Mobile consolidation picks up steam as Alliance bids for Medical Diagnostics

USDL and Medical Resources put growth on hold

Imaging services consolidation has gone mobile with a West Coast flair. Two California firms with large mobile MRI fleets have risen to the top of the pack through acquisition, while two leading freestanding center consolidators on the opposite coast stop to catch their breath, digest their massive acquisitions, and deal with growth-related shareholder concerns.

Of the East Coast firms, U.S. Diagnostic (USDL) of West Palm Beach, FL, once one of the fixed-site consolidators, is now in an acquisition hiatus. Meanwhile, Hackensack, NJ-based Medical Resources, with whom USDL competed for center acquisitions, took steps this month to resolve a crisis that resulted in the departure of much of the company's upper management late last year.

The trials and tribulations of the two companies could be fodder for a soap opera, and USDL late last month wrote a new chapter by announcing that it had agreed to sell its mobile subsidiary Medical Diagnostics (MDI) to Alliance Imaging. USDL picked up MDI from specialty MRI vendor Advanced NMR last year when the company was exploring expansion into mobile imaging to complement its fixed-site growth (SCAN 2/5/97).

The deal represents an ironic turn of events, for USDL almost bought Alliance during its growth spurt in 1996. USDL also had discussions last year with mobile provider American Shared Hospital Services of San Francisco, but both of those mobile deals fell through. Subsequently, Alliance received a capital boost and turned from acquiree to acquirer. Last month, Anaheim, CA-based Alliance signed an agreement to buy American Shared (SCAN 3/18/98).

The MDI experience, while a strategic detour, was lucrative for USDL, according to Joseph Paul, president and CEO. The company increased MDI's profitability and, after the sale to Alliance, will gain about $7 million over its purchase price.

Alliance is in the fourth month of a flurry of acquisitions that have included Medical Consultants Imaging of Cleveland, Mobile Technology of Los Angeles, American Shared, and MDI. The company will own nearly 250 MRI systems, both on the road and operating full-time on hospital campuses, said Richard Zehner, chairman and CEO.

This growth in fleet size has positioned Alliance as the dominant player in mobile MRI. Its closest mobile competitor will be InSight Health Services of Newport Beach, CA, which signed a deal last month for Signal Medical Services of Farmington, CT. Although Signal will provide InSight with 19 mobile MRI systems, as well as four mobile lithotripters and seven fixed-site imaging centers, InSight will still have substantially less than 100 mobile routes.

Alliance's growth could have ramifications for small mobile operators that are still independent, as the reduction in the number of competitors in the consolidation of mobile MRI could mean lower prices for future acquisitions, said USDL's Paul.

"There is no doubt Alliance has done an excellent job in putting together the big players in that (mobile) market," he said. "Now you may see them start paying a little less for the remaining niche players."

Zehner disputes any notion that the competitive heat is diminishing. Alliance had hoped to pick up Signal for itself, but was outbid by InSight, he said. There are other bidders out in the mobile marketplace as well.

"We don't know all those whom we are competing with, but there are definitely multiple people bidding against us," Zehner said. "It keeps us on our toes. We are not stealing anything here. This is an auction process."

American Shared had once hoped to be one of the bidders, but instead cashed out of mobile MRI in order to gain the capital to invest in the medical therapy arena, with its existing radiosurgery business and planned development of a futuristic technically integrated operating room, according to Dr. Ernest Bates, chairman and CEO.

"We felt that the only way to be successful in the mobile business was to consolidate, merge, and acquire," Bates said. "We just didn't have the capital to do it."

Consolidation logic. Alliance's successful consolidation effort should be beneficial to the mobile MRI industry as a whole, leading to a rationalization of service, Bates said.

"Look at California, where MTI, American Shared, and Alliance all had an overabundance of equipment," he said. "We were competing with each other. There was discounting going on to the point where it was unhealthy. Also, there were machines doing four to six scans a day. With consolidation, the majority of machines will be doing more than 10 scans a day. It makes sense."

Chances are, though, that mobile MRI will continue to operate at a slimmer profit margin per unit than fixed-site services. The nature of mobile services is such that firms able to adopt a Wal Mart-style strategy of high volume with low margins will be the ones that survive and flourish, Zehner said.

Mobile providers normally receive only technical fee reimbursement from hospitals on a per-use basis, said USDL's Paul. Fixed-site operators, on the other hand, more often utilize global billing, including both professional and technical fees. That is one reason why USDL is moving away from mobile.

"I prefer to deal with a global fee and work to reduce radiology expenses by paying the radiologist a percentage of the collected global fee," he said. "Whenever you are just dealing with the technical side, you are going to have a lower margin."

The fixed-site imaging center business is generally a profitable one, Paul said. However, it pays to be careful in structuring acquisitions. USDL entered into a number of deals in its rapid expansion that ended up earning less than anticipated. The result was that the company had significant good will (or the margin of price paid over market value), which it wrote off last year. Key to avoiding this problem is to structure deals so they take into account negative contingencies.

"You can still acquire centers out there for a good price," Paul said. "You just have to make sure you do your due diligence on those centers and structure them so that, if things occur that are out of your control, you have some recourse against the seller. Unfortunately, in a number of (our acquisitions), we did not do this."

While USDL is looking at some select acquisitions, the company does not expect to start buying rapidly again until it refinances its long-term debt, he said. That may happen in its second quarter (end-June) but could be stretched into the fall. USDL currently has a network of 111 centers.

Medical Resources is also taking time to digest its acquired centers and persevere through a spate of shareholder suits linked to center acquisition fees paid to an outside firm operated by the company's chairman, Gary Siegler. A number of high-ranking executives, including president and COO William Farrell, left Medical Resources after disputing the fees with the company's board (SCAN 12/17/97). Medical Resources operates 101 imaging centers.

USDL went through a similar rough period of legal and regulatory scrutiny last year related to the activity of an outside acquisitions firm (SCAN 2/19/97). Such distractions can cramp growth, Paul said.

"Once you have to deal with those types of things, it is not unusual to get behind," he said. "You can't focus on your operations and businesses much."

A special committee set up by Medical Resources to look into the activities of 712 Advisory Services, a financial advisory firm owned by Siegler, made several recommendations last week, including the payback of some fees by the advisory firm and termination of its relationship with the center company. That advisory relationship has ended, confirmed Duane Montopoli, recently hired MRI president and CEO.

"We are in a phase right now of dealing with our well-documented problems," he said. "Only after we have effectively dealt with those problems, will we turn our attention to aggressive growth."