Theranos Pursues Different Business Plan in Arizona

Company is building CLIA lab in Scottsdale, now has sales reps canvassing docs in the area

CEO SUMMARY: Since its big public debut in late 2013, Theranos has been the subject of keen interest and much skepticism among pathologists and clinical laboratory professionals. Theranos is expanding its presence in Phoenix, Arizona. However, as it does, it looks more like a conventional clinical laboratory—with all the associated costs—than a disruptive lab testing innovator with proprietary technology that can shift the paradigm in the lab testing market.

PROBABLY NO COMPANY has a higher profile in the clinical lab industry at the moment than Theranos of Palo Alto, California. The company has repeatedly told the national press that its technology will allow it to revolutionize lab testing by offering benefits that range from a more patient-friendly method of collecting specimens and shorter turn- around times to cheap lab test prices. However, just one year into its actual operation as a laboratory company providing clinical testing services to the public, the reality is that the company looks more like a conventional lab testing company than an innovative disrupter poised to transform a clinical service anchored in practices unchanged in decades.

New CLIA Lab in Scottsdale

The evidence supports that argument, particularly given the company’s activities in Arizona. Theranos has leased a 20,000 square foot facility in Scottsdale and is proceeding to build a laboratory there which will be CLIA-licensed. Newspaper accounts state that Theranos plans to hire 500 workers to staff that facility.

Currently, Theranos offers lab testing services in approximately 40 Walgreens pharmacies throughout the Phoenix metropolitan area. By contrast, in Palo Alto, where its CLIA-licensed lab facility is located, Theranos offers testing through only one Walgreens pharmacy in that city. (See TDRs, September 30, 2013 and August 11, 2014.)

Another piece of evidence supporting the development of a conventional lab operation is the fact that Theranos is building a lab sales force. Lab managers in Arizona tell THE DARK REPORT that Theranos is sending sales representatives into physicians’ offices to solicit lab test referrals. Because Theranos prices its lab tests at 50% of Medicare Part B clinical laboratory test fees, some physicians are referring their uninsured patients to the company for their lab tests, sources say.

If the comments from competing labs about how Theranos is conducting business in Phoenix are accurate, then at the present time the company is using the same business model that it said it intended to disrupt. It appears to be on the path to building a central regional laboratory that will test specimens coming in from its company-owned collection sites (such as Walgreens’ pharmacies) and any physicians’ offices that are collecting specimens and referring those tests to Theranos.

It also means that Theranos must invest in courier and logistics capabilities to transport specimens. It will need to invest in information technology to interface its laboratory information system to the hundreds of different EHR systems that referring physicians use. Each of these infrastructure items and operational costs at Theranos would give it a cost structure comparable to existing clinical lab operations. Yet, the company says it will price its tests at just 50¢ on the Medicare dollar for all patients.

Same Cost Structure

It is precisely this point that puzzles experienced clinical lab executives. How can any company, including Theranos, be profitable if it must sustain the same cost structure required for specimen collection, logistics, testing, information systems, billing/collections, and the like—and will only charge half of Medicare lab test fees?

Another question being asked is why Theranos is expanding in Arizona and not Northern California, where its corporate office and 400,000 square foot manufacturing facility is located. Experienced lab professionals believe the reason is that California is a state where medical labora- tory testing is under tight regulation by the California Department of Health.

Unlike California, Arizona has few state laws that are tougher than federal laws governing the operation of clinical laboratories. For example, California has laws governing the licensure of clinical laboratory scientists and phlebotomists. That is not the case in Arizona.

Having told its story of disruptive innovation to prominent media outlets over the past year, Theranos now faces the tough task of delivering on its claims. It appears that the company believes Arizona will be the best regional market to execute its business plan.

At the same time, those pathologists and clinical laboratory professionals closely watching Theranos continue to be puzzled about the nature of its diagnostic technology. With their deep knowledge of in vitro diagnostics, these professionals still wait for more detailed evidence from Theranos that its proprietary technology does live up to the company’s claims.

Is Theranos Learning Tough Lessons in AZ?

COMPETING LABS IN PHOENIX are keeping a close watch on Theranos. Because their sales reps go into the same physicians’ offices as the Theranos sales reps, they uncover much business intelligence.

By the nature of the stories that are circulating, Theranos executives may be getting some hard lessons in the rough-and-tumble market for clinical lab testing. It’s a reality far removed from the strategy sessions that probably have taken place in the company’s executive suites in the Silicon Valley.

Multiple sources told THE DARK REPORT that Theranos sales reps have been telling some physicians that their lab company is in-network for all insurance plans. In response, competing lab reps are taking letters from payers into those doctors’ offices to demonstrate how their laboratory is in-network and Theranos is not. Of course, this is a common sales tactic in the lab industry and not unique to the sales reps at Theranos.

At a minimum, however, this sales gossip indicates that executives at Theranos are undergoing their baptism by fire in what has always been a tough environment for selling lab testing services to office-based physicians. As outsiders just coming into the clinical lab industry, observers will be watching to see if they understand federal and state antikickback laws that deal with inducement.

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