What is an Affiliation Contract Agreement?
An affiliation contract agreement is a legal document that sets forth the terms under which one group or entity will provide services to, or perform various undertakings on behalf of, another group or entity. In the example of two organizations that have existing relationships, the parties could be completing all kinds of transactions together and it becomes crucial for both groups to understand their obligations to each other before beginning to work together on specific projects .
For example, a manufacturer of medical devices may have agreements with certain distributors regarding the payment structure and other terms under which it sells its devices. Other vendors of raw materials, such as manufacturers of metal, plastic, and rubber components may also have agreements with the manufacturer about the same topics, so that everyone involved is clear about what they’re doing.
Affiliation contract agreements can be applicable in almost any industry, and especially in the medical field, where manufacturers, investors, and even physicians rely on contractual agreements to keep their relationships running smoothly.
Components of Affiliation Agreements
When forming an affiliation contract agreement with a physician, a hospital or another third party, there are five essential elements regarding the term of the agreement that should be addressed. These items are:
1. Identify the Individuals Who are Parties to the Agreement.
The parties to the agreement must be clearly set forth so that each of the parties knows who is responsible for and obligated to carry out the terms of the agreement and who can enforce the terms of the agreement. This can be accomplished by naming the party in the body of the agreement and then having the individual execute the agreement in his/her capacity as a representative of the respective entity.
2. Describe the Services to be Provided.
The agreement should describe the services in detail. It must be clear which party is providing the services and which party is receiving the services. The agreement should also set forth the location(s) at which the services will be provided, how the services will be performed and who will pay for the cost of the services.
3. Include the Term(s) of the Agreement.
The agreement must set forth the duration of the agreement (i.e., how long will the agreement be in effect). The parties can draft the agreement with a fixed start and end date or allow the agreement to be automated. When the agreement is automated, it continues through successive terms of one year unless either party terminates the agreement with notice to the other party within the designated period of notice. The agreement can also provide for automatic termination if a prospective buyer terminates the agreement under applicable antitrust laws, regulations or guidelines or if the buyer chooses not to purchase the practice (sale of the practice).
4. Set Forth the Rights and Responsibilities of Each Party.
The parties to the agreement must understand what their individual obligations and liabilities are under the agreement, including the obligations and liabilities imposed on the party by applicable federal or state laws and regulations.
5. Set Forth How Terms May Be Modified, Amended or Terminated.
The agreement should set forth any conditions to the agreement when the agreement can be amended, without redoing the entire contract, and how the contract can be terminated. The agreement also should set forth the circumstances under which one party may terminate the agreement for breach or other just cause.
The above is not an all-inclusive list of items that should be set forth in an agreement; there are many other factors which may need to be addressed. It is advisable to have any and all documentation reviewed by a healthcare attorney before implementation or execution.
Affiliation Agreements – Legal Aspect
Affiliation agreements, as contractual relationships between affiliated organizations, must consider the impact of applicable regulatory compliance obligations. For example, compliance with the following should be considered:
• COP. Contracts, written policies, quality assurance programs, and clinical corrective action plans in use by an affiliate participating in a clinical study must be defined in the contract between the sponsor and the trial site. If an affiliate has a written policy for filing Medicare and Medicaid claims, it should be specified in the Clinical Trial Agreement. In the event of non-compliance, CMS expects that a trial participant affiliate will act in accordance with its written policies, procedures, and practice standards to identify and report improper payments.
• Stark Law (PHYSICIAN SELF-REFERRAL). Documentation in an Affiliation Agreement or Clinical Trial Agreement that is not simply incidental to the provision of items or services under the agreement, (e.g., a clinical trial protocol, including: eligibility criteria; an intent to pay subject enrollment fees), may violate the federal Stark Law if fail to satisfy all the requisite "exceptions" to the statute. The Stark Law prohibits entities from billing Medicare for certain "designated health services" that constitute referrals from physicians with whom the entity holds a financial relationship (e.g., ownership or compensation relationships). Federal law prohibits providers from submitting a claim or requesting reimbursement from federal programs, no matter how inadvertent or unintentional, for any items or services stemming from, or furthering, an unlawful referral governed by the applicable patient anti-kickback statutes.
• Anti-Kickback & False Claims Act (AKS/FCA). Agreements governing clinical trial sites must consider and address applicable federal and state anti-kickback and false claims statutes. (E.g., An affiliate participating in a clinical study receives compensation (direct or indirect) that does not exceed payments permitted by applicable anti-kickback statutes, such as the AKS safe harbor for research payments, which permits compensation for "pre-clinical and clinical" trials.)
• Institutional Review Board (IRB) Oversight. IRB (FDA; HHS and OHRP) oversight must be protected or established in an Affiliation Agreement. Applicable laws govern IRB conduct. Generally, the FDA requires that an IRB review and approve all proposed clinical studies involving FDA-regulated products. Specifically, the IRB must ensure that the proposed clinical trial is ethically and scientifically acceptable.
Advantages of Affiliation Agreements
The benefits of affiliation contract agreements are numerous, but the most significant is that they provide significant economies of scale for both parties. Without such contract agreements, the parties will be forced to spend far more money than necessary to be advantageously competitive in their respective marketplaces. Simply put, the parties get a lot more bang for their buck when they enter into an affiliation contract agreement.
More specifically, affiliation contracts give both the parties and consumers of their products and or/ services the ability to benefit from far lower costs of acquisition and distribution than they would if only the parties were to try on their own to sell their respective products and or/ services. The affiliated companies are able to buy and sell their respective products and or/ services at far lower cost than if they were ‘going it alone’ simply because they have more product and or/ services to buy and sell than if each company was trying to go at it ‘alone.’ In terms of economies of distribution, the affiliated companies are able to distribute far more product and or/ services than if they were only distributing on their own simply because they have more products and or/ services to distribute than if each company was trying to distribute ‘alone.’
While economies of scale are often not immediately apparent at the outset of an affiliation contract agreement, they are always there with any affiliation contract simply because of the nature of the concurrence of redundant resources and coinciding objectives. Accordingly, the benefit of having the ability to create economies of scale for virtually no cost is a significant benefit that cannot be ignored.
Affiliation contract agreements are also beneficial because they allow affiliated companies to penetrate markets that they otherwise would not be able to without an affiliation contract agreement. In other words, affiliated companies will often benefit from the fact that their respective businesses are able to penetrate markets that they would not have been able to penetrate without an affiliation contract agreement.
Additionally, affiliated companies benefit from the fact that their respective businesses are able to take advantage of synergies that they otherwise would have to spend significantly more capital to accomplish without an affiliation contract agreement. For instance, the affiliated companies may find that the use of the same part or piece of equipment to produce their respective products and or/ services saves both companies a significant amount of money-money that otherwise would have been used to acquire or/ diversify into those parts or pieces of equipment if each company had to make such an acquisition or/ diversification outside the affiliation contract. Similarly, affiliated companies may find that the need for both to produce and or/ sell their respective products and or/ services respectively enhances both companies’ ability to market and or/ co-market their respective products or/ services with one another. In this way, each affiliated company benefits from the economies of scale from the affiliation contract agreements and can thereby derive significant benefits from such agreements.
Finally, the benefit of having the ability to create economies of scale for virtually no cost is a significant benefit that cannot be ignored.
Affiliation Agreement Pitfalls – What to Avoid
When entering into an affiliation contract agreement, laypeople and practitioners alike must be mindful of some fairly common pitfalls that can have dramatic implications. The most basic issue is a lack of understanding of what the parties intend to accomplish in the transaction. It is critical that all parties know what they want to achieve from the transaction, and that they communicate their intentions to each other, their counsel and to the transaction advisors. Too many times, funding considerations, unique local market concerns and the like are not communicated and understood up front.
Other common pitfalls include the following:
- Lingering Terminations – While it is unlikely that an affiliation transaction will survive if either party is not on board, the way in which change of control events for the contracting parties are handled is important and a source of potential litigation. If a change of control is not clearly defined and spelled out, one party may attempt to terminate the transaction even after the transaction has been approved .
- Failure to Disclose Conflicts – Each party’s board must disclose any conflicts prior to the signing of the agreement. If board members have conflicts of interest that can affect the terms of the affiliation, they must be disclosed. Failure to do so may invalidate the agreement later.
- Unclear Governance – The governance of the combined or affiliated entities must be clearly laid out in the affiliation contract agreement. How will the new entity operate and who will have authority? If not clearly laid out, one party may make unilateral decisions that the other finds objectionable.
- Inadequate Thumbprints – Before any transaction can move forward, all parties must have access to the relevant documents, books and records. If one party operates with only part of the information, it cannot trust the information it does receive and the affiliation could face problems later.
Pointers for Successful Negotiation of Affiliation Agreement
Negotiating a fair and reasonable affiliation contract agreement when you are entering or renewing a relationship with a health system requires the parties negotiate in good faith. Here are some tactics that are effective in affilitation negotiations that can help you obtain reasonable and fair terms:
Liquidity needs – It is important for an independent physician organization to understand its funding needs and liquidity positions before beginning a contract negotiation. Understanding liquidity needs helps establish a minimum provider funding base necessary to remain financially viable. Moreover, an independent physician organization should make sure that its liquidity needs are reflected in the contract agreement.
Discrete review of terms – Discrete review of contract terms allows physicians and their advisors more time to consider each term and its impact on the contracting entity. Well thought out negotiation points prior to a negotiation allow physicians to effectively present their case for a change in contract terms.
Utilizing expert advisors – Physician organizations should consider using an experienced advisor to review and assist with an affiliation contract. The advice of an advisor experienced with physician-hospital contracts can save millions of dollars for a physician organization.
Affiliation Agreements – Examples of Best Practice
In order to provide a practical understanding of how affiliation contract agreements can be established and negotiated, a few case studies are provided below.
Case 1 – Diversion of Emergency Room (ER) Business to Urgent Care: One hospital in rural Georgia had 50% of their ER business diverted to an Urgent Care facility they owned nearby. This resulted in a significant reduction in ER revenue for the hospital as these patients were covered by the same insurance and Payer mix. As part of the neighborhood association, they became aware that a competing facility was seeking to build an Urgent Care 5 miles away. They quickly sought a market valuation and then contacted their competitor to develop a mutually agreeable deal that would allow their facility to have a 2 year exclusive referral agreement with the largest Emergency Room and physician group in the county and establish an affiliation with the competing Urgent Care facility.
Case 2 – Exclusive Doctor Agreed to Exclusivity in Exchange for Salary: One Hospital had negotiated to purchase a physician interest in an Orthopedic practice – the minority partner in the practice. After an extensive discussion of the value and merits of the transaction, the other majority partners had agreed, subject to the hospital agreeing to give the whole practice an exclusive 3 year contract and paying a substantial salary for the exclusive. The cash flow of the practice could not support the compensation and the terms were not in the best interest of the hospital. After a week of back and forth discussions, the majority partner who was to be bought-out, agreed to continue with the buy-out transaction without the exclusivity in exchange for an additional 25% ownership and franchise fee.
Case 3 – Physician Become One Board: One hospital system in North Florida had been having problems establishing a strong group of physicians who would support the hospital and refer patients but would only use the hospital if chosen. The hospital had a number of competitors including a new hospital being built 6 miles away . It was clear the local cardiologists were fragmented in their practice and would only use the hospital if it benefited them. The hospital used this issue to seek an affiliation with a local physician group very similar to a Cardiology Group that was recently on the market for sale. They negotiated an affiliation whereby they structured a new local integrated delivery system (IDS) to align the hospital and the cardiologists. In consideration for an equity interest in the IDS, 5% to 10%, and generous incentives, the cardiologists abandoned their savings plans and aligned their goals and rewards with their hospital competitors. The two entities agreed to shared savings incentives and created a program whereby the cardiologists could participate in the savings plan and get partially paid from volume increases at the hospital if they increased referrals to the hospital. As expected, the increase in volume benefited the savings plan and the hospital. Both entities’ profits increased substantially and numerous physician groups noticed and wanted to align with the hospital.
Case 4 – Hospital Become One Board: A hospital in South Carolina had developed an interest in a local cardiology physician practice group but they were concerned about the impact on their Emergency Room volumes. They concluded that the exclusivity would yield significant ER volumes and sought an approach to both align the hospital and physicians on one board while getting the doctors to recommend patients to the hospital. Their solution was to create a common Board of Directors between the hospital and physician practice entity and make the physician contracts .75 wRVU plus the other terms of the purchase agreement in exchange for a portion of the practice. They further agreed to the same revenue and expense sharing incentive program as discussed in Case Study 3 but changed the name to a Comprehensive Care Network. Suffice to say that it worked and within a year, the hospital had become a Center of Excellence for Cardiovascular Medicine with numerous other physician practice affiliates.