HHS-OIG Issues Unfavorable Advisory Opinion On Orthopedic Device Manufacturer's Proposed Royalty Payment Arrangement

Highlights

• The U.S. Department of Health and Human Services-Office of Inspector General (HHS-OIG) issued an unfavorable opinion regarding an orthopedic medical technology company's proposed arrangement to use royalties from product sales to compensate physicians and other consultants for their services.
• HS-OIG concluded that the proposed payment methodology considered the volume or value of referrals or other business generated between the parties, thereby disqualifying the arrangement from the safe harbor protection under the Anti-Kickback Statute (AKS).
• Notwithstanding the lack of safe harbor eligibility, HHS-OIG also found that the arrangement presented risks of patient steering, unfair competition, skewed clinical decision-making, inappropriate utilization and increased costs to Federal health care programs.
• HHS-OIG reaffirmed that well-structured consulting and royalty arrangements remain viable in the medical device industry provided that compensation is tied to specific, documented product contributions and is designed to avoid inducing or rewarding referrals. 

Overview of HHS-OIG Advisory Opinion 26-10 on Medical Device Royalty Arrangements

HHS-OIG recently issued Advisory Opinion No. 26-10, an unfavorable opinion regarding the federal AKS as applied to an orthopedic medical technology company's proposed arrangement to compensate physicians and other consultants with royalty-like payments calculated as a percentage of net invoice price for all products sold within the applicable product line for which consultants provided services. The royalty-like payments were to be for an amount consistent with fair market value as determined by a third-party valuation firm.

The company develops, manufactures, and distributes implants and replacement products across orthopedic specialty areas including hip, knee, shoulder, spine, and sports medicine. Under existing agreements, the company engages consultants to assist with the design, development, and evaluation of specific products. The proposed agreements would expand that relationship to cover consulting services across an entire product line, including teaching, training, and proctoring activities, feedback on clinical results and product designs, participation in strategic meetings, and prototype review and evaluation.

To be eligible for a royalty payment, a consultant would need to satisfy minimum annual hour requirements and receive a satisfactory rating from an internal evaluation panel that would assess attendance, participation, quality of engagement, and the novelty of contributions to the product line. Consultants who met these requirements in a given quarter would receive a "royalty" payment equal to a specified percentage of net invoice price for all products sold within the applicable product line for which the consultant provided services. The company proposed to exclude from the royalty calculation sales of products used in procedures performed by the consultant or at facilities where the consultant operates or has an ownership interest, as well as products for which the consultant already received royalties under a separate development agreement. 

HHS-OIG Found the Proposed Royalty Payment Arrangement did not Qualify for AKS Safe Harbor Protection

HHS-OIG concluded that the proposed arrangement would not satisfy the safe harbor for personal services and management contracts and outcomes-based payment arrangements. To qualify for this safe harbor, a compensation methodology must be set in advance, consistent with fair market value in arm’s length transactions, and not determined in a manner that takes into account the volume or value of referrals or business otherwise generated between the parties for which payment may be made under Medicare, Medicaid, or other federal health care programs. HHS-OIG determined that the royalty payments’ structure failed the third requirement. 

Although the company characterized the services provided by the consultants as non-promotional, it was unable to certify that none of those services would contribute to revenue generation from the products. HHS-OIG concluded that the royalty payments calculated as a percentage of product line sales would inevitably incentivize consultants to advocate for the company’s products and that sales resulting from a consultant's recommendations to others would factor into the royalty calculation. Accordingly, HHS-OIG determined that the compensation methodology would take into account business otherwise generated between the parties. 

HHS-OIG found that the arrangement presented additional risks, including:

• Skewed clinical decision making, due to the royalty structure tying compensation to product line sales, creating a financial incentive to favor the company's products, regardless of clinical appropriateness, causing physicians to favor their own financial interests over what is best for the patient.
• Patient steering, due to consultants who are also required to teach, train, and proctor others in the use of the products, being incentivized to steer fellow clinicians toward the company’s products for financial gain even when a competitor's product may be more clinically appropriate.
• Unfair competition and inappropriate utilization, due to the royalty payment structure rewarding advocacy for an entire product line rather than the development of a specific product, therefore functioning as a payment-for-referrals scheme. 

HHS-OIG acknowledged that consulting and royalty arrangements are well-established in the medical device industry and can be structured appropriately to serve a legitimate purpose when physicians provide specialized clinical or technical expertise to assist manufacturers in developing, evaluating, and refining their products and when the arrangements are designed to not induce or reward referrals.

Compliance Considerations for Medical Device Manufacturers and Physician Consulting Arrangements

This unfavorable opinion signals continued vigilance around financial relationships between medical device manufacturers and physician consultants. Companies considering such arrangements should evaluate whether the compensation methodology can be insulated from sales volumes attributed to consultant advocacy and should document with specificity the nature and value of services rendered. Arrangements that tie compensation to overall product line sales rather than specific, documented contributions to individual products carry particular risk under the AKS when the compensated consultants are also in a position to influence product selection.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.