Medtech POV Blog

Managing Your Life Sciences Portfolio: False Claims Act Risk for Private Investors and How AdvaMed Can Help

  1. Christopher L. White General Counsel & Chief Policy Officer

In recent years, private investors – primarily, but not limited to, private equity firms with either majority or minority investment stakes in life sciences portfolio companies – have been subject to increased government enforcement scrutiny under the False Claims Act (FCA).  In particular, whistleblowers and the U.S. Department of Justice (DOJ) increasingly assert claims against private investors relating to alleged fraud and abuse violations performed by their portfolio companies.

“Our enforcement efforts may also include, in appropriate cases, private equity firms that sometimes invest in companies….  When a private equity firm invests in a company in a highly regulated space like health care or the life sciences, the firm should be aware of laws and regulations designed to prevent fraud….  Where a private equity firm knowingly engages in fraud…we will hold it accountable.” 

––Former Principal Deputy Assistant Attorney General, DOJ Civil Division (June 2020)

Although not specific to medtech portfolio companies, at least presently, this enforcement trend is an important one for the medtech industry to follow, especially given the tremendously vital role private investors can play in supporting medtech companies of all sizes and, consequently, promoting the advancement of medtech innovation, patient access to life-saving technologies, and improved health outcomes. 

Given investors’ vital role in medtech, AdvaMed developed tools and resources to help investors and portfolio companies adopt best compliance practices and manage risk.

The Typical FCA Allegation and Fact Pattern That Investors Face

To understand FCA risk for private investors, the following general FCA allegation and fact pattern emerges from the cases: a whistleblower alleges that a private investor…

  1. discovered unlawful activity (related to billing government healthcare programs) performed by a potential life sciences portfolio company during diligence,
  2. nevertheless invested in the company to turn a profit, and,
  3. especially after assuming a position of managerial responsibility or control over the company’s operations following investment, either failed to take steps to stop the unlawful activity from persisting or actively caused the unlawful activity to persist.

Although I will not rehash here the history of the FCA, it is worth noting that three elements must be proven to impose civil liability on defendants:

For private investors, the falsity-specific argument can run the gamut as the alleged unlawful activity (e.g., submitting a false statement or false claim to the government) is mostly contingent on the type of portfolio company at issue. For example, a whistleblower may allege that a portfolio company violated the federal Anti-Kickback Statute (AKS), the Good Manufacturing Practice regulations, the terms and conditions associated with receipt of Provider Relief Funds under the CARES Act, and any other certification made to the government to obtain federal funds. Notably, however, the scienter-specific argument (i.e., that the private investor learned of the alleged unlawful activity during diligence but did nothing to stop it after investing in the company and assuming some level of operational control over same) remains a common refrain.

In short, it can really be boiled down to an equation:

Investor knowledge of unlawful activity
+ investment (whether majority or minority investment stake)
/ control of operations
+ inaction to prevent unlawful activity from continuing
= recipe for FCA enforcement

The Current Government Enforcement Landscape Against Investors

For a better understanding of the current legal landscape, I note below a handful of notable cases and settlements involving government enforcement against private investors of life sciences portfolio companies.

U.S. ex rel. Medrano v. Diabetic Care Rx, LLC (S.D. Fla.)

First time that DOJ extracted a settlement from a private equity firm investing in a portfolio healthcare provider.

In Medrano, the DOJ alleged that the private equity owner of a portfolio compounding pharmacy was liable under the FCA for the pharmacy’s alleged kickback scheme, which involved paid commissions to marketers who paid telemedicine doctors to prescribe the pharmacy’s drug products regardless of patient need or consent. The DOJ argued that the partners of the private equity firm:

  1. had control of the company’s operations when serving as officers and/or directors and
  2. supervised the pharmacy’s CEO during the company’s alleged execution of the kickback scheme. 

This case was settled in September 2019.

U.S. ex rel. Johnson v. Therakos, Inc. (E.D. Pa.)

Example of allegations involving a pharmaceutical and medical device portfolio company.

In Johnson, whistleblowers alleged that the private equity owner of a portfolio pharmaceutical and medical device company was liable under the FCA for continuing the company’s alleged false billings, which resulted from improper sales and off-label promotion practices, after acquisition. The whistleblowers argued that the private investors:

  1. placed significant sales pressure on the company, including incentivizing and enabling aggressive billing practices and
  2. let the fraudulent billing practices continue despite knowledge of them.

The case settled in November 2020.

Alliance Family cases (S.D. Tx.)

Exemplar of how minority investors, similar to majority investors, can be subject to FCA scrutiny.

In the Alliance Family cases, the DOJ alleged that a private equity minority owner of a portfolio medical testing company was liable under the FCA for the company’s allegedly false billings, which resulted from a kickback scheme. The DOJ argued that the minority-stake investor:

  1. learned of the medical testing company’s misconduct during diligence and,
  2. after investing, did not stop the unlawful activity despite having some degree of control over operations by virtue of its holding of a minority of company board seats.

The case was settled in July 2021.

U.S. ex rel. Martino-Fleming v. South Bay Mental Health Center, Inc. (D. Mass.)

At the time, the largest amount a private equity firm had agreed to pay to resolve fraud allegations involving a life sciences portfolio company.

In Martino-Fleming, after intervention, the state of Massachusetts alleged that the private equity owner of a portfolio outpatient mental health provider was liable under the FCA for the provider’s alleged fraudulent billing practices, which resulted from the provision of unlicensed, unqualified, and unsupervised services. The state argued that the private equity firm:

  1. had discovered the issue, including inadequate documentation and poor supervision, during diligence and,
  2. after investment, let the fraudulent conduct persist.

The case was settled in October 2021.

AdvaMed Engagement with and Support of Medtech Investors

AdvaMed recognizes that investment in early stage medtech innovation can be critical in ensuring that patients have access to novel therapeutics and diagnostics. Indeed, even investor perception of risk can chill medtech innovation, and for that reason we’ve long advanced policies to facilitate further investment in medtech. 

AdvaMed tracks the medtech investment landscape and the impact of key trends and policy issues on investors’ perceptions of the industry. We recently worked with Deloitte to publish a report on the medtech innovation and investment ecosystem that speaks to the ongoing challenges to venture investing in medtech. Investors and innovators must address and resolve various risk factors in order to bring a new product to patients, including compliance and enforcement risks.

To help all medtech companies adopt best compliance practices and manage enforcement risk, AdvaMed developed a series of tools tailored to the fraud and abuse risks most common in medical device company arrangements. These tools extend from the newly revised AdvaMed Code of Ethics and include training, sample forms, slides, benchmarking surveys, and more resources available on AdvaMed’s Compliance and Ethics website. In addition, AdvaMed working groups regularly convene to discuss proactive approaches to manage legal risk and adopt best compliance practices. These tools are available for use by investors in this exciting industry.

Practical Tips for Investors

Beyond the tools, I’ve set out below some anecdotal, practical points – which I’ve learned from the subject matter experts in this area – to assist private investors with mitigating exposure to FCA lawsuits:

Learn more about compliance and ethics for the medtech industry.

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