New England Deaconess Hospital v. Sebelius

UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF COLUMBIA
NEW ENGLAND DEACONESS HOSPITAL,
Plaintiff,
v. Civil Action No. 09-1787 (BAH)
KATHLEEN SEBELIUS, Judge Beryl A. Howell
in her official capacity as U.S. Secretary of
Health and Human Services,
Defendant.
MEMORANDUM OPINION
This case concerns whether the plaintiff, New England Deaconess Hospital
(“Deaconess”), a former healthcare provider and participant in the Medicare program, received
appropriate reimbursement from Medicare for the depreciation of assets that it used to treat
Medicare patients. Following the plaintiff’s statutory merger with another healthcare provider,
the plaintiff sought reimbursement from Medicare for what the plaintiff asserted was a loss that it
incurred due to the depreciation of its Medicare assets that was almost $8.5 million dollars more
than what Medicare had originally estimated. After a multi-tiered administrative proceeding, the
defendant Secretary of the U.S. Department of Health and Human Services (“the Secretary”)
denied the plaintiff’s reimbursement claim, which over the course of the claim proceedings grew
to an estimated $15–20 million, concluding that the loss was not allowable because the statutory
merger did not involve an arm’s length transaction between unrelated parties for reasonable
consideration, with each party acting in its own self-interest. The plaintiff challenges the
Secretary’s ruling 1 on the grounds that it was arbitrary, capricious, an abuse of discretion,
1
Although the decision at issue was technically made by the Administrator of the Centers for Medicare and
Medicaid Services, that decision was made “on behalf of the Secretary.” See Whidden Mem’l Hosp. v. Sebelius, 828
1
otherwise not in accordance with law, and unsupported by substantial evidence. 2 Both parties
have moved for summary judgment. 3
I. BACKGROUND
This is an administrative law case, and so the Court will begin by discussing the statutory
and regulatory framework underlying the agency’s decision. The Court will then summarize the
factual circumstances of the plaintiff’s statutory merger and the history of the agency
adjudication at issue before addressing the merits of the plaintiff’s claim.
A. Statutory and Regulatory Framework
1. Medicare Reimbursements Generally
Medicare is a federal program that pays for health care services furnished to eligible
beneficiaries—generally individuals over 65 and individuals with disabilities. See Pl.’s
Statement of Material Facts (“Pl.’s Facts”) ¶ 1, ECF No. 17; see also 42 U.S.C. § 1395c. See
generally CTRS. FOR MEDICARE & MEDICAID SERVS., MEDICARE & YOU (2012), available at
http://www.medicare.gov/pubs/pdf/10050.pdf. The Centers for Medicare and Medicaid Services
(“CMS”), formerly known as the Health Care Financing Administration, 4 is the component of
the Department of Health and Human Services (“HHS”) that administers the Medicare program.
See, e.g., St. Elizabeth’s Med. Ctr. v. Thompson, 396 F.3d 1228, 1230 (D.C. Cir. 2005). The
F. Supp. 2d 218, 222 (D.D.C. 2011). Therefore, the Court will refer to the challenged decision as “the Secretary’s
decision” throughout this Opinion.
2
The Court has jurisdiction over this case pursuant to 42 U.S.C. § 1395oo(f)(1), which provides for federal judicial
review of final agency decisions regarding Medicare reimbursement disputes, pursuant to the provisions of the
Administrative Procedure Act, 5 U.S.C. §§ 701–706.
3
The plaintiff has requested oral argument on the pending motions. See Pl.’s Mot. for Summ. J. at 2, ECF No. 17.
The Court concludes in its discretion, however, that the issues have been amply briefed in both motions and that a
hearing for oral argument is therefore unnecessary. See LCvR 7(f). As a result, the plaintiff’s request for oral
argument is denied.
4
The agency was renamed the CMS in 2001. See Press Release, U.S. Dep’t of Health & Human Servs., The New
Centers for Medicare & Medicaid Services (CMS) (June 14, 2001), available at
http://archive.hhs.gov/news/press/2001pres/20010614a.html. For the purpose of clarity, the Court will refer to the
agency throughout this Opinion as the CMS.
2
CMS reimburses healthcare providers 5 for, among other things, “the reasonable cost” of the
services they provide to Medicare beneficiaries. See 42 U.S.C. § 1395f(b)(1). The Medicare Act
defines “reasonable cost” as “the cost actually incurred, excluding therefrom any part of the
incurred cost found to be unnecessary in the efficient delivery of needed health services, and
shall be determined in accordance with regulations” promulgated by HHS. Id. § 1395x(v)(1)(A).
Providers submit claims (also known as “cost reports”) for reimbursement to a series of
private “Medicare administrative contractors” (also known as “fiscal intermediaries”), who,
among other functions, process claims and reimburse providers on behalf of Medicare. Id.
§ 1395kk-1. If a provider disagrees with a fiscal intermediary’s reimbursement decision, the
provider may appeal the decision to the Provider Reimbursement Review Board (“PRRB”),
which is a five-member body appointed by the Secretary. See id. § 1395oo. At her discretion,
the Secretary may reverse, affirm, or modify any PRRB decision. Id. § 1395oo(f); see also 42
C.F.R. § 405.1875. The Secretary’s decision (or, if the Secretary takes no action, the PRRB’s
decision) constitutes a final agency action, and a provider has the right to challenge such a
decision in federal district court within sixty days of issuance. See 42 U.S.C. § 1395oo(f).
2. Reimbursement for Asset Depreciation
The Medicare regulations state that the program will reimburse a provider for, inter alia,
Medicare’s share of “capital-related costs,” which include the depreciation of any of the
provider’s buildings and equipment that are used to treat beneficiaries. See 42 C.F.R.
§§ 413.130, 413.134(a). The rationale for such reimbursement is that depreciation reflects part
of the “the cost actually incurred” by the provider in treating beneficiaries. See 42 U.S.C.
1395x(v)(1)(A); 42 C.F.R. § 413.5 (outlining principles of reimbursement for “allowable costs,”
5
The Medicare Act defines “provider of services” as “a hospital, critical access hospital, skilled nursing facility,
comprehensive outpatient rehabilitation facility, home health care agency, hospice program, or, for purposes of
[other provisions] of this title, a fund.” See 42 U.S.C. § 1395x(u).
3
including depreciation). To determine how much Medicare reimburses a provider for
depreciation, the depreciating asset’s historical cost—i.e., the cost to the provider of initially
obtaining the asset, see 42 C.F.R. § 413.134(b)(1)— is first pro-rated over the estimated useful
life of the asset. See id. § 413.134(a). 6 Once the asset’s overall estimated annual depreciation is
calculated, Medicare reimburses the provider for the percentage of Medicare’s share of that
estimated annual depreciation, which is equal to the percentage of the asset used that year to treat
beneficiaries. See id. § 413.134(a)(2)–(3); see also St. Luke’s Hosp. v. Sebelius, 611 F.3d 900,
901 (D.C. Cir. 2010) (“[T]he annual reimbursable allowance is equal to the actual cost divided
by the number of years of its useful life and then multiplied by the percentage of the asset’s use
devoted to Medicare services in the given year.”). An asset’s historical cost, less its cumulative
estimated depreciation, is known as its “net book value.” See 42 C.F.R. § 413.134(b)(9).
Annual estimated depreciation (also known as an “allowance for depreciation,” see id.§ 413.134(a)), however, is just that—an estimate. Thus, any reimbursement based on that
estimate is also necessarily an estimate. For this reason, the Medicare Act requires that
“retroactive corrective adjustments” be made where “the aggregate reimbursement produced by
the methods of determining costs proves to be either inadequate or excessive.” See 42 U.S.C.
§ 1395x(v)(1)(A). An estimate “proves to be either inadequate or excessive” when a more
accurate measure of depreciation can be ascertained. As a general matter, a change in ownership
can provide a more accurate measure of depreciation, insofar as the change in ownership reflects
6
This calculation can generally be done through one of three methods: (1) the “straight-line method,” under which
the salvage value of an asset is subtracted from its historical cost, and then that amount is distributed in equal
amounts over the period of the estimated useful life of the asset; (2) the “declining balance method,” under which
the annual depreciation allowance is computed by multiplying the undepreciated cost of the asset each year by a
uniform rate; or (3) the “sum of the years’ digits method,” under which the annual depreciation allowance is
computed by multiplying the depreciable cost basis (i.e., historical cost minus salvage price) by a constantly
decreasing fraction, the numerator of which is the number of years remaining in the useful life of the asset, and the
denominator of which is the sum of the years’ digits of the useful life at the time of acquisition. See 42 C.F.R.
§ 413.134(b)(3)–(5). The method of calculating the annual depreciation allowance is not at issue in this case.
4
the true “fair market value” of the asset. An asset’s fair market value is “the price that the asset
would bring by bona fide bargaining between well-informed buyers and sellers at the date of
acquisition.” See 42 C.F.R. 413.134(b)(2). In other words, fair market value is the price an asset
would sell for in an arm’s length, open-market transaction. Hence, when an asset is sold in such
a market transaction, and the fair market value turns out to be more or less than the net-book
value, a retroactive corrective adjustment is required. If the sales price is less than the estimated
remaining value of the asset, then the annual estimated depreciation payments would have
underestimated the amount of depreciation, and the provider would be entitled to additional
reimbursement to account for Medicare’s share of the decline in the asset’s value. If, however,
the sales price is more than the estimated remaining value of the asset, then Medicare would
have overestimated the asset’s depreciation, and it would recapture the excess depreciation paid
to the provider. See, e.g., Forsyth Mem’l Hosp., Inc. v. Sebelius, 639 F.3d 534, 536 (D.C. Cir.
2011); Pl.’s Mem. in Supp. Mot. for Summ. J. (“Pl.’s Mem.”) at 3 n.4, ECF No. 17. Such
adjustments ensure that only “the cost actually incurred” by a provider is reimbursed—no more,
no less. See 42 U.S.C. 1395x(v)(1)(A).
3. Depreciation Recalculations Involving Mergers
Until 1997, the Medicare Act and its implementing regulations permitted retroactive
corrective adjustments for any gain or loss in depreciation costs realized as a result of a change
in ownership of an asset. See 42 C.F.R. § 413.134(f) (1996). During the 1990s, however,
changes in economic conditions, together with changes in the health care industry, caused sales
and mergers of assets to result in an increasing number of depreciation losses, rather than gains,
which in turn resulted in an increasing financial burden on the Medicare program. See Pl.’s
Facts ¶ 35. See generally OFFICE OF INSPECTOR GEN., U.S. DEP’T OF HEALTH & HUMAN SERVS.,
5
MEDICARE LOSSES ON HOSPITAL SALES (1997), available at
https://www.oig.hhs.gov/oei/reports/oei-03-96-00170.pdf (estimating that Medicare would lose
$512 million in depreciation adjustments for hospitals sold between 1990 and 1996). Due
primarily to this increasing financial burden, Congress amended the Medicare Act to eliminate
the possibility of being reimbursed for gains or losses arising out of a change in ownership. See
Balanced Budget Act of 1997, Pub. L. No. 105-33, § 4404, 111 Stat. 251, 400.
This amendment was only prospective, however, see 111 Stat. at 400, and thus it does not
apply to any changes in ownership that took place prior to December 1, 1997. See 42 C.F.R.
§ 413.134(f)(1). Since the change in ownership at issue in the instant case took place before
December 1, 1997, the pre-1997 regulations regarding depreciation reimbursement for changes
in ownership apply. Those pre-1997 regulations established that, if a Medicare provider merged
with another entity under state law, the surviving entity would be eligible for reimbursement on
any loss (or gain) realized as a result of depreciation of the merged provider’s Medicare assets.
See 42 C.F.R. § 413.134(f), (l)(2) (1996). As the CMS explained when promulgating this
regulation in 1979, in the context of a statutory merger “the merged corporation ceases to exist as
a corporate entity” and thus “there has indeed been a transfer of ownership and a revaluation is
proper.” See Effect of Capital Stock Transactions, 44 Fed. Reg. 6912, 6913 (Feb. 5, 1979).
“Under the depreciation regulation, an asset’s gain or loss is equal to the difference between the
consideration received upon disposition and its ‘net book value’ . . . .” St. Luke’s, 611 F.3d at901–02 (citing Lake Med. Ctr. v. Thompson, 243 F.3d 568, 569 (D.C. Cir. 2001)).
To ensure that only “the cost actually incurred” by a provider is reimbursed, however, the
CMS has interpreted its regulations to require that, before depreciable assets may be revalued
and the resulting losses reimbursed following a statutory merger of non-profit entities, the
6
merger must satisfy certain criteria to ensure that the transaction reflects the true fair-market
value of the assets. In particular, the CMS has interpreted its regulations to require that (1) “the
merger or consolidation must occur between or among parties that are not related as described in
the regulations at 42 CFR 413.17,” and (2) “the transaction must involve one of the events
described in 42 CFR 413.134(f) as triggering a gain or a loss recognition by Medicare.” See
Health Care Fin. Admin., Clarification of the Application of the Regulations at 42 CFR
413.134(l) to Mergers and Consolidations Involving Non-profit Providers, Program
Memorandum A-00-76 (“PM A-00-76”), at 2 (Oct. 19, 2000) (reissued as PM A-01-96); see also
42 C.F.R. § 413.134(f) (providing for reimbursement in the event of “sale, scrapping, trade-in,
exchange, demolition, abandonment, condemnation, fire, theft, or other casualty”).
As to the second requirement, the CMS’s guidance explains that, typically, the event
described in 42 C.F.R. § 413.134(f) that takes place in a non-profit merger or consolidation is a
“bona fide sale, as defined in the [Provider Reimbursement Manual] at § 104.24, because a
merger or consolidation could, but usually does not, involve a scrapping, demolition,
abandonment, or involuntary conversion.” See PM-A-00-76 at 2; see also id. at 3
(“Notwithstanding the treatment of the transaction for financial accounting purposes, no gain or
loss may be recognized for Medicare payment purposes unless the transfer of the assets resulted
from a bona fide sale as required by regulation 413.134(f) and as defined in the PRM at
§ 104.24.”). The Provider Reimbursement Manual, in turn, states that “[a] bona fide sale
contemplates an arm’s length transaction between a willing and well-informed buyer and seller,
neither being under coercion, for reasonable consideration. An arm’s length transaction is a
transaction negotiated by unrelated parties, each acting in its own self interest.” See CMS,
Provider Reimbursement Manual (“PRM”) § 104.24. Consistent with this definition, in
7
evaluating whether a bona fide sale has occurred, the CMS’s guidance states that “a comparison
of the sales price with the fair market value of the assets is a required aspect,” and “reasonable
consideration is a required element.” See PM A-00-76, at 3. With regard to “reasonable
consideration,” the guidance provides that “a large disparity between the sales price
(consideration) and the fair market value of the assets sold indicates the lack of a bona fide sale.”
Id. Finally, the guidance states that “a review of the allocation of the sales price among the
assets is appropriate,” and “[i]f a minimal or no portion of the sales price is allocated to the fixed
(including the depreciable) assets a bona fide sale of those assets has not occurred.” Id. at 4.
B. Factual and Procedural Background
In 1996, Deaconess was a 385-bed non-profit, tertiary care surgical teaching hospital
affiliated with Harvard Medical School and located in Boston, Massachusetts. Admin. Record
(“A.R.”) at 21, 26 n.34, ECF No. 12. 7 Deaconess was a referral hospital that specialized in the
treatment of vascular diseases, but it did not offer any pediatric, gynecological, obstetric, or
primary care services. See id. at 1404. As the health-care market changed in the 1980s and early
1990s, and “managed care” became the norm, specialty referral hospitals like Deaconess began
to suffer financially because they did not have sufficient patient flow to maintain adequate
operating revenues. See id. at 1404–05. Additionally, Deaconess in particular was suffering
financially because its buildings (primarily constructed in the 1950s through 1970s) were aging,
and it had considerable debt. Id. at 58–59. As a result, by the early 1990s, it had become clear
that if Deaconess did not find another healthcare provider with which to form some type of
alliance or merger, Deaconess would go out of business within a matter of a few years. See id. at
58, 1237–39.
7
Since the Administrative Record in this case is quite voluminous, comprising nearly 6000 pages, it was filed with
the Court on a CD, and it is on file with the Clerk of this Court. See Notice of Filing of Administrative Record, ECF
No. 12.
8
That is where Beth Israel Hospital Association (“Beth Israel”) came into the picture. 8
Beth Israel was a teaching and research hospital that, unlike Deaconess, had a large base of
primary care patients and offered a wide range of health care services. See A.R. at 1243. Beth
Israel, like Deaconess, was affiliated with Harvard Medical School and, in fact, was located
across the street from Deaconess. See id. Deaconess and Beth Israel consummated a statutory
merger on October 1, 1996, at which point Deaconess ceased to exist. Id. at 21. 9 As a result of
the merger, Beth Israel changed its name to Beth Israel Deaconess Medical Center, Inc.
(“BIDMC”). Id. Under the relevant terms of the merger agreement, BIDMC assumed all of
Deaconess’s liabilities, totaling approximately $251 million, in consideration for BIDMC
acquiring all of Deaconess’s assets, with a net-book value of approximately $355 million. 10 See
id. at 24. Approximately $212 million of Deaconess’s assets were depreciable assets and land
(i.e., “fixed” assets), and the remaining $143 million consisted of current monetary assets
8
In 1994, prior to entering into merger negotiations with Beth Israel, which culminated in the merger on October 1,
1996, Deaconess had approached another teaching hospital in Boston called New England Medical Center
(“NEMC”) regarding a possible merger. See id. at 1240–41. After six months of negotiations, however, the talks
collapsed in the summer of 1995. Id. at 1241–42; see also id. at 2273 (Boston Globe reporting that the negotiations
“appeared to die of a thousand cuts” due to “a slew of hurdles”).
9
The Secretary of the Commonwealth of Massachusetts issued a Certificate of Merger on October 1, 1996,
certifying the filing of the Articles of Merger. See A.R. at 2010; see also MASS. GEN. LAWS ch. 180, § 10. The
plaintiff misleadingly states that the Massachusetts Attorney General “approv[ed] of the transaction.” See Pl.’s
Facts ¶ 85; Pl.’s Mem. at 7. There is no evidence in the record that the Massachusetts Attorney General ever
formally approved of the Deaconess-Beth Israel merger. The document cited by the plaintiff in the Administrative
Record for its statement regarding the Massachusetts Attorney General’s action appears to be an informal guidance
document authored by a Massachusetts Assistant Attorney General. This document states that non-profit mergers
(i.e., mergers involving “public charities”) under Massachusetts law only require notice to the Attorney General “if a
particular merger will lead to a material change in how pre-existing assets are applied.” See A.R. at 3089; see also
MASS. GEN. LAWS ch. 180 § 8A (requiring “[a] corporation constituting a public charity” to give prior notice of any
“sale, lease, exchange or other disposition” of corporate assets to Attorney General “if that sale, lease, exchange or
other disposition involves or will result in a material change in the nature of the activities conducted by the
corporation”). Indeed, the guidance document further states that “the routine [non-profit merger or consolidation]
does not require Attorney General involvement” and “[t]he statutory process for this type of structural change is
self-executing.” See A.R. at 3089–90. Thus, there is no support for the plaintiff’s assertion that the Massachusetts
Attorney General “considered the relationship of the parties and the arm’s length nature of their dealings.” See Pl.’s
Mem. at 7, 54.
10
There is a dispute between the parties regarding the value of Deaconess’s assets, to which the Court will return
below.
9
(including cash and cash equivalents). Id. For accounting purposes, BIDMC treated
Deaconess’s assets as a “pooling of interests,” rather than combining them via the “purchase
method.” See id. at 18, 25. This essentially meant that BIDMC used the net-book value of the
assets on its balance sheet, rather than trying to revalue the assets at their fair-market value. Id.
Additionally, neither party to the merger sought an appraisal of Deaconess’s assets prior to the
consummation of the merger, see id. at 1427, and at no time did Deaconess ever attempt to sell
its assets, see id. at 22.
Following the merger, Deaconess filed a terminating cost report with its Medicare fiscal
intermediary in April 1997. See, e.g., A.R. at 1425–26. In that initial cost report, Deaconess did
not claim any loss as a result of the merger. Id. at 1425. 11 On August 31, 1998, however,
Deaconess filed an amended terminating cost report, claiming an approximately $8.37 million
loss as a result of the merger. See id. at 854 ¶ 6. On September 29, 1998, Deaconess’s fiscal
intermediary, Associated Hospital Service of Maine, issued a Notice of Program Reimbursement
(“NPR”) disallowing Deaconess’s claimed loss. See id. at 854 ¶ 6, 5919.
On March 25, 1999, Deaconess timely appealed the fiscal intermediary’s decision to the
PRRB. Id. at 5919, 5921. The hearing before the PRRB was initially set for May 2001, see id.
at 5918, but for reasons not fully explained in the Administrative Record, Deaconess’s hearing
before the PRRB did not take place until almost six years later, on February 28 and March 1,
2007, see id. at 1379–482. By that time, Deaconess had engaged a valuation firm called CBIZ
Valuation, Inc. (“CBIZ”) to perform a retrospective appraisal of the fair-market value of
Deaconess’s depreciable assets at the time of the merger. See id. at 1876; see also id. at 148–839
11
The reason for Deaconess’s failure to claim a loss on its initial terminating cost report is unclear. When asked in
the PRRB hearing why no loss was reported, the Director of Reimbursement and Revenue Analysis for BIDMC
testified that he did not know why no loss was claimed, stating “we just didn’t address it.” See A.R. at 1421, 1425.
In its statement of facts, the plaintiff claims that it “was unaware of the loss.” See Pl.’s Facts ¶ 117.
10
(text of the appraisal). CBIZ completed this appraisal in February 2007, and the appraisal
estimated that, as of October 1, 1996, Deaconess’s depreciable assets (i.e., lands, buildings, site
improvements, furniture, fixtures, and equipment) had a fair-market value of $178,250,000, see
id. at 150, which was approximately $34 million less than the net-book value of those assets at
the time of the merger. In light of this retrospective appraisal, Deaconess once again changed the
amount of the loss it was claiming. This time, Deaconess claimed that it had suffered a loss of
either $15.5 million or $19 million, depending upon the method of calculation. See id. at 1878. 12
On May 29, 2009, PRRB reversed the fiscal intermediary’s decision, concluding that “[t]he
Intermediary’s adjustment disallowing [Deaconess]’s claimed loss . . . was contrary to the
regulatory requirements of 42 C.F.R. § 413.134(l)(2)(i)” and “[t]he allocation of the
consideration to the merged assets should be performed based on [Deaconess]’s submitted
appraisal using the pro-rata method discussed at 42 C.F.R. § 413.134(f)(2)(iv).” See id. at 60.
This would result in a reimbursement of approximately $15.5 million. See, e.g., id. at 1878.
On June 12, 2009, the Administrator of the CMS, on behalf of the Secretary, notified
Deaconess and the fiscal intermediary that, on her own motion, the Administrator would be
reviewing the PRRB’s decision to reverse the fiscal intermediary. See id. at 38–39. On July 24,
2009, the Administrator of the CMS issued a decision reversing the PRRB. See id. at 2–28. The
Administrator’s reversal was based on two independent conclusions: (1) “[Deaconess] failed to
show that there was a bona fide sale of its depreciable assets,” and (2) “there was a continuity of
control that resulted in the parties to the merger being related.” See id. at 22, 25.
12
After the two-day hearing, and following the submission of post-hearing briefs and exhibits, Deaconess filed a
motion with the PRRB to reopen the administrative record “to correct an error in the calculation of the Provider’s
depreciable loss” under one of the two methods of calculation. See id. at 63. According to Deaconess’s motion,
under one of the methods of calculation, the loss should have been $20.8 million, rather than $19 million. See id. at
65. The Administrative Record indicates that the fiscal intermediary consented to the motion. See id. at 63.
11
In support of her conclusion regarding the absence of a bona fide sale, the Administrator
made several findings. First, she found that “the history of [Deaconess]’s merger attempts does
not reflect upon the value of its depreciable assets as such attempts were driven by matters other
than sale price.” Id. at 23. In this regard, the Administrator stated that Deaconess “was
apparently not concerned about assessing whether the transaction was a ‘fair exchange,” but was
instead “focused on transitioning its debts and assets to [Beth Israel] for sheer ‘survivability’ and
to enable its organization to continue operations under a new name and company umbrella.” Id.Second, the Administrator found that “[t]he absence of a calculation and determination of the
value of [Deaconess]’s assets by [Deaconess] before commencement of the transaction, to ensure
that such assets were transferred to [Beth Israel] in a fair exchange is a strong indication that
[Deaconess] was not concerned with receiving reasonable consideration.” Id. at 24. Third, the
Administrator found that, based on the net-book value of Deaconess’s land and depreciable
assets ($212 million), “[Deaconess]’s depreciable assets were transferred for approximately 50
percent of their net book value,” and “[t]his significant difference between the ‘sale’ price and
the only contemporaneously determined valuation of the depreciable assets does not constitute
reasonable consideration.” Id. Furthermore, the Administrator stated that “[e]ven if one were to
adopt [Deaconess]’s appraisal, conducted ten years after the transaction, as the best measure of
the fair market value of [Deaconess]’s assets, the approximately $178,000,000 of depreciable
assets and land were transferred for $108,000,000 or approximately 60 percent of the alleged fair
market value.” Id. at 24 n. 29.
On September 21 2009, Deaconess filed its Complaint in the instant case, challenging the
Secretary’s decision. 13 See Compl., ECF No. 1. The Complaint alleges a single cause of action,
13
This case was reassigned to the current presiding judge on January 20, 2011.
12
pursuant to 42 U.S.C. § 1395oo, claiming that “the Secretary’s denial of payment for Medicare’s
share of Deaconess’s depreciation loss resulting from the statutory merger was arbitrary,
capricious, an abuse of discretion, otherwise not in accordance with law, and unsupported by
substantial evidence.” Id. ¶ 73. The plaintiff therefore seeks reversal of the Secretary’s decision,
a declaration that the plaintiff is entitled to reimbursement, and an award of the plaintiff’s
depreciation loss, prejudgment interest, attorney’s fees, and costs. See id. at 22–23. This action
was stayed pending the D.C. Circuit’s decision in St. Luke’s Hospital v. Sebelius, No. 09-5352
(D.C. Cir. filed Oct. 20, 2009), because that decision “[would] impact issues of law raised in this
proceeding.” See Joint Mot. to Stay Proceedings at 1, ECF No. 13; Minute Order dated Feb. 12,
2010 (granting motion to stay). Following the St. Luke’s decision, the stay was lifted, and the
parties each filed cross-motions for summary judgment, which are now pending before the
Court. For the reasons discussed below, the Court denies the plaintiff’s motion for summary
judgment and grants the defendant’s cross-motion for summary judgment.
II. LEGAL STANDARD
“Review of CMS’s decision is governed by 42 U.S.C. § 1395oo(f)(1), which incorporates
the Administrative Procedure Act, 5 U.S.C. § 706.” Cent. Iowa Hosp. Corp. v. Sebelius, 762 F.
Supp. 2d 49, 53–54 (D.D.C. 2011). Accordingly, the scope of the Court’s review is limited. The
Court may not disturb the CMS’s decision unless it is “unsupported by substantial evidence” or
“arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law.” See 5
U.S.C. § 706. In deciding whether an agency’s decision was “arbitrary, capricious, an abuse of
discretion, or otherwise not in accordance with law,” the Court “must consider whether the
decision was based on a consideration of the relevant factors and whether there has been a clear
error of judgment.” Citizens to Preserve Overton Park, Inc. v. Volpe, 401 U.S. 402, 416 (1971).
13
“The scope of review under the ‘arbitrary and capricious’ standard is narrow and a court is not to
substitute its judgment for that of the agency.” Motor Vehicle Mfrs. Ass’n v. State Farm Mut.
Auto. Ins. Co., 463 U.S. 29, 43 (1983); see also Sentara-Hampton Gen. Hosp. v. Sullivan, 980
F.2d 749, 755 (D.C. Cir. 1992) (“[E]ven if . . . other policies might better further the [agency’s]
stated objectives, we are compelled to accept the policies and rules adopted by the [agency] so
long as they have a rational basis, are reasonably interpreted, and are consistent with the
underlying statute.”). “[A] reviewing court may not set aside an agency [decision] that is
rational, based on consideration of the relevant factors, and within the scope of the authority
delegated to the agency by the statute,” so long as the agency has “examine[d] the relevant data
and articulate[d] a satisfactory explanation for its action including a ‘rational connection between
the facts found and the choice made.’” State Farm, 463 U.S. at 42–43 (quoting Burlington Truck
Lines, Inc. v. United States, 371 U.S. 156, 168 (1962)).
Although the “substantial evidence” inquiry is a “subset” of the arbitrary and capricious
standard, see Sithe/Independence Power Partners, L.P. v. FERC, 285 F.3d 1, 5 n.2 (D.C. Cir.
2002), it specifically “concerns support in the record for the agency action under review,” see
Mem’l Hosp./Adair Cnty. Health Ctr., Inc. v. Bowen, 829 F.2d 111, 117 (D.C. Cir. 1987).
“Substantial evidence ‘is such relevant evidence as a reasonable mind might accept as adequate
to support a conclusion.’” Dickson v. Nat’l Transp. Safety Bd., 639 F.3d 539, 542 (D.C. Cir.
2011) (quoting Chritton v. Nat’l Transp. Safety Bd., 888 F.2d 854, 856 (D.C. Cir. 1989)); accord
Dickinson v. Zurko, 527 U.S. 150, 162 (1999) (citing Consol. Edison Co. v. NLRB, 305 U.S. 197,
229 (1938)). “Under the substantial evidence test, the court must determine whether the agency
could fairly and reasonably find the facts as it did.” Chritton, 888 F.2d at 856 (internal quotation
marks omitted). “Thus, a conclusion may be supported by substantial evidence even though a
14
plausible alternative interpretation of the evidence would support a contrary view.” Id. (internal
quotation marks omitted); accord Am. Textile Mfrs. Inst. v. Donovan, 452 U.S. 490, 523 (1981)
(“[T]he possibility of drawing two inconsistent conclusions from the evidence does not prevent
an administrative agency’s finding from being supported by substantial evidence.”). As a result,
this Court may “reverse an agency’s decision [for lack of substantial evidence] only when the
record is so compelling that no reasonable factfinder could fail to find to the contrary.” Orion
Reserves Ltd. P’ship v. Salazar, 553 F.3d 697, 704 (D.C. Cir. 2009) (internal quotation marks
omitted).
III. DISCUSSION
At the outset, the Court notes that the plaintiff contends at length that the Secretary’s
interpretation of the Medicare regulations, and in particular the Secretary’s interpretation that the
Medicare depreciation reimbursement regulations require a statutory merger to satisfy bona fide
sale requirements, is invalid. See Pl.’s Mem. at 27–52; see also supra Part I.A.3 (describing
bona fide sale requirements). The D.C. Circuit, however, has repeatedly upheld the Secretary’s
interpretation of the Medicare depreciation reimbursement regulations. See St. Luke’s, 611 F.3d
at 906 (“[W]e uphold the Secretary’s interpretation of 42 C.F.R. § 413.134(f) and (l),
memorialized in PM A-00-76, because it is not plainly erroneous or inconsistent with the
regulation.” (internal quotation marks omitted)); accord Cent. Iowa Hosp. Corp. v. Sebelius, 466
F. App’x 6 (D.C. Cir. 2012); Forsyth, 639 F.3d at 537 (“We have previously upheld PM A-00-
76’s interpretation of subsection (l): A statutory merger will not give rise to a reimbursable loss
unless the merger constitutes a bona fide sale and ‘reasonable consideration is a required element
of a bona fide sale.’” (quoting St. Luke’s, 611 F.3d at 903–06)). The plaintiff acknowledges, as it
must, that the D.C. Circuit’s holding “that a statutory merger must satisfy bona fide sale criteria
15
defined by Secretary, is binding upon this Court.” Pl.’s Mem. at 2. Hence, the plaintiff makes
clear that it only challenges the Secretary’s interpretation in its briefing to “preserv[e] these
arguments for appeal.” Id.Since the Court is bound by the holding in St. Luke’s, the Court need only assess whether
the Secretary’s determination—that the merger at issue did not satisfy the bona fide sale
requirements—was unsupported by substantial evidence or otherwise arbitrary and capricious.
As the Circuit has made clear, “the Administrator’s finding that [a provider] did not exchange
reasonable consideration [is] an independent and sufficient ground for refusing [the plaintiff’s]
requested reimbursement.” Forsyth, 639 F.3d at 539. Thus, the Court will first discuss whether
the Secretary’s determination regarding the lack of “reasonable consideration” was unsupported
by substantial evidence or otherwise arbitrary and capricious.
Before discussing the plaintiff’s arguments, the Court must clarify certain definitional
aspects of the merger at issue in this case, as they relate to the concept of “reasonable
consideration.” It is uncontested that the lump-sum sales price for all of Deaconess’s assets was
the assumption by Beth Israel of Deaconess’s outstanding liabilities. See, e.g., Pl.’s Mem. at 48–
49 (“[I]n a non-profit merger, the purchase price is fixed at the amount of liabilities assumed by
the surviving entity on the date of the merger.”); Def.’s Cross-Mot. for Summ. J. & Opp’n to
Pl.’s Mot. for Summ. J. (“Def.’s Opp’n”) at 12, ECF No. 19. It is also uncontested that the
amount of those liabilities was approximately $251 million. See Pl.’s Facts ¶ 127; Def.’s Opp’n
at 1. Thus, the two main issues regarding “reasonable consideration” that appear to be contested
are: (1) what the proper method is for allocating the sales prices across the assets to determine
the discrete sales price of the depreciable assets; and (2) what the proper measure is for the fair-
market value of the plaintiff’s depreciable assets. These definitional issues are important
16
because, as discussed above, the reasonableness of the consideration received for a given asset is
determined primarily by comparing the asset’s sales price (i.e., the monetary consideration
received for the asset) with its fair market value. See, e.g., St. Luke’s, 611 F.3d at 903–04 (“[A]
large disparity between the sales price (consideration) and the fair market value of the assets sold
indicates the lack of a bona fide sale.” (quoting PM A-00-76, at 3)).
As to the first issue, the plaintiff has taken conflicting positions. First, the plaintiff argues
in its reply brief that the Secretary erred “by insisting that the purchase price should have first
been allocated to monetary assets on a dollar-for-dollar basis, with the remainder allocated to
fixed assets, including land and depreciable assets, on a proportional basis.” See Pl.’s Reply in
Supp. Mot. for Summ. J. & Opp’n to Def.’s Cross-Mot. for Summ. J. (“Pl.’s Reply”) at 31, ECF
No. 21. This method is known alternatively as the “cost approach,” the “pro rata method,” or the
“APB-16 methodology.” 14 See id. at 32 n.41; A.R. at 60; PM A-00-76, at 3–4. Despite the fact
that the plaintiff takes issue with this methodology in its reply brief, the plaintiff explicitly
endorsed this methodology in its opening brief, stating that it “is the most appropriate method to
use,” Pl.’s Mem. at 59 n.143, and that “it makes sense to use the method of calculating loss
commonly called ‘APB-16,’” Pl.’s Facts ¶ 122. The plaintiff attempts to brush aside this
inconsistency, stating without explanation or citation to any authority that, while the cost
approach is appropriate “for calculating losses, it is not the determinative methodology for
determining whether the consideration received was reasonable.” See Pl.’s Reply at 32 n.41
(emphasis in original).
14
The term “APB-16” is “drawn from Accounting Principles Board Opinion 16, which has been endorsed in
Medicare’s publications.” See Pl.’s Mem. at 59 n.143. As the defendant explains, the rationale behind this
methodology is that “[b]y virtue of current assets, cash and cash equivalents, being just that—current—their stated
value is their fair market value.” See Def.’s Reply in Supp. Cross-Mot. for Summ. J. (“Def.’s Reply”) at 10, ECF
No. 25 (emphasis in original). Thus, under this methodology, the sales price is first allocated to current (or
monetary) assets on a dollar-for-dollar basis, leaving the remainder of the sales price to be allocated across the fixed
(including depreciable) assets on a pro-rata basis.
17
Even if the plaintiff’s proposed distinction had any merit, which it does not, 15 the
plaintiff’s argument is foreclosed by PM A-00-76, which clearly states that “the cost approach is
the only methodology that produces a discrete indication of the value for the individual assets of
the business, and thus, is the approach that is used to allocate a lump sum sales price among the
assets sold.” See PM A-00-76, at 3–4 (citing 42 C.F.R. § 413.134(f)(2)(iv)); see also id. at 4(“[I]n analyzing whether a bona fide sale has occurred, a review of the allocation of the sales
price among the assets sold is appropriate.”). The D.C. Circuit has explicitly upheld “the
Secretary’s interpretation of 42 C.F.R. § 413.134(f) and (l), memorialized in PM A-00-76.” St.
Luke’s, 611 F.3d at 906. Thus, in line with the holding in St. Luke’s, the Court holds that it was
reasonable for the Secretary to use the cost approach in determining what portion of the sales
price was to be allocated to the plaintiff’s depreciable assets in deciding whether the plaintiff
received “reasonable consideration” for those assets. As to the second issue regarding whether
the net-book value or the appraised value is the appropriate measure of fair-market value, the
Court need not decide this question because, as discussed further below, the Secretary analyzed
the reasonableness of the consideration received for the plaintiff’s depreciable assets using both
measures. See A.R. at 24 & n.29.
With these definitional matters resolved, the Court now turns to the plaintiff’s arguments
regarding reasonable consideration. Generally, the plaintiff argues that “the Secretary’s finding
of a lack of reasonable consideration is arbitrary and capricious and not supported by substantial
evidence.” Pl.’s Mem. at 55. In this regard, the plaintiff contends that “[i]n contrast to the ‘large
disparity’ at issue in . . . St. Luke’s, there is a comparably small difference between the sales
15
It would make little sense to calculate the loss on depreciable assets using the cost approach, but then use some
other methodology to determine the sales price of those same assets for the purpose of evaluating reasonable
consideration. Indeed, the loss taken on depreciable assets is part and parcel to the sales price allocated to those
assets because the loss on a given asset is simply the net-book value minus the sales price. See, e.g., St. Luke’s, 611
F.3d at 901–02.
18
price and the fair market value of the assets in the Deaconess merger.” Id. Indeed, the plaintiff
argues that the difference between the sales price and fair-market value of its assets “becomes
extremely minimal in light of the fact that Deaconess’s difficult financial position meant that
hardly any of its assets were cash, and in light of the context and risks of the merger, as
evidenced in the record.” Id. The plaintiff elaborates on these latter arguments, contending first
that the correct measure of the fair-market value of its assets is the 2007 CBIZ retrospective
appraisal, rather than the net-book value. See id. at 55 n.134. Based on that appraisal, the
plaintiff argues that “the sales price was over 78% of the fair market value of” Deaconess’s
assets. Id. at 55 (emphasis omitted) (citing A.R. at 3159). 16 The plaintiff also contends that its
own appraisal, which it relies on to make its other arguments, was flawed because “substantial
risks further decreased the value of Deaconess’s assets.” Id. at 58. According to the plaintiff,
such risks included “risks related to the costs of integration, risks that the expected increased
revenues would not materialize, risks associated with bearing Deaconess’s operating costs, risks
of worsened bond ratings, and risks that cost savings would not be realized.” Id.
None of these arguments demonstrates that the Secretary’s decision was unsupported by
substantial evidence or otherwise arbitrary and capricious. First, although the plaintiff contends
that “the sales price was over 78% of the fair market value of” Deaconess’s assets, id. at 55
(emphasis omitted), that calculation does not use the cost approach. Rather, it allocates the
lump-sum sales price across all assets equally. Assuming arguendo that the 2007 CBIZ
retrospective appraisal is the appropriate measure of fair-market value, the plaintiff’s depreciable
assets had a fair-market value of approximately $178,250,000. See A.R. at 150. The CBIZ
appraisal, however, did not purport to estimate the fair-market value of the plaintiff’s monetary
16
The plaintiff arrives at this figure by dividing the sales price for the entire enterprise, $251,374,000 by the total
fair-market value of Deaconess’s assets, $321,378,000 (i.e., net-book value of monetary assets plus appraised value
of fixed assets). See Pl.’s Mem. at 55 n.134.
19
assets (including cash and cash equivalents), whose fair-market value the parties agree was
approximately $143 million. See id. at 24; Pl.’s Facts ¶ 126. Using the cost approach, the first
$143 million of the $251 million sales price is allocated on a dollar-for-dollar basis to the
monetary assets, leaving $108 million to be allocated to the fixed (including depreciable) assets.
Thus, comparing the sales price of the depreciable assets ($108,000,000) against the appraised
fair-market value of those assets ($178,250,000), the plaintiff only received approximately 61
cents on the dollar for its depreciable assets, not 78 cents on the dollar as the plaintiff contends.
Although this disparity is not as large as that encountered in some cases, see, e.g., Forsyth, 639
F.3d at 538 (30 cents on the dollar for depreciable assets), other courts have found that even
smaller disparities were sufficiently large to uphold the Secretary’s determination that reasonable
consideration had not been received, see, e.g., Whidden Mem’l Hosp. v. Sebelius, 828 F. Supp.
2d 218, 227 (D.D.C. 2011) (“The Administrator did not act arbitrarily or capriciously in finding
that 70% of the fair market value did not constitute reasonable consideration.”); Jeanes Hosp. v.
Sebelius, 747 F. Supp. 2d 416, 425 (E.D. Pa. 2010) (upholding “the Administrator’s
determination that one would not expect a party earnestly negotiating in its own self-interest to
agree to” an exchange “amount[ing] to approximately eighty-one (81) cents on the dollar”),
aff’d, 448 F. App’x 202 (3d Cir. 2011). The Court likewise concludes that the Secretary’s
conclusion that 60 cents on the dollar was not reasonable consideration was reasonable and
supported by substantial evidence.
Additionally, although the plaintiff contends that “substantial risks further decreased the
value of Deaconess’s assets,” Pl.’s Mem. at 58, the plaintiff “has provided no evidence as to how
the Administrator ought to have discounted these assets,” see Whidden, 828 F. Supp. 2d at 227
(emphasis in original). The closest the plaintiff comes to doing so is by pointing to a $71 million
20
operating loss suffered by BIDMC in 1998 and a $69 million operating loss in 1999. See Pl.’s
Mem. at 58; A.R. at 1929. Yet, the plaintiff does not explain how the Administrator (or this
Court) is to translate a general operating loss into a discount on the value of a specific class of
assets. Indeed, the plaintiff admitted in its final position paper submitted to the PRRB that “[i]t
is true that Medicare chooses not to consider these forms of value for allocation purposes
(perhaps given the difficulty of quantifying some of these risks).” See A.R. at 1929. “The
burden of proof to show that a bona fide sale occurred rest[s] on [the claimant of the loss].”
Forsyth, 639 F.3d at 539 (citing 42 U.S.C. § 1395g(a)). Since the plaintiff did not (and has not)
put forth any evidence regarding how the Administrator should have discounted the plaintiff’s
depreciable assets in light of “substantial risks” surrounding the merger, the Court concludes that
the Secretary’s choice not to consider or apply such a discount was reasonable.
The plaintiff also puts forth other arguments challenging the Secretary’s conclusion
regarding “reasonable consideration.” For example, the plaintiff contends that “the true value of
the Deaconess assets was less than the appraised amount,” primarily because “the vast majority
of the assets were not cash or cash equivalents that Deaconess had available for immediate use”
and “Deaconess’s cash assets comprise[d] only 1.17% of the total monetary assets that were
transferred to BIDMC in the merger.” See Pl.’s Mem. at 56–57. The plaintiff argues that “[t]his
extremely low percentage demonstrates just how impaired the Deaconess assets were” and
supports the conclusion that “the true disparity between Deaconess’s assets and its liabilities is
nearly non-existent.” Id. at 57. The plaintiff also contends that “the context of this specific
transaction” such as the plaintiff’s “extensive competitive bidding for its assets” and “the distinct
bargaining disadvantage” that it faced in light of its “increasingly grim financial picture,”
supports a finding of reasonable consideration. See id. at 57–58.
21
First, the plaintiff failed to submit any evidence to the Administrator that its monetary
assets should be discounted because they had limited immediate use. Indeed, the plaintiff did not
even raise this non-liquidity argument in its final position paper before the PRRB or in its
comments to the Administrator, let alone specify how and to what extent the monetary assets
should be discounted because they had limited immediate use. See generally A.R. at 32–37
(plaintiff’s comments to the Administrator); 1861–932 (plaintiff’s final position paper). Thus, it
was not arbitrary and capricious for the Secretary to decide not to discount the plaintiff’s
monetary assets on that basis in making a determination regarding reasonable consideration.
See, e.g., Forsyth, 639 F.3d at 539. Additionally, even assuming that “a plausible alternative
interpretation of the evidence would support” either of the above arguments, that fact alone
would be insufficient to compel the conclusion that the Secretary’s decision was unsupported by
substantial evidence. See Chritton, 888 F.2d at 856 (internal quotation marks omitted).
In any event, the Administrator did consider the “context of this specific transaction,” see
Pl.’s Mem. at 57, and she found that Deaconess’s “failed and successful negotiations involved a
multitude of other non-economic factors” and “were driven by matters other than sale price,” see
A.R. at 22–23. The Administrator also reviewed several pieces of evidence in the record
indicating that Deaconess “focused on transitioning its debts and assets to [Beth Israel] for sheer
‘survivability’ and to enable its organization to continue operations under a new name and
company umbrella,” rather than focusing on seeking fair-market value or reasonable
consideration in exchange for its assets. See id. at 23 &nn. 27–28. Indeed, although the plaintiff
argues that the merger with Beth Israel “was the best deal [Deaconess] could get,” Pl.’s Reply at
25, that is beside the point in the context of Medicare reimbursement. The Secretary’s
regulations require a Medicare provider to “seek[] fair market value for the assets given,” see PM
22
A-00-76, at 3, and merely securing the best deal a provider can obtain does not compel the
conclusion that the result of that deal was a bona fide sale—particularly if the provider is
motivated by non-economic factors, see A.R. at 22 (finding that Deaconess’s merger
negotiations “involved a multitude of other non-economic factors that were not related to the
disposition of its asset for the best price”). The purpose of Medicare reimbursement is not for
taxpayers to subsidize non-profit providers seeking survival in an increasingly competitive
health-care marketplace. If a non-profit provider, such as the plaintiff, accepts a less-than-
reasonable financial deal to ensure its “survivability,” that is the provider’s prerogative, but such
sweetheart deals do not entitle the provider to further depreciation reimbursement because they
are “not indicative of parties engaged in self-interested bargaining with a focus on maximizing
financial compensation.” Forsyth Mem’l Hosp., Inc. v. Sebelius, 667 F. Supp. 2d 143, 151
(D.D.C. 2009), aff’d, 639 F.3d 534 (D.C. Cir. 2011). This may mean, as the plaintiff laments,
that “[t]he Secretary’s current interpretation of the regulation is essentially impossible to meet,”
see Pl.’s Mem. at 48, but that is a grievance with the statutory purposes of the Medicare
reimbursement regime, which this Court has neither the institutional competency nor the power
to resolve.
The evidence cited in the Secretary’s decision regarding the plaintiff’s non-economic
motivations for seeking a merger, in addition to the large disparity (60 cents on the dollar)
between the sales price and fair-market value of the plaintiff’s depreciable assets, amply support
the Secretary’s conclusion that the plaintiff did not receive reasonable consideration for its
depreciable assets.
23
IV. CONCLUSION
Therefore, for the reasons discussed above, the Court concludes that the Secretary’s
decision regarding the lack of reasonable consideration received by the plaintiff was supported
by substantial evidence and was not otherwise arbitrary and capricious. Since “the
Administrator’s finding that [a provider] did not exchange reasonable consideration [is] an
independent and sufficient ground for refusing [the plaintiff’s] requested reimbursement,”
Forsyth, 639 F.3d at 539, the Court need not discuss any other aspect of the Secretary’s decision
in order to grant summary judgment to the defendant. For the same reasons, the Court denies the
plaintiff’s motion for summary judgment.
An appropriate Order accompanies this Memorandum Opinion.
Date: April 29, 2013
/s/ Beryl A. Howell
BERYL A. HOWELL
United States District Judge
24