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New lab consolidations: competing on a cost basis.

The Past decade has witnessed profound changes in the reimbursement and viability of all clinical laboratories. The industry entered the 1980s during a period of technological breakthroughs that permitted a wider range of testing and services. Rapid growth in testing occurred in a regulatory and reimbursement climate that enabled most labs to grow and prosper with little regard to cost.

The laboratory back then was a revenue center that in most hospitals generated more charges than any other ancillary service. New instrumentation and personnel flowed readily to the department that generated all that income.

The environment began changing dramatically in 1984, when the hospital laboratory became a cost center with the shift to DRG-based prospective payment. Managing costs immediately became more important and

the generation of charges less of an issue. Two years later, Medicare imposed an outpatient fee schedule as part of the Deficit Reduction Act of 1986, limiting what hospitals would be paid for outpatient services.

Since then, other insurance carriers have adopted variations of the Medicare fee schedule to limit how much they will pay for laboratory services. Health maintenance organizations and other prepaid health plans put lab services out to bid through capitation programs or discounted fee-for-service arrange-

ments, resulting in payment levels that are less than half what Medicare allows. Some health plans insist that physicians use a single or select group of labs. All of these trends exert downward pressure on laboratory reimbursement.

Other factors have compounded the decline in per-test revenue: Declining workloads and rising labor costs outweighed efforts to reduce expenses in many lab

and unit test costs rose as a result.

There are several reasons for the slide in test volume. Most hospitals have experienced lower inpatient activity, and their laboratories have had difficulty competing effectively for much of the testing that moved to the outpatient setting. Furthermore, the technological developments that enabled hospitals to provide a broader range of services did not stop at hospitals. The latest technology has now appeared in doctors' offices and clinics, shifting an even greater proportion of the test volume out of hospital and independent laboratories.

So lower revenue per test, less test volume, and rising labor costs due to a growing scarcity of skilled technical personnel have created a more difficult climate. In fact, if you were to ask laboratory directors the question that is now put to voters in Presidential campaigns, "Are you better off today than you were four years ago?" the overwhelming majority would probably say " No. I I

The future does not appear to be any brighter. Although several new testing segments have developed-such as industrial drug screening and human immunodeficiency virus (HIV) testing-we enter the 1990s with the realization that this country is not eager to spend more money on health care. Both corporate and Government action will try to reduce costs by encouraging initiatives that further adjust utilization and payment levels for health services. The clinical testing industry is particularly vulnerable to such efforts for two key reasons:

1. There is considerable debate within the medical community as

to whether the current scope and volume of testing is necessary. Some insurance carriers, most notably the Blue Cross and Blue Shield Association, believe that as much as 20 to 50 per cent of all testing is not required.

2. Most laboratories have more instrumentation and staffing than is needed to meet current service demand, particularly on the second and third shifts. Excess capacity and corresponding low

marginal costs have led many laboratories to discount test prices aggressively to certain providers and carriers.

Many insurers believe lower pricing can be had by all, not just Medicare. In fact, many prepaid plans already receive laboratory testing for better prices than Medicare does. The prospect of declining test volume due to utilization constraints and lower reimbursement levels for the remaining tests could be the death blow for many laboratories.

Optimists argue that legislation pending in Congress would eliminate much of the discounted pricing and other special arrange-

ments created to benefit physicians financially. Key proposals would curb physician self-referrals and mandate direct patient billing by reference laboratories across the nation.

Some states already prohibit physicians' offices from billing patients for tests performed elsewhere; the reference lab must bill patients directly. This does away with the physician middleman and his or her markup for send-outs. Other states have adopted a truth-in-billing approach: Physicians are permitted to bill for outside lab work but must indicate where the testing was performed.

Efforts to regulate these practices have primarily been confined to Medicare. This has resulted in a hybrid system of pricing and office testing-one pricing and billing arrangement for Medicare patients and another for other patients-to circumvent state and local regulations.

The Federal direct billing legislation will face strong opposition from the American Medical Association. And even if it is adopted, elimination of the middleman in test pricing will not stop insurers from continuing to put work out to bid and channeling insured patients to certain laboratories. Prepaid health plans and preferred provider organizations account for a growing amount of the revenue erosion at many laboratories.

So, despite plans to eliminate some of the more bizarre arrangements that affect the fees and actual test requests laboratories receive, labs will still meet strong resistance if they try to raise prices to cover escalating costs.

What does all this mean for the laboratory of the 1990s? We are in

a mature market with excess capacity, and the next decade will be characterized by trends to consolidate operations and achieve economies. Despite more reliable and economical technology, the laboratory industry remains a fixed-cost business that requires significant test volume to be cost-effective.

True, the capital barriers to entry have dropped, and the test volume at which labs can achieve meaningful economies of scale are considerably lower than a decade ago. The performance capabilities of instrumentation have increased at the lower price levels, and most labs can afford a laboratory information system, which makes their services more competitive. Nevertheless, for most of the smaller independent laboratories and a majority of the hospital-based labs, efficient utilization of assets deployed to serve existing markets remains an elusive goal.

In the 1990s, we will see more laboratories sharing their production and overhead resources to compete with other labs on a cost basis. They will pool services, form partnerships, or merge. Sharing laboratory information systems, higher-speed chemistry analyzers, and esoteric testing capabilities will permit disparate lab organizations-such as three small hospitals or a larger hospital and a nearby independent laboratory-to perform cost-effective testing and provide the service amenities of a larger facility.

The idea is to become efficient through full-capacity utilization. For example, a hospital laboratory that buys a $500,000 information system and processes 500

specimens a day could probably process 1,500 on the same base of fixed cost.

The difficulty of attracting and retaining qualified laboratorians will only accelerate the trend toward consolidation.

In addition to optimizing assets used to perform testing, consolidated laboratories will try harder to expand business from their primary markets, particularly as more testing moves from the hos-

pital to the outpatient setting. Once laboratories integrate operations through sharing of staff and production resources, adding volume to the base business is the only remaining way to cut cost per test.

The regional testing market will become increasingly competitive as institutional providers attempt to capture more work from their local markets. At the same time, larger independent labs will become stronger locally through further acquisitions of regional laboratories.

Outpatient laboratory testing is the one diagnostic service in which big corporations have

played a major role; other diagnostic services have traditionally been hospital-based. With the amount of money available for health care probably decreasing, hospitals will fight for marginal outpatient testing dollars that they were relatively indifferent to 10 years ago,

The laboratory industry has matured, with only a few niche markets promising growth potential. These are not huge markets, and not every laboratory can exploit them. However, technological advances in certain areas-drug testing, DNA probes, and genetic testing-have created opportunities for laboratories to provide more relevant diagnostic information.

Although economic considerations will play a larger role in determining a laboratory's success, it will still be important to provide quality service. Physicians will face their own difficulties in the 1990s, and in referring tests to a laboratory they will look beyond price for personal attention, the effective presentation of diagnostic data, and reliable and consistent service.

Despite the prospects of reduced resources and increased competition, the next decade offers exciting opportunities for the motivated laboratorian. Efforts to find more effective ways of reducing costs and improving service will place a premium on initiative and innovation.

We have probably relied too much on technology to make our product more cost-effective. The future will challenge our management and organizational skills as we seek to provide better service for the same or less money.
COPYRIGHT 1989 Nelson Publishing
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1989 Gale, Cengage Learning. All rights reserved.

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Title Annotation:medical laboratories
Author:Hirsch, P. Thomas
Publication:Medical Laboratory Observer
Date:Jul 1, 1989
Previous Article:Who will staff the laboratory of the '90s?
Next Article:Automation: trends in instrumentation, robotics, computers.

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