Hospitals and other providers who have been tracking Federal Trade Commission (FTC) and Department of Justice Antitrust Division hospital merger challenges over the last several years will want to take note of the federal district court opinion issued earlier this week denying the FTC’s motion for an injunction to prevent 551-bed Penn State Milton S. Hershey Medical Center and the three-campus, 646-bed PinnacleHealth from coming together in Pennsylvania’s midstate region—as well as the FTC’s decision to appeal to the Third Circuit Court of Appeals. The pointed opinion by Judge John E. Jones III of the Middle District of Pennsylvania effectively brings the enforcement agencies’ winning streak to an end for the time being, and pushes back on the framework they have recently used to analyze the competitive effects of hospital transactions. Two other FTC challenges to hospital mergers currently awaiting resolution involve many of the same key issues in the Hershey/Pinnacle case and have also been closely watched by providers contemplating affiliations in the face of a recent string of successful challenges by antitrust enforcers.

In December 2015, the FTC issued an administrative complaint, alleging that the merger of Hershey and Pinnacle would violate the Clayton Act and FTC Act by reducing competition for general acute care services in a putative relevant market around Harrisburg, Pennsylvania. Soon thereafter, the FTC, along with the Attorney General of Pennsylvania, filed a complaint in federal district court and in March moved for a preliminary injunction to block the merger pending the outcome of the administrative proceeding, which was to begin May 17. During a five-day, trial-like hearing, the hospitals and the FTC and Attorney General put on several expert and fact witnesses, with the FTC bearing the burden of demonstrating that it was likely to succeed on the merits of its administrative challenge and that such a challenge is in the public interest.

Holding that the FTC failed to meet this burden, Judge Jones rejected much, if not all, of the evidence and arguments presented by the FTC and noted much that he found compelling in the hospitals’ case:

Relevant Market Definition: Judge Jones found the FTC’s relevant market—general acute care services in the “Harrisburg area,” comprised of four counties—to be overly narrow. He agreed with the hospitals that, based on patient travel patterns, general acute care is not “inherently local,” despite the FTC’s characterization, and that the boundaries of the FTC’s geographic market were “untethered to the commercial realities facing patients and payers,” who could turn to alternative providers in a much broader area.

Post-Merger Pricing Restraints: Judge Jones also found compelling that post-merger, the hospitals would be bound by agreements with commercial payors covering an overwhelming majority (75-80 percent) of commercially insured patients treated by the hospitals. Pursuant to these contracts, which are 5 and 10 years in duration, the payors will be able to maintain current rate structures and the rate differential between the hospitals. In light of these commitments, the Court rejected the FTC’s argument that the merged system could hypothetically raise prices after the expiration of the payor agreements. “[T]he FTC is essentially asking the Court [to] prevent this merger based on a prediction of what might happen to negotiating position and rates in five years. In the rapidly changing arena of healthcare and health insurance, to make such a prediction would be imprudent….”

Procompetitive Aspects of the Merger: Although Judge Jones did not need to consider the parties’ arguments regarding how the merger would benefit consumers by improving the cost and quality of care in the region in the context of considering the competitive effects of the transaction, his opinion did address what he determined to be “several important equitable considerations” in this area. Specifically, Judge Jones found that the merger would alleviate what the hospitals had painted as serious capacity issues at Hershey and would allow the merged system to compete more effectively with large systems that were actively “repositioning” close by in the market to “erode both hospitals’…patient base.” Perhaps most significantly, although the Court agreed with the FTC that each of the hospitals was capable of undertaking cost-containing risk-based contracting going forward as freestanding entities, Judge Jones was persuaded by the testimony of hospital executives that increased scale would enhance these efforts post-merger.

Divestiture: Lastly, Judge Jones was not swayed by the FTC’s contention that an injunction was necessary to prevent the parties from integrating assets in light of the difficulties involved in post-closing divestitures, in the event that the FTC wished to continue its administrative challenge, finding such divestitures to be “by no means unheard of.”

In very direct terms, Judge Jones rejected the FTC’s position on consolidation in the health care industry, reflecting the frustration of many providers who see the agency’s approach to the industry as out of touch with modern regulatory realities:

“This decision further recognizes a growing need for all those involved to adapt to an evolving landscape of healthcare that includes, among other changes, the institution of the Affordable Care Act, fluctuations in Medicare and Medicaid reimbursement, and the adoption of risk-based contracting. Our determination reflects the healthcare world as it is, and not as the FTC wishes it to be. We find it no small irony that the same federal government under which the FTC operates has created a climate that virtually compels institutions to seek alliances such as the hospitals intend here…It is better for the people they treat that such hospitals unite and survive rather than remain divided and wither.”

In response to the decision, and in particular to the Court’s analysis of the relevant geographic market and its assessment of the effectiveness of the rate-limiting agreements with payors, the FTC moved today for an injunction pending appeal, contending that it had made a strong showing on the merits and that the hospitals would not suffer substantial injury if they were prevented from closing pending appeal. The FTC also signaled that it intends to file an application for an emergency injunction pending appeal in the Third Circuit. In deciding to challenge the decision despite past practice, the FTC may also be influenced by any potential effect it might have on the outcome of two other pending hospital merger challenges, FTC v. Cabell Huntington Hospital and FTC v. Advocate Health Care, both of which may resolve in the near future and involve many similar issues, such as market definition, the competitive effects of building scale to take on new payment modalities and population health management, and the significance of parties’ commitments to commercial payers not to raise rates for a period of time post-merger.1

In the meantime, and regardless of these other actions, Judge Jones’s decision is a significant development in the recent history of hospital merger challenges and one that may embolden providers wishing to pursue procompetitive consolidations with the potential to improve quality and reduce the cost of care in their communities in response to health care reform.