Doc-owned device distributors targeted by feds

The Justice Department has filed a lawsuit alleging that three surgeons performed unnecessary spinal surgeries, a distribution company they invested in encouraged them to pressure hospitals to buy its medical implants, and the company and one of the surgeons denied the physician investments even as the surgeons received hundreds of thousands of dollars. Only one of those surgeons was named as a defendant.

Those details, brought to light in a False Claims Act lawsuit filed earlier this month, highlight the potential risks for patients and hospitals when hospitals contract with physician-owned distributorships, which are known as PODs.

PODs are companies that sell medical implants to hospitals and usually have physicians as their owners or investors. Proponents say PODs lower costs by stripping out expenses associated with device sales and also allow physicians who invest in the distributorships to collaborate with manufacturers to foster innovation. The distributors are most prevalent in California and are often associated with the spine implant market.

But enforcement actions taken over the last two years allege some PODs are driving up healthcare costs by charging above-average rates for implants. They also allege that PODs may be encouraging physician-investors to increase their surgical volumes and perform medically unnecessary procedures, which can lead to avoidable patient harm.

HHS' Office of the Inspector General in 2013 issued a special fraud alert that said PODs create “a strong potential for improper inducements” between PODs, physician-investors, and the healthcare providers that purchase medical devices. Later that year it published a critical study calling PODs “inherently suspect” under the anti-kickback statute. The report found hospitals purchasing devices from PODs reported that rates of spinal surgeries grew faster than at hospitals that did not contract with PODs. It also reported that surgeries using devices purchased from PODs did not have lower device costs.

But the claims in the Justice Department's lawsuit go much further than concerns about device costs.

The lawsuit, filed in U.S. District Court in Los Angeles, alleges that Reliance Medical Systems, a Utah-based holding company that operates 14 PODs; its two owners; one nonphysician investor; and Dr. Aria Sabit, a physician-investor, violated the anti-kickback statute by submitting Medicare claims tainted by illegal payments made to physician-investors.

The government argues the PODs operated by Reliance gave physicians payments to induce them to use POD implants in their surgeries. The payments were based on profits generated through the sale of implants to the hospitals where the surgeons practiced. Lawyers for Reliance, who argue the allegations are inaccurate or grossly exaggerated, were expected to file a motion to dismiss the suit late last week.

The Justice Department also said that it joined a whistle-blower lawsuit against Sabit that had been filed in 2013.

“The OIG does not like physician ownership of businesses,” says Patric Hooper, a lawyer with Hooper Lundy & Bookman, which represents Reliance Medical. “They haven't liked it for 25 years and they still don't like it.”

It's the first lawsuit filed against a POD. It's based on the theory that a physician with an ownership or investment in a POD who also purchases an implant sold by the POD receives a kickback through the return on investment, says Thomas Bulleitt, a partner with law firm Ropes & Gray. But there is also the potential for the case to be settled rather than go to trial. Most False Claims Act cases settle.

The lawsuit names several physicians who invested in Reliance-operated PODs, but only one surgeon was named as a defendant. During an eight-month period in 2010, Dr. Sabit allegedly used Reliance implants in 90% of his spinal fusion surgeries and received about $265,000 in payments from the POD he invested in. Prior to his investment of $5,000 in April 2010, Sabit reportedly did not use any Reliance implants in surgeries he performed.

The government also alleges that his role as an investor in the POD was not disclosed to hospitals in California and Michigan where he practiced. The suit claims he performed medically unnecessary surgeries using Reliance implants on at least three patients who suffered complications. His lawyer declined to comment.

The lawsuit, which underscores the attention the Justice Department is giving to last year's special fraud alert, also raises the stakes for hospitals where physicians use implants from PODs they own. Hospitals reluctant to establish more- stringent policies around conflicts of interest between physicians and device companies or those organizations unaware of such relationships now face a higher risk of patient lawsuits as well as government investigations.

“There is an argument for legal liability for the hospital,” says Kathleen McDermott, a partner at law firm Morgan Lewis. “It will provoke hospitals to examine their policies related to PODs and to ensure they are managing physician conflicts of interest.”

Imminent changes in financial disclosure are expected to shed more light on these kinds of financial relationships. Later this month, the Physician Payments Sunshine Act will require disclosure of physician ownership or investments in PODs.

Anticipating the new law, the owners of Reliance Medical allegedly shifted to a physician employment model after buying out their physician-investors, according to the lawsuit. But a lawyer reportedly advised Reliance to avoid that arrangement, noting that regulators may still consider paying physicians an average of $45,000 a month a red flag, according to the lawsuit.

A more transparent purchasing environment is only one factor reducing the prevalence of PODs in the marketplace. Reductions in reimbursement rates and the rising cost of implants have pushed more hospitals in recent years to take purchasing preference away from physicians and standardize product purchases in their efforts to keep supply costs down.

But the potential for big profits generated by PODs provides a strong incentive for new companies to sprout up and entice physicians to become investors. The lawsuit alleges that from June 2007 to December 2012 the three owners of Reliance raked in $43 million, a number disputed by Reliance's lawyer. “The Justice Department doesn't know the difference between revenue and profits,” Hooper says.

Hospitals, meanwhile, face two kinds of risks: submitting potential false claims to Medicare on behalf of the surgeons whose purchasing preferences and care decisions are influenced by payments they get from PODs, and being sued by patients over inappropriate surgeries or care. Mitigating those risks will require hospitals to address not only how they manage physician preferences in device purchasing, but their surgeons' investments in companies that market medical technology.

Even though the government's lawsuit against Reliance does not name as defendants the hospitals that purchased its devices, that doesn't mean future investigations will sidestep the role of hospitals in POD arrangements, legal experts say.

Some hospitals have already reviewed how and if they contract with PODs. At least four of the 10 largest health systems in the U.S. based on revenue—HCA, based in Nashville; CHE Trinity Health, based in Livonia, Mich.; Tenet Healthcare Corp., based in Dallas; and Catholic Health Initiatives, based in Englewood, Colo.—say they have policies that either prevent contracting with PODs or have very strict parameters about what types of PODs can sell to their hospitals.

But not all hospitals are unwinding these kinds of relationships. At many hospitals in the U.S., a physician's preference for a particular implant or device is still the deciding factor in purchasing decisions.

About 65% of U.S. hospitals surveyed by HHS' Office of the Inspector General have policies in place that require physicians to disclose ownership in device companies to hospitals. But the policies varied—some required disclosure only at the time of the hire and about 8% required disclosure of such ownership to patients.

Intermountain Healthcare, an integrated delivery network based in Salt Lake City, implemented a new policy banning the use of PODs in June 2013, three months after the Office of the Inspector General issued the special fraud alert. The alert is one of only four special fraud alerts put out in the past decade.

Suppliers that sell medical products to Intermountain are now required to declare that there are no physician owners or investors and that they comply with a standard established by the Advanced Medical Technology Association, a trade group representing medical-device makers that has pushed for regulation of PODs operating illegally.

But Brent Johnson, Intermountain's chief purchasing officer, says it's still difficult to discern conflicts within supplier-physician relationships. “The shell game of who owns who and who's being reimbursed is not easy,” he said.

PODs first began to worry traditional devicemakers about a decade ago, prompting AdvaMed to request guidance in 2006 from the government about the legality of the distributorships. The association told HHS' Office of the Inspector General that PODs relying on referring physicians as their customers violate the safe harbor provided to physician ownership of medical companies. But AdvaMed's request and the OIG response did little to deter the market. By 2011, PODs were supplying nearly 20% of the devices used in the spinal fusion surgeries covered by Medicare that year. It's unclear how many PODs are currently operating in the U.S.

The investigation into Reliance Medical, its owners and Dr. Sabit is being closely watched. If the government is successful in its lawsuit, experts say there will be more investigations of PODs, physicians and possibly hospitals where those physicians have staff privileges. But the recent attention from lawmakers and regulators hasn't stopped PODs from operating. In multiple earnings calls during the spring earnings season, more than one device executive said traditional manufacturers still hadn't taken back market share held by PODs despite the regulatory scrutiny.

“What we haven't seen, though, is just surgeons immediately jumping away from PODs,” Alex Lukianov, chairman and CEO of NuVasive, a San Diego-based manufacturer of devices used in minimally invasive spine surgeries, told investors.

Alliance Surgical Distributors, based in Redlands, Calif., defends the POD model and has no plans to unravel its businesses. Formed in 2008 by a group of surgeons who had been successful with one POD, it now operates 13 PODs in eight states. Its surgeon-owners presented an analysis of the costs of its implants at the American Academy of Orthopaedic Surgeons' annual meeting in 2009, reporting that hospitals that purchased implants from the POD saved 34% on the costs of the devices.

“Not all pods are formed equally,” says Dr. John Steinmann, CEO at Alliance Surgical Distributors. “If you enter for personal or financial gain, that is when you see problems develop.”

Follow Jaimy Lee on Twitter: @MHjlee