For six long years, federal prosecutors have toyed with the idea of pursuing

Caremark Rx

(CMX)

for alleged Medicaid fraud.

Now, they're finally poised to act. In a court hearing last month, two Justice Department officials indicated that they plan to seek control of a multistate Medicaid investigation that has been kept secret for some time. The case, based on a pending whistleblower lawsuit, could ultimately decide whether Caremark -- or even the company's unsuspecting customers -- owes Medicaid significant sums of money.

Medicaid ranks as the largest spender on prescription drugs in the country. But it is also considered the "payer of last resort," meaning that it should cover health care costs only when no other insurance exists.

Based on court filings, the government believes that Medicaid paid for medications used by people with Caremark benefits and should be reimbursed as a result.

Federal prosecutor Allie Pang suggested during last month's hearing that the so-called

qui tam

lawsuit should come as no surprise to the company.

"Because we've had discussions about this many times over the course of the government's investigation, you know, you've been aware that there's been a pending

qui tam

action off that action," Pang stated.

Caremark, which declined to offer comment beyond its regulatory filings, slipped 40 cents Tuesday to $38.76.

The stakes appear to be high. During the hearing, prosecutors from Tennessee -- which operates one of the most generous Medicaid programs in the country -- said they would fight to keep the battle in their own state. Justice officials, though, would like to move the case to Texas, known for its crackdown on Medicaid fraud.

Joe Brown, the magistrate who presided over last month's hearing, admonished federal prosecutors for failing to act sooner.

"I spent 21 years with the Department

of Justice, and I never saw a case yet that took six years to decide whether to get in or get out. ... It must be one devil of an investigation," Brown said.

Regardless, he warned Justice officials to take some decisive action this month.

"You're gonna need to disclose your complaint and quite a bit about it," he said. "I think it's time to spread the cards on the table and see what you've got."

High Stakes

A past government study could offer some clues.

Four years ago, the Office of Inspector General published a report focused entirely on recovering Medicaid overpayments from "liable" third parties -- especially pharmacy benefit managers, or PBMs, like Caremark. The sums involved were significant. At the time, 32 states estimated that their Medicaid programs had paid for $440 million worth of prescription drugs that should have been covered by somebody else. But they had recovered just $73 million -- or 17% of that total. The remaining 18 states could not even calculate how much their own Medicaid programs might be owed.

Still, the report made clear that government officials were "committed to resolving issues that stand in the way of full recovery of federal and state dollars." It also pointed to PBMs as the biggest potential targets.

All told, the report said, PBMs process 70% of prescription medications that are dispensed on an outpatient basis. Moreover, it stated, just 10 PBMs handle the bulk of that business. Since that 2001 report, a mere three PBMs -- Caremark,

Medco Health Solutions

(MHS)

and

Express Scripts

(ESRX)

-- have come to dominate the industry.

"What this means for Medicaid," the report said, "is that many payments made on pharmacy claims have to be recovered from PBMs."

But the same report portrayed PBMs as especially uncooperative. Indeed, it said that state Medicaid programs experienced more problems with PBMs than with all other third parties combined.

It listed PBMs' refusal to identify "liable payers" -- or the big companies PBMs count as their customers -- as a particularly tough challenge.

"This is a serious problem for Medicaid," the report stated. "When PBMs do not process Medicaid claims and will not identify the liable payer, states cannot recover their payments."

Losing Hand

Technically, both Caremark and its customers could wind up on the hook.

For years, some have argued that PBMs like Caremark should be classified as "fiduciaries" under the federal Employee Retirement Income and Security Act, or ERISA. Many of Caremark's customers -- employers that operate self-insured health plans -- already are.

Under the rules of ERISA, fiduciaries must provide the benefits promised by their health plans. Thus, experts say, honoring prescription drug coverage -- even for employees on Medicaid -- should count as a requirement.

Violations can prove expensive. Last year alone, the Department of Labor obtained a record $3 billion worth of payments from ERISA offenders.

Caremark has long proclaimed that it does not operate as a fiduciary under the strict ERISA guidelines. But the company started backing off from that blanket claim a few years ago. In its more recent annual reports, Caremark acknowledges that it could be subject to ERISA "when we have specifically contracted with a plan sponsor to accept limited fiduciary responsibility for claims processing and adjudication or for appeals of denials of claims for benefits."

Whatever the contract language, Caremark has been denying Medicaid claims and reducing costs for its customers in the process. But those customers may not even know about the denials -- or that they could be held responsible for repayments to the government and ERISA violations in the end.

Secret Strategy

The OIG found that PBMs reject claims from Medicaid for a variety of reasons.

First, the OIG said, PBMs may say the Medicaid claims are incomplete. But they don't necessarily indicate what information is missing. Second, they may establish "unreasonable" filing deadlines -- as short as seven days -- for Medicaid to submit its claims. Finally, they may then deny the claims with a vague explanation if they offer one at all.

Recently, Caremark sought a court order establishing the company's power to deny certain Medicaid claims. In a court filing last December, Caremark argued that TennCare -- the Medicaid program in Tennessee -- should be forced to operate under the terms of its PBM contract. The company is hoping for a decision that could be used as a precedent in other states as well.

"Caremark maintains that all features in the benefit plans of Caremark's customers are enforceable and valid," the court filing states, "and that there should be no exception for Medicaid reimbursement claims."

But the government clearly feels otherwise. And it claims to have the law -- rather than mere contract restrictions -- on its side.

"Millions of Medicaid beneficiaries have other health insurance," the OIG stated in its 2001 report. And "if Medicaid paid for a service that is covered by another source of insurance, Medicaid has a legal right to payment from that source."

Texas Hold 'Em

Texas sure means business.

Last year, Texas won the nation's top award -- presented by none other than the OIG -- for fighting Medicaid fraud. The state recovered $27 million from one big drug maker alone. It also tripled its Medicaid fraud control staff and will expand it further this year as part of a big crackdown.

"We are seeing the culmination of efforts on a number of fronts to bring the full authority of the law to bear upon those who rob taxpayers and deprive Medicaid of funds necessary to take care of the neediest Texans," Attorney General Greg Abbott said in September. "We are committed to ferreting out fraud, seeking lengthy prison terms for lawbreakers and recovering funds that were wrongfully taken."

To be sure, Texas has plenty at stake. Over the past decade, the

San Antonio Express-News

reported, Texas has seen its Medicaid costs more than double to consume a full quarter of the state's budget.

It spends a big chunk of that money on prescription drugs. But the OIG believes that others should be picking up at least part of that tab.

In 1999 alone, the OIG calculated, Texas bought $45 million worth of prescription drugs for Medicaid recipients who had alternative health care coverage. It recovered just a fraction of those overpayments.

So far, Texas authorities have yet to publicly take aim at Caremark. However, the state has already arranged to help prosecute Medicaid fraud cases that wind up in federal court there. Thus, the whistleblower lawsuit against Caremark -- currently pending in the Western District of Texas -- would seem to qualify.

Moreover, Texas has already made clear that it will capitalize on whistleblower cases whenever possible. It has also invited other states to do the same.

"We are using the Texas whistleblower law to rectify wrongs committed against the Medicaid health care program for the needy," Abbott explained last spring. "We have taken the lead in recovering these funds on behalf of taxpayers, and I take pride in knowing other states have followed suit."

Patrick Burns, a spokesman for Taxpayers Against Fraud, believes that Caremark has clear reason to worry.

"The Texas team

is like that posse that rode out after Butch and Sundance," Burns said. "They keep going, and in the end they generally get their man."