Opinion ID: 429783
Heading Depth: 2
Heading Rank: 2

Heading: Return on Equity in Goodwill.

Text: 69 During 1968 and 1969, HCA acquired 100% of the stock of nine hospital corporations. The purchase price of the hospitals included goodwill, defined by Medicare as the excess of the price paid to acquire a hospital over the fair market value of the hospital's tangible assets. Total goodwill from these nine acquisitions equalled $21,983,554. 70 Following each acquisition, HCA assumed complete management and control over the hospital's operation, installed new management and negotiated new contracts. Yet none of the acquired hospitals was subsequently dissolved by, or merged with, HCA. Rather, each continued to operate as a separate corporate entity. Moreover, none of the assets of the acquired hospitals was subsequently distributed to HCA. Instead, the assets continued to be held by the acquired corporations. 71 In 1973, HCA included the goodwill obtained in the purchase of the nine hospital corporations in establishing a value for its equity capital. HCA then used this value in determining its Medicare reimbursement claim for return on equity. This claim was denied by the Secretary. She notes that Medicare pays proprietary providers a reasonable return on equity capital ... invested in the facility and used in the furnishing of ... services .... 42 U.S.C. Sec. 1395x(v)(1)(B). Equity capital is defined as the provider's investment in plant, property, and equipment related to patient care .... as well as net working capital maintained for the operation of patient care services. 42 C.F.R. Sec. 405.429(b)(1)(i) (emphasis added). The regulations also provide that investment in facilities is to be recognized on the basis of the historical cost used for depreciation. 42 C.F.R. Sec. 405.429(b)(ii). Historical cost, in turn, is defined as the cost incurred by the present owner in acquiring the asset. 42 C.F.R. Sec. 405.415(b)(1) (emphasis added). Thus, under the regulations, return on equity capital may be paid only to the extent there is an investment in plant, property or equipment (i.e., assets). Furthermore, the investment must be that of the provider. In each of its nine acquisitions, HCA purchased only stock. Because the purchases of the acquired hospitals' stock did not equate to a purchase of their assets, the nine hospital corporations continued to own the hospital facilities and continued as the providers of medical services. Thus, the Secretary says, HCA was not entitled to receive a return on equity capital. Only the individual hospital corporations, as providers, were qualified to make a claim. Their right to return on equity, however, was limited to their investment in plant, property, and equipment and to their net working capital. The price HCA paid for the corporate stock, and the goodwill which was shown on HCA's books, could not be claimed because those items did not reflect the provider's investment. Following each of HCA's nine acquisitions, the present owner of the assets was the provider, and the cost which the provider incurred in acquiring the assets did not include the goodwill which HCA claimed. Consequently, HCA's reimbursement claim was denied. 72 The plaintiffs point out that denial of reimbursement here draws an arbitrary distinction between stock acquisitions, where a return on goodwill is denied, and statutory mergers, where it is allowed. 31 We disagree. It is an elementary principle of corporate law that a corporation and its stockholders are separate entities and that the title to corporate property is vested in the corporation and not in the owners of the corporate stock. Moline Properties, Inc. v. Commissioner, 319 U.S. 436, 63 S.Ct. 1132, 87 L.Ed. 1499 (1943). When there is a statutory merger, a new provider is created and ownership of the facility changes hands. Thus, Medicare will pay an increased return on equity capital based on the fact that the corporate assets have been transferred to a new provider and have a new historical cost upon which the return is calculated and paid. However, in stock purchases of providers, ownership of the corporate assets remains in the hands of the original provider whose equity capital is limited to the assets' original historical cost. 32 73 Our decision in Homan & Crimen, Inc. v. Harris, 626 F.2d 1201 (5th Cir.1980), cert. denied, 450 U.S. 975, 101 S.Ct. 1506, 67 L.Ed.2d 809 (1981), is controlling here. In Homan, Medenco, Inc., through a wholly owned subsidiary, purchased 100% of the stock of Homan & Crimen, Inc., a corporation doing business as Southwestern General Hospital. Immediately following the purchase, Medenco assumed complete management and control over the operation of the hospital. However, Homan & Crimen, Inc., was never liquidated 33 and continued as the owner of the hospital facility. Subsequently, Homan & Crimen d/b/a Southwestern General Hospital submitted Medicare cost reports for the 1972 and 1973 fiscal years, claiming a return on equity capital for the amount by which the price paid by Medenco exceeded the net book value of the hospital assets. Homan & Crimen's claim was disallowed by the Secretary. In upholding the Secretary's decision, we held that Medenco's 100% stock acquisition of Homan & Crimen was not a purchase of its assets. Thus, Homan & Crimen, not Medenco, was the owner of the hospital facility and continued as the provider. In conclusion we said: 74 [E]quity capital upon which a return may be based must be the provider's and it must be related to patient care. In view of our holding that Homan & Crimen is the provider because its separate identity should not be disregarded and that Medenco's investment in Homan & Crimen stock was not an investment related to patient care, it follows that plaintiffs are not entitled to a return on the purchase price of stock. 75 626 F.2d at 1210. 76 Therefore, in light of Homan, it is clear that the goodwill HCA purchased through the 100% stock acquisitions can not be considered as part of HCA's equity capital upon which a return may be claimed. See also American Medical International, supra; Monterey Life Systems v. United States, 635 F.2d 821 (Ct.Cl.1980). 77 The plaintiffs argue that section 1214 of the Provider Reimbursement Manual expressly allows goodwill purchased in pre-1970 transactions to be included in the return on equity capital computation. Section 1214 provides in pertinent part: 78 Goodwill purchased in an acquisition prior to August 1970 of an existing organization is includable in the provider's equity capital. The amount of goodwill is determined in accordance with generally accepted accounting principles. 79 The manual provision, according to the plaintiffs, does not require the purchase of a facility or assets, but rather requires only the acquisition of an existing organization. Thus, since the nine hospital corporations acquired by HCA through 100% stock purchases were existing organizations, it is entitled to a return on this goodwill. 80 We believe that the word organization as used in section 1214 must be read in conjunction with the language of section 1395x(v)(1)(B) and 42 C.F.R. Sec. 405.429, which govern the payment of return on equity. Section 1395x(v)(1)(B) refers to equity capital as that capital invested in a facility, and section 405.429 interprets the word facility, to mean plant, property, and equipment. The regulation also provides that a provider's investment in facilities is to be recognized on the basis of historical cost, which, in turn, is defined as the cost incurred by the present provider in acquiring the asset. 34 81 Thus, we find that the Secretary's disallowance of reimbursement for equity capital based on goodwill to be reasonable and affirm the district court on this issue. 82