CEO Summary: In the second installment of our exclusive two- part interview, the executive directors of two regional laboratory networks formed in the 1990s (one in Michigan and one in Washington State) share their assessment of why their respective lab networks have performed strongly over the past two decades. They also identify the reasons why it is more challenging for anatomic pathology groups to form regional networks. The executive directors discussed how hospital administrators often lack a true understanding of the powerful economics of laboratory out-reach programs and why it is essential to educate these administrators about those benefits.
Second of Two Parts
INTRODUCTION TO INTERVIEW: Since their founding in the 1990s, two regional laboratory networks have had sustained success. Each regional lab network has grown to become a major player in its respective service area.
Joint Venture Hospital Laboratories (JVHL) was founded in 1992 in Detroit, Michigan. Today it has 128 hospital labs in a network that covers all of Michigan and parts of Ohio and Indiana. It has 23 managed care agreements covering 2.8 million members for outpatient and physician office laboratory services.
PACLAB Network Laboratories became operational in 1996. It is based in Seattle, Washington. Today it has 13 hospital members.
To identify the reasons behind the success of these two networks, THE DARK REPORT interviewed their executive directors: Jack Shaw of JVHL and Stu Adelman of PACLAB. Last summer, Adelman resigned from PACLAB to take an executive position at Puget Sound Institute of Pathology.
Part one of this interview was published by THE DARK REPORT in its January 30, 2012, issue. In part two of this interview, Shaw and Adelman each speak further about the factors that contributed to the success of their respective regional laboratory networks.
They also address an interesting phenomenon that occurred in parallel between Detroit and Seattle. In both metro areas, the anatomic pathology groups based in the hospitals and health systems that were members of the JVHL and PACLAB networks neither joined these networks nor formed their own anatomic pathology networks to piggyback on the activities of their region’s existing clinical laboratory network.
Shaw and Adelman next describe the challenges of having to educate incoming administrators at the hospitals and health systems which are members of these two networks about the powerful economics that result from a professional laboratory outreach program. Shaw and Adelman both agree that it is essential that administrators fully understand how a laboratory outreach program can advance clinical care and generate substantial revenue to the member hospitals. —Editor
EDITOR: For nearly two decades, JVHL and PACLAB have been successful at increasing specimen volume and revenue from clinical laboratory testing services in ways that have clear benefit to the networks’ member hospitals and health systems. So why is it that the anatomic pathology component of these member institutions never organized themselves into networks in Detroit and Seattle? It would seem to make sense to have a common sales and marketing effort that offered office-based physicians both clinical lab testing and anatomic pathology services.
ADELMAN: That’s a good question and let me discuss what unfolded in Seattle concerning the pathology groups in that region. In its second or third year, PACLAB helped the pathology groups at the member hospitals come together and create a limited liability corporation (LLC). The strategy was that the LLC could contract for anatomic pathology if this option became available as future opportunities presented themselves.
EDITOR: What was the outcome to this effort?
ADELMAN: Unfortunately, after forming the LLC, no contracts came up. Another year or two later, the LLC dis- banded, mostly because pathology groups across Seattle began to compete more aggressively against each other.
EDITOR: Did that come about because of the consolidation of several pathology groups in the area?
ADELMAN: In part yes. That was one factor that changed the long-standing “gentleman’s agreement” about the territory around each hospital. It was understood that the pathology group at each hospital basically “owned” that local outreach business. It was as if there were invisible barriers around each group’s territory.
EDITOR: Would you say that, when it comes to anatomic pathology, local groups are much more competitive against each other today than, say, back in 2000?
ADELMAN: Most definitely. In Seattle, there were some pathology groups that never stepped across those barriers. But now—after a decade of increased competitiveness—those barriers have dropped in the past three or four years.
EDITOR: Your point is that it is competition among pathology groups across Seattle which has been one reason why they could not come together and work collaboratively with PACLAB in some sort of regional sales or business development arrangement, correct?
ADELMAN: Certainly that is a factor. It is interesting to listen to them. They are great pathologists who know the pathology part of their operations very well and they are confident that they know how to run a business. But no single leader emerged who could foster the trust and collaboration needed that would bring their different groups together in their own network or collaboration with PACLAB. That’s how it’s turned out in Seattle.
SHAW: We have some of those same dynamics in Detroit, but with important differences. Until recent years, in our market, the pathologists working within each of the JVHL member hospitals and health systems could make a very comfortable living just by being affiliated with a health system.
EDITOR: Has there been any structural shifts in anatomic pathology in Detroit during these past two decades?
SHAW: There has been one big shift. In the 1990s, the market for pathology services generally saw pathologists employed by hospitals. Today, most pathologists in Detroit have incorporated their own professional corporations and then contracted with their hospitals to provide anatomic pathology (AP) services.
EDITOR: Does the “gentleman’s agreement” about not competing in another AP group’s neighborhood exist in Detroit?
SHAW: Recall that Stu said, in Seattle, there was not much crossover by pathology groups in that region. Each pathology group affiliated with one hospital and each one stayed in its own little cocoon. That has largely been the case in Detroit, at least until recent years.
EDITOR: What changed?
SHAW: Competition for anatomic pathology specimens in Detroit is intensifying. We now see independent dermatopathology groups and national pathology companies, such as Aurora Diagnostics, marketing in our metro area. Until recently, there had not been much pressure from physician in-office histology labs in this market—even though Michigan’s largest urology practice has an in-office pathology laboratory. There was a day when the Michigan market was not fertile ground for national pathology groups. That is changing at a swift pace.
EDITOR: It seems that competition for anatomic pathology specimens is intensifying in Detroit, just as it has in Seattle. What is the history at JVHL in trying to collaborate or incorporate anatomic pathology testing within its managed care contracting program?
SHAW: In 2000, JVHL acquired its first statewide lab services contract—after tough negotiations with the managed care plan to rip it away from the national lab company that held it. This statewide contract covered both outpatient and outreach services. It also included professional pathology services at the plan’s insistence. With that contract and with one other that followed shortly afterward, we had to find a way to persuade the pathology groups to participate in the JVHL network model. That proved to be a very difficult process.
“In its second or third year, PACLAB helped the pathology groups at the member hospitals come together and create a limited liability corporation (LLC).”
EDITOR: Why were the pathologists so resistant to these contracts, assuming that it would help them market their services to office-based physicians and win new clients that refer more volume of AP specimens?
SHAW: The major hurdle was that— although the hospitals were willing to take discounts in order to get the contract and the opportunity to win more business—the pathology groups absolutely would not accept discounts to service beneficiaries covered by these managed care contracts. Over the past two decades, they rarely embraced the opportunity to gain market share. In fact, several pathology groups were against having to perform the additional outreach work.
EDITOR: Please explain how you handled these developments.
SHAW: It became a real economic challenge for those two contracts. In order to meet the reimbursement requirements, JVHL had to take capitation risk for the professional pathology services. But because the pathologists were almost universally unwilling to take a discount on reimbursement, their affiliated hospitals ended up taking a loss on many anatomic pathology claims. Fortunately, the hospitals saw the long term benefit of the contracts and continued to work with JVHL. That helped give us control over this situation and we eventually addressed it through increases in the capitated rate.
EDITOR: What was the final resolution to this situation?
SHAW: To better balance the economics and manage this situation required much effort to work with the pathologists to collaborate with JVHL and their affiliated hospitals. As many as 40 different pathology groups were involved in these discussions. Strategically, after we acquired that second contract in 2002, JVHL refused to include professional pathology services in any future contracts. JVHL has also worked to remove these services from the existing two contracts. Finally, in 2011, we were able to remove the professional pathology services from one of the two contracts.
EDITOR: Am I correct in suspecting that pathologists were unhappy to see any aspect of professional pathology services discounted as part of a managed care contract?
SHAW: Almost universally, that is true. Very few of the pathology groups recognized the positive market share opportunity that came with these managed care contracts, in exchange for dis- counting fees. Although it opened the door for them to develop more client relationships with office-based physicians in their service area, it was rarely seen as an even trade.
EDITOR: It doesn’t sound like the pathology groups in Detroit were willing to develop a professional sales and marketing program to expand their group’s share of the market in their target service area.
SHAW: That turned out to be true. Coincidently, JVLH found, as PACLAB did, Stu, that the pathologists tend to think they are good business people, but with a few notable exceptions they seemed satisfied with the volume of work that the hospitals brought to them.
EDITOR: The two of you have identified common themes in Seattle and Detroit in regards to a reluctance by anatomic pathology groups to collaborate in some form of regional network. In both markets, the pathologists sought to protect their in-patient professional services work and their outpatient professional business. Perhaps the experiences in Detroit and Seattle demonstrate that it is difficult for pathology groups within a community to band together and contract for outreach services because— when they do—payers recognize that it may open the door for them to seek discounts in inpatient fees as well.
SHAW: That is a reasonable conclusion. However, there is another element to consider as well. In Michigan, the commercial labs will bill globally for outreach services—including anatomic pathology. But when JVHL started to service these managed care contracts with national payers in 1997, we explained that the hospital would bill for the technical component (TC) and the professional component (PC) bills would come from the professional pathology groups. At that point, the heath plan administrators looked surprised, and they said, “We never had that with Quest Diagnostics Incorporated or Laboratory Corporation of America; from them we get a global bill.” The health plans thought separating the TC and PC added a degree of difficulty and they did not want to deal with this added complexity and additional paperwork.
ADELMAN: This is another useful insight. Many community hospital-based pathology groups use the technical laboratory of the hospital. So having the TC billed by the hospital and the PC billed by the pathology group is quite common in Seattle. Here is where the “one stop shop” approach of the national lab companies is considered to be an advantage by the national health insurance companies.
EDITOR: It was fascinating to hear each of you explain why JVHL and PACLAB—successful in many ways— were each unable to engage local pathologists in collaborative ways. Now it is time to switch the conversation. Can we conclude with each of you offering three points about what value you believe your networks delivered to your member hospital labs and their parent organizations?
“For JVHL, first, it delivered additional revenue by creating an organization that competed successfully with commercial lab companies.”
SHAW: That certainly cuts to the essential point. For JVHL, first, it delivered additional revenue by creating an organization that competed successfully with commercial lab companies. One way JVHL achieved this is that it welcomed all hospitals—even if they didn’t always recognize that value.
EDITOR: What is your next point?
SHAW: Second, JVHL gave its member hospitals a way to support their fixed costs in the laboratory that would not have existed without JVHL. We continue to deal with many hospitals where administrators do not understand that we deliver that value. They don’t consider the additional tests brought in to their institution though JVHL contracts as an incremental activity. They should really view these specimens based on their marginal or incremental cost, instead of carrying a fully allocated cost burden.
EDITOR: Your third point?
SHAW: Third is the value of information transferred and stored within JVHL by its member hospitals. There is substantial value inherent in the information. It is comprised of the millions of lab test results on millions of patients, stretching back for many years. As healthcare advances toward the information age, JVHL is now starting to deliver data—not just to health plans, which we have done for a long time—but also to physicians and to physician organizations. These providers are using this data for pay-for-performance programs or for value-based reimbursement.
EDITOR: Does JVHL give a community hospital capabilities in this regard that it would not have on its own?
SHAW: Most definitely! The transfer of lab test data I just described would, in many cases, require additional cost and resources that hospitals often don’t have for this type of program. And, because JVHL collects results and other data from all its member hospitals, its cumulative value is even greater. In addition, JVHL is embarking on a program to improve the economics and logistics of connecting hospitals to multiple physician EMRs. We hope this will provide substantial value to our hospitals in the data arena.
EDITOR: Please explain.
SHAW: As EMRs becoming increasingly common in physician offices, we hear from our hospitals—especially small or mid-sized facilities—that the financial and support costs may become too burdensome to compete effectively in the outreach market. We need to address that on behalf of our network hospitals and for the network as a whole.
EDITOR: Stu, what are your three points about PACLAB’s value?
ADELMAN: Jack, my thoughts are similar. First, PACLAB provides enhanced revenue back to the hospitals and that revenue has been very substantial. If the hospitals had to develop these systems on their own in support of their own laboratory outreach programs, they would never have generated that revenue.
EDITOR: What is the second point?
ADELMAN: PACLAB helps hospitals achieve a much-reduced unit cost for laboratory tests compared with that of an individual stand-alone hospital.
EDITOR: Is this based on some “before PACLAB” and “after PACLAB” examples?
ADELMAN: It is. In fact, that data is compelling. PACLAB worked with several hospitals that had laboratory joint venture or lab management agreements with a national laboratory immediately before they became PACLAB members. When the unit-cost-per-test was compared 18 months after they joined PACLAB, in most cases the hospitals had a 50% reduction in unit costs! That is tremendous because it translates to the inpatient side of lab testing as well.
EDITOR: What is your third point?
ADELMAN: Point three is a great illustration of the value PACLAB delivers as a regional laboratory network. About three or four years ago, PACLAB conducted a meeting with the chief information officers (CIO) of each of our hospitals. The CIOs said their physicians were asking for EMR connections between the hospital labs and the physicians’ offices. But at the time, they had no money, no funds budgeted for such a program, and they had no idea how to do EMR connections. But PACLAB already had several hundred connections with physicians’ EMRs and so we were able to step in and show them how to get it done quickly and easily. That’s three examples of how PACLAB delivers value to the hospitals: increased revenue, lower unit costs, and the ability to provide physician EMR connectivity when they didn’t have a clue about how to begin that project.
EDITOR: There’s one more point we need to address before we conclude and that’s the market power that results from having a regional laboratory network. This is an organized, unified presence from a number of hospitals working together in one market. Put simply, it’s strength in numbers, isn’t it?
SHAW: Yes, I believe that’s correct. People have observed that JVHL’s regional laboratory network model is interesting because we have hospitals working together and yet they are often in fierce competition with each other. In this one clinical service area, JVHL’s founding members have come together and stayed together for almost 20 years because of the ongoing value JVHL delivers. To be honest, the organization has not been without tensions because some of the hospital administrators believe they could do what we do without the network framework.
ADELMAN: Jack, I couldn’t agree more. The one challenge PACLAB always had was the need to constantly make presentations to the new players who were hired at each of the hospitals. It was necessary to explain to each one why PACLAB was important to them and why they had to be an active member. It is essential to regularly remind the hospital administrators of all the benefits they get from participating in a regional laboratory network.
SHAW: That sounds familiar because I regularly do the same thing here in Michigan with any new hospital administrator. I always say that JVHL is like a chain in that it is only as strong as its weakest link. In other words, JVHL is only as good as all its members who are willing to participate. Each laboratory needs to understand the importance of participating.
EDITOR: It appears you both consider it important to educate new hospital administrators about the value of the regional laboratory network.
SHAW: That’s true. New CFOs ask similar questions. “Why am I taking this work at a discount?” they ask. “Why am I giving away 80% of my charges?” The difference between outpatient and non- patient/outreach work is still a mystery to many finance people. As you said, Stu, it requires constant education and reeducation because hospital leaders change regularly.
ADELMAN: Yes, they do, and hospitals change administrators much more frequently than you would think. In addition, there’s the new wrinkle of accountable care organizations (ACO) being formed. Just in the past six months PACLAB saw hospitals that had been arch competitors for years now in negotiations about an affiliation. It will be very interesting to see how these partnerships develop and what they will mean for the future of PACLAB.
EDITOR: Jack and Stu, thank you for sharing your thoughts about the history and success of your regional laboratory networks. At a time when healthcare is moving toward new models of integrated clinical care, it would be smart for hospital laboratory leaders in many cities to revisit the benefits and value of organizing their own regional laboratory networks.