Coalition for Common Sense in Government Procurement v. Secretary of Veterans Affairs , 464 F.3d 1306 ( 2006 )

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United States Court of Appeals for the Federal Circuit
05-7130
THE COALITION FOR COMMON SENSE IN GOVERNMENT PROCUREMENT,
(doing business as The Coalition for Government Procurement),
Petitioner,
v.
SECRETARY OF VETERANS AFFAIRS,
Respondent.
Donna Lee Yesner, McKenna Long & Aldridge LLP, of Washington, DC, argued
for petitioner. With her on the brief were Joanne L. Zimolzak and Jeniffer M. De Jesus.
Kyle Chadwick, Trial Attorney, Commercial Litigation Branch, Civil Division,
United States Department of Justice, of Washington, DC, argued for respondent. With
him on the brief were Peter D. Keisler, Assistant Attorney General and David M. Cohen,
Director. Of counsel on the brief were Melbourne A. Noel, Jr., Senior Contracts
Attorney, Office of General Counsel, United States Department of Veterans Affairs, of
Hines, Illinois; John A. Casciotti, Associate Deputy General Counsel, Office of General
Counsel, United States Department of Defense, of Washington, DC; and Gerald A.
Wesley, Associate General Counsel, Defense Legal Services Agency, United States
Department of Defense, of Aurora, Colorado.
Appealed from: United States Department of Veterans Affairs
United States Court of Appeals for the Federal Circuit
05-7130
THE COALITION FOR COMMON SENSE IN GOVERNMENT PROCUREMENT,
(doing business as The Coalition for Government Procurement),
Petitioner,
v.
SECRETARY OF VETERANS AFFAIRS,
Respondent.
____________________________
DECIDED: September 11, 2006
____________________________
Before RADER, SCHALL, and LINN, Circuit Judges.
SCHALL, Circuit Judge.
Pursuant to 38 U.S.C. § 502, the Coalition for Common Sense in Government
Procurement (“Coalition”) petitions for review of the October 14, 2004 letter (“the Dear
Manufacturer letter”) of the Department of Veterans Affairs (“VA”).1 The Coalition is a
multi-industry association representing over 300 companies, including pharmaceutical
1
Section 502 gives us the authority to directly review the validity of the VA’s
regulations and the VA’s rulemaking process. Paralyzed Veterans of Am. v. Sec’y of
Veterans Affairs, 345 F.3d 1334, 1339 (Fed. Cir. 2003).
companies, which provide products and services that are procured by the federal
government. The Dear Manufacturer letter requires manufacturers of drugs covered by
the health care benefits program of the Department of Defense (“DOD”) to refund to
DOD the difference between the drugs’ wholesale commercial price and their federal
ceiling prices.
For the reasons set forth below, we hold that the Dear Manufacturer letter
comprises a substantive rule,2 as defined in 5 U.S.C. § 551(4), and that the VA did not
comply with the procedural requirements for substantive rulemaking set forth in the
Administrative Procedure Act (“APA”), ch. 324, 60 Stat. 237 (codified as amended at 5
U.S.C. § 551 et seq. (2000)), before issuing the letter. We therefore grant the
Coalition’s petition for review, set aside the Dear Manufacturer letter, and remand the
matter to the VA for compliance with the procedures required by the APA.
BACKGROUND
I.
By way of background, we begin with a discussion of DOD’s health care benefits
program and the Veterans Health Care Act of 1992 (“VHCA”), Pub. L. 102-585, 106
Stat. 4943 (codified as amended at 10 U.S.C. § 1074 and scattered sections of 38
U.S.C.), which applies to the program and which is administered by the VA.
DOD provides a health care benefits program called TRICARE to active duty
service members, retired service members, and their dependents. 60 Fed. Reg. 52078,
52078 (Oct. 5, 1995). TRICARE is administered by the TRICARE Management Activity
2
Substantive rules are also known as legislative rules. Nat’l Org. of
Veterans’ Advocates, Inc. v. Sec’y of Veterans Affairs, 260 F.3d 1365, 1374 (Fed. Cir.
2001).
05-7130 2
(“TMA”) within DOD. See PGBA, L.L.C. v. United States, 389 F.3d 1219, 1221 (Fed.
Cir. 2004) (summarizing the TRICARE program).
The present action concerns just one aspect of TRICARE, the current TRICARE
Pharmacy Benefits Program, which was put in place on May 3, 2004. See 69 Fed. Reg.
17035, 17035 (April 1, 2004) (noting that the final rule would become effective May 3,
2004). Like the pre-May 2004 TRICARE Pharmacy Benefits Program, the current
TRICARE Pharmacy Benefits Program covers at least a portion of a beneficiary’s cost
of prescription drugs when the beneficiary acquires the drugs from one of four sources:
a Military Treatment Facility (“MTF”); a network retail pharmacy; a non-network retail
pharmacy; or the TRICARE Mail Order Pharmacy (“TMOP”).3 32 C.F.R. § 199.21(h)(1)
(2006). Under 32 C.F.R. § 199.21(i), the amount of cost-sharing between beneficiaries
and DOD varies depending on the source of the prescription drugs obtained.
Beneficiaries have no co-payment when they obtain drugs from an MTF. Id.§ 199.21(i)(2)(i). However, beneficiaries must pay a co-payment when they obtain
drugs from a retail pharmacy, id. § 199.21(i)(2)(ii), although the co-payment is smaller
when a beneficiary purchases drugs at a network pharmacy rather than at a non-
network pharmacy. Compare id. with id. § 199.21(i)(2)(iii). Similar to the pharmacy
benefits program, when drugs are purchased through TMOP, beneficiaries pay a co-
payment to the TMOP distributor. Id. § 199.21(i)(2)(v).
3
MTFs are traditional “brick and mortar” medical facilities operated by the
military. Network pharmacies are those commercial pharmacies that have entered
agreements with DOD to charge beneficiaries a set price for drugs. Non-network
pharmacies are those commercial pharmacies that have not entered such agreements.
TMOP allows beneficiaries to order and receive prescriptions by mail from a TRICARE
contractor
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However, unlike the pre-May 2004 version of the TRICARE Pharmacy Benefits
Program, the current program utilizes a Pharmacy Benefits Manager (“PBM”). The
PBM is responsible for overseeing the distribution and payment for prescription drugs
throughout the retail pharmacy network. When a TRICARE beneficiary purchases
covered drugs at a network retail pharmacy, the pharmacy transmits data concerning
the beneficiary to the PBM. The PBM then relays this beneficiary information to DOD
and requests authorization to pay DOD’s portion of the cost-share for the drugs to the
network pharmacy. After receiving this information, DOD’s Pharmacy Benefits Office
checks beneficiary eligibility and potential drug interactions. DOD then authorizes the
PBM to approve the transaction, accept the beneficiary’s co-pay, and pay the pharmacy
the difference between the beneficiary’s co-pay and the retail price of the drugs. Most
of this information exchange between the network pharmacy and the PBM occurs in
“real time” before the beneficiary’s prescription is filled. However, DOD’s payment to
the pharmacy only occurs after a ten-day hold period. Notably, the PBM does not
provide these services for non-network retail pharmacies.
II.
The Dear Manufacturer letter concerns the application of the VHCA to the
TRICARE Pharmacy Benefits Program. The VHCA was enacted in 1992 to reduce the
cost of prescription drugs used in the VA health care benefits programs. As seen, the
VHCA is codified at scattered sections of Title 38. The VHCA includes 38 U.S.C.
§ 8126, which provides in relevant part:
(a) Each manufacturer of covered drugs shall enter into a
master agreement with the Secretary [of the VA] under
which—
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(1) beginning January 1, 1993, the manufacturer shall make
available for procurement on the Federal Supply Schedule of
the General Services Administration each covered drug of
the manufacturer;
(2) with respect to each covered drug of the manufacturer
procured by a Federal agency described in subsection (b) on
or after January 1, 1993, that is purchased under depot
contracting systems or listed on the Federal Supply
Schedule, the manufacturer has entered into and has in
effect a pharmaceutical pricing agreement with the Secretary
. . . under which the price charged during the one-year
period beginning on the date on which the agreement takes
effect may not exceed 76 percent of the non-Federal
average manufacturer price (less the amount of any
additional discount required under subsection (c)) during the
one-year period ending one month before such date (or, in
the case of a covered drug for which sufficient data for
determining the non-Federal average manufacturer price
during such period are not available, during such period as
the Secretary considers appropriate), except that such price
may nominally exceed such amount if found by the
Secretary to be in the best interests of the Department or
such Federal agencies[.]
Thus, section 8126(a) limits the price that manufacturers of “covered drugs” may charge
for drugs “procured by a Federal agency.” Section 8126(b)(2) lists DOD as a “Federal
agency” to which section 8126(a) applies. Accordingly, section 8126(a) requires that
manufacturers charge DOD a percentage of the non-federal average manufacturer price
(“non-FAMP”) for “covered drugs.”4 This price limit is also called the federal ceiling price
(“FCP”).
As seen, section 8126 limits “covered drugs” to those obtained through one of
two sources: the drugs must be (1) “listed on the Federal Supply Schedule” or (2)
“purchased under depot contracting systems.” The Federal Supply Schedule (“FSS”) of
4
The non-FAMP is defined as “the weighted average price of a single form
and dosage unit of the drug that is paid by wholesalers in the United States to the
manufacturer, taking into account any cash discounts or similar price reductions during
that period.” 38 U.S.C. § 8126(h)(5) (2000).
05-7130 5
the General Services Administration authorizes the VA to award and manage contracts
with pharmaceutical companies in order to obtain low prices. See 41 U.S.C.
§ 259(b)(3) (2000). The statute does not provide a definition of a “depot contracting
system.” However, section 8126(h)(3) defines the term “depot,” as used in “depot
contracting system” in section 8126(a), as follows:
The term “depot” means a centralized commodity
management system through which covered drugs procured
by an agency of the Federal Government are—
(A) received, stored, and delivered through—
(i) a federally owned and operated warehouse system, or
(ii) a commercial entity operating under contract with such
agency; or
(B) delivered directly from the commercial source to the
entity using such covered drugs.
Examination of procurement by MTFs and the TMOP illustrates the features of
direct procurement via listing on the FSS and procurement through a “depot contracting
system.” Under section 8126(a), FCP pricing is available for both MTFs and for the
TMOP because they operate either through direct procurement by VA facilities or a
prime vendor arrangement in which a merchant middleman distributes drugs to VA
facilities. Direct procurement from the FSS expressly falls under section 8126(a). FCP
pricing is available for the prime vendor arrangement because the prime vendor
arrangement falls under the definition of a “depot contracting system” in section 8126.
In contrast to MTFs and the TMOP, prior to May of 2004, DOD could not obtain drugs at
low FCP prices for its TRICARE Pharmacy Benefits Program because the program did
not utilize either direct procurement from the FSS or a “depot contracting system” as
required by section 8126.
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On October 10, 2002, a policy group composed of representatives of the various
interested components of the VA authored the “White Paper for the Office of the
Secretary Tricare and Federal Ceiling Prices” (“the White Paper”). The White Paper
described the history of the TRICARE Pharmacy Benefits Program and how DOD had
sought from its inception to obtain section 8126 coverage for TRICARE. The White
Paper noted, however, that the VA previously had found that the TRICARE Pharmacy
Benefits Program did not fall under section 8126. The paper then explained how DOD
responded by proposing that the TRICARE Pharmacy Benefits Program be restructured
to include a PBM. This proposed restructured TRICARE is referred to in the White
Paper as the “new” TRICARE Pharmacy Benefits Program even though it was not
implemented as of October of 2002. The White Paper concluded that “covered drugs
purchased in the form of DoD beneficiary prescriptions under the retail portion of the
new [TRICARE Pharmacy Benefits Program] do qualify for Federal Ceiling Prices
because, under the plan submitted to us, such purchases will be a procurement by DoD
under a depot contracting system as defined in 38 U.S.C. § 8126(h)(3).” DOD’s new
TRICARE Pharmacy Benefits Program was eventually implemented on May 3, 2004.
See Part I, supra (describing the “new” TRICARE Pharmacy Benefits Program as
implemented May 3, 2004). In other words, as of May 3, 2004, the retail pharmacy
portion of DOD’s TRICARE Pharmacy Benefits Program was deemed to be subject to
the price limits of the VHCA.
III.
On October 14, 2004, the VA issued the Dear Manufacturer letter, which is the
subject of the present dispute. The letter was authored by the Acting Director of the VA
05-7130 7
National Acquisition Center. The Dear Manufacturer letter is addressed to
manufacturers of covered drugs and states that 38 U.S.C. § 8126 applies to the
TRICARE Pharmacy Benefits Program as it was restructured effective May 3, 2004.
The letter explains that the VA had considered in October of 2002 whether DOD’s
restructured TRICARE Pharmacy Benefits Program met the definition of a “depot
contracting system” under section 8126. The Dear Manufacturer letter makes no
mention of the White Paper, which was written on October 10, 2002, but states instead
that the Secretary of the VA (“Secretary”) had determined on October 24, 2002 that the
restructured TRICARE Pharmacy Benefits Program would fall under the statute. Based
on the Secretary’s 2002 determination, the letter reasons that DOD is entitled to the
benefits of the lowered FCP prices established under section 8126. The letter states
that although TMA was entitled to refunds as of June 1, 2004, no refunds would be
demanded until after September 30, 2004. The Dear Manufacturer letter also asserts
that the Secretary has the authority to determine whether DOD had established a “depot
contracting system” within the meaning of 38 U.S.C. § 8126(a). Because the Secretary
exercised that authority by finding that the TRICARE Pharmacy Benefits Program was a
“depot contracting system,” the letter states that DOD is entitled to FCPs for “covered
drugs” distributed through network pharmacies. The letter asserts, “No published notice
or rulemaking is required to make effective the policy and requirements already
established by statute and written agreements.”
In addition to stating that the TRICARE Pharmacy Benefits Program falls under
section 8126, the Dear Manufacturer letter provides detailed instructions as to how
manufacturers should pay the VA. The letter states:
05-7130 8
Because TMA’s retail pharmacy network covered
drug purchases will be made initially at commercial prices,
TMA will obtain Federal ceiling pricing for these purchases
by forwarding detailed purchase data to manufacturers each
month and then requesting refunds on a quarterly basis to
achieve Federal pricing.
The letter contains instructions for calculating refunds as well as FCPs under the new
system. To this effect, the letter references a website for information about transmitting
data and collecting refunds. Further, the VA attached six pages of sample calculations
to aid manufacturers in calculating FCPs.
The effect of the Dear Manufacturer letter is to require that manufacturers
calculate and pay refunds for covered drugs purchased at network pharmacies.
Manufacturers are also required to adjust their sales data for the purposes of calculating
non-FAMPs. Although the Dear Manufacturer letter states that TMA would begin
demanding refunds as of September 30, 2004, the VA has agreed to stay enforcement
pending judicial review. However, in its agreement to stay enforcement, the VA
explicitly states that it does not purport to speak on behalf of DOD. As noted, the
Coalition has petitioned us for review of the Dear Manufacturer letter.
DISCUSSION
I.
As noted above, the Coalition cites 38 U.S.C. § 502 as the basis for our
jurisdiction to review the Dear Manufacturer letter. Section 502 provides in relevant part
as follows:
An action of the Secretary to which section 552(a)(1)
or 553 of title 5 (or both) refers (other than an action relating
to the adoption or revision of the schedule of ratings for
disabilities adopted under section 1155 of this title) is subject
to judicial review. Such review shall be in accordance with
05-7130 9
chapter 7 of title 5 and may be sought only in the United
States Court of Appeals for the Federal Circuit.
Thus, section 502 gives us exclusive jurisdiction over “[a]n action of the Secretary [of
Veterans Affairs] to which section 552(a)(1) or 553 of title 5 (or both) refers . . . .” 38
U.S.C. § 502 (2000).
Sections § 552(a)(1) and 553 are part of the APA. Both section 552(a)(1) and
section 553 govern procedures for agency rulemaking. Section 552(a)(1) provides in
relevant part as follows:
(a) Each agency shall make available to the public
information as follows:
(1) Each agency shall separately state and currently publish
in the Federal Register for the guidance of the public—
***
(D) substantive rules of general applicability adopted as
authorized by law, and statements of general policy or
interpretations of general applicability formulated and
adopted by the agency; and
(E) each amendment, revision, or repeal of the foregoing.
Section 553 sets forth guidance as to when notice and comment procedures are
required and specific procedures for conducting notice and comment rule making.
Section 553 provides in relevant part as follows:
(b) General notice of proposed rule making shall be
published in the Federal Register, unless persons subject
thereto are named and either personally served or otherwise
have actual notice thereof in accordance with law. The
notice shall include—
(1) a statement of the time, place, and nature of public rule
making proceedings;
(2) reference to the legal authority under which the rule is
proposed; and
(3) either the terms or substance of the proposed rule or a
description of the subjects and issues involved.
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Except when notice or hearing is required by statute, this
subsection does not apply—
(A) to interpretative rules, general statements of policy, or
rules of agency organization, procedure, or practice; or
(B) when the agency for good cause finds (and incorporates
the finding and a brief statement of reasons therefor in the
rules issued) that notice and public procedure thereon are
impracticable, unnecessary, or contrary to the public interest.
(c) After notice required by this section, the agency shall give
interested persons an opportunity to participate in the rule
making through submission of written data, views, or
arguments with or without opportunity for oral presentation.
After consideration of the relevant matter presented, the
agency shall incorporate in the rules adopted a concise
general statement of their basis and purpose. When rules
are required by statute to be made on the record after
opportunity for an agency hearing, sections 556 and 557 of
this title apply instead of this subsection.
(d) The required publication or service of a substantive rule
shall be made not less than 30 days before its effective date,
except—
(1) a substantive rule which grants or recognizes an
exemption or relieves a restriction;
(2) interpretative rules and statements of policy; or
(3) as otherwise provided by the agency for good cause
found and published with the rule.
(e) Each agency shall give an interested person the right to
petition for the issuance, amendment, or repeal of a rule.
Both sections 552(a)(1) and 553 require that specific procedures be followed with
regard to substantive rules. In contrast, neither section 552(a)(1) nor section 553 refers
to “orders.” Because section 502 only gives us jurisdiction to review agency actions to
which sections 552(a)(1) or 553 refer, we therefore lack jurisdiction to review orders
under section 502. In contrast, we have jurisdiction to review rules because both
sections 552(a)(1) and 553 refer to an agency rule. This jurisdiction extends to both
substantive rules, to which both sections 552(a)(1) and 553 apply, e.g., LeFevre v.
Sec’y, Dep’t of Veterans Affairs, 66 F.3d 1191, 1196-98 (Fed. Cir. 1995) (evaluating the
merits of a challenge to a substantive rule), and interpretative rules, to which section
05-7130 11
552(a)(1) applies, e.g., Nat’l Org. of Veterans Advocates, 260 F.3d at 1376-77(exercising jurisdiction to evaluate the merits of a challenge to an interpretative rule).
Section 551 provides definitions of agency substantive “rules” and “orders” as
used in the APA. Section 551(4) states that a “rule” means
the whole or a part of an agency statement of general or
particular applicability and future effect designed to
implement, interpret, or prescribe law or policy or describing
the organization, procedure, or practice requirements of an
agency and includes the approval or prescription for the
future of rates, wages, corporate or financial structures or
reorganizations thereof, prices, facilities, appliances,
services or allowances therefor or of valuations, costs, or
accounting, or practices bearing on any of the foregoing[.]
An “order” is defined in section 551(6) as
the whole or a part of a final disposition, whether affirmative,
negative, injunctive, or declaratory in form, of an agency in a
matter other than rule making but including licensing[.]
In those cases where we have jurisdiction under section 502, we review the
merits of a petition for review under 5 U.S.C. § 502 according to the APA. Disabled Am.
Veterans v. Gober, 234 F.3d 682, 690 (Fed. Cir. 2000). Under the APA, we “decide all
relevant questions of law, interpret constitutional and statutory provisions, and
determine the meaning and applicability of the terms of an agency action.” 5 U.S.C.
§ 706 (2000). We will uphold an agency rule unless it is
(A) arbitrary, capricious, an abuse of discretion, or otherwise
not in accordance with law;
(B) contrary to constitutional right, power, privilege, or
immunity;
(C) in excess of statutory jurisdiction, authority, or limitations,
or short of statutory right;
(D) without observance of procedure required by law . . . .
Id.05-7130 12
II.
The Coalition argues that we have jurisdiction to review the Dear Manufacturer
letter under section 502 because it comprises a substantive rule to which sections
552(a)(1) and 553 refer. The Coalition asserts that the letter is a rule because it does
more than clarify the manufacturers’ existing obligations. Instead, the Coalition
contends, the letter reverses agency policy in that it (i) changes the VA’s position as to
whether the TRICARE Pharmacy Benefits Program is covered by the VHCA and (ii)
requires that manufacturers pay refunds. It therefore is substantive. The Coalition
argues that the VA recognized the Dear Manufacturer letter represents a reversal of
policy because it makes statements concerning the policy ramifications for affected
industries. The Coalition also contends that the agency action affected “individual rights
and obligations” by requiring affirmative actions from all manufacturers and is therefore
a substantive rule. Thus, the Coalition argues, the Dear Manufacturer is more than a
mere interpretative rule.
With respect to the content of the Dear Manufacturer letter, the Coalition
contends that the letter must be set aside on two grounds. First, the Coalition argues
that the letter is substantively invalid because it relies on erroneous constructions of
“procure,” “covered drug,” and “depot” as used in section 8126. Second, the Coalition
contends that the letter is procedurally defective because the government did not
comply with sections 552(a)(1) and 553 before issuing the letter, and therefore it must
be set aside.
The government characterizes the Dear Manufacturer letter as an order, which is
not referred to in 5 U.S.C. §§ 552(a)(1) or 553 and is therefore not reviewable under 38
05-7130 13
U.S.C. § 502. In support of this characterization, the government points out that, in its
opening brief, the Coalition frequently characterizes the Dear Manufacturer letter as an
order. The government also argues that the Dear Manufacturer letter does not actually
represent a decision to require refunds: In actuality, the Secretary decided in October of
2002 to require the refunds. The Dear Manufacturer letter merely implements that
decision or provides public notice of that decision.5
In the alternative, the government argues that even if the Dear Manufacturer
letter is a rule rather than an order, it is an interpretative rule for which no notice and
comment procedures are required. The letter is interpretative, the government urges,
because it merely interprets the VHCA. The government argues that the fact that the
letter is “binding” does not make it a substantive rule because interpretative rules are
binding interpretations of federal statutes. Thus, the government asserts that the
binding nature of a rule does not make it substantive. Even if the Dear Manufacturer
letter is a substantive rule, the government contends, we lack jurisdiction under section
502 because the statute only gives the Federal Circuit the authority to review the VA’s
actions and not DOD’s actions, which are at issue in the present case. According to the
government, this is because DOD is seeking refunds under the Dear Manufacturer letter
and, if notice and comment procedures were necessary, it would have been DOD’s
responsibility to promulgate regulations in the Code of Federal Regulations.
In the event that the case is not dismissed for lack of jurisdiction, the government
defends the Dear Manufacturer letter as being substantively valid. Thus, the
5
The government does not contend that the Dear Manufacturer letter
reflects an enforcement decision unreviewable under Heckler v. Chaney, 470 U.S. 821(1985).
05-7130 14
government defends the letter’s interpretation of the terms “procure,” “covered drug,”
and “depot” in section 8126.
III.
We first address whether the Coalition’s claim for pre-enforcement review of the
Dear Manufacturer letter is ripe for judicial review. It is appropriate for us to consider
ripeness even though it is not raised by the parties because ripeness is a jurisdictional
consideration that the court may address sua sponte. Nat’l Park Hospitality Ass’n v.
Dep’t of the Interior, 538 U.S. 803, 808 (2003) (“The ripeness doctrine is ‘drawn both
from Article III limitations on judicial power and from prudential reasons for refusing to
exercise jurisdiction,’ but, even in a case raising only prudential concerns, the question
of ripeness may be considered on a court’s own motion.” (quoting Reno v. Catholic Soc.
Servs., 509 U.S. 43, 58 (1993))).
Ripeness involves a two-part inquiry. First, we must determine whether the issue
is fit for judicial review. Abbott Labs. v. Gardner, 387 U.S. 136, 149 (1967); Nat’l Org. of
Veterans’ Advocates, Inc. v. Sec’y of Veterans Affairs, 330 F.3d 1345, 1346 (Fed. Cir.
2003). Second, we must consider whether withholding judicial review would work
hardship on the parties. Abbott Labs., 387 U.S. at 149.
Turning first to the question of fitness, we find that the issues presented by the
parties deal largely with legal issues of statutory construction, which we have previously
held fit for pre-enforcement judicial review. See Nat’l Org. of Veterans’ Advocates, 330
F.3d at 1347. Second, we find that hardship would be incurred by both parties if we
were to forego judicial review. The VA has agreed to stay enforcement of the Dear
Manufacturer letter pending judicial review. The government is losing out on hundreds
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of millions of dollars in refunds from manufacturers annually as a result of the stay. If
the parties end the stay, the manufacturers represented by the Coalition will be forced
to pay millions. Further, we have recognized that pre-enforcement review under 38
U.S.C. § 502 is ripe under Abbott Laboratories. Id. at 1347. Therefore, we find that the
Coalition’s petition for review of the Dear Manufacturer letter is ripe for review.
IV.
We next address the proper characterization of the Dear Manufacturer letter.
There are three possible ways to view the Dear Manufacturer letter: (1) as an order, as
defined in section 551(6); (2) as a substantive rule, as defined in section 551(4); or (3)
as an interpretative rule. Our characterization of whether the Dear Manufacturer letter
is an order or a rule will determine whether we have jurisdiction under section 502. That
is because section 502 gives us jurisdiction over those categories of agency actions to
which either section 552(a)(1) or section 553 refers. Thus, we have jurisdiction under
section 502 to review substantive and interpretative rules, but not orders. The
determination of whether the letter is a substantive rule or an interpretative rule will
determine whether the agency was required to comply with the publication requirement
of section 552(a)(1) and the notice and comment procedures of section 553.
We begin with the government’s argument that the Dear Manufacturer letter is an
order. As seen, section 551(6) defines an “order” as “the whole or a part of a final
disposition, whether affirmative, negative, injunctive, or declaratory in form, of an
agency in a matter other than rule making but including licensing[.]” Notably,
“adjudication” is defined under the APA as “agency process for the formulation of an
order.” 5 U.S.C. § 551(7) (2000). Thus, an order is issued as part of an adjudicatory
05-7130 16
process. See Nat’l Labor Relations Bd. v. Sears, Roebuck & Co., 421 U.S. 132, 158-59
(1975) (noting that an order is part of “adjudication” under the APA). In contrast to an
order, the Dear Manufacturer letter was not written as part of an adjudicative process,
such as an enforcement proceeding against a particular manufacturer. Instead, the
letter prospectively requires action on behalf of all drug manufacturers. See Goodman
v. Fed Commc’ns Comm’n, 182 F.3d 987, 995 (D.C. Cir. 1999) (“Although bearing some
superficial resemblance to a rule, the Implementation Order addressed a proposal made
on behalf of certain licensees only for a temporary, remedial waiver of the agency's
build out rules—not for their general, prospective amendment.”). The fact that the
Coalition sometimes refers to the letter as an order does not alter the nature of the Dear
Manufacturer letter. We thus conclude that the Dear Manufacturer letter is not an order.
We next examine whether the Dear Manufacturer letter is a substantive rule, as
the Coalition argues, or an interpretative rule, as the government urges. In determining
whether an agency action is a substantive rule, we begin by looking to 5 U.S.C.
§ 551(4). E.g., Paralyzed Veterans of Am. v. Sec’y of Veterans Affairs, 308 F.3d 1262,
1264 (Fed. Cir. 2002). As seen, section 551(4) states that “rule” means
the whole or a part of an agency statement of general or
particular applicability and future effect designed to
implement, interpret, or prescribe law or policy or describing
the organization, procedure, or practice requirements of an
agency and includes the approval or prescription for the
future of rates, wages, corporate or financial structures or
reorganizations thereof, prices, facilities, appliances,
services or allowances therefor or of valuations, costs, or
accounting, or practices bearing on any of the foregoing[.]
The definition of a substantive rule is “broad” and includes action that is “‘legislative in
nature, is primarily concerned with policy considerations for the future rather than the
05-7130 17
evaluation of past conduct, and looks not to the evidentiary facts but to policy-making
conclusions to be drawn from the facts.’” Paralyzed Veterans, 308 F.3d at 1264-65(quoting Lefevre, 66 F.3d at 1196). Substantive rules thus “effect a change in existing
law or policy or . . . affect individual rights and obligations.” Paralyzed Veterans of Am.
v. West, 138 F.3d 1434, 1436 (Fed. Cir. 1998); see Lefevre, 66 F.3d at 1198 (finding
that the Secretary’s decision not to create a presumption of service-connection for
particular diseases was a substantive rule in part because the decision had “an
immediate and practical impact” on veterans claiming benefits). The change in existing
law affected by a substantive rule is binding not only within the agency, but is also
binding on tribunals outside the agency. Splane v. West, 216 F.3d 1058, 1064 (Fed.
Cir. 2000). Thus, a substantive rule has the “force and effect of law.” Id. Accordingly,
we have characterized substantive rules as “‘gap filling’ or an exercise of [an agency’s]
rulemaking power.” Id. at 1063. In contrast to a substantive rule, an interpretative rule
“‘simply indicates an agency’s reading of a statute or a rule. It does not intend to create
new rights or duties, but only reminds affected parties of existing duties.’” Id. at 1063(quoting Paralyzed Veterans of Am., 138 F.3d at 1436).
We conclude that the Dear Manufacturer letter is substantive in nature because it
changes existing law and affects individual obligations. The letter changes existing law
and affects individual obligations because it creates a new refund system. Under the
new system, manufacturers are required to pay refunds totaling $100 to $200 million
annually to TMA for covered drugs purchased at network pharmacies. They also are
required to change their sales data for the purpose of calculating non-FAMPs. The
Dear Manufacturer letter itself contemplates that it is changing existing law when it
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states that the VA “has agreed not to demand refunds . . . until after September 30,
2004.” Thus, the refund system described in the letter has “general or particular
applicability and future effect.” See 5 U.S.C. § 551(4). We conclude that the VA
intended its refund system to be binding not only on itself, but also on tribunals
interpreting whether or not a manufacturer has complied with the letter. The letter
references a DOD website for further details concerning its refund system. Among
other things, the website contains a manual entitled “Process and Procedures for
Manufacturer Refunds.” The manual contemplates disputes between the agency and
manufacturers, which would likely be resolved by the courts. Thus, it is clear that the
letter was intended to have binding effect outside the agency. Based on the foregoing,
we find that the Dear Manufacturer letter is a substantive rule to the extent that it
establishes a refund system for imposing FCPs on manufacturers.
We reject the government’s argument that the Dear Manufacturer letter is merely
an interpretative rule. Contrary to the government’s arguments, we find that the Dear
Manufacturer letter did more than just interpret the VHCA. The establishment of a
refund system comprises a form of gap filling that is substantive in nature rather than a
mere interpretation of a statutory term. We also reject the government’s argument that
the letter merely implements the policy set forth in the White Paper. The White Paper
merely proposed an interpretation of section 8126; it did not set forth a refund system
and mandate compliance. In contrast, the Dear Manufacturer letter establishes a refund
system and requires that manufacturers comply. Further, an agency’s characterization
of its actions as interpretative is not dispositive. See Splane, 216 F.3d at 1063. Thus,
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we find that the VA’s contention that the letter is interpretative does not alter our
conclusion that the Dear Manufacturer letter comprises a substantive rule.
V.
We next determine whether the Dear Manufacturer letter is reviewable under
section 502. As required for jurisdiction under section 502, we hold that sections
552(a)(1) and 553 apply to the Dear Manufacturer letter because it is a substantive rule
and not an order or an interpretative rule. Contrary to the government’s argument that
the Coalition is seeking review of DOD’s actions, the Dear Manufacturer letter was
authored by the Acting Executive Director of the VA National Acquisition Center and is
therefore “[a]n action of the Secretary” under section 502. We conclude that we have
jurisdiction to review the Dear Manufacturer under 38 U.S.C. § 502.
VI.
Finally, we address the Coalition’s arguments that the Dear Manufacturer letter
must be set aside because it is a substantive rule and the agency did not comply with
the procedures set forth in sections 552(a)(1) and 553 before issuing the letter. This
issue requires little discussion.
Under 5 U.S.C. § 706(2)(D), we must set aside an agency action that is made
“without observance of procedure required by law.” As seen, section 553 requires that
an agency comply with notice and comment procedures before issuing a substantive
rule. An agency’s failure to comply with notice and comment procedures is grounds to
set aside an agency rule. See Nat’l Org. of Veterans’ Advocates, 260 F.3d at 1375(“Failure to allow notice and comment, where required, is grounds for invalidating the
rule.”). Having found that the Dear Manufacturer letter is a substantive rule, the sole
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question is whether the agency complied with section 553. It is undisputed that notice
and comment procedures of section 553 were not followed before the issuance of the
Dear Manufacturer letter. Therefore, we set aside the Dear Manufacturer letter because
it is procedurally defective under 5 U.S.C. § 553 and remand the matter to the agency
for compliance with the APA’s procedural requirements, including both 5 U.S.C.
§§ 552(a)(1) and 553.6
CONCLUSION
For the foregoing reasons, we hold that the Dear Manufacturer letter comprises a
substantive rule that was enacted without compliance with the procedures required by
the APA. We therefore set aside the letter as procedurally defective and remand the
matter to the VA for compliance with the procedures required by the APA.
COSTS
Each party shall bear its own costs.
REMANDED
6
Section 552(a)(1) creates procedural requirements applicable to
substantive rules. Although the government should comply with these procedures on
remand, we do not base our finding that the Dear Manufacturer letter is procedurally
defective on these grounds.
In addition to its argument that the Dear Manufacturer letter is procedurally
defective, the Coalition contends that the interpretation of the VHCA in the letter is
unlawful under section 706 because it is “arbitrary, capricious, an abuse of discretion, or
otherwise contrary to law.” However, we find that it is unnecessary for us to reach this
argument given our conclusion that the letter is procedurally defective.
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