HEAT Zones and Their Impact on Pharmacy Transactions

For pharmacy owners in select areas of the country, a federal fraud initiative is having a significant impact on their ability to attract buyers, secure a good sale price, and obtain financing to support growth. If you own a pharmacy in or near one of these affected areas, it is imperative that you learn about this initiative and what it may mean to your short- and long-term ownership plans.

This article provides background information on the initiative and addresses how pharmacy owners operating in these areas should approach their efforts to sell and work with lenders.

Background

In 2009, the Health Care Fraud Prevention and Enforcement Action Team (HEAT) was formed. HEAT is a joint initiative between the U.S. Department of Health and Human Services, the Office of Inspector General (OIG), and the U.S. Department of Justice. Many people are familiar with HEAT because it includes the Medicare Fraud Strike Force.

Established in 2007, Strike Force combines resources of federal, state, and local law enforcement entities to prevent and combat healthcare fraud, waste, and abuse, including crimes committed by individuals illegally posing as healthcare providers or suppliers.

As of January 2019, Strike Force has pursued more than 2,100 criminal actions, executed more than 2,700 indictments, and collected $3.3 billion in receivables, according to OIG statistics.

Strike Force teams operate in and around major U.S. metropolitan cities considered areas of high levels of fraud. Many of these cities are also considered "HEAT Zones," which are designated by the Centers for Medicare and Medicaid Services (CMS) as having high rates of healthcare fraud. Specifically, the CMS HEAT Zone cities include the following:

• Baton Rouge, Louisiana
• Brooklyn, New York
• Chicago, Illinois
• Dallas, Texas
• Detroit, Michigan
• Houston, Texas
• Los Angeles, California
• Miami-Dade, Florida
• Tampa Bay, Florida

Feeling the HEAT

If a pharmacy operates in one of the HEAT Zones or a surrounding area, it will be more closely regulated and scrutinized. Such increased regulations take the form of enhanced credentialing and recredentialing requirements and additional fees from pharmacy benefit managers (PBMs) for admittance into their networks.

These expanded requirements make what is generally a straightforward and simple application process into a complex, arduous experience. HEAT Zone pharmacies interested in joining a PBM's network must complete significantly longer credentialing documentation, with the additional pages concerning attestation of legal operations (i.e., no fraud).

Credentialing documentation for pharmacies located outside of HEAT Zones is often just a few pages. Credentialing and recredentialing documentation for pharmacies in HEAT Zones can be up to 30 pages.

Extended Zones

If you own a pharmacy located in a county neighboring one of the HEAT Zone cities, you may be susceptible to some of the same requirements as pharmacies within these cities. PBMs have chosen to expand their own HEAT Zones beyond those areas identified by CMS.

In some instances, a single PBM may have selected a county as a HEAT Zone. In other instances, multiple PBMs may have flagged the same county. Examples of neighboring counties identified as extended HEAT Zones by at least one PBM include the following:

• Essex County, New Jersey
• Hillsborough County, Florida
• Oakland County, Michigan
• Orange County, California
• Palm Beach County, Florida
• Tarrant County, Texas

Impact on Network Admittance

PBMs are not generally known as fast-acting organizations. Longer documentation requirements also mean longer review processes.

Pharmacies hoping to join these networks will need to account for a lengthy time between submission of their application and (hopefully) acceptance. Pharmacies desiring to renew their participation will need to take this extended period into consideration. Furthermore, PBMs often have other rules concerning admittance for pharmacies following a change in ownership.

In a pharmacy credentialing and recredentialing document, EnvisionRxOptions notes, "Pharmacies located in high-risk fraud zones (HEAT Zones) must be open under the current ownership for 18 months before admittance into the Envision pharmacy network."

However, Envision further provides that applicants located in HEAT Zones that own pharmacies already in the Envision Pharmacy Network that are in good standing and are actively billing do not need to meet the 18-month requirement.

Impact on Transactions

As noted above, the enhanced credentialing requirements, delay in processing times, and standby periods related to a change in ownership can dramatically affect an individual trying to sell or purchase a pharmacy located within a HEAT Zone (or a surrounding county).

Notable effects include the following:

• An owner attempting to sell their pharmacy within a HEAT Zone is likely to attract a reduced number of interested buyers. Buyers who do not own pharmacies in existing HEAT Zones and understand the requirements are less likely to pursue the acquisition of a pharmacy in a HEAT Zone.
• An owner attempting to sell their pharmacy within a HEAT Zone will likely need to reduce their proposed purchase price as a concession to a prospective buyer to account for additional expenses associated with meeting HEAT Zone requirements. Additionally, purchase price may be reduced further if a prospective buyer is not a member of significant networks in the area.
• A prospective buyer interested in a pharmacy located within a HEAT Zone may encounter problems securing financing from a third-party lender or may need to incorporate more onerous terms and conditions into its purchase agreement due to various HEAT Zone issues.

Impact on Financing

If a buyer wishes to purchase a pharmacy located within a HEAT Zone using a third-party lender, the buyer should anticipate the proposed transaction to receive increased scrutiny by the lender because of the associated issues related to cash flow, insurance contracts, and other matters related to the pharmacy's location within a HEAT Zone. As noted above, certain PBMs require an "open" period before applicants are admitted into the network because of fraud concerns.

To the extent the pharmacy earns a material amount of revenue from that specific network, the lender may not be able to provide the full amount of the loan requested by the buyer because that specific stream of revenue may go away entirely or be subject to the delay rule. To loan money, the lender must ensure it has sufficient collateral. If the prospective pharmacy business is located within a HEAT Zone, the lender may not be able to rely on a stream of revenue that could go away or face delays due to the PBM's change of ownership requirements.

Alternatively, the lender may still fund the full amount of the loan to the buyer; however, the lender may require that certain funds be placed in escrow until such time that the buyer has established itself within the appropriate network (or after the "open" period expires). Ultimately, the inability to obtain the full amount of a loan (or change in transaction structure) required to purchase a pharmacy located within a HEAT Zone causes frustration for the buyer and seller.

Take the HEAT Off

Despite the challenges associated with operating a pharmacy in a HEAT Zone, owners looking to sell within the foreseeable future should still be able to attract good buyers willing to pay fair rates. However, to help ensure the pharmacy maintains its marketability, owners must put in the work.

This will include taking the following steps:

• Secure admittance in networks (complete the work).
• Understand PBM requirements and follow them.
• Develop policies that ensure timely and appropriate completion of credentialing and recredentialing.
• Maintain clean books and financial records to avoid even the appearance of fraud — a good practice for all pharmacies.
• Do not delay. As explained above, contracting and credentialing are time-consuming processes. If buyers see that you do not have your act together on this matter, they will question your preparedness for other requirements and ability to properly operate a pharmacy business.

Finally, work with advisors experienced in supporting HEAT Zone pharmacies. Doing so will help ensure a smooth sale and higher valuation.