Fourth Circuit Adopts Objective Reasonableness Standard In Determining Scienter Element Of The False Claims Act – Food, Drugs, Healthcare, Life Sciences
The Fourth Circuit, in United States ex rel. Sheldon v.
Allergan Sales, LLC, No. 20-2330, 2022 WL 211172 (4th Cir.
Jan. 25, 2022) recently upheld the dismissal of False Claims Act
(“FCA”) lawsuit brought by a quit tam relator
(“Relator”) against his employer, Forest Laboratories,
LLC (“Forest”) alleging that Forest engaged in a
fraudulent price reporting scheme under the Medicaid Drug Rebate
Statute (“Rebate Statute”).1
Notably, the Fourth Circuit adopted the US Supreme Court’s
decision in Safeco Ins. Co. of Am. v. Burr, 551 U.S. 47
(2007) in holding that the scienter element of the FCA is subject
to an “objective reasonableness” standard, where a
defendant can defeat FCA liability by establishing that its
interpretation of the applicable statute or regulation was
objectively reasonable and that no authoritative guidance from a
court or agency could have “warned defendant away” from
that interpretation. Just last year, the Seventh Circuit adopted
this standard in U.S. ex rel. Schutte v. SuperValu Inc.,
joining the Third, Eighth, Ninth, and DC Circuits in holding the
same.
At issue in Sheldon was the reasonableness of
Forest’s interpretation of the Rebate Statute in determining
how it calculated certain discounts given to separate customers for
purpose of reporting its “best price” to the government.
The District Court dismissed the complaint on the basis that
Forest’s reading of the Rebate Statute was “objectively
reasonable,” there was no authoritative guidance to the
contrary, and thus Forest did not act “knowingly” under
the FCA. The Fourth Circuit affirmed.2
The FCA
The FCA applies to those who knowingly submit false or
fraudulent claims for payment to the federal government.[3] To
this end, the FCA creates liability for any person
who, inter alia, “(A) knowingly presents,
or causes to be presented, a false or fraudulent claim for payment
or approval; [or] (B) knowingly makes, uses, or causes to be made
or used, a false record or statement material to a false or
fraudulent claim.”[4] Thus, the party alleging an
FCA violation must prove: (1) defendant made false statements or
engaged in a fraudulent course of conduct; (2) with the requisite
knowledge; (3) the statements or conduct were material; and (4)
caused the government to pay out money or to forfeit monies due on
a “claim.”[5] The FCA defines several of
its terms—”claim,”[6] “knowingly,”[7] and
“material”[8]—however, it does not define
what is “false” or “fraudulent.”
The Medicaid Rebate Statute
Medicaid offers federal financial assistance to states that
reimburse certain medical expenses for eligible individuals, a
well-known component of which includes prescription drugs.9 To
ensure that Medicaid receives the “best price” from a
manufacturer that it would otherwise sell its prescription drugs to
a public or private purchaser, Congress enacted the Rebate
Statute.10 Participating manufacturers are
required to execute Rebate Agreements with Secretary of Health and
Human Services (“HHS”), provide quarterly rebates to
states, and report its “Average Manufacturer Price” and
its “Best Price” for covered drugs to the Centers for
Medicare & Medicaid Services (“CMS”).11
Thus, whatever rebate is provided to the state by the manufacturer,
the payments by the Federal Government are reduced by the same
amount.12 Both the Rebate Statute and the
CMS regulations define the “Best Price” to essentially
include the lowest price the manufacturer sells its drugs to
institutions and governmental entities. Due to Medicaid’s
complexity, both the Rebate Agreement and the CMS regulations
provided for the ability of manufacturers to make reasonable
assumptions in calculating their Best Price in the absence of
specific guidance.13
Relator’s Complaint
The Relator alleged that that Forest erred in calculating its
“Best Price” under the Rebate Statute by giving discounts
to separate customers along distribution chains and failing to
account for those combined amounts in its Best Price calculation.14
Relator’s false claim was premised on the net effect of
Forest’s actions, in that Forest was paying reduced rebates to
participating states, resulting in the government reimbursing at
least $680 million more than it would have had Forest accurately
reported its Best Price.15
The decision provides an example to illustrate this
effect—Relator alleged that in FY 2013, Forest gave a 20%
discount to a patient’s insurance company and a 10% discount to
the same patient’s pharmacy—two different entities on the
distribution chain, and that Forest was required to aggregate these
two discounts.16 Thus, Relator alleged that
Forest’s Best Price that it should have reported to CMS was
70%. However, Forest only reported the higher of the two discounts
(20%) and reported a Best Price of 80% (thereby giving Medicaid the
statutory minimum rebate percentage of 23.1%).17 Because
Relator alleged that the rebate should have been 30%, Relator
alleged that the Government thus paid 6.9% more for this particular
drug than it should have.
The Fourth Circuit’s Adoption of Safeco
The Fourth Circuit focused on the scienter element of the FCA,
which the Supreme Court noted in Universal Health Servs., Inc.
v. United States, 579 U.S. 176, 136 S. Ct. 1989, 2001, 195 L.
Ed. 2d 348 (2016) (“Escobar“) as a
“rigorous” requirement.18 Noting that, although the FCA
defines “knowingly” to include actual knowledge,
deliberate ignorance, and reckless disregard, the FCA does not
provide guidance as to how these terms apply in situations where a
Defendant has the subjective belief that it complied with
a statute or regulation.19
To compensate for this gap in the statute, the Fourth Court
turned to the US Supreme Court’s scienter analysis in
Safeco, which, in interpreting the scienter requirement
under the Fair Credit Reporting Act (“FCRA”), requires a
finding that a defendant acted “willfully” to support a
violation of the statute.20 The Supreme Court then determined
that “willfully” under the FCRA included both (1) knowing
and (2) reckless violations of the statute.21 The Supreme
Court defined “recklessness” as “conduct violating
an objective standard: action entailing ‘an unjustifiably high
risk of harm that is either known or so obvious that it should be
known,'” and notably determined that a defendant’s
subjective intent was irrelevant—in essence,
subjective bad faith could not defeat a defendant’s objectively
reasonable reading of a statute.22
Thus, Safeco established a two-step analysis to
determine reckless disregard: The first step examines whether
defendant’s interpretation of the relevant statute was
objectively reasonable. The second step examines whether
authoritative guidance, i.e. guidance issued by the government to
clarify a law, might have warned defendant away from that
reading.23
In applying the Safeco framework to the FCA—as
has been done by numerous other circuits—the Fourth Circuit
concluded that, “a defendant cannot act ‘knowingly’ if
it bases its actions on an objectively reasonable interpretation of
the relevant statute when it has not been warned away from that
interpretation by authoritative guidance.”24 Furthermore, the
court held “[t]his objective standard precludes inquiry into a
defendant’s subjective intent.”25 Thus, what was
critical in the court’s analysis was whether defendant’s
interpretation of the relevant statute was reasonable and grounded
in statutory text—even if that interpretation was
incorrect.26 Important to this analysis was
whether the defendant had any guidance from the courts or the
agency “that might had warned it away from the view it
took.”27
In affirming the use of the Safeco framework, the
Fourth Circuit placed certain limitations on the application of the
precedent to FCA cases. For instance, the court held that
Safeco does not apply to “factually false”
claims, i.e. the “paradigmatic FCA action” in which a
payee makes a factually false claim by either (1) submitting an
incorrect description of the goods or services provided; or (2)
requesting reimbursement for goods or services never provided.28
Rather, Safeco is applicable only to “legally
false” claims—as was the case in
Sheldon—where a defendant has provided the goods or
services to the government, directly or indirectly, for the agreed
upon price, but failed to comply with an ancillary requirement in a
statute, regulation, or contract.29
In further caveating its application to FCA cases, the court
also confirmed that Safeco requires an objectively
reasonable reading of a statute, and thus defendants who begin with
an unreasonable reading of a statute will face increased
risk of FCA prosecution.30 In that vein, the court noted that
“not every objectively reasonable reading will suffice,”
as the government has the ability to issue clarifying authoritative
guidance, and thus defendants who “turn a blind eye” to
such guidance will not be shielded from liability.31
Perhaps most critically, the court expounded upon the importance
of notice and due process in the context of legal falsity cases to
ensure that defendants are afforded due process “before facing
liability for allegedly failing to comply with complex legal
requirements.”32 The court stated that
“[i]t is profoundly troubling to impose such massive liability
on individuals or companies without any proper notice as to what is
required” and that “Safeco avoids this
trouble by making the government “provide a reasonably clear
standard of culpability to circumscribe the discretion of the
enforcing authority and its agents.”33
The Fourth Circuit’s Application of Safeco to
Relator’s Allegations
Here, the Fourth Circuit applied the Safeco two-part
test.
First, the Fourth Circuit found Forest’s reading of the
Rebate Statute to be objectively reasonable, as the plain language
of the statute indicated that the Best Price is “one offered
to a single entity” rather than aggregate discounts given to
separate customers as alleged by Relator.34 However, this
simple fact did “not give Forest a free ride”—the
court also considered the fact that the statute includes
aggregating discounts to a single entity even if given at
different points in time—but noting that that is as far as
the statute can be stretched.35 The court confirmed that other
provisions in the Rebate Statute confirmed this reading, and even
beyond the statutory text, this reading confirmed with
“practical realities” in that the “Medicaid statutes
and regulations are among the most completely impenetrable texts
within human experience.”36 The court also examined the CMS
regulations and determined that they simply mirror the statutory
language.37 In sum, the court concluded that
Forest’s reading “has a foundation in the statutory
text.”38
Second, the court found that CMS did not warn Forest away from
its objectively reasonable reading, as none of its guidance dealt
with aggregating discounts to different entities.39 Rather, the court
found that CMS knew as early as 2006 that manufacturers were not
aggregating discounts given to different entities along supply
chains.40 In comments on its proposed
Medicaid drug pricing rule, CMS stated that Best Price “has
always been interpreted to mean the single lowest price to a
particular customer.”41 Moreover, the final rule, which
adopted all material aspects of the proposed rule’s Best Price
definition, merely reflected the Rebate Statute, which supports
Forest’s interpretation.42
Key Takeaways
As the Fourth Circuit now joins several other circuits in
applying the Safeco framework to FCA cases, this case
illustrates the ever evolving jurisprudence around interpretation
of the various FCA elements, particularly in their application to
legal falsity cases. For instance, the Supreme Court’s
Escobar decision has sparked much debate over the
“materiality” provision of the FCA. Meanwhile, the notion
that an “objective falsehood” be established to prove the
“falsity” element of the FCA (an undefined term in the
statute) has been called into question in the context of
“medical necessity” cases, which involve examination of
whether and when a physician’s medical opinions regarding the
condition of a patient can be established as false.43
A common thread across these legal falsity cases, i.e. a claim
premised on failure to comply with an applicable statute or
regulation, is, as was at issue in Sheldon, a
defendant’s interpretation of a statute. This becomes
increasingly difficult given the recent issuance of what is known
as the Garland Memorandum, which grants permission to agencies to
use “sub-regulatory guidance”—guidance that
typically circumvents the notice and comment rulemaking
process—in FCA prosecution for pursing false certification
violations. Such permission naturally affords those agencies
deference to their interpretation of their own self-promulgated
guidance. Thus, in the context of Sheldon and its
predecessors, it will be interesting to see how courts continue to
measure a defendant’s interpretation of a statute, regulation,
or even sub-regulatory guidance for purposes of compliance in
determining FCA liability.
Footnotes
1.
42 U.S.C. § 1396r-8.
2.
United States ex rel. Sheldon v. Allergan Sales, LLC, No.
20-2330, 2022 WL 211172 (4th Cir. Jan. 25, 2022)
3. 31
U.S.C. §§ 3729 – 3733.
4. 31
U.S.C. § 3729(a)(1)
5.
United States ex rel. Rostholder v. Omnicare, Inc., 745
F.3d 694, 700 (4th Cir. 2014).
6.
“Claim” means any request or demand for money or property
(regardless of whether or not the United States has title to the
money or property) that: (i) “is presented to an officer,
employee, or agent of the United States”; (ii) or “is
made to a contractor, grantee, or other recipient, if the money or
property is to be spent or used on the Government’s behalf or
to advance a Government program or interest,” and if the
United States government either “provides or has provided any
portion of the money or property requested or demanded”; (iii)
or “will reimburse such contractor, grantee, or other
recipient for any portion of the money or property which is
requested or demanded.” § 3729(b)(2)(A)
7.
“Knowingly” means that person: (i) has actual knowledge
about the falsity of a claim, (ii) “acts in deliberate
ignorance of the truth or falsity” of the claim, or (iii) acts
with “reckless disregard of the truth or falsity” of the
claim. The FCA does not require proof that the person specifically
intended to defraud the government. 31 U.S.C. §
3729(b)(1).
8.
“Material” is defined as “having a natural tendency
to influence, or be capable of influencing, the payment or receipt
of money or property.” § 3729(b)(4).
9.
United States ex rel. Sheldon v. Allergan Sales, LLC, No.
20-2330, 2022 WL 211172, at *2 (4th Cir. Jan. 25, 2022); 42 U.S.C.
§ 1396d(a)(12).
10. 42
U.S.C. § 1396r-8.
11.
United States ex rel. Sheldon v. Allergan Sales, LLC, No.
20-2330, 2022 WL 211172, at *2 (4th Cir. Jan. 25, 2022)
12.
Id.
13. Id. at
*2
14. Id. at *3
15.
Id.
16.
Id.
17.
Id.
18. Id. at
*4
19. Id.
20.
Id.
21.
Id.
22.
Id.
23.
Id.
24. Id. at
*5
25.
Id.
26.
Id.
27. Id. at
*4
28.
Id. at *6.
29.
Id.
30.
Id.
31.
Id.
32.
Id. Citing FCC v. Fox Television Stations, Inc.,
567 U.S. 239, 253, 132 S.Ct. 2307, 183 L.Ed.2d 234 (2012) (“A
fundamental principle in our legal system is that laws which
regulate persons or entities must give fair notice of conduct that
is forbidden or required.”)
33.
Id.
34.
Id. at *8
35.
Id.
36.
Id.
37.
Id.
38.
Id.
39.
Id.
40.
Id.
41.
Id.
42.
Id.
43.
See United States v. Care Alternatives, 952 F.3d 89, 96
(3d Cir. 2020), cert. denied, 141 S. Ct. 1371, 209 L.
Ed. 2d 119 (2021); United States v. AseraCare, Inc., 938
F.3d 1278, 1282 (11th Cir. 2019); United States ex rel. Winter
v. Gardens Regional Hospital & Medical Center, Inc., 953
F.3d 1108, 1113 (9th Cir. 2020), cert. denied sub nom.
RollinsNelson LTC Corp. v. United States ex rel. Winter,
141 S. Ct. 1380, 209 L. Ed. 2d 124 (2021)
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