Dilemma of China's GPO Model and the Way Out

BEIJING, April 2, 2018 /PRNewswire/ -- Hospital GPO procurement model, pioneered by CR Phoenix (HK.1515) in China, was pushed back into spotlight with the Decision on Suspending the Investigation in Anti-trust Cases by the Shanghai Trade and Commerce Bureau.

GPO, i.e., group purchasing organizations, refers to the practice of hospitals and other healthcare organizations that optimize procurement cost via central procurement of drugs, disposables, and medical equipment through procurement organizations. The GPO model effectively saved procurement costs for in-network hospitals, but encountered a "glitch" upon entering China. Firstly, the establishment and operation of GPO organizations in China are monopolized by the government as an additional attempt of central procurement platforms. Therefore, they do not really engage in market competition, resulting in hospitals and upstream suppliers lacking discretional option. Secondly, and more importantly, existing GPO organizations have failed to identify their non-profit properties and business positioning. At the same time, the attribution or ownership of procurement cost savings by GPO remains ambiguous, even becoming the tool of some companies to "benefit" from hospital procurement.

Successful Application of the GPO Model in the US

The GPO model emerged in procurement activities of US private hospitals in the beginning of the 20th century. Through open and transparent market competition, hospitals conduct central procurements through agencies like GPO, saving procurement cost. As of now, over 95% of the US hospitals use GPO to help lower their procurement costs. Any hospital is at least member to more than two GPO organizations.

Judging by operation results, GPO achieves procurement cost savings by 10-15% p.a. for healthcare organizations across America, which roughly equals USD35 billion in procurement costs, playing an indispensable role in preventing US healthcare costs from rising too fast. Moreover, GPO increases hospitals' operating efficiency through corporate standardized procurement, benefiting hospital patients and laying down the groundwork for long-term development of hospitals.

In the US, GPO organizations are generally non-profit organizations, which in essence are procurement services providers.

In terms of its business model, GPO organizations have the following main income sources: a) Fixed membership fee from buyers (hospitals and other healthcare organizations); b) Contract management fee (the most important income source) from upstream producers or distributors at a certain percentage of contract price (no more than 3% typically). GPO organizations' main spending includes daily operation management cost and labor cost. GPO organizations' income serves to compensate costs. GPOs usually have a small balance upon deducting costs from their income and any surplus is returned to its member hospitals.

It is evident that GPO organizations do not take part in procurement activities as party to drug and disposable transactions to pocket the mark-up. As a non-profit organization, US GPO organizations do not seek to maximize their own interests, but rather help their member hospitals minimize procurement cost. They also seek to maximize the interest of their member hospitals. This fundamentally differs from some GPO organizations in China.

GPO Model in China

One of the focuses of the new round of medical reform that commenced in 2016 is to introduce multi-city pilots of the GPO model with the aim of resolving problems such as exorbitant hospital procurement costs and high healthcare costs. So far, three key models have emerged: the non-profit GPO model represented by Shanghai, the GPO service procurement model represented by Shenzhen, and the for-profit GPO model represented by CR Phoenix.

1) Shanghai GPO

Shanghai GPO is a new procurement attempt at medicine procurement made by Shanghai since bulk procurement of medical insurance. Its GPO organization is Shanghai Healthcare & Hygiene Services Center, a third-party non-profit organization under the guidance of Shanghai Medical Reform Office.

Shanghai GPO follows the list of medicines that have won the former provincial bids. It requires producers to submit their GPO clearing price (lower than bid price and announced in the winner catalog) and the supply chain cost split they are willing to shoulder. GPO medicine catalog is generated by experts voting. The actual medicine transactions still take place by producers, distributors, and healthcare organizations on the Shanghai sunshine procurement platform. GPO organizations do not directly take part in trading drugs and disposables.

2) Shenzhen GPO

In the beginning of 2016, Shenzhen Quanyao Network Pharmaceutical Co., Ltd., subsidiary of the state-owned Shenzhen Neptunus Group, successfully pushed Shenzhen public healthcare organizations' medicine procurement under the GPO model by promising "total medicine cost to be lower than the total cost of buying medicines of the same amount and specification from Guangdong province's platform in 2015 by more than 30%". As the sole GPO organization appointed by Shenzhen, the Quanyao Network operates in tandem with Guangdong provincial medicine tender collective procurement platform.

In addition to controlling medicine costs, the main difference between Shenzhen GPO and Shanghai GPO is that the former has the GSP certificate. It directly deals with medicine distributors and hospitals on internet-based medicine supply platforms and charges a certain service fee.

3) For-profit GPO

Private hospital groups represented by CR Phoenix Healthcare Group generate operating profits from the trade price difference of medicine and disposables by controlling hospital procurement via for-profit GPOs. This has become the main channel for obtaining returns from non-profit hospitals. (CR Phoenix's 2016 Annual Report shows that business branch income based on GPO stood at RMB 1.011 billion, accounting for two-third of its total income. Meanwhile, GPO growth margin was as high as 21.7%. However, the profit growth generated by GPOs mainly relies on expanding the size of hospitals under its management.)

Being the earliest to benefit from hospital supply chain, CR Phoenix GPO organization is mainly Beijing Jiayi Medical Equipment Limited, the wholly owned subsidiary of CR Phoenix, and Beijing Wanrong Yikang Medicine Limited. Jiayi and Wanrong buy in medicine and disposables from upstream vendors at a low price, before selling to hospitals and clinics under their management at the tender price or maximum price set by local governments. The difference between selling price and buying price is the GPO's profit!

This model has a fundamental distinction from the government-led GPO model in Shanghai and Shenzhen. Converting hospital procurement cost savings into corporate profit through for-profit GPOs has not in effect lowered hospitals' procurement price or saved hospitals' procurement costs.

So, which of the three models is better and more aligned with China's circumstances?

Resolving the Dilemma of GPO Model Development

The author opines that the root cause behind the chaotic GPO model phenomenon in China is the lack of clear positioning of GPO organizations as being non-profit and commercial in nature. GPO organizations led by the government or private hospital groups are unable to increase procurement efficiency through market-oriented competition, resulting in its failure to achieve the fundamental purpose of "fee control".

Judging by the three GPO business models and interest ownerships, the Shanghai GPO model is the closest to that in the US. Its GPO organization does not pursue profits and acts as an agency platform with social service functions. Separately, the Shenzhen GPO model charges a certain service price difference from all buying parties on the basis of offering a central procurement service. Meanwhile, the For-Profit GPO model is completely different. It extracts hospitals' procurement cost savings in the form of procurement price difference and use as GPO organizations' profit.

It should be pointed out that the "original intent" of setting up the GPO model was to control costs for hospitals. To improve the development of the GPO model in China, GPO organizations should first be allowed to return to the original intent of their foundation, i.e. to be not for profit! The key value of GPO's existence is to save hospitals' procurement cost and ultimately benefit the patients. Thus, the procurement cost savings by GPOs should belong to the hospital rather than GPO organizations. In addition, GPO organizations cannot directly take part in the selling of medicine and disposables, but rather should serve as the agency service provider that broker deals between hospitals and upstream vendors, and receives an agency service fee as compensation. At the same time, if GPO organizations have a positive operating balance, it should be returned to its member hospitals in full. GPO should not become a new link in the distribution of medicine. Therefore, the Shanghai non-profit GPO model should be heavily promoted to avoid GPO organizations getting directly involved in the transactions to make a profit. Meanwhile, For-Profit GPO models represented by CR Phoenix contradict with the policy direction of medical reform in reducing distribution links and healthcare cost. This model has turned GPOs into an avenue for getting for-profit returns from nonprofit hospitals. Thus, such a model should be eradicated without hesitation.

Moreover, the GPO market should be opened up entirely to allow fair competition by relevant GPO organizations. For hospitals, GPO organization should be a market that fosters full competition. Qualified GPOs should be enabled to decide for or against competing while hospitals should have full discretion to choose from more than two GPO organizations. The Shanghai and Shenzhen models are generally hosted by the government and are somewhat administrative, which does not help in promoting fair competition between the GPO organizations. Meanwhile, For-Profit GPO model is appointed by hospital founders, where fair competition is more of a pipe dream. Therein, even the founders themselves could be suspected of raking in dividends in disguise.

Lastly, legislation should be improved to clearly define the relationship between GPO organizations and the "two-ticket system", institutionalizing it as a legal system through a relatively mature practical experience. In addition, the cons of for-profit GPO models should be made clearer and any act of benefiting from GPOs should be strongly prohibited. It should also be seen that the GPO models do a great deal in the policy direction of cost control under medical reform. However, the for-profit GPO model represented by CR Phoenix has turned GPOs into a vehicle of benefiting from non-profit hospitals, merely talking the GPO talk and not walking the walk. This does not help hospitals lower operating cost, nor is it beneficial to patients. Even worse, the for-profit GPO model has become means of profit movement by non-profit hospitals. It does not only contradict with the non-profit quality of GPOs, but there is suspicion that non-profit hospitals seek illicit dividends. What is still worse is that a host of public hospitals placed in escrow by CR Phoenix adopted the GPO model to convert into company profits the profit and operating balance that ought to belong to public hospitals. They compromised the foundation of their establishment and caused losses to state-owned assets. This has significantly affected the hospital's primary function of benefiting the masses. Thus, it is neither reasonable nor aligned with the overall policy orientation of medical reform.

The regulators should address the harms that for-profit GPO models will bring to the healthcare industry and take solid measures to rectify any illegal behaviors.

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