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What PE firms, healthcare investors need to know about False Claims Act liability

Sep 27, 2019

A lawsuit arising from False Claims Act (FCA) allegations was resolved last week when compounding pharmacy Diabetic Care Rx LLC, or Patient Care America (PCA), two of its executives and private equity firm Riordan, Lewis & Haden Inc. (RLH) entered into a settlement agreement to pay over $21 million to resolve the enforcement action.

Reportedly the first case in which the Department of Justice (DOJ) has chosen to intervene against a PE firm with regard to FCA allegations, this case is an example of the Department’s heightened scrutiny of private equity operating in the healthcare space.

The defendants were allegedly participating in a kickback scheme that generated referrals, via outside marketers who received kickbacks, for expensive pain and scar creams and vitamins without documenting patient need. Those prescriptions were then reimbursed by federal healthcare program TRICARE, a program designed for military members and their families.

In the settlement, PCA and RLH agreed to pay just over $21 million, executive Patrick Smith agreed to pay $300,000, and executive Matthew Smith agreed to pay $12,788. Payment amounts were determined based on ability to pay, and given that the total amount PCA received from TRICARE was $68 million, it could have been significantly higher for each party.

However, because the claims were resolved without determination of liability, this case will not result in binding court precedent establishing when a PE firm can be held liable for a portfolio company's submission of false claims.  Regardless, PE firms and healthcare investors are on notice that they could be made a party to FCA and anti-kickback actions. Prudent investors, executives and operators will take this opportunity to assess their risk profile. Indeed, their fiduciary duties probably require it.

Here are some “rules of the road” for PE firms and healthcare investors when it comes to mitigating regulatory risk.   

Don’t Assume Day-to-Day Operations

The involvement of PE in the healthcare industry has been on the government’s radar for some time, and the government was likely waiting for a particularly egregious fact pattern, like the one above, to show that it can (and will) pursue an enforcement action against PE healthcare investors. In addition to the conduct at issue, RLH likely exposed itself to additional scrutiny, liability and a greater degree of responsibility for the conduct because it assumed control over day-to-day clinical and marketing functions beyond what is typical for the industry. For example, RLH directed PCA to enter a new line of business and required that PCA consult with RLH before PCA entered into any contract with annual payments over $50,000.

While PE provides a valuable resource to healthcare entities, offering essential financing and valuable insight, the more that PE becomes involved in the clinical, day-to-day operations of a healthcare entity, the greater the likelihood that it will be swept up by a government investigation.

Don’t Become an Officer of the Entity Enrolled in Government Payor Programs

In addition to being involved in the day-to-day operations of PCA, two RLH partners became officers of the healthcare entity itself. PE investors should be very cautious about becoming an officer of the healthcare entity if that entity is submitting claims to state or federal payors. As an officer of the billing entity, the government’s theory will be that the officer knew or should have known of any errors or conduct that rendered a claim false.

While not becoming an officer of the healthcare entity reduces the risk of liability, it does not absolve the PE investor from all risk or liability. PE investors cannot “put their head in the sand” and merely say that they were unaware of unlawful conduct. The government has clearly shown its desire to hold accountable anyone involved in the submission of false claims, and PE investors should keep in mind that the government is increasingly looking to hold individuals accountable for bad conduct, not just the organization/entity itself.

Risk Profile & Next Steps

Now that the government has flexed its muscle with regard to the PE industry, government enforcement officials will expect PE firms and healthcare operators to apply the lessons of this case, complete a risk assessment of their organization, and update their approach as appropriate. Sophisticated investors will require the same. All PE investors should perform an audit of its relationships with healthcare institutions, closely examining their conduct and interactions with the healthcare entity, and also reviewing the underlying conduct of that entity. These audits should be well-documented, as should the communications between the investors and the healthcare entity.

To learn more about private equity in healthcare, read this bulletin here.

For more details about the lawsuit, go to the Department of Justice announcement here.

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