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New California law tightens restrictions on physician-owned distributorships

Posted: Jan-26-2012 9:45 AM ET  |  Add Comment  |  Comments (5)

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The California state legislature has dealt a blow to physician-owned companies (POCs), including physician-owned distributorships (PODs). In a new law that took effect January 1, California prohibited physicians from billing workers' compensation payors for medical devices manufactured or distributed by a company in which the physicians have an ownership interest.1

As we have argued in earlier blogs, PODs rely heavily on physician-investors to prescribe the products that PODs sell, in apparent violation of the Federal Anti-Kickback Statute, and possibly other state and federal statutes. As such, PODs may run the risk of federal prosecution and enforcement.

Curiously, the California law is limited to workers' compensation programs. The import of the new California law, however, is potentially much broader; if it is not acceptable for physicians to prescribe implants distributed by their own companies in the case of workers' compensation patients, then why should it be acceptable in any case? After all, a kickback is a kickback, regardless of who pays the bill.

The California law is just the latest evidence of growing concern with the POD model:

  • In June, the Senate Finance Committee requested that the Office of the Inspector General, Department of Health and Human Services (OIG) investigate PODs.2
  • Concurrent with its request to OIG, the Senate Finance Committee minority staff issued a report that comprehensively detailed its concerns with PODs. The report stated:

    "On its face [the POD model] appears to be entirely inconsistent with the fundamental tenets of healthcare compliance that have shaped the medical device industry over the last decade, and the POD structure has generated significant conflict of interest and anti-kickback concerns."3
  • In October, OIG denied a request to clear a proposed physician-owned pathology laboratory management company. In its opinion, OIG pointed out that the proposed model was not protected by a safe harbor and potentially violative of the Anti-Kickback Statute. OIG stated that the proposed company's investors had no experience in delivering the services to be offered, relied heavily on investor referrals, and would profit from those referrals despite the fact that the investors would not be rewarded directly for referrals.4

It will be interesting to see whether other states follow California's lead and enact similar-or even more restrictive-limitations on PODs. What's clear is that government entities on the state and federal level are uncomfortable with the POD model, and are intensifying their scrutiny. And that should give pause to physicians and manufacturers who are considering doing business with PODs.

  1. Bulleit TN, Trilling HR, Andonova EL, "New California law prohibits medical device physician-owned companies in workers' compensation program," Medical Device Alert, Hogan Lovells, 19 January 2012, available at
  2. "Bipartisan Letter to Inspector General Levinson," United States Senate Committee on Finance, June 9, 2011, available at
  3. "Physician Owned Distributors (PODs): An Overview of Key Issues and Potential Areas for Congressional Oversight," United States Senate Finance Committee Minority Staff, June, 2011, available at
  4. Bulleit TN, Immelt SJ, Wisor RL, Sterling MA, Kraner SA, "OIG Releases Advisory Opinion Demonstrating Continued Concern with Physician-Owned Companies," Health Alert, Hogan Lovells, 19 October 2011, available at

5 Comments to New California law tightens restrictions on physician-owned distributorships

The opinions expressed in the comments section of this blog are solely those of the commenter.
Submitted: Jan-30-2012 11:05 AM ET by francis k tindall
This is yet another movement by the politicians currently governing our country to increase their control over us. I can appreciate there may be some areas for abuse from a conflict of interest point of view but the physician owners concerns for their products from a quality and safety point of view would surely outweigh this.I certainly wouldn't prescribe a brace for a patient if I felt it to be inadequate,or the wrong size or unsafe because I had an interest in the distributorship. I feel that most of us feel this way. Obviously the members of the OIG don"t.

Submitted: Jan-30-2012 7:35 PM ET by Jon Tucker
Forrest Gump said it first..."dumb is as dumb does". POD's are such a ripe target for abuse and kickbacks that I'm just flabbergasted ostensibly intelligent people like surgeons would ever invest or be associated with such a entity.

Submitted: Feb-4-2012 8:36 PM ET by Paul Burton
Dear Mr. Binder,

If you are sincerely interested in an honest dialog on Physician Owned Distribution, I would hope you would take the time to learn more about this model. The U.S. health care system is at a critical juncture in which physicians, hospitals, insurers, the orthopaedic implant industry, and all other interested parties must examine new ideas and methods of cost control. This is exactly what accountable care via the recently enacted health care legislation is intended to do. The Journal of Bone and Joint Surgery published an article revealing that the cost of orthopaedic implants increased 171% since 1996, over 13% a year. At the same time, hospital profits declined 92% and physician reimbursement declined 36% (JBJS Vol. -88 A). The medicare DRG payment to a hospital for an orthopaedic procedure is consumed largely by the cost of the implant. Clearly this is an unsustainable trend, especially when facing a projected increase in demand of 178% for total hip replacements and 673% for total knee replacements in the next 20 years. Physician owned distribution, when operated in a transparent, legal, ethical manor, has proven to be a powerful means to reduce and control implant costs. This model cuts the costs by eliminating expensive sales reps and marketing, bulk purchasing of products, and by aligning the physician and hospital with the same goal. We have used this model and with just 5 surgeons have saved $4.8 million to 3 area hospitals. Unfortunately, there are physicians who have entered into unethical and fraudulent practices with distributorships. These need to be exposed and those arraignments need to be eliminated. The American Association of Surgeon Distributors is a non-profit, public benefit corporation that was formed to protect patients, hospitals and society from these practices by setting clear standards for conduct, disclosure, cost control, quality assurance and utilization for physician owned distributorships. I have personally written federal legislators, CMS, and health care administrators in the current administration for guidance, oversight and safe harbor guidelines on physician owned distributorships. It is also important to reveal who is most threatened by this model. The orthopaedic implant manufacturers have a 35% profit margin, with only pharmaceutical companies and biotechnology firms having higher margins. The average implant company expends 37% of revenues on sales and marketing to protect this margin. Eliminating this unnecessary expenditure would conservatively save billions of health care dollars. The legislation recently passed was intended for medical foods(pharmaceuticals), not physician owned distribution and I have attached a legal summary from Hooper, Lundy and Bookman,PC

Paul D. Burton, D.O. Chairman of the Board, American Association of Surgeon Distributors Partner, Alliance Surgical Distributors and Inland Spine and Orthopaedic Products


Drugs and Devices added to California Workers' Compensation Self-Referral Law: Does this Impact Physician-Owned Device Companies?

Effective January 1, 2012, California's workers' compensation self-referral law was expanded to apply to pharmacy goods, defined to include any dangerous drug or device. As a result, implantable medical devices requiring a physician's order, are now covered by the law, and questions have arisen regarding the impact this might have on physician owners of a medical device company who perform surgeries on California workers' compensation patients. When enacting this change in the law, the Legislature made clear that it intended to address arrangements in which physicians provide prescription medical foods for their patients. There is no indication the Legislature gave any consideration to physician-owned device companies. Nevertheless, as amended, the law would now prohibit a physician from referring a patient for implants to a company that the physician owns or has a financial relationship with, unless an exception were available. However, it does not appear that patients would be viewed as being "referred" to a medical device distributor, within the meaning of California's self-referral law. Therefore, this law does not appear to have any impact on physician-owned device companies. Although the term "referral" is not defined in the statute, the California Attorney General, for many years, has relied on the standard dictionary definition of a referral for purposes of California's closely related anti-kickback statute as follows: The verb 'refer' is defined as 'to send or direct for treatment, aid, information, decision' (Webster's Third New Internat. Dict. (1971 ed.) at p. 1907, def. (2a)) and a 'referral' as 'the process of directing. . . a patient . . . to an appropriate specialist or agency for definitive treatment' (id., at p. 1908, def (1b)). The phrase 'referral of patients' . . . may thus be thought of as the process whereby a third party independent entity who initially has contact with a person in need of health care first selects a professional to render the same and then in turn places the prospective patient in contact with that professional for the receipt of treatment. (65 Ops.Cal.Atty.Gen. 252, 254 (1982).) Accordingly, instead of the physician referring a patient to device distributor, the physician is referring the patient to a hospital or surgery center, and the hospital (or surgery center), upon the physician's order, purchases the implant from the distributor. The patient's relationship is with the hospital or surgery center where the patient receives care. There is no financial relationship or physical encounter between the patient and the distributor, and the distributor has no direct relationship with the patient. Under these circumstances, although the distributor sells an implant to the hospital upon a physician's order, we do not believe that there would be any prohibited referral of a patient to distributor by its physician owners. There would, however, still need to be an exception allowing the physician to refer the patient to the hospital (because, through the distributor, the physician would have an indirect financial relationship with the hospital). However, as before, the law contains an exception allowing a physician to refer a patient to a hospital, so long as the physician is not paid for that patient referral (and any equipment lease between the parties meets certain requirements). This exception would continue to apply. For ambulatory surgery centers, the analysis is the same, because a similar exception applies for these referrals. For additional information, please contact Charles Oppenheim, Bradley Tully, David Hatch, Karl Schmitz, or Eugene Ngai in Los Angeles at 310.551.8111; or Stephen Phillips in San Francisco at 415.875.8500.

Copyright © 2012 by Hooper, Lundy & Bookman, PC. Reproduction with attribution is permitted. To request addition or removal from our mailing list contact Baron Kishimoto at

Submitted: Feb-5-2012 1:39 AM ET by John Steinmann
The post of Mr Binder is misleading and in need of clarification.

Anyone reading AB378 can clearly see that the wording of this law and the intent of this bill was to address the inappropriate compounding of pharmacy goods and the selling of these pharmacy products at exorbitant prices. The medical device industry, such as the company hosting this blog and others, through their lawyers, have found that the definition of "pharmacy goods" includes dangerous devices and have exploited this definition to state, in an opportunistic and misleading manner that this law was intended to restrict physician owned device companies and physician owned distributorships (PODS) when that clearly was not the intent of this bill.

Regardless of the technicality of the definition, this law does not apply as there is no "referral" to the device company or distributorship, any more than there is a referral to the company that supplies sutures for the surgery. We have received two independent opinions from two very reputable law firms that indicate that this law does NOT apply to the physician owned distribution model that we have developed.

Opposed to Mr. Binders assertion, the OIG was quite clear in their September of 2011 response to the Senate Finance Committee where they indicated there were appropriate physician owned distribution models and inappropriate models and the legality of any given distributorship would require analysis on a case by case basis. We all know that there are highly ethical distributorships that strictly comply with existing law and act in societies best interest and that there are unethical surgeons that abuse this model for their own personal financial enrichment. The benefits of this model are great and absolutely consistent with the direction healthcare must move, and therefore, the focus should be on how to effectively control the "bad apples" while endorsing a model that brings far greater value to the healthcare system.

While the company and the industry supporting this blog would like to suggest they are interested in protecting society, it appears that they are really interested in preventing competition and market forces. We (surgeons hospitals and device manufacturers) owe society far greater value in the orthopedic services we provide and it is time that the device industry participate in this.

Mr. Binder it would be nice if you would cease disparaging the ethics of surgeons by suggesting that all physicians that have developed a distributorship are acting criminally. It is hardly appropriate for a company or an industry ripe off a settlement for hundreds of millions of dollars to the government to make such assertions.

It would be nice if you would assist us in the identification and elimination of those unethical and illegal distributorships that act against the best interest of society while at the same time support, in a positive manner those physician owned distributorships that are legally compliant,operate with proper intent, improve the efficiencies of medical device distribution and enhance the value of healthcare in this country.

Visit the American Association of Surgeon Distributors ( to see the standards put in place to ensure the ethical and legal application of this model.

Submitted: Feb-21-2012 9:35 AM ET by Jeff Binder

You say that the California law does not address PODs at all, an assertion that is grounded in a Hooper Lundy Bookman (HLB) Health Law E-Alert of January 31, 2012. I say that this law, in essence, outlaws PODs in Workers’ Compensation cases. My assertion is based on two Hogan Lovells alerts on the same topic (January 19, 2012 and February 10, 2012), both of which state that the law clearly addresses PODs.

The key to HLB’s opinion is its preferred definition of “refer.” However, Hogan Lovells concludes that ”… a physician obviously makes a ‘referral’ when he or she orders a device from his or her POD to implant in a patient.” Which definition is more consistent with the position that DOJ has historically taken or, more specifically, that the US Attorney for the State of NJ has taken in its prosecution of orthopaedics companies? Are you really willing to risk prosecution of yourself and your partners—either in California or federally—on a highly technical, strained interpretation of the meaning of “referral”?

I will ignore your economic arguments for the moment as they are irrelevant to the core issue (and because we have already addressed them here). You are cloaking your argument to doctors in save-the-world self-righteousness while enticing them with the oldest sales pitch in the world: easy money.

We welcome ethical and legal competition. However, we have not yet seen a POD model that meets either standard.

If you were to tout a pure low cost model without financial incentives to surgeons for using particular products, we would have no issues. We would simply compete.

However, you cannot deploy your models without surgeon participation or investment. It is obvious why you recruit surgeons and not anyone with more specific distribution expertise. Surgeons would be far less likely to switch to the products which PODs sell if there were no financial incentive for them to do so. You know it. We know it. This is the essence of a kickback.

The healthcare industry has seen federal scrutiny based on kickback theories less straightforward than anything you are advocating here. As someone who has loved this industry for 20 years, and who has the greatest respect for orthopaedic surgeons, it is my sincere hope that you stop leading surgeons down this dangerous path.

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