in terms of specific categories. "

The impact of IT."Sophisticated information management is critical to the success of our programs—it is no longer just a matter of tracking manufacturer rebates or providing consolidated reports to members.At one time it was common to employ third-party data aggregators, but for organizations like us, that era is drawing to a close with the much more sophisticated systems we have added at headquarters. Our members have extensive online access to their data and contracts as well as to online catalogs listing every product available to them via those contracts.

"Being able to analyze utilization, procurement and compliance data across our membership lets us manage the organization differently.We can deliver clearer, fact-based decisions to the supply chain and work with directors to show them how to take better advantage of our programs, and what the resulting impact will be on their bottom lines."

Long term trends. "There is more concern about the work environment, about improving workplace safety.We are becoming more involved in helping members address HR and labor issues via negotiated contracts with temp agencies, job posting services and so on. We also see more interest among members in finding ways to make their operations environmentally friendly, using sustainable products and reducing packaging waste. Our food and nutrition committee is working on a policy that will address such issues as antibiotics in poultry, the environmental impact of manufacturing processes and appropriate business practices.These kinds of things are becoming more important in our business evaluations."

General philosophy."We do not have any program bundling and in negotiations,'best price' is the key initiative. Back end allowances are accepted, but they are not our preferred approach. Our rate of return to our shareholders is 75 cents on the dollar in terms of administrative fees, with 100 percent of marketing allowances returned to them. Some GPOs invest in insurance and other businesses, but we do not. Our primary business is group purchasing and our sole focus is on removing costs from our members' supply chain activities."

An Alternate GPO Model

Bridget May, Director, Food & Nutrition Services

at a glance

Annualized Purchasing Volume
$10 billion (FY 04, est.)

Annual Foodservice Volume
$250+ million (FY 04, est.)
$166 million (FY 03)

No. of Participating Organizations:
22,000 total (2,000 participate in foodservice)
2,200 acute care hospitals
18,000 alternate care sites

MedAssets is a newcomer to the GPO fold, formed between 2000 and 2002, when as a startup healthcare eprocurement company it purchased first InSource, a West Coast-based GPO, and then St. Louis-based Health Services Corp. of America (HSCA). It has grown rapidly since then, partly because of its lean overhead structure and also because of its somewhat different fee-for-service business model.We asked Bridget May, director of food and nutrition services, to explore some of those differences.

Membership."Our members vary from academic hospitals to small community hospitals, from large retirement centers to small nursing homes.We are almost exclusively in healthcare , although we do have a few correctional facilities as members. Acute care is responsible for about 50 percent of our volume, long term care 30 percent, and the rest miscellaneous types of facilities, like surgery centers and rehab facilities."

Managing revenue as well as costs. "In its basic form a GPO aggregates purchasing power to achieve better pricing for members.We go beyond that model in that while we try to help members improve supply chain costs, we also help them improve the revenue side.We strive to offer a total supply chain and revenue cycle solution from one business partner. Our conversations with hospital executives are often focused on longer-term strategic goals—for example, helping them improve their cash flow on Medicare accounts, or standardize their charge description master so that it can more accurately reflect supply chain costs in real time."

Sourcing contracts. "Sysco is our prime supplier across the country, although we have a few regional players—USF/Allen Foods in St, Louis, FSA in the Northwest, HFM and VIP in Hawaii. Our distribution-contract requires members to purchase at least 85 percent of their volume from the prime distributor.We look to the local distributor to monitor compliance with the program. If a distributor believes a category is not being purchased and the member is not meeting the target, we will investigate the deviation and seek to get it reconciled.

"As a practice, we try to avoid sole source contracts and most of our contracts with manufacturers are multi-source. Some of the large IDNs look for custom contracts that are sole source, and we will structure a program for those needs. It is their decision. When we do, we also customize a local compliance catalog that reflects the unique local agreements those IDNs have.

"We also have a committed manufacturer program called Food and Nutrition SELECT that offers members further discounts if they commit to exclusive category usage with suppliers at a 90 percent compliance level.This is a matter of member choice, but if they choose this program, they have to standardize to gain the program advantage and get the best price on high volume food and nutrition items.

Electronic catalogs. "When MedAssets purchased HSCA, we saw it as a diamond in the rough. It had some pretty sophisticated technology and a lot of our innovation in that area is based on what HSCA laid the groundwork for. Electronic catalogs are a good example.A facility can use our web portal to look up any of the items we have under contract and also use it to set its tier in terms of distribution margins, applying the contract price and distribution costs for a true delivered cost."

Growth opportunities. "We see long term care as a growth opportunity and in most cases have structured our program so as not to distinguish between acute and long term care; we want to give long term care members the same advantages acute care has. We offer specialized products for senior nutrition, Meals on Wheels and congregate feeding programs and look to help those kinds of members address program guidelines and other issues so they qualify for federal funding. We are the only GPO that has been endorsed by the Meals on Wheels program."

Looking ahead. "Procurement is changing in foodservice. Customer want more of the savings on the front end and the days of the back-end rebate approach are ending. The willingness of facilities to standardize products has increased considerably—they have come to understand that by committing to particular manufacturers they can drive more costs out of the system. Financial controls are tighter today than ever before.

"At the same time, members are demanding more customization of their programs.They are also looking to manufacturers and distributors for more help in generating revenue: branding opportunities, marketing, strategies to increase traffic on the retail side of the business and to support innovations like room service on the patient side."


Facilitating Buyer and Seller Partnerships

Dean Hansen, Senior VP, Foodservice

at a glance

Annual Purchasing Volume
$1.2 billion (FY 04)

Annual Foodservice Volume
$725 million (FY 04)
$675 million (FY 03)
$590 million (FY 02)

No. of Participating Facilities:
5500 long term care
116 CURB members
25,000 hospitality accounts

HPSI was started in Southern California in the early 1960s as the National Purchasing Corporation, focusing on acute care, but by the early 70s was specializng in long term care.As it picked up the endorsement of many state healthcare associations, it moved first into Kentucky and Florida and now operates in almost every state except Maine, New York and Massachusetts. Dean Hansen is HPSI's senior vice president, foodservice, and we spoke to him about the changing nature of HPSI's business model.

Membership."Our typical member is an independently owned and operated long-term care facility; they are both for profit and not-for profit and range from 50 beds to 500 beds. Multi-units make up 55 percent of our nursing home membership and we've had steady growth in the segment: 15 years ago we had 1200 members; three years ago we had about 4000; today we have 5500. Today, our growth objectives are focused more on penetrating these accounts than on the number of members.We also manage a hospitality division as well as the CURB program for colleges/universities."

HPSI's structure." We are a privately-owned, family business. Members pay a monthly fee to participate based on bed population or one that's negotiated with a state association.Allowance revenue is passed directly back to members, although sometimes, as with CURB, we keep a percentage in lieu of a fee. Food is 60 percent of our total sales.

"We have a field network of 50 managers and dietitians who provide customized menu, HACCP and nutritional support to members.We also have a direct sales force and may be the only GPO with one. Manufacturers look to us for target marketing, to help them introduce new, healthcare-specific products, and our sales force offers them a real advantage."

Supplier relationships."We do 80 percent of our business with Sysco and probably use a half dozen other distributors on a regional basis. Traditionally, our programs were based on allowances claimed after the sale, but for the last two years we've moved toward programs with deviated pricing. In the past, we had dual source agreements with most manufacturer partners, although never more than two are approved for a category.Today we offer more committed programs; 30 suppliers now are sole source with us. It is a big philosophy change but it was necessary for us to be competitive."

The nature of the extended care market. The nursing home industry is heavily regulated. One result is that we have to be very careful about how money is accounted for, but regulations can also affect everything from the diets of residents with wounds to packaging. It is also an industry that is much more fragmented than acute care, and a much harder market in which to drive compliance. Programs can be structured to encourage compliance but are difficult to structure to require it. It is a real concern for manufacturers.

On value-added services. "There is a misperception that GPOs are just there to help members obtain lower prices. We bring a lot more than just price. We are a total purchasing service and look to offer management tools and customized programs to help members reach their own objectives, whether it's improving a housekeeping program or driving resident satisfaction."

On the CURB program."We were one of several organizations approached by CURB seven years ago to bid on developing a purchasing program for self-operated college dining departments. They wanted to demonstrate to their administrations that they were maxmizing their buying power. The members did not want distributor contracts negotiated, which is why the program was structured around back-end marketing allowances. CURB members can take part in any of our other contracts on a voluntary basis, whether they are distributor contracts, office supply contracts or whatever with no additional fee.

"After we won the CURB award, we approached our partners looking for those who wanted to participate—we did not simply extend programs that had been developed for healthcare. On thing we found was that even though we thought we knew the college foodservice business, there was a lot to learn. In many cases it uses products that are quite different than those used in other segments.

"There is a misconception that one can participate in another group's program and also take advantage of CURB's program; in fact, our participating manufacturers will not provide allowances on products purchased under another group's deviated pricing program—they see it as double dipping.Also, the technology used by distributors to report program affiliation to manufacturers will typically allow for only one affiliation, so there are practical reasons you can't combine more than one program effectively."

On the move into other foodservice segments. "We've always looked at other classes of trade as a way to expand our business.We began our hospitality division in 1989 to bring better pricing to independent restaurant operators, hotels and public schools, and today have about 2000 facilities participating in it. It is structured separately from our healthcare program. Our philosophy has always been that if we entered another class of trade, we would do so by collaborating with those manufacturer partners of ours who wished to participate. Some have always opted out, and others have wanted to structure the contracts differently. "As long as we as GPOs were all in our own sandboxes, there weren't many problems. But the movement of groups into other segments has created channel and distribution conflicts that are very difficult to resolve.The potential exists to alienate both manufacturers and operators. Philosophically, we see our role as an organization that facilitates partnerships between buyers and sellers—both have to buy in to the programs we negotiate."


GPOS: Under the Regulatory Microscope

Regulatory authorities have always scrutinized GPOs with an eye on both the benefits they bring members and the antitrust implications of their business models. For example, Congress specifically amended the Social Security Act in 1986 with so-called Medicare "safe harbor" provisions to allow for the administrative fees collected from vendors, which might otherwise violate anti-kickback legislation. At the same time, the Federal Trade Commission has issued guidelines that define tests GPOs should meet to not raise antitrust questions.

Recently, Congress has taken a firmer stand on GPO contract practices. In particular, it has investigated the complaints of smaller device manufacturers that some GPO contract terms discourage innovation and are being manipulated by larger vendors to lock out supply chain rivals. Other questionable practices were highlighted in a controversial series of articles titled "Medicine's Middlemen" that appeared in The NewYorkTimes in 2001.A number of probes are ongoing, ranging from investigations by the U.S. Senate and the Department of Justice to some at the state level. Most notably, the Senate Judiciary Committee's Antitrust, Competition and Business and Consumer Rights Subcommittee, has looked into these issues with a series of high-visibility hearings to highlight them.

As a result, both Premier and Novation, the industry's two largest GPOs, agreed to make major changes in their business practices and, given a 90-day deadline by Kohl and DeWine, in 2002 developed voluntary Codes of Conduct that addressed the most significant questions raised in the hearings. Other GPOs were quick to follow, as did HIGPA (the GPO industry's trade group).

Some key responses have been to unbundle medical-surgical contract requirements, to reduce the length of longer-term contracts and to implement other program changes that encourage adoption of new technology-based products.The

groups have also made efforts of varying degrees to make their funding structures more transparent to their members and the public.

Meanwhile, the Subcommittee is concerned that while much voluntary progress has been made, legislation may be needed to institutionalize the reforms. In September, it floated a proposed "Medical Device Competition Act" which would make oversight of GPOs a responsibility of the Health and Human Services Department; it would also amend the Social Security Act to more strictly control their business practices.The proposal has since been aggressively contested by the industry, which opposes any further regulation.

So far, most scrutiny has been reserved for practices that involve so-called "physician preference" items and ignored categories like food and other supplies.At the same time, any regulations to address issues like bundling, sole-source contracts and similar areas could well have implications for the GPOs' food and nutrition divisions.

"For the foodservice professional it is a much different situation that it is for a cardiac specialist," says Bud Bowen, CEO of Amerinet."The regulators do not have the same level of concern as in the medical device marketplace, where they are worried about practices that may stifle the development of new products and other innovations."

"I think the committee will probably back off in terms of limiting sole source contracts.There are some situations where in our view it is a very appropriate strategy and market dynamics almost dictate it if you want to manage costs effectively."

All this scrutiny has had a positive effect on the industry, concludes Novation's Skodack,

"It has caused hospitals to seriously review their GPO relationships and the value GPOs provide," she says."It has encouraged us to create new ways manufacturers can share product innovation information with our members, irrespective of whether or not they hold a Novation contract."


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