Investment in the healthcare industry requires careful consideration, as it involves numerous distinct areas of the law. Venable's Private Equity Investment in Healthcare webinar series explores the unique issues and timely developments that shape deals within the industry.

As part of this series, partner Chuck Morton recently moderated a conversation between partner Ari Markenson and associate Chris Conn on key issues and considerations related to investing in healthcare services. These seasoned attorneys shared their insights to help provide a framework for navigating the highly regulated healthcare deal landscape.

Regulatory Risks in Healthcare Mergers and Acquisitions

The healthcare services sector represents a lot of investment opportunity but also brings inherent risks. The sector includes traditional services like institutional (hospitals) and out-patient (medical practices) providers; it also includes medical equipment suppliers and businesses that provide services that support healthcare practices, like software and accounting services. As regulatory restrictions apply to all of these businesses, each type of service has its own potential risks and rewards. Common risks include:

• Government reimbursement and billing issues, on both the federal and state levels
• Fraud and abuse issues, such as anti-kickback prohibitions and physician self-referral prohibitions, which can become civil or criminal matters
• Licensure and certification compliance, which varies by jurisdiction
• People excluded altogether from federal healthcare programs
• Rapidly changing state healthcare privacy laws
• Federal and state compliance programs and professional boards

Criminal Accountability and Financial Risks

In today's regulatory environment, private equity investors need to fully understand the businesses of their portfolio companies to avoid serious criminal liability repercussions.

Violation of the federal anti-kickback statute is a felony. Though it requires proof of intent, Congress has loosened that standard over time, creating a higher level of risk in certain business relationships. A reasonable degree of care and diligence is now required to mitigate that risk, and hiring a good management team is not enough, as regulators are increasingly placing responsibility on the investors themselves. Not fully understanding the law or appreciating specific details of the investment is not an excuse in today's regulatory landscape.

Another consideration in healthcare deals is that factors can exponentially change a small identified liability into a substantially larger one. Even if the deal size eclipses the liability amount, potential statutory penalty multipliers significantly change the cost analysis, so any liability should raise red flags with potential buyers to avoid significant fines, penalties, and damages.

For example, the Centers for Medicare & Medicaid Services (CMS) has a 60-day repayment rule, and if identified overpayments are not paid back within that time, the liability turns into a false claim that is subject to triple the charges plus a fine for each claim. As soon as a buyer closes a deal, a buyer that is aware of an overpayment faces potential liability if the overpayment is not returned in 60 days, even if the seller promised to pay it as part of the deal negotiations, and even if the initial liability was a simple oversight and not an intentional fraud attempt.

Professional Practice Considerations

No two states have the exact same prohibitions regarding the corporate practice of medicine or dentistry. In many jurisdictions, non-medical professionals cannot enter that space, so sophisticated and creative deal structures are required. Buyers must carefully review all state laws regarding licensure and certification before investing in a healthcare services entity.

For example, some state laws might require that a physical therapy business be owned by a licensed physical therapist. If receptionists or other non-licensed professionals have a small interest in that business, that is a potential violation of state law.

Businesses that cross state lines need to be particularly diligent. The law may be that the equity holder, even if he or she is not providing the professional services in each location, needs to be licensed in every state in which services are provided.

Privacy Considerations

Violating privacy and data security laws can lead to severe penalties, and state laws are rapidly changing. New state health privacy laws broaden the scope of covered data beyond HIPAA-regulated information. In addition, if a seller has had any sort of data breach, carefully ensure that it has been fully resolved and was an isolated incident. Don't be afraid to ask for details to make sure there are no outstanding issues or widespread problems.

Federal and State Compliance

Just as each state has its own laws concerning corporate practice prohibitions and privacy, each also has regulations on management fee structures. Some states may allow businesses to take all profits of the professional entity as management fees. Other states will only allow a percentage of revenue based on a fair market value, and others will only allow a flat fee. Some states also have professional boards outlining what can and cannot be done.

Avoiding These Risks

There are many steps one can take to minimize risk.

• Get regulatory counsel involved very early and make sure they fully understand any expansion plans
• Before expanding into a new jurisdiction, be aware of all state laws and guidance regarding licensure and certification, management fees, and privacy
• Proper diligence includes learning as much as possible about the business and its management and ownership structures

In the next session of this webinar series, members of our Healthcare Litigation and Investigations and White Collar Defense teams will discuss the major federal fraud and abuse laws and the risks involved in healthcare investments and business relationships.