So You Want to Subcontract?

When CMS published its rules for competitive bidding, the possibility that one supplier could subcontract its services to another supplier in order to provide a collective bid became an unexpectedly attractive opportunity. CMS' subcontracting rules appear to be relatively flexible. They impose only a few barriers, and even fewer hurdles to the subcontracting process.

This flexibility is in marked contrast to the final rules concerning networks, which eliminated most of networks' advantages while maintaining some significant risks. Because subcontracts remain an attractive option for competitive bidding activities, it is important to understand how you can establish safe and profitable subcontracting relationships.

Let's start with the basics. A subcontract is an agreement between two suppliers that establishes an ongoing relationship. Under this relationship, one party (the subcontractor) agrees to help the other party (the contractor) with certain products or services tied to ongoing activities, in order to support the contractor in achieving its goals or fulfilling its obligations.

In the context of competitive bidding, a subcontract is for use by suppliers who wish to get involved in the competitive bidding process but who will need assistance in order to service fully the entire competitive bidding area.

Some of these suppliers may not qualify to form a network because they do not fall under the definition of small supplier (“a company which earns $3.5 million in gross revenues or less”). Other suppliers may prefer a subcontract relationship, regardless, because they wish to maintain more control over their operations than a network would permit; suppliers who become contractors in subcontracting arrangements will have control over their subcontractors.

Follow the Rules

Under the competitive bidding rules, any supplier currently enrolled in the Medicare program is eligible to serve as a subcontractor to a supplier who wins a bid. The competitive bidding rules require that a subcontractor must have “never been excluded from the Medicare program, any state health program or any other government executive branch procurement or non-procurement activity.” A contractor is required in its bid to list all of its subcontractors. Also, the contractor must disclose if any of its subcontractors have been subject to any prior legal actions, sanctions or revocations.

This rule has some interesting implications. There are many legitimate suppliers who, at some point in their history, have had issues with CMS or the National Supplier Clearinghouse that resulted in their being threatened with a supplier number revocation. These suppliers typically have gone through a redetermination or reconsideration process, after which their numbers were reinstated.

However, if there was any timeframe during which the revocation remained in effect, then this competitive bidding rule will be important. If a supplier had its number revoked on April 1, for example, and after a hearing had its supplier number reinstated effective to April 15, then that supplier would have had a two week period during which its number was revoked. Consequently, this fact would have to be disclosed in the bid.

Will these disclosures affect the likelihood of a contractor being chosen for a bid if one of its subcontractors had revocation problems in the past? The answer is uncertain. There are many, many suppliers out there who have been in a fight with the NSC or CMS at some point. There are many temporary revocations that are based on a technical imperfection, and many others on the books simply because there was a time gap in the dispute process that was not fully imposed retroactively by a favorable ruling.

We may reasonably hope that CMS will focus on the reasons and circumstances of a revocation, rather than the mere fact of a revocation, when awarding bids. Otherwise, any supplier that has ever had a revocation problem, even if momentary, may be unattractive as a subcontractor.

CMS will allow a supplier to bid for a particular product category in a particular market while still serving as a subcontractor to another supplier for that same product category in that same market. This may allow some suppliers to achieve a substantial market share by serving both as supplier that wins a bid and as a subcontractor to one or more other winning suppliers.

Market share issues become important under antitrust law, as you will see in the following section.

Follow the Laws

To understand those protections to include in a subcontract arrangement, it is important to understand the laws that govern health care subcontracts generally, and competitive bidding subcontracts in particular. These include state contract laws, federal and state antitrust laws, federal and state antifraud laws, the Medicare supplier standards and certain reimbursement requirements.

State contract laws will likely have something to say about subcontract agreements. Many states have specific rules for how certain provisions must be worded or positioned in a contract. In South Carolina, for example, the existence of an arbitration provision must be noted in bold print on the first page of the contract, even when it is discussed in detail later in the document.

Similarly, states may have specific rules about late fees, how notice requirements should be handled or when one party may hold another party responsible for attorneys' fees. Any subcontract that works off of a template that is not state-specific should be screened by an attorney who is able to identify the rules in the particular state where the relationship will operate.

CMS requires that competitive bidding subcontracts must be compliant with federal and state antitrust law. This is similar to CMS' admonition for networks that “the network cannot be anticompetitive.” Most state antitrust laws mirror the federal antitrust rules substantially, so a rough understanding of how the federal rules work should enable suppliers who are considering subcontracts to appreciate the basic parameters.

Anticompetitive Behavior

One of CMS' concerns is that a subcontract relationship not be anticompetitive by creating a team-up so big as to dominate the local market. The feds have worried about anticompetitive activities with health care collaborations for at least 20 years.

Focusing particularly on competitive bidding, CMS set a rule for networks that limits the allowed market share of any network to no more than 20 percent of the Medicare market share for the relevant product categories in which the network will participate.

Initially, information about a supplier's Medicare revenues will be analyzed largely based on historic information, and the aggregate market information is available from CMS or Palmetto GBA, the Competitive Bidding Implementation Contractor. So, it should be acceptable to use CMS' “20 percent rule” for networks as a general guideline for a subcontracting relationship.

As mentioned earlier, CMS will allow a supplier to bid on multiple product lines in the same market, as well as serve as a subcontractor for one or more suppliers while still pursuing competitive bids itself. Because of this flexibility, it is quite possible that certain suppliers could bring a significant quantity of market share to the subcontract negotiation table.

I would advise any contracting supplier to inquire about all the Medicare relationships a potential subcontractor may have to verify that the aggregate market share of all those relationships is not sufficient to trigger antitrust concerns.

There is another form of anticompetitive behavior that affects subcontracts called “price fixing.” In most cases, price fixing is an automatic violation of federal antitrust law. It is defined as an agreement among companies that has the purpose or effect of raising, depressing or fixing prices. Market share or market power are irrelevant factors in price fixing cases; if you collaborate on prices with a competitor, you break the law.

There is every reason to expect that price fixing rules will apply to competitive bidding subcontracts, despite CMS' current focus only on the “20 percent” rule. Therefore, subcontract relationships must comply with the price fixing safeguards imposed on health care collaborations generally to control the flow of pricing and cost information between the parties.

Typically, this will require that neither party in a subcontracting arrangement share its pricing information with the other party. Rather, the parties should work out a fee for the subcontractor's services in a manner that does not alert either party to any aspect of the other party's charges to Medicare or to any other payer. While I have seen little discussion about this danger to date, I expect it will be a key factor for some subcontracting relationships. Do not share price information!

Antifraud Regs

Subcontracting arrangements must also satisfy all state and federal anti-kickback and antifraud regulations. There has been no discussion of this requirement in CMS' competitive bidding rules for subcontracts. But the antifraud rules are enforced by the Department of Justice and the HHS Office of Inspector General, and CMS has no control over either of these enforcement entities. Therefore, there is every reason to expect that all of the antifraud and anti-abuse rules will apply to competitive bidding subcontracting relationships just as they apply to subcontracting arrangements outside of competitive bidding.

There are two keys to the antifraud rules as they apply to subcontracts. First, none of the fees paid to a subcontractor should be related to referrals from that subcontractor to the contractor. The fee should not vary with the quantity or value of any of the subcontractor's customers who come to the contractor as part of the relationship.

A flat fee for each service, per piece of equipment, per hour or by some other measurement is a far safer financial structure for a subcontract relationship. Patient source should not affect the fee. Similarly, a subcontracting agreement may not require the subcontractor to send patients to the contractor as condition to the relationship.

The second key antifraud protection is to ensure that the subcontract is always demonstratively for a legitimate business purpose. A competitive bidding subcontract, for example, will often be necessary because of geographic issues. Perhaps a contractor cannot service patients cost-effectively in the remote part of a CBA and wishes to subcontract with one or more suppliers in that area to ensure access to those patients under its competitive bidding obligations.

Another appropriate use for a competitive bidding subcontract might be because the contractor requires support from one or more subcontractors, where they have access to or expertise with a certain kind of product. It may be that a certain level of training is required for certain pieces of equipment that the subcontractor's personnel possess but the contractor's do not.

An incremental need for additional personnel may also justify a subcontracting relationship. A company may have more than one reason for having a subcontract, and some may choose more than one option.

The importance of this legitimate business purpose cannot be overstated. It is likely that many suppliers will evaluate a subcontracting opportunity from the perspective of “you give me a subcontract — I will give you my business if I don't get the bid.” That reasoning, from an antifraud perspective, probably would lead to federal scrutiny and trouble.

“Quid pro quo” is not a legitimate reason for a subcontract, and may not have any bearing on the negotiated fees for the subcontract relationship. Fees must be based entirely on fair market value. A fair subcontracting fee may be based on an assessment of the contractor's costs, plus a reasonable profit for the subcontractor. Or, such fees may be based on what are comparable fees for similar subcontract relationships in the area.

In all circumstances, the subcontract fees must be less than what it would cost the contractor to provide the services itself. Otherwise, it is clear that the subcontract is being offered in order to garner referrals or other benefits.

The requirement that there be a legitimate business purpose for the subcontract relationship, as well as the general need to avoid problems under the antifraud rules, limits the quantity of subcontractors a contractor may safely engage.

It is hard to fathom a circumstance in which a contractor would need to have a large quantity of subcontracts in order to compensate for geographic inaccessibility. There just are not that many different remote areas where the contractor is unable to provide services at a reasonable cost. It is similarly hard to imagine a contractor requiring a large quantity of subcontracts for product line support or for incremental personnel needs.

If suppliers in a particular market find a need to have more than a few suppliers band together in a subcontract relationship for purposes of competitive bidding, then they should explore the network option rather than trying to cram too many subcontracts into the competitive bid.

A large quantity of subcontracting relationships will trigger the antifraud rules because they suggest that the primary purpose for the relationship is to allow the subcontractor to get paid for referrals it makes to the contractor.

Your Brother's Keeper

The Medicare supplier standards also affect subcontracting relationships. A contractor will always be responsible for the behavior of its subcontractors when operating under the subcontracting agreement.

This means subcontractors must comply with all of the supplier standards and other rules that affect the contractor in its Medicare obligations, whether under competitive bidding or in general. Insurance requirements, physical office requirements, hours of operation and all of the other supplier standards will still pertain to the subcontractor.

(As an aside, note that a subcontractor does not currently have to be accredited in order to participate in a subcontract relationship for competitive bidding. Of course, the contractor does have to be accredited to participate.)

Finally, the subcontract must be evaluated from the perspective of the Medicare reimbursement requirements. Contractors are ultimately responsible for billing and collecting, for documentation (justification for medical necessity, accurate completion of CMNs and other forms) and for all of the other requirements necessary to be reimbursed for clean claims.

A subcontractor who does not maintain sufficient billing accuracy or sufficient medical records to withstand a Medicare audit may certainly incur some legal obligations to pay damages to the contractor, if their contract allows such damages. However, that will not protect the contractor from Medicare's wrath.

In other words, a contractor must be its “brother's keeper.” A subcontract relationship will only be as strong as the subcontractor's compliance with the rules.

I have created hundreds of health care subcontracts over the years. Many of them fail. Most of these failures occur because the subcontracting parties provide insufficient attention to nurturing the relationship and allowing it to add value for both participants.

But operated correctly, a subcontract is a wonderful tool for expanding your market share and profitability, both with competitive bidding and in general.

Neil B. Caesar is president of the Health Law Center (Neil B. Caesar Law Associates, PA), a national health law practice in Greenville, S.C., focusing on business opportunities and regulatory issues for health care providers. He is also a principal with Caesar Cohen Ltd., which offers compliance training, outsourcing and consulting, and author of the Home Care Compliance Answer Book series. Caesar may be reached by phone at 864/676-9075 or email at ncaesar@healthlawcenter.com.

Materials in this article have been prepared by the Health Law Center for general informational purposes only. This information does not constitute legal advice. You should not act, or refrain from acting, based upon any information in this presentation. Neither our presentation of such information nor your receipt of it creates nor will create an attorney-client relationship.

Contract Suggestions

The rules require a supplier that wishes to pursue a subcontracting arrangement to have in place, prior to its bid, either a subcontract document or a letter of intent indicating the supplier's plan for entering into a subcontract upon winning the bid. So it makes sense to have a smart subcontract document ready to launch as soon as bids are announced. The various legal and reimbursement rules discussed in the accompanying article lead to certain recommendations I would include in any subcontract agreement. Most of the following drafting suggestions would apply to all subcontract relationships, even those outside of competitive bidding:

• The agreement should make clear the legitimate business purposes for which it was created: product line support, personnel support, geographic access support, etc.

• The agreement should specify the services to be provided by the subcontractor (order taking, warehousing, clinical support, product supply, etc.).

• If the subcontractor will be handling any initial customer contact, the agreement should obligate the subcontractor to utilize employees who are trained and experienced with those duties.

• The agreement should make clear that the subcontractor is obligated to comply with the contractor's policies and procedures, including but not limited to standards of personnel qualification, the quality of service to be provided and supplying requested information that the contractor deems necessary to fulfill his obligations.

• If the subcontractor will have significant customer contact, the agreement may want to identify a particular subcontractor representative to supervise operations, such as a branch manager.

• The agreement should obligate the subcontractor to comply with any internal or external audits, as reasonably required by the contractor, or pursuant to a payer demand.

• The agreement should obligate the subcontractor to establish some means of easily identifying employees with customer contact as being representatives of the contractor.

• The agreement should have the subcontractor to warrant that none of its personnel, owners, etc., are subject to any legal actions, sanctions or revocations from the Medicare program or any other government reimbursement program. If there are any such problems, they should be identified and evaluated.

• Many contractors will want their subcontractors to promise not to compete with them, at least for government business. Remember, the competitive bidding rules do allow a subcontractor also to bid as a supplier, even for the same product category and in the same CBA that the subcontract covers. Therefore, a contractor may wish to limit its relationships to those suppliers who promise not to compete for Medicare business.

Similarly, a contractor may want to preclude a subcontractor from competing after the termination of the relationship for some period of time (say, a year or two). This would prevent a subcontractor from “learning the ropes” by observing the contractor during the first contract period and then submitting a competing bid during the renewal process.

• The contractor will want the subcontractor to provide certain information on a regular basis. Examples include a listing of revenues generated, collections received, outstanding receivables by customer and payer source, etc.

• The parties should agree to keep all fees confidential, as well as any other financial information learned during the course of the relationship. The fees should be clearly listed in the agreement, perhaps as part of an exhibit to the document, so that it may be periodically revised. I would not recommend that any fee renegotiations be retroactive, so as to avoid the suggestion that the retroactive fee adjustments are actually disguised rewards for referrals. I would also recommend that fees not be adjusted prospectively too frequently, so as to avoid the suggestion that they reward referrals pursuant to ongoing tracking. Suppliers should consider not changing the subcontracting fee agreement for at least a year.

• The agreement should set forth when fee invoices must be submitted by the subcontractor and when the subcontractor will be paid.

• The agreement should set forth both parties' insurance obligations.

• The parties may want to provide for indemnification against substandard performance. This would obligate one party to indemnify the other party when it provides services under the contract in a substandard manner. Sometimes, this provision requires indemnification for any problems, and sometimes they are limited to negligent performance, reckless performance or intentional malfeasance.

• The agreement should identify its duration. I recommend that any agreement that ends in less than a year should not be renewed in revised form for some period of time. This is to prevent the suspicion that the renewed agreement (with different terms) is a disguised way to reward previous or expected referrals.

• The agreement should make clear when and how it may be terminated. What constitutes a breach of contract should be specified. Also, consider allowing the breaching party to fix the problem within a certain timeframe in order to avoid termination.

• The parties will probably want to keep the terms of the agreement, as well as any information learned during the course of the agreement, confidential from third parties (other than the government, which will have the right to see this material). The scope of the confidentiality requirement and its duration should be clearly specified.

• The agreement may also seek to preclude the parties from stealing each other's personnel, referral sources, etc.

• The agreement may want to provide for fights to be settled by arbitration, mediation or some other form of alternative dispute resolution. If so, be sure to check whether your state requires this type of provision to be worded a particular way or flagged in some manner.