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In order to strengthen its foothold in the toxicology testing business, Laboratory Corporation of America Holdings (LH - Analyst Report) has decided to acquire Medtox Scientific for $27 per share or a total enterprise value of $241 million. The offer price represents a 37% premium over the share price of Medtox as on June 1.

The board of directors of Medtox, a provider of high quality specialized laboratory testing services and on-site/point-of-collection testing devices, have unanimously approved the agreement. The transaction is expected to close in the third quarter of 2012.

Equipped with a strong cash balance along with its credit facility in place, LabCorp has been looking at suitable acquisitions to expand its portfolio.  The company exited the first quarter of fiscal 2012 with cash and short-term investment of $129.9 million ($159.3 million at the end of 2011) and $460 million of borrowings outstanding under the $1 billion revolving credit facility. Cash flow trends of the company remain robust with free cash flow for the trailing twelve months coming in at $686.9 million. For fiscal 2012, the operating cash flow guidance remains at $950 million.

We are encouraged by the company’s steady focus on pipeline expansion. In order to achieve this objective, it is also targeting suitable acquisitions in certain cases. The company is garnering approximately 41% of total revenues from the specialized testing business (including genomic, esoteric and anatomic pathology categories), which is expected to gradually scale up to 45% over the next 3−5 years.

The decision to acquire Medtox is not new for LabCorp as the company has been following this strategy over the recent past. In March 2012, the company signed an exclusive agreement with OPKO Health for intellectual property associated with a potential Alzheimer's disease diagnostic product. The company, to its advantage has other significant collaborations or agreements with leading companies and academic institutions such as Abbott (ABT - Analyst Report) for lung cancer (Xalkori), Duke University (joint venture in biomarker development and lung cancer), John Hopkins (melanoma), and Roche (RHHBY - Analyst Report) for melanoma (Zelboraf). Given the continuous focus on portfolio expansion, we are confident about the company garnering higher revenues from specialized testing, going forward.

We believe LabCorp’s focus on acquisitions or agreements to expand specialized testing portfolio is necessary as its peer Quest Diagnostics (DGX - Analyst Report) is also working towards the same goal. We currently have a Neutral recommendation on LabCorp over the long term. The stock retains a short-term Zacks #3 Rank (Hold).

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