Franchising a Medical Practice
Franchising is an avenue to allow a licensed physician to leverage their medical skills within a proven business platform. Buying into a franchised practice or becoming a franchisee and starting a practice commonly provides a physician access to business and marketing expertise while allowing the physician to focus on patient care issues. Being a member of a franchised medical practice also commonly enhances the physician’s earning potential by supplementing their traditional payor mix with cash-pay services that the physician may not have considered otherwise. However, such a model may not make sense in all situations.
Franchising may not be permissible under relevant state statutory framework due to the corporate practice of medicine doctrine, fee-splitting prohibitions, and other state law considerations. Generally, the corporate practice of medicine doctrine seeks to prevent non-physicians from owning or exerting control over a medical practice. The doctrine becomes relevant when there may be owners other than licensed physicians in the franchisor or franchisee entities. Prohibitions on fee-splitting are based on the general principle that patients should be able to trust that their physicians are making treatment recommendations based on medical need and not payment considerations. These laws come into play when considering how the franchisee entity will pay the franchisor entity for services under the franchise agreement.
Francise Law Generally
A franchise is a common model where a successful business owner (franchisor) sells the rights to their business model and intellectual property to the franchisee in exchange for a fee. The franchise agreement establishes the terms and conditions of the relationship. The agreement will commonly outline the restrictions on the use of the franchisor’s trade names, trademarks, and other intellectual property (collectively known as marks), whether that be an exclusive use or use limited to a specific geographical area. The main purpose of the restrictions are to protect the franchisor’s marks and guarantee the use of such intellectual property is consistent with the franchisor’s use of the marks and know-how (Note: the types of intellectual property commonly involved in these arrangements are discussed in further detail in the Licensing Agreement section below). The value of a franchise is in its know-how. The consistent use of such know-how between locations is how a franchise becomes progressively more well-known and therein successful across a geographical area.
Traditional franchises are governed by a combination of federal and state laws that establish the rules of registration, offer, and sale, including the Federal Trade Commission (FTC) Franchise Rule. The FTC Franchise Rule is a disclosure rule that requires franchisors to provide all potential franchisees with a disclosure document containing 23 specific items of information about the offered franchise, its officers, and other franchisees (the financial disclosure document or FDD). Many states impose additional requirements for the registration or filing of franchises. “Registration states” require franchisors to register the FDD or other franchise information on an annual basis. California, for example, has such a law requiring registration with the California Department of Business Oversight before a franchisor can offer franchises for sale. Franchisors are obligated to provide prospective franchisees with disclosure documents and final franchise contracts no less than 14 days before a franchise sale. The law additionally outlines certain fraudulent and prohibited practices that may constitute civil or even criminal violations.
A number of other states have “business opportunity” laws that regulate the sale of business opportunities in those states. The FTC defines a “business opportunity” as a commercial arrangement in which (1) a seller solicits a prospective purchaser to enter into a new business; and (2) the prospective purchaser makes a required payment, and (3) the seller represents that one or more designated persons will provide locations for the use or operation of equipment, etc., provide outlets, accounts, or customers, and buy back any or all goods or services that purchaser produces.
Business Opportunities Law
While a business opportunity is different from a franchise, these states will require certain filings before the franchises can be sold, such as annual filings. For example, the State of Louisiana requires that franchisors file documents indicating that they do not have a trademark registered with the federal government. Under Louisiana’s Business Opportunity Law, a franchise offering qualifies as a “business opportunity” if the initial fee is greater than $300 and the franchisor represents that it will provide a sale or marketing program to the franchisee that will enable the franchisee to derive income totaling more than the price paid for the business opportunity. The franchisor must additionally appoint the Louisiana Secretary of State as its agent for service of process and maintain a surety bond in the amount of $50,000, in the favor of the state for the use, benefit, and indemnity of any person who suffers any damage or loss a result of a “seller’s dishonesty, unfair or deceptive practice.”
Interestingly, a franchisor is exempt from complying with the Louisiana Business Opportunity Law if the franchise offering is made in conjunction with the licensing of a registered trademark or service mark with either the United States Patent and Trademark Office (USPTO) or the state of Louisiana. For franchisors without a federally registered trademark, the requirements to register a trademark with the state of Louisiana are set forth under its Trademarks, Trade Names, and Domain Names Law (Louisiana Trademark Law). Lastly, regardless of whether the franchisor will need to comply with the Louisiana Business Opportunity Law or the Louisiana Trademark Law, Louisiana franchisors will still need to comply with the FTC Franchise Rule and prepare the FDD prior to entering into a franchise agreement.
The FTC additionally has a federal Business Opportunity Rule that requires business opportunity sellers to give prospective buyers specific information designed to help the prospective buyer evaluate the business opportunity. This information must be provided in a written disclosure document at least seven calendar days before the transaction documents are signed or payment is made. Sellers must retain the following documents for a period of three years and make the documents available to FTC officials for inspection:
- The final disclosure document
- Materially different versions of all documents required by the rule
- Purchaser’s disclosure receipt
- The executed written contract with the purchaser
- All substantiation upon which the seller relies for each earnings claim
In addition to navigating the registration and disclosure rules at both the federal and state levels, a physician contemplating franchising their medical practice must carefully consider the specific healthcare regulatory hurdles that are implicated by the franchise model. These include the traditional considerations, including federal anti-kickback rules, Stark Law restrictions for referrals, and their state law equivalents. This article will focus on the additional considerations posed by the corporate practice of medicine doctrine, fee-splitting prohibitions, and potentially prohibitive language in their private payor contracts.
Corporate Practice of Medicine Doctrine and Fee-Splitting Prohibitions
Physicians should first consider the state in which they intend to open a franchise. Does that state have stringent corporate practice of medicine prohibitions? The corporate practice of medicine doctrine generally seeks to prevent corporations, entities, and non-physicians from practicing medicine or employing physicians to provide medical services. The doctrine is commonly based in state medical practice laws, and the existence and restrictiveness of such laws vary dramatically from state to state. Generally, such laws are meant to prevent (1) the commercialization of medicine and (2) interference with a physician’s medical decision-making.
For example, Section 164.052 of the Texas Occupational Code prevents a physician from permitting another to use the physician’s license to practice medicine and further prevents the physician from assisting an unlicensed person, or a partnership, association, or corporation in practicing medicine. Section 165.156 of the code prevents an unlicensed person, partnership or other entity from indicating that it is authorized to practice medicine. These laws were enacted to prevent corporations (in this instance, franchisor entities with non-physician owners) from controlling medical decisions. In relevant cases, to determine if the corporate practice of medicine doctrine is being evaded, Texas courts have attempted to discern whether the physician or the corporation is controlling medical decisions. Specifically, courts have “consider[ed] the amount of control the [nonphysician] entity exercises over the doctor’s practice and whether that control is such that it renders the relationship more of an employer/employee relationship.”
Based on such corporate practice of medicine laws, potential franchisors will need to carefully consider whether the ownership of the franchisee entity is legal under such laws, i.e., if all of the owners of the franchisee entity are licensed physicians, if so required. The second question will be whether the arrangement between the franchisor and franchisee entities gives too much control over the doctor’s practice of medicine to the franchisor entity. This will likely be a fact-intensive inquiry.
Once the analysis has been completed to determine if a franchisor model is permissible under the relevant state statutory framework, the matter of payment between the franchisee and franchisor entities will still need to be carefully crafted so state-specific fee-splitting prohibitions are not implicated. Prohibitions on fee splitting are based on the general principle that “patients must be able to trust that their referring physicians will be honest with them and will make treatment recommendations, including referrals, based on medical need.” To such end, under specific state laws, the division, sharing, splitting, or allocating of any fee for providing medical services may be determined to be “fee splitting” and prohibited under the relevant statutory structure. These laws are often found in the regulations governing professional practice such as the state’s medical practice regulations, where fee splitting is often cited as “unprofessional conduct.” A charge of unprofessional conduct can lead to suspension or revocation of the practitioner’s professional license. These fee-splitting prohibitions can apply broadly to physicians and licensed professionals. They can apply to healthcare facilities and organizations or can be narrowly tailored toward one type of practitioner.
As an example, Louisiana has a regulation prohibiting fee splitting specifically relating to the practice of optometry. The regulation specifically provides that an optometrist shall not “divide, share, split, or allocate, either directly or indirectly, any fee for optometric services or materials with any person, corporation, partnership, or other entity, other than through an affiliation” with (1) a professional optometric corporation or other entity wholly owned by optometrists or physicians, (2) an optometrist or physician individually, (3) a licensed hospital or affiliate, (4) a licensed ambulatory surgery center owned in full or in part by Louisiana-licensed physicians or optometrists, or (5) a government-sponsored healthcare program or facility.
Based on the above corporate practice of medicine and fee-splitting prohibition considerations, the payment structure between the franchisor and franchisee needs to carefully be considered. A common practice in franchisor models is for the franchisee to pay the franchisor a percentage of their sales or a royalty fee. In the context of a medical practice, paying a percentage of patient visit fees to another entity could potentially implicate both the corporate practice of medicine doctrine and be labeled as a fee-splitting arrangement. Therefore, to form a compliant franchise model, physicians should work closely with their attorneys to appropriately structure all payment arrangements.
Franchise Model Summary
The first step of determining if the franchise model is the right approach is to determine the goals of both the franchisor and franchisee. The model will function properly when the goals of the franchisor and franchisee align. This often happens when the franchisee physician is looking for a partner to provide administrative structure and support, including assistance with record keeping, billing and coding, and marketing, and is willing to pay additional amounts to obtain such services. From a regulatory perspective, this model works best when (1) the franchisee is a licensed physician or other licensed medical professional that is capable of owning a medical practice in the relevant state and (2) when the franchisee model focuses on cash-pay services that do not implicate federal payor programs commercial payor contracts. This most often occurs when both parties are contemplating a fixed-fee royalty arrangement that is not tied to the franchisee’s revenues.
Taking a moment to consider cash-pay services: All physicians who have a National Provider Identifier (NPI) are eligible for enrollment in the Medicare program. The physician can then choose between participation, non-participation, or opting out entirely. Participating and non-participating physicians may submit a claim to the Medicare program for reimbursement, and the payment amount will be determined by their status (participating or not). Non-participating providers may still choose to accept the Medicare-approved amount for services on a case-by-case basis and can charge up to 15% over the Medicare-approved amount for a service.
When a physician elects to “opt out” of Medicare, they cannot bill Medicare whatsoever, and must opt out for a minimum of two years. In such instances, the physician may instead enter into private contracts to provide services to patients. The physician can set their own prices through the private contract and is able to contract to provide services not covered by Medicare. These privately contracted, or so-called “cash-pay services,” where the patient self-pays, are where the franchise model is typically found to be most successful.
Once both parties have come to an agreement on goals, the next step is to determine if a formal franchise arrangement with the proposed structure is permissible under applicable federal and state laws and regulations. Both parties should consult regulatory counsel at each step of the process to determine the feasibility and ensure continued compliance with all applicable laws and regulations. This includes permissibility of the franchise model generally under relevant corporate practice of medicine doctrine laws and other state laws and permissibility of the compensation structure between the franchisee and franchisor under applicable state fee-splitting prohibitions, among other regulatory considerations. If it is determined that the franchise structure agreed to by the parties is not permissible under the relevant state laws, the parties may consider some combination of a consulting and licensing arrangement.
Consulting Model
When a formal franchise is not an option or does not make sense in the specific circumstances, there are alternative contracting arrangements that may be utilized to achieve the original goals of the parties. A common model is to enter into consulting and licensing agreements between the licensor and licensee where the licensor will also consult with the licensee’s practice to provide virtual or even on-site consulting services to assist the licensee and licensee’s staff with implementing the licensor’s successful business model.
Consulting Agreement
The consulting agreement will commonly be structured as a basic agreement that broadly describes the consulting services the licensor is agreeing to provide the licensee. This agreement can either be entered into by the licensor physician individually, where they are agreeing to provide their time on an individual basis, or with the licensor practice as a party to the agreement, where the licensor physician and the practices’ staff will provide time and resources in some combination. To remain compliant with relevant federal and state regulatory laws, it is common for these agreements to be structured such that individuals are paid for their time on an hourly or other type of incremental basis. Also, the licensor practice is often reimbursed specified amounts for the services provided.
Licensing Agreement
In connection with the consulting agreement, the parties will most often enter into a licensing agreement. Under a traditional licensing agreement, the licensor agrees to the sale of a license authorizing the licensee to use the licensor’s intellectual property and know-how protected by copyright, patent, or trademark protections. The license is commonly a nonexclusive license, or “a license of intellectual property rights that give the licensee a right to use, make, or sell the licensed item on a shared basis with the licensor and possibly other licensees.” Commonly in these arrangements, such licensing agreements will be for use of trademarks and service marks, potentially trade dress, and general trade secrets that include the processes and procedures the licensor has developed in their own medical practice. In real-world examples, it is common for smaller medical practices to have the founding member’s last name incorporated into the legal name of the entity. The practice will then adopt trade names as it expands and evolves, instead of changing its legal name. If one of these trade names is particularly effective, the practice may develop a service mark for use on white coats, medical scrubs, its website, and in other practice marketing materials. Lastly, if the practice has physical products that it sells, such as skin care products, it may develop trade dress materials for packaging those products.
With practicing physicians, it is common for innovative physicians to develop new patient paperwork forms, questionnaires and scoring metrics, patient order sets, “phrases,” procedural protocols, and, more importantly, follow-up protocols that may improve efficiencies within a given practice, that the physician integrates into their medical practice. There may also be patented technologies and copyrights involving various types of questionnaires and quality of life questionnaires in particular, depending on the sophistication of the parties.
Specifically, a trademark is a word, phrase, logo, or other sensory symbol used by a seller to distinguish its product or services from those of others. The main purpose of a trademark is to designate the source of goods or services. In medical practices, the trademark is often a name or phrase and logo associated with a particular product or service line of the practice that is used in its branding and marketing. In effect, the trademark is the commercial substitute of the holder’s signature and becomes synonymous with the practice, and sometimes the physician individually.
Physicians should consider whether to register their trademarks and service marks (collectively known as marks) at the federal, state, and local levels, or some combination of all three. To receive federal protection, a trademark must be (1) distinct rather than merely descriptive or generic, (2) affixed to a product that is actually sold in the marketplace, and (3) registered with the USPTO. Marks are commonly registered at the state level as well as under various local laws and ordinances. For example, Louisiana law governs trademarks, trade names, and domain names, and provides for how applicants may register such marks and defend against infringement. It is also common practice for local governments, including county-level entities, to require trade name registrations.
In addition to providing access to the licensor’s marks through the licensing agreement, the physician licensor most often will provide the licensee access to trade secrets. Traditionally, a trade secret is defined as “information—including method, technique, or process that (1) derives independent economic value from its disclosure or use, and (2) is the subject of reasonable efforts under the circumstances to maintain its secrecy.” Trade secrets are governed by the federal Defend Trade Secrets Act (DTSA). The DTSA provides a broad definition of “trade secret” and creates a civil cause of action for trade-secret misappropriation. The majority of states have additionally passed some variation of the Uniform Trade Secrets Act.
Texas, for example, passed the Texas Uniform Trade Secrets Act in 2013. The act broadly defines a trade secret as “all forms and types of information, including business, scientific, technical, economic, or engineering information, and any formula, design, prototype, pattern, plan, compilation, program device, program, code, device, method, technique, process, procedure, financial data, or list of actual or potential customers or suppliers, whether tangible or intangible and whether or how stored, complied, or memorialized physically, electronically, graphically, photographically or in writing” if certain criteria are met, including that the owner takes reasonable measures to protect the secrecy of the information and the information derives independent economic value. The act additionally provides for penalties for the misappropriate of trade secrets including “willful and malicious misappropriation.” Such misappropriation may occur when the trade secret is improperly acquired or the trade secret is disclosed without consent. Legal remedies for misappropriation include injunctive relief, damages for actual loss caused by misappropriation and unjust enrichment, and attorney’s fees.
Lastly, it is common for the licensor to include broad confidentiality and non-disclosure language to capture any “know-how” of the licensor that may not meet the definition of a trade secret, but that the licensor is nonetheless seeking to protect from further disclosure. “Know-how” is broadly defined as “the learning, ability, and technique to do something; specifically, the information, practical knowledge, techniques, and skill required to achieve some practical end, especially in industry.” Commonly, this is in terms of the physician’s personal experience where they have developed “know-how” and more traditional trade secrets over a number of years in their own medical practice.
Consulting Model Summary
Under a combination of a licensing agreement and consulting agreement, the licensor physician can license their traditional intellectual property to the licensee and provide their specific know-how, processes, and other best practices to another physician practice (the licensee). The licensor physician may then consult in the licensee’s medical practice to train the practice’s staff to implement both clinical and administrative processes and procedures. Such an arrangement is common when a traditional franchise model is either not permissible under federal and state laws or does not align with the goals of the licensor and licensee.
A licensing arrangement provides greater flexibility when the licensee’s goal is to retain control over their practice but implement a new business model or specific service lines. Common examples of this are in the holistic medicine and wellness spaces, where patients are self-paying for services and there are fewer payor requirements. This model can be very beneficial to the licensee. A licensing arrangement can also provide greater flexibility for the licensor physician when they are looking to customize their approach to expanding their practice. For the licensor, the model can be far more time intensive, however, than a traditional franchise model.
First, the licensor will need to expend a sufficient amount of resources to ensure their intellectual property rights are appropriately registered before they consider licensing them to another practice. This will involve engaging legal counsel to analyze what registrations and filings are needed, then preparing and filling all relevant documents. Registrations and filings renewals must then be kept up with to ensure continued protection. Comprehensive licensing and consulting agreements will also need to be drafted for each individual licensing and consulting arrangement to protect the licensor in each specific scenario. Secondly, the licensor physician must then be willing and able to take enforcement action when necessary to prevent infringement and misappropriation of their intellectual property against unlicensed use.
Conclusion
There are a myriad of factors a physician should consider when they are looking to start or join a franchised medical practice as well as when they are looking to expand their already-successful practice. Coordination with a regulatory attorney will be necessary to determine if franchising a medical practice is possible in a specific state. When feasible, franchising often occurs when the franchisee physician is looking for a partner to provide administrative structure and support, including assistance with record keeping, billing and coding, and marketing, and is willing to pay additional amounts to obtain such services. If it is determined that the franchise structure agreed to by the parties is not permissible under the relevant state laws, the parties may consider some combination of a consulting and licensing arrangement.
Under a combination of a licensing agreement and consulting agreement, the licensor physician can license their traditional intellectual property to the licensee and provide their specific know-how, processes, and other best practices to the licensee practice. The licensing arrangement provides greater flexibility when the licensee’s goal is to retain control over their practice but implement a new business model or specific service lines. The licensor physician will also have greater control over the arrangement but will need to carefully consider if they are willing to register and defend their intellectual property as necessary.