CEO SUMMARY: Once again, public laboratory companies are pursuing short-term strategies that promise competitive advantage to themselves. But these strategies also carry long term risks that could burden the entire laboratory industry. Contradictions in the current cycle of competition for exclusive managed care contracts are already visible. Ongoing consolidation of payers is another wild card in this scenario.
SINCE THE MID-1980S, publicly traded laboratory companies have generally set the market for managed care contract pricing and terms.
As regularly noted in THE DARK REPORT over the years, single-minded pursuit of competitive advantage and profits by these public laboratory companies has often caused turmoil and disruption across the entire laboratory industry.
Thus, the current battles for exclusive managed care contracts by Laboratory Corporation of America and Quest Diagnostics Incorporated are nothing new to the laboratory industry. Recent contract awards of exclusive national provider status by UnitedHealth Group, Inc. in favor of LabCorp and Aetna, Inc.’s national deal with Quest Diagnostics are just the latest developments in a story that has been unfolding for more than 22 years.
The consistent theme over these two decades has been the willingness of many public laboratory companies to pursue market ploys that offer short-term competitive advantage, but also come with considerable long-term risks—risks that the entire laboratory industry has often been endured.
For example, following cuts in Medicare reimbursement for laboratory services in the late 1980s, public lab companies took the lead in creating and introducing “bundled” test panels to physicians. These laboratories used this scheme to unbundle tests within the panel and separately bill them to Medicare, thus generating more revenue to offset the reduced levels of reimbursement.
Within a few years, in 1992, federal healthcare prosecutors had successfully prosecuted National Health Laboratories (NHL) for this business practice. NHL’s CEO, Robert Draper, pled guilty to criminal charges and went to jail. NHL paid $112 million in restitution and fines. This case triggered a wave of federal action against laboratory companies, both public and private.
By 1997, when the dust cleared on what federal prosecutors had dubbed “Lab Scam,” laboratories had collectively paid more than $1 billion in restitution and fines. Further, the laboratory industry was saddled with federal rules requiring each laboratory to develop and maintain a compliance program.
Of course, most lab managers and pathologists with long memories remember how eager public lab companies were to sign HMO contracts in the 1990s that promised exclusive provider status. These lab companies accepted rock bottom capitated reimbursement, often accompanied by unlimited utilization risk, in order to gain exclusive provider status and lock out their competitors.
That business strategy proved to be such a financial disaster that, by 1996 and 1997, the public sector of the lab industry was at a financial crossroads and under- went major financial restructuring. The decline in closed panel HMO enrollment, which began in these years, was one factor in easing the pressure on the nation’s largest lab companies.
Apprehension At Local Labs
So there is an element of déjà vu in the recent actions of LabCorp and Quest Diagnostics to use exclusive managed care contracts as a tool to gain competitive advantage over their competition—both national and regional. It would not be an understatement to say that many lab managers and pathologists across the country are apprehensive about the future consequences that will result from the current infighting among the industry’s two billion-dollar behemoths. Their fear is that the intensified willingness to fight for exclusive national contract status will somehow turn out badly for their own laboratories.
At a minimum, the 10-year exclusive national pact between UnitedHealth and LabCorp has ushered in a new cycle of managed care contracting. Because of payer consolidation, it may have been inevitable that the status quo that Quest Diagnostics and LabCorp maintained over the past eight or more years was going to change. But, given the past his- tory of many public lab companies shooting themselves in the foot because of their desire to cede pricing and other terms to gain exclusive provider status—and competitive advantage—there is justification in speculating how current managed care contracting practices might adversely affect the entire lab industry.
The question about future consequences also highlights the dilemma now confronting Quest Diagnostics. The largest managed care contracts are now so big that losing contract access with a single large payer directly translates into a major loss of specimen volume, revenue, and market share.
The current situation with UnitedHealth’s national contract shows how payer consolidation has changed the managed care contracting game. UnitedHealth has 26 million beneficiaries and pays $2 billion annually for laboratory testing services. Both of the blood brothers need access to these patients to sustain their market share and support ongoing growth in specimens and revenue.
Now that Quest Diagnostics is excluded as a contract provider, of course it is willing to argue to individual physicians that “choice of laboratory provider” is their right and they should forcefully make this view known. As the letter reproduced in the sidebar on page 4 demonstrates, when it comes to the UnitedHealth contract, Quest Diagnostics is an advocate of open provider panels and allowing physicians to choose their lab provider.
But Quest Diagnostics is not willing to support that position with other managed care plans where it is the sole contract laboratory provider. The letter from Empire Blue Cross Blue Shield of New York, reproduced in the sidebar on page 5, reminds physicians that they must use Quest Diagnostics exclusively or face penalties.
The willingness of a national lab company such as Quest Diagnostics to argue, in a market like New York, for “open provider access” on one payer contract and to take active steps to enforce “exclusive provider status” on another payer contract is the contradiction that catches the attention of managers and pathologists in regional laboratories. It is the type of situation that causes them concern about how this corporate behavior might trigger negative consequences for the entire lab industry in coming years.