Quest Finally Owns Unilab, New Market Cycle To Begin

2003 opens with four national lab firms removed from the competitive marketplace

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PERSISTENCE FINALLY PAID OFF for Quest Diagnostics Incorporated. On February 26, it took ownership of Unilab Corporation, capping almost 11 months of effort.

In completing this acquisition, Quest Diagnostics completes the two blood brothers’ acquisition sweep of mid-sized public lab companies during 2002. The familiar names of American Medical Laboratories, Dynacare, DIANON Systems, and Unilab are headed for history’s dustbin.

For the record, during the past 12 months, Quest Diagnostics and LabCorp spent $2.9 billion on their acquisitions. Since 1999, the two blood brothers spent $4.4 billion on lab acquisitions. These are sizeable investments, particularly within the relatively small segment of diagnostic services.

What Next For Lab Industry?

This raises an obvious question: what comes next in the lab industry? Never before in the American healthcare sys- tem has there been such a concentration of ownership and market share for diagnostic testing.

Certainly the new competitive land- scape for physicians’ office sendout testing is going to change. But accurate predictions about the nature of these changes are impossible to make.

California will be the first regional market to experience changes that directly result from lab consolidation. One easy prediction to make is that Quest Diagnostics will begin to raise prices and extend less liberal terms for managed care contracts.

As THE DARK REPORT has noted in past issues, Unilab consistently inked managed care contracts at aggressively low prices. It was willing to do full-risk, capitated contracts at a price that was generally half what lab competitors in California were willing to offer. Expect any Unilab cap rates that are less than $1.00 per member per month to disappear as Quest Diagnostics renegotiates contracts it considers money-losers.

Reductions In Lab Staff

Staff reductions should also be expected. Quest Diagnostics now has five significant laboratory operations in California, including Quest Nichols Institute in San Juan Capistrano. There are ample opportunities to eliminate redundant operations. Of course, there will not be announcements of large downsizing. Rather, staff reductions will be done quietly, phased in over time. Normal employee attrition will be used to full advantage in achieving lower staffing targets.

Quest Diagnostics is not wasting any time with its integration efforts. It reassigned two executives from the East Coast. Paul Rust and Douglas Boyle are becoming full-time California residents and will lead the Unilab integration for Quest Diagnostics. As this news became known, at least one Unilab executive has already resigned. Jeff Lanzolatta, who was the Division President for Southern California, left the company last week, within days of the ownership change.

Antitrust Issues

One significant development in 2002’s lab acquisition frenzy was the Federal Trade Commission’s (FTC) heightened interest about the potential of the Quest/Unilab transaction to violate antitrust laws. At one point, the FTC was ready to oppose the deal. (See TDR, October 7, 2002.)

In fact, Quest Diagnostics divested certain assets in Northern California as a way to resolve antitrust concerns of the FTC. It sold a package of managed care contracts, rapid response labs, and patient service centers to Laboratory Corporation of America.

Entering this new market cycle, lab administrators and pathologists should watch two aspects. First, will antitrust regulators become more aggressive in blocking or reshaping future acquisitions by either of the national lab companies? Second, in California, will LabCorp successfully use these acquired assets to capture additional market share?

Establishing A Precedent

It is uncommon for one lab to sell managed care contracts and part of a regional service infrastructure to another laboratory. Observers wonder whether physician-clients served by Quest Diagnostics under these contracts will become loyal to LabCorp after the switch.

Mundane changes to test requisitions, a shift in couriers and pick-up times, introduction of new service procedures; all these tend to create disruption in physicians’ offices. Frequently this disruption is enough to cause physicians to switch their business to a competing laboratory. LabCorp’s success at retaining this customer base—and its ability to expand market share from this base—will make an interesting case study one year from now.

Moving from California to the national market scene, the disappearance of American Medical Labs, Dynacare, and DIANON Systems as independent competitors creates short-term opportunities for regional competitors. In many areas around the country, aggressive hospital lab outreach programs are recruiting some of the best management and sales talent from local business units of these acquired companies.

…what will be left for most laboratory customers is a default option: “the flavor is cola, you can select either Pepsi or Coca Cola.”

More specific effects caused by the removal of these lab companies as independent competitors will take time to appear. For one thing, these companies did provide customers with choice. Each had its unique business strategies and operational strengths. As these companies are absorbed by their acquirer, what remains for laboratory customers in many cities is a default option: “the flavor is cola, you can select either Pepsi or Coca Cola.”

Of course, both Quest Diagnostics and LabCorp will each argue that it has a unique business proposition that sets it apart from the competition. However, region by region, local hospital laboratory outreach programs would argue otherwise. They see the daily delivery of service by all competitors in their market. None yet report that any laboratory competitor has moved the service bar significantly above the norm.

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