California Ketamine Clinics: Implications From Epic Medical Management, LLC v. Paquette

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The corporate practice of medicine doctrine (“CPOM”) and state anti-kickback prohibitions vary from state to state. While some states have statutory prohibitions, other states rely upon case law for CPOM. These issues are typically not heavily litigated. When there is case law covering these subjects, it is imperative to review and understand these decisions. They will impact how you structure the ownership of a ketamine clinic, and likewise, how you structure Management Services Agreements (“MSA”) in strict CPOM states.

Background

One such case is Epic Medical Management, LLC v. Paquette, 244 Cal.App.4th 504 (2015). This case involved a dispute between the doctor, appellant Justin Dominic Paquette, M.D., and a medical management company, Epic Medical Management, LLC (“Epic Medical”), with which Dr. Paquette contracted to supply non-medical management services to his practice. The parties had a falling out and agreed to terminate the MSA. Epic Medical believed it was due additional fees under the MSA. But Dr. Paquette believed the management company had underperformed its duties under the contract and owed him money. The matter proceeded to arbitration, and the arbitrator ruled in favor of Epic Medical. On cross-petitions to confirm and vacate the award, the trial court ruled in favor of Epic Medical and confirmed the award. Dr. Paquette appealed, arguing that the arbitration award cannot stand because the contract, as interpreted by the arbitrator, is illegal. The California Court of Appeals concluded that the issue was not reviewable, and, if it was, the contract was not illegal as a matter of law.

Pursuant to the MSA, Dr. Paquette engaged Epic Medical “to provide management services as are reasonably necessary and appropriate for the management of the non-medical aspects of [the doctor’s] medical practice.” Among other things, Epic Medical was required to lease office space to Dr. Paquette, lease to him all equipment he deemed reasonably necessary and appropriate, provide support services, provide non-physician personnel, establish and implement a marketing plan, conduct billing and collections, and perform accounting services. Dr. Paquette was responsible for providing medical services. This is a very standard relationship structure in California, given its strict CPOM laws.

The primary issue on appeal revolved around the fees paid to Epic Medical. While the parties originally agreed to a payment methodology, it was modified by the conduct of the parties over a three and half year period prior to the termination of the MSA. Specifically, Epic Medical charged, and Dr. Paquette paid, a fee calculated as 50 percent of office medical services, 25 percent of surgical services, and 75 percent of pharmaceutical expenses (referred to as the “50-25-75 method”).

At the arbitration hearing, Dr. Paquette argued that because some of the fees were paid for Epic Medical’s marketing services, the payments constituted an illegal kickback scheme for referred patients. There was no dispute that some physician members of Epic Medical did refer patients to Dr. Paquette. Dr. Paquette took the position that paying Epic Medical a percentage of the revenues generated by those patients constituted illegal kickbacks, barred by Business and Professions Code section 650 (“Section 650”). The arbitrator did not entirely disagree with this characterization but concluded that any such violation was “technical” and did not impact the award.

Section 650

The first two subsections of Section 650 provide as follows:

(a) Except as [otherwise provided], the offer, delivery, receipt, or acceptance by any person licensed under this division … of any rebate, refund, commission, preference, patronage dividend, discount, or other consideration, whether in the form of money or otherwise, as compensation or inducement for referring patients, clients, or customers to any person, irrespective of any membership, proprietary interest, or coownership in or with any person to whom these patients, clients, or customers are referred is unlawful. [¶] (b) The payment or receipt of consideration for services other than the referral of patients which is based on a percentage of gross revenue or similar type of contractual arrangement shall not be unlawful if the consideration is commensurate with the value of the services furnished or with the fair rental value of any premises or equipment leased or provided by the recipient to the payer.

To overturn the arbitrator’s award, the Court of Appeals would need to find that the entire MSA was illegal and unenforceable. However, the Court of Appeals stated:

Even assuming, for the moment, that the doctor is correct and that payment to the management company according to the 50-25-75 method constitutes kickbacks for referrals, this does not go to the entirety of the contract. Referral patients were a small percentage of the patients seen while the doctor and management company were operating pursuant to the agreement. The [MSA] was not a referral agreement, but one for management services, of which referrals played only an incidental part.

After analyzing Section 650, the Court of Appeals concluded that “[g]iven the flexibility of Section 650, there is no absolute prohibition on consideration being paid to a management company – even one which occasionally refers patients.” Moreover, after reviewing the case law that eventually led to the passage of Section 650 and then future amendments to that statute, the Court of Appeals stated that Section 650(b) “permits contracts between physicians and non-physicians whereby compensation is based on a percentage of gross revenue, as long as the consideration is commensurate with the services rendered and/or facilities and equipment provided.” Based upon the foregoing, the Court of Appeals found that the only way the MSA could be illegal is if the consideration is not commensurate with the services provided and/or the facilities and equipment leased to the physician. To reach that conclusion, the Court of Appeals analyzed the payments made to Epic Medical and found that the profit margin was 12.8 percent.

CPOM Analysis

Finally, the Court of Appeals quickly determined that the MSA did not violate CPOM in California. As the Court of Appeals noted, to make such a determination requires the legal interpretation of the substantive provisions of the MSA. And, ultimately, the issue revolves around whether the management company exercises or retained the right to exercise control or discretion over the physician’s practice. The Court of Appeals found that the MSA had a “strict delineation between medical elements which the doctor controls, and the non-medical elements which the doctor has retained the management company to handle.” Thus, there was no violation of California’s CPOM doctrine.

Take-Aways and Lessons Learned

The Epic Medical decision is valuable in many regards. But the decision also leads to many questions as well, including:

  1. While the Court of Appeals found a 12.8 percent profit margin reasonable, is there a range that the courts would also find reasonable? In other words, what about 15%, 20%, 25%, etc.?
  2. The Court of Appeals found that the referral aspect of the MSA involved a small percentage of the patients, but at what point does that cross over to a violation? The court did not actually define what a “small percentage” meant. So, at least based on the appellate decision, we do not know the exact definition of “small percentage”.
  3. Even though the Court of Appeals found no violation of Section 650, would the outcome have been the same if an action was brought under the federal anti-kickback statute (“AKS”) (which is a criminal statute)?
  4. While the Court of Appeals was satisfied that the remuneration was essentially “fair market value”, what other proof would be required for a federal AKS action?

Notwithstanding these issues, the decision does provide useful guidance. It reinforces the fact that compensation in California must be “commensurate with the value of the services furnished or with the fair rental value.” This issue goes towards both Section 650 and CPOM. Moreover, the concept of “fair market value” payments is essential for the management services agreement safe harbor under the federal AKS. The decision likewise further buttresses the point that compensation in California can be based on gross revenues (which is not the case in all states, like New York). We now know that a 12.8 percent profit margin will likely be upheld in California. Obviously, a lower profit margin would likely be enforceable as well (these are very fact-intensive issues, so there are no absolutes when it comes to these general rules).

If you are considering opening or acquiring a ketamine clinic in California, Epic Medical is a decision you should know well.

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