Assumption of Provider Agreements and Personal Service Contracts

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May 2002

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As politicians debate health care reform, bankruptcy practice is already affecting the
means by which health care is provided. Health care providers have searched for
cost-effective means of providing medicine in as profitable a manner as possible. Such
managed health care often alters ownership rights and contractual obligations as managed
care attempts to perfect the business side of medicine.

However, managed care is also discovering the potential failure rate for managed
care companies, which has resulted in a disproportionate amount of health care
bankruptcies in the past several years. Along with such bankruptcies comes the
inevitable issue of ownership and disposition of assets. These assets often come in
the form of accounts receivables, medical equipment and agreements with individual
doctors, which create additional issues of assignment and public policy.

<h3>The Structure of Health Care Provider Agreements</h3>

Often such managed care arrangements include the sale of a medical practice to the
managed care company, the execution of a provider agreement between the medical practice
and the managed care company, and an employment agreement with the individual doctor.

The binding effect of such arrangements becomes more apparent than before the managed
care company is insolvent and files a bankruptcy petition. Indeed, upon the filing
of a bankruptcy petition, such agreements are typically entitled to treatment as
executory contracts, which requires performance from the doctor without necessarily
requiring corresponding performance from the debtor. Such a situation is frustrating
indeed, particularly considering that the debtor often is responsible for payment of
supplies and other essential health care services, the potential absence of which the
doctor is left to explain.

Thus, negotiations and disputes begin as to the parties' exit strategy. Often such
negotiations and disputes involve the sale of the medical practice and the assumption
and assignment of the corresponding executory contracts.

<h3>The Assumption and Assignment of Personal Service Contracts</h3>

Pursuant to <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… U.S.C. §365(a)</a>, a debtor-in-possession (DIP), subject
to court approval, may assume or reject any executory contract of the debtor. Often,
a DIP assumes an executory contract for the express purpose of assigning the executory
contract, whether to a successor/reorganized entity or to a purchaser of the debtor's
assets.

However, a DIP may not assume or assign any executory contract of the debtor,
whether or not such contract prohibits or restricts assignment of rights or delegation
of duties, if (A) applicable law excuses a party, other than the debtor, to such
contract or lease from accepting performance from or rendering performance to any entity
other than the debtor, whether or not such contract prohibits or restricts the
assignment of rights or delegation of duties; and (B) such party does not consent
to assumption and assignment. See <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… U.S.C. §365(c)(1)</a>. Thus, the ability
of a DIP to assume and assign an executory contract is not a guaranteed right.

In many jurisdictions, contract law governing assignment of rights and delegation
of duties limits the ability to assign and/or delegate the rights and duties arising
under a "personal service contract." A personal service contract is a contract
involving the performance of non-delegable duties, requiring the exercise of special
judgment, taste, skill or ability. Accordingly, personal service contracts are
ordinarily not assignable, as assignment would also require the delegation of duties.
See, e.g., <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… re Terrace Apartments Ltd., 107 B.R. 382 (Bankr.
N.D. Ga. 1989)</a>; <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… re Rooster, 100 B.R. 228 (Bankr. E.D.
Pa. 1989)</a>; <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… re Pioneer Ford Sales Inc., 729 F.2d 27(1st</a> Cir.
1984); <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… re Compass Van & Storage Corp., 65 B.R. 1007 (Bankr.
E.D.N.Y. 1986)</a>.

Courts have often focused on the debtor's duties under the contract, as opposed
to the duties of the non-debtor party to the contract (e.g., where a managed care
contract requires the managed care company to provide office support, maintenance,
advertising and collections services, and such contract specifically excludes the managed
care company from any responsibility or right to participate in treatment decisions).
Under such a contract, the managed care company is not required to provide any
significant degree of specialized skill or ability, even though such contracts give the
managed care company control over the practice's finances.

In fact, such contracts often provide for:
<ul>
<li>collection of accounts receivables
</li><li>payment of accounts payable
</li><li>control over the practice's checkbook
</li><li>execution of contracts from outside vendors and suppliers
</li><li>ordering of supplies and services
</li><li>training and providing support staff
</li><li>otherwise administering the business side of a medical practice.
</li></ul>

While such services are integral to the operation of a medical practice, they do
not require the special skill and ability that the practice of medicine requires.
Thus, such a contract is not a personal service contract, and nothing would prevent
the assignment of the contract and delegation of the managed care company's duties.
See, e.g., In re VisionAmerica Inc., No. 01-24615-B, et al.,

<a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… WL 1097741 (Bankr. W.D. Tenn. Sept. 12, 2001)</a>.

More difficult is the ability to assign the contract and delegate the duties of the
medical practice and/or the doctor under the corresponding provider and employment
contracts. The doctor's duties under such a contract stem from the doctor's specialized
skill and ability. In addition, the doctor will certainly assert that his practice
requires the provision of such specialized skill and ability.

It would appear that such an analysis is simple. However, considering that such
arrangements often include the assignment or sale of assets and accounts receivables to
the managed care company, the doctor's preferred result is not so easily obtained.

<h3>The Assignability of Health Care Provider Agreements</h3>

As stated above, for a contract to be a personal service contract, and therefore
not subject to assumption and assignment, the contract must require specific personal
services requiring skill and ability. See <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… of Optimum Merchants Services, 163
B.R. 546, 554 (D. Neb. 1994)</a>. In Optimum Merchants, the debtor
provided promotion and marketing of bankcard programs. The key contract previously
included a provision that required the debtor's principal's exclusive participation in
promotion and marketing services. The contract was subsequently amended, and the
exclusivity requirement was removed.

Upon the debtor's motion to assume and assign, the court held that although the
contract originally required the personal expertise of the debtor's principal, the
amendment deleted that requirement, thereby removing the personal service nature of the
contract. Specifically, the court stated that if a certain object or result is
contracted for, and personality or personal services are not an essential consideration,
then the contract is not a personal service contract. <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; Thus, a contract regarding
the provision of medical services by a particular doctor cannot be assumed and assigned
because it requires the specific skill and ability of that doctor. However, a
contract regarding ownership of a business that provides medical services, regardless of
the individual doctor that provides such services, is not a personal services contract
and is subject to assumption and assignment.

Indeed, while a debtor may not be able to assume and assign contracts regarding
the provision of services by a doctor, said inability does not necessarily prevent the
debtor from selling the doctor's business to a third party and/or assuming and
assigning the health care provider agreement to the new owner. Indeed, ownership of
a business does not require special knowledge, only the provision of medical services,
which may be provided by another individual with those skills and ability. See <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…
re Sunrise Restaurants Inc., 135 B.R. 149 (Bankr. M.D. Fla. 1991)</a>
(where the court held that a franchise agreement is not a personal service contract
because ownership of such an establishment did not require special knowledge or skill);
see, also, <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… re Tom Stimus Chrysler-Plymouth Inc., 134 B.R. 676
(Bankr. M.D. Fla. 1991)</a>.

In fact, regardless of whether the debtor is the owner of the medical practice,
the debtor may assume and assign a health care provider agreement to a successor entity
because the services provided under such an agreement do not require specific skill and
ability. While the doctor may not have his employment contract assumed and assigned,
his or her practice may find a new managed care company in control of the medical
practice's business operations.

<h3>Conclusion</h3>

The structure of many health care provider agreements with managed care companies is
multi-faceted. While not all contracts under such an arrangement are subject to
assumption and assignment, other contracts are. In fact, while the doctor's employment
contract may be safe from assumption or assignment, the provider agreement itself may
not. If not, then the debtor may assume and assign the provider agreement, along
with selling the assets of the medical practice when applicable.

While the doctor may object, if all other requisites of Bankruptcy Code §365
are met, then the doctor has no choice, and the practical effect is that the doctor
must leave the practice or submit to the successor entity. The end result is a doctor
without a practice and a practice without a doctor. Unfortunately, it is probably
uncommon for doctors to consult a bankruptcy practitioner prior to executing documents and
entering into such arrangements. Perhaps they should.

Journal Authors

Bruce H. White

William L. Medford

Journal Date

Wednesday, May 1, 2002 - 12:00

Bankruptcy Rule

2002