Can the dean and faculty of a state medical school participate in a nonprofit physician contracting organization (and a for-profit administrative company owned by faculty) without running afoul of NC's conflict-of-interest, public-purpose, and Umstead Act limits?

Plain-English summary

In the mid-1990s, healthcare delivery was undergoing one of its periodic re-orderings: managed care was rising, payors were consolidating, and physicians were forming larger contracting organizations to get a seat at the negotiating table. The East Carolina University School of Medicine (SOM) wanted to play in that new structure. The plan was for the SOM's dean and faculty to participate in ECHO, a nonprofit corporation that would contract with large payors on behalf of physicians as a group, and for the faculty to own stock in EMO, a separate for-profit corporation providing network administration (marketing, information systems, claims payment) to ECHO and other physician groups. The dean would appoint four faculty members as directors of both ECHO and EMO; the SOM would pay faculty membership fees in ECHO.

Dr. Gregory Hassler asked the AG whether the arrangement would create legal problems under three NC frameworks: criminal conflict-of-interest statutes, the public-purpose doctrine of the State Constitution, and the Umstead Act (the state-competition statute, G.S. 66-58). Chief Deputy AG Andrew A. Vanore, Jr., walked through each.

Criminal conflict of interest, G.S. 14-234 and 14-236. G.S. 14-234(a) bars a state director from making a contract under that authority for personal benefit. The opinion concluded that neither the dean nor the faculty would be entering into ECHO/EMO contracts on behalf of the SOM, so subsection (a) did not apply. G.S. 14-234(c) bars a state employee from participating in a business transaction with a private entity in which the employee has a recent financial association; again, the dean and faculty would not be participating on behalf of the SOM. G.S. 14-236 bars officers and employees from having any direct or indirect pecuniary interest in supplying "goods, wares or merchandise" to a state entity. The AG, citing Black's Law Dictionary, observed that professional services (patient care and practice management) are not "goods, wares, or merchandise," so § 14-236 did not apply either.

Public-purpose doctrine. N.C. Const. Art. V, § 2(1) permits taxation for public purposes only; § 2(7) permits public entities to contract with private entities only for the accomplishment of public purposes. The SOM cannot participate in any activity without sufficient statutory authority (Hughey v. Cloninger, 297 N.C. 86 (1979)). G.S. 116-40.4 authorizes the SOM and mandates compliance with medical-school accreditation requirements. The Liaison Committee on Medical Education (LCME) Standards require broad-based clinical education programs, including ambulatory and hospital settings, primary care, and clinical clerkships in family medicine, internal medicine, OB-GYN, pediatrics, psychiatry, and surgery. Faculty needed access to a sufficient mix of patients and practice settings to meet those standards. In a managed-care environment where access to patients is shaped by payor contracts, the AG concluded that participating in ECHO and EMO was reasonably connected to the SOM's mission and beneficial to the public generally, applying the two-part Madison Cablevision test for public-purpose analysis.

Private-emolument ban, N.C. Const. Art. I, § 32. This prohibits special privileges or emoluments not given in consideration for public service. The AG concluded that the support the SOM would give to ECHO and EMO was in the public service (preserving the SOM's accreditation and patient access for medical-student training), not a private gift.

Umstead Act, G.S. 66-58. Subsection (a) prohibits state agencies from competing with private enterprise in selling goods or merchandise. Subsection (b)(8) (as amended) creates a specific exemption for "the hospital and Medical School of the University of North Carolina." The AG concluded that because the General Assembly did not limit the exemption to a single UNC campus, ECU's School of Medicine, as part of the UNC system, qualified for the exemption.

The opinion stitched the four analyses together to give the SOM a green light to proceed with ECHO and EMO, including the direct use of SOM resources (office space, telephone, support staff) and the payment of faculty membership fees in ECHO.

Currency note

This opinion was issued in 1995. Subsequent statutory amendments, court decisions, or later AG opinions may have changed the analysis. Treat this page as historical context, not current legal advice. Verify current law before relying on any specific rule, deadline, or remedy mentioned here.

Healthcare-delivery law has changed dramatically since 1995: HIPAA, the Stark and Anti-Kickback Statutes, the Affordable Care Act, and the proliferation of accountable care organizations have all reshaped the analysis. State conflict-of-interest statutes have been amended (G.S. 14-234 was substantially rewritten by S.L. 2007-348). The Umstead Act has been amended several times. Anyone advising a state medical school today on a physician-organization arrangement should pull the current G.S. 14-234, the current G.S. 66-58, and the current federal healthcare framework, plus any current AG opinions or court decisions on the same questions.

Common questions

Q: What was ECHO?
A: A nonprofit corporation through which a group of physicians (including ECU SOM faculty) could collectively contract with large payors. In the 1990s, this kind of physician-group contracting organization was a common response to payor consolidation.

Q: What was EMO?
A: A for-profit corporation providing network administration (marketing, claims payment, information systems) to ECHO and other physician groups. The SOM faculty members would own stock in EMO in their individual capacities.

Q: Why did the AG distinguish between G.S. 14-234(a) and (c)?
A: Subsection (a) addresses directors of trusts in which the State has an interest; subsection (c) addresses business transactions involving public funds with private entities the employee has a recent association with. The AG read both as not reaching the proposed arrangement because the faculty would be participating in ECHO and EMO in their individual capacities, not entering contracts on behalf of the SOM with those entities.

Q: Why didn't § 14-236 apply?
A: That statute bars state employees from supplying goods or merchandise to the State. The faculty would be providing patient care and practice management services through ECHO and EMO, which are professional services, not goods or merchandise. The opinion drew on Black's Law Dictionary's definition of "goods, wares and merchandise" as "chattels and goods as are ordinarily the subject of traffic and sale."

Q: What does the LCME require that drove the public-purpose analysis?
A: The 1995 LCME Standards required medical schools to provide broad-based clinical education in both ambulatory and hospital settings, with core primary-care curriculum and clerkships in major disciplines. The Standards explicitly required "ambulatory care facilities and hospitals where the full spectrum of medical care is provided and can be demonstrated." Without access to patients across the range of practice settings, the SOM could not meet those standards. The AG concluded that participating in ECHO/EMO was the necessary means to that legally required end.

Q: Was the Umstead Act exemption real, or was the AG stretching?
A: The exemption text refers to "the hospital and Medical School of the University of North Carolina." The AG observed that the General Assembly did not specify a particular campus. ECU School of Medicine is part of the UNC system. Reading the exemption to cover all UNC-system medical schools fit the statutory text. A different argument might have said the exemption was intended specifically for the original "UNC Hospital" (in Chapel Hill); the AG rejected that limitation in the absence of explicit limiting language.

Q: Could private competitors challenge this arrangement?
A: Possibly, particularly under federal antitrust law. The AG addressed only NC state-law questions, not antitrust, federal Stark/Anti-Kickback issues, or tax-exemption questions. The opinion's scope was narrower than a full clearance.

Background and statutory framework

The 1990s saw substantial reorganization of US healthcare delivery, with managed care displacing traditional fee-for-service in many markets and physician groups responding by consolidating into larger contracting organizations. State medical schools faced a particular problem: their faculty had historically practiced at the affiliated teaching hospital, and the medical school's mission depended on having a steady flow of patients across a wide range of conditions and settings for student clinical education. As payor contracts began to channel patients away from teaching hospitals and toward managed-care networks, medical schools risked losing both their clinical practice base and their accreditation status.

The legal framework an NC public medical school had to navigate to respond was layered. G.S. 116-40.4 authorized the medical school and required accreditation compliance. The constitutional public-purpose doctrine (Art. V § 2(1) and § 2(7)) constrained the use of state resources. The criminal conflict-of-interest statutes (G.S. 14-234 and 14-236) restricted faculty self-dealing. The Umstead Act (G.S. 66-58) limited state competition with private enterprise. The private-emolument ban (Art. I § 32) prohibited special favors to private parties.

Vanore's opinion threaded all five frameworks to authorize the proposed ECHO/EMO arrangement, leaning heavily on the accreditation-driven public purpose. The opinion is a good example of NC AG practice of integrating constitutional, statutory, and regulatory analyses into a single advisory letter for a state institution navigating market change.

Citations

• N.C.G.S. § 14-234(a), (c) (criminal conflict-of-interest for state directors and employees)
• N.C.G.S. § 14-236 (state employees not to supply "goods, wares or merchandise")
• N.C.G.S. § 66-58 (Umstead Act, state competition with private enterprise)
• N.C.G.S. § 66-58(a) (general prohibition)
• N.C.G.S. § 66-58(b)(8) (exemption for UNC hospital and medical school)
• N.C.G.S. § 116-40.4 (authority for SOM and accreditation mandate)
• N.C. Const. Art. I, § 32 (private-emolument ban)
• N.C. Const. Art. V, § 2(1) (public-purpose doctrine for taxation)
• N.C. Const. Art. V, § 2(7) (public-purpose doctrine for contracting)
• Foster v. NC Medical Care Commission, 283 N.C. 110, 195 S.E.2d 517 (1973) (public-purpose analysis for healthcare spending)
• Hughey v. Cloninger, 297 N.C. 86, 253 S.E.2d 898 (1979) (state agency requires sufficient statutory authority)
• Madison Cablevision, Inc. v. City of Morganton, 325 N.C. 634, 386 S.E.2d 200 (1989) (two-part public-purpose test)
• Mitchell v. Financing Authority, 273 N.C. 137, 159 S.E.2d 745 (1968) (foundational public-purpose case)

Source

• Landing page: https://ncdoj.gov/opinions/development-and-operation-of-a-regional-physician-organization/

Original opinion text

• N.C.G.S. 14-234 and 14-236. N.C.G.S. 14-234(a) bars a director appointed "to discharge any trust wherein the State . . . may be in any manner interested" from making any contract under that authority for his own benefit or being concerned or interested in making such a contract, or in the profits thereof. N.C.G.S. 14-234(c) bars a director or state employee from entering into or participating in a business transaction, involving public funds, with a private entity with which that employee has, or had within the past two years, a financial association. The purpose of the statutory provisions is to prevent a state employee from contracting for his own benefit. Neither subsection of this statute would apply to your stated factual situation since the dean and faculty of the SOM would not be involved on behalf of the SOM in entering into any contract with ECHO or EMO.

• N.C.G.S. 14-236 states that officers and employees are prohibited from having "any pecuniary interest, either directly or indirectly, proximately or remotely in supplying any goods, wares or merchandise of any nature or kind whatsoever . . ." to a State entity. The phrase "goods, wares and merchandise" is a term of art defined in Black's Law Dictionary (6th ed.) as "[a] general and comprehensive designation of such chattels and goods as are ordinarily the subject of traffic and sale." Professional services, both patient care and practice management, are not "goods, wares, or merchandise." Thus, under your statement of facts, no state employee of the SOM would be supplying any goods, wares or merchandise to the SOM or any other state entity. For that reason, N.C.G.S. 14-236 likewise seems inapplicable to the facts you pose.

Based upon your statement of facts, it is therefore my opinion that participation by SOM employees in ECHO and ownership of stock in their individual capacities in EMO does not violate the above referenced criminal statutes and thus does not pose a conflict of interest under North Carolina criminal law.

As to the constitutional issue, one question is whether or not the direct or indirect use of SOM resources in support of ECHO or EMO would be contrary to the public purpose doctrine of Article V, Section 2(1) of the North Carolina Constitution. You indicate, among other reasons, that the public purpose served by the Dean and faculty's participation is to promote the mission of the SOM by enhancing patient access to SOM faculty and by providing additional clinical opportunities for all medical students. You state that the for profit corporation model was used for EMO to enhance physician commitment to the organization and to reduce direct capital outlays by the SOM. You further indicate that the Dean and faculty of the SOM will be significantly involved in the governance and operation of ECHO and EMO, including the Dean having the power to appoint four faculty members as directors of ECHO and EMO, and the SOM paying the fees for faculty members to participate in ECHO.

Article V, Section 2(1) of the North Carolina Constitution provides that "[t]he power of taxation shall be exercised in a just and equitable manner, for public purposes only. . . ." "'The power to appropriate money from the public treasury is no greater than the power to levy the tax which put the money in the treasury.'" Foster v. North Carolina Medical Care Commission, 283 N.C. 110, 195 S.E.2d 517, 527 (1973), quoting from Mitchell v. Financing Authority, 273 N.C. 137, 159 S.E.2d 745 (1968). Related to this provision in the facts of your situation is Article V, Section 2(7), which permits legislation authorizing a public entity to "contract with and appropriate money to any person, association, or corporation for the accomplishment of public purposes only."

The SOM cannot participate in such activities without sufficient statutory authority. See Hughey v. Cloninger, 297 N.C. 86, 253 S.E.2d 898 (1979). N.C.G.S. 116-40.4 authorizes the creation of the SOM and further mandates meeting the accreditation requirements of accrediting agencies for medical schools. I understand that the accrediting entities named in the statute, the Council on Medical Education of the American Medical Association and the Association of American Medical Colleges, no longer directly accredit themselves, but that both bodies appoint members of the new accrediting body for all medical schools in this country which is now the Liaison Committee on Medical Education (hereafter "LCME"). The 1995 Standards for Accreditation of Medical Education Programs Leading to the M.D. Degree (hereafter "Standards") promulgated by the LCME speak, among other matters, to the clinical training required of medical students in accredited schools. "All schools must provide broad-based clinical education programs that equip students with the knowledge, skills, attitudes, and behaviors necessary for further training in the practice of medicine. Instruction and experience in patient care must be provided in both ambulatory and hospital settings. All schools must offer a core curriculum in primary care, utilizing the disciplines or multidisciplinary approaches involved in the delivery of such care." (Standards, p. 13) "Clinical education programs involving patients should include disciplines such as family medicine, internal medicine, obstetrics and gynecology, pediatrics, psychiatry, and surgery." (Standards, p. 14) "Students must have opportunities to gain knowledge in those content areas that incorporate several disciplines in providing medical care, for example, emergency medicine and the care of the elderly and disabled." (Standards, p. 14) "Each required clinical clerkship must allow the student to undertake thorough study of a series of selected patients having the major and common types of disease problems represented in the primary and related disciplines of the clerkship. The committee responsible for curriculum must require close faculty supervision of the learning experience of each student at the appropriate level of graded clinical responsibility. Supervision must be provided throughout required clerkships by members of the school's faculty." (Standards, p. 14) "The medical school must have adequate resources to provide clinical instruction to its medical students. Resources must include ambulatory care facilities and hospitals where the full spectrum of medical care is provided and can be demonstrated. . . . [T]he aggregation of clinical resources must be sufficient to permit students in each of the major clerkships to work up and follow several new patients each week." (Standards, p 19)

As set out above, critical to meeting the accreditation requirements, as mandated by the North Carolina General Assembly, is the maintaining of requisite types of educational experiences for medical students. Due to the current rapid and profound changes in the health care system, a sufficient number of patients with a sufficiently broad range and mix of health care problems will not be available for the faculty to treat in conjunction with the students' education in the SOM unless the faculty of the SOM can participate in new developments and structures of delivering healthcare, especially in a managed care and an outpatient setting. Thus it seems that the continued viability of the SOM and its ability to meet the accreditation requirements are dependent upon its ability, and the ability of its faculty, to participate in new developments in healthcare. Thus in my opinion N.C.G.S. 116-40.4 is sufficient statutory authority for the SOM to participate in ECHO and EMO as you have described, including through the use of its funds to pay membership in ECHO for its faculty and the use of its other resources, such as office space, telephone, and support staff.

But sufficient statutory authority alone does not dispose of this issue. While legislative authority is given great weight by the courts of this state, it is for the courts "to determine whether an appropriation of tax funds is for a purpose forbidden by the Constitution of the State. . . ." Foster v. North Carolina Medical Care Commission, supra, at 195 S.E.2d 527. The Supreme Court is guided by two principles when it determines whether a particular undertaking is for a public purpose. First, it asks whether there is a reasonable connection between the activity on the one hand and the convenience and necessity of the particular governmental entity on the other. Madison Cablevision, Inc. v. City of Morganton, 325 N.C. 634, 386 S.E.2d 200, 207 (1989). Second, it asks whether "the activity benefits the public generally, as opposed to special interests or persons." Id. Each case is determined on its own merits on a case-by-case basis, rather than a rigid definition of public purpose being established by the courts. The concept of "public purpose" is not to be narrowly construed. Id.

As to ECHO, the nonprofit corporation whereby physicians as a group can enter into contracts with large payors, and EMO, the for profit corporation providing the network administration, including marketing, information systems and claims payment to ECHO and others, both entities would seem to meet the above definition of public purpose. Both would in fact serve the purpose of enhancing patient access to faculty members and provide additional clinical opportunities for medical students. Thus, there is in my opinion a reasonable connection between the activity of ECHO and EMO and the governmental interest of the SOM. It also appears that for the same reasons such activity by the Dean and faculty in these entities would benefit the public generally. Thus in my opinion, direct or indirect use of SOM resources in the development or operation of ECHO and EMO meets the public purpose requirements of Article V, Section 2(1) of the North Carolina Constitution, and is authorized by Article V, Section 2(7) of the North Carolina Constitution.

The use of state resources for these two entities would also seem to be in accord with Article I, Section 32 of the North Carolina Constitution, which prohibits special privileges or emoluments which are not given in consideration for public service. Support given ECHO and EMO by the SOM is, as set out above, in the public service. Thus in my opinion the use of SOM resources to organize or operate ECHO and EMO, would not be contrary to the private emolument ban of the State Constitution.

Lastly, your letter raised the issue of the Umstead Act. N.C.G.S. 66-58(b)(8)(as amended) gives an exemption to the provision of the Umstead Act in N.C.G.S. 66-58(a) to the "hospital and Medical School of the University of North Carolina. . . ." Since the General Assembly did not limit that designation to a particular campus, in my opinion East Carolina University's School of Medicine, since it is a part of The University of North Carolina System, is entitled to the exemption granted by N.C.G.S. 66-58(b)(8). Thus, in my opinion, the Umstead Act does not bar the SOM from participation in ECHO and EMO.

I have addressed each of the issues raised. Should you have any questions, please contact me.

Andrew A. Vanore, Jr.
Chief Deputy Attorney General