Quest, LabCorp forge divergent paths to hospital lab deals

Quest Diagnostics and Laboratory Corporation of America Holdings are waging a battle worth watching for market share in the diagnostic laboratory industry.

And in recent years, both companies have made significant gains by partnering with hospitals. But while Quest has concentrated on acquiring health system labs, LabCorp has focused on acquisitions that broaden its offerings and shore up its diagnostic services.

Experts say the two companies are on distinct paths that will shape the future of the health industry giants. Quest’s strategy aims to grow its core business, while LabCorp’s efforts to steer the Burlington, N.C.-based company toward a future beyond clinical labs.

Over the past two years, Madison, N.J.-based Quest has reached agreements with seven health systems. Some of those deals cover outreach businesses that perform services for customers seeking to fill a lab order from their personal physician or another provider at a different hospital.

“The strategy and future of Quest … is to be a significant partner with the hospital and health system,” said Dr. Jon Cohen, senior vice president and group executive of Quest’s diagnostic solutions businesses. “We are trying to move away from a vendor relationship.”

When Quest manages a hospital’s lab, it moves 20% to 30% of tests to its own facilities, which can trim as much as 20% of a hospital’s lab costs, Cohen said.

Shortly after being appointed Quest’s CEO in 2012, Steve Rusckowski said the company needed to refocus on core diagnostic information services.

“At that time, Quest’s management had the foresight to recognize that reimbursement pressures on lab testing would soon trickle down to hospital labs,” Cohen said. “They also recognized that Quest’s scale and expertise would afford the opportunity to provide comparable services for much less cost under these changing dynamics.”

Quest’s hospital deals tend to be diverse and complex, said David Nichols, president of Nichols Management Group, a diagnostic lab consultancy. Quest’s focus on acquiring outreach businesses, rather than hospitals’ full-lab operations, is likely because many hospitals don’t want to relinquish control of their inpatient lab operations, despite the cost and utilization challenges.

Still, a limited number of health systems outsource those services to companies like Quest.

Quest moved its clinical trials into a joint venture with Quintiles last year, while LabCorp has invested heavily in clinical trials and drug development with its $5.7 billion pickup of Covance and other specialty businesses. LabCorp declined to comment on this story.

LabCorp recorded acquisitions of $128.6 million last year alone, and has spent about $5.8 billion in cash and $1.8 billion in equity on acquisitions since 2010, most of which can be attributed to Covance.

LabCorp is more disciplined than Quest in its evaluation of potential merger and acquisition targets, said Brian Tanquilut, a stock analyst covering healthcare services at Jefferies & Co. But the companies have distinctly different strategies. LabCorp has a broad perspective on deal sourcing, whereas Quest believes that volume growth can be driven by going after the hospital opportunities, Tanquilut said.

Health system labs are ripe for the picking, as many see a steady flow of referrals and volume following consolidation. But Nichols cautioned providers against rushing to sell their lab outreach businesses—the sales would generate quick cash, but test costs within the system would go up significantly, since the in-house lab would still require the same equipment and staffing levels, despite lower volume. Labs have relatively high fixed costs and low variable costs, so they’re difficult to downsize, he said.

Nevertheless, Quest’s and LabCorp’s efforts to take control of hospital labs should send system leaders a clear message: Bolster your lab service lines and make them efficient and competitive, or divest them and exit the business.

“Get in or get out of the lab services business,” Nichols said. “We don’t see straddling as a good strategy in a market that is increasingly competitive with declining reimbursement.”