Bob Zollars,
Neoforma

     Mike Mahoney
                       GHX

With the pending merger of Global Healthcare Exchange (GHX) and Neoforma Inc. due to be finalized in early 2006, effectively uniting two of the largest players in the healthcare-focused online market segment, Healthcare Purchasing News Senior Editor Rick Dana Barlow posed some serious and tough questions about the deal to three key players.

Robert Zollars and Michael Mahoney, CEOs of Neoforma and GHX, respectively, gamely offered their impressions, insights and outlook on the business decision, in which privately held GHX remains the surviving company going forward. Meanwhile, Lynn Gentry, director of public relations at VHA Inc., the largest shareholder of publicly held Neoforma and soon-to-be shareholder in the new GHX, provided the alliance’s views on how this merger will impact the group purchasing organization and the industry at large.

In this definitive interview, Zollars, Mahoney and Gentry strove to clear up any market misperceptions and misunderstandings about the three companies, their business relationships and their ultimate goals in working together.

Zollars on the merger

ZOLLARS: Certainly a lot has changed since 2001, both for Neoforma and GHX and for the industry. Neoforma, which started with an initial customer base made up of hospitals, has added 500 supplier customers over the past five years; while GHX, which started with five suppliers, has added over 1,300 hospitals. Today, Neoforma and GHX both share a mission of taking costs out of the healthcare supply chain, and we bring a set of complementary solutions that will benefit the industry.

Again, much has changed. GHX is interested in growing its business outside its core offering, so in that sense, GHX sees the world very similarly to how we do. Regarding the board size, I still admire Mike for his ability to manage that complexity! A nice thing now is that, with GHX and Neoforma coming together and VHA and UHC joining the GHX board, there is even greater representation by buyers. While it isn’t an industry trade association, GHX does have wide industry participation, which will be good for healthcare and setting standards to reduce cost.

Our first priority is to work hard to make sure this transaction closes, which we expect to happen in early 2006, and that the integration is smooth. Once we get that accomplished, we can decide what’s next. GHX plans to add 125 to 140 new positions to its organization, and I’m hopeful that the bulk of those are filled by Neoforma people.

As you know, nothing happens quickly in healthcare! The independent Special Committee of our board went through a thorough and lengthy process to determine, ultimately, that this transaction is the best alternative for our minority stockholders. When you read the proxy, which will be filed as soon as practicable, you’ll get a better sense of the process and why it took as long as it did.

Actually, what we said back in 2001 was we were going to ‘crawl before we walked, and walk before we ran.’ We’ve both built successful businesses since then and have both been ‘running’ at a pretty good clip. As we mentioned before, we have a common mission and vision to improve the healthcare supply chain and that makes coming together much easier. Sometimes partners ‘grow on each other,’ which is what happened here.

We believe it will, but not because it’s private. The combination makes sense because both companies share a common vision – to improve healthcare by making it more efficient. We also have a shared focus, and complementary areas of strengths. We believe the merger will improve the efficiency of, and lower total costs in, the healthcare supply chain, provide an integrated, comprehensive suite of supply chain management solutions to all industry participants, and accelerate the industry’s ability to adopt much needed industry standards.

Well, other than our good customers that are members of VHA and UHC, we also bring GHX a good presence in pharmacy with a set of valuable tools for both hospitals and suppliers. Another nice add for them will be our HPIS business. We believe these areas, as well as others, offer great opportunity for GHX to expand its services.

In the short term, Neoforma customers will see no change to their Neoforma services, as Neoforma will continue to operate as an independent, standalone company until the transaction closes.

The real waste is the gross inefficiency that has been going on in the industry for the last hundred years. Without the capital, passion and commitment that GHX, Neoforma and other entrepreneurial start ups brought to the supply chain, I’m afraid we would still be phoning and faxing. While admittedly there is some overlap between our investments, over the last several years, we’ve each focused on different things and pushed each other to be stronger; as a result, we’ve independently developed products and services that we think will be a nice complement to each other.

First, I would strongly disagree – that’s like saying that Healthcare Purchasing News should’ve merged with another publication covering healthcare materials to save industry costs! That ignores progress and singular contributions we’ve made. I think what we’ve accomplished over the past several years has been very valuable for the industry. I’d like to go back to my favorite Karl Bays quote and simply say, "Would the spectators kindly leave the field." We’re very proud of what we accomplished at Neoforma. We believe that a merger today will create a far stronger company than one several years ago would have, because both companies have grown and pushed each other to become better companies providing more value to our respective customers.

Mahoney on the merger

MAHONEY: Coming from Chicago, I can really relate to this question, as well as what it would be like if the best stars from the White Sox and Cubbies got together on one team. I’m not sure there would be a stadium big enough. But fortunately, the platform that GHX has built for its exchange does have the kind of scalability that will be able to easily handle and service a combined customer base, which we hope and expect will become avid fans of the new GHX. Analogies aside, we believe that Novation has negotiated an outsourcing agreement that is in the best interests of VHA and UHC members. Not only will they continue to get the value they have come to enjoy from Neoforma, but also have access to new services offered by GHX.

Our respective teams will work closely to develop an integration plan that minimizes any impact on customers during the transition and enables all participants in both exchanges to have access – as soon as possible – to additional functionality. We believe that in most cases, there will be minimal changes to the procedures followed by users, since both of our companies have worked to streamline and automate many of the same business processes. As part of the transition plan, we will be evaluating any overlapping services to determine which offer the best functionality for users, or how best to combine the services to maximize value.

Over the past few years, both of our companies have made significant progress in our ability to service our customers. For GHX, this is evident in the increased utilization of our exchange. The suppliers available to the members of exchange will represent many of the med/surg products they purchase on a regular basis. Providers are working to migrate more of their orders to electronic, because they are seeing the savings that can result from accurate orders that are more automated as they flow through the supply chain. We also anticipate and hope to retain many of the individuals from Neoforma who were directly responsible for working with Marketplace@Novation customers, as well as those responsible for product development. This will further minimize impact on VHA and UHC hospitals in terms of how they work with GHX.

Once the merger closes, customers using Marketplace@Novation will access GHX services as part of the outsourcing agreement reached between GHX and VHA and UHC. More detail in this area will be available after the merger has closed.

A lot has happened in the healthcare supply chain, as well as at both GHX and Neoforma, in recent years. Early on, both of our companies recognized that to provide value to our respective members, we needed to first create a path for them to conduct business electronically with as many of their trading partners as possible. That’s why, in 2001, GHX and Neoforma formed a strategic alliance to enable participating suppliers and providers to transact business across the two exchanges, using a single connection. But we also knew that was just the first step, and greater value required new products and services, beyond traditional EDI, that would actually improve supply chain processes and allow access to data for informed decision making. That takes time, and both of our companies have done well independently developing services and documenting the value we each provide to our respective and growing customer bases.

GHX has always had an interest in working with other organizations that share our goal of taking costs out of the supply chain, and that has always included Neoforma. That’s why when Neoforma announced in January that it was evaluating strategic alternatives, including a possible merger, we became interested in exploring new opportunities. I am pleased that we have significant progress toward that goal in recent months.

We have always publicly stated our interest in working with any organization that shares our goal of taking costs out of the supply chain. That’s why we have formed strategic alliances with Neoforma, as well as several GPOs, while merging with other organizations, like Medibuy. What changed is Neoforma’s announcement that it was exploring strategic alternatives, including a possible acquisition or merger.

We believe the new organization will be positioned to offer the best value to participants, by enabling more providers and suppliers to conduct business with one another and giving them access to an expanded menu of products and services. That, we believe, will increase utilization of the supply chain services we provide and facilitate greater efficiencies in the healthcare supply chain.

As a privately held company, GHX has continued to expand its ownership base, from the original five manufacturers to currently 18 owners that include manufacturers, distributors, group purchasing organizations and hospitals. With a larger ownership base, we have greater financial strength to invest in more products and services to improve the supply chain. Once complete, this merger will further expand the ownership of GHX and the breadth of services we provide, as well as the utilization of those services.

Yes, it is definitely more cost effective to invest in what Neoforma has built than to spend the time and money to recreate what they have already accomplished. As I mentioned before, back in 2000 we were both primarily focused on creating an exchange that would link providers and their vendors. Again, that’s why we formed the strategic alliance with Neoforma. Since then, we have each developed some very different, yet complementary, services. For example, Neoforma has some exceptional market intelligence products for suppliers that we don’t currently offer, and we provide some additional process automation services for providers, such as online requisitioning, that Neoforma does not.

The merger, once closed, also provides an opportunity to bring on key employees from Neoforma that have strong product knowledge, as well as those that have worked closely with the Neoforma customer base over the years. We are hopeful that many of those individuals will be part of the new organization.

Since its inception, GHX has always had a very strict data policy stating that transaction data is owned solely by the parties to the transaction and that GHX will not disclose transaction specific data to anyone without the consent of the buyer or seller. That policy and the enabling technology have made it possible for us to conduct business with multiple organizations, many of whom are direct competitors. It’s also one of the reasons why VHA and UHC have said they will support the merger.

You are right that many, but not all, of the online exchanges were linked with a primary GPO during those early years. Certainly that was the case with Medibuy and Premier, and Neoforma and Novation. Interestingly, some of the largest GPOs today actually started as exchange type businesses during the dot-com heyday. MedAssets, for example, was founded in April 1999 as an exchange for used capital equipment. Similarly, Broadlane migrated to the GPO model after its launch in early 2000 by Tenet Healthcare and Ventro as a venture to sell medical products over the Internet to hospitals and physicians.

The one notable exception has always been GHX. Since the beginning we have been open to any member of the healthcare supply chain and treated our members with neutrality. As an open and neutral organization that ensures data privacy, we have been able to attract members from hospitals affiliated with all of the major GPOs, including Novation, Consorta, Premier, Amerinet and MedAssets, as well as hospitals that contract independently, to the exchange. It has also been key to supplier adoption of the exchange. This isn’t a change in business strategy – it’s a continuation of a guiding principle GHX has held since the company began.

If GHX were merely an exchange offering just EDI (or XML) connectivity, that would be an easier question to answer. But today we offer much more than just connectivity and transaction processing, and to say that we would effectively ‘freeze’ the fees that we charge assumes that products and the functionality we provide will also remain the same, which is far from the case. We will continue to develop new products and enhance the functionality of existing ones in order to provide the most value to our members, as directed by the suppliers and providers on our Product Council. We will continue to base fees for our core services, including connectivity, initial data synchronization and transaction sets including purchase orders, purchase order acknowledgements and invoices, on the cost of providing those services. Fees for other services outside the exchange, including some now offered by Neoforma, will be based on the value they provide. Specific customer pricing is also determined by long-term contractual commitments with VHA, UHC, Premier and HPG, which can ensure price stabilization for many users.

There is actually more competition today than ever before for the variety of services that both GHX and Neoforma offer, including EDI integration, data cleansing, contract management and sales reporting. More importantly, many, if not most, of our competitors are much larger than GHX, Neoforma or the two companies combined. Our competitors include multibillion consulting firms, ERP vendors and major distributors, among others.

With the merger, both providers and suppliers will actually have more options. They can choose just to use our exchange services for connectivity and transaction processing, which also includes synchronizing their data to the AllSource content repository to reduce purchase order errors once they go live. The pricing model for those services will remain the same: A one-time integration fee and an annual subscription fee based on the cost of providing those services. I might add that many hospitals have already documented savings well beyond those fees. Providers and suppliers will also have the option to subscribe to additional services, such as contract management and market intelligence reports, on an ala carte basis, or they can choose from a number of other service providers. This way, we can make sure that our members are only paying for the services they want and the functionality they need.

GHX now offers a content only membership to suppliers that only want to publish their data to the GHX AllSource content repository. By opening AllSource up to more suppliers, providers benefit by having access to even more supplier-verified product data to cleanse and correct their item masters. That, in turn, reduces many of the most common purchase order errors that can cause problems and raise costs for both providers and suppliers.

The original five manufacturers who founded GHX wanted to maximize the amount of purchasing that was handled electronically. To achieve this, they wanted to create an exchange that would reward utilization. To this end, they believed charging transaction fees, which many of the early exchanges proposed, would create a disincentive for trading partners to increase the percentage of orders sent through an exchange.

That’s why we charge a fee for integrating to the exchange and annual subscription fees based on the services a member chooses to use and not how much volume they are sending through the exchange. That way the more a hospital or supplier uses GHX the greater the value we provide.

The founding manufacturers also felt that data privacy was essential, which many of the other companies at the time did not offer.

Further, rather than looking for a more traditional return on investment through profits or stock dividends, our owners realized that a successful exchange would help them save a significant amount of money by lowering their own supply chain costs. Imagine if you are a multibillion dollar manufacturer and you can reduce your own supply chain costs by just 1 percent, you are going to save considerably more than you are spending to support an exchange, particularly if those costs are spread across multiple owners and users. Those original manufacturers also understood that to lower their supply chain costs, they needed to help their customers – hospitals and other providers – lower theirs through improved efficiencies. For example, by improving product data quality on the provider end, suppliers can reduce costs associated with having to manually intervene when orders are sent with incorrect information. In other words, lowering costs in the healthcare supply chain requires providing benefits to all involved.

Finally, the founding manufacturers always envisioned an organization that would be owned by the entire supply chain, not just the sell side. The reasons are simple: With a more diverse ownership, the cost of ownership for any one organization decreases. This vision is the reason why, over the years, GHX has been able to diversify its ownership through various mergers, form strategic alliances with many GPOs and ERP vendors, and attract a large number of both providers and suppliers to become members of the exchange.

As I mentioned before, a lot has happened in the healthcare supply chain, and there are a number of reasons why this kind of merger was just not possible three years ago, even if both of our organizations saw the potential value to our companies, our members and our owners. First of all, our business models were considerably different, with GHX a private company and Neoforma publicly traded. Also, we were both focused on increasing the percentage of orders handled electronically, and as we both know, technology adoption in healthcare can be more time consuming than in other industries because of the nature of what we are all here to support – better patient care. We were also focused on building new supply chain services that would further increase value beyond just electronic connectivity and ordering.

I am pleased that both of our companies have been successful in these areas and now offer a wide variety of different but complementary product offerings, which can only increase the value of what the combined company can provide to the marketplace.

As I answered earlier and have mentioned many times over the years, GHX has always been interested in working with other organizations that share our same vision and goals. Exactly how we can work with like-minded organizations always depends on current market conditions. Early on, when GHX and Neoforma were focused primarily on exchange services, as compared to the variety of products we now offer, the best solution was a strategic alliance. A little over a year later, a merger between GHX and Medibuy made the most sense since we were both privately held companies. Today, for the reasons outlined in the merger announcement, an acquisition is considered the best option for all involved.

Gentry on the merger

GENTRY: Actually, VHA invested $20 million in Neoforma in 2001. UHC invested $5.5 million in Neoforma in 2001.

From the beginning, we’ve always said that the operational value members derive by using e-commerce will far outweigh the investment value. For example, in 2004, we documented nearly $100 million in value for 280 hospitals through their use of e-commerce. Even so, the $20 million we received through this deal has to be considered in combination with the value of the equity stake we have with GHX in order to properly measure the real value received.

In evaluating this deal, members also understand that they will now have access to a broader, deeper, more mature e-commerce service through the integration of Neoforma and GHX technologies and capabilities. Additionally, members receive assurance that their interests will be protected by VHA and UHC through their connections with GHX. Finally, members will have an ongoing benefit from the cost savings generated by the resource efficiencies of combining Neoforma with GHX.

Go back to the evaluation process we used in selecting our e-commerce partner. VHA, UHC and Novation evaluated more than 90 companies in our search for a suitable e-commerce partner. Not all of these companies were public companies. Potential profits from the stock market were not the most important factor in the ultimate decision; if it were, one of the other public companies might have been chosen. Neoforma was chosen because Novation, VHA and UHC thought it was the best fit for our organizations and goals. Any gains from the stock would have been considered an additional benefit. The chart that members paid more attention to in the beginning was one that tracked the fees we paid for e-commerce services against the savings generated over time.

E-commerce is and will continue to be a core component of VHA’s and UHC’s supply chain management services. Furthermore, we are committed to developing and delivering applications at a faster pace, providing these services at a lower overall cost and using an industry standard approach. The combination of GHX and Neoforma creates a Web-based supply chain portal that gives members the opportunity to link with more suppliers, and access better tools to help them manage supply chain data to make better purchasing and cost reductions decisions.

Novation, VHA and UHC remain committed to e-commerce and the power and efficiencies it provides to our hospitals. Exactly what products and brand names are going to be incorporated, and in what manner, by GHX after the close of the transaction, is still being determined and will be communicated after the close of the transaction. While the name Marketplace@Novation may change, the functionality and benefits are expected to continue. We believe the combination of GHX and Neoforma will provide our hospitals with the most compelling supply chain management tools in the market. The initial reaction from members has been extremely positive. Healthcare organizations want to optimize value and convenience, and the GHX offering will offer both.

GHX maintains a balanced approach in serving both suppliers and providers. The GHX Board and its Product Development Council have balanced representation from suppliers and providers, and VHA and UHC are represented on both.

We chose to work with Neoforma five years ago because it represented a better strategic alignment, and it enabled us to shape an e-commerce strategy that suited our members. Nevertheless, all the appropriate security and privacy safeguards are in place with the outsourcing arrangement with GHX.

GHX’s technology platform has matured, and it is now able to meet the performance standards that members require to maximize functionality and savings. GHX has been working successfully with other GPOs for some time, so we aren’t concerned about the issues you raised.

The real winners are our members, and we anticipate they will see this announcement as good news, demonstrated initially by the show of support by the member representatives on the VHA, UHC and Novation boards. With this merger, members have access to a broader, more sophisticated e-commerce platform that touches more suppliers and enables members to do more. Members are getting the best of both worlds.

Regarding the likelihood of members going their own way, it’s much more cost effective for hospitals to connect to one exchange that connects many suppliers, rather than establish and maintain separate EDI interfaces.

No, what we meant is that other vendors offer little more than EDI interfaces, which is why members will opt for GHX, which offers the most sophisticated e-commerce platform on the market based on the combination of the Neoforma and GHX. HPN