Seven months after LabCorp’s strategic review resulted in no corporate changes, the laboratory testing and diagnostics giant announced on Thursday plans to spin out its nearly $6 billion a year drug development business as a separate company.

The yet-to-be-named new company will be publicly traded. Separating the laboratory testing work of LabCorp from the clinical trial services business, much of which came from acquisitions, will enable each company to focus on its strengths and grow independently, CEO Adam Schechter said, speaking during a conference call.

“The reason it makes sense to do the spin and to do it now, it really is going to give strength and strategic flexibility and operational focus so that we can pursue the specific market opportunities and customer needs in each of those areas,” Schechter said. “The market for laboratory services is different than that of the clinical trials.”

LabCorp currently divides its operations into two segments: diagnostics and drug development. The diagnostics segment is by far the larger of the two, accounting for $10.3 billion of LabCorp’s $16.1 billion in revenue, according to its 2021 annual report. Diagnostics also more closely aligns with the historical identity of the company, which traces its origins to a laboratory business started in 1969 in the basement of a hospital in Burlington, North Carolina. That business was later acquired by Roche. The 1995 merger of Roche Biomedical Laboratories with National Health Laboratories formed Laboratory Corporation of America (LabCorp), which has been headquartered in Burlington ever since.

LabCorp’s growth made it into what is now one of the largest laboratory testing companies in the industry. If you’ve ever taken a drug test for a new job or had bloodwork done, chances are good the samples were tested at a LabCorp site. Over the years, acquisitions continued to shape the company, bringing new diagnostic testing capabilities. LabCorp also expanded its capabilities to include central laboratory services provided to pharmaceutical and biotech companies that need to test samples from clinical trials. The lab testing company moved further into drug development services in 2015 with the $6.2 billion acquisition of Covance, which at the time was one of the largest contract research organizations (CROs) in the industry.

Last March, LabCorp announced a strategic review, stating that the board of directors and management did not believe the company’s value was appropriately reflected by its stock price. The review concluded last December and Schechter said Thursday that the decision to stand pat was appropriate at the time. The end of last year and the beginning of this year had LabCorp doing a lot of diagnostic testing and drug development business related to Covid-19, and it wasn’t the right time to disrupt that work, he said.

However, the evaluation of potential corporate moves did not stop. The laboratory business has a different capital structure and equipment needs than clinical development business, Schechter said. With both segments offering growth potential, the board concluded now is the right time to separate them, making each one able to deploy capital to suit its needs.

“Having focused capital structures is really important because there’s a lot of business development opportunities out there, and I think the way you prioritize those could be very different between the two businesses,” Schechter said.

In second quarter 2022 financial results released Thursday, LabCorp reported $2.2 billion in revenue for its diagnostics segment, which is a 4.5% decline from the same period in the prior year. Drug development revenue for the quarter was $1.4 billion, a 2.9% decrease compared to second quarter of last year. The company attributed the lower revenue to a decrease in Covid-19 testing. LabCorp’s net income for the quarter was $358.6 million, down 23.2% compared to the second quarter of 2021.

LabCorp reported that its backlog, the CRO industry term for clinical trial business that is contracted but not yet started or complete, was $15.2 billion at the end of the quarter, a 6.5% increase compared to the same period last year. Backlog is a key financial measure for CROs because a growing backlog indicates growing potential business. LabCorp said Thursday it expects $4.8 billion of this backlog will convert into revenue in the coming year.

Beyond revenue, LabCorp’s financial statements do not break out cost, profitability, or other measures of the company’s two business segments. Chief Financial Officer Glenn Eisenberg said that’s because it’s been a long time since the Covance acquisition and that business is now well-integrated with LabCorp’s operations. When the clinical development business is carved out as a standalone entity, profit and other measures will be provided in audited financial statements going back three years, he said.

Consolidation has been the theme of the CRO sector in recent years. In early 2021, ICON struck a $12 billion deal to acquire PRA Health Sciences. Months later, lab equipment giant Thermo Fisher Scientific jumped into the clinical trial services business with the $20.9 billion acquisition of PPD. But large companies in other sectors of the life sciences have found business separations as the way to go. In April, Becton Dickinson completed the spinoff of its diabetes business, now named Embecta. Last week, GSK competed the separation of its consumer health business, Haleon.

LabCorp expects to complete the drug development spinoff in the second half of 2023. One financial analyst asked whether executives might still consider selling that business to a larger player. Schechter, who will continue to serve as LabCorp’s CEO when the separation is complete, responded that the company evaluated several options and concluded a spinoff is the right move. He added that the management team is open to listening to any inquiries, “but based on everything we know as we sit here today, we think the spin is the best path forward for really capturing both customer and shareholder value.”

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