United States: Deal Or No Deal? Acquisitions Of Small Practices By Hospital Systems And Academic Medical Centers: Aligning Two Cultures

In recent years, it has become increasingly common for academic medical centers and other hospital systems (hereafter, AMCs) to acquire small medical practices at sites not necessarily close to the large practice's main campus or facility.¹ If done correctly, such acquisitions can have numerous benefits to both the parties and the surrounding community. For example, such arrangements may enable the academic practice or hospital system to establish teaching or outreach sites for some of its programs, thus providing benefits of more sophisticated health care programs to smaller communities. In turn, the acquired physicians may gain the benefits of centralized management, flexibility in work schedules, improved technologies, and more stable compensation and benefit programs, among other benefits.² Finally, there is the lessened compliance risk afforded by employment relationships.³ 

Most practitioners and compliance professionals understand the general nature of these types of trans-actions, including the type of due diligence advisable and other considerations and documentation necessary prior to closing.⁴ Although there may be "nothing new under the sun" in this regard, each transaction brings with it unique business and cultural issues stemming from the type of acquisition, nature and personalities (corporate or individual) of the parties to the deal as well as the location of the practice(s). If not managed appropriately on the front end, these business and cultural issues could become compliance and management problems on the back end. In other words, it is possible that parties operating separately in an entirely legal and compliant manner prior to an acquisition could face compliance issues after closing without adequate care and attention.

Although each acquisition differs as to the factual and legal considerations involved,⁵ this article examines some of the perhaps less obvious but common business and cultural structures that need to be examined and managed as part of the acquisition process and suggests an approach to manage due diligence for such proposed acquisitions. It is imperative that parties manage these risks and issues early and as part of the due diligence process and continue to monitor them through closing and post-closing.

Contracting

The AMC and the small practice will likely have very different contracting processes. In the small practice, there probably will be no formal acquisition requirements; however, the AMC is likely to be either governmental or not-for-profit in nature and, as a result, may elect or be required to comply with certain legal or regulatory contracting requirements, including potentially, competitive bidding requirements.⁶ The compliance or legal professional will have to determine not only which contracts of the small practice are necessary to retain and assignable but also whether any assignment process comports with the AMC's purchasing requirements and, if so, for how long.⁷

Excluded Vendors

It is also possible that the small practice is currently doing business with a company that the AMC would be prohibited from engaging. This can occur if there have been past problems between the AMC and the vendor or if the vendor has become listed on some type of excluded list due to past issues. If this is the case, the compliance review must include determination of whether it is appropriate and allowable to engage with the vendor in the proposed relationship. Initial questions would include whether the contract is actually necessary for the practice and whether waivers could or should be obtained.⁸

Valuation

To the extent that there are contracts between a physician practice and a third party that would be subject to fair market value and commercial reasonableness requirements, additional attention may be required to the contracting process.⁹ For example, in the context of medical director contracts with potential referral sources, the due diligence review should not only include a review of whether the current rate can be justified as of the time of entry into the contract but also whether becoming a part of the AMC now changes that calculus. This determination will likely depend upon how the original determination was obtained, but if the physician or practice now has a different compensation arrangement or changed duties and compensation or duties were factors in determining the original fair market value, then there should be a reassessment. Certainly, the mere potential impact of the physician now being part of an AMC's staff, with its attendant professional prestige, is sufficient to justify an updated review.

Other Risks

Are there real risks associated with the above problems in the context of the new business structure? Obviously, if there now is a fair market value or commercial reasonableness issue with respect to any contract, the contract's continuing compliance with Stark¹⁰ or the Anti-Kickback Act (AKA)¹¹ may be an issue; however, the compliance professional should not forget that both the AKA Personal Services and Management Contracts Safe Harbor¹² and the Stark Personal Service Arrangements Exception¹³ include requirements that the contract must "not involve the counselling or promotion of a business arrangement or other activity that violates any Federal or State law."¹⁴ If the continued arrangement would violate state procurement or ethics laws after closing, the agreement may lose regulatory protection. Thus, it is possible that continuing a contract, even if it originally was legally compliant, can become problematic if, due to changes in circumstance, the contract now violates a state law. The prudent course of action is to reexamine all contracts in view of the structure of the acquisition.

Footnotes

1. In fact, a 2016 study contends that hospital or health system ownership of physician practices grew by 86 percent from 2012 to 2015. Avalere Health and PAI Physician Practice Acquisition Study: National and Regional Employment Changes (2016). Another study shows that the number of physicians employed by hospitals has increased by 14,000 from July 2015 to January 2018. Overall, 44 percent of physicians were employed by hospitals in January 2018 compared to 25 percent in July 2012. Physicians Advocacy Institute, Updated Physician Practice Acquisition Study: National and Regional Changes in Physician Employment 2012 -2018 (Feb. 2019), available at www.physiciansadvocacyinstitute.org/Portals/0/assets/docs/021919-2016-PAIPhysician-Employment-Study_1-26-18_Final.pdf? ver=2019-02-19-162948-333.

2. Much has been written about the potentially harmful effects of consolidation among health care providers. Kathy Selker, "How Mergers And Acquisitions Are Affecting Hospital Marketing", Forbes, June 12, 2019, available at www.forbes. com/sites/forbesagencycouncil/2019/06/12/howmergers-and-acquisitions-are-affecting-hospitalmarketing/#5e86bb067eb2; Chad Terhune, "As California Hospitals Sweep Up Physician Practices, Patients See Higher Bills", California Health Online, Sept. 4, 2018, available at californiahealthline.org/ news/as-california-hospitals-sweep-up-physicianpractices-patients-see-higher-bills. However, if structured and managed appropriately, it is clear that AMC acquisitions may bring positive efficiencies, such as "reduc[ing] inefficient duplication of services, allow[ing] firms to combine to achieve efficient size, or facilitate[ing] investment in quality or efficiency improvements." Martin Gaynor, Diagnosing the Problem: Exploring the Effects of Consolidation and Anticompetitive Conduct in Health Care Markets, Statement before the Committee on the Judiciary Subcommittee on Antitrust, Commercial, and Administrative Law U.S. House of Representatives at 7, Mar. 7, 2019 [hereinafter, "Gaynor, Diagnosing the Problem"].; see also Pope, Thaddeus, Point/ Counterpoint: Perspectives in the Negotiation of a Hospital's Acquisition of a Physician Practice, July 18, 2014, available at www.thaddeuspope.com/Images/ Team-19-Memo.pdf (last accessed Aug. 26, 2019).

3. . Both the Medicare and Medicaid Patient Protection Act of 1987, as amended (42 U.S.C. § 1320a-7b) ("Anti-Kickback Act" and, together with the applicable regulations, the "Anti-Kickback Law" or the "AKA"), and Section 1877 of the Social Security Act, as amended (42 U.S.C. § 1395nn) ("Stark Act" and, together with the applicable regulations, the "Stark law"), contain provisions that make bona fide employment relationships favored from a compliance perspective. As a result, employing physicians may minimize risk under the compliance laws and enable the hospital system to provide better technology and more efficient management. However, such consolidations may have other unintended consequences. See, e.g., Gaynor, Diagnosing the Problem, supra note 1.

4. Kelley H. Rice, Physician Practice Mergers: The Importance of Due Diligence and Mutual Trust for All Involved, Aug. 8, 2018 (discussing in depth the significance of performing adequate due diligence during a merger to provide sufficient opportunity for all parties to weigh the pros and cons of a specific transaction); William B. Eck, Physician Practice Acquisitions: Avoiding Legal Pitfalls, April 18, 2019, available at www.lexisnexis.com/lexis-practiceadvisor/the-journal/b/lpa/posts/physician-practiceacquisitions-avoiding-legal-pitfalls (discussing generally some of the legal and structural considerations relating to any physician practice merger).

5. Id.

6. According to the most recently published data, there are 6,210 hospitals in the United States, of which 5,262 are community hospitals. Of community hospitals, 2,968 are not-for-profit, and 972 are governmental. Am. Hospital Ass'n, Fast Facts on U. S. Hospitals 2019, available at www.aha.org/ statistics/fast-facts-us-hospitals. Hospitals that are owned or operated by governmental entities are the most likely to have some type of purchasing law with which to contend. Purchasing and contracting requirements will vary significantly depending upon the jurisdiction. See Melissa Javon Copeland (Ed.), Guide to State Procurement-A 50-State Primer on Purchasing Laws, Processes, and Procedures (ABA Publications, 2d ed. 2016) (providing for a 50-state review of purchasing laws). In addition, local governmental hospitals may have other laws applicable to them.

7. See id. For example, Kentucky law requires certain governmental agencies as well as certain "affiliated corporations" to adhere to its Model Procurement Code, which provides, inter alia, for competitive bids to be solicited for covered purchases of $20,000 or more. Ky. Rev. Stat. Ch. 45A. However, procurement laws differ significantly from one jurisdiction to another. Many statutes exempt professions services, see Tenn. Code Ann. § 12-4-106 (Tennessee), or have other exemptions for health care, hospitals, or certain medical purchases, see. e.g, Fla. Stat. § 287.057(5) (Florida); R.C.W. § 39.26.100(4) (Washington); Va. Code § 2.2-4345(1) (Virginia); N.J. Rev. Stat. § 40A:11- 5(a)(1) (New Jersey). However, even if an exemption is afforded, usually certain purchasing procedures must be followed.

8. See infra note 9. Commercial reasonableness is a common requirement through most health care compliance issues. Whether a waiver can be granted in a compliant manner will depend upon a number of factors, including its availability, past practices, and if there is a valid and compliant business justification

9. The requirements that contracts between health care providers and referral sources be commercially reasonable and at fair market value are included in various Anti-Kickback Act Safe Harbors and Stark Exceptions. See e.g., AKA- 42 C.F.R. § 1001.952(b) (5) & (6) (Space Rental); 42 C.F.R. § 1001.952(c)(5) & (6) (Equipment Rental); 42 C.F.R. § 1001.952(d)(5) & (7) (Personal Services and Management Contracts); Stark-42 C.F.R. § 411.357(a) (Rental of Office Space); 42 C.F.R. § 411. 357(b) (Rental of Equipment); 42 C.F.R. § 411.357(c) (Bona Fide Employment Relationships). Indeed, these requirements can be found in the description of fair market value compensation. 42 C.F.R. § 411.357(l).

10. See id.

11. See id.

12. 42 C.F.R. § 1001.952(d).

13. 42 C.F.R. § 411.357(d).

14. 42 C.F.R. § 1001.952(d)(6); 42 C.F.R. § 411.357(d)(1)(vi).

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