FCA Alert : Lawyers & Attorneys for Whistleblower, False Claims Act & Qui Tam Defense : Kelley Drye & Warren LLP

The Facts

In 2007, the United States intervened in a qui tam suit against Lockheed Martin Corporation ("Lockheed") and Tools & Metal, Inc. (“TMI”). The government alleged that TMI, a perishable tool supplier, engaged in an illegal pricing scheme and submitted inflated subcontractor invoices to general contractor Lockheed Martin, which in turn, submitted the invoices to the United States for payment pursuant to a government contract. In late 2005, TMI filed for bankruptcy and TMI’s CEO Todd Loftis pled guilty to conspiracy to defraud the United States based on his role in submitting inflated subcontractor invoices to Lockheed.

In its civil complaint against Lockheed, the government alleged that Lockheed received “credible evidence” of TMI’s fraud in 2000. In May 2000, the qui tam relator, a former TMI national account executive, sent a short email to a procurement manager at Lockheed Martin warning about allegedly excessive prices charged by TMI. The government alleged that Lockheed ignored this warning and continued to submit TMI’s inflated costs to the United States and, despite Lockheed’s allegedly broad contractual audit rights, did not conduct a “proper” audit of TMI until late 2004 after Lockheed learned that a federal prosecutor was investigating TMI. The government claimed that Lockheed’s lack of oversight of TMI demonstrates that Lockheed knowingly created false records and presented false claims to the United States for payment or approval and sought to hold Lockheed liable for claims submitted from October 2000 to May 2006.

The Motion to Compel

Lockheed moved to compel the government to provide factual information regarding its criminal investigation of TMI and Loftis. Lockheed asserted that it needed the information to show Lockheed’s absence of scienter. The government opposed the motion to compel, arguing that the investigative material sought by Lockheed was irrelevant to Lockheed’s defense and, in any event, was protected from disclosure by the investigatory law enforcement and work product privileges.

Holding #1:  An FCA defendant may use circumstantial evidence to establish lack of scienter.

According to Lockheed, the government’s central allegation in the lawsuit is that Lockheed should have investigated TMI and learned of the illegal pricing scheme shortly after receiving a “tip” from the relator in May 2000 regarding possible fraud. Lockheed contended that it could not have been aware of TMI’s fraud as quickly as the government alleges because it took the government several years to substantiate the relator’s allegations of fraud even though the government had at its disposal broad investigatory powers not available to a private corporation.

The government argued that information concerning its investigation was irrelevant to the issue of scienter because the only facts that could establish scienter (or its absence) are those that were known to Lockheed during the time of the government’s investigation. The government further argued that events outside of Lockheed’s knowledge could not be relevant to the question of Lockheed’s scienter.

The court disagreed with the government’s assertion that only “direct” evidence of Lockheed’s state of mind is relevant and held that circumstantial evidence has a place in establishing an actor’s scienter in a civil FCA action:

Establishing a requisite state of mind in any case, such as the scienter at issue here, necessarily involves an analysis and consideration of at least some circumstantial evidence….If discovery pertaining to the government’s criminal investigation of Loftis can reveal facts about Lockheed Martin’s dealings with TMI that were unknown to Lockheed Martin at the time and could not reasonably have been known to Lockheed Martin, the court is at a loss to see why those facts would not constitute relevant circumstantial evidence as to Lockheed Martin’s absence of scienter.

The court therefore held that Lockheed's discovery requests seeking facts concerning the government's investigation of TMI and Loftis were relevant for discovery purposes.

Holding #2.  The investigatory law enforcement privilege does not apply to a closed criminal investigation.

After determining that Lockheed's discovery requests were relevant, the court considered whether the requested information was shielded from discovery by the investigatory law enforcement privilege. In its opposition to Lockheed’s motion to compel, the government asserted an extremely broad interpretation of the investigatory law enforcement privilege. Specifically, the government claimed that the privilege protects not just criminal investigations but also investigative files prepared for civil law enforcement purposes; and that the privilege should extend beyond Loftis’s criminal prosecution because the civil case is simply a continuation of the criminal case.

The district court disagreed with the government’s assertion that a sweeping investigatory law enforcement privilege exists in the Fifth Circuit. Rather, the district court noted that the Fifth Circuit recognizes a qualified law enforcement privilege that protects only government files related to an “ongoing criminal investigation”:

The Fifth Circuit Court of Appeals has made clear that “the law enforcement privilege is bounded by relevance and time constraints.”…In this case, it is clear that the information Lockheed Martin seeks in discovery pertains to the criminal investigation of Loftis, who, in light of his December 2005 conviction, is no longer under investigation. Moreover, despite the government’s attempt to eliminate a distinction between civil cases and criminal cases with respect to the application of the investigatory law enforcement privilege, the court declines to adopt the government’s sweeping view. The Fifth Circuit has made no statement that suggests that this privilege was intended to protect government files for any purpose other than insofar as they relate to an ongoing and criminal investigation.

Accordingly, the district court held that the investigatory law enforcement privilege no longer affords protection to government information related to its criminal investigation of Loftis.

Holding #3.  The work product doctrine does not apply because Lockheed sought only the facts obtained from the government’s investigation.

The government argued that its criminal investigation was work product because it constitutes notes and memoranda that contain attorneys’ mental impressions. Lockheed contended that the work product doctrine does not shield the government from Lockheed’s discovery requests because Lockheed seeks only the facts related to the criminal investigation of Loftis.

The court was not persuaded by the government’s assertion that such facts were inseparable from mental impressions, and directed the government to provide the facts sought from its criminal investigation “stated as answers to interrogatories, requests for admission, and depositions of witnesses,” as requested by Lockheed.
 

Since the claims at issue accrued prior to Congress’ amendment of the FCA under the Fraud Enforcement and Recovery Act (FERA) on May 20, 2009, the pre-FERA version of the federal FCA applied, which attaches liability under Section 3729(a)(7) when a person “knowingly makes, uses, or causes to be made or used, a false record or statement to conceal, avoid or decrease an obligation to pay or transmit money or property to the [federal] Government.”

Because the alleged false statements were premised on Caremark’s denial of coverage rather than on the submission of any claim for reimbursement, the Fifth Circuit viewed the conduct in question as a “reverse” false claim. Moreover, because the alleged false statements were not made directly to the federal government but rather to state Medicaid agencies, the court characterized this as an “indirect” reverse false claim.  The Fifth Circuit then held that if the government is able to prove that Caremark knowingly made false statements to the states knowing that these statements could cause the states to impair their obligation to the federal government, Caremark will be liable under Section 3729(a)(7).  The Fifth Circuit's decision reversed the district court's holding that Caremark did not have any obligation to the federal government for denials of reimbursement requests that Caremark submitted to state Medicaid agencies. 

FCA Cases for Product Defects Which Settled

1. In December 2000, a medical device manufacturer, Lifescan, paid $30.4 million to settle FCA allegations that it knowingly sold a faulty blood glucose monitoring system to Medicare patients and concealed this defect from the FDA. The U.S. intervened in the action.

2. In July 2002, in another case in which the U.S. intervened, a medical device maker, Agilent Tech., paid $7 million to settle allegations that it knowingly sold faulty medical monitoring devices to the Veterans Administration and Department of Defense and failed to properly investigate product failures even though the company was aware of them.

3. In June 2005, a medical device manufacturer, Boston Scientific, settled an action with the United States for $74 million based on allegations that it knowingly sold defective coronary stents in violation of the FDCA over a seven-week period in 1998.

FCA Cases for Product Defects Which Were Dismissed

4. In 1998, two plaintiffs attorneys who had previously sued the device maker, Medtronic, in a product liability action and lost, filed an FCA case based on information they learned in discovery in the prior action. The attorneys alleged that Medtronic violated the FCA by selling defective pacemaker leads to Medicare recipients. The government declined to intervene in the action in October 2002 and the case was unsealed. In August 2005, the court dismissed the action at the pleading stage on the ground that the suit was barred by the public disclosure bar. Specifically, the court held that the prior product liability lawsuits against Medtronic alleging fraud on the FDA notified the government of potential Medicare fraud and thus precluded the attorney-relators’ FCA claims.

5. In March 2009, the Eighth Circuit - which is the Circuit in which the Guidant case is pending - dismissed a product defect case in a relator-only action at the pleading stage against the device maker, Hypoguard USA. The relator alleged that Hypoguard knowingly sold defective blood glucose monitors and test strips to Medicare patients. In dismissing the action, the Eighth Circuit held that “sales of a defective product do not give rise to FCA liability absent proof that a party knowingly or with deliberate ignorance charged the government for worthless services.”

FCA Case for Product Defects Which Is Currently Pending

6. In May 2007, a relator filed an FCA action against Cardinal Health alleging that it knowingly sold defective and unsafe infusion pumps to the Veterans Administration. The government declined to intervene in the suit in January 2008 and the case was unsealed. The district court dismissed the action under Rules 9(b) and 12(b)(6). In November 2010, the Fifth Circuit remanded the case with instructions to the district court to permit the relator to amend because it was possible the relator could state an FCA claim for defective products based, e.g., on a “worthless services” theory. The case is currently pending.

The Government’s Theory of FCA Liability in the Guidant Case

The government’s theory of FCA liability in the Guidant case is based on medical necessity. Specifically, the government alleges that knowingly implanting Medicare patients with defective devices when non-defective devices were available was not a reasonable and necessary medical treatment. (Complaint, ¶¶ 80, 135). Under § 1395(a)(1)(A) of the Medicare statute, Medicare will only pay for services which are reasonable and necessary:

[N]o payment may be made…for any expenses incurred for items or services which …are not reasonable and necessary for the diagnosis or treatment of illness or injury or to improve the functioning of a malformed body member.” 42 U.S.C. § 1395(a)(1)(A).

Several Problems With The Government’s Theory of FCA Liability in the Guidant Case

1. The Eighth Circuit Has Dismissed FCA Claims Based on Product Defects

Two years ago, in United States ex rel. Roop v. Hypoguard USA, Inc., 559 F.3d 818 (8th Cir. 2009), the Eighth Circuit affirmed the dismissal of an FCA case against a medical device manufacturer for alleged product defects. The relator alleged that Hypoguard blood glucose monitors and test strips were defective, and that Hypoguard knew they were defective, and failed to file reports of defects required by the FDA’s medical device reporting regulations, which caused Medicare to pay countless fraudulent reimbursement claims. The United States declined to intervene in the action. The district court granted Hypoguard’s motion to dismiss the action for failure to comply with Rule 9(b). The Eighth Circuit affirmed the dismissal, and in doing so, held that:

“[S]ales of a defective product do not give rise to FCA liability absent proof that a party ‘knowingly or with deliberate indifference charged the government for worthless services.’” 559 F.3d at 824 (citing United States ex rel. Lee v. SmithKlineBeecham, Inc., 245 F.3d 1048, 1053 (9th Cir. 2001)). “In a worthless services claims, the performance of the service is so deficient that for all practical purposes it is the equivalent of no performance at all.” (citing Mikes v. Straus, 274 F.3d 687, 703 (2nd Cir. 2001)).

In the Guidant case, the government did not plead a “worthless services” claim, but rather has attempted to allege an FCA claim based on medical necessity. However, as demonstrated below, there are problems with the government’s attempt to invoke medical necessity as a viable theory of FCA liability against a medical device manufacturer for alleged product defects.

2. Is Medical Necessity A Viable Theory of FCA Liability Against Manufacturers For Product Defects?

The short answer is no, it should not be, given the precedent on the issue. Courts have held that Medicare’s requirement that a service be reasonable and necessary generally pertains to the selection of a particular procedure and not to the manner - or quality - of its performance. See, e.g., Mikes v. Straus, 274 F.3d 687, 701 (2d Cir. 2001); In re: Cardiac qui tam litigation, 221 F.R.D. 318 (D. Conn. 2004). In Mikes, the Second Circuit held that the medical necessity for a procedure and its quality are distinct considerations. In Mikes, the relator alleged that the defendant doctors did not perform spirometry tests for which they billed Medicare in accordance with the applicable standard of care, and thus sought reimbursement for services which were not reasonable and necessary under the Medicare statute in violation of the FCA. The court dismissed the relator’s FCA claims based on its determination that “[i]nasmuch as Mikes challenges only the quality of defendants’ spirometry tests and not the decisions to order this procedure for patients, she fails to support her contention that the tests were not medically necessary.” 274 F.3d at 699.

The government’s use of a medical necessity theory in the Guidant case is an attempt to fit a square peg in a round hole. The Mikes case demonstrates that whether or not a procedure is medically necessary under the Medicare statute is really a question of a physician’s judgment to perform a certain procedure, rather than a question of the quality of the procedure (or the quality of a device used to perform the procedure). This conclusion is further reinforced by the statutory design of the Medicare statute itself, pursuant to which medical necessity for a procedure - and its quality - are distinct considerations governed by separate sections of the statute.

There are 139 active cases in which the government has intervened and 412 active cases in which the government has declined to intervene.

There have been 1,128 settlements in cases where the government intervened compared to 253 cases where the government declined to intervene.

Only 60 cases where the government has intervened have been dismissed, but 3,962 cases where the government declined to intervene have been dismissed.