Corporate equity grows as center funding source

July 15, 1992

Corporatization of U.S. imaging services will accelerate overthe next few years--and not only as an expedient reaction to rulesagainst referring-physician ownership of medical imaging centers.Corporate owners of multiple centers are better positioned

Corporatization of U.S. imaging services will accelerate overthe next few years--and not only as an expedient reaction to rulesagainst referring-physician ownership of medical imaging centers.Corporate owners of multiple centers are better positioned totake the industry into its mature years, according to Kevin Rung,president of Maedia Research.

"We have gone from being a cottage industry in diagnosticimaging centers to a real business," Rung told SCAN. "Oneof the problems of being a cottage industry has been that imagingcenters are project-based, and, as projects, capital has beentaken out by partners. There have been little retained earnings."

Corporate ownership of imaging centers will encourage accumulationof retained earnings and plowing of these funds back into industryexpansion, he said. However, the already highly leveraged imagingcenter business will continue to rely on debt for two-thirds ofits investment in center acquisitions, Rung predicted (see chart).

Rung evaluated 35 separate imaging center companies in preparinghis report entitled High Technology Diagnostic Imaging Centers;Recapitalization Outlook 1992-95. The $495 study is availablefrom Syracuse, NY-based Maedia (315/422-9394). Before forminghis own company, Rung served as director of business developmentfor VHA Diagnostic Services (now Maxum Health) and, prior to that,as director of northeast sales for AMI Diagnostic Services.

Rung predicts that imaging center industry earnings will declineslightly over the next three years but that 1995 will be the nadir,with a subsequent rebound in earnings. The long-term outlook isone of strong profits, he said.

"The next few years will be a difficult time, but notas difficult as it was to restructure steel companies in the '60sand '70s. We have it a lot easier than other industries in termsof recapitalization," Rung said.

State and federal regulations against referring-physician ownershipwill become more stringent over the next three years, he said.This will cause a sharp decline in physician ownership of imagingcenters, from 39% of total ownership this year to 6% in 1995 (seecharts).

Corporations, with some help from radiologists, will fill mostof the ownership void left by departing referring doctors. Corporationsshould take hold of 40% of U.S. center ownership, up from 16%this year. The center stake of radiologists will also rise from20% to 27% in 1995, he predicted. Overall center ownership iscalculated as the product of ownership positions in individualcenters multiplied by the percent of total centers owned.

The center ownership position of hospitals will grow only slightly,from 17% to 19%, because these institutions have self-referralproblems of their own and access to capital is tight, he said.

Ironically, many of the imaging center companies that pioneeredthe business will have difficulty building their center networksbecause of the baggage of low-performing sites they carry, Rungsaid.

"One of the problems with imaging center companies isthat they developed deals when doctors thought it was too riskyto do it on their own," he said. "Now that the acquisitionmarketplace is developing and they have an opportunity to buythe cherry deals, they have all these bad deals behind them."

Quite a bit of new equity--both private and public--will flowinto the imaging center business over the next three years becauseof the high level of existing debt. However, companies will tryto raise new debt financing when possible, he said.

"Companies that are newly public are loath to give awayequity in their growth company and believe it is better to financeacquisitions with debt, especially with interest rates as lowas they are," Rung said.

The number of public imaging center companies will grow, but--aswitnessed by the delay in ImageAmerica's initial public offering--publicstock funds are not always available on favorable terms. Companiesdon't have to go public, however, to buy out referring physicianswithin the federal safe harbor guidelines, providing they buythem out completely, he noted.

Debt availability, on the other hand, tends to vary geographically,Rung said.

"It seems to be more difficult to borrow for medical projectsin the Southeast and Southwest than it does in the Midwest andNortheast," he said. "Banks in the South have been burnedon some health-care projects as well as in real estate and otherareas."

Ultimately, the imaging center industry has potential to evolve,as for-profit hospitals did, into a few large players with significantmarket strength, he said. Companies are well suited to make thatprocess happen. Those companies that are best equipped to endup on top of the pile are the ones that can consolidate strongregional center businesses.

"Health care is fundamentally a local business. The centercompanies that will be strong three to five years from now willbe regional or multiregional companies," Rung said.

BRIEFLY NOTED:

  • Frank Kyle, former president of MedInc (now ImageAmerica)and founder of the American Imaging Association imaging centertrade group, has formed a new imaging center company based inNashville. National Imaging Affiliates' initial equity investmentand loan guarantees were provided by MedCare Investment, a SanAntonio health-care investment company.

NIA will focus primarily on center acquisitions and the restructuringof partnerships to meet guidelines on referring-physician ownership.No centers have been acquired as of yet. NIA is negotiating witha number of partnerships and intends to acquire several by theend of the year, Kyle said. The firm intends to eventually developnew centers as well.

"NIA is well capitalized to establish itself as an industryleader through affiliation with successful, quality imaging centersfounded by reputable groups of physicians and local management,"he said.

  • MRI Medical Diagnostics of San Diego is building on abusiness relationship with MRI vendor Resonex to expand its chainof imaging centers (SCAN 4/8/92). The two firms agreed in Aprilto cooperate in acquiring and developing MRI centers operatingwith the Resonex RX5000 system. The first two centers are slatedto open this fall in the San Francisco area and in Rhode Island.

MRI Medical Diagnostics signed a letter of intent last monthwith both Resonex and Dr. J.J. Parker to establish a new entityto own and operate the Sacramento Imaging Center in California.The center is expected to begin operations in October.

  • Prime Diagnostic Imaging Services of Newport Beach, aunit of Prime Medical Services, based in Austin, TX, acquiredthe assets last month of two California imaging centers: CentralCalifornia Medical Radiology Group of Fresno and Inland DiagnosticImaging Medical Group in Rancho Cucamonga. Prime has been managingthe centers for six years.

Prime is structuring a joint venture at the Fresno center toprepare for the purchase of new MRI equipment, according to PrimeMedical president Jackie Majors. Prime initiated an imaging centeracquisition program earlier this year with the purchase of TowerDiagnostic Center in Tampa, FL.

  • American Shared Hospital Services of San Francisco ispreparing its entree into shared PET services. ASHS reported lastweek that it has signed a letter of intent with Siemens to purchasea mobile PET system, which should begin operating in late summer.The imaging services company will be testing the waters for thisexpensive and not-fully-reimbursed modality.

"Operation of the (PET) system will give our company valuableexperience as we explore the future of PET and its place as amajor modality in our fleet," said Ernest A. Bates, chairmanand CEO.

ASHS plans to lease the $3 million PET unit over a five-yeartime period, according to Richard Magary, vice president of administration.The firm has initiated marketing of the service to prospectivehospital clients in northern California, he said.

  • Health Images took a big step into multimodality imagingservices last month with the acquisition of Front Range Imagingof Colorado Springs. Front Range operates MRI, CT, ultrasoundand mammography systems. This is the Atlanta firm's third centeracquisition. Complete ownership was purchased with cash, accordingto Robert D. Carl, president.

Primarily an MRI center developer, Health Images is takingadvantage of the need to restructure referring-physician partnershipsby expanding its chain through the purchase of independent imagingcenters. HI operates 36 centers in the U.S. and Great Britain.

The firm has gradually added other imaging modalities to itsown centers and will continue the multimodality services at FrontRange. Plans are already in the works, however, to transfer thefacility to the Union Medical campus in Colorado Springs nextyear. HI's medical Construction Services division will coordinatedesign of the new facility.

Health Images also initiated a contract this month to supplyMRI services to 70% of Kaiser Permanente's member hospitals inthe Atlanta area. The Kaiser relationship is HI's largest managed-carecontract to date, Carl said.