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Citi Neutral On Lab Sector; Initiates On Quest Diagnostics, Labcorp

While there are concerns around growth drivers in the Lab Sector, the valuation appears fair, Citi’s Allison Schulz said in a report. She initiated coverage of Laboratory Corp. of America Holdings LH and Quest Diagnostics Inc DGX with Neutral ratings, and price targets of $156 and $86, respectively.

Dominating The Market

The lab market is valued at ~$75 billion. Although this market represents merely ~2 percent of the total health expenditures, it is estimated to influence more than 70 percent of the medical decisions. Analyst Schulz expects industry growth of 2-3 percent per annum.

Hospital labs comprise ~59 percent of the lab market and, within the independent clinical lab market, Quest Diagnostics and Labcorp have a share of ~50 percent.

3 Key Considerations

Volume: For Quest Diagnostics and Labcorp can add volume by taking share from each other, taking share of smaller labs or capturing volume from higher cost hospital labs.

“We view outreach and outpatient as more immediately “addressable” particularly if managed care more actively steers volume to the lower cost labs and away from hospital outreach/outpatient,” Schulz wrote. She added, however, that inpatient was more long-term at best and likely questionable.

Reimbursement: The analyst expects Medicare reimbursement cuts to adversely impact growth to some extend in 2018, with 3-4 percent headwind for Quest Diagnostics and Labcorp.

“The willingness (or not) of the large national labs to hold the line on price and defend their value is one of the more critical elements of the future growth story for the labs, in our opinion,” the Citi report noted.

Seeking new avenues of growth: Since the industry is fairly mature, with national labs having gone through a period of consolidation, the national companies would seek avenues for incremental growth. While Labcorp had diversified into the CRO market by acquiring Covance Inc. in 2015, Quest Diagnostics is seeking new partnerships with hospital labs.

“We see both companies continuing to seek out growth opportunities in both traditional and perhaps via untraditional means providing some level of potential tailwinds to growth depending on timing and pace of any transactions,” Schulz wrote.

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Sep 2016CitigroupInitiates Coverage onNeutral
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