On February 25, 2011, the Antitrust Division of the Department of Justice (the “DOJ”) announced the simultaneous filing and settlement of its first major monopolization suit since 1999 in an action against a Texas hospital, United Regional Health Care System (“United Regional”).1 The DOJ’s complaint alleged that United Regional had unlawfully maintained its dominant position in the Wichita Falls hospital market2 in violation of Section 2 of the Sherman Act by withdrawing discounts from health insurers that contract with a competing health care facility. As part of the settlement, United Regional agreed to discontinue such practices.

Assistant Attorney General Varney has been an outspoken critic of the Bush administration’s Section 2 enforcement record,3 and while the Varney-led DOJ has a number of ongoing investigations, this is its first actual challenge. United Regional is notable because it illustrates DOJ’s more expansive view of Section 2 and its commitment to more aggressive enforcement. It is also a reminder that companies with significant market share should carefully consider their pricing policies and consult with counsel, particularly when incentives for exclusivity are involved.

The DOJ Complaint

United Regional is the largest general acute care hospital in the Wichita Falls, Texas region. It is the region’s only provider of certain essential services, such as cardiac surgery, obstetrics, and high-level trauma care. Its share of inpatient hospital services is approximately 90 percent and its share of outpatient surgical services is more than 65 percent. Because United Regional was the only provider of certain essential services, it was a “must-have” hospital for any insurance provider’s network.

According to the complaint, United Regional responded to competition from entrant Kell West Regional and other local health care facilities by imposing price terms in commercial health insurer contracts that effectively secured de facto exclusivity. These included alleged “pricing penalties” (in the form of lost discounts) ranging from 13 percent to 27 percent if an insurer contracted with a competing facility.4 Only one insurer, Blue Cross, refused to make United Regional its exclusive provider.

The DOJ alleged that these pricing provisions foreclosed United Regional’s rivals from contracting with many of the most profitable health insurers, thereby maintaining its monopoly position. This conduct had resulted in higher prices overall and reduced the quality of health care in the Wichita Falls region. The DOJ also asserted that because these provisions made it unprofitable for insurers to forego the exclusivity option, they prevented United Regional’s competitors from expanding and competing more effectively with United Regional.5

To demonstrate the extent to which United Regional’s contracts foreclosed its competitors from the market, the DOJ used the “discount-attribution” test adopted by the Ninth Circuit in Cascade Health Solutions v. PeaceHealth to evaluate challenges to bundled discounting policies.6 Similar to United Regional, PeaceHealth involved a hospital that offered substantial discounts to health insurers on the services for which it was the only provider in the market, provided that these health insurers agreed to use the hospital exclusively for all hospital services. This arrangement allegedly created a strong financial incentive for insurance companies to make the hospital their sole provider and excluded a rival hospital even though it could provide the competitive services at a lower cost.

Under PeaceHealth’s discount-attribution test, a discount would tend to exclude an equally efficient competitor if, after allocating all the discounts for the bundle to the portion of the services for which the defendant faces competition (“competitive services”), the resulting price is below the defendant’s incremental costs for providing those competitive services. In United Regional, however, the DOJ modified the PeaceHealth discount-attribution test and applied the discounts only to the services provided to patients that United Regional would actually be at risk of losing (as opposed to the entire volume of competitive services) if insurers were to choose non-exclusivity (“contestable volume”). The DOJ argued that this modification was necessary because even though rival hospitals offer many of the services that United Regional provides, they do not have the capability to compete for the full volume of those services due to capacity constraints and patients’ habits.

The DOJ estimated that United Regional would lose approximately 10 percent of the patients insured by providers with exclusive contracts if the exclusivity provisions were eliminated.7

Without providing much detail in their papers, the DOJ concluded that applying the discounts to the price of services provided to the contestable volume results in a price below any plausible measure of United Regional’s incremental costs. Therefore, an equally efficient rival hospital would need to offer a price below United Regional’s incremental costs for an insurer to profitably turn down United Regional’s offer of exclusivity.

The Settlement

Pursuant to the settlement, United Regional will be prohibited from (i) conditioning prices or discounts that it offers to commercial health insurers on exclusivity or (ii) preventing insurers from entering into agreements with rivals. Further, it prohibits “conditional volume” or “market share” discounts – discounts on all services provided after an insurer reaches specific volume or percentage thresholds – though it does permit above-cost volume based incremental discounts. Finally, United Regional will be prohibited from using provisions in its contracts that deter insurers from encouraging its members to use in-network providers besides United Regional.8

Implications

United Regional signals DOJ’s expansive view of enforcement under Section 2. This is evidenced by its adoption of the discount-attribution test based on contestable volume, which has yet to be adopted by any court in this context.9 Where the contestable volume accounts for only a small percentage of sales (10 percent in this case), the test could call into question even relatively modest and common discounting practices.10 The case is particularly important for the health care industry – an area of keen interest for the DOJ – because it bears directly on current discounting practices. In light of United Regional and other recent enforcement efforts, it would be prudent for companies with high market share to consider carefully, and consult with antitrust counsel, any pricing or discounting policies that provide incentives for exclusivity or discourage the use of competitive alternatives.