Medicare Rate Reduction Implies 10% Cut for LabCorp (LH) and Quest (DGX) Through 2020

Lab Corp. (NYSE: LH) and Quest Diagnostics (NYSE: DGX) are down 1% and 4%, respectively, in pre-open grade Monday after CMS released the preliminary 2018 Medicare Clinical Lab Fee Schedule pursuant to the Protecting Access to Medicare Act (PAMA), representing the largest change to diagnostics reimbursement in over 30 years.

Barclays analyst Jack Meehan poured over the data this weekend and believes the direct PAMA impact implies an 8% Medicare rate reduction in 2018 for LabCorp and Quest, and almost 10% through 2020. This is above the firm's prior 5% forecast of 5% per year.

Meehan said they were surprised at the sheer number of codes that will see a full 10% rate reduction for each of the first 3 years. 85 of the top 100 codes fall in this category with many routine codes seeing a >35% reduction in aggregate, the analyst notes.

The analyst said the financial impact, while meaningful is manageable, given that the Medicare CLFS represents just 8% of LabCorp's revenue and 12% of Quest's revenue.

Meehan said assuming a 100% drop-through on a pricing reduction, this equates to a 2018 EPS headwind of 4% and 6%, respectively.

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