Physicians’ steady interest in hospital employment — a trend that has accelerated in recent years and is not expected to reverse — has implications for their employment contracts, particularly restrictive covenants, or non-compete clauses.
Healthcare employers in states that enforce non-compete clauses — the majority do — have traditionally used the contract provision to protect themselves when a physician decides to depart and practice elsewhere. The clause establishes a geographic boundary in which the physician is barred from practicing in for a specified period of time. If the physician violates the provisions, the covenant also defines the amount in damages the physician must pay.
Emerging nuances in hospital-physician relationships, the proliferation of accountable care organizations and other factors of today’s rapidly consolidating healthcare industry are influencing how providers choose to approach non-compete clauses and attune them to their broader organizational strategies. Here are six trends and key issues influencing restrictive covenants in a time of rapid healthcare consolidation.
Editor’s note: This article highlights current, broad trends observed in restrictive covenants in employment contracts between healthcare providers. State law governs restrictive covenants. Therefore, states vary in their interpretation and enforcement of such clauses, if such clauses are legal in the state. This article speaks to no specific state law concerning restrictive covenants and is structured to review general trends pertaining to this type of contract provision.
1. When employing physicians, hospitals are tolerating potentially less restrictive covenants. As more physicians seek hospital employment, hospitals are trying to master a delicate balance by establishing a secure physician base while maintaining loyalty with independent physicians in the market. Hospitals are still seeking to protect themselves with restrictive covenants, but are approaching them differently. The rapid pace and competitive nature of hospital-physician integration has prompted more narrow clauses than years past, according to Ronald L. Vance, JD, managing director and physician strategy team leader for Navigant Consulting in Atlanta.
Previously, a health system’s restrictive covenant may have prohibited a departing physician from practicing in the community for up to two years after the physician terminated his or her agreement with the health system. The geographic terms (i.e., cannot practice within 15 miles of the health system) and time restrictions were quite broad, according to Mr. Vance.
Now, a covenant’s terms may allow physicians to have an exit strategy in which they are able to practice in the community as long as they do not join a competing health system or become shareholders in another endeavor that would compete with their former employer. Generally, the geographic restrictions are also more narrowly defined, such as five miles, although this varies depending on the density of the market.
“More sophisticated [physician] practices won’t join a system without some thoughtfulness about an exit strategy,” says Mr. Vance. Less restrictive non-compete clauses allow for physicians’ potential exit so they can still practice and, ideally, remain allegiant to the health system. Despite these allowances, health systems are still structuring clauses to prevent departing physicians from becoming part of a larger competitor.
Less restrictive non-compete agreements also include provisions for physicians to repurchase their practice assets — generally under the same terms, methodology and valuation approach the system used in its initial purchase of the practice. This clause is rarely put to use, according to Mr. Vance. “If physicians received a significant amount of money for their [practice] assets, I’ve seen few practices reconstituted. Few physicians go back into practice. It’s almost impractical,” he said. “That said, health systems still want to retain allegiance from physicians who desire to leave employment, but remain practicing in the community.”
2. Accountable care organizations will give rise to unorthodox terms of employment that resemble legal covenants, but aren’t. ACOs and clinically integrated networks are likely to unleash new conditions for physician employment or participation that do no classify as restrictive covenants. These conditions will likely be a bit softer than non-compete agreements, but will have the same amount of power, if not more, according to Mr. Vance. For physicians participating in an ACO, conditions of participation will typically factor in quality outcomes, patient satisfaction and costs of care, if not more criteria.
“[Physicians will have to] perform within quality and service scorecard measurements to remain members of a clinically integrated network of providers; if they don’t meet those performance standards, they will find it challenging to remain competitive within their respective markets,” said Mr. Vance. In the past, traditional legal vehicles were used to protect health systems’ and physicians’ interests, but new care delivery models and enhanced performance requirements are prompting alternative ways for parties to commit to one another.
3. More hospitals are finding themselves on the receiving ends of tortious interference claims. Hospitals are finding themselves in unmarked territory as many try to avoid the effects of non-compete agreements. “As we have more hospital acquisitions of practices, hospitals are [finding themselves] on the receiving end of non-compete suits because they’re being sued by the practice they hired away from for tortious interference,” says Jeffrey Clark, JD, partner with McGuireWoods in Chicago.
Tortious interference is the act of infringing on other parties’ agreements, contractual commitments or contractual relationships. The trend of hospitals facing these suits is a twist from the norm, since hospitals were most frequently the entity enforcing non-compete agreements with employed physicians. The change is largely due to the growing competition in certain markets, as hospitals race to build their ranks of employed physicians. “Sometimes, [hospitals] are sued by the physician groups that are trying to stave off hospitals,” said Mr. Clark.
4. Systems are raising the bar for liquidated damages clauses. In the past, health systems that enforced restrictive covenants often included provisions for liquidated damages as a remedy for a breach of the non-compete. This is a way for parties to avoid litigation, which can become quite costly and time-consuming. Liquidated damages clauses establish the sum a departing physician must pay the system if he/she continues to work in a geographic area that violates the terms of the non-compete agreement.
In highly competitive markets, liquidated damages did not act as an effective barrier for larger health systems, according to Mr. Vance. “In prior eras of high competition, systems that really wanted to employ a physician would buy out the liquidated damages clause,” he says. Now, in contracts that do include liquidated damages clauses, the monetary amount is set relatively high. The sum of a liquidated damages clause is often written as a percentage of the physician’s base salary. Thus, more established physicians with higher salaries will often have higher sums in their clause. Mr. Vance also said there is additional scrutiny on the fair market value compensation packages physicians may receive, which must account for any signing bonuses, loans and/or other payments, including funds that allow the physicians to pay liquidated damages.
5. Sophisticated physician practices are ramping up their scrutiny and use of non-compete agreements. Because physician practices are under such pressure, they’re very sensitized to the chance of losing physicians, according to Mr. Vance. “There is increasing scrutiny over non-competes for sophisticated private practice groups. Even though it’s not something candidates want, I think you’ll see a resurgence of private practices using more restrictive non-competes when recruiting.”
In recent years, physicians have found it more difficult to demand joining physicians buy into their existing practice due to evolving economic factors. “In the last 10 years, if there was patient demand, patients were more willing to go to new doctors because they were accessible. It was less important for that doctor to be tied to some known doctor in the area,” says Mr. Vance.
As a result of this demand, existing physician practices couldn’t get physicians who were moving into the community to pay a buy-in when those new physicians could just as easily set up shop next door and become competitors. “They economically can’t get doctors to step up to [buy-ins],” says Mr. Vance.
Less opportunity for physician buy-in and buy-outs reduces the barrier for physicians to leave a privately owned practice and walk down the street to work at a hospital. As a result, private practices are more concerned about bringing in junior talent that will establish and expand a patient base, then leave for hospital employment or join another area private group and become the practice’s competition.
6. Oversight from the Federal Trade Commission is not out of the question. The FTC showed some teeth this past summer when it ordered 10 cardiologists in Reno, Nev., to be exempt from non-compete clauses with Reno-based Renown Health. The health system acquired a 15-cardiologist practice in 2010 and a 16-cardiologist practice in 2011. An FTC analysis found this left Renown with control over 88 percent of the cardiology market in the Reno region, a finding that was exacerbated with the fact that the cardiologists faced a $750,000 fine if they left Renown and practiced within 50 miles of the region within the next two years. Under the FTC settlement, Renown agreed to suspend the non-compete provisions for the 10 cardiologists until at least six accepted offers with competing practices in the Reno area.
The Renown-FTC event is an isolated incident with its own set of circumstances, but it demonstrates how non-compete clauses — especially those that are narrowly structured — can influence hospitals’ market share and incur scrutiny over anticompetitive conduct. “There is a test that [the non-compete clause] has to be reasonable in geographic scope, duration and impact,” says Mr. Clark. For now, FTC scrutiny may be more likely in areas that have regional medical centers, given the density of those markets and how consolidation can affect reimbursement rates and payor negotiations. Hospitals in urban areas with numerous competing health systems and overlapping service bases are less prone, though not exempt, from anticompetitive scrutiny.
Source: Beckers Health Review, Molly Gamble