Tenet HealthSystems HealthCorp. v. Thompson

United States Court of Appeals

FOR THE DISTRICT OF COLUMBIA CIRCUIT

Argued November 8, 2000 Decided July 6, 2001

No. 99-5064

Tenet HealthSystems HealthCorp., f/k/a OrNda Healthcorp.,
Appellee

v.

Tommy G. Thompson, Secretary of
Health and Human Services,
Appellant

Appeal from the United States District Court
for the District of Columbia
(No. 97cv02723)

Anne Murphy, Attorney, U.S. Department of Justice, ar-
gued the cause for appellant. With her on the briefs were
David W. Ogden, Assistant Attorney General, Anthony J.
Steinmeyer, Assistant Director, and Wilma A. Lewis, U.S.
Attorney at the time the briefs were filed. R. Craig Law-
rence and Scott S. Harris, Assistant U.S. Attorneys, entered
appearances.

 Joanne B. Erde argued the cause for appellee. With her
on the brief was Harry R. Silver.

Before: Tatel and Garland, Circuit Judges, and
Silberman, Senior Circuit Judge.

Opinion for the Court filed by Circuit Judge Garland.

Garland, Circuit Judge: Tenet HealthSystems Health-
Corp., a Medicare provider, contends that the Department of
Health and Human Services (HHS) inadequately reimbursed
it for its losses on the sale of a hospital. The district court
agreed and remanded the case to HHS for redetermination of
the amount due. We disagree and reverse the judgment of
the district court.

I

We begin with an exposition of the Medicare regulations
applicable to this appeal, and then describe the proceedings
below.

A

During the period relevant to this case, and with caveats
unnecessary to discuss here, HHS reimbursed health care
providers for their capital-related costs in providing services
to Medicare patients.1 Under the pertinent regulations,
these costs include Medicare's share of a provider's deprecia-
tion expenses and capital losses.2 The regulations use the
"cost basis" of the depreciable assets of a provider's hospital
in determining both the provider's annual depreciation allow-
ances and its gain or loss when the hospital is sold. 42
C.F.R. s 413.134(f), (g). Annual depreciation is calculated as
a yearly fraction of the hospital's basis, distributed over its
useful life. 42 C.F.R. s 413.134(d). Gain or loss upon sale is

__________
1 See 42 U.S.C. ss 1395f(b)(1), 1395x(v)(1)(A)(i); 42 C.F.R.
ss 412.113(a), 413.130; see also 42 C.F.R. s 412.304 (implementing
prospective payment system for capital costs beginning October
1991, pursuant to 42 U.S.C. s 1395ww(g)).

2 See 42 C.F.R. ss 413.50, .53, .130, .134; 42 U.S.C.
s 1395x(v)(1)(A)(i), (v)(1)(O).

determined by subtracting (with appropriate adjustments) the
hospital's basis from its selling price.3 Hence, the higher the
basis, the higher the depreciation expenses that HHS will
reimburse and the smaller the gain or greater the loss it will
calculate upon sale. See Nursing Ctr. of Buckingham &
Hampden, Inc. v. Shalala, 990 F.2d 645, 646 (D.C. Cir. 1993).

The Medicare regulations permit a provider that purchased
a hospital after July 31, 1970 and before July 18, 1984--as
Tenet did--to "step-up," or increase, the basis of the facility
above that of the previous owner. See Nursing Ctr., 990 F.2d
at 646.4 Pursuant to 42 C.F.R. s 413.134(g)(1) and (2), the

__________
3 See Health Care Fin. Admin., Medicare Provider Reimburse-
ment Manual, HCFA Pub. 15-1, s 104.10(C), ex. 5 [hereinafter
Provider Manual]; see also Whitecliff, Inc. v. Shalala, 20 F.3d 488,
489 (D.C. Cir. 1994).

4 In the Deficit Reduction Act of 1984 (DEFRA), Congress
limited the basis in a hospital purchased on or after July 18, 1984 to
"the lesser of the allowable acquisition cost of such asset to the
owner of record as of the date of the enactment of [DEFRA], ... or
the acquisition cost of such asset to the new owner." Pub. L.
98-369, s 2314(a), 98 Stat. 494, 1079 (current version at 42 U.S.C.
s 1395x(v)(1)(O)(i)). HHS has stated that: "The practical effect of
DEFRA is that Medicare will no longer allow a 'write-up' from the
historical cost basis of the acquired depreciable assets. It is
possible, however, for a 'write-down' of assets to occur, when the
limitation is applied." Health Care Fin. Admin., Medicare Interme-
diary Manual, HCFA Pub. 13, s 4508.1(B) [hereinafter Intermedi-
ary Manual]; see 42 C.F.R. s 413.134(g)(3). According to the
legislative history, Congress imposed the DEFRA limitation out of
concern "that Medicare ha[d] been paying for the same capital
assets more than once." H.R. Conf. Rep. No. 98-861, at 1339 (1984).
In the Balanced Budget Act of 1997, Congress further amended the
Medicare statute to provide simply that, for hospitals acquired on or
after August 5, 1997, the basis "shall be the historical cost of the
asset ... less depreciation allowed, to the owner of record as of the
date of enactment of the [Act]." Pub. L. 105-33, s 4404(a)(1)(D),
111 Stat. 251, 400 (codified at 42 U.S.C. s 1395x(v)(1)(O)(i)); see 42
C.F.R. s 413.134(g)(4).

basis of such a hospital's depreciable assets may not exceed
the lowest of: (1) the allocated price paid for the facility by
the purchaser, (2) the allocated fair market value of the
facility at the time of the sale, or (3) the "current reproduc-
tion cost depreciated on a straight-line basis over the life of
the asset to the time of the sale." Id.5 The last category,
depreciated reproduction cost, reflects the depreciated cost of
reproducing the assets at current market prices.6
__________
5 42 C.F.R. s 413.134(g)(1) and (2) provide in relevant part:
(g) Establishment of cost basis on purchase of facility as an
ongoing operation--(1) Assets acquired after July 1, 1966 and
before August 1, 1970. The cost basis for the assets of a
facility purchased as an ongoing operation after July 1, 1966,
and before August 1, 1970, is the lowest of the--
(i) Total price paid for the facility by the purchaser, as
allocated to the individual assets of the facility; [or]

(ii) [and (iii)] ... fair market value of the facility at the time
of the sale, as allocated to the individual assets....

(2) Assets acquired after July 31, 1970 and, for hospitals
and SNFs [skilled nursing facilities], before July 18, 1984.
For depreciable assets acquired after July 31, 1970 and, for
hospitals and SNFs, before July 18, 1984, in addition to the
limitations specified in paragraph (g)(1) of this section, the cost
basis of the depreciable assets may not exceed the current
reproduction cost depreciated on a straight-line basis over the
life of the asset to the time of the sale.

6 "Current reproduction cost" is the "cost at current prices, in a
particular locality or market area, of reproducing an item of proper-
ty or a group of assets." 42 C.F.R. s 413.134(b)(6). The term is
further defined in the Provider Manual as "the cost of reproducing
substantially identical assets of like type, quality, and quantity at a
price level in a bona fide market as of the date of acquisition."
Provider Manual s 134. Section 413.134(g)(2) of the Medicare
regulations requires that the appraiser account for the age of the
facility using straight-line depreciation, which distributes current
reproduction cost "in equal amounts over the period of the estimat-
ed useful life of the asset," 42 C.F.R. s 413.134(b)(3).

HHS describes depreciated reproduction cost "as an accounting
check against purchase price and fair market value," which "incor-
porates the common-sense principle that a purchaser would not pay

A health care provider generally establishes its entitlement
to Medicare reimbursement by submitting a cost report to a
fiscal intermediary. See 42 U.S.C. ss 1395f(a), 1395h; 42
C.F.R. ss 413.24(f), 421.1-.128. If the provider is dissatisfied
with the intermediary's determination of the amount due, it
may seek review from HHS' Provider Reimbursement Re-
view Board. See 42 U.S.C. s 1395oo(a), (b). The Board's
decision in a case is final, unless the Administrator of the
Health Care Financing Administration accepts the case for
review. See 42 U.S.C. s 1395oo(f); 42 C.F.R. s 405.1875.
After a final administrative decision, providers may obtain
judicial review. 42 U.S.C. s 1395oo(f).

B

In September 1983, Tenet purchased two hospitals, Nauti-
lus Memorial Hospital and Gibson General Hospital, from
Humana of Tennessee, Inc.7 Tenet paid Humana $12,100,000
for both hospitals. Based on an appraisal performed by
Valuation Counselors Southwestern, Inc., Tenet allocated
$4,516,202 of the total purchase price to Nautilus Memorial.

Tenet changed Nautilus Memorial's name to Three Rivers
Community Hospital and operated it as an acute care facility
for the next six years. In its first Medicare cost report for
Three Rivers, covering the period from October 1, 1983 to
August 31, 1984, Tenet claimed depreciation allowances calcu-

__________
more for a used building than the cost of constructing exactly the
same building today." HHS Br. at 24. Others have described it as
"an economically meaningless application of up-to-date prices to
out-of-date properties." Bonbright et al., Principles of Public
Utility Rates 294 (1988); see also Farmers Union Cent. Exch., Inc.
v. FERC, 734 F.2d 1486, 1520 n.68 (D.C. Cir. 1984). We have no
occasion to comment on the accuracy of either description.

7 Throughout this opinion, we use "Tenet" to include Tenet
HealthSystems HealthCorp. and all of its predecessors in interest.
American Healthcare Management, Inc. was the original purchaser
of the hospitals in 1983. In 1984, OrNda Healthcorp. purchased
American Healthcare, and in 1997 OrNda was itself purchased by
Tenet.

lated by using a stepped-up basis that reflected the allocated
price it paid in 1983. That price, Tenet said, was lower than
both the hospital's fair market value and its depreciated
reproduction cost as determined by the Valuation Counselors
appraisal, and was thus the appropriate figure for the hospi-
tal's basis pursuant to 42 C.F.R. s 413.134(g).8 However, the
Medicare intermediary, Blue Cross & Blue Shield of Tennes-
see, refused to recognize the step-up on the ground that
Tenet had failed adequately to document the hospital's depre-
ciated reproduction cost. Instead, Blue Cross limited Tenet's
basis to that of the previous owner, adjusted for subsequent
capital improvements, disposals, and accumulated deprecia-
tion, which it referred to as the hospital's "net book value" as
of the date of Tenet's 1983 purchase. As a consequence of
the lower basis, Blue Cross reduced Tenet's allowable depre-
ciation expenses for 1984.

Tenet did not appeal Blue Cross' 1984 determination.
Nonetheless, Tenet continued to claim depreciation allow-
ances using the stepped-up basis (with adjustments) in each
of its next four annual cost reports. Each time, Blue Cross
limited Tenet's basis to adjusted 1983 net book value, and
reduced Tenet's allowable depreciation expenses accordingly.
Tenet did not appeal any of those four annual determinations.

In 1989, Tenet sold Three Rivers for $1,000,000, with the
purchase agreement between Tenet and the buyer allocating
$770,000 of the sales price to depreciable assets. That year,
Tenet submitted a cost report that again used the 1983
purchase price (with adjustments) as the hospital's basis.
Using that basis, Tenet calculated its loss on the sale as
$5,062,801 and billed Medicare for its share. See 42 C.F.R.
s 413.134(f). Once again, Blue Cross reduced Tenet's basis
to the adjusted 1983 net book value of the assets. The
substitution of net book value for Tenet's claimed basis
reduced Tenet's loss from $5,062,801 to $642,512.9 For the

__________
8 According to Tenet, the fair market value and depreciated
reproduction cost were the same. See Tenet Br. at 20.

9 Tenet calculated its basis as $5,832,801, and its loss on the
sale as $5,062,801. See J.A. at 206. Blue Cross reduced Tenet's
basis to $1,412,512, and its loss to $642,512. See J.A. at 209.

first time, Tenet appealed the reduction of the basis to the
Provider Reimbursement Review Board (PRRB).

After an evidentiary hearing, the PRRB sustained the
intermediary's decision. The Board held that, under the
Medicare regulations, a hospital's basis may not exceed its
depreciated reproduction cost, and that Tenet "had failed to
adequately document ... its value for current depreciated
reproduction cost." Three Rivers Cmty. Hosp., PRRB Dec.
No. 97-D97, at 11 (Sept. 10, 1997) [hereinafter "PRRB Op."].
The Board further held that because a reliable value for
depreciated reproduction cost was unavailable, a stepped-up
basis was inappropriate and the intermediary's decision to use
the previous owner's basis (net book value) was reasonable.
Id. The Administrator of the Health Care Financing Admin-
istration declined to review the Board's decision, rendering
that decision final.

Tenet then filed suit against HHS in the United States
District Court for the District of Columbia. On cross-motions
for summary judgment, the court found the PRRB's decision
arbitrary and capricious, principally because the court read
the Medicare regulations to bar the use of net book value as a
purchaser's basis. Tenet HealthSystems HealthCorp. v. Sha-
lala, No. 97cv2723, slip op. at 1 (D.D.C. Jan. 12, 1999). HHS
now appeals.

II

Our standard for reviewing a decision of the PRRB is the
same as that which the district court must apply: We may set
aside a Board decision only if it is "unsupported by substan-
tial evidence," or if it is "arbitrary, capricious, an abuse of
discretion, or otherwise not in accordance with law." 5
U.S.C. s 706(2)(E), (A); see 42 U.S.C. s 1395oo(f)(1) (provid-
ing that judicial review of PRRB decisions shall be pursuant
to the provisions of 5 U.S.C. ss 701 et seq.); HCA Health
Servs. of Okla., Inc. v. Shalala, 27 F.3d 614, 616 (D.C. Cir.
1994). In addition, we must defer to HHS' reading of its own
regulations, unless that reading is "plainly erroneous or in-
consistent with the regulation[s]." Auer v. Robbins, 519 U.S.

452, 461 (1997) (internal quotation omitted); see Thomas
Jefferson Univ. v. Shalala, 512 U.S. 504, 512 (1994). Because
we apply the same standard of review as the district court, we
proceed de novo, as if Tenet had brought the case here on
direct appeal. See County of L.A. v. Shalala, 192 F.3d 1005,
1012 (D.C. Cir. 1999); Biloxi Reg'l Med. Ctr. v. Bowen, 835
F.2d 345, 348-49 (D.C. Cir. 1987).

Tenet emphasizes that it does not challenge the lawfulness
or reasonableness of the Medicare regulations, but rather
only the way in which the PRRB applied them to its reim-
bursement request. Tenet Br. at 11-14. The provider raises
two principal objections to the PRRB decision, contending
that: (1) the Board's determination that the Valuation Coun-
selors appraisal was inadequate to warrant a stepped-up basis
is unsupported by substantial evidence; and (2) the Board's
determination that net book value was a reasonable basis for
the hospital is arbitrary, capricious, and not in accordance
with law. We consider these two arguments below.

A

The PRRB did not dispute that Tenet would have been
eligible for a stepped-up basis had it submitted adequate
supporting data. PRRB Op. at 10-11. It concluded, howev-
er, that Tenet failed to do so. Id. at 11. Although Tenet
contends that this conclusion is unsupported by substantial
evidence in the record, we disagree.

As the PRRB explained, and as Tenet concedes, the basis
for Three Rivers Hospital may not exceed the lowest of its:
(1) purchase price, (2) fair market value, or (3) depreciated
reproduction cost. 42 C.F.R. s 413.134(g)(1), (2). Under the
Medicare regulations, "[p]roviders receiving payment on the
basis of reimbursable cost must provide adequate cost data,"
42 C.F.R. s 413.24(a)--i.e., data that is "accurate and in
sufficient detail to accomplish the purposes for which it is
intended," 42 C.F.R. s 413.24(c). Blue Cross accepted the
figures offered by Tenet for the hospital's purchase price and
fair market value. But it concluded, and the Board agreed,
that Tenet failed to meet its burden of submitting reliable

evidence of the third regulatory criterion: the hospital's
depreciated reproduction cost.10 Accordingly, Tenet could
not establish that its proffered basis was less than or equal to
depreciated reproduction cost, and hence could not meet the
step-up requirements of s 413.134(g). PRRB Op. at 10-11.

In support of its claim to a stepped-up basis, Tenet submit-
ted the appraisal prepared by Valuation Counselors at the
time of the 1983 sale. Although the Board and the intermedi-
ary listed a number of flaws in the appraisal, we consider only
the most important one here: As the Board correctly noted,
the 1983 appraisal simply "did not provide detailed documen-
tation to support how it arrived at its depreciated reproduc-
tion cost[ ]." Id. at 11. The appraisal listed a bottom-line
figure for the depreciated reproduction cost of the hospital
buildings, but it included no supporting analysis or data.
Appraisal at 9 (J.A. at 16). Although Valuation Counselors
attached an item-by-item, priced inventory of the hospital's
equipment, it attached no similar schedule for the hospital's
buildings--notwithstanding that the buildings constituted al-
most 90% of the facility's total appraised value. See id. at 10
(J.A. at 17). Indeed, the appraisal did not even use the term
"depreciated reproduction cost" to describe the value it listed,
but rather the term "depreciated replacement cost." Id. at 7
(J.A. at 14). Although Tenet contends that Valuation Coun-
selors regarded the latter as equivalent to the former, without
a more detailed description of the appraiser's methods and
results it is impossible to determine whether that was so.11

__________
10 Tenet argues that under 42 C.F.R. s 413.134(f)(2)(iv), when
an intermediary is dissatisfied with an appraisal, it is the intermedi-
ary rather than the provider that is obligated to seek a new
appraisal. The cited regulation, however, applies only when a lump
sum sales price must be allocated among various assets, and when
"the buyer and seller cannot agree on an allocation of the sales
price, or ... there is insufficient documentation of the current fair
market value of each asset" to make the allocation. Id. There was
no dispute about the allocation of the lump sum sales price in this
case.

11 We have previously referred to "reproduction cost" as the
"present cost of reproducing the same physical assets," while refer-

 In sum, the appraisal submitted by Tenet left the interme-
diary's auditors without "auditable evidence" from which they
could determine the depreciated reproduction cost of the
Three Rivers facility. Intermediary's Position Paper, PRRB
Case. No. 92-1576, at 13 (J.A. at 161). Because that figure is
essential to the calculation set forth in s 413.134(g), this flaw
is sufficient to support the Board's conclusion that the ap-
praisal was inadequate to warrant a stepped-up basis.12

Twelve years after it purchased the Three Rivers facility,
Tenet endeavored to cure the flaw in the 1983 Valuation
Counselors appraisal by submitting a list of the items that
purportedly comprised the 1983 valuation of the buildings'
reproduction cost. The PRRB was not satisfied with the
degree of detail submitted. PRRB Op. at 8. Although Tenet
neither included this list in the parties' Joint Appendix, nor
referred to it in its brief, at oral argument Tenet's counsel
directed us to the appropriate pages of the agency record.
We have examined those pages and concur in the PRRB's

__________
ring to "replacement cost" as the "present cost of building a like
enterprise taking advantage of modern technology." Farmers Un-
ion Cent. Exch. v. FERC, 584 F.2d 408, 412 n.3 (D.C. Cir. 1978); see
also, e.g., Dickler v. Cigna Prop. & Cas. Co., 957 F.2d 1088, 1100 (3d
Cir. 1992). The Valuation Counselors appraisal described its "re-
placement cost" figure as "the cost of producing new duplicate
assets on the basis of current prices using the same or similar
materials," Appraisal at 1 (J.A. at 8) (emphasis added), while the
Provider Manual defines "reproduction cost" as the "cost to repro-
duce the actual facility in like kind, and should not be inflated by
such factors as ... different construction types," Provider Manual
s 134.2.

12 In addition to this flaw, the Board also found, inter alia, that
the depreciation figure used in the appraisal was so low as to cast
doubt on the appraisal's overall validity. PRRB Op. at 11. The
intermediary had noted that Valuation Counselors' calculation
"yields an accumulated depreciation of only $406,300 from the
construction date [1969] to the point of sale [1983]." Id. at 8. That
figure, the intermediary observed, corresponds to "a useful life in
excess of 175 years"--a facially implausible assumption given "the
standard estimated useful life of a building of 40 years." Id. at 8.

assessment. The new material does no more than list thir-
teen gross components of the Three Rivers buildings
("floors," "roof," "ceilings," etc.) and attach dollar figures to
each. Administrative Record (A.R.) at 740. It does not
indicate how those figures were calculated; it does not even
state whether they were the original 1983 calculations or
simply retrospective reconstructions.

It was not only the Valuation Counselors appraisal itself
that caused the Board concern about accepting Tenet's pro-
posed basis. Another valuation of the hospital, conducted for
Tenet by the firm of Marshall and Stevens, Inc., raised still
further doubts. PRRB Op. at 11. The Marshall and Stevens
report valued the depreciated reproduction cost of the hospi-
tal buildings at $3,000,000 lower than had Valuation Counsel-
ors, as of approximately the same date. Id. at 9. "There are
no reasonable explanations for this large variance," the Board
said, "which leads to the conclusion that the data is unreliable
for computation of loss on sale of the facility." Id. at 9
(summarizing intermediary's view).

Finally, we note that Tenet itself created the evidentiary
difficulty it now faces. Although Blue Cross pointed out the
inadequacy of Tenet's appraisal data as early as 1984, Tenet
"neither appealed the Intermediary's decision when it was
made, nor did it request a reopening of the cost report within
three years of the original" decision. Id. at 11. Tenet also
failed to challenge Blue Cross' determination in any of the
four succeeding cost years, and never offered a new appraisal
that corrected the flaws in the original. Although HHS has
not argued that this constitutes a waiver, the agency does
reasonably contend that Tenet's failure to appeal the first
cost report has made the determination of the hospital's basis
all the more problematic. See, e.g., 15 Mertens, Law of
Federal Income Taxation s 59:11 (1997) (noting the "difficul-
ty of establishing the value of property a number of years
after the valuation date" and that, as a result, a valuation
made at such time "will be regarded as lacking in probative
value"). Hence, Tenet has no one but itself to blame for its
present predicament. We conclude that the PRRB's determi-
nation, that the Valuation Counselors report "failed to ade-

quately document the basis of its value for current depreciat-
ed reproduction cost," PRRB Op. at 11, is supported by
substantial evidence in the record before the agency.13

B

We next consider Tenet's contention that the PRRB's
decision was arbitrary, capricious, and not in accordance with
law. Tenet makes two arguments in this regard. First,
Tenet argues that Medicare acted arbitrarily in rejecting the
Valuation Counselors appraisal for the purpose of determin-
ing Tenet's basis in the hospital, while accepting the appraisal
for the purpose of computing Humana's gain on the same
sale. Second, Tenet argues that the Medicare regulations bar
HHS from using net book value as a hospital's basis.

1

Tenet correctly points out that, although Blue Cross reject-
ed the Valuation Counselors appraisal for the purpose of
determining Tenet's basis in the hospital it purchased from
Humana, the intermediary accepted that appraisal for the
purpose of computing Humana's gain on the sale.14 Specifi-
cally, the intermediary accepted the appraisal's allocation of
$4,516,202 of the total sales price to Three Rivers. By

__________
13 We reject Tenet's contention that Blue Cross' refusal to rely
on the 1983 Valuation Counselors appraisal was inconsistent with a
letter in which the intermediary stated that the appraisal "met the
Medicare Guidelines [for] an acceptable appraisal." See May 7,
1992 Blue Cross Letter at 1 (J.A. at 196). That statement follows
directly after a sentence in which Blue Cross wrote that "[t]his
appraisal was based on the fair market value (FMV) method," id.,
and, as we have noted above, Blue Cross did in fact find the
appraisal acceptable for calculating the hospital's fair market value.
The sentences that follow, however, make absolutely clear that Blue
Cross regarded the appraisal as unacceptable for calculating the
facility's depreciated reproduction cost. Id.

14 As discussed below, when a provider sells a depreciable asset
for a gain, Medicare recaptures its previous depreciation payments
from that gain. See 42 C.F.R. s 413.134(f)(1).

accepting the appraisal for this purpose, while rejecting it for
calculating Tenet's basis in the hospital, Tenet contends that
Medicare acted arbitrarily and capriciously. Indeed, Tenet
continues, this treatment gave Medicare a "windfall," because
Medicare was able to use the higher valuation to recapture
the depreciation expenses it had paid to Humana, while using
the lower valuation to pay lower depreciation reimbursements
to Tenet. We conclude, however, that there is nothing arbi-
trary about the conclusion that the appraisal was acceptable
for one purpose but inadequate for the other.

First, and foremost, the Medicare regulations expressly
require different data for valuing a property for the purpose
of calculating the purchaser's basis than for the purpose of
calculating the seller's gain. As noted above, the regulations
provide that the purchaser's basis in depreciable assets is the
lowest of three figures: purchase (sales) price, fair market
value, and depreciated reproduction cost. 42 C.F.R.
s 413.134(g)(1), (2). As further noted, because the intermedi-
ary reasonably concluded that the Valuation Counselors ap-
praisal of depreciated reproduction cost was unsupported, it
was also reasonable for it to conclude that the appraisal was
unacceptable for the purpose of calculating Tenet's basis.

The regulations governing the seller's gain, however, are
different. Gain is determined by subtracting the seller's
adjusted basis from the sales price. The seller's adjusted
basis is its net book value, which is unaffected by the sale.
See Provider Manual s 104.10(c), ex. 5; see also Whitecliff, 20
F.3d at 489. The sales price is "determined by allocating the
lump sum sales price among all the assets sold, in accordance
with the fair market value of each asset." 42 C.F.R.
s 413.134(f)(2)(iv). Accordingly, for purposes of calculating
the seller's gain, valuation of the property at the time of the
sale requires only two figures: total sales price and fair
market value, the latter being required to allocate the sales
price when more than one asset is sold. As we have noted,
the intermediary accepted Valuation Counselors' figures for
both the total sales price and the fair market value, and hence
of the allocated sales price of the hospital facilities. Because
the only figure disputed by the intermediary--depreciated

reproduction cost--does not enter into the formula for calcu-
lating Humana's gain, it was not arbitrary to accept the
appraisal for the purpose of calculating Humana's gain while
rejecting it for the purpose of calculating Tenet's basis.

Second, although Tenet is correct that the consequence of
using the appraisal for calculating the seller's gain was to
permit Medicare to recapture its prior depreciation payments
to Humana, there is nothing arbitrary about that result.
Rather, it flows directly from the operation of regulations
that are not themselves challenged here. Under those regu-
lations, providers are permitted "[a]n appropriate allowance
for depreciation on buildings and equipment used in the
provision of patient care." 42 C.F.R. s 413.134(a). When a
provider sells a depreciable asset for a gain, Medicare recap-
tures its previous depreciation payments from that gain. See
42 C.F.R. s 413.134(f)(1). Because annual depreciation allow-
ances are only estimates of the true depreciation of the asset,
recapture permits Medicare to recover when actual deprecia-
tion--as reflected in the sales price--turns out to be less than
anticipated. See generally Whitecliff, 20 F.3d at 489. And
this means that the amount of money the seller actually
receives for the property--the allocated sales price--is the
key variable.

By contrast, establishing the purchaser's basis is not in-
tended to permit Medicare to recover for past overpayments
generated by using estimates of actual depreciation, but
rather to provide the initial value from which future esti-
mates--i.e., the purchaser's depreciation allowances--will be
calculated. 42 C.F.R. s 413.130(a)(1), .134. As set forth in a
regulation that Tenet has not challenged, 42 C.F.R.
s 413.134(g), depreciated reproduction cost is one of the three
variables needed to determine the purchaser's basis. There
is nothing arbitrary about rejecting an appraisal that did not
reliably establish the magnitude of that variable.15

__________
15 We also note that while the accuracy of the appraisal of
Tenet's basis was important to both Medicare and Tenet, the
accuracy of the appraisal of Humana's sales price was not equally
significant to either Medicare or Humana. Since the amount of

 2

Tenet also argues that the Medicare regulations bar HHS
from using net book value as a hospital's basis. As the
provider correctly points out, paragraphs (1) and (2) of 42
C.F.R. s 413.134(g) do not mention net book value as a
permissible basis: They mention only purchase price, fair
market value, and depreciated reproduction cost. As HHS
correctly notes in response, however, these paragraphs re-
quire the intermediary to select the lowest of those three
variables as the basis, and are simply silent as to what should
be done if the data are insufficient to support one or more of
them. The paragraphs do not mention net book value at all,
let alone expressly forbid its use.

When an agency regulation is silent or ambiguous with
respect to the specific point at issue, we must defer to the
agency's interpretation as long as it is reasonable. Indep.
Petroleum Ass'n of Am. v. Babbitt, 92 F.3d 1248, 1256 (D.C.
Cir. 1996); see Foothill Presbyterian Hosp. v. Shalala, 152
F.3d 1132, 1134, 1135 (9th Cir. 1998). Indeed, the Supreme
Court has advised that "[t]his broad deference is all the more
warranted" when the regulation concerns a "complex and
highly technical regulatory program" like Medicare, "in which
the identification and classification of relevant criteria neces-
sarily require significant expertise and entail the exercise of
judgment grounded in policy concerns." Thomas Jefferson
Univ., 512 U.S. at 512 (internal quotation omitted). More-
over, as the Court has further explained, HHS does not have
a statutory duty to promulgate regulations that "address
every conceivable question in the process of determining
equitable reimbursement." Shalala v. Guernsey Mem'l
Hosp., 514 U.S. 87, 96 (1995). Rather, for "particular reim-
bursement details not addressed by" regulations, HHS prop-
erly "relies upon an elaborate adjudicative structure which

__________
Humana's gain was well above the level that would permit Medicare
to completely recapture its depreciation payments, neither Humana
nor Medicare had any reason to dispute the precise amount of the
gain. See HHS Reply Br. at 9 & n.3; A.R. at 460.

includes the right to review by the [PRRB]." Id. The
agency reasonably relied on that structure here.

Lacking an acceptable figure for depreciated reproduction
cost, the intermediary concluded that it could not determine
which of the three values listed in the regulation was the
lowest, and hence could not step-up the basis under
s 413.134(g). In such circumstances, Blue Cross recognized,
a literal reading of the regulation could require it to assign a
basis of zero: "Without the determination of ... current
depreciated reproduction costs, the lesser ... of these three
variables becomes -0- and the Provider's asset basis thus
becomes -0-." Intermediary's Position Paper at 8 (J.A. at
156). Instead of adopting such a Draconian position, howev-
er, Blue Cross permitted Tenet to use the basis of the
previous owner. "This basis was chosen," the intermediary
said, "because it would not exceed the purchase price, fair
market value, or depreciated reproduction cost" of the hospi-
tal. May 7, 1992 Blue Cross Letter at 2 (J.A. at 197). In
addition, the previous owner had maintained "adequate docu-
mentation ... on the assets which properly supported their
net book value." Id. Finally, Blue Cross had been applying
net book value as Tenet's basis, without appeal, for each of
the previous five years. Under these circumstances, the
PRRB determined, and we agree, that "the intermediary's
use of the net book value was reasonable." PRRB Op. at 11.

We also note that relegating the provider to the basis of
the previous owner is consistent with the agency's long-
standing characterization of s 413.134 as a regulation that
permits a purchaser to "step-up" the property's basis from
that of the prior owner. See HHS Br. at 9; see also
Intermediary Manual s 4508.1 (referring to the calculation as
a " 'write-up' from the historical cost basis of the acquired
depreciable assets"). Although the regulation does not itself
use the term "step-up," Tenet also characterizes it as a "step-
up" regulation, see Tenet Br. at 6, as has this court, see
Nursing Ctr., 990 F.2d at 646; Richey Manor, Inc. v.
Schweiker, 684 F.2d 130, 133 (D.C. Cir. 1982). The logical
consequence of such a characterization is that a purchaser
who fails to satisfy the regulation's requirements will not be

permitted to step-up the basis, and hence will appropriately
be left with that of the prior owner.16

In a further attack on the intermediary's assignment of the
seller's basis to Tenet, Tenet contends that another para-
graph of s 413.134(g) expressly bars the use of the seller's
basis unless the sale was not bona fide. See Tenet Br. at 25-
29 (citing para. (5)). Since there has never been any sugges-
tion that Humana's sale to Tenet was anything but bona fide,
Tenet concludes that HHS was barred from assigning Three
Rivers a basis equivalent to the prior owner's net book value.

This argument simply misreads the cited paragraph. Para-
graph (5) of s 413.134(g), entitled "Transactions other than
bona fide," states that "[i]f the purchaser cannot demonstrate
that the sale was bona fide, in addition to the limitations
specified in paragraph[s] (g)(1) [and] (2) ... of this section,
the purchaser's cost basis may not exceed the seller's cost
basis, less accumulated depreciation." This paragraph does
provide that if a sale was not bona fide, the purchaser's basis

__________
16 The district court was concerned that limiting the purchaser
to the prior owner's net book value "would cause all assets that
have exceeded their estimated useful life to have a depreciable basis
of $0 assigned to them upon sale," a result the court thought
inconsistent with the PRRB's recognition in a prior case that fully
depreciated assets may continue to have value. Tenet HealthSys-
tems, slip op. at 14 (citing Unity Hospital, PRRB Dec. No. 78-D86,
Medicare & Medicaid Guide (CCH) p 29,590 (Dec. 21, 1978)). This
concern is unwarranted. First, although it is true that the applica-
tion of straight-line depreciation can reduce an asset's depreciable
basis to zero, that would ordinarily occur only at the end of the
asset's useful life, which had not been reached here. Second, this
result is not arbitrary, but rather the logical consequence of the
straight-line method of depreciation, which is embedded in Medi-
care regulations not themselves challenged by Tenet. See 42
C.F.R. s 413.134(b)(3), (g)(2). Finally, the PRRB did not hold that
every purchaser should be relegated to the seller's net book value,
only that this was an appropriate result in Tenet's case because
Tenet had failed to satisfy the regulatory requirements for a step-
up. As discussed in the text above, that determination was reason-
able.

is limited to that of the seller. But paragraph (5) does not
say that the only time the intermediary may use the seller's
basis is when the sale was not bona fide. To the contrary,
paragraph (5) says nothing at all about how to calculate the
basis when the transaction was bona fide, and instead refers
the reader to paragraphs (g)(1) and (2) of the same section.
Those are the paragraphs already considered above, which
require the use of the lowest of purchase price, fair market
value, and depreciated reproduction cost, and which the
PRRB reasonably read as permitting use of the seller's basis
when the figure offered for depreciated reproduction cost is
not reliable. We therefore reject Tenet's contention that the
Board's decision is "not in accordance with law."

III

The PRRB's decision to approve a cost basis for Tenet's
hospital that was equal to that of the prior owner is supported
by substantial evidence and is not arbitrary, capricious, or
contrary to law. Indeed, the use of that basis represented
Medicare's reasonable effort to be fair to a purchaser that
could not satisfy the regulatory requirements for a stepped-
up basis. Accordingly, the judgment of the district court is

Reversed.