According to the Centers for Medicare and Medicaid Services (cms.gov), national health spending is expected to grow at an average of 5.6 percent per year from 2016-25 and 4.7 percent per year on a per capita basis. The projected growth rates are 1.2 percentage points faster than Gross Domestic Product (GDP) per year over that same period. As a result, healthcare’s share of GDP is expected to rise from an already high 17.8 percent in 2015 to a staggering 19.9 percent by 2025.
This represents a very large part of the U.S. economy and arguably one of the strongest growth sectors. Add to this the fact that healthcare providers are actively seeking financing. A 2017 study by HealthcareFinanceNews.com found that 69% of providers report cash flow and reimbursement as their biggest challenge.
So, how well are community and mid-tier financial institutions servicing the working capital needs of the healthcare sector? Unfortunately, most are not – at least not in a meaningful way. In many of my recent visits with lenders, healthcare lending has been part of our discussion. However, in the vast majority of those conversations, healthcare loans are typically secured by real estate, equipment, or other tangible collateral.
The most valuable asset of the healthcare provider, their commercial billing receivables, are an afterthought or have some nominal advance rate applied to them for the purposes of the loan. This model isn’t the best for the lender or the healthcare provider.
Why does this happen? Lenders need to manage risk, and healthcare receivables are not fully understood by most lenders. They have discounts applied to them that may seem arbitrary to a lender, or at the very least based on unknown formulas. Uncertainty makes lenders (understandably) nervous and cautious.
In the eyes of the lender, this is not a typical receivable and therefore cannot be reliably valued by the lender for the purposes of a loan. At the same time, one of the primary challenges to healthcare providers is cash flow, so we have a lender/borrower disconnect that creates a challenge in meeting the needs of both interested parties.
Because of this disconnect, many healthcare providers are turning to non-regulated lenders to meet their cash flow needs. They’re using their commercial accounts receivable as collateral, paying higher than average interest rates, and leaving many regulated lenders out in the cold in one the largest and fastest growing sectors of the economy.
Another concern most lenders have is the concentration of account debtors in healthcare lending. These debtors are typically government payers or the largest private insurance payers in a market. Certainly there are some considerations when dealing with government payments such as Medicare or Medicaid, but these can be dealt with rather easily once lenders gain an understanding of the regulations pertaining to government paid healthcare claims.
As far as payments from private insurance are concerned, we have not seen much risk associated with private insurance companies. These players are typically rated by private entities as sound and secure and pose very little risk of default.
There is tremendous opportunity for financial institutions willing to lend to the healthcare industry despite the challenges. Some of the keys to successfully managing the mysterious risk of healthcare are:
- Use a technology partner that can properly value the healthcare receivable.
- Understand the nuances related to government healthcare payments.
- Understand when and what requires HIPAA and HiTech compliance.
- Make a good initial credit decision.
There are others, but these are the primary challenges the lenders have shared with me. There are not many segments of the economy that have and will continue to grow with strong borrowers and strong account payers like we see in healthcare. Now is prime time to move into this sector.