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United States v. Carolina Liquid Chemistries, Corp.

United States District Court, N.D. California

July 16, 2019

UNITED STATES OF AMERICA, et al., Plaintiffs,



         Before the Court is Defendants' motion to dismiss. ECF No. 54. The Court will grant the motion.

         I. BACKGROUND

         A. Parties and Claims

         As set forth in the operative complaint, Defendant Carolina Liquid Chemistries Corp. (“Carolina Liquid”) is a “manufacturer, distributor, reseller, and service provider of in-office [urine drug test (“UDT”)] analyzers and reagents.” First Amended Complaint (“FAC”), ECF No. 25 ¶ 3. Defendant Patricia Shugart is the Chief Operating Officer and Vice President of Carolina Liquid. Id. ¶ 18. Defendant Phil Shugart is the Chief Executive Officer and President. Id. ¶ 19. Both Shugarts serve on Carolina Liquid's board of directors. Id. ¶¶ 18-19.

         Relator Randy Reagan owns a chemistry supply business; Relator James Longfield is an independent consultant in the chemistry and laboratory industry. Id. ¶¶ 15-16.

         Relators allege that Defendants violated the False Claims Act (“FCA”) and various state analogues by perpetrating a widespread fraudulent scheme based on Medicare and Medicaid billing for UDT tests. Since at least March 2009, Carolina Liquid “systematically marketed” UDT machines by falsely representing that the machines could perform “high complexity ‘quantitative' drug testing.” Id. ¶ 2. Relators contend, however, that Carolina Liquid's machines were in fact “only capable of performing basic ‘qualitative' drug testing.” Id. Critically, Medicare and Medicaid reimburse providers for high complexity and quantitative drug testing at substantially higher amounts than they do for qualitative testingf. Id. Physicians and pain management clinics followed Carolina Liquid's instructions to code tests performed on those machines as high complexity, and therefore submitted numerous false claims overcharging Medicare and Medicaid for the services actually performed. Id.

         As described in Relators' complaint, qualitative drug testing is most commonly performed by in-office immunoassays and enzyme immunoassays that detect whether a drug class or panel of drug classes is present in a urine sample. Id. ¶¶ 42-43. These tests produce “a ‘yes/no' result, but are unable to identify specific drugs within many drug classes or the amount of the drug in the urine.” Id. ¶ 45. Because these tests are imprecise and prone to false positives, “physicians corroborate a positive result” from one of those tests by sending samples to a laboratory that performs a more complex “quantitative chromatography or mass spectrometry test for specific drugs and their quantities.” Id. ¶ 46. Relators also allege that, “[s]eparate from whether a test is ‘qualitative' or ‘quantitative,' Medicare also distinguishes in reimbursement based on the complexity of a laboratory or office.” Id. ¶ 50. Tests may be classified as either moderate or high complexity; even high complexity tests, however, are qualitative tests when performed on the UDT machines sold by Carolina Liquid or using its reagents. Id. ¶ 51.

         Relators explain that the reimbursement scheme for UDTs, as implemented by the Centers for Medicare & Medicaid Services (“CMS”), has evolved during the period of the alleged wrongdoing. As relevant here, prior to January 2011, CMS required providers to bill qualitative tests at a rate of $20 per test. Id. ¶¶ 59, 64-65. CMS then changed its practices to require providers to use one of two codes: (1) G0434, for “Drug screen, other than chromatographic; any number of drug classes, by [Clinical Laboratory Improvement Amendments (“CLIA”)] waived test or moderate complexity test, per patient encounter”; or (2) G0431, for “Drug screen, qualitative; multiple drug classes by high complexity test method (e.g., immunoassay, enzyme assay), per patient encounter.” Id. ¶ 68 (emphasis omitted). While G0434 tests were still reimbursed at a rate of $20, G0431 tests would be reimbursed at $100 per test. Id. Based on these definitions, Relators assert that “submitting any code other than a single G0434 per patient encounter for an in-office UDT is fraudulent upcoding.” Id. ¶ 71 (emphasis omitted).

         Relators allege that Carolina Liquid nonetheless marketed its UDT machines to customers by representing that the machines could perform tests that qualified for “test code G0431 and other high-complexity [Current Procedural Terminology (“CPT”)] codes” and using reimbursement projections based on those misrepresentations. Id. ¶ 74. These codes included CPT codes for quantitative testing that Carolina Liquid machines were not equipped to perform. Id. ¶¶ 86-87. As part of this marketing, Carolina Liquid pitched its products as capable of generating reimbursement rates as high as $476.27 per test. Id. ¶¶ 74, 86-87. Relators contend that Carolina Liquid sales representatives distributed written brochures containing these projections, as well as a letter from Patricia Shugart. Id. ¶¶ 74, 82-83, 85-87. Patricia Shugart also held internal meetings in which she instructed employees to use these sales tactics. Id. ¶ 81.

         Relators further claim that, when they became aware of these marketing practices, they “repeatedly communicated to Carolina Liquid personnel, including Carolina Liquid's Western Regional Sales Director, ” that the coding being promoted was improper. Id. ¶ 88. No corrective action was taken. Relators also point to a response from another manufacturer, Lin-Zhi International, Inc. (“LZI”), whose reagents were used in some Carolina Liquid tests. Id. ¶ 89. In 2012, Lin-Zhi sent a letter to its customers clarifying that its reagents could be used in qualitative and semi-quantitative assays only. Id. ¶ 90.

         At some point, Carolina Liquid also began offering billing and coding consultant services to its customers. Id. ¶ 91. Relators allege that these services were specifically directed at promoting fraudulent upcoding. Id.

         According to Relators, Carolina Liquid has more than 300 customers across 23 states. Id. ¶ 92. Relators posit that these customers, using a variety of the UDT analyzers sold by Carolina Liquid, submitted Medicare and Medicaid claims pursuant to Carolina Liquid's instructions. Id. ¶¶ 101-103.

         B. Procedural History

         On April 3, 2013, Relators filed this FCA qui tam action under seal, as directed by 31 U.S.C. § 3730(b). ECF No. 1. In addition to their federal FCA claims, Relators asserted claims under state false claim act analogues on behalf of the states of California, Texas, New York, Michigan, and North Carolina. Id.

         On September 13, 2013, a different relator, Delbert Salyer, filed another qui tam action in the Central District of California, asserting similar FCA claims on behalf of the United States and a larger collection of states. United States ex rel. Salyer v. Carolina Liquid Chemistries Corp., No. 13-cv-05976-JST, ECF No. 1. That case was subsequently transferred to this district and related to the current action. Id., ECF Nos. 13, 15.[1]

         The cases remained under seal pursuant to a series of extensions while the United States determined whether to intervene. Ultimately, the United States elected not to intervene, and the cases were unsealed on October 23, 2018. ECF No. 27.

         On October 18, 2018, shortly before the cases were unsealed, Reagan and Longfield filed the operative FAC in this action. The affected States likewise elected not to intervene, and on November 27, 2018, the Court issued an order reflecting those decisions and dismissing without prejudice all claims asserted on behalf of the State of Maryland in the Salyer action. ECF No. 33.

         On March 19, 2019, Defendants filed this motion to dismiss. ECF No. 54.


         The Court has jurisdiction over Relators' FCA claims pursuant to 28 U.S.C. § 1331 and 31 U.S.C. § 3732(a). The Court exercises supplemental jurisdiction over the state-law claims under 28 U.S.C. § 1367 and 31 U.S.C. § 3732(b).


         A. ...

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