Anatomic Path Insourcing Expected to Be Ongoing

Pathologists and lab executives surveyed affirm their belief that this trend will continue

CEO SUMMARY: Insourcing of anatomic pathology services by office-based physicians has been especially prevalent and is increasing among three specialties (gastroenterology, urology, and dermatology), according to a survey conducted last month. Survey respondents also indicated that the trend toward increased insourcing is so strong that it could spread to other specialty groups such as ob-gyns and oncologists. THE DARK REPORT and Blair & Company conducted the survey in October.

INSOURCING OF ANATOMIC PATHOLOGY by specialist physicians is a trend that is expected to increase during the next two years. That’s one finding of a recent survey conducted jointly by THE DARK REPORT and William Blair & Company, LLC, of Chicago, Illinois.

This is not auspicious news for the nation’s pathology laboratory companies. It also presents community hospital-based pathology group practices with a mixed market situation.

The findings of this national survey were published by William Blair & Co., in a report authored by Amanda Murphy, CFA, and Sylvia Chao, and released on October 18, 2011. Earlier that same month, hospital-based and independent pathology/laboratory professionals were invited to participate in this survey. There were 212 total respondents and 124 fully-completed responses.

The trend of establishing in-office anatomic pathology (AP) laboratories is particularly strong among gastroenterologists, urologists, and dermatologists. This is due, in part, to a high volume of tissue specimens generated by these medical practices, as well as the relative ease of processing these types of specimens.

Murphy and Chao believe the trend toward increased insourcing is strong enough that it could spread to other specialty groups. “Most recently, we heard that some ob-gyn and oncology groups have looked to insource some testing, although it has not yet become as prevalent in these specialties because of the high volume of specimens necessary to make Pap smears profitable and the complex nature of oncology testing,” they wrote.

In-Office Pathology Testing

“The overwhelming majority of survey respondents expect insourcing of anatomic pathology testing by office-based physicians to increase over the next two years,” the report said. (See figure 2 in sidebar below.) “This is the case across all three specialty areas: gastroenterology, urology, and dermatology.”

The survey results show that 77% of the 124 respondents expect the trend to increase next year and 73% expect it to increase in 2013. Of the 212 respondents to the survey, approximately 44% were independent laboratory organizations and 46% were hospital-based or hospital-associated laboratory organizations.

Murphy and Blair observed that, to benefit from AP testing-derived revenue, physician practices can build an in-house laboratory while still operating within the boundaries of the Stark self-referral law. The Stark law prevents physicians from referring healthcare services to providers or facilities in which the physician has a financial interest. An exception for in-office ancillary services allows physicians to offer such services as imaging, physical therapy, and medical lab testing in their own offices.

Leveraging Payment

Another approach for insourcing anatomic pathology testing services involves handling technical component (TC) and professional component (PC) in different ways. Physician practices can leverage payment structures whereby the physician group provides and bills for the professional component portion of the test (such as the slide reading) and has a laboratory perform the technical component, which is the actual cutting and staining of the tumor tissue.

One reason the trend of in-office anatomic pathology is expected to increase is that, across the nation, smaller physician practices are combining to form larger practices. The resulting larger groups are likely to develop their own in- office AP laboratories. Typically, a practice needs at least five or six physicians to justify the capital investment.

“Anecdotally, we are hearing about consolidation of smaller practices and a continued shift toward physicians actually building in-office laboratories (compared with just leveraging unique TC/PC payment models), particularly in dermatology,” observed Murphy and Chao.

Insourcing is considered a major business threat by most of the laboratory industry. More than 30% of the survey respondents said physician insourcing was the biggest risk their laboratory organization will face over the next three years. In fact, these 30% of respondents rated the risk of insourcing by physicians to be greater than the risk of reduced payment from lower Medicare reimbursement.

The insourcing trend is so prevalent that it is affecting the nation’s larger independent laboratory companies. While recent commentary from the two largest lab companies points to a moderation of insourcing in gastroenterology and urology, the survey results suggest insourcing is expected to continue in these medical specialty areas. It may be particularly strong in dermatology.

“The shift in AP test volumes to the physician office has weighed on independent lab volumes, particularly at Quest Diagnostics Incorporated and Laboratory Corporation of America,” wrote Murphy and Chao. “And recent commentary from the large labs suggests the rate of insourcing in gastroenterology and urology is beginning to slow, although most recently, there appears to be an increase in in-office laboratories within dermatology.

Labs See Decline in Volume

“Quest Diagnostics reported a 9% decline and LabCorp reported a 2% decline in anatomic pathology sales in 2010,” continued the authors. “Consequently, we expect insourcing by physicians to weigh on lab volumes for the near future—particularly at Quest Diagnostics, which has higher exposure to anatomic pathology (at 14% of revenue for Quest versus 6% of revenue for LabCorp).”

In 2007 Quest Diagnostics acquired AmeriPath, Inc., an anatomic pathology company that once held a substantial market share in dermatopathology. As a division of Quest Diagnostics, it now rep- resents 14% of the parent company’s revenue. Therefore, as the AP insourcing trend moves from gastroenterology and urology into dermatology, Murphy and Chao believe Quest Diagnostics could have a high portion of its existing AP revenue exposed to further insourcing.

“On its second-quarter earnings call, Quest indicated the company expects AP insourcing to continue to pressure volume through the remainder of the year,” noted the authors. “Last year, Quest Diagnostics reported a 9% decline in AmeriPath revenue.

“While LabCorp stopped providing AP volumes data in the first quarter of 2011,” they continued, “earlier quarterly data reports highlighted the negative impact that the shift in AP testing to the physician office has had on the company’s volumes, predominantly in 2009 and early 2010.

“But then this year, LabCorp reported year-over-year growth in histology in the second quarter and appeared cautiously optimistic that the worst of physician AP insourcing could be over,” added Murphy and Chao. (See figure 1 in sidebar below.) “At some point, we believe the insourcing trend reaches a bottom (meaning all physician practices that have the capital and desire to insource will do so).”

Another significant finding of the survey involves how government health programs and private payers are reacting to the AP insourcing trend. While Medicare officials have scrutinized physician-owned anatomic pathology laboratories, more than 50% of survey respondents said they have seen no change in private payer reaction to stop or slow insourcing of anatomic pathology testing by specialty medical groups.

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