Dismal Hospital Finances Behind Lab Joint Venture

Columbia/HCA’s motivation was to restore profits at their three Louisville hospitals

CEO SUMMARY: 1995 marked a pace-setting agreement between Columbia and LabCorp. LabCorp would consolidate and manage the laboratories at three Columbia Hospitals. All participants agree that the project has met expectations. But Columbia has yet to clone this model elsewhere. Here’s why.

COMMENTATOR Paul Harvey is famous for his trademark radio programs which end with the tag line “… and now you know the rest of the story.”

THE DARK REPORT has finally ferreted out the secrets of the joint venture in Louisville between Columbia/HCA and Laboratory Corporation of America. Now “the rest of the story” can be told about this ground-breaking alliance.

When the Columbia/LabCorp joint venture was first announced in the fall of 1995, many lab industry executives wondered how this would change the competitive marketplace for laboratory services. The reason was simple.

Ideal Test Of Consolidation

Columbia was taking three local hospitals, representing over 1,100 beds, and consolidating those laboratories with LabCorp’s large regional laboratory in Louisville. It would be an ideal test of how to successfully marry the strengths of a large commercial lab with the local needs of three nearby hospitals. It might even put to rest that oft-quoted fear that “commercial laboratories can’t run hospital labs because they don’t understand the different way a hospital lab operates.”

For the three national laboratories, a successful Columbia/commercial lab joint venture in Louisville could become the model for similar deals throughout the country. Because Columbia operated over 300 hospitals at the time, LabCorp, Quest Diagnostics Inc. and SmithKline Beecham Clinical Laboratories had reason to believe that Columbia’s success with this joint venture might trigger a cascade of similar arrangements. This was potentially a major business opportunity.

Hospital-based laboratories and regional commercial labs viewed this differently. If Columbia were to move this model outside Louisville and partner with a national lab in their particular community, it would mean one more tough competitor to battle. This would not be welcome news for regional laboratories already struggling to maintain financial stability.

To the surprise of many, however, Columbia has yet to clone this joint venture model with any of the three national labs in any other city. Given Columbia’s reputation for innovation, experimentation and a willingness to change traditional practices if it boosted profits, this was puzzling.

The secret behind how the Louisville deal came about is also the reason why Columbia has yet to duplicate this model in other cities. The secret is both simple and logical.

Through a quirk of circumstance, all three Columbia Hospitals in Louisville were losing money. They are Columbia Suburban Hospital, Audubon Regional Medical Center and Columbia Southwest Hospital. They were losing so much money that two of the three Louisville hospitals ranked in the bottom 10 worst-performing hospitals owned by Columbia in 1995!

Instead of innovation, Columbia’s joint venture with LabCorp was done from desperation. Local Columbia executives were willing to take any steps necessary to restore their three hospitals to profitability.

This also explains why Columbia executives in other regions have not copied the Columbia/commercial lab joint venture model. If the Louisville hospitals continue to lose money, why would another Columbia executive want to copy the consolidated laboratory model from that city?

Both Parties Satisfied

Indications are that Columbia and LabCorp are satisfied with the performance of the lab joint venture, both in terms of finances and service. But until the Louisville hospitals return to profitability, no other Columbia executive appears eager to copy the model.

During the last two years, the only other reported Columbia/commercial lab joint venture is the Atlanta reference lab project. This is a partnership between Columbia/HCA and MDS Healthcare of Ontario, Canada. Unlike the Louisville joint venture, which utilized existing laboratory resources, the Columbia/MDS venture is constructing a state of-the-art reference laboratory from scratch. It will include the automated laboratory equipment which MDS designed and markets under the Autolab name. MDS will also manage the laboratory.

Columbia’s contribution to the partnership is cash and reference testing from its 18 hospitals located in Georgia. To supplement the reference testing volume from the Columbia hospitals, the partnership intends to pursue outreach testing in competition with other laboratories in Atlanta and throughout the state.

This means Columbia provides two interesting case studies for the laboratory industry to watch. In Louisville, the joint venture utilizes existing laboratory capacity. It took excess capacity off line while reducing costs to the joint venture partners.

The outcomes will teach laboratory executives which strategy is wiser: to build new, highly efficient laboratories or to take existing laboratory resources and make them as productive as possible

This is in keeping with THE DARK REPORT’S prediction of regional laboratory systems which evolve by using existing laboratory resources in that area for their highest and best use. It avoids the construction of new laboratory capacity at a time when managed care is squeezing excess hospital beds and laboratory resources out of existence.

Atlanta represents exactly the opposite approach to excess capacity and laboratory regionalization. The construction of a new laboratory in a crowded metropolitan marketplace adds capacity. It sets up the same kind of scenario which was played out in California.

With lots of excess lab capacity and high fixed costs, the temptation is to bid incremental specimen volume at marginal cost. This is what occurred in California. There each laboratory hoped that increased volume, even priced at marginal cost, would lower the average cost per test going through their laboratory.

Strategic Folly

As a result, competitive pricing in California became the lowest in the nation. During 1996, a rash of laboratory bankruptcies demonstrated the folly of that strategy, even as the bankruptcies themselves removed excess laboratory capacity from the California marketplace.

Could the same thing happen in Atlanta? SmithKline and Quest both operate regional laboratories in that area. The additional lab capacity available to the Columbia/MDS partnership may encourage them to discount testing in order to attract outreach specimen volume. Further, were Columbia/MDS to discount to attract volume, would SmithKline and Quest demonstrate pricing discipline? Or would they discount to match Columbia/MDS in order to protect existing market share?

There will be many interesting lessons to learn from the experience of Columbia in both Louisville and Atlanta. With managed care continuing to squeeze costs out of the system, knowledge gained from these two markets will be invaluable. The outcomes will teach laboratory executives which strategy is wiser: to build new, highly efficient laboratories or to take existing laboratory resources and make them as productive as possible.

As to the Louisville joint venture, it remains the one recent example of a commercial lab consolidating and managing multiple hospital laboratories. The Louisville concept works and was born of financial desperation. And now you know… the rest of the story!

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