Petition for Writ of Certiorari — Humana Inc. v. Bowen

Supreme Court, U.S,

FILED

-431 ) SEP 14 1995

0. JOSEPH F. SPANIOL, JR.

85

Lowe

IN THE

Supreme Court of the United States

OCTOBER TERM, 1985

HuMANA INC. ef al,

Petitioners,

V.

MARGARET M. HECKLER, Secretary,

Department of Health and Human Services,

Respondent

PETITION FOR A WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE DISTRICT OF COLUMBIA

THOMAS H. BROCK

CASSON, CALLIGARO & MUTRYN

900 Watergate Office Building

2600 Virginia Avenue, N.W.

Washington, D.C. 20037

(202) 462-3200

Counsel for Petitioners

ali IY

i

QUESTION PRESENTED

Whether Congress, in providing for reimbursement to

hospitals for their “direct and indirect” costs of furnishing

hospital services to Medicare beneficiaries, see 42 U.S.C.

§ 1395x(v)(1)(A), intended that investor-owned hospitals be

reimbursed for their actual costs of attracting and maintaining

equity capital used in the provision of patient care.

li

PARTIES TO THE PROCEEDING

In addition to petitioner Humana Inc., the other parties

appearing as appellants in the proceeding below were: Humana

of Kentucky, Inc., Humana of Alabama, Inc., Humana Medical

Corporation, Humana of Tennessee, Inc., Humana of Texas,

Inc., Beaumont Hospital, Inc., Humana of Louisiana, Inc.,

Winnfield Convalescent Home, Inc., Many Clinic & Hospital,

Inc., Brentwood Hospital, Inc., Jefferson Hospital, Inc., Hu-

mana of South Carolina, Inc., Humana of Virginia., Inc.,

Humana of West Virginia, Inc., Humana of North Carolina,

Inc., Humana of Florida, Inc., Humana of Illinois, Inc., Hu-

mana of Mississippi, Inc., Humana of Aurora, liic., Humana of

New Mexico, Inc., Humana of Kansas, Inc., and Humana of

Utah, Inc. All of these additional corporations are wholly-

owned subsidiaries of petitioner Humana Inc.*

Appellee below and Respondent here is Margaret M.

Heckler, in her official capacity as Secretary of the United

States Department of Health and Human Services.

* Humana Inc. is a publicly-traded company with stock traded on the

lew York Stock Exchange. In addition to the other petitioners, Humana Inc.

does business through a number of other wholly-owned subsidiaries.

ill

TABLE OF CONTENTS

Page

QUES TIONS PRESEN TED ........ccccocccccscssoressssscesenseccecess i

PARTIES TO THE PROCEEDING .......................ccseeeeees i

i. nascenensqeipilinennentnane l

FI hicdasinieiitctiditiinsichaseiniitnliinsasanpenaansvnnesuteinasenvess 2

STATUTES AND REGULATIONS INVOLVED......... 2

STATEMENT OF THE CASE .................cccccccssssccscesssscees 4

iis os sncuttponbbbanneend 6

Ba. UE FIER inns ccc ccciccesscecccsrecs 9

REASONS FOR GRANTING THE WRIT.................... 11

I. THE DECISION BELOW IGNORES ESTAB-

LISHED PRINCIPLES WHICH HAVE HIS-

TORICALLY RECOGNIZED THE ACTUAL

COSTS OF CAPITAL AS A COST OF GOODS

PEED AE FP se senrerninnsceenggpacerstnnincotnennerornansees ll

Il. THE DECISION BELOW IGNORES THE

CONGRESSIONAL MANDATE THAT IN-

VESTOR-OWNED HOSPITALS BE REIM-

BURSED FOR THEIR DIRECT AND IN-

DIRECT COSTS OF PATIENT CARE .............. 13

A. Congress Intended That Proprietary Costs

Be Reimbursed As “Direct And Indirect”

Costs Under Medicare ....................0......20000 13

B. The 1966 Amendment Establishing A For-

mula For Determining A Return On

Equity To Nursing Homes Is Irrelevant To

I OI bic diciniinnntchindihiakdiciesinecateniene 16

FT icinaticvesneutstiberabennssanecireinavinaniacinesedactoes 17

iv

TABLE OF AUTHORITIES*

CASES:

American Medical International v. Secretary, 466 F.

Supp. at 613 (D.D.C. 1979), aff'd 677 F.2d 118

ER a BB siicsiitninsineitenernciiaiaiiiibceianecnitbacciio

Bluefield Waterworks & Improvement Co. v. Public

Service Commission, 262 U.S. 679 (1922) ............++.

Chicago v. FPC, 385 F.2d 629 (D.C. Cir. 1967), cert.

Rented, Fae TF ee 6 AIRED entticsetinttinrineceninee

Federal Power Commission v. Natural Gas Co., 315

FR ey BN | | | 5 BR eemonr roneres Fae eet y eee ot een venN

Federal Power Commission v. United Gas Pipeline

Ca; FOB AEE: ZEe ERR D citeeniensnrweninitantianetianinnnnces

Feres v. United States, 340 U.S. 135 (1950)................

Humana Inc., PRRB Dec. No. 81-D12 (Feb. 5,

OIE E Pedal Seti teticeacncinbodidiinaninickesncdachevcnnissiociaiitaleepsabiatinanen

SDS ) ao clinic scccctncieistinnctiasictésienssecteinencbesbavbenuienveorecens

Humana of South Carolina, Inc. v. Califano, 590

eB Peck Eo | SOR apt ae hess

Smyth v. Ames, 169 U.S. 467 (1898 3 occ eccecteeeeeeeeee

Willcox v. Consolidated Gas Co., 212 U.S. 19 (1908).

STATUTES:

4&8 Tt fp SERIO SEES oan sennerinare caaihiale

Oe Ue SD vetaeriinicancediecnmioninin

42 UE ie ee eB i ih tdiiin

SE er ED dias soccnctevsateroesnsenaciaseeereruints

Ce atresia disinterest

GE OE Oe Se 6 IRD censecesstcncecennanenttientnde

ght So e.g EB, | Ree cmarmnneeerneen

Oe ee i cc teiethih ce tccininensaksnsctsinincasinsvahientabintinds

ek te GS Biiictcinnsvccccheeresendnastansatetietiits

REGULATIONS:

a Oe Ica icacicsicsancaaritsidienianermmeabeniniands

id

en

MISCELLANEOUS:

48 Fed. Reg. 39811 (Sept. 1, 1983)...

112 Cong. Rec. 23644 (Sept. 22, 1966) 0.0.00...

Public Law No. 89-713, §7, 80 Stat. 1111

fg MRIS RSE Tek

Reimbursement Guidelines for Medicare, Hear-

ing Before the Senate Committee on Finance,

89th Cong. 2d. Sess. (May 25, 1966)..........00....

Page

IN THE

SUPREME COURT OF THE UNITED STATES

OctTosBer TERM, 1985

No.

HuMANA INC. ef ai.,

Petitioners,

Vv.

MarGarReT M. HECKLER, Secretary,

Department of Health and Human Services,

Respondent

PETITION FOR A WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE DISTRICT OF COLUMBIA

Humana Inc. ef ai. petition for a writ of certioran to review

the judgment and opinion of the United States Court of

Appeals for the District of Columbia in this case.

OPINION BELOW

The per curiam opinion of the United States Court of

Appeals for the District of Columbia ( App., la-22a) is reported

as Humana Inc. v. Heckler, 758 F.2d 696 (D.C. Cir. 1985). On

Apnil 26, 1985, the Court, sua sponte, issued an amendment to

the decisien (App., 23a-24a). The August 19, 1982 memo-

randum opinion of the district court is unreported and is

reproduced in the Appendix. (App., 25a-37a).

2

JURISDICTION

The judgment of the Court of Appeals was issued on April

2, 1985 as amended, April 26, 1985. See Appendix K. A timely

petition for rehearing was denied on June 18, 1985. See

Appendix L. This petition for certiorari is being filed within

ninety (90) days of that date. This Court’s jurisdiction is being

invoked under 28 U.S.C. § 1254(1).

STATUTES AND REGULATIONS INVOLVED

1. Tithe XVIII of the Social Secunty Act requires the

Federal Hospital Insurance Trust Fund to reimburse hospitals

for the “reasonable costs” of services provided to Medicare

patients. 42 U.S.C. § 1395(b)( 1); 42 U.S.C. § 1395g(a). The

Act defines “reasonable costs” as follows (42 U.S.C.

§ 1395x(v)(1)(A):

The reasonable cost of any services shall be the cost

actually incurred * * * and shall be determined in

accordance with regulations establishing the method

of methods to be used, and the items to be included,

in determining such costs for various types or classes

of institutions, agencies, and services***. Such

regulations shall (i) take into account both direct and

indirect costs of providers of services (excluding

therefrom any such cests, including standby costs,

which are determined in accordance with regulations

to be unnecessary in the efficient delivery of services

covered by the insurance programs established under

this subchapter) in order that, under the methods of

determining costs, the necessary costs of efficiently

delivering covered services to individuals covered by

the insurance programs established by this subchap-

ter will not be borne by individuals not so covered,

and the costs with respect to individuals not so

covered will not be borne by such insurance

programs, and (ii) provide for the making of suitable

retroactive corrective adjustments where, for a

3

provider of services for any fiscal period, the aggre-

gate reimbursement produced by the methods of

determining costs proves to be either inadequate or

excessive.

2. In 1966, Coiugress amended the Medicare Act to specify

the method to be used to calculate the rate of return on equity

capital to be paid to nursing homes ( Public Law No. 89-713, 7,

80 Stat. L111 (November 2, 1966), codified at 42 U.S.C.

§ 1395x(v)(1)(B):

Such regulations in the case of extended care services

furnished by proprietary facilities shall include provi-

sion for specific recognition of a reasonable return on

equity capital, including necessary working capital,

invested in the facility and used in the furnishing of

such services, in lieu of other allowances to the extent

that they reflect similar items. The rate of return

recognized pursuant to the preceding sentence for

determining the reasonable cost of any services fur-

nished in any fiscal period shall not exceed one and

one-half times the average of the rates of interest, for

each of the months any part of which is included in

such fiscal period, on obligations issued for purchase

by the Federal Hospital Insurance Trust Fund.

3. The Secretary of Health and Human Services has

promulgated regulations to govern the return on equity payable

under Medicare both to hospitals and nursing homes (42

C.F.R. § 405.429(a)(1)-(2)):

(1) A reasonable return on equity capita! in-

vested ard used in the provision of patient care is

allowable as an element of the reasonable cost of

covered services furnished to beneficiaries by pro-

prietary providers. The amount allowable on an

annual basis is determined by applying to the provid-

er’s equity capital a percentage equal to one and one-

half times the average of the rates of interest on

special issues of public debt obligations issued to the

Federal Hospital Insurance Trust Fund for each of

the months during the provider’s reporting period or

portion thereof covered under the program.

4

(2) For the purposes of this subpart, the term

“propmetary providers” is intended to distinguish

providers, whether sole proprietorships, partnerships,

or corporations, that are organized and operated with

the expectation of earning profit for the owners, from

other providers that are organized and operated on a

nonprofit basis.

STATEMENT OF THE CASE

Few sectors of the American economy have experienced

the degree of government intervention in the marketplace that

has been visited upon the acute care hospital industry since

1965 after passage of the Medicare Act. In the past two

decades, nevertheless, this Court has not interpreted the

substantive reimbursement provisions of the Act as they relate

to hospitals. In the absence of guidance from this Court, the

Secretary of Health and Human Services has implemented the

Medicare Act on the assumption that she is writing on a clean

slate, and therefore has unlimited discretion to define the rights

of investor-owned companies that operate hospitals providing

services to Medicare patients. In implementing the Program,

however, the Secretary has acted contrary to both longstanding

precedent of this Court and congressional intent underlying the

Act by refusing to compensate investor-owned hospitals for the

actual costs associated with equity capital invested and used in

furnishing medical care to Medicare patients.

During the past 100 years the Supreme Court consistently

has enforced the basic principle that private enterprise is

entitled to compensation for their capital costs, including both

the return on equity that must be paid to shareholders for use of

their investment capital and the attendant income tax liability

incurred by the corporation in generating that return. The

Court initially relied on the constitutional prohibition of a

taking of private property for public use without just com-

pensation to protect public utilities subject to state or federal

ratemaking programs. Subsequently, the Court concluded that

_—s

5

statutes prescribing compensation levels to investor-owned

companies other than public utilities were “coextensive” with

the Constitution’s “just compensation” standard, thus making it

unnecessary to invoke the constitutional provision directly.

The merger of just compensation standards and statutory

requirements is best reflected in the Court’s decision in Federal

Power Commission v. Natural Gas Co., 315 U.S. 575 (1942).

There the Court concluded that payment levels to natural gas

producers, established by agency regulation pursuant to the

statutory program, had to satisfy the constitutional principle of

just compensation. 315 U.S. at 586. Thus, natural gas

producers were entitled by statute to just compensation, in-

cluding the costs of attracting and maintaining equity capital,

even though their sales of natural gas under that statute were

entirely voluntary and therefore the constitutional protection

otherwise available to public utilities was not directly available

to them. ;

Humana Inc. is an investor-owned corporation that, with

its wholly-owned subsidiaries, furnishes hospital services to

individuals eligible for assistai ce under the Medicare Act.

Under the Act, Congress specified that hospitals are entitled to

reimbursement for their “direct and indirect costs” actually

incurred in furnishing hospital services to eligible beneficiaries.

42 U.S.C. § 1395x(v)(1)(A). In this litigation, Humana seeks

to vindicate its mght as an investor-owned corporation to

compensation for its actual costs of private equity capital which

it has employed in furnishing patient care, consistent with

congressional intent and with the protections afforded every

other investor-owned company in every other industry under

similar statutory control.

In the decision below, the United States Court of Appeals

for the District of Columbia Circuit ignored historic precedent

and rejected Humana’s claim that the cost of capital was a cost

of patient care. Indeed, the decision in itself is internally

inconsistent on the fundamental issue which Humana must ask

the Court to address. Citing the provisions of 4z U.S.C.

§ 139Sx(v)(1)(A) which require reimbursement of the “direct

and indirect costs” of patient care, the court of appeals

6

recognized that “Indirect costs include such items as return

on equity capital....” ' Nevertheless, the Humana court

concluded that a prior decision in its circuit “preclude{d] a

finding that return on equity is payable’ under

§ 1395x(v)(1)(A)....”2 As a result of this decision, Hu-

mana was not reimbursed for its actual costs of furnishing

patient care to Medicare patients, and it was denied the

procedural protections established by the Medicare Act to

govern disputes regarding reimbursement for “costs.”

The reasoning offered by the court of appeals to justify its

conciusion cannot withstand scrutiny under precedent of this

Court. Further, the court of appeals ignored the legislative

history of the Medicare Act that demonstrates Congress’

unequivocal intention that the actual capital costs of investor-

owned hospitals be treated as “costs” of patient care. There-

fore, Humana respectfully petitions the Court for a writ of

certiorari to the Court of Appeals for the District of Columbia

Circuit to review the decision below.

A. Procedural History.

1. During its fiscal years ending 1973 through 1977,

Humana furnished acute care hospital services to patients

eligible for benefits under the Medicare Program. Consistent

with the Medicare Act and their contracts with the Secretary,

Humana’s hospitals filed annual cost reports and successive

claims for payment at the close of each fiscal year. See 42

U.S.C. § 1395h; § 139500. Upon receiving these reports the

Secretary’s “fiscal intermediary,” an insurance company such as

Blue Cross which contracts with the Secretary to administer the

Program, audited Humana’s cost reports and rendered an initial

determination as to the amount of reimbursement to which it

believed Humana was entitled.

2. In the cost reports filed with the intermediaries Humana

included claims for reimbursement for three categories of costs

' App., 3a.

2 App., |4a, citing American Medical International v. Secretary, 466 F.

Supp. at 613 (D.D.C. 1979), aff'd, 677 F.2d 118 (D.C. Cir. 1981).

“<— eames

-

it incurred by reason of its status as a proprietary, investor-

owned organization. These “proprietary” costs include:

(1) Return On Equity. To attract and maintain equity

capital, Humana must earn a return on the equity capital of

the company, which is either distributed to shareholders as

a return on their investment or reinvested in the company.

(2) Income Taxes. The federal and state income

taxes levied on Humana’s return on equity reduce the total

earnings available to distribute to Humana’s shareholders.

Because shareholders make investment decisions on the

basis of the after-tax earnings of the company—i.e., the

total amount available for distribution to share-

holders—the after-tax return on equity earned by Humana

must be competitive in the capital markets from which it

obtains investment capital.

(3, Stock Maintenance Costs. Humana directly incurs

transactional costs to gain access to equity capital markets,

from which it obtains private investment capital. These

expenses include accounting and other costs related to

Securities and Exchange Commission filings, stock transfer

fees, and the costs of shareholder meetings and annual

reports.

Upon completing its audit of Humana’s cost reports, the fiscal

intermediaries denied in whole or in part Humana’s claims for

reimbursement of each of these costs.4

3 Humana sought reimbursement for Medicare’s share of Humana’s

stock maintenance costs and federal and state income tax liability. In

addition, Humana so-:ght Medicare reimbursement for Humana’s actual,

after-tax cost of attracting and maintaining equity capital invested in the

facility. While the Program reimburses investor-owned hospitals for a return

on equity capital at a rate established by a regulatory formula, see 42 C.F.R.

§ 405.429, Humana contends that the rate prescribed by regulation is illegal

because it yields an after-tax rate far below Humana’s actual cost of capital.

See infra at 16-17.

* Humana’s claims for reimbursement of Medicare’s share of its stock

maintenance costs and federal and state income taxes were denied outright.

Humana’s claims for reimbursement of its actual costs of equity capital were

denied to the extent they exceeded the amount permitted under 42 C.F.R.

§ 405.429. See Appendices D-J.

8

3. Pursuant to the Act, Humana appealed the inter-

mediary’s determination to the Provider Reimbursement Re-

view Board, an adjudicative panel within the Department of

Health and Human Services. See 42 U.S.C. § 139500.

Although the Board granted Humana’s claims for some of these

costs,5 the Secretary of Heaith and Human Services, acting

through the Administrator of the Health Care Financing Ad-

ministration, reversed those decisions and denied all of Hu-

mana’s claims. See 42 U.S.C. § 139500(f).

4. Exercising its mght to judicial review of the agency

decision, see 42 U.S.C. § 139500(f), Humana filed complaints

in the United States District Court for the District of Columbia

seeking review of each of the decisions of the Board (or the

Administrator) denying Humana’s claims for the five fiscal

years. In an unreported memorandum decision dated August

19, 1982, the district court entered summary judgment against

Humana on all of the claims for reimbursement of proprietary

costs. App., 25a-37a. On appeal, the United States Court of

Appeals for the District of Columbia Circuit affirmed the

district court decision. Humana Inc. v. Heckler, 758 F.2d 696

(D.C. Cir. 1985); App., la-24a.7

5 See 42 U.S.C. § 139500(f)(1). The Board upheld Humana’s claims

for stock maintenance costs for all fiscal years at issue and Humana’s claims

for income taxes in its fiscal years ending 1976 and 1977 to the extent those

taxes are attributable to the return on equity paid to Humana. See Humana

Inc., PRRB Dec. No. 81-D12 (Feb. 5, 1981) (App., Appendix D).

6 The fifth lawsuit, No. 82-1989, involves the separately-filed claims of

one of the Humana subsidiaries, Humana of South Carolina, Inc. In that

action the individual subsidiary challenged the legality of 42 C.F.R. § 405.429

without first presenting its claims to the Provider Reimbursement Review

Board. After it was determined that the district court did not have jurisdiction

to hear those claims until after they had been considered by the Board, see

Humana of South Carolina, Inc. v. Califano, 590 F 2d 1070 (D.C. Cir. 1978),

the case was consolidated with the others then pending in the district court.

See App., 4a n.7.

7 Throughout the administrative and judicial process, twelve of Hu-

mana’s hospitals also had asserted distinct claims for reimbursement of other

capital costs denominated by the court below as “stock acquisition costs.”

The Court of Appeals for the District of Columbia Circuit vacated the district

court decision denying Humana’s claims in the case of eight of the twelve

hospitals asserting stock acquisition cost claims. See App., 14a-22a. Humana

does not seek review of that portion of the District of Columbia Circuit’s

decision.

B. Statutory Framework.

1. This case calls for an interpretation of two sections of

the Medicare Act. The first provision, 42 U.S.C.

§ 1395x(v)(1)(A), which was part of the Medicare Act as

originally enacted in 1965, requires the Secretary to reimburse

hospitals for their “direct and indirect costs” of furnishing

hospital services. Humana claims that its capital costs are

indirect costs of patient care, and that reimbursement for its

capital costs must comply with the requirements of this section.

Endorsement of Humana’s interpretation of the statute has

two implications. First, Humana would be entitled to

reimbursement for its actual cost of obtaining equity capital,

which the District of Columbia Circuit recognized as an “in-

direct cost” of patient care. Second, Humana would be entitled

to an individualized determination of its actual costs of equity

capital and, if the methods adopted by the Secretary in

regulations to calculate payments to Humana produced

reimbursement that is inadequate, the Secretary would be

required to make “suitable retroactive corrective adjust-

ments” for each fiscal year at issue. See 42 U.S.C.

§ 1395x(v)(1)(A)(i).

2. The Court of Appeals, however, sustained the Secre-

tary’s contention that proprietary costs are not indirect costs of

patient care.® This finding directly contradicts the Secretary’s

own regulations, which during ail relevant periods specified

that:

... a reasonable return on equity capital invested and used

in the provision of patient care is allowable as an element

of the reasonable cost of covered services furnished to

beneficiaries by proprietary providers.

8 See App., 8a-9a (stock maintenance costs ); id. 9a-12a (income taxes);

id. |2a-14a (return on equity capital ).

9 E.g., 20 C.F.R. § 405.429 (1976). The regulations regarding a return

on equity capital were amended in 1983 to reflect the implementation by

Congress of a new reimbursement program which included changes in

reimbursement levels for capital costs of proprietary hospitals. 48 Fed. Reg.

39811 (Sept. 1, 1983), codified at 42 C.F.R. § 405.429 (1984).

10

Similarly, as noted above, this finding is directly contrary to the

Humana court’s stated understanding that “Indirect costs in-

clude such items as return on equity capital....” App., 3a.

3. In reaching this conclusion, the Court agreed with the

Secretary’s contention that Humana’s hospitals could claim a

return on equity only as prescribed by a different section of the

Medicare Act that has absolutely nothing to do with investor-

owned hospitals.1° This provision of the Medicare Act, which

is the second section of the Act that must be evaluated in this

case, was adopted in 1966 to require the Secretary to guarantee

' nursing homes a formula-derived rate of return on equity

capital. See 42 U.S.C. § 1395x(v)(1)(B).11

4. Upon concluding that the claims of Humana’s hospitals

had to be evaluated under the 1966 nursing home amendment,

the court of appeals rejected Humana’s contention that it was

entitled to the protections of § 1395x(v)(1)(A). First, the

court reasoned that Humana was not entitled to reimbursement

for its actual costs of attracting and maintaining equity capital,

but instead was limited to the far lower rate of return on equity

capital established under the 1966 nursing home amendment.

App., 13a. Second, the court rejected Humana’s claim that it

was entitled to an individualized determination of its actual

amount of proprietary costs it incurred, because the right to that

adjudication does not exist for disputes over reimbursement

levels for payments under the 1966 nursing home amendment,

but instead extends only to disputes over reimbursement levels

for “costs.” App., 14a.

10 See App., 14a.

11 See infra at 16-17.

11

REASONS FOR GRANTING THE WRIT

I. THE DECISION BELOW IGNORES ESTABLISHED

PRINCIPLES WHICH HAVE HISTORICALLY REC-

OGNIZED THE ACTUAL COSTS OF CAPITAL AS A

COST OF GOODS AND SERVICES

In producing goods or supplying services, the expenses

incurred by an investor-owned corporation associated with its

proprietary status and the attraction of private investment

capital historically have been recognized as “costs” for which

the corporation must be reimbursed. This established principle

is best reflected in this Court’s decision in Federal Power

Commission v. Natural Gas Co., 315 U.S. 575 (1942). There, in

defining the statutory term “lowest reasonable rates” under the

Natural Gas Act, see 15 U.S.C. § 717, this Court concluded that

the “Congressional standard coincides with that of the Con-

stitution.” 315 U.S. at 586.

Indeed, any other construction would have been non-

sensical: Congress knew that it could not induce the voluntary

sale of adequate supplies of natural gas by prescribing statutory

payments that by definition were confiscatory. Similarly,

Congress could not have expected the participation of investor-

owned hospitals in Medicare without compensating them for

the costs of capital.

The just compensation principles, which have been devel-

oped by this Court in nearly a century of ratemaking litigation

under a variety of regulatory schemes, clearly established the

right to compensation for the costs of capital. For example, this

Court has held that “what the company is entitled to ask is a

fair return upon the value of that which it employs for the

public convenience.” Smyth v. Ames, 169 U.S. 467, 547 (1898).

“Rates which are not sufficient to yield a reasonable return on

the value of the property used at the time it is being used

to render the services are unjust, unreasonable and confisca-

tory....” Bluefield Waterworks & Improvement Co. v. Public

Service Commission, 262 U.S. 679, 690 (1922). The decision of

the Court below, by ignoring precedent, is directly contrary to

the historical concept of “costs.”

12

The concept of costs under precedent includes com-

pensation for taxes attributable to return on equity, contrary to

the decision of the court of appeals. See App., 9a-l la.

“Normally included as a cost of service is a proper allowance

for taxes, including federal income taxes.” FPC v. United Gas

Pipeline Co., 386 U.S. 237, 243 (1967). Taxes are “properly

treated by the company as part of its operating expenses, to be

paid out of its earnings before the net amount could be arrived

at applicable to dividends, and, if such latter sums were not

sufficient to permit the proper return on the property used by

the company for the public, then the rate would be in-

adequate.” Willcox v. Consolidated Gas Co., 212 U.S. 19, 51-52

(1908).12 The income taxes generated by the need of an

investor-owned corporation to compensate shareholders for the

use of their capital have always been treated as a “cost” of

furnishing services under ratemaking programs.

The rejection of this precedent by the Court below on the

ground that Medicare participation is voluntary (App., 10a-

lla), is without merit. The position of producers under the

Natural Gas Act and of hospitals under the Medicare Act is

indistinguishable. Unlike public utilities, neither gas producers

nor hospitals are required to sell their product or services, the

hallmark of a “taking” under the Fifth Amendment. Yet no

court has explained why compensation levels for voluntary

sales under the Medicare Act need not, under the statute,

similarly comply with constitutional standards. '3

12 Contrary to the lower court’s decision, the total exclusion of tax

liabilities from reimbursement calculations is not warranted because of the

disparate tax treatment of different proprietary facilities. See App., |0a-i!2

Ratemaking agencies have routinely “normalized” a regulated company’s

year-to-year tax liability “less future consumers be compelled to subsidize

present consumers being served by operations accruing tax liabilities.”

Chicago v. FPC, 385 F.2d 629, 633 (D.C. Cir. 1967), cert. denied, 390 U.S.

945 ( 1968).

'3 That Medicare reimbursement is retrospective rather than prospective

(App., lla), does not justify the result below. At most, a retrospective

compensation structure might provide greater security of investment, and

thereby warrant a lower rate of return than that paid under a prospective rate

structure. It does not, however, justify the wholesale exclusion of capital costs

from compensation calculations.

7

13

II. THE DECISION BELOW IGNORES THE CONGRES-

SIONAL MANDATE THAT INVESTOR-OWNED

HOSPITALS BE REIMBURSED FOR THEIR DIRECT

AND INDIRECT COSTS OF PATIENT CARE.

A. Congress Intended That Proprietary Costs Be Reim-

bursed As “Direct and Indirect” Costs Under Medi-

care.

Before the inviolate principles underlying the relationship

between the government and private enterprise are abandoned

in implementing the Medicare Act, the courts must look to the

legislative history of that Act to determine if Congress had that

intent. “We cannot impute to Congress such a radical depar-

ture from established law in the absence of express Congres-

sional command.” Feres v. United States, 340 U.S. 135, 146

(1950). When the legislative history of the Medicare Act is

consulted, it is immediately apparent that Congress explicitly

intended to follow universal practice.

The 1965 cost estimates prepared by the Secretary and

relied upon by Congress in enacting the “reasonable cost”

standard included provisions for the payment of the costs of

equity capital of investor-owned hospitals.'¢ Moreover, the

Senate Finance Committee understood that the reasonable cost

standard by necessity had to include reimbursement for capital

costs if Medicare was to have any chance of success:

Without expectation of a “return on capital” there

would be little incentive for the development and

Participation of proprietary institutions necessary to

the successful provision of services to beneficiaries of

this program. This point appears so obvious to the

staff—and to the chief actuary of the Social Security

Administration—that had Congress intended to deny

'4 Reimbursement Guidelines for Medicare, Hearings Before the Senate

Committee on Finance, 89th Cong. 2d. Sess. at 58, 110, (May 25, 1966)

(testimony of Robert G. Meyers, Chief Actuary, Social Security Adminis-

tration ).

14

a “cost of capital” factor to proprietary institutions,

it would have specifically exproprietary such an

expense. '5

The only reason that the cost of equity capital is even a

topic of discussion under Medicare is that a majority of acute

care hospitals in this country are government, charitable, or

otherwise non-profit facilities, whose capital needs are met by

government funding or charitable contributions, and who there-

fore do not have to compensate investors for the use of capital.

Congress understood and accommodated these differences.

The Senate Finance Committee observed that:

Section 1861(v)( 1) of Public Law 89-87 [42 U.S.C.

§ 1395x(v)(1)(A)], which defines ‘reasonable cost,’

provides for differentiation in reimbursement be-

tween proprietary and non-profit institutions. That

provision includes the following sentence:

‘The reasonable cost of any services shall be deter-

mined in accordance with regulations establishing the

method or methods to be used, and the items to be

included, in determining such costs for various types

or classes of institutions, agencies and services... .’

The key words here are ‘various types or classes of

institutions.’ Proprietary and non-profit facilities are

different types of institutions within the meaning of the

statute, 16

Senator Russell Long, Chairman of the Senate

Finance Committee, was more succinct:

[I]t was intended that there should be a return on

investment to proprietary institutions... .

{I]t is just unbelievable to think that anyone would

propose to use propnietary institutions without allow-

ing a return on equity capital....

'S Jd. at 34 (Senate Finance Committee Staff Report).

16 Jd. at 29.

een ee te nn re eee Eran

15

It seems inconceivable to me—to anyone who be-

lieves in the free enterprise system-—that if you have

one fellow competing with someone else, who paid

not a nickel for his plant and equipment, had it all

given to him by the Government, or had it donated,

where the people even made money by donating it

we would suggest that they not allow him something

on that.'7

With this background, the Senate Finance Committee reached

a very simple conclusion:

The difference between proprietary and non-profit

facilities can be summarized as follows:

(a) tax treatment;

(b) availability of grants-in-aid and charitable

contributions; and

(c) normal or traditional expectatior: of

reimbursement.

All of these factors persuade the staff that a dis-

tinction is called for by the statute.

. * *

. [R]Jeimbursement to proprietary institutions

should be based ...on a fair return for equity in-

vested in the facility.'8

In summary, the legislative history of the Medicare Act

displays a clear legislative intent that the uniform practice of

compensating owners for the use of their capital would be

continued.

17 Id. at 43, 58.

18 Id. at 30.

16

B. The 1966 Amendment Establishing A Formula For

Determining A Return On Equity To Nursing Homes

Is Irrelevant To Humana’s Claims.

An evaluation of the decision of the court of appeals rests

on its invocation of 42 U.S.C. § 1395x(v)(1)(B), which was

enacted in 1966 to establish a formula-derived rate of return to

be paid to nursing homes.'? The 1966 nursing home amend-

ment was passed by Congress in reaction to the regulations

adopted by the Secretary earlier in 1966 which had denied any

reimbursement to investor-owned companies for their cost of

capital. See 31 Fed. Reg. 7864 (June |, 1966). These

regulations did not comply with congressional intent underlying

the 1965 Act: In introducing the 1966 nursing home amend-

ment, Senator Long advised his coileagues that by omitting

reimbursement for costs of capital, “They have made a mis-

take.” 112 Cong. Rec. 23644 (Sept. 22, 1966). In this light, the

1966 nursing home amendment must be viewed as mandate to

the Secretary to promulgate regulations consistent with original

congressional intent.

Both the court of appeals and Secretary, nevertheless, insist

that the inadequate retum on equity to hospitals is subject to

the limitations of the 1966 nursing home amendment. App..,

13a-l4a. As a resuit, the court of appeals held that Humana is

not entitled to reimbursement for its actual costs of equity

capital, but instead is entitled to no more than the amount paid

under the formula established for nursing homes under the

1966 amendment. /d. l4a. Additionally, the court reasoned

that because reimbursement for the cost of capital is a legisla-

tive exception to the cost-based standard, Humana cannot

invoke the provision of § 1395x(v)(1)(A)(ii) for an individ-

ualized determination of its actual costs of equity. App., |4a.

19 Pub. L. No. 89-713, § 7, 80 Stat. L111 (Nov. 1, 1966), codified at 42

U.S.C. § 1395x(v)(1)(B).

17

In reaching the conclusion sought by the Secretary, the

court of appeals has misinterpreted the provisions of the 1966

nursing home amendment. The court recognizes that “the plain

language of § 1395x(v)(1)(B) must be our guide.” App., 23a-

24a. The court, nevertheless, _ ncludes that the “plain !an-

guage” of a statute that on its face refers only to nursing homes

is directly applicable to hosr‘:als. Jd. 13a-14a. In reaching this

conclusion, the court of appeals has abandoned this Court’s

precedent and has ignored the clear intent of Congress, which

warrants issuance of a writ of certiorari.

CONCLUSION

For these reasons, petitioners respectfully request that a

Writ of Certiorari be issued to review the judgment and opinion

of the court of appeals.

Respectfully submitted,

THOMAS H. Brock

CasSON, CALLIGARO & MUTRYN

900 Watergate Office Building

2600 Virginia Avenue, N.W.

Washington, D.C. 20037

(202) 462-3200

Counsel for Petitioners