DaVita Inc., fresh off an announced $3.4 billion purchase of Gambro AB's U.S. dialysis clinics last week, remains mired in a federal criminal probe that has the potential of ensnaring the El Segundo-based company.

Investigators with the U.S. Attorney's Office in Brooklyn are looking into the practices of DaVita and other large dialysis operators regarding the prescription use of intravenous vitamin D drugs. Vitamin D is a therapy given to dialysis patients to treat bone disease related to a loss of kidney function.
The investigation comes after several years in which the use of vitamin D therapy has been growing more popular, especially in clinics run by the largest dialysis companies. There has been speculation that the government is interested in its possible overuse.

Another, perhaps more important concern to investors: whether the companies are favoring one brand of vitamin D drug over another in order to get a better profit margin.

"If companies are making a different margin on different drugs, there is always a potential for there to be problems," said Cameron Lavey, an analyst for Standard and Poor's who covers DaVita. "There is an incentive to push the drugs they make the most money on."

In late October, the U.S. Attorney in Brooklyn issued subpoenas to DaVita, Fresenius Medical Care AG, the nation's largest dialysis clinic operator, and Renal Care Group Inc. Other subpoenas were issued to Quest Diagnostics Inc., which makes kits to test for the disease, and two makers of vitamin D drugs, Abbott Laboratories and Bone Care International Inc.

The probe has been expanded to include Sweden's Gambro, which received a more limited subpoena regarding its testing practices.

DaVita said it had received a subpoena requesting a "wide range of documents," including specific requests for documents related "to testing for parathyroid hormone levels and to products relating to vitamin D therapies."

Officials at the U.S. Attorney's Offices in Brooklyn and Philadelphia declined comment.

Growing treatment

Analysts agree that vitamin D therapy has likely drawn prosecutors' interest because data collected by the federal government shows the therapy has become increasingly popular.

Patients with so-called end-stage renal disease, which means their kidneys have totally shut down and they need dialysis several times a week, also suffer from a loss of calcium and phosphorous in the bone. This is the result of an overproduction of parathyroid hormone, and if untreated it can lead to bone pains, fractures and other problems.

The condition is diagnosed through a test that measures the level of parathyroid hormone in the body. It's then treated with large intravenous doses of vitamin D and sometimes other drugs.

According to the federal government's United States Renal Data System, vitamin D therapy cost Medicare $371.2 million in 2002, a 162 percent increase since 1998 when $141.6 million was spent.

DaVita and the other three largest dialysis operators received $332 million in Medicare reimbursements in 2002 for vitamin D drugs, with gross profit margins of between 34 percent and 58 percent, according to a study by the Department of Health and Human Services' Office of the Inspector General.

By comparison, 200 independent dialysis centers sampled by the government showed gross margins between 22 percent and 53 percent. In recent years, much of the industry has moved from a drug called Calcijex, made by Abbott, to a second-generation drug called Zemplar, also made by Abbott.

The OIG report shows that on average, the largest dialysis providers received $1.83 more from Medicare than they paid for Zemplar. They received 51 cents more from Medicare for Calcijex, a far less expensive drug.

At DaVita, 70 percent of dialysis patients receive some form of vitamin D therapy. Until several months ago, Zemplar was the only vitamin D drug included on DaVita's formulary a list of readily available drugs.

Doctors wishing to prescribe Calcijex and Hectrol had to make a special request.

In an Oct. 27 conference call, DaVita Chief Executive Kent Thiry told analysts that Zemplar, Calcijex and a third drug called Hectoral were all available to independent doctors who practice and send their patients to DaVita clinics.

"What the government worries about is if we somehow inappropriately influence the positions to prescribe one drug versus another," said Thiry, adding that it was the doctor's decision on which drug to prescribe.

In practice, though, kidney doctors interviewed by the Business Journal said they had far less choice, since the drug is intravenously administered at the end of each dialysis session. This discourages the doctor from using drugs that are not on the clinic's formulary, even though doctors can get them if they are determined.

"You usually go by what the dialysis unit has available. You use that medication," said Dr. Mike Mirahmadi, a Beverly Hills nephrologist.

Financial incentive

Dr. William Goodman, a leading authority on vitamin D therapy who is a researcher at UCLA's David Geffen School of Medicine, agrees that what's in stock at a particular clinic can determine the choice even at UCLA's clinic, which is operated by DaVita.

"If I want to use a vitamin D other than Zemplar I have to go through additional hoops to justify its use. DaVita won't say we can't use or won't buy it, but it's not an equal choice," he said.

"A big provider like DaVita or Fresenius will select one vitamin D compound and purchase it in bulk and that is the vitamin D compound that will be available for use. The medications they give during treatment are critically important to their bottom line."

Last week, DaVita's vice president of investor relations, LeAnne Zumwalt, disputed this contention, saying Goodman's claim is "his opinion."

"That is not true at our clinics," she said. "A doctor can order any of the products he chooses, and we have them and we stock them. "

Scott Kastner manages the Burbank Dialysis Partnership, an independently owned dialysis clinic. He believes that larger corporate-owned clinics are almost totally driven by agreements in which they buy large volumes of vitamin D and other drugs from manufacturers.

"It's all money," he said. "Whatever drug they can purchase cheaply is driving what they purchase. We are a little bit more sensitive to what the patients respond to as opposed to what costs us more or less."

Goodman said the choice of vitamin D drug does not affect the care of most patients, but some do better on one drug than another. In those cases, he will push for the other drug.

He and Mirahmadi, a clinical professor of medicine at UCLA, agree that it is unlikely there is substantial overuse of the therapy, since prescription of the drug is the doctor's choice and inappropriate use has its own serious side effects, such as possible irregular heart beats.

Previous probes

The current probe is only the latest in a series of investigations that have plagued the dialysis industry. A civil investigation that dates back to 2001 and covers a wide range of DaVita's operating procedures remains open.

And the government appears to be just finishing up its last round of investigations into questionable billing practices by the industry, which resulted in Gambro agreeing to pay the government $350 million to settle allegations it defrauded Medicare.

Four years ago, Fresenius paid the government $486 million to settle a similar probe, and while it's unclear whether DaVita will have to pay a substantial amount if authorities find any wrongdoing, the possibility is considered an investment risk by Standard & Poors and other analysts.

Despite all the investigations, Wall Street remains bullish on DaVita and other dialysis firms. Last week, DaVita's shares rose to a 52-week high of $37.84 on Dec. 9, after the Gambro purchase triggered a new round of price gains.

Analysts cite aging baby boomers, along with rising levels of diabetes, a key risk factor for kidney disease, as indications that demand for dialysis will continue to rise.

"Certainly there has been fraud and abuse in the industry, through I do not think it's a systemic issue," said Darren Lehrich, an analyst at Piper Jaffray & Co. "These companies provide millions of treatments per year. There is a lot of documentation that needs to be completed and there is room for error."

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