LabCorp Starts Tinkering With DIANON Systems

Will LabCorp preserve the elements that made DIANON such a successful growth engine?

CEO SUMMARY: For almost two decades, DIANON Systems supported one of the most successful sales and marketing programs in the public laboratory sector. However, despite its pre-acquisition statements that it would retain DIANON’s operational integrity, LabCorp has already begun to implement subtle changes to DIANON Systems. Time will tell whether or not these management decisions prove beneficial.

FOR MOST OF THE 1990S, DIANON Systems, Inc. was the company which set the bar for selling anatomic pathology services to office-based physicians.

That era may have ended on Friday, January 17, 2003. That’s the date when Laboratory Corporation of America took ownership of DIANON and put itself squarely in competition with local pathology groups for primary biopsies originating in physicians’ offices.

To enter this market segment, Lab-Corp paid almost $600 million to buy DIANON, a company that was on target to post net revenues of about $190 million for 2002. LabCorp’s purchase of DIANON Systems was announced last November. (See TDR, November 18, 2002.)

Retain Its Edge?

Now comes a question of critical importance for local pathology group practices. Will LabCorp operate DIANON Systems with the same competitive edge, thus continuing DIANON’s sustained ability to capture market share from local pathologists? Or will LabCorp executives in Burlington, with their different business priorities and “better ideas,” dull DIANON’s sharply-honed sales and marketing program?

It is not an idle question for the pathology profession. THE DARK REPORT has noted that three public companies offering pathology services— DIANON Systems, IMPATH, and AmeriPath—grew at spectacular rates during the past five years. For 2002, these three firms will do as much as $800 million in anatomic pathology services. A substantial portion of this revenue growth has come at the expense of local pathology groups.

By paying more than one-half billions dollars to acquire DIANON systems, LabCorp has made a definitive statement that it wants to compete in this market segment. The challenge will be for the management of Lab-Corp to execute this business strategy at least as well as was done in recent years by the management of DIANON Systems.

Pre-acquisition, LabCorp lauded many aspects of DIANON Systems and declared that, going forward, it would retain the DIANON identity. However, that’s already proving untrue for DIANON’s national sales force. Rather than retaining the form, structure, and incentives of DIANON’s sales program which made it the envy of most public lab companies, LabCorp has already begun integrating DIANON’s sales people and sales functions into its existing national sales program.

Changes Becoming Visible

Two fundamental changes in Lab- Corp’s integration program are becoming visible. First, DIANON’s sales representatives will report directly to regional LabCorp managers and not to Martin J. Steffanelli in Stratford, Connecticut. As DIANON System’s Senior Vice President of Sales, Marketing, and Business Development, Steffanelli played a key role in maintaining the high productivity of DIANON’s sales force.

Second, DIANON’s generous sales commission plan will be scrapped and replaced with LabCorp’s existing sales compensation program. A number of DIANON sales reps currently interviewing for jobs with competing lab companies believe this will occur. When the two sales incentive programs are put side-by-side, the difference is substantial. DIANON’s current sales compensation program is heavily weighted to reward profitable new business and pays about 40% more than LabCorp’s sales compensation plan.

Assuming that LabCorp’s compensation program is significantly less generous, then LabCorp faces a tough challenge to retain and motivate the best of DIANON’s sales producers. Top-ranked sales reps at DIANON were known to earn $200,000 per year and THE DARK REPORT has seen multiple winners of a special sales contest at DIANON get bonus checks of $80,000 apiece. DIANON was a company that wanted growth. As such, it was willing to handsomely reward sales reps who could generate profitable new specimen volume.

Early Intelligence

At a minimum, all this early intelligence indicates that significant changes are planned for DIANON’s existing sales program. Even if most of DIANON’s top-ranking sales producers decide to continue with LabCorp, their sales momentum will be disrupted by new reporting relationships.

The need to learn LabCorp’s business policies will require DIANON sales reps to take time away from sales activity to attend LabCorp training pro- grams. They will also be asked to sell different products to their physician office clients. In the short term, all of these activities will distract DIANON’s sales reps from their prior focus on developing new client accounts.

In the short term, all these activities will distract DIANON’s sales reps from their prior focus on developing new client accounts.

Another interesting area to watch is how LabCorp’s access to managed care contracts can be leveraged to generate additional business for its DIANON division. Last November, LabCorp CEO Thomas P. Mac Mahon publicly stated that it holds managed care contracts in many cities where DIANON does not. It wants to use DIANON’s AP testing and sales resources to piggy-back more anatomic pathology specimens on top of the existing clinical lab testing it does in these regions.

Post-acquisition, executives at LabCorp and DIANON view this as a logical and productive way to gain synergy. However, to accomplish this goal requires that DIANON’s sales reps be redirected away from efforts to build their existing sales book of business.

It should be also noted that DIANON itself, in recent years, was experiencing its own internal problems. These may impact LabCorp’s ability to retain DIANON’s clients post-acquisition. The fact that DIANON had actively solicited buyers during the past two years can be interpreted as a sign that its executive team had doubts about the company’s ability to sustain high rates of profitable growth in the near future.

Changes Already Occurring

All this early intelligence adds up to one important conclusion: post-acquisition, LabCorp will not operate DIANON as independently as was suggested last November. DIANON’s sales program and an undetermined amount of its operational resources will be integrated with LabCorp’s existing regional laboratory centers.

At a minimum, this means local anatomic pathology group practices have a window of opportunity to market themselves to DIANON’s physician office clients. For this to occur, however, it means local pathologists must make an investment in their own group practice—something they have traditionally hesitated to do.

Thus, it remains a game which is LabCorp’s to lose. In other words, lots of aspects of DIANON were working. Should there be erosion of DIANON’s specimen volume and revenue going forward, then much of that can be attributed to LabCorp’s management of the DIANON assets it purchased.

LabCorp’s Relationship With Local Path Groups

MANY PATHOLOGISTS around the country point out that Laboratory Corporation of America has traditionally relied on local pathology groups to provide anatomic pathology (AP) services for LabCorp specimens originating from physicians’ offices.

In many regions of the United States, LabCorp has long-standing business relationships with local pathology group practices. LabCorp refers AP specimens from its physician office-based clients to these local pathology groups. In some cases, these business relationships extend back more than 10 to 15 years.

That is why news that LabCorp would acquire DIANON Systems caused a stir among community hospital-based pathologists. DIANON has been a tough competitor. In purchasing DIANON, LabCorp made a $600 million investment to expand its share of the anatomic pathology market sourced from physicians’ offices. It is reasonable to conclude that LabCorp will begin unwinding its existing business relationships with local pathology groups so that it can refer those specimens to its new DIANON division.

As that occurs, local pathology groups can not be expected to quietly watch that business migrate to LabCorp/DIANON without a competitive fight. During the next two years, as LabCorp moves to bring outsourced AP specimens in-house, some local pathology groups may be finally prodded to finally launch their own sales pro- gram in order to retain that business.

Therein lies one threat to the success of the LabCorp/DIANON acquisition. Since healthcare is local, local pathology groups should have a competitive edge against any national laboratory—so long as they provide an equal level of service and sustain a professional sales program.

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