MDS Sells Calgary Lab, May Spin Off Other Labs

Plus, facts about the “rest of the story” concerning MDS’U.S. lab testing business

CEO SUMMARY: Nine months after it declared that it would exit the laboratory testing business in Canada by selling its laboratories, MDS, Inc. has finally closed its first sale. Calgary Health Region, already a 50% owner of Calgary Laboratory Services, has purchased the 25% interest owned by MDS. However, the laboratory business divisions in British Columbia and Ontario have yet to be sold.

SALE OF ITS 25% INTEREST in Calgary Laboratory Services was announced last month by MDS Diagnostic Services of Toronto, Ontario.

Terms of the deal were announced on April 4, 2006, the day after the sale became effective. As expected, the purchaser was Calgary Health Region, which already held a 50% interest in Calgary Laboratory Services. The remaining 25% interest is owned by Dynacare Kasper Medical Laboratories, based in Edmonton, Alberta. This is a laboratory business unit of Laboratory Corporation of America.

MDS Diagnostic Services was paid US$19.0 million for its interest. During 2005, MDS booked revenue of US$62.3 million and net income of US$1.3 million from its share of the Calgary Laboratory Services joint venture.

MDS Inc., parent of MDS Diagnostic Services, had announced in September 2005 that it planned to exit the laboratory testing business. This was significant news, since laboratory testing was the company’s central business at its founding 30 years ago. Further, in fiscal 2005, its diagnostic business still represented 22% of the company’s consolidated revenues and 29% of its adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization).

More Labs Yet To Be Sold

This leaves unsold two major laboratory business units and some smaller joint ventures. In British Columbia, MDS Metro Laboratory Services is one of the province’s two largest independent laboratories. Its main lab facility is in Burnaby and a smaller lab is located in Victoria. The other major laboratory division is Toronto Medical Laboratories (TML), a joint venture partnership between MDS and University Health Network (Toronto General Hospital, Toronto Western Hospital, and Princess Margaret Hospital). TML also includes two community hospitals and four specialty hospitals.

Also in Ontario are other MDS laboratory ventures. Integrated Health Laboratory Services is a partnership between MDS and hospitals in the Windsor area. The company also partners with hospitals in the Niagara region, as well as several other organizations in Ontario.

MDS executives are determined to finalize sale or disposition of all the remaining laboratory assets by the end of 2006. If it cannot find buyers on satisfactory terms, it may spin its remaining laboratory business off as a separate company, issuing stock to existing MDS shareholders. In a public filing, MDS said, “We expect to find an alternative ownership structure for our diagnostics business and to complete our exit from this business by the end of the calendar year. We are considering a number of alternatives, ranging from an outright sale to a tax-efficient distribution to shareholders.”

It’s Tough Finding Buyers

This is a notable statement. As THE DARK REPORT has pointed out in earlier intelligence briefings on this subject, the fact that MDS is now into its ninth month of divestiture activity says that buyer interest in these laboratory businesses is minimal—at least based on a purchase price that MDS considers acceptable. Thus the statement of a “tax efficient distribution to shareholders.” (See TDR, February 27, 2006.)

MDS may need to spin off at least some of its lab assets to its shareholders. Certainly the two blood brothers from the United States, and even Sonic Healthcare, Ltd. from Australia, would be considered likely buyers for the laboratory businesses. But over nine months, no deal has been announced, which is a sign of either their unwillingness to pay the price requested by MDS or just a general lack of interest in the Canadian lab testing marketplace.

It may be that MDS is having a difficult time finding buyers for its Canadian labs because of the ongoing reimbursement squeeze. Potential buyers recognize that provincial health plans cannot afford to reimburse lab testing at historic rates.

MDS Laboratory Testing Foray Into USA Came Up a Cropper

IN 2004 AND 2005, MDS, Inc. sold its four laboratory divisions in the United States. These were located in Poughkeepsie, New York; Atlanta, Georgia; Memphis, Tennessee; and Ft. Lauderdale, Florida. Some of these were joint ventures with hospital organizations.

Cumulatively, the U.S. laboratories of MDS were a money-losing operation. In 2003 and 2004, revenue from its U.S. laboratory business was US$107 million and US$112 million, respectively. But losses were significant. MDS acknowledged that the combined losses for the U.S. labs and its generic radiopharmaceutical business in Europe totaled US$9.6 million in 2003 and US$13.6 million in 2004.

In March 15, 2004, Laboratory Corporation of America acquired the MDS laboratory interests in Poughkeepsie and in Atlanta in an asset purchase transaction. MDS says it incurred a loss of US$8 million in the sale of the two labs, but in the year following the sale, it realized US$1.6 million in contingent payments. MDS also disclosed that, during first quarter 2004, the two labs had operating losses of US$2.4 million on revenues of US$5.6 million.

Next to be sold was MDS’ equity interest in Memphis Pathology Laboratories, Inc., which was purchased on September 24, 2004 by American Esoteric Laboratories, Inc. for US$20.4 million. MDS says it booked a US$7.2 million gain on this sale.

The final lab sale came in 2005, when HCA purchased MDS’s 50% equity share in Integrated Regional Laboratory (IRL), the joint venture laboratory located in Ft. Lauderdale. The price paid by HCA is estimated to be around US$9 million.

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