FOR PUBLICATION

UNITED STATES COURT OF APPEALS

FOR THE NINTH CIRCUIT

ROBERT F. KENNEDY MEDICAL 

CENTER,

Plaintiff-Appellant, No. 06-56367

v. D.C. No. 

M CV-05-01628-AG ICHAEL O. LEAVITT, Secretary of

the Department of Health and OPINION

Human Services,

Defendant-Appellee. 

Appeal from the United States District Court

for the Central District of California

Andrew J. Guilford, District Judge, Presiding

Argued and Submitted

April 11, 2008—Pasadena, California

Filed May 19, 2008

Before: Alfred T. Goodwin, Harry Pregerson, and

Dorothy W. Nelson, Circuit Judges.

Opinion by Judge Goodwin

5735
COUNSEL

Patric Hooper, Hooper, Lundy & Bookman, Los Angeles,

California, for the plaintiff-appellant. 

Michael S. Raab, Joel McElvain, U.S. Department of Justice,

Washington, D.C., for the defendant-appellee.

OPINION

GOODWIN, Circuit Judge:

Robert F. Kennedy Medical Center (“RFK”) appeals the

district court’s summary judgment, which affirmed the denial

of RFK’s Medicare reimbursement request by the Secretary of

Health and Human Services (“Secretary”). RFK contends that

the Secretary must reimburse it for depreciation losses resulting from its disposal of assets through a statutory merger. The

district court held that RFK is not eligible for reimbursement

because this merger did not qualify as a “bona fide sale”

under 42 C.F.R. § 413.134(f). We agree, and affirm the judgment. 

I

Title XVIII of the Social Security Act establishes Medicare, a federally funded health insurance program for the

ROBERT F. KENNEDY MEDICAL v. LEAVITT 5737
elderly and disabled. 42 U.S.C. §§ 1395 et seq. The Centers

for Medicare and Medicaid Services (“CMS”), formerly called the Health Care Financing Administration (“HCFA”),

administers the Medicare program on behalf of the Secretary.

Providers of Medicare services are eligible for reimbursement of “the reasonable cost of such services.” Id.

§ 1395f(b)(1). The statute defines “reasonable cost” as “the

cost actually incurred” by providers. Id. § 1395x(v)(1)(A).

Under regulations promulgated by the Secretary, providers

may claim reimbursement for “depreciation on buildings and

equipment used in the provision of patient care.” 42 C.F.R.

§ 413.134(a). The depreciation reimbursement amount is calculated by taking the “cost incurred by the present owner in

acquiring the asset,” id. § 413.134(b)(1), and prorating it

“over the estimated useful life of the asset,” usually using the

“straight-line method” of depreciation. Id. § 413.134(a)(2)-

(3). Medicare reimburses providers for the percentage of

depreciation attributable to treatment of Medicare patients. 

Depreciation only approximates an asset’s decrease in

value. To ensure that Medicare providers are reimbursed for

actual costs, 42 C.F.R. § 413.134(f) requires an adjustment

when “gains” or “losses” result from certain disposals of

depreciable assets: “If disposal of a depreciable asset . . .

results in a gain or loss, an adjustment is necessary in the provider’s allowable cost. . . . The treatment of the gain or loss

depends upon the manner of disposition of the asset, as specified in paragraphs (f)(2) through (6) of this section.” 

The only disposition that is relevant in this case is (f)(2),

which governs gains and losses resulting from a “bona fide

sale” of depreciable assets. See id. § 413.134(f)(2). When

Medicare providers dispose of assets in a “bona fide sale” and

receive a “lump sum sale price,” the regulations require them

to “allocat[e] the lump sum sales price among all the assets

sold, in accordance with the fair market value of each asset

. . . .” Id. § 413.134(f)(2)(iv). If providers receive consider5738 ROBERT F. KENNEDY MEDICAL v. LEAVITT
ation that is less than the net book value of the depreciable

asset, Medicare reimburses the provider for Medicare’s share

of the “loss.” See id. § 413.134(f); Via Christi Reg’l Med.

Ctr., Inc. v. Leavitt, 509 F.3d 1259, 1262 (10th Cir. 2007). If

the consideration exceeds the asset’s net book value, the provider must reimburse Medicare for Medicare’s share of the

“gain.” See 42 C.F.R. § 413.134(f); Via Christi Reg’l Med.

Ctr., 509 F.3d at 1262. 

Regulations also address the effect of a statutory merger

involving a Medicare provider. See 42 C.F.R. § 413.134(k)(2).1

First, a gain or loss resulting from disposal of depreciable

assets is not allowed when the parties to a statutory merger

are “related.” Id. § 413.134(k)(2)(i)-(ii); see also id.

§ 413.17(b)(1) (defining “related”). Second, § 413.134(k)

(2)(i) states that merged providers are “subject to the provisions of paragraphs (d)(3) and (f) of this section concerning

recovery of accelerated depreciation and the realization of

gains and losses.” Thus, the regulation on statutory mergers

incorporates 42 C.F.R. § 413.134(f), which specifies the circumstances in which gains or losses are allowable following

a disposal of depreciable assets. 

The Secretary interprets these regulations as allowing an

adjustment for gains or losses resulting from a statutory

merger only if the provider’s depreciable assets were transferred through one of the categories of disposal listed in

§ 413.134(f). See Principles of Reimbursement for Provider

Costs and for Services by Hospital-Based Physicians,

44 Fed. Reg. 6912, 6913 (Feb. 5, 1979); Program Memorandum A-00-76, at 3 (Oct. 19, 2000), available at http://

www.cms.hhs.gov/transmittals/downloads/A0076.pdf. Under

the Secretary’s interpretation, Medicare will not recognize a

gain or loss on a disposal of depreciable assets through a stat1At the time of the statutory merger in this case, 42 C.F.R. § 413.134(k)

was codified at 42 C.F.R. § 413.134(l). The provision was originally codified at 42 C.F.R. § 405.415(l). 

ROBERT F. KENNEDY MEDICAL v. LEAVITT 5739
utory merger unless the merger qualifies as a “bona fide sale”

under § 413.134(f)(2). See Program Memorandum A-00-76,

at 3. 

The Secretary also has interpreted the meaning of the term

“bona fide sale.” In 1996, the HCFA revised the Medicare

Provider Reimbursement Manual to state that “[a] bona fide

sale contemplates an arm’s length transaction between a willing and well informed buyer and seller, neither being under

coercion, for reasonable consideration.” Provider Reimbursement Manual § 104.24; see also Via Christi Reg’l Med. Ctr.,

509 F.3d at 1267. In 2000, the HCFA stated that “in evaluating whether a bona fide sale has occurred in the context of a

merger or consolidation between or among non-profit entities,

a comparison of the sales price with the fair market value of

the assets acquired is a required aspect of such analysis.” Program Memorandum A-00-76, at 3. In the context of a statutory merger between Medicare providers, “a large disparity

between the sales price (consideration) and the fair market

value of the assets sold indicates the lack of a bona fide sale.”

Id.

II

Prior to the statutory merger at issue in this case, RFK and

St. Francis Medical Center (“St. Francis”) operated separate

hospitals in California. Catholic Healthcare West (“CHW”)

was the sole corporate member of St. Francis. All entities

were non-profit public benefit corporations. RFK provided

hospital services to Medicare patients under a contract with

the Secretary. 

In January 1996, RFK began negotiating with CHW

regarding a potential merger with St. Francis. RFK and CHW

both were represented by their own counsel and negotiating

teams. The negotiations included discussion on “post-merger

governance and operational issues and the price to be paid for

the non-hospital assets.” The parties agreed that RFK would

5740 ROBERT F. KENNEDY MEDICAL v. LEAVITT
merge into St. Francis, and that RFK would cease to exist.

The statutory merger occurred on May 30, 1996. As the surviving corporation, St. Francis changed its name to Catholic

Healthcare West Southern California (“CHW-SC”). 

Under the merger agreement, CHW-SC became the new

corporate owner of RFK’s assets and liabilities. RFK transferred approximately $29 million in current assets (including

cash and cash equivalent) and approximately $21 million in

fixed assets (including land, buildings and equipment). In

exchange, CHW-SC assumed approximately $30.5 million of

RFK’s net liabilities. Thus, RFK transferred assets with a

value of approximately $50 million in exchange for $30.5

million in “consideration” from CHW-SC. 

RFK then filed a terminating cost report with Medicare’s

fiscal intermediary, claiming that the merger resulted in a

reimbursable loss from RFK’s disposal of depreciable assets.

In calculating the effect of the merger, the cost report allocated CHW-SC’s consideration (the assumption of liabilities)

to the current assets transferred by RFK (cash and cash equivalent). After this initial allocation, there was no consideration

left to allocate to the depreciable fixed assets transferred by

RFK, including buildings and equipment. RFK claimed a total

loss on these depreciable assets, and sought reimbursement

for Medicare’s share of the loss. 

The fiscal intermediary audited RFK’s cost report and

denied the claim. The intermediary gave three reasons for disallowing the loss. First, the intermediary concluded that 42

C.F.R. § 413.17 barred the claim because RFK and St. Francis

were related parties prior to the merger. Second, the intermediary stated that the merger was not a “bona fide sale” under

42 C.F.R. § 413.134(f)(2). Third, the intermediary found that

the merger was a “pooling of interests” under accepted

accounting principles, with no resulting gain or loss. 

RFK appealed to the Provider Reimbursement Review

Board (“PRRB”), which reversed the fiscal intermediary’s

ROBERT F. KENNEDY MEDICAL v. LEAVITT 5741
determination. The PRRB found no evidence that the parties

were related prior to the merger. It also concluded that the

merger qualified as a “bona fide sale” because “RFK determined on its own initiative that it should seek affiliation with

a larger health system” and “RFK requested and considered

[merger] proposals from various interested parties.” The

PRRB rejected the fiscal intermediary’s “pooling of interests”

rationale because “[t]he treatment afforded a transaction for

financial statement and Internal Revenue Service purposes

does not control the treatment required for Medicare purposes.” 

The CMS Administrator reversed the PRRB’s decision.

First, the Administrator concluded that RFK was related to

CHW-SC, the surviving entity, and that no reimbursable loss

occurs when assets are transferred in a related-party transaction. Second, the Administrator found that the statutory

merger did not qualify as a “bona fide sale”:

[T]he record shows that the Provider transferred

“current assets” valued at approximately $29 million

and “fixed assets” valued at $21 million in

exchanged [sic] for approximately $30.5 million in

net liabilities. This resulted in assets with a net book

value of $50 million being transferred for a total of

$30.5 million in “consideration.” The Administrator

finds that the large disparity of approximately $20

million, between the asset values and the consideration received, reflects the lack of arm’s length bargaining, and thus the lack of a bona fide sale. 

As a result, the Administrator concluded that RFK’s loss did

not qualify for reimbursement under 42 C.F.R. § 413.134(f).

RFK appealed to federal district court, which affirmed the

CMS Administrator’s decision. Under Thomas Jefferson University v. Shalala, 512 U.S. 504 (1994), the district court

deferred to the agency’s interpretation of the Medicare regula5742 ROBERT F. KENNEDY MEDICAL v. LEAVITT
tions. The court held that the statutory merger was not a “bona

fide sale” because RFK did not receive fair market value for

its assets. Because the district court concluded that RFK was

not entitled to reimbursement, it did not reach the “related

parties” issue. 

This appeal followed. 

III

RFK contends that the district court erred by affirming the

final agency decision, which held that RFK could not claim

a “loss” on its disposal of assets because its statutory merger

did not qualify as a “bona fide sale.” RFK argues that the Secretary’s decision was arbitrary, and that the “bona fide sale”

requirement does not apply to disposals of assets in the context of statutory mergers. The Secretary contends that the

“bona fide sale” requirement is consistent with the text and

purposes of Medicare statutes and regulations. 

[1] The Administrative Procedure Act requires courts to

“hold unlawful and set aside” agency action that is “arbitrary,

capricious, an abuse of discretion, or otherwise not in accordance with law.” 5 U.S.C. § 706(2)(A). We also must set

aside an agency action that is “unsupported by substantial evidence.” Id. § 706(2)(E). Courts must give “substantial deference” to the Secretary’s interpretation of Medicare

reimbursement regulations. Thomas Jefferson Univ., 512 U.S.

at 512. Under this standard of review,

the agency’s interpretation must be given controlling

weight unless it is plainly erroneous or inconsistent

with the regulation. In other words, we must defer to

the Secretary’s interpretation unless an alternative

reading is compelled by the regulation’s plain language or by other indications of the Secretary’s

intent at the time of the regulation’s promulgation.

ROBERT F. KENNEDY MEDICAL v. LEAVITT 5743
Id. (internal quotation marks and citations omitted). This

“broad deference” is especially warranted because Medicare

regulations are “complex and highly technical” and determinations in this area “necessarily require significant expertise

and entail the exercise of judgment grounded in policy concerns.” Id. (internal quotation marks and citations omitted). 

[2] The Secretary’s interpretation that the realization of

gains or losses on a statutory merger requires a “bona fide

sale” is a reasonable construction of the Medicare regulations.

The regulation governing statutory mergers, 42 C.F.R.

§ 413.134(k)(2), incorporates 42 C.F.R. § 413.134(f), which

lists the categories of asset disposal that trigger readjustment

for gains or losses. See 42 U.S.C. § 413.134(k)(2)(i) (stating

that merged providers are “subject to the provisions of paragraph[ ] . . . (f) of this section concerning . . . the realization

of gains and losses.”). A “bona fide sale” is the only category

listed in § 413.134(f) that arguably applies to a disposal of

assets through statutory merger. See id. § 413.134(f)(2)-(6);

Via Christi Reg’l Med. Ctr., 509 F.3d at 1275. Thus, the Secretary reasonably interpreted these regulations as allowing

gains or losses on the disposal of depreciable assets only

when the statutory merger qualifies as a “bona fide sale.” 

[3] The Secretary’s interpretation that a “bona fide sale”

requires “reasonable consideration” and a “comparison of the

sales price with the fair market value of the assets” also is

supported by the text and purpose of the Medicare statutes.

Providers are entitled to reimbursement only for the “cost

actually incurred” in servicing Medicare patients. 42 U.S.C.

§ 1395x(v)(1)(A). As the Secretary noted when promulgating

42 C.F.R. § 413.134(f), “if a gain or loss is realized from [a]

disposition, reimbursement for depreciation must be adjusted

so that Medicare pays the actual cost the provider incurred.”

See Principles of Reimbursement for Provider Costs and for

Services by Hospital-based Physicians, 44 Fed. Reg. 3980

(Jan. 19, 1979) (emphasis added). The Secretary’s requirements of “reasonable consideration” and “fair market value”

5744 ROBERT F. KENNEDY MEDICAL v. LEAVITT
ensure that Medicare reimburses actual costs, instead of providing a windfall to providers. 

In a case with similar facts, the Tenth Circuit recently

upheld the Secretary’s interpretation of these Medicare regulations. In Via Christi Regional Medical Center, the court

analyzed the Secretary’s “bona fide sale” requirement in the

context of a consolidation between Medicare providers. See

509 F.3d at 1274-77. The Tenth Circuit held that the Secretary’s interpretation was reasonable, and noted that “[e]ven if

a consolidation or statutory merger is not a ‘sale’ per se, treating it as a sale pursuant to § 413.134(f)(2) ensures that any

depreciation adjustment will represent economic reality,

rather than mere ‘paper losses.’ ” Id. at 1275. The Tenth Circuit’s reasoning is persuasive. 

RFK contends that the “bona fide sale” requirement for

statutory mergers contradicts the Secretary’s intent at the time

of the regulation’s promulgation. RFK argues that a document

known as the “Wolkstein Letter”

2

 states that statutory mergers

are to be treated as if they are bona fide sales. This argument

misses the point that the Wolkstein Letter merely clarifies

that, unlike purchase of capital stock, statutory mergers effect

a change in asset ownership. The letter does not address

whether statutory mergers also must meet the “bona fide sale”

requirement to qualify for gains or losses under 42 C.F.R.

§ 413.134(f). Thus, the Wolkstein Letter does not contradict

the Secretary’s interpretation, which is reasonable and entitled

to deference. See Thomas Jefferson Univ., 512 U.S. at 512. 

[4] In this case, substantial evidence supports the Secretary’s determination that RFK’s statutory merger was not a

“bona fide sale.” First, the transaction lacked “reasonable consideration.” See Via Christi Reg’l Med. Ctr., 509 F.3d at 1267.

2The letter is dated January 24, 1974, and was written by Irwin Wolkstein, Deputy Director for Program Policy at the Department of Health,

Education and Welfare’s Bureau of Health Insurance.

ROBERT F. KENNEDY MEDICAL v. LEAVITT 5745
The CMS Administrator noted that RFK transferred approximately $50 million in assets for $30.5 million in “consideration” from CHW-SC. As the Secretary argues, CHW-SC

paid almost nothing for RFK’s hospital buildings and equipment despite their appraised value of approximately $12 million. 

[5] Second, the Administrator concluded that RFK did not

attempt to obtain “fair market value” for its assets. See id. at

1276 (“In the ‘bona fide sale’ context, the reasonable consideration inquiry involves determining whether the provider

received fair market value for its assets.”). RFK gave several

reasons for seeking a merger, none of which involved the

receipt of fair market value. Similarly, none of RFK’s criteria

for selecting a merger partner involved receiving a fair price

for its assets. 

[6] The district court correctly concluded that substantial

evidence supports the Secretary’s determination. RFK is ineligible for reimbursement under 42 C.F.R. § 413.134(f) because

its statutory merger with CHW-SC does not qualify as a

“bona fide sale.” Because this issue is dispositive in this case,

we do not reach the “related parties” issue. 

AFFIRMED. 

5746 ROBERT F. KENNEDY MEDICAL v. LEAVITT