This post explores the potential consequences of the First Circuit’s new falsity test for claims arising under the False Claims Act as set forth in United States ex rel. Hutcheson et al. v. Blackstone Medical, Inc., 2011 WL 2150191 (1st Cir. June 1, 2011) and New York ex rel. Westmoreland et al. v. Amgen, Inc. et al., 2011 WL 2937420 (1st Cir. July 22, 2011) and suggests measures companies may want to consider to minimize FCA exposure.

The new falsity test has potentially negative consequences for all parties to FCA litigation, the courts that preside over FCA disputes, and the government programs at the center of individual FCA cases.

First, the new falsity test places a heavy burden on plaintiffs to identify in the complaint the sources that establish the existence of a material precondition of payment under the relevant government program (which, according to the First Circuit, is “fact-intensive and context specific”). Amgen, at *6. The alleged material precondition of payment asserted by the plaintiffs in the Blackstone and Amgen cases is that Medicare and Medicaid claims must be kickback-free. The plaintiffs had an abundance of sources to support this contention for purposes of surviving a motion to dismiss – including explicit federal and state anti-kickback statutes and provider agreements that specifically referenced AKS compliance as a condition of payment in seven of the eight government programs at issue (specifically, Medicare and the Medicaid programs of New York, Massachusetts, California, Illinois, Indiana, and New Mexico). However, the plaintiffs were not able to establish a claim that could survive the pleading stage for the Georgia Medicaid program. (See Post III) The court dismissed the Georgia Medicaid claims because the relator failed to “identif[y] any materials that make clear that claims affected by kickbacks may violate a precondition of payment under the state’s Medicaid program.” Amgen, at * 10. In doing so, the First Circuit placed a particular emphasis on the fact that Georgia, unlike the other six states involved in the Amgen case, did not have a state anti-kickback statute. Amgen, at *10. Accordingly, it remains to be seen whether future plaintiffs litigating in the First Circuit will be able to meet the pleading burden for asserted preconditions of payment that do not have a well-established body of support in the form of statutes, regulations, provider agreements, and other plan documents, as was the case in the Blackstone and Amgen cases.

Second, for cases that survive the motion to dismiss stage, the new falsity test opens up government programs to broad discovery by turning the focus of the analysis to whether the requirement asserted by the plaintiff is, in fact, a material precondition of payment under the government program in question. Even if government contracts or other plan documents on their face appear to support a plaintiff’s contention that a requirement is a material precondition of payment, defendants will need discovery on the government agency’s actual practices to determine whether this is actually true. Discovery targets would likely include government employees of all levels responsible for administering the program in question, from key decision-makers to administrative personnel. Defense counsel would also likely seek broad document and data discovery from government agencies including, e.g., records indicating the agency’s track record for refusing to pay claims that did not comply with the asserted precondition of payment.

Third, if not strictly construed, the new falsity test may make it more difficult for defendants to achieve Rule 12(b)(6) dismissals in the First Circuit for the class of cases most deserving of this fate. Specifically, the class consists of qui tam actions in which the government has declined to intervene, and amounts to approximately 80% of all qui tam cases. When the government declines intervention, it is typically a sign that the government believes the merits of the relator’s claims are weak, the potential damages are low, or both – a judgment which is supported by statistics released by the federal government. According to these statistics, 94% percent of declined cases are ultimately dismissed (and, anecdotally, many are disposed of at the motion to dismiss stage). For those declined cases that are not dismissed, damages are typically low. According to the same government statistics, total recoveries under the False Claims Act in 2010 were $2.3 billion in cases in which the government intervened compared to $97 million in declined cases. Accordingly, defendants involved in FCA litigation in the First Circuit should consider making an aggressive case at the motion to dismiss stage for a strict application of the First Circuit’s new falsity test and should demand that the plaintiff meet a rigorous pleading burden in demonstrating the existence of a material precondition of payment. This is especially important in the large majority of cases where the asserted preconditions of payment will not likely have a well-established body of support in the form of statutes, regulations, provider agreements, and other plan documents that plaintiffs may rely on in their complaints.

Fourth, the First Circuit’s new falsity test – which undoubtedly is viewed favorably by the relators’ bar – will likely cause a proliferation of new qui tam filings, particularly in the District of Massachusetts (which is already a hotspot for health-care related qui tam filings). Increased qui tam filings will add to the case management burdens on district courts which are already deluged with qui tam actions. Just a few days ago, Carmen Ortiz, the U.S. Attorney for the District of Massachusetts stated that the qui tam cases filed in her district “are voluminous and demand tremendous resources which can create a backlog.” Moreover, if the new falsity test is not strictly construed in future cases, it could potentially have the effect of allowing declined qui tam cases which would have been otherwise dismissed at the pleading stage to survive for much longer on district court dockets. Considering that declined qui tam cases make up about 80% of all FCA cases, and that many of these cases are disposed of at the motion to dismiss stage, this could be a significant administrative burden for district courts.

Fifth, and most troublingly, the First Circuit’s new falsity test, whether strictly construed or not, does not provide defendants with sufficient advance notice as to what types of conduct can give rise to a false claim under the FCA. Defendants need to know what conduct can lead to a false claim so that they (1) may avoid engaging in such conduct and (2) have a means to achieve early dismissal of claims that are not false. This is especially critical considering the potentially devastating consequences of an FCA judgment; consequences which include treble damages, penalties, and exclusion from government programs. Unfortunately, what often happens in FCA litigation (especially in large stakes cases) is that a defendant’s past conduct – which was entirely appropriate under the standards applicable at the time – is later determined to have been “wrong” by government prosecutors and relators who attempt to impose, in hindsight, a different set of standards that was never contemplated at the time the conduct occurred. The traditional legal falsity analysis (although imperfect), with its emphasis on the certifications of compliance provided by defendants, was aimed at providing a set of rules upon which defendants could rely to determine – in advance – what types of conduct could give rise to a false claim. The First Circuit’s new falsity test entirely fails in this regard.

In light of the uncertainty posed by the First Circuit’s Blackstone and Amgen cases (and as a matter of prudent practice generally), there are certain key measures companies may want to consider to minimize potential FCA exposure. First and foremost, companies should implement a robust compliance program (or make enhancements to an existing compliance program) so that there are procedures in place to ensure compliance with federal and state law and regulatory requirements. Compliance programs are industry-dependent; a health care company’s compliance program will look very different from a financial services institution’s program. Moreover, compliance standards are constantly evolving and it is important for companies to stay informed of the most recent expectations for their industry. For companies in the health care industry, recent Corporate Integrity Agreements posted on the Office of the Inspector General for the U.S. Department of Health and Human Services’ website are good sources of information for current industry compliance expectations. Second, companies should perform a legal audit to determine whether their practices meet current industry compliance standards, and if not, take corrective action as necessary. Third, companies should include False Claims Act exposure as part of the due diligence they conduct when considering potential acquisition targets, especially those whose products or services are heavily used or reimbursed by the government. Due diligence should include a review of the government contracts executed by the target, applicable contractual and regulatory obligations, and the target’s compliance with the same.

Our next and final post in this series will discuss why, and how, the U.S. Supreme Court should resolve the circuit split created by the First Circuit’s Blackstone and Amgen decisions.