FRAUD AND ABUSE MASTER CLASS: TRENDS IN LABORATORY TRANSACTIONS Presented by the American Bar Association Health Law Section and Center for Professional Development

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The materials contained herein represent the opinions of the authors and editors and should not be construed to be the action of the American Bar Association Health Law Section or Center for Professional Development unless adopted pursuant to the bylaws of the Association. Nothing contained in this book is to be considered as the rendering of legal advice for specific cases, and readers are responsible for obtaining such advice from their own legal counsel. This book and any forms and agreements herein are intended for educational and informational purposes only. © 2016 American Bar Association. All rights reserved. This publication accompanies the audio program entitled “Fraud and Abuse Master Class: Trends in Laboratory Transactions” broadcast on February 4, 2016 (event code: CE1602FAM).

Fraud and Abuse Master Class: Trends in Laboratory Transactions Thursday, February 4, 2016 | 3:00 PM Eastern Sponsored by the ABA Health Law Section and the ABA Center for Professional Development

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Faculty • Charles Dunham IV, Associate, Epstein Becker & Green, Houston, TX • Hope Foster, Member, Mintz Levin Cohn Ferris Glovsky and Popeo PC, Washington, DC • William Bradley Tully, Partner, Hooper Lundy & Bookman PC, Los Angeles, CA • Moderator: B. Scott McBride, Partner, Baker Hostetler, Houston, TX

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LABORATORY TRANSACTIONS – THE BIG PICTURE AND WHY WE CARE Reportedly, lab transactions have stabilized in number.  But the number continues to be significant.  And the deals continue to be varied in size, structure, terms, parties, and complexities.  The legal issues are numerous and challenging.  Understanding the business climate that causes parties to want the deal is important as intent is nearly always at issue in a legal challenge. www.americanbar.org | www.abacle.org

LABORATORY TRANSACTIONS – THE BIG PICTURE AND WHY WE CARE cont….  And understanding the business climate also helps lawyers help their clients select appropriate structures and choose the best legal solutions.

 So what should lawyers know about today's climate and why their clients are considering lab deals?

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FACTORS CAUSING TRANSACTIONS  Health plan contracting.  Downward pressure on reimbursement.  Upward pressure on costs.  Ongoing pressure to increase volumes.  Needed volumes to support competitive pricing.  Proliferation of newly developed tests.  Fear of FDA regulation of LDTs. www.americanbar.org | www.abacle.org

FACTORS CAUSING TRANSACTIONS cont….  Changes to procedure codes.  Growing interest in direct to consumer testing, women's health and molecular assays.

 Fewer independent physician practices.  Consolidation.  Decline in inpatient services.  Increased focus on population health.

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FACTORS CAUSING TRANSACTIONS cont….  Shift from curative care to detection, prevention and personalized care.  Growth in aging population.  Ability to respond to need for new technology.

 Support for volume discounts from vendors.  Need for sophisticated revenue management.  Need to keep up with rapid development of new tests.  Competition for experienced laboratorians and other personnel. www.americanbar.org | www.abacle.org

COMPETITION FOR LAB DEALS REMAINS HIGH Labs are looking for acquisitions to bolster volume growth. Consolidation and integration are seen as goals. Typical transactions. –Large lab acquires routine clinical or specialty labs. –Specialty life science company acquires specialty molecular or genomic lab. –Pharmaceutical or technology company or private equity investor enters the industry by acquiring specialty lab.

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COMPETITION FOR LAB DEALS REMAINS HIGH cont… Other factors leading to lab transactions. –Public companies and private equity investors remain interested in investing in labs. –Lab testing is a valuable service that influences 70-80% of physician decisions. –Favorable demographics and increased potential volume. –Selling to lab acquirers provides a clear exit strategy to smaller participants. –Niche segments remain fragmented and are acquisition targets. –Independent lab market is consolidating.

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HOSPITALS AND LAB TRANSACTIONS  Hospitals have acquired numerous physician practices and are absorbing the associated test costs.  As of 2014, hospitals reportedly controlled more than 63% of the lab market. Reportedly up from 50% five years earlier.  Lab companies are acquiring hospital outreach labs or joint venturing with hospitals.

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HOSPITALS AND LAB TRANSACTIONS cont…. Why are some hospitals selling their outreach businesses?  Only some outreach programs are profitable.  Desire to sell an underperforming program.  Decision to monetize a key asset at time of high value.  Avoid holding onto an asset that is under increasing cost constraints.  Eliminate space constraints caused by outreach program. www.americanbar.org | www.abacle.org

HOSPITALS AND LAB TRANSACTIONS cont…. Such transactions deal with concerns about:  Reimbursement erosion.  Increasing costs of testing and of access.  Growth of high deductible health plans.  Escalating use of bundled payment methodologies.  Growing power of health plans.

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Impact of Reimbursement Changes On Lab Transactions  Government programs.  Commercial payors.  Reimbursement cuts - past and future.  Increased bundling.  Coverage.  Differential payment rates - hospital vs. independent labs. www.americanbar.org | www.abacle.org

Impact of Structural Changes to Health Care Delivery On Lab Transactions  Restrictive payor contracts.  Many fewer independent physician practices.  Hospital systems growing in size.  Increasing consolidation.  Importance of small specialty labs.  Government enforcement actions.  Direct to Consumer testing. www.americanbar.org | www.abacle.org

How This All Translates Into Transactions WHAT THE LAWYER MUST CONSIDER?

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Potential Federal Anti-Kickback Issues In Connection With Clinical Laboratory Marketing Arrangements

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Basic Laboratory Marketing Strategies

• Full-Time Employees • Part-Time Employees • Independent Contractors • Shared Sales Forces

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Advanced Marketing Strategies • • • • • • • • •

Reference Laboratory Relationships Split-Billing Affiliations Commissions To Quasi-Providers Broker Resellers Provider Resellers Coinsurance Waivers Not Billing For Uncovered Tests Joint Ventures Managing Hospital Bundling Rules Favorably To Hospital www.americanbar.org | www.abacle.org

General Application Of The AKS To Marketing The federal healthcare anti-kickback statute, 42 U.S.C. § 1320a-7b(b), is generally understood as prohibiting payments to physicians or others for “referrals.” However, the statute also prohibits the payment or receipt of remuneration as inducement for either “arranging for” or “recommending” the purchasing or ordering of services that are covered by Medicare, Medicaid and certain other federal healthcare payment programs. www.americanbar.org | www.abacle.org

United States v. Polin United States v. Polin rejected drawing too fine a distinction between “referring” and “recommending.” A physician and nurse offered to pay a pacemaker company sales representative for each patient that the representative caused to obtain heart monitoring services from the physician’s company. As part of his sales responsibilities, the representative was responsible for ensuring that patients were properly monitored after their pacemakers were implanted. The court rejected the argument that only a physician can make a “referral,” and that lay persons can only make “recommendations.” Sales rep. was found to make referrals.

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Favorable Position Of OIG Any layperson can make a “recommendation” or “arrange” for referrals Therefore, these prohibitions can be understood as a prohibition of payments for what is, in essence, marketing. Thus, the OIG has written: “The statute on its face prohibits the offering or acceptance of remuneration, inter alia, for the purposes of “arranging for or recommending purchasing, leasing, or ordering any … service or item” payable under Medicare or Medicaid. Thus, we believe that many marketing and advertising activities may involve at least technical violations of the statute.” (Emphasis added.) www.americanbar.org | www.abacle.org

Favorable Position Of OIG (cont.) The OIG has further written: “We, of course, recognize that many of these advertising and marketing activities do not warrant prosecution in part because (1) they are passive in nature, i.e., the activities do not involve direct contact with program beneficiaries, or (2) the individual or entity involved in these promotions is not involved in the delivery of health care. Such individuals or entities are not in a position of public trust in the same manner as physicians or other health care professionals who recommend or order products and services for their patients.” (Emphasis added.)

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YMMV….

Unfortunately, these relatively liberal views of the OIG do not bind the Department of Justice, the courts or whistleblowers under the False Claims Act, all of whom have from time-to-time taken much more restrictive positions with respect to marketing than has the OIG.

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General Media Positions taken by the OIG suggest that even general media advertising such as a newspaper advertisement or a radio or television spot theoretically could be interpreted to be a prohibited recommendation. Internet and website marketing may also raise issues. However, as a practical matter and in the absence of other bad facts, it seems unlikely that an enforcement agency would interpret the statute to apply to such conduct. This is in part due to the First Amendment. Also, there is no reason to believe that such arm’s-length communications could unduly influence Medicare beneficiaries or health care providers.

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Face-To-Face Communications In contrast, face-to-face marketing communications, which present a greater potential for over-reaching, are more likely to be found to constitute “arranging for” or “recommending” the purchase or leasing of Medicare-covered items or services.

Certainly this increased risk exists with marketing to patients. However, physicians clearly order laboratory testing, and this risk may apply in connection with face-to-face marketing directed to health care providers as well.

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White Coat Marketing The government also has a high level of concern when a physician or other health care professional makes recommendations to a patient regarding his or her care, especially if, unbeknownst to the patient, that recommendation has been paid for. This same concern can arise with inter-professional marketing as well.

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The Statutory Employment Exception

A statutory exemption protects “any amount paid by an employer to an employee (who has a bona fide employment relationship with such employer) for employment in the provision of covered items or services.”

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The Safe Harbor Employment Exception

Like the statute, the safe harbor regulations provide that “‘remuneration’ does not include any amount paid by an employer to an employee, who has a bona fide employment relationship with the employer, for employment in the furnishing of any item or service for which payment may be made in whole or in part under Medicare or a State health care program.”

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Obert-Hong United States ex rel. Obert-Hong v. Advocate Health Care, stated that compensation paid to employees, unless directly related to referrals, is exempt. Since the court was simultaneously discussing the Stark law and the anti-kickback statute, it appears likely that the court was only referring to the Stark law, which does so limit its employment exception. However, it might be possible to also interpret the anti-kickback statute’s employment exception, which requires that the employment be for the provision of covered services, to prohibit a payment to an employee that is just for referrals.

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What Is “Bona Fide” Employment? The I.R.S. typically bends over backwards to conclude that an employment relationship exists when tax matters are at issue. Courts applying the I.R.S. test for employment in the anti-kickback context, as a practical matter, may take a narrower view of employment.

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Things To Avoid For example, a payment to a person who arranges for their family member to receive services is unlikely to be protectable by the employment exception. Similarly, if a “marketer” is hired who already has an established stable of patients that he or she can cause to obtain services from the employer, this may not be protected under the employment exception.

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The Right To Control

The hiring party’s “right to control the manner and means” of the work performed is probably the most important factor in determining whether there is employee status.

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The Provision Of Covered Services The employment safe harbor has carried forward the statute’s requirement that the employment must be in the provision of Medicare-or Medicaid-covered items or services. The OIG and the courts that have addressed the question of what is meant by the requirement that employment must be for the provision of Medicare-covered services have taken a number of very different positions as to when and whether the employment exception can protect the activities of marketers.

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The OIG’s Position The OIG’s commentary accompanying the final employment safe harbor stated as follows: This statutory [employment exemption] permits an employer to pay an employee in whatever manner he or she chooses for having that employee assist in the solicitation of Medicare or State health care program business …. Thus, the OIG apparently gives no meaning to the requirement that the employment be in the provision of covered items or services.

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The OIG’s Position (cont.) The OIG, however, has expressed concern over the use of independent contractors in the provision of marketing: [C]ommenters suggested that we broaden the exemption to apply to independent contractors paid on a commission basis. We have declined to adopt this approach because we are aware of many examples of abusive practices by sales personnel who are paid as independent contractors and who are not under appropriate supervision. We believe that if individuals and entities desire to pay a salesperson on the basis of the amount of business they generate, then to be exempt from civil or criminal prosecution, they should make these salespersons employees where they can and should exert appropriate supervision for the individual’s acts. www.americanbar.org | www.abacle.org

Respondeat Superior Although the distinction between employees and independent contractors might appear to be arbitrary, there is in fact an important difference between the two in terms of the policies underlying the anti-kickback laws. An employer will typically be strictly liable for any illegal activities of an employee marketer under the doctrine of respondeat superior, while a person who engages an independent contractor is typically not liable for wrongdoing of the independent contractor. www.americanbar.org | www.abacle.org

Summary Of OIG View

In essence, the OIG’s position is that marketing will be allowed where the employer’s liability for wrongful acts of the employee (such as, possibly, the employee’s wrongfully using part of his or her compensation to pay kickbacks to a referral source) gives the employer a strong incentive to ensure that wrongful activity does not occur.

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United States v. Starks United States v. Starks gave a narrower interpretation to the employment exemption than has the OIG by concluding: “[E]ven if Starks and Siegel believed that they were bona fide employees, they were not providing ‘covered items or services.’ As the government has shown, Starks received payment from Siegel and Future Steps only for referrals and not for any legitimate service for which the Hospital received any Medicare reimbursement.” – www.americanbar.org | www.abacle.org

Starks (cont.) Therefore, the Starks court may have concluded that the employment exemption requires identification of specific covered items or services provided by the employee. The court apparently did not believe that an employee’s referring patients would constitute a legitimate service, and the decision therefore leaves open the question whether marketing services can be a legitimate subject of an employment arrangement.

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United States v. Jackson United States v. Jackson simply assumed that paying an apparently bona fide employee for patient referrals was a violation the anti-kickback statute. Focusing on part on whether the payments in question were part of regular payroll payments or were bonuses for patient referrals, the court ruled that evidence of two payments made to the employee, separate and independent of the employee’s salary, was sufficient to support an anti-kickback conviction. Indeed, the court imposed a mass-marketing enhancement under the sentencing guidelines for face-to-face marketing that was intended to, and did in fact, reach many people.

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United States v. Luis United States v. Luis ruled that the employee exception will only apply when the payments made to an employee compensate the employee only for furnishing or providing covered items or services: “Even if these patients ultimately received legitimate medical care, payments to these nurse/recruiters for referring patients … violate the Antikickback statute. Therefore, it is irrelevant whether the nurses were bona fide employees paid for ‘covered items or services’ because the payments to them were, at least in part, for their illegal patient referrals.”

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United States v. Luis (cont.) Luis can be criticized on the basis that it effectively reads the employment exception out of existence – no exception is even needed if the conduct at issue would not otherwise be prohibited.

But perhaps, for all of these types of restrictive cases, “referring” must be distinguished from “arranging for” or “recommending” Even employees cannot be paid for merely “referring,” but perhaps they can be paid for marketing, even to the extent that activity constitutes “arranging for” or “recommending.”

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Hericks v. Lincare Hericks v. Lincare indicated that whether the employment safe harbor was applicable may depend upon whether the employees who were conducting the challenged marketing activities not only engaged in marketing, but whether they also performed other services that were program-covered: “Because the safe harbor language applies to payment to individuals for employment in the provision of covered items and services, and because the … employees are employed in the provision of covered items and services, the cash bonuses for referrals are not necessarily illegal remuneration in violation of the Anti–Kickback Act….”

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United States v. Crinel United States v. Crinel followed a helpful middle path by holding that “[i]f an employee refers a patient who is actually eligible for Medicare and receives medically necessary services, the employer may provide appropriate compensation in the form of a referral fee. If, on the other hand, … an employee receives a referral fee from its employer/co-conspirator as part of a scheme to provide benefits to individuals ineligible to receive them, the safe-harbor provision is not applicable.” www.americanbar.org | www.abacle.org

Payments To Independent Contractors The foregoing discussion considered payments that are made to employees for marketing. However, for entirely legitimate reasons, laboratories may also want to conduct marketing through independent contractors. Consider, for example, a small laboratory with a highly specialized test that it wants to market nationally, but which cannot practically employ a national sales force. When the employment exception does not apply, analysis of a marketing arrangement will be quite different. www.americanbar.org | www.abacle.org

Mason v. Hosta Mason v. Hosta, a California decision, held that a physician who made payments to a hospital administrator in return for assistance in obtaining emergency department coverage contracts with other hospitals violated California’s principal anti-kickback statute. This was a private action brought by the physician, who sought to avoid payment based on the theory that the contract was illegal and, hence, void. www.americanbar.org | www.abacle.org

People v. Palma People v. Palma, another California case, interpreted the Medi-Cal anti-kickback statute, a statute closely patterned after the federal statute, to allow the criminal conviction of an independent contractor sales representative who had solicited business from nursing facilities on behalf of a provider of incontinence supplies. Notably, the marketing efforts apparently were directed at board and care homes, and not at patients directly. –

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Nursing Home Consultants Nursing Home Consultants v. Quantum Health Services, another “void for illegality case,” considered payments made by a vendor of equipment and supplies to a company that was in the business of marketing medical supplies and equipment to nursing home residents. The marketing company directed its sales efforts to nursing homes in which the patients resided, which purchased the supplies, and the marketing company apparently had no direct involvement in the actual sales of supplies to particular nursing home residents. The court held that the arrangement “falls squarely within the transactions prohibited” by the anti-kickback statute because the compensation received by the marketer was based upon sales made by the supplier. www.americanbar.org | www.abacle.org

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Medical Development Network Medical Development Network v. Professional Respiratory Care involved a marketing company that was paid on a percentage-ofsales basis to contact nursing homes and physicians, and promote the use of the client company’s medical equipment. The Florida District Court of Appeal concluded that this arrangement violated the Medicare anti-kickback statute. Like Mason and Nursing Home Consultants, Medical Development Network also involved the use of an illegality defense as a shield for the health services provider to avoid paying the marketer.

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People v. Duz Mor People v. Duz-Mor Diagnostic Laboratory, Inc. interpreted California’s Medi-Cal anti-kickback statute to prohibit payments to independent contractor marketers. In rejecting a challenge based on alleged vagueness, the court concluded that “[a] person of common intelligence would understand that the statute prohibits payment of a commission to someone who arranges, through marketing activities, for services to be furnished to Medi-Cal beneficiaries.”

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United States v. Miles United States v. Miles provides a well-organized discussion of the complex issues that arise in applying the anti-kickback statute to marketing arrangements. Because the defendant in fact had not referred patients, the court held that it could not be convicted under the portion of the anti-kickback statute under which it had been charged. The court, however, citing to Polin, noted that certain marketing arrangements can result in direct patient referrals, and thereby violate the first prong of the statute.

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United States v. Miles (cont.) In an important footnote, the court also acknowledged that the Miles defendants’ conduct might have violated the second prong of the anti-kickback statute, which prohibits payments intended to induce a party to recommend or arrange for the purchasing of any good or service for which payment may be made under a federal health care program. However, because the government had made the mistake of charging the defendants with violating only the statute’s first prong, it was unnecessary for the Miles court to reach this issue, and it did not do so.

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Key OIG Opinions On Marketing

A number of OIG advisory opinions provide detailed guidance regarding the factors that are weighed by the OIG in reviewing marketing arrangements.

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Opinion No. 98-1 In the first of these, Advisory Op. No. 98-1, the OIG concluded that safe harbor protection would not be available since the personal services safe harbor requires that compensation be fixed, and does not allow compensation to be determined on a percentage basis. In addition, the OIG declined to issue a favorable advisory opinion because it found that the arrangement involved potentially abusive financial incentives.

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Opinion 98-1 (cont.) The OIG was concerned that: • The distributor’s compensation was determined on a percentage basis; • The distributor’s charges would substantially exceed the manufacturer’s list prices, thereby potentially resulting in substantial profits to both companies; • The arrangement involved direct marketing, including direct contacts by the distributor with the physicians who would order and dispense the products; • The arrangement provided the distributor the opportunity to market directly to Medicare patients; www.americanbar.org | www.abacle.org

Opinion 98-1 (cont.) • The arrangement contained no safeguards against fraud and abuse—and the OIG specifically noted in a footnote that the arrangement contained no safeguards that would prevent the distributor from making improper kickback payments to physicians; and • A commitment undertaken by the manufacturer to expend approximately $100,000 to obtain training services for its personnel from the distributor could be a form of disguised compensation for the distributor’s generating business for the manufacturer.

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Opinion 98-10 The OIG approved payments to an independent contractor marketer in Advisory Op. No. 98-10, which sets forth the OIG’s most comprehensive framework to date for analyzing marketing arrangements. The OIG began its analysis by restating its position that any compensation arrangement between a seller and an independent sales agent for the purpose of selling items or services that are directly or indirectly reimbursed by a federal health care program potentially implicates the anti-kickback statute, irrespective of the methodology used to compensate the agent. The OIG also noted that because independent contractor sales agents are less accountable than employees, the OIG has had a long-standing concern with independent sales agency arrangements. www.americanbar.org | www.abacle.org

Opinion 98-10 (cont.) In a discussion similar to that in Opinion 98-1, the OIG identified the characteristics that it would consider suspect in marketing arrangements: • Compensation based on a percentage of sales; • Direct billing of a federal health care program by the seller for the item or service sold by the sales agent; • Direct contact between the sales agent and physicians in a position to order items or services that are paid for by a federal health care program; • Direct contact between the sales agent and federal health care program beneficiaries; www.americanbar.org | www.abacle.org

Opinion 98-10 (cont.)

• Use of sales agents who are health care professionals or persons in a similar position who may exert undue influence on purchasers or patients; or

• Marketing of items or services that are separately reimbursable by a federal health care program (e.g., items or services not bundled with other items or services covered by a DRG payment), whether on the basis of charges or costs.

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Conclusions Re Employment The forgoing discussion has explored the odd possibility that even payments to bona fide employees for marketing may not be permitted when Medicare services are involved. With employees, that may be too broad of a conclusion to reach in the absence of some additional independently “bad” factor. Those bad factors might include payments for referrals by the marketer; payment to a family member; unnecessary services; or kickbacks being paid by the marketer. . www.americanbar.org | www.abacle.org –

Conclusions Re Independent Contractors While the risks are clearly higher when marketing payments are made to independent contractors, and the “personal services” safe harbor will then often be unavailable, arguments can be made, at least in some situations, that such payments are permitted. As with employees, problems are most likely when other abusive factors are present. The vulnerability over the use of independent contractors is then often essentially substituted in by the government for the vicarious liability that exists with employment. www.americanbar.org | www.abacle.org

Hospital Laboratory Outreach Programs • • • •

Reference Lab Services Laboratory Management Services Joint Ventures Arrangements Purchase and Sale Agreements

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Purchase and Sale Agreements Recent Selloff of Outreach Business • What Assets are being sold? • Tangible Assets • Equipment and Supplies • Books and Records • Contractual Arrangements

• Intangible Assets • Ongoing Business Unit • Community Goodwill • *Restrictive Covenants

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Purchase and Sale Agreements Restrictive Covenants • Non-Compete and Non-Solicitation • Nature and Scope of Business to be Sold • • • •

Define “Nonhospital Patient” (MBPM Chapter 6) Carve-Outs (Test Categories) Patient Populations (BPCI Initiative) Hospital Employee Services

• Affiliations, Joint Ventures, Acquisitions, Mergers, Management Arrangements www.americanbar.org | www.abacle.org

Regulatory Compliance • Will there be a continuing referral relationship? • Inpatient/Outpatient “Under Arrangements” • Affiliated or Employed Physician Referrals • Hospital Control of Referrals

• Federal Anti-Kickback Statute • Fair Market Value • Valuing Intangible Assets • Post-Closing Milestone Payments

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Fair Market Value • No statutory or regulatory definition under AKS • “[FMV] must reflect an arm’s-length transaction which has not been adjusted to include the additional value which one or both of the parties has attributed to the referral between them.” OIG Special Fraud Alert: Special Arrangements for the Provision of Clinical Lab Services, 59 Fed. Reg. 65377 (December 19, 1994)

• No bright-line rule or method • Multiple bidders and offers • Expert valuation company • “[T]he good faith reliance on a proper valuation may be relevant to a party’s intent…” 69 Fed. Reg. 16107

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Valuation of Intangible Assets • OIG Opinion Letter to IRS (1992) • OIG Opinion Letter to AHA (1993) • Valuation of Intangible Assets • Inherently suspect but not a per se violation

• District Court of Northern Illinois (2003) • Payments for intangible assets is not prohibited unless the total amount paid is in excess of fair market value. U.S. ex rel Perales v. St. Margaret's Hosp., 243 F. Supp. 2d 843, 847 (C.D. Ill. 2003)

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Additional Concerns • • • •

Stark Law Analysis Applicable State Laws Government Approvals Tax Exempt Status (IRS Pub 598) • Unrelated Business Income Tax • Employment Relations • Staff Reduction • Lab Services to Employees

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