Merger to Create Medical Testing Giant : Health: La Jolla-based National Health Laboratories has agreed to buy Damon Corp. in a $257-million deal.

La Jolla-based National Health Laboratories said Monday that it has reached agreement to buy a smaller Massachusetts-based medical testing company in a $257-million deal that would create the nation’s second-largest medical laboratories firm.

The acquisition of Damon Corp. of Needham Heights, Mass., would also allow National Health to cut costs and strengthen its position in a medical testing industry that is rapidly consolidating, analysts said.

“The consolidation of the laboratory industry has been accelerating over the last two years,” said C. Fred Toney, an analyst with Pacific Growth Equities who follows both companies. “The game here is to spread your fixed costs, which are relatively high.”

In acquiring Damon, National Health increases its geographical reach. It currently has 16 laboratories that serve 42 states. Damon has 13 facilities, including laboratories in Los Angeles, San Francisco, Chicago and Boston, where National Health offers testing but does not have labs.

National Health spokesman Gary Holmes said the company may close some laboratories where the two companies overlap, particularly in New York, Michigan and Florida .

Officials of both companies said they do not know yet how many of Damon’s 4,000 employees or National Health’s 7,000 workers might be affected by layoffs. “That’s an issue (the companies) will be studying together, but it’s a bit premature to define how that will exactly happen,” said Lissa Perlman, a Damon spokeswoman.

The combined company would have had 1992 revenue of more than $1 billion and would have been second in the clinical testing industry in the United States to SmithKline Beecham. National Health had revenue of $721 million, and Damon’s revenue was $317 million.

The combined company would face several challenges because of efforts to control health care costs and because of their reliance on Medicare and Medicaid business, analysts said.

Holmes said smaller companies have had difficulties because of cuts in Medicare and Medicaid.

Although National Health derives about 40% of its revenue from Medicare and Medicaid, and Damon realizes about 30% of revenue from the government-financed programs, company officials said they believe the merger would help them cope better with the cutbacks.

Once the consolidation takes place, National Health should have strong earnings in a growing industry, Toney said.

“There will be some pain in the consolidation,” Toney said, but “they’re well-positioned to be a low-cost producer.”

The clinical testing industry shows several signs of expansion, particularly with the emergence of new tests for cancer, the AIDS virus, hepatitis and cholesterol levels, Toney said.

In the last two years alone, prostate cancer testing went from a nonexistent business to a $200-million industry, he said.

In addition, a focus on preventive health care and changing demographics is driving the clinical lab industry.

“As the population continues to get older, the demographics will be driving the business,” Toney said.

“The more efficient providers are buying less-efficient providers,” he said.

In New York Stock Exchange composite trading Monday, National Health closed at $17.625. down 25 cents. However, in Big Board trading, Damon shares rose $1.75 to close at $15.625.