[Federal Register Volume 68, Number 39 (Thursday, February 27, 2003)]
[Notices]
[Pages 9082-9085]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-4609]


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FEDERAL TRADE COMMISSION

[File No. 021 0140]


Quest Diagnostics Incorporated, et al.; Analysis To Aid Public 
Comment

AGENCY: Federal Trade Commission.

ACTION: Proposed Consent Agreement.

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SUMMARY: The consent agreement in this matter settles alleged 
violations of federal law prohibiting unfair or deceptive acts or 
practices or unfair methods of competition. The attached Analysis to 
Aid Public Comment describes both the allegations in the draft 
complaint that accompanies the consent agreement and the terms of the 
consent order--embodied in the consent agreement--that would settle 
these allegations.

DATES: Comments must be received on or before March 24, 2003.

ADDRESSES: Comments filed in paper form should be directed to: FTC/
Office of the Secretary, Room 159-H, 600 Pennsylvania Avenue, NW., 
Washington, DC 20580. Comments filed in electronic form should be 
directed to: [email protected], as prescribed below.

FOR FURTHER INFORMATION CONTACT: Michael Cowie or Jackie Mendel, FTC, 
Bureau of Competition, 600 Pennsylvania Avenue, NW., Washington, DC 
20580, (202) 326-2214 or 326-2603.

SUPPLEMENTARY INFORMATION: Pursuant to Section 6(f) of the Federal 
Trade Commission Act, 38 Stat. 721, 15 U.S.C. 46(f), and Section 2.34 
of the Commission's Rules of Practice, 16 CFR 2.34, notice is hereby 
given that the above-captioned consent agreement containing a consent 
order to cease and desist, having been filed with and accepted, subject 
to final approval, by the Commission, has been placed on the public 
record for a period of thirty (30) days. The following Analysis to Aid 
Public Comment describes the terms of the consent agreement, and the 
allegations in the complaint. An electronic copy of the full text of 
the consent agreement package can be obtained from the FTC Home Page 
(for February 21, 2003), on the World Wide Web, at http://www.ftc.gov/os/2003/02/index.htm. A paper copy can be obtained from the FTC Public 
Reference Room, Room 130-H, 600 Pennsylvania Avenue, NW., Washington, 
DC 20580, either in person or by calling (202) 326-2222.
    Public comments are invited, and may be filed with the Commission 
in either paper or electronic form. Comments filed in paper form should 
be directed to: FTC/Office of the Secretary, Room 159-H, 600 
Pennsylvania Avenue, NW., Washington, DC 20580. If a comment contains 
nonpublic information, it must be filed in paper form, and the first 
page of the document must be clearly labeled ``confidential.'' Comments 
that do not contain any nonpublic information may instead be filed in 
electronic form (in ASCII format, WordPerfect, or Microsoft Word) as 
part of or as an attachment to email messages directed to the following 
email box: [email protected]. Such comments will be considered 
by the Commission and will be available for inspection and copying at 
its principal office in accordance with Section 4.9(b)(6)(ii) of the 
Commission's Rules of Practice, 16 CFR 4.9(b)(6)(ii)).

Analysis of Agreement Containing Consent Orders To Aid Public Comment

    The Federal Trade Commission (``Commission'') has accepted, subject 
to final approval, an Agreement Containing Consent Order (``Consent 
Agreement'') from Quest Diagnostics Incorporated (``Quest'') and Unilab 
Corporation (``Unilab'') (collectively ``Respondents''). The Consent 
Agreement is designed to remedy the anticompetitive effects resulting 
from Quest's proposed acquisition of Unilab. The Consent Agreement 
includes a proposed Decision and Order (the ``Order''), which would 
require the Respondents to divest to Laboratory Corporation of America 
(``LabCorp'') assets used to provide clinical laboratory testing 
services to physician groups in Northern California.
    The Consent Agreement has been placed on the public record for 
thirty (30) days for receipt of comments by interested persons. 
Comments received during this period will become part of the public 
record. After thirty (30) days, the Commission will again review the 
Consent Agreement and the comments received, and will decide whether it 
should withdraw from the proposed Consent Agreement or make it final.
    Pursuant to an Agreement and Plan of Merger dated April 2, 2002 
(``Merger Agreement''), Quest proposes to acquire all of the issued and 
outstanding voting securities of Unilab in exchange for cash, stock of 
Quest, or a combination of cash and stock of Quest. The value of the 
transaction was approximately $877 million at the time the Merger 
Agreement was announced. On January 4, 2003, Quest and Unilab agreed to 
amend the Merger Agreement to extend the termination date and to reduce 
the purchase price for the overall transaction by approximately $60 
million. The Commission's complaint alleges that the proposed 
acquisition, if consummated, would violate Section 7 of the Clayton 
Act, as amended, 15 U.S.C. 18, and Section 5 of the Federal Trade 
Commission Act, as amended, 15 U.S.C. 45, in the market for providing 
clinical laboratory testing services to physician groups in Northern 
California.

The Merging Parties

    Headquartered in Teterboro, New Jersey, Quest is the largest 
supplier of clinical laboratory testing services in the United States, 
with a nationwide network of 30 full-service laboratories located in 
major metropolitan areas throughout the United States, approximately 
100 smaller ``stat,'' or rapid response, laboratories, and 
approximately 1,350 patient service centers (``PSCs''). Quest had sales 
of approximately $4.1 billion in 2002. Quest's operations in Northern 
California consist of a full-service testing laboratory located in 
Dublin, California, 5 stat labs, and approximately 76 PSCs.
    Unilab, headquartered in Tarzana, California, is the largest 
supplier of clinical laboratory testing services in California. Unilab 
had sales of approximately $390 million in 2001. It operates 3 full-
service laboratories, located in Los Angeles, San Jose, and Sacramento; 
39 stat laboratories; and approximately 386 PSCs. About 23 of the stat 
labs and 230 of the PSCs are located in Northern California.

The Clinical Laboratory Testing Services Market

    Clinical laboratory testing services (``Laboratory Services'') are 
a critical element in the delivery of quality health care in the United 
States. Clinical laboratory tests are used to detect and analyze the 
presence, concentrations or composition of chemical, biological or 
cellular components in human body fluids and tissue in order to help 
physicians diagnose, monitor, and treat their patients' health 
conditions. They include thousands of individual test procedures in the 
areas of hematology, blood chemistry, urine chemistry, endocrinology, 
and microbiology, among others. Examples of commonly ordered tests 
include red and white blood cell counts, blood chemistry panels, 
urinalyses, microbiology cultures, HIV screening tests, and

[[Page 9083]]

pregnancy tests. Most of these high-volume, ``routine'' tests are 
performed by automated equipment and the results are generally reported 
electronically to the physician within a 24-hour period. Other tests, 
including most immunological and genetic tests, are performed less 
frequently and require more sophisticated and specialized knowledge or 
equipment. Two examples of such ``esoteric'' tests are 
immunoelectrophoresis (used for the diagnosis of autoimmune disorders 
and myelomas) and polymerase chain reaction tests for hepatitis C.
    Delivery of health care in California is distinguished by high 
penetration by managed health care. Under the managed care model 
prevalent in the state, health plans often delegate the financial risk 
for providing primary, specialty, and ancillary medical services to 
physician groups, such as independent practice associations and medical 
groups, under a capitated arrangement, pursuant to which the physician 
group receives a prospective payment to care for the enrollees of the 
health plan. That is, rather than receive payments for each service 
provided by the physician group, the physician group receives a per 
member per month (``PMPM'') payment designed to cover the expected 
costs of care by the physicians. The physicians then bear the risk of 
whether the capitation payments will cover the actual costs of care--
including, in many cases, the cost of providing Laboratory Services.
    Physician groups in Northern California that assume the financial 
risk for Laboratory Services under this California delegated model 
constitute a significant category of purchasers of Laboratory Services. 
Generally, these physician groups pursue exclusive or semi-exclusive 
contracts with laboratories to purchase such services, most often under 
a capitated arrangement in which the physician group pays a set amount 
(PMPM) to the laboratory to perform Laboratory Services for the 
physician group's patients who are affiliated with pre-paid health 
plans.
    In general, three types of providers may perform clinical 
laboratory testing: independent clinical laboratories, such as Quest 
and Unilab; hospital-affiliated laboratories; and physician office 
laboratories. While individual physicians can perform a limited number 
of relatively simple diagnostic tests in their own offices, this 
testing is not a substitute for the clinical testing performed in a 
laboratory. Physician groups require that a clinical laboratory offer, 
among other things, a comprehensive menu of routine and esoteric tests; 
stat testing capabilities; and an extensive field collection and 
distribution system that includes conveniently located patient service 
centers and courier networks.
    Hospital laboratories that supply physician groups in Northern 
California are treated as market participants in the proposed 
complaint. Most acute-care hospitals maintain on-site laboratories to 
provide quick-response testing for patients in the hospital. In 
addition, many hospital laboratories have established outreach programs 
to obtain additional business by providing outpatient Laboratory 
Services to physicians in the communities surrounding the hospitals. In 
some instances, hospital laboratory outreach programs in Northern 
California supply Laboratory Services under capitated arrangements to 
physician groups. Hospital laboratories have been most successful when 
competing to supply physician groups that are affiliated with the 
hospital and whose physicians are located in medical buildings on or 
near the hospital campus.
    The proposed complaint alleges that the relevant market does not 
include physician office laboratories. Some medical groups operate 
laboratories that perform many stat and routine tests exclusively for 
doctors in the medical group. Physician groups do not view these 
physician office laboratories as viable substitute suppliers of 
Laboratory Services, because these laboratories do not offer the array 
of tests, capabilities, and services that are offered by independent 
clinical laboratories, including convenient patient access through 
PSCs. Furthermore, physician groups that do not have their own clinical 
laboratories are unlikely to develop such capabilities, even in the 
event of a significant increase in the price of Laboratory Services.
    The draft complaint alleges that the relevant section of the 
country (i.e., the geographic market) within which to analyze the 
effects of the proposed acquisition is Northern California. The 
relevant geographic market is local in nature because physician groups 
prefer to have specimens collected at PSCs located where they are 
convenient and accessible to all plan enrollees. Physicians also 
require prompt reporting of routine test results, generally within 24 
hours. In addition, physicians require even more rapid reporting of 
results for stat testing, generally within a few hours. For these 
reasons, a clinical laboratory must have stat testing facilities and 
PSCs proximate to the physicians' offices. Physician groups in 
California have service areas that vary from a single town to multiple 
counties; however, none has a service area that spans both northern and 
southern California.
    Quest and Unilab are the two leading providers of Laboratory 
Services to physician groups in Northern California, based on the total 
patient lives covered under physician group capitated contracts. If the 
proposed merger were to be consummated, Quest would have a market share 
of more than 70 percent. Quest's next largest competitor in the 
relevant market is a hospital laboratory that would have a market share 
of about 4 percent. The proposed acquisition would increase 
concentration in the relevant market by more than 1,500 points to a 
Herfindahl-Hirschman Index level above 5,300.
    Quest and Unilab compete vigorously against each other for 
contracts to supply Laboratory Services to physician groups, and this 
competition has benefitted customers in Northern California. Many 
physician groups in Northern California regard Quest and Unilab to be 
the closest competitors bidding for their Laboratory Services business 
in terms of both price and service offerings. The proposed acquisition 
would thus allow the combined firm to exercise market power 
unilaterally by eliminating competition between the two largest, and 
frequently lowest-cost, providers of Laboratory Services to physician 
groups in Northern California. As a result, the proposed acquisition 
would increase the likelihood that physician groups in Northern 
California would be forced to pay higher prices for Laboratory 
Services.
    Substantial and effective expansion by smaller competitors, as well 
as new entry, sufficient to deter or counteract the anticompetitive 
effects of the proposed acquisition in the market for providing 
Laboratory Services to physician groups in Northern California, is 
unlikely. Expansion by hospital laboratories or small independent 
clinical laboratories located in Northern California is unlikely to be 
sufficient to avert the anticompetitive effects from the merger. In 
general, large regional and national independent clinical laboratory 
companies like Unilab and Quest enjoy significant cost advantages over 
hospital laboratories and small independent clinical laboratories. As a 
result, the large independent laboratories are able more effectively to 
compete for and service price-sensitive customers such as physician 
groups seeking services under capitated arrangements.
    It is also unlikely that new independent clinical laboratories will 
enter the relevant market. There are

[[Page 9084]]

significant costs associated with establishing the staffed PSCs, 
courier routes, and sales force and other infrastructure necessary to 
serve the needs of a physician group. New entry is unlikely to occur 
because a new entrant would have significantly higher incremental costs 
of serving a particular physician group than an independent clinical 
laboratory that has an existing infrastructure in or near the area 
served by the physician group. Also, it is difficult to recoup the 
required incremental investments through a single physician group 
contract without charging higher than current rates, and opportunities 
to bid on multiple physician group contracts in the same area do not 
occur frequently. Thus, bidding at current rates in the hopes of 
winning future business would be risky for a new entrant.
    The risk for an entrant would be further increased because ``pull-
through'' business is an important determinant of the profitability of 
capitated contracts. Physician groups that participate in capitated 
plans for some of their customers also frequently participate in fee-
for-service plans for other customers. Under fee-for-service plans, 
physicians are paid for each procedure. When Laboratory Services are 
needed for a patient with a fee-for-service plan, the health plan pays 
the laboratory directly but the physician chooses which laboratory 
covered by the plan will be used. The Laboratory Services provider for 
the capitated business of a physician group frequently has a 
significant advantage in winning a substantial amount of the ``pull-
through'' fee-for-service business of the group, because physicians are 
familiar with the laboratory and it is easier to deal with one 
laboratory for all patients. Laboratory Services providers take into 
account the potential for pull-through business when determining their 
bids for capitated contracts. A new entrant to an area would not have a 
reputation or relationships with the physicians in the group and thus 
may have difficulty achieving similar pull-through rates as incumbent 
firms. As a result, because a new entrant would be cost-disadvantaged 
in competing against independent clinical labs that already have an 
existing infrastructure, it would be unlikely to secure capitated 
contracts with physician groups at pre-merger price levels.

The Proposed Order

    The proposed Order effectively remedies the Commission's 
competitive concerns about the proposed acquisition by requiring the 
companies to divest Laboratory Services assets in Northern California 
to LabCorp, including 46 PSCs; 5 stat laboratories; all of Quest's, and 
one of Unilab's, capitated contracts with physician groups; and all 
related assets necessary for the provision of Laboratory Services to 
physician groups, including customer lists and information. With these 
assets and LabCorp's experience as a provider of Laboratory Services in 
Southern California and elsewhere in the United States, LabCorp will be 
able to replicate Quest's operations, thus replacing the competition 
that would be lost as a result of the proposed acquisition. The 
Commission required that the Respondents make all of Quest's Northern 
California outpatient Laboratory Services business available to 
prospective buyers but has approved LabCorp's proposed acquisition of a 
smaller package of assets because LabCorp will be able to replicate the 
competition that Quest represents today with the smaller package of 
assets. As a result, after the divestiture, competition in the market 
for providing Laboratory Services to physician groups in Northern 
California will remain virtually unchanged by the proposed acquisition. 
Furthermore, the proposed Order includes measures designed to help 
ensure an effective transition of the divested assets to LabCorp.
    LabCorp is a well-positioned acquirer of the divested assets for 
several reasons. As the second largest provider of Laboratory Services 
in the United States, LabCorp offers an extensive range of more than 
4,000 routine and esoteric clinical tests, as well as other services 
that physician groups require, such as patient encounter data and test 
result reporting information technology. LabCorp currently provides 
Laboratory Services throughout most areas of the country, but has a 
limited presence in Northern California, where its business consists 
primarily of providing clinical reference testing to hospitals and 
esoteric HIV-related testing. Due to its operations in Southern 
California, however, LabCorp has substantial experience satisfying the 
requirements of physician groups in California's managed care 
environment. Furthermore, LabCorp has the financial resources to 
purchase the assets and operate the business in a competitive manner.
    Pursuant to the proposed Order, Quest is required to consummate its 
transaction with LabCorp within ten days of the date that Quest and 
Unilab consummate the Merger Agreement (``Acquisition Date'') and to 
complete the transfer of the assets to LabCorp within six months of the 
Acquisition Date. If Quest fails to comply with either of these 
obligations, the Commission may appoint a trustee to divest Quest's 
outpatient Laboratory Services business in Northern California or its 
entire Laboratory Services business in Northern California. In the 
event that Quest transfers some of the assets to LabCorp, but LabCorp 
abandons its efforts to complete the transfer of the remaining assets 
and the interim monitor so notifies the Commission, the Commission may 
require Quest to rescind the transaction with LabCorp and order Quest 
to divest its Northern California outpatient Laboratory Services 
business to a Commission-approved acquirer within six months. Should 
Quest fail to do so, the Commission may appoint a trustee to divest 
either Quest's outpatient Laboratory Services business in Northern 
California or its entire Laboratory Services business in Northern 
California. The purpose of these provisions is to assure the 
Commission's ability to secure an acceptable buyer--able to maintain 
and restore competition in the relevant market--in the event that 
LabCorp does not acquire the divested assets. The provisions require 
divestiture of a more extensive package of assets consisting of either 
Quest's outpatient Laboratory Services business or its entire 
Laboratory Services business in Northern California because a 
prospective buyer other than LabCorp may require additional assets to 
fully restore competition in the relevant market.
    The proposed Order contains several provisions designed to ensure 
that the divestiture is successful. The proposed Order requires Quest 
to maintain the viability, marketability, and competitiveness of its 
Laboratory Services business assets in Northern California pending 
transfer of the divested assets. It also requires Quest to provide 
transitional services that the acquirer of the divested assets may need 
until the assets are completely divested and transferred. The proposed 
Order also prohibits Quest from interfering with the employment of any 
employees relating to the divested assets by the acquirer and requires 
Quest to provide incentives to certain employees to continue in their 
positions until the divestiture and to accept employment with the 
acquirer. For a period of one year following the date that the transfer 
of the divested assets is accomplished, Quest is prohibited from 
soliciting any employees of Quest or Unilab that accept offers of 
employment from the acquirer of the divested assets. Additionally, the 
proposed Order

[[Page 9085]]

requires Quest to take steps to maintain the confidentiality of certain 
confidential information relating to the divested assets.
    Pursuant to the terms of the proposed Order, the Commission has 
approved the appointment of Bruce K. Farley as an interim monitor 
trustee to ensure that Quest expeditiously transfers the divested 
assets and complies with its obligations under the proposed Order. Mr. 
Farley has over 13 years of experience in the Laboratory Services 
industry. In addition, he has significant experience supervising the 
integration of business operations subsequent to mergers and 
acquisitions.
    Finally, in order to ensure that the Commission remains informed 
about the status of Quest's clinical laboratory testing business in 
Northern California pending divestiture, and about efforts being made 
to accomplish the transfer of the divested assets, the proposed Order 
requires Quest to report to the Commission within 30 days, and every 30 
days thereafter until the divestiture is fully accomplished. In 
addition, Quest is required to report to the Commission every six 
months regarding its confidentiality obligations, as well as its 
obligations regarding non-solicitation of employees of the acquirer of 
the divested assets.
    The purpose of this analysis is to facilitate public comment on the 
Consent Agreement, and it is not intended to constitute an official 
interpretation of the Consent Agreement or proposed Order or to modify 
the terms of the Consent Agreement or proposed Order in any way.

    By direction of the Commission.
Donald S. Clark,
Secretary.
[FR Doc. 03-4609 Filed 2-26-03; 8:45 am]
BILLING CODE 6750-01-P