CEO SUMMARY: After two years of relatively slow sales of clinical labs, there is pent up demand for lab acquisitions and a declining supply of independent labs available for sale. That’s the assessment of one expert on laboratory mergers and acquisitions, who predicts that the accelerating pace of clinical lab and anatomic pathology practice acquisitions seen in the second half of 2009 is likely to carry on well into 2010. Professional investors continue to look for opportunities to buy into the laboratory testing market.
DESPITE THE MOST SEVERE ECONOMIC RECESSION in almost 30 years, 2009 turned out to be an active year for laboratory mergers and acquisitions (M&A). There was a steady parade of laboratory acquisitions announced throughout 2009.
“This strong M&A activity in the second half of 2009 represented a marked change from the first half of 2009 and the second half of 2008,” observed Chris Jahnle. “By the end of 2008, laboratory M&A was in the doldrums, due to the economic recession. Many sellers and buyers were on the sidelines waiting to see what would happen with the economy.”
Jahnle is Managing Director of Haverford Healthcare Advisors, in Paoli, Pennsylvania. Jahnle has 25 years of experience in the valuation of clinical laboratories and pathology group practices, along with extensive experience in labora- tory mergers and acquisitions (M&A).
“For a long period of time—because of the recession—many active sellers took their labs off the market, giving lab buyers fewer choices,” said Jahnle. “This factor contributed to the slower pace of laboratory mergers & acquisitions during late 2008 and early 2009, compared to late 2009. Despite the high interest of lab sellers and lab buyers, during 2008, both sides were waiting out the recession. The slow pace of lab acquisitions continued through the summer of 2009.
“By count of actual lab M&A transactions announced since mid-2009, activity began to accelerate and has carried over into the start of 2010,” stated Jahnle. “This is due to two factors.
“One factor is the brightening economic picture,” he explained. “After two years of recession, key signs during 2009 indicated that the economy was in the early stages of recovery. For sellers, that pointed to stronger prices for their laboratory. For buyers, increased access to capital and improvement in the valuation of publicly traded laboratory companies fueled higher proposed valuations which, in turn, triggered more completed transactions.
Lab Acquisition Activity
“The second factor is that some laboratory acquisition deals that had commenced perhaps 18 to 24 months ago were finally completed,” added Jahnle. “Watching these deals close in mid-2009 encouraged other lab sellers to put their companies up for sale.
“The resulting increase in the number of laboratories offered for sale during the last half of 2009 gave impatient buyers the opportunity to bid for some high-quality clinical labs and pathology group practices,” he noted. “That pent up demand for labs is what fueled the number of M&A deals that closed during 2009 and even made the first weeks of 2010 busy with acquisition announcements.
“Another difference about the laboratory M&A market during 2009 is that new buyers crowded in to bid against the two national laboratories,” stated Jahnle. “Of the 24 lab acquisitions identified by Haverford Healthcare Advisors during 2009 and into early 2010, only four were purchased by Laboratory Corporation of America and Quest Diagnostics Incorporated.
New Buyers Bid For Labs
The two national labs regularly find themselves bidding against other strong buyers,” he continued. “For example, such well-capitalized companies as Sonic Healthcare, Ltd., and Bio-Reference Laboratories, Inc., can bid for almost any laboratory company that is available for acquisition.
“Private equity firms are also motivated buyers and are often willing to outbid the nation’s biggest lab companies,” noted Jahnle. “In fact, 2009 ended with Welsh, Carson, Anderson, and Stowe acquiring Spectrum Laboratory Network of Greensboro, North Carolina. Within weeks of that sale, Welsh Carson then negotiated a deal with Carilion Clinic to merge Carilion Labs of Roanoke, Virginia, with Spectrum Lab Network.
“It should be noted that the combination of Spectrum Lab Network and Carilion Labs creates one of the biggest clinical laboratory companies in the United States,” he added. “This shows how private equity companies can reshape the clinical labora- tory marketplace. It is likely that Welsh Carson will pursue other laboratory acquisitions as a way to expand its business.” Jahnle had interesting observations about the growing activity in the anatomic pathology sector of the laboratory testing industry. “Wall Street investors believe there is a bright future for anatomic pathology,” stated Jahnle. “They understand how the demographics of aging will drive up the incidence of cancer.
Promising Future For Labs
“They also recognize how genetic and molecular technologies are giving pathologists valuable new tools to diagnose dis- ease and guide therapeutic decisions,” he commented. “Together, both trends point to a robust and profitable future for laboratory testing. Professional investors want to buy a place in this market so they can profit from the ever-growing demand for anatomic pathology services.”
“However, until 2009, most of the merger and acquisition activity in the anatomic pathology sector involved specialty pathology companies organized to compete nationally for case referrals,” he observed. “Thus, it is notable that 2009 saw several transactions where larger, regional pathology group practices sold all or some of their business to private equity investors.
“This was true in January 2009 when UniPath, LLC, of Denver, Colorado, sold certain assets to American Pathology Partners (APP) of Brentwood, Tennessee,” said Jahnle. “Late in 2009, two other regional pathology powerhouse groups sold interests in their company to private equity investors.
“Pathology, Inc., of Torrance, California (with 17 pathologists), sold ownership to a group that included ABS Capital and ORIX Venture Finance LLC, in September 2009,” he noted. “In January 2010, PathGroup, Inc., (with 50 pathologists) of Brentwood, Tennessee sold a minority interest to Primus Capital Funds and Brentwood Capital Partners LP. Including the senior debt that was part of the transaction, PathGroup generated $100 million from this transaction.
“Another sector of the laboratory testing market that saw increased action during 2009 involved hospital and health system-owned laboratory testing programs,” continued Jahnle. “In at least five separate transactions, a hospital or health system sold the outreach laboratory testing business it had owned and operated, in some cases, for several decades.
“I think this is a significant development,” he noted. “It shows that hospitals and health systems are beginning to recognize that a successful laboratory outreach program can not only generate worth- while operating margins, but can deliver significant capital value.
“For example, by selling Centrex Clinical Laboratories to LabCorp, Faxton-St. Luke’s Healthcare received several tens of millions of dollars,” explained Jahnle. “The health system CEO told the press that all the proceeds of the Centrex sale would be invested and go untouched so as to increase the health system’s capital reserves.
Expect More Lab M&A
“Assuming that the economy continues to grow out of the recession, it is reasonable to expect that a steady flow of laboratory acquisitions will take place,” declared Jahnle. “The fundamentals are in place to support an increased level of M&A activity throughout 2010.”
Clinical laboratory and anatomic pathology lab mergers and acquisitions will be the subject of a special extended session at the Executive War College on Laboratory and Pathology Management, scheduled for April 27-28, 2010, at the Sheraton Hotel in New Orleans. At this session, Chris Jahnle will review completed acquisitions during 2009 and 2010, along with an assessment of laboratory valuations, deal terms, and important factors in the M&A market.
Lab owners and lab buyers interested in current developments in the laboratory M&A market should plan to participate in this popular, third annual “state of the lab M&A market” program.