On The Case

06 Oct 2008

Lab Tests Wins $560M Contract Back From Medlab

The Court of Appeal has handed the $560 million Auckland community pathology testing contract back to Lab Tests after the High Court took it off them last year.

Justice Asher in the High Court had previously ruled that the Auckland Regional DHBs' decision to give the contract to Lab Tests over Diagnostic Medlab was invalid because one of the DHB members (Dr Bierre), who was also a shareholder in Lab Tests, had a conflict of interest and used inside information, which helped Lab Tests win the contract.

Justice Asher also ruled that the DHBs should have consulted with Primary Health Organisations, such as doctors.

But last week the Court of Appeal overturned the High Court decision, finding Dr Bierre did not have a conflict of interest at the material times during the tendering process, and that the information he gained while on the DHB was already known to Diagnostic Medlab (the incumbent provider) or not material information at all.

They also found that the DHBs did not have an obligation to consult with Primary Health Organisations or the public, because they were not making significant changes to the services to be provided. They were simply seeking the same services for a lower price.

The Court also made some significant general comments regarding when public sector decisions can be judicially reviewed, particularly when there is a commercial element to the decision.

Essential Facts

Dr Bierre was a pathologist of 25 years experience. He had ambitions to create his own "boutique" laboratory and had pursued academic study in delivery models for pathology in New Zealand. His "boutique" laboratory idea never got off the ground, however.

He was elected to the DHB in December 2004. The DHB decided to put its pathology services out to tender in 2004/2005. Dr Bierre was privy to certain discussions and decisions in relation to that, although had declared his general interest in obtaining pathology contracts from the DHB throughout.

In November/December 2005, Dr Bierre decided that he would lead a consortium (Lab Tests) who would tender for the DHB contract. He resigned from the DHB in December 2005 as a result.

Following a competitive tender, Lab Tests was successful. The incumbent (Diagnostic Medlab) missed out.

There was general concern within the medical community as to whether Lab Tests could in fact deliver on its contract, which had promised a $16 million per annum saving on costs. It was speculated that there would be a significant reduction in pathology services (eg fewer collections and longer time frames for test results).

Diagnostic Medlab applied for a judicial review of the DHBs' decision. The heart of the complaint was that Dr Bierre had a conflict of interest and, through his time at the DHB, had "seeded" key ideas in the minds of the DHB members and been privy, as a result, to key information which had considerable advantage to Lab Tests' bid. Complaint was also laid at the door of the DHBs which allegedly failed to consult because of the feared reduction in service.

Scope Of Judicial Review: When Will Public Sector Commercial Decisions Be Reviewable?

Not all kinds of decisions can be scrutinised by the courts through judicial review. Typically governmental or quasi-judicial decisions are subject to judicial review - but what about commercial decisions by a governmental agency? The extent to which the courts can intervene in essentially commercial decisions, albeit by a government body, is an important public policy issue with significant practical ramifications for those in government and their suppliers.

The Court of Appeal recognised the difficulty in drawing the line as to what was reviewable or not, particularly given the significant changes in the public sector over recent decades.

It saw two conflicting approaches:

• the "orthodox" approach which is to limit review of decisions to enter into a commercial contract to supply goods and services only to cases where there has been fraud, corruption or bad faith; and
• a "modernist" approach which sought to extend the courts' role to permit review where there is a material departure from accepted public sector ethical standards, not just fraud, corruption or bad faith.

Although accepting widespread debate on the correct approach, and the possibility of "incremental" extensions to the "orthodox" approach by analogy, the Court of Appeal found no basis for the "modernist" approach in this case.

No Conflict Of Interest

The Court of Appeal considered that Dr Bierre's conflict of interest had been sufficiently disclosed and in any event did not affect the DHBs' decision making process. In particular:

• his proposed boutique laboratory, which had not been proceeded with, had no relevance to the tendering process; and
• whilst a conflict arose when Dr Bierre decided to lead a bid for the contract, he resigned shortly thereafter and nothing of consequence occurred in the intervening period.
• having decided that, however, the Court had to consider whether Dr Bierre had obtained information as a DHB member which helped Lab Tests' bid, to the disadvantage of Diagnostic Medlab.

No Inside Information

Ultimately, the Court of Appeal, in direct contrast to the factual findings in the High Court, found that the alleged "inside information" was already within Diagnostic Medlab's knowledge or irrelevant.

Of the "advantageous" information focused on by the lower court, the appeal judges found that the evidence disclosed that Diagnostic Medlab knew that the DHBs:

• required open book accounting from the tenderers;
• believed Diagnostic Medlab was earning "super profits" and resistant to change; and
• were looking for significant cost reductions.

The Court of Appeal also found that the DHBs never committed to any particular level of cost reduction. It overturned the High Court's finding that a $20 million saving was an essential requirement, known to Dr Bierre.

This meant, the Court found, that Dr Bierre was not privy to any information that was not within Diagnostic Medlab's knowledge; there was no advantage gained by Lab Tests as a result.

This reversal is surprising. The Court of Appeal took a fundamentally different view of the same facts.

No Need To Consult

A final issue discussed was whether the DHB should have consulted with Primary Health Organisations or the public about entry into the new contract.

The Court of Appeal found that a DHB's statutory obligation to consult with the community only arises where significant changes are to be made to the services being provided. This was not the case here, where the DHBs were simply seeking the same service for a lesser price.

The Court said it was not its role to address the merits of whether there would in fact be a reduction in service given the significant price reduction.

The appeal courts' approach differed from that of Justice Asher, who relied on non-statutory obligations recorded in other documents (eg funding agreements) to require consultation with Primary Health Organisations. Again, a narrower view was taken.

It is worth noting, however, that the Court of Appeal did consider that if a statutory obligation to consult had been triggered, consultation with the community as a whole would have been required, not just representative bodies, such as Primary Health Organisations.

What Happens Now?

The Court of Appeal ordered that Lab Tests commence supplying services under the contract negotiated with the DHBs for the remainder of the eight year term, as soon as possible.

Lab Tests has been reported as saying they could be operational in 6 to 9 months.

Until then, Diagnostic Medlab will continue to supply the services under their temporary contract with the DHBs.

Diagnostic Medlab has already indicated that it may seek to appeal the decision to the Supreme Court.

Comment

The Court of Appeal's decision signals a more conservative approach to when the courts will interfere with commercial decisions of government bodies. This has always been a "grey" area in the law but fundamentally the Court of Appeal has applied a stricter test than the High Court  both in terms of when a decision can be challenged and when it is necessary for the DHB to consult.

The Court of Appeal did, however, leave open the possibility of a wider power to review - but they did not specify when this would apply, which leads to some uncertainty going forward.

On conflicts of interest, the Court of Appeal was less concerned about the conflict itself than whether it made any material difference to the outcome.

The matter will likely go to the Supreme Court, which will give us (we hope) some final guidance on these difficult policy issues and resolve once and for all who will provide pathology services to Aucklanders.

Authors

Earl Gray

Partner - Intellectual Property

DDI: +64 9 977 5002

Mobile: +64 29 977 5002

Email:

View Profile

John Shackleton

Partner - Dispute Resolution

DDI: +64 4 924 3540

Mobile: +64 29 924 3540

Email:

View Profile

Tracey Walker

Partner - Dispute Resolution

DDI: +64 9 977 5088

Mobile: +64 21 273 6241

Email:

View Profile

Richard Watts

Partner - Intellectual Property

DDI: +64 9 977 5182

Mobile: +64 21 895 931

Email:

View Profile

Sarah Chapman

Senior Associate - Intellectual Property

DDI: +64 9 977 5167

Mobile: +64 21 498 965

Email:

View Profile

Claire Foggo

Senior Associate - Intellectual Property

DDI: +64 9 977 5314

Mobile: +64 21 582 674

Email:

View Profile