CEO SUMMARY: Among the three chief reasons for the merger of CellNetix and Puget Sound Institute of Pathology, the most compelling was the need to address the challenges in the current reimbursement environment and to prepare for reductions in payment to pathologists expected in the coming years under the Patient Access to Medicare Act. CellNetix and PSIP also are seeking broader geographic reach and, like all pathology groups, need to invest in new technology.
FORWARD-LOOKING PATHOLOGISTS expect that reimbursement for anatomic pathology professional and histology services will continue to decline in coming years. The only question is how fast and by how much will these revenue reductions occur.
Recognizing the inevitability of less revenue for anatomic pathology, some pathologists are deciding that the best business and clinical strategy for financial survival is to act now—ahead of the coming reimbursement cutbacks—and merge together into ever-larger regional pathology supergroups. This strategy accomplishes several goals.
One, the larger specimen volume helps to lower the average cost-per-test. It also allows the pathology group to offer a bigger menu of in-house tests. This makes it easier for the pathology group to main- tain margins as fees for technical and professional component services are cut back by Medicare and private payers.
Two, the larger case volume enables the regional pathology group to offer a wider mix of pathology subspecialty services. This helps the group bring in new hospital clients and expand the number of office- based physician accounts that it serves.
Three, the lower costs, greater subspecialty expertise, and expanded market share of regional pathology supergroups helps these groups obtain a greater number of managed care contracts on more favorable terms. This has the added benefit of preserving access to more patients because the regional pathology group remains an in-network provider for a much greater number of health insurance plans.
Gaining Strength in Numbers
These three business goals are among the reasons why two large anatomic pathology groups in the Seattle metropolitan area recently entered into a non-binding letter of intent to merge. CellNetix Pathology & Laboratories, LLC, and the Puget Sound Institute of Pathology, PLLC (PSIP) are completing their pre-merger due diligence and expect to close the deal in this quarter.
The merger would form one of the largest pathologist-owned private anatomic pathology groups in the United States, the companies said. Financial terms were not disclosed.
In an interview with THE DARK REPORT, PSIP CEO Stewart Adelman identified three primary reasons for the merger and each one involves positioning the combined companies for the future. Those reasons are the need to invest in new technology while cutting costs, broader geographic reach, and preparing to deal with the expected reductions in payment for pathology services as a result of PAMA.
“The reimbursement environment already is challenging,” Adelman said. “But when we looked at what to expect in the coming year as a result of PAMA, any further decline in payment will be that much more challenging.
Need to reduce Costs
“We’re trying to determine what will happen to reimbursement when CMS goes to market-based pricing under PAMA,” he continued. “PSIP needs to retool the instrumentation in both its histology and molecular labs and—to finance that—we must reduce our costs. In addition, we will face lower payment when CMS introduces its new reimbursement scheme under PAMA in just 12 months, on January 1, 2018.
“I’m worried about having to compete with the pricing offered by Quest Diagnostics Incorporated and Laboratory Corporation of America because the weighted-average calculation that CMS is prepared to conduct excludes the private payer test price data from most hospitals,” observed Adelman. “That means bias is built into the calculations and this bias will result in a downward shift in pricing for most labs and pathology groups. The competitive challenge for labs like us is that Quest Diagnostics and LabCorp have lower costs and so can better survive the coming fee cuts to Medicare lab test prices.”
Logic, History Were Factors In PSIP, CellNetix Merger
WHEN PATHOLOGISTS AND ADMINISTRATORS at CellNetix Pathology & Laboratories, LLC, and the Puget Sound Institute of Pathology PLLC (PSIP) considered the advantages of a merger, there were many obvious reasons to pursue the idea.
For one, each of the pathology groups has a core lab in Seattle and they are within three miles of each other. For another, the CellNetix core lab runs recent technology while some of the equipment in the core lab at PSIP is older and requires much more hands-on technical expertise, said Stewart Adelman, PSIP’s CEO.
A significant leadership change at CellNetix last year opened the door to the idea, added Adelman. “That change made it possible for the two companies to start talking about the market here in Washington and what each lab company has for strengths and weaknesses in that market,” he said.
In addition, Adelman and CellNetix CEO Kathleen Fondren have known each other for 30 years and each one started in the lab business as a med tech. “We both worked at Northwest Hospital in 1986,” Adelman said. “I was the night shift supervisor of one at the first outreach clinical labs in the country and she was the supervisor on the afternoon shift. Knowing each other certainly helped to get the conversation started between our two pathology groups.”
The need to be service- and cost-competitive was the first reason for PSIP and CellNetix to explore a merger. “The analysis at both our pathology groups was that it is better—if not essential—to be bigger,” he continued. If a pathology laboratory information system can cost as much or more than $1 million, then how does a group of 23 pathologists (as we have here, including seven pathologists who are also partners at PSIP) handle that kind of expense?
“The costs of running a lab with the needed, state-of-the-art instruments and informatics are too high for smaller pathology practices,” noted Adelman. “The pathologists at PSIP understood this basic economic fact. It was a key factor in their decision to explore merging with a larger pathology group in our region.”
Unified, Larger Group
CellNetix CEO Kathleen Fondren agreed. “Merging CellNetix and PSIP benefits all the pathologists because the unified, larger group delivers lower costs, improved subspecialist coverage, and an expanded menu of complex molecular and genetic tests,” she said. “In turn, this makes the merged group more competitive in ways that physicians, patients, and payers value. By bringing together two of the largest pathology groups in the Pacific Northwest, we are supporting the ongoing integration of clinical care and the delivery of personalized medicine.
“In addition, we will integrate our laboratories, IT systems and testing menus, which will allow us to further reduce our cost per test,” she added. “Merging the two lab companies allows us to leverage our size to achieve efficiencies in operations. The laboratory industry has traditionally been very competitive in this region. Thus, ultimately, the merger positions us better for the future.”
When combined, the two groups will have 67 pathologists, said Adelman. “But most pathology practices are smaller than either CellNetix or PSIP. If the average path group has fewer than six pathologists, I don’t know how they’ll survive into the future with the investment that’s required. Another factor that no one talks about but that also drives up a pathology group’s cost of doing business is new regulations. Compliance constantly costs us more money from one year to the next!
“To survive going forward, our opinion is that smaller groups have only two options,” he explained. “One option is to merge into bigger pathology practices and consolidate their laboratories. The other option is for their pathologists to become employees of the hospitals and health systems that their groups are contracted to serve.
“The second significant reason for the merger is that it will give our combined group broader coverage geographically and that gives us strategic advantage,” noted Adelman. “Right now, each organization provides pathology services to a major health organization. But there is a downside to this situation.
“If the contract with either health system went south, it could put each pathology company into serious financial jeopardy,” he noted. “It would require major changes in how we do business.
“Our pathologists work in the hospitals because we believe pathologists need to be part of the healthcare team to support the surgeons, oncologists, and other physicians ordering lab tests,” stated Adelman. “We pick up the specimens and process them overnight. Then we return the slides in the morning or in the afternoon, depending on when they get to us.
“But the problem with this model is that serving one large health system can be a danger for a pathology group, as we learned a few years ago,” recalled Adelman. “At that time, CHI Franciscan Health put out an RFP for lab work. The final decision came down to PSIP or CellNetix. At that point, if PSIP had lost that contract, it would have reduced its volume by about 75%. Looking into that potential financial abyss was a wake-up call for us.
Meeting Technology’s Cost
“In addition to CHI Franciscan Health, we also serve Evergreen Health,” Adelman said. “CellNetix has a number of smaller health systems and it has the combined Providence Health & Services and Swedish Health Services, which is a much bigger organization than CHI Franciscan.
“The third reason for the merger is the need to invest in technology,” Adelman explained. “In the past few years, CellNetix invested heavily in advanced technology systems, including end-to-end bar coding and automated processing systems within its laboratory and organization.
“Here at PSIP, we need to retool our technology, and that would include a new LIS,” he said. “For new technology, we felt that an investment today of several million dollars might not make sense given the current reimbursement environment and what we can expect in reimbursement in the coming years as a result of the PAMA implementation.
“An equally significant factor for PSIP is that our core lab performs tests on instruments that are up to 30 years old,” noted Adelman. “To change this situation would require a substantial capital investment. Meanwhile, the CellNetix core lab has much newer technology that our pathologists and patients can immediately access.
positioning for Success
“From a capital investment perspective, this is one more reason why a merger between PSIP and CellNetix makes sense, given that they have excess capacity and together we have a larger footprint,” said Adelman. “Not only are we better positioned to make the changes we need to make, but we can gain efficiencies.”
In conclusion, Adelman explained that the pathology business has long been one that requires continuous strategic thinking. “These are challenging times,” he said. “But there are always challenging times in laboratory medicine. And I say that as someone who has been in this business for almost 40 years now. Every day, you have to be able to adapt to the changing environment. With each change, you just have to fight through it.”
Contact Stewart Adelman at 206-812-1365 or sadelman@PSIP.com; Kathleen Fondren at 206-576-6736 or firstname.lastname@example.org.
Three Reasons Triggered Merger Talks in Seattle
SHOULD THE PROPOSED MERGER between two Seattle-based pathology groups take place, it will be one more example of how consolidation continues to reshape the anatomic pathology profession.
One of the oldest pathology groups in Washington State, Puget Sound Institute of Pathology (PSIP) has provided pathology services for more than 50 years in the Pacific Northwest. Its 17 community-based pathologists in 11 hospitals and health systems in Washington handle 70,000 surgical cases and more than 50,000 PAP and HPV cases annually.
CellNetix has 50 community-based pathologists in hospitals and clinics, mostly in Washington. It also has pathologists in hospitals in Alaska, Idaho, and Oregon. Its pathologists process more than 130,000 surgical cases and more than 150,000 PAP smears annually. The lab company also has small local labs in Everett, Olympia, Spokane, Wash., and in Palmer, Alaska. Like PSIP, its core lab is in Seattle.
The two pathology groups cite three primary reasons why a merger is a smart financial and clinical move:
One: The need to invest in new diagnostic technology in the technical laboratory while using increased specimen volume to cut costs.
Two: The need to provide physicians, hospitals/health systems, and health insurers with broader geographic reach that includes expanded patient access to sophisticated anatomic pathology services.
Three: The need to position the regional pathology supergroup to deal with the expected reductions in payment for pathology services as a result of PAMA, as well as to be ready to deal with how pathology professional reimbursement will change because of implementation of MACRA, with its new MIPS and APM physician-payment systems.