Advisory Opinion to Kopit (06-14-95)

June 14, 1995

William G. Kopit, Esquire
Clifford E. Barnes, Esquire
Epstein Becker & Green, P.C.
1227 25th Street, N.W.
Washington, D.C. 20037-1156


Dear Messrs. Kopit and Barnes: 

On behalf of your client, California All Health ("CAH"), you have requested an advisory opinion as to the legality under the federal antitrust laws of CAH's formation and proposal to bid for certain contracts to provide comprehensive medical services to beneficiaries of California's Medicaid program, Medi-Cal. CAH is a joint venture of six health maintenance organizations ("HMOs") doing business in California -- CIGNA, United Health Plan, Kaiser, FHP Healthcare, Blue Cross of California, and Blue Shield of California. As is explained more fully below, it does not appear that the formation and operation of CAH, as proposed, is likely to violate any law enforced by the Federal Trade Commission. 

On September 30, 1994, the California Department of Health Services ("DHS") issued a Request for Application ("RFA"), amended December 14, 1994, inviting applicants to submit proposals to act as prepaid health plans under the Medi-Cal program in twelve California counties. Applicants were free to apply for the contract in any one or more of the counties. In each county, if possible, Medi-Cal will provide services through only two plans: the "mainstream plan" operated by a private managed care entity awarded a contract under the RFA, and the "local initiative," organized by the county government in each region.

All applicant prepaid health plans are required to be managed health care organizations licensed and regulated under the State's Knox-Keene Act, Cal. Health & Safety Code 1340 et seq. The RFA specifically provides that existing Knox-Keene plans may form joint ventures to apply to be chosen as a "mainstream plan," provided that the joint venture itself becomes a certified plan under the Knox-Keene Act. CAH is such a joint venture. It is a nonprofit mutual benefit corporation that has applied to be independently licensed as a health plan under the Knox-Keene Act, and will be subject to state regulation under that Act. In addition, each of CAH's six participants is individually licensed as a Knox-Keene plan in order to offer an HMO product in California.

CAH has submitted an application, in response to the RFA, to become the "mainstream plan" in four counties -- Los Angeles, San Bernardino, Riverside, and Kern. As I understand it, the application does not include a price term; the level of payment will be determined unilaterally by DHS. Your letter states that CAH was developed to allocate over several HMOs the costs and risks associated with providing services to Medi-Cal patients. According to your letter, HMOs participating in CAH are not willing or able individually to absorb the Medi-Cal population in the four counties where CAH intends to operate; the joint venture was established to ensure sufficient capacity to serve the county-wide populations. While some of the CAH participating HMOs have prior experience in Medi-Cal contracting, others have not had such experience, and would not participate in the mainstream option bid without the ability to share risk of loss and Medi-Cal experience through the joint venture. Each participating HMO decided individually on the counties in which it would participate in the CAH bid, and the geographic areas in each county in which it could provide services. 

According to your letter, the reasons for participation in the joint venture vary to some extent among the member HMOs. Some HMOs lack sufficient provider capacity to absorb entire county Medi-Cal enrollments, or would be unwilling to participate in the program if they were required to take on the entire eligible population. Some HMOs are concerned about the unpredictability of California's financial situation, and most believe that participation in the Medi-Cal program would require them to operate at a loss or would be only marginally profitable. Each plan has stipulated the maximum number of Medi-Cal recipients it will accept in each county. 

Participation in CAH is non-exclusive. The participating HMOs are free to join other consortia, contract directly with any county under the "local initiative," or bid to contract directly with DHS as the "mainstream plan." Individual HMOs in CAH have expressed an interest in contracting with competing local initiatives. Moveover, except for Kaiser and CIGNA, whose staff physicians are plan employees, each of the HMO participants in CAH contracts with its participating providers on a non-exclusive basis. Thus, these participating providers are free to join competing plans in the counties in which CAH proposes to operate. 

Each participating HMO has made a capital contribution to CAH of $187,500. If the joint venture is awarded a contract, the participating plans will fund start-up expenses through subordinated debt. Each plan also is obligated to pay special assessments imposed by the CAH Board of Directors to cover operating losses. 

CAH will assume the financial risk of providing covered services to Medi-Cal enrollees in exchange for a fixed capitation payment established unilaterally by DHS. The bulk of this risk will be passed through to the participating HMOs through subcapitation agreements. Each HMO will agree to accept the subcapitation as payment in full for covered services rendered to CAH enrollees who have selected that HMO. However, the State has required CAH to be a separately licensed entity under the Knox- Keene Act, accept the full financial risk for the program, operate an independent quality assurance program, provide centralized enrollment and grievance procedures, and demonstrate the ability to handle the enrolled population in the event one or more of the member HMOs is terminated from the program. 

According to your letter, CAH's member HMOs will not share any information on costs, sales, profitability, price, marketing or distribution of services unless the exchange of information is reasonably necessary to conduct the activities of the joint venture. Where collection of competitively sensitive information is necessary to the operation of CAH, such information will be shared among member HMOs in aggregated form that does not reveal the identity of any member HMO. Procedures have been developed to assure that confidential HMO-specific information will not be accessible to any HMO other than the one that supplied it. 

Based on the information summarized above, it does not appear likely that the formation and proposed operation of CAH would violate the antitrust laws. CAH's activities are subject to the antitrust analysis outlined in the Statement of Department of Justice and Federal Trade Commission Analytical Principles Relating to Multiprovider Networks. As is explained below, it does not appear that the joint venture involves agreements that are per se illegal, or that the venture's overall impact on competition is likely to be harmful.

CAH participants appear to be economically integrated; consequently, any potentially anticompetitive agreements among them concerning provision of services to Medi-Cal beneficiaries that are ancillary to that integration are subject to the rule of reason rather than per se condemnation. Under the policy statement, acceptance by the network of a capitated rate as payment for health services is recognized as an example of financial risk sharing that evidences significant economic integration among the network participants. CAH will accept such a capitation rate as payment in full for all contract services provided to Medi-Cal beneficiaries. 

CAH will shift a large proportion of the economic risk inherent in the capitation arrangement to the individual HMOs through subcapitation agreements. Thus, each individual HMO will largely be responsible for managing utilization for Medi-Cal patients enrolled in that plan, and each HMO will bear the bulk of the risk that its subcapitation payment will be inadequate to compensate for the service needs of its enrollees. In some respects, however, it appears that the operation of CAH itself would entail substantial risk sharing among its HMO participants. CAH as an entity is responsible for providing contract services to beneficiaries, and must provide assurances satisfactory to the State that it can do so. Moreover, the individual HMO participants bear the risk of having to provide services to enrollees of another plan in the event of default by one or more of the member HMOs. This is not a case where the joint venture is simply a vehicle for passing payments to competing providers, each of which bears individual economic risk; in that instance a different analysis would apply. 

It does not appear that operation of CAH as proposed is likely to significantly impair competition in any market. We would be concerned if it appeared likely that CAH would limit significantly the number of bidders for the Medi-Cal contract in any of the counties in which it proposes to operate. Based on the available information, this does not appear to be the case. There are 38 licensed Knox-Keene plans in California. Of these, 19 notified DHS of their intent to submit Medi-Cal applications. Ten plans were interested in serving one or more of the counties in which CAH proposes to operate. You were unable to obtain precise information about the capacity of other HMO's operating in California to serve Medi-Cal beneficiaries, or on the number of bids that had been received. However, you identified a large number of licensed HMOs that operate in each of the four counties where CAH proposes to submit a bid. In order to obtain a license to operate as a Knox-Keene plan, each of these HMOs was required to demonstrate its ability to provide accessible and continuous care in its service areas. Moreover, except for the two plans with employed physicians, none of CAH's member HMOs prohibit participating providers from joining other HMOs; consequently, CAH members appear to have no ability to prevent other HMOs from obtaining adequate provider panels. Indeed, we understand that bids for the Medi-Cal "mainstream plan" contract were received from organizations other than CAH in each of the four counties in which CAH submitted a bid for the contract. Based on all this information, it does not appear that operation of CAH would significantly limit competition among HMOs for the Medi-Cal contract. 

At the same time, cooperation of the HMOs through CAH appears likely to produce significant efficiencies. According to your letter, the HMOs participating in the joint bidding through CAH are unable or unwilling to assume the risks associated with bidding independently for the contract. As a result, the joint venture enables an additional bidder to compete for the contract, while preserving competition among CAH member plans for the patronage of Medi-Cal patients, who would be able to choose among participating HMOs (subject to their enrollment limitations and defined service areas). Moreover, the joint venture permits the participating plans to share the costs of bidding on, and administering, the contract, and to share knowledge and experience concerning Medi-Cal services.

Finally, your letter states that CAH has taken steps to prevent any anticompetitive "spillover" effects that might otherwise flow from the sharing of sensitive commercial information among the member plans. Consequently, the participation of the member HMOs in CAH does not appear to threaten competition in this respect. 

For these reasons, the formation and operation of CAH as proposed would not appear to violate any law enforced by the Federal Trade Commission. This letter sets out the views of the staff of the Bureau of Competition, as authorized by the Commission's Rules of Practice. Under Commission Rule 1.3(c), 16 C.F.R. 1.3(c) (1994), the Commission is not bound by this staff opinion and reserves the right to rescind it at a later time. In addition, this office retains the right to reconsider the questions involved and, with notice to the requesting party, to rescind or revoke the opinion if implementation of the proposed program results in substantial anticompetitive effect, if the program is used for improper purposes, if facts change significantly, or if it would be in the public interest to do so.

Sincerely yours, 
Mark J. Horoschak Assistant Director