LabCorp Seeks $500 Million Through Public Stock Offering

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CEO SUMMARY: After a financially difficult year in 1996, LabCorp enters 1997 with plans to raise $500 million. Despite the laboratory industry’s poor prospects, LabCorp will probably succeed in raising capital. After this infusion of capital, will LabCorp’s new management team have winning strategies that restore LabCorp to profitability?

IMAGINE ASKING WALL STREET for $500 million after the price of your stock plummets from $14 per share to under $4 in just 18 months!

Laboratory Corporation of America is doing exactly that. Company officials announced on February 27 that they were filing a registration statement with the Securities and Exchange Commission (SEC) and were preparing to raise $500 million.

In every large metropolitan area of the United States, laboratories are undergoing an unprecedented financial squeeze from managed care plans and other healthcare providers.

Credit Suisse First Boston Corporation will act as the dealer manager for this offering. The proposed offering consists of two series of convertible preferred stock.

In seeking to raise this money, LabCorp is using a bad news/good news approach for prospective investors. The bad news is that the integration between Roche Biomedical and National Health Laboratories took longer than anticipated. Medicare reimbursement cuts and increased managed care volume eroded profit margins. The settlement of Medicare fraud charges for $189 million was another untimely event.

In contrast, LabCorp can tell investors good news: all these bad things are resolved. The future is bright with a new CEO and management team.

Laboratory executives know this flies in the face of personal experience. In every large metropolitan area of the United States, laboratories are undergoing an unprecedented financial squeeze from managed care plans and other healthcare providers.

Changes in the way Medicare and Medicaid operate will further increase the financial stress on clinical laboratories. Not only will Medicare step up investigations of laboratory billing practices, but Medicare officials are busily rewriting test reimbursement guidelines, creating definitions of medical necessity and revamping acceptable test panels.

The result of all of this will be lower reimbursement to laboratories in tandem with increased costs to comply.

On the Medicaid front, the news is equally grim for laboratories. State after state is applying for federal waivers to create Medicaid HMOs and similar health plans for their beneficiaries. These new healthcare plans replace the former fee-for-service Medicaid reimbursement with highly discounted or capitated fees. Laboratories experience declining reimbursement levels as a result of these Medicare reforms.

Viable Business Strategy

It is into this environment that LabCorp will attempt to do what no commercial laboratory has yet accomplished: find a viable, profitable business strategy. It is for these reasons that LabCorp’s effort to raise $500 million surprises laboratory executives. It is not that LabCorp wants the money, it is that investors will ignore the experience of the last three years and fund the offering.

Corning/MetPath,Physicians Clinical Laboratories, UniLab and Meris Laboratories are all examples of successful laboratory operations which lost their luster in recent years.

Only 11 months ago, Unilab raised over $120 million through a corporate debt offering. By January 1997, all the original bondholders had sold their stake at a discount. Wall Street money managers got an expensive lesson in the economics of clinical laboratories.

A reading of LabCorp’s 1996 year-end financial statement also highlights a key question. LabCorp touts the fact that they have produced $30 million more in savings than the pre-merger expectations of $80-$90 million per year.

This is a notable accomplishment, but competing laboratory executives understand an important consequence of this degree of cost-cutting: declines in service. Much of the savings generated by the commercial laboratories in their cost-cutting programs originates from two sources: staffing cutbacks and closing laboratory sites.

Each time a staff reduction takes place, beside the morale issue, there remain fewer people left to do the work. Inevitably there is work that goes undone. Clients cannot access services with the same ease as before the cutbacks.

From an economic perspective, closing laboratory sites makes good sense and in theory should not result in any discernable decline in turnaround time or service. But the reality is that service does suffer. More nimble regional competitors rush to fill the vacuum and steal significant chunks of business.

That is LabCorp’s Scylla and Charybdis. On one hand, they must develop a strategy to grow the business in a healthcare marketplace that is shrinking. On the other hand, they must cut costs in order to maintain operating profits. But in so doing they reduce service levels and make themselves vulnerable to regional laboratory competitors.

Of the three national laboratories, currently LabCorp is under the greatest financial pressure. Quest Diagnostics Incorporated (formerly Corning
Clinical Laboratories) was able to reconfigure its balance sheet as part of the spin-off from parent Corning Incorporated.

SmithKline Beecham Clinical Laboratories (SBCL) has produced regular operating profits during the past year. Despite the expense of the federal settlement, SBCL finances are in better shape than those of LabCorp.

LabCorp’s options are few. In order to keep its lenders happy, it must raise the $500 million. However, once the money has been obtained, the hard work begins. LabCorp’s executive team must develop a business strategy that succeeds. To date, that is an accomplishment which has eluded the publicly traded commercial laboratories. Should LabCorp come up with the winning formula, they deserve the resulting success.

New Executives At LabCorp And NeoPath

Laboratory Corporation of America’s new chief executive officer wasted no time in restructuring his management team. Thomas P. Mac Mahon announced new appointments this month.

Richard L. Novak has joined LabCorp as the Executive Vice President, Eastern Operations. In that role he will handle LabCorp’s Mid-Atlantic, Northeast, South and South Atlantic Divisions.

Novak spent ten years with SmithKline Beecham Clinical Laboratories. His positions there included Senior Vice President, U.S. Operations and President, International. Because of his background, he may make some interesting contributions to LabCorp’s operations.

LabCorp’s other executive change is the assignment of Larry L. Leonard, Ph.D. as Executive Vice President, Western Operations. In this role he will oversee LabCorp’s Central, Great Lakes, Midlands, Southwest and West divisions.

Seattle-based NeoPath, Inc. announced the appointment of a new Chief Financial Officer. William C. Scott joined the company from Boston Scientific Corporation, where he was Vice President and General Manager of the NW Technology Center (formerly Heart Technology). Scott also is a member of the Board of Directors for the American Heart Association’s
Washington affiliate.

Universal Standard Med Laboratories Announces 1996 Year End Financials

Universal Standard Medical Laboratories (USML) of Southfield, Michigan released year-end earnings. Because of the laboratory’s unique managed care programs, it provides valuable insights into marketplace trends.

USML’s 1996 revenues were $57.6 million compared to $66.5 million in 1995. Net loss for 1996 was $7.8 million compared to 1995’s net loss of $1.0 million. The company took special charges in both years.

What is interesting is the impact which managed care is having upon the laboratory. During 1996, USML saw fee-for-service patient visits decline 14%. The company attributes this to several factors, including a shift of some patients to managed care programs, its own reduction in testing facilities and lost accounts. USML reports that fee-for-service revenue declined 17% as a result of these factors.

To offset these trends, USML has downsized and re-engineered its central laboratory. CEO Eugene Jennings revealed that operating costs have been reduced by $6 million per year through these efforts.

USML operates a managed care division called Universal Standard Managed Care (USMC). It provides services to 800,000 lives in all 50 states, but is primarily structured around major automobile manufacturers in the State of Michigan.

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