3 Ways Private Equity Firms Can Protect Themselves from False Claims Act Lawsuits & DOJ Scrutiny

As the U.S. Department of Justice (DOJ) continues to target violators of the False Claims Act, private equity (PE) firms investing in life sciences and healthcare companies should be on high alert. They must take steps to avoid being named in these potentially multi-million-dollar lawsuits.

Mergers and acquisitions in the healthcare and life sciences sector are back on the rise following a slight dip during the COVID-19 pandemic, with many PE firms taking a more significant role in managing their portfolio companies. However, while the prospect of PE diversifying its portfolio by acquiring a small-but-promising player in the life sciences and healthcare spaces–even with a reasonable risk profile–may seem appealing, proper due diligence to identify any violations of the False Claims Act is critical, as these companies will remain in the spotlight among regulators for years to come.

Earlier this year, the DOJ announced it had collected $2.2 billion in settlements and judgments for False Claims Act violations in 2022, the second-highest number since 1986. Of this figure, more than $1.7 billion was related to matters that involved the life sciences and healthcare industries, including drug and medical device manufacturers, durable medical equipment providers, home health and managed care providers, hospitals, pharmacies, hospice organizations, and physicians.

During his 2022 State of the Union Address, President Joe Biden also made it clear that investigating PE firms investing in healthcare providers, particularly struggling nursing homes, would be a priority. Since then, the DOJ has already named a PE firm as a defendant in a False Claims Act lawsuit against one of the PE firm’s pharmacy portfolio companies. In that case, the DOJ discovered that the PE firm was sufficiently involved in the day-to-day operations of the pharmacy to allege that the PE firm caused its portfolio company to submit false claims to the government for reimbursement.

While there have not been a significant number of other False Claims Act cases where PE firms were named as defendants, expect multiple large cases to arrive as the DOJ continues to closely investigate PE’s involvement in the life sciences and healthcare industries. As a result, all PE firms considering investment in these industries should think about how to best protect themselves from DOJ scrutiny.

As a law firm with years of experience defending both the life sciences industry and PE investors, Buchanan knows what the DOJ is looking for. There are a few steps PE firms should take today to protect themselves from being named in a potential False Claims Act lawsuit:

1. Limit involvement in day-to-day operations

Any PE investor working with companies that submit claims to Medicaid, Medicare, or other government entities should consider limiting their operational oversight and involvement. As outlined in the case above, the DOJ pointed to the PE firm’s direct day-to-day support of the pharmacy’s operations as evidence for its involvement in submitting false claims. PE firms are better served taking a hands-off approach towards or advisory role in these companies to avoid being implicated in these costly lawsuits.

2. Conduct thorough due diligence before investing

PE firms also have a responsibility to conduct a detailed investigation into a company’s claims filing activities before investing. They must look into each of the company’s lines of business, the amount of government reimbursement they receive and any audit systems they have in place to detect and report errors. Government contracts and the company’s business practices regarding those contracts should also be closely scrutinized to ensure there are no potential false claims act violations already taking place. A PE firm should only continue with an investment if they have full confidence in the legitimacy of a company’s claims filing practices.

3. Brush up on compliance best practices

Whenever there’s a risk of fraud involving a government contract, it’s critically important to provide employees with anti-fraud and abuse training. PE firms should also consider implementing processes to monitor and assess the company’s compliance with all applicable laws and regulations. In industries under the close watch of the DOJ that have a long history of fraud, compliance best practices must be embedded in the company’s culture and day-to-day operations to protect management and investors.

Investing With Experienced Counsel

At Buchanan, our attorneys and government relations professionals are well-versed in the evolving regulatory landscape, as well as the life sciences and private equity industries. This combination of legal, regulatory, and industry expertise enables us to provide expert counsel to PE firms seeking investment in the life sciences or healthcare spaces. As the DOJ continues to target these industries, PE firms must be careful and should take precautions to protect themselves from a potential lawsuit. Taking these actions today could save millions of dollars (and possible criminal indictments) down the line.