I cannot start this letter without calling attention to the remarkable achievements and contributions made by the people of BioReference this year, which marks our 20th year of 20% compound annual growth rate in Revenue. Our leadership and innovation in genetics has never been more apparent with clinical applications and solutions that span the entire field into all relevant specialties. We planned and built our infrastructure to allow for regional expansion in Florida and California while the New York Region has now evolved into a Northeast/Mid-Atlantic franchise. We introduced Laboratorio Buena Salud, a differentiating service, branded an entire operation under that franchise, creating opportunities and filling a void. Faced with changes in payer relationships, we touched almost forty payer contracts that have given us, we believe, relationships with payers that are comparable to any other laboratory in the country.
Even though we believe there has been an industry-wide recalibration in reimbursement for laboratory testing from commercial payers that has led to lower earnings for us in fiscal 2013 and reduced guidance for this year – a reduction which we believe has also been observed by many companies in our space – we believe the promise of genomic medicine and the potential of personalized, precision diagnostics has never been more apparent. We believe these are areas where we have lived at the cutting edge, standing at the precipice of fulfilling the promise of genomic medicine. We expect our investment in growth, science, informatics and infrastructure has well positioned us to take advantage of that promise.
We remain a growth company, grounded in innovation. BioReference has contemplated, conceived and implemented not only new testing modalities that have led the market but we have also created franchises that are readily identified by specialist physicians around the country as the source and provider of these new innovative testing services.
The issues impacting the results of our operation this past year were relatively straightforward and based on two primary factors – increased expenses related to the integration of recent acquisitions and a change in the reimbursement environment.
We prepared for continued growth this year and those initiatives are all incredibly positive; we expect that they will prove essential as we face 2014. We believe that the expansion into Florida and California plus the tremendous opportunity of Inherited Cancers and the growth of other GeneDx testing puts us into a very strong position going forward. Although we believe each of these represents a strong opportunity for growth, and potentially for stronger growth than initially contemplated, their implementation did not materialize in sufficient time to have a positive impact on fiscal year 2013.
This second factor that impacted our results of operation in fiscal year 2013 was a change in the reimbursement environment, which we believe only came into focus toward the end of our fiscal year and which we believe has been experienced by others in our industry, as well. Over the past year we have negotiated modifications to contractual reimbursement rates, conditions of payment and/or eligibility with dozens of health plans representing a substantial numbers of lives nationwide. Most of these changes became effective toward the end of FY13 and especially in Q4FY13. However the changes in the environment resulted not only from negotiations with certain payers, but also from what we have observed in the payment behavior of payers in general in determining what is being paid. The Affordable Care Act, which we refer to as the ACA, has affected clinical laboratories directly to a limited degree but the same ACA and other CMS initiatives have had a significant affect on the payer community directly and that, in turn, has had a significant impact upon us and our sector.
We believe the opportunities to grow our business have never been greater and, although there were some distractions because of payer changes this year, we enter 2014 with managed care contracting around the country that we believe is comparable to anyone in our industry.
We believe the opportunities in our regional market have never been better. Our regional market has now been redefined. It can no longer be characterized as the New York super-region but as the Northeast/Mid-Atlantic region with strong ties to Maryland, Virginia, Pennsylvania, Connecticut and Rhode Island, all of which present greater opportunities for growth than we have seen in the past. We believe our business model, based on service, support and innovation, places us at a competitive advantage within this Northeast/MidAtlantic region.
We have grown our company by offering one stop shopping to specialty physicians throughout the country and now with our ability to better deliver on that promise nationally, we believe we are well positioned for the future. This is an advantage that our GenPath Women’s Health group has and will continue to exploit this year. We believe we have cutting edge, differentiating solutions for every diagnostic need required by an Obstetrician or a Gynecologist – whether it be related to child-bearing, infectious diseases and infections or Cancer.
The practice of oncology is evolving and merging into larger entities of all kinds, and we have developed the means to work with all of them regardless of size or nature. We are working closely with practitioners and hospital pathologists and our informatics and virtual pathology tools, like StormPath, are satisfying what we see as an unmet need in the market. We are fortunate to be bringing these services to some of the largest oncology practices in the country and we believe that this is a scalable, expandable business solution.
As I have mentioned in the past, there is a disconnect between the innovative, clinically relevant services our industry offers and the decreasing value placed on those services by the payer community. However, this does not mean that physicians do not seek these new tests. We believe this is most evident in the field of Oncology. As a physician, I recommend that every patient to whom I speak have his or her tumor evaluated for characteristics or mutations that make them candidates for drugs either currently offered or available in clinical trials for the future. The reimbursement by payers for these services may be unclear currently, but we believe that providing the most information in the most cost effective manner is the proper path in which to proceed as we continue our leadership in taking this route in collaboration with outstanding academic partners as we have for the past several years.
We believe the greatest opportunity in laboratory medicine is in the area of genetic testing. We introduced our Inherited Cancers program at the end of August 2013 and the greatest challenge we are currently facing is handling the high demand for our products, which we believe is a result of our exacting standards and high quality of service. Let me be clear, even though the ties between GeneDx and our GenPath services are very strong and the operations between our New Jersey and Maryland laboratories have never been more cohesive, GeneDx remains a purely genetics laboratory and its mission is one that we have wholeheartedly embraced. From the moment we first conceived the value and promise of next generation sequencing almost a decade ago, of enabling physicians to ask the question of what gene is responsible for what is apparent clinically rather than specifying the gene to be sequenced, we have believed that these services must be provided by a genetics laboratory with trained professionals who, by virtue of their reputation and knowledge, differentiate us in the market.
Expenses went up with regards to our Florida and California locations as a result of our integration process, and GeneDx, especially with regard to Inherited Cancers. However, given the changes in reimbursements that we are beginning to understand, we have begun the process of a thorough evaluation of every line item and expense to seek reductions commensurate with this new environment. We need to adjust to this changing reimbursement landscape by intelligently and efficiently identifying areas where we can reduce expenses without affecting customer service and support or innovation. We have already identified several such areas and have begun implementing such expense reductions. These steps will take some time to produce improved results, but we anticipate gains progressively throughout 2014 as a result of these changes. On the other hand, we are positively encouraged by the strong volumes we are seeing in all aspects of our business. We are composed of several franchise marketing groups and each has shown opportunities for growth. We believe the industry is and will remain under pressure, but in that pressure we see opportunity. Based on a combination of all our initiatives, we look forward to the upcoming year. Growth alone will not be sufficient and infrastructure expansion excluding genetics and R&D to provide new testing will be curtailed.
Marketing expenses increased, reflecting the opportunities in genetics and, while expenses will be tightened, we do not anticipate reducing the number of people who work in the field.
SG&A expenses were higher; many of these expenses were related to the expansion of infrastructure in Florida, California and, of course, at GeneDx. There are some items here that we need to highlight. Over the past year – either due to acquisition or our own organic growth – we now have almost 675,000 square feet of laboratory or administrative space not including draw stations, an increase of almost 35% during the past year.
We also recognize that there will be increased legal fees in 2014. There are two lawsuits that will take up the bulk of these expenses: one involving Horizon Blue Cross Blue Shield of New Jersey which was filed in December 2013 and the other involving a patent issue with Myriad Genetics that has been ongoing since October 2013.
BioReference has been an in-network provider to Horizon’s PPO subscribers for more than 20 years. Some of you may remember that we had some issues in 2007 when this relationship was terminated temporarily. The central claims in the lawsuit arise from our providing laboratory services since at least 2008 for members of Horizon’s NJ DIRECT plan; these subscribers received benefits under a program that Horizon has bid, promoted, and represented to be a PPO product for state, county, and municipal workers and teachers. The lawsuit alleges that, despite these public representations Horizon has been improperly treating NJ DIRECT as a Managed Care program in its dealings with us, thereby costing BioReference more than $20,000,000 in unreimbursed services and depriving state beneficiaries of valuable rights and benefits to which they are entitled. I would like to note that we have not recognized revenue for the vast majority of the services at issue in this litigation and that this issue is one between us and Horizon Blue Cross Blue Shield of New Jersey and does not involve any other payer relationship.
The other litigation involves Myriad Genetics and our performance of certain tests for genes that put patients at risk for cancer. In this scenario, we are one of seven laboratories so far that have been named as defendants. We will aggressively defend our interests in this matter.
DSO’s were higher in 2013. After six years of steady improvement, the changes in the overall reimbursement environment and, in particular, in molecular reimbursements, in the ongoing effects of the termination of the grandfather clause for Pathology services, and dozens of new contractual relationships as well as the end of a relatively efficient manner of paying claims under the Blue Card banner have all had their effect. We believe this change is reflective of challenges facing the entire industry.
Payments to us for genetic testing, as more of these tests are billed to commercial payers, are now taking longer with more claims being reviewed, often requiring additional clinical information to support the reimbursement claims. This is, of course, possible but time consuming. Finally, the net effect of billing thirty Blues plans directly rather than only a handful means that a relatively efficient method of billing has been replaced by a time-consuming and sometimes inconsistent method for paying claims. Furthermore, there has been an inconsistent practice of paying laboratory claims directly to patients in many of the Blues plans around the country.
Within every Blue Cross Plan around the country there are multiple plans – some HMO’s, some Point of Service Plans, some, EPO, others are PPO. In many cases they pay the patient directly, frequently at far greater amounts than we as a laboratory would ever expect to be paid. This has required us to undergo the daunting task of billing the patients to send us money they have received from the payer. This is further complicated since we are typically not specifically notified by the payer when they pay the patient directly; we need to investigate these claims one by one, usually on-line, making a cumbersome process even more complicated. It is our expectation that as the plans become accustomed to working with more providers, both in and out of network, these delays will decrease. However, they have presented a substantial challenge to us and, we believe, all other laboratories. My sense, though it cannot be assured, is that these difficulties have bottomed out. It is my expectation that as we become more familiar with the payment behavior of all these new payers, we can start to make improvements as we have in the past.
Given the changes in Net Income and industry wide challenges in collections, it is not surprising that our Cash Flow in 2013, while positive, was not as strong as fiscal 2012. Nevertheless, cash flow from operations was over $17m and actual collections from all elements of our business appear to be stabilizing to a consistency that we expect will continue for fiscal 2014.
We have previously said that we expect to grow in net revenues, patient count and net income each by 10% in fiscal year 2014. We stand by that guidance, except to say that each will grow by at least 10%. However how that plays out on a quarter-by-quarter basis will be somewhat different than we have seen in the past.
There are other issues we need to address. The cuts to Pathology codes that were proposed by CMS in July 2013 were not included in the new schedules released in November 2013. As an industry and as a profession, we made our case that these changes would prove devastating to patients and I want to thank all those who assisted and all those who heard our arguments with an open mind
Our Board, with the approval of our primary lender, has authorized a two million-share buyback plan over the next two years. We believe that it is important for us to have this in place; however, over the next year we will determine the best use of cash.
My hope is that the decision by CMS is a harbinger of the future. It is incumbent upon clinical laboratories to be cost efficient but not at the expense of hurting or denying care. We are on the brink of great things, of really leveraging the technological advances to make genomics accessible and clinically relevant. We will make that case, lead the fight and challenge those who will stand in the way of innovation.
We are encouraged by the positive indicators we have seen; we are not the least bit intimidated by the recalibration of reimbursement revenues. We have a track record of 20 years of 20% compound annual growth in revenue and that was accomplished in the face of 18 years of declining reimbursement rates. We have dealt with this trend in the past and we will make the appropriate adjustments to deal with it in the coming year and years. We have the resources, we have the acumen and we have the personnel to convert the frustration of the fourth quarter of fiscal 2013 into the success of fiscal 2014.
Elmwood Park, New Jersey
Marc Grodman, M.D.
Chairman of the Board
President and Chief Executive Officer