Well-Funded Buyers Put Hospital Labs in Bull’s-Eye

Two new lab management companies want to do deals with hospitals and health systems

CEO SUMMARY: In less than 12 months, two big private equity firms have each launched a lab company with the goal of acquiring and/or managing the clinical labs of hospitals and health systems. In the case of aLabs, it has signed one laboratory management services contract with Aurora and Advocate health systems and another similar contract with Sharp HealthCare. Regional Diagnostic Laboratories says it expects to complete two or three hospital lab outreach acquisitions this year.

IN THE PAST 12 MONTHS, two companies, each with very deep pockets, have been formed specifically to acquire and/or manage the clinical laboratories of hospitals and health systems.

It marks a significant new development in the hospital laboratory marketplace. Economic conditions in healthcare are changing such that Wall Street investors believe there is a major opportunity to make money by running the labs of hospitals better than the hospitals run their labs themselves.

First out of the gate was a company named aLabs. It was created by Accretive LLC, of New York, New York, which is a private equity firm. In its short life, aLabs has signed two major contracts. The first contract is with Aurora Health Care (Milwaukee, Wisconsin) and Advocate Health Care (Chicago, Illinois) to provide “significant management services” to ACL Laboratories, which is the combined inpatient/outreach laboratory organization jointly owned by Aurora and Advocate.

aLabs’ second agreement is with Sharp HealthCare of San Diego, California. It is believed that each of the respective lab services contracts between aLabs and these health systems took effect on January 1, 2012.

It didn’t take long before Accretive and aLabs had a competitor in this newly- created niche market. On May 1, 2012, Warburg Pincus, another private equity firm based in New York City, announced the formation of Regional Diagnostic Laboratories, Inc. (RDX), based in Brentwood, Tennessee.

Regional Diagnostic Laboratories can be expected to have credibility with hospital and health system administrators. Some of that credibility will come from the fact that it has a credit line of up to $250 million to use in acquiring hospital laboratory outreach programs.

As reported in this issue of THE DARK REPORT, the CEO of RDX expects to complete between two and three acquisitions of hospital laboratory outreach programs before the end of the year.

This is an important element in the RDX story. It is not likely that Warburg Pincus would have committed the funds necessary to create the company and hire executives without a high degree of confidence that it would have at least one or two sizeable hospital lab outreach acquisitions completed in coming months.

Further, the creation of these two new laboratory management companies within a short period of time provides evidence that more than a few hospital and health system administrators are willing to consider changing how they own and manage their clinical laboratories.

For lab administrators and hospital-based pathology groups, these developments are not likely to be welcome. It represents one more external factor that complicates how they manage their laboratory organizations in service of their parent hospital and health systems.

Unwelcome Developments

For example, business development executives from aLabs and RDX will be approaching hospital and health system administrators to express their interest in acquiring and/or managing the clinical laboratory. After such business meetings, lab managers must often defend the operational and financial performance of their labs to their hospital administrators.

Hospital lab administrators and pathologists should keep in mind, however, that it is tough times for their parent institutions. The American healthcare system is moving forward with several important reforms. Because hospitals are such important clinical service centers in their respective communities, they must respond to these reforms and that takes capital.

Hospitals Need Capital

In fact, this need for capital is one major reason RDX expects that it can succeed in a strategy of purchasing the laboratory out-reach programs of hospitals. RDX executives point out that hospitals require large amounts of capital to acquire physicians’ practices, to establish Accountable Care Organizations (ACO), and to implement electronic health record (EHR) systems. Thus, the sale of the laboratory outreach program can provide the selling hospital with substantial amounts of capital.

For its part, aLabs seems to be pitching efficiency and reduced lab costs, achieved by allowing it to manage the laboratory services, develop more outreach business, and handle laboratory billing and collections. This is equally appealing to hospital administrators, since they are seeing overall reimbursement decline and need to actively manage costs in response to lower revenue.

The arrival of aLabs and Regional Diagnostic Laboratories may also create headaches for another group of labs. Now the lab marketplace has added credible competitors who have the resources to bid for any clinical lab organizations that come up for sale. The nation’s biggest buyers of lab companies, including Quest Diagnostics Incorporated, Laboratory Corporation of America, and Sonic Healthcare, Ltd., will have to fend off these new bidders whenever desirable clinical lab organizations come to market.

The passage of time will tell whether aLabs and RDX have the right combination of business strategy and management acumen to succeed. In the meantime, they demonstrate that the lab testing marketplace is still evolving and changing.

 

 

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