Factoring It Out

The brochures and Web site banners shout "speed cash flow" and "turn claims into cash." But what's really for sale? Often, these pitches come from so-called factoring companies that want to buy your accounts receivables.

Factoring companies are willing pay you cash up front in exchange for your A/R -- typically about 75 percent of its value. The factor keeps what it collects from your initial batch of accounts, and advances you money on new accounts as you send them -- but it will subtract from your advances its 25 percent cut, plus interest and fees on late or unpaid accounts. Most factors will accept only your most collectible A/R -- accounts that are less than 90 days old and owed to you by insurance companies, not patients.

Factoring offers you quick cash, but it comes at a steep price. After all, the factor is assuming the financial risk of collecting the A/R you couldn't. But for practices with questionable credit or dysfunctional billing operations, giving up 20 percent to 30 percent (or more) of the return on their most collectible claims in exchange for quick cash may be too tempting to pass up.

Who factors?

"Factoring is not an evil thing, yet I don't see a huge gain out of it for physician practices," says David Regan, vice president of physician practice services for Lehigh Valley Physician Business Services, a management services organization in northeastern Pennsylvania. "It makes more sense in a business where cash flow is very ebb and flow, up and down, and you need to smooth out the bumps."

In healthcare, factoring clients may include many temporary employment agencies, skilled nursing facilities, specialty clinics, or ancillary care providers. Sometimes new physicians starting their first practice use factoring for a year or two to get past the slow cash flow of a startup practice. Hospitals, where large outstanding account balances may go uncollected for months, may also want to sell their A/R to get cash sooner.

But those in the factoring industry say medical groups of all types are growing sources of new business.

"It's become more prevalent in the last five years, and not just for the cash-flow-challenged," says Fred Steinberg, executive vice president of Sun Capital HealthCare, a Boca Raton, Fla.-based factoring company.

"Physicians will use factoring for a variety of reasons," he says. "Sometimes, they are looking to grow their business, bring in some new equipment, finance a building, or some other growth."
Many practices turn to factoring as a short-term fix or quick fuel for growth. Most do not use it as a permanent financing source, says Joseph Spatola, president of Barclay and Associates, a Cherry Hill, N.J., company that brokers factoring deals.

"With some insurance companies taking 72 days to pay the physician, it isn't necessarily going to be someone in trouble who goes to factoring," Spatola explains. "It could be someone buying equipment or a new or fast-growing practice that needs some cash to support operations for a period of time."

Sometimes a physician will use factoring as he winds down his practice. But Paul Angotti, president of consulting firm Management Design, LLC in Monument, Colo., questions this idea, noting that the fixed costs of running a medical practice -- rent, utilities, insurance, etc. -- don't decline as the practice slows down. In fact, Angotti is wary of the whole idea of physician practices using factoring -- for any reason.

"Ultimately, the bigger problem is that the practice is not collecting what it should because of sloppy paperwork, undercoding, inefficient billing systems, outdated technology, and so on," Angotti says. "All those are things you can solve without selling accounts receivables at a discount."

How it works

If you decide to use factoring, expect the factor to ask for detailed information about your practice. Steinberg explains that a summary of aging accounts -- how much is due, from whom, and for how long -- will be the first report to review.

"Your practice management system can produce that in just a couple of minutes, and at that point we can determine if we want to move forward or not," he says. "As we move forward we'll have other requirements so we can figure the value of the accounts receivables to provide the necessary funding."

The factor will likely want to review your contracts with payers, and assess the stability of those payers. It may take four to six weeks to complete the entire application and approval process, he says.

"We need to know the value of what you actually have since we know you're not going to collect 100 percent of what you've charged," Steinberg says.

Expect a factor to either reject or substantially discount any A/R much older than 90 days. Payments owed by patients will also be tossed out of the deal by most factors. The average age of the remaining A/R helps determine the discount the factor will charge.

It also will help determine what percentage of A/R will be advanced for future claims, as well as the interest rate charged on funds you are advanced but which the factor has yet to collect.
Smaller customers may have to pay more -- or they might be left out altogether. Sun Capital's Steinberg explains that the company usually requires its healthcare customers to produce at least $100,000 a month in collectible claims. "That means they are probably billing closer to $200,000 a month, and I don't think a solo physician is going to be able to do that in most cases."

And that's the problem that factoring poses to some of the groups that might need it the most, says Dennis Mock, president of Medical Business Bureau in Park Ridge, Ill.

"Factors tend to buy receivables that are 90 days old or less, so most small groups don't have a large enough amount of quality receivables to sell that would be of interest to a factor," says Mock, whose company manages collections for hospitals and medical groups. "The people who tend to need this emergency cash the most and who don't feel they have any other options to borrow it elsewhere might not get very good deals in factoring."

What it costs

Like all businesses, factors balance risks against rewards. Factors expect you to reward them for taking on the risk of advancing you money for your A/R. The discounts and additional fees of a factoring deal can make getting that quick cash cost the equivalent of paying 20 percent or even 30 percent in interest.

Since collection percentages decline as accounts age, the factor will demand higher discounts on older claims. The discount - how much of each dollar in A/R the factor keeps -- isn't the only cost of factoring. Fees can include everything from application fees, credit checks, and even the wire charges the factor pays to transfer advances on your A/R into your bank account.

Factors may also insist that they have recourse -- that is, the ability to return to you accounts they can't collect. If you've already taken an advance for those uncollectible accounts, you'll owe the factor money; most likely, it will be taken out of your next advance. And you won't get a refund of the interest you've already paid on those uncollected funds. Factors that will take your A/R on a nonrecourse basis will likely charge a higher discount for taking the additional risk.

Since several types of publicly funded health insurance programs -- most notably Medicare and Medicaid -- forbid reassigning claims, the cost of maintaining a lockbox account at your local bank to handle those advances would be an additional cost of a factoring deal.

Why factor at all?

Factoring companies brag that they can get cash flowing into your practice's account much faster and with less paperwork than opening a new bank loan. Yet for all the paperwork, banks - whether through lines of credit or conventional loans - often provide the most favorable interest rates and loan financing arrangements available.

"Banks seem to almost throw money at physicians and most doctors should be able to get bank loans at 1.5 percent or so above prime," Angotti says.

In addition to conventional bank loans, physicians can seek asset-based financing -- loans against their A/R, both current and future. Asset-based loans differ from factoring in that the A/R serves as collateral but it remains the responsibility of the medical practice to collect it.

"If your accounts receivables are good enough for someone to come and buy, then why aren't they good enough for you to get a loan against them from a more conventional source?" asks Roccy DeFrancesco, an author, lawyer, and consultant who specializes in wealth management for physicians.

For physicians looking to make a big purchase, other alternatives to bank and asset-based financing include using the manufacturer to bankroll the purchase, or leasing it.

Financing companies are another source of cash. Although they may charge slightly higher interest than banks, the ones that specialize in loaning money to physicians may offer unique benefits. These options can include graduated loan payments or extended payment terms that better match your practice's needs and cash flow patterns, says Ray Dougherty, senior vice president of GE-HPSC, a part of GE Healthcare Financial Services, a financing firm for medical and dental practices.

"You can't just look at the interest rate; you have to look at all of the costs involved in doing the deal," Dougherty says. A bank with a tempting interest rate might also ask you to pay points, make a down payment, pay for the wire transfer of funds into your account, or for a credit check or lien search, he says.

Fix the problem

If an equipment purchase, facility expansion, or addition of a new physician can only be financed through factoring, maybe it's time to take a step back and look for the core problem.

"This is very, very expensive money," says Jacque Sokalov, MD, chairman of Sokalov, Sokalov & Burgess, a Scottsdale, Ariz., management and investment consulting firm. "The most likely candidates are those guys who can't collect money, aren't running things properly, or aren't billing properly."

Adds Angotti, "If physicians are too tapped out to get loans from their banks or a reputable finance company, then I'd say they have some other problems that the higher costs of factoring aren't going to help with."

Most payers remit claims within 60 days and Medicare claims are usually paid within 14 days if submitted electronically and without errors. In fact, for most groups the mean days that claims remain in A/R is 54, according to the Medical Group Management Association's 2003 Cost Survey.

Angotti recommends that physicians tackle the tough job of straightening out their billing processes and seeking other sources of funding before considering factoring.

Steinberg says he's not surprised when he hears criticisms of factoring, but defends the practice. "I think it's a question of its newness in healthcare," he says. "We deal with practices and hospitals -- some very large ones. Some consultants still have some catching up to do."

A practice that continually runs short of cash may have a deeper problem that no consultant can fix, says Mock: the physician may just be taking out too much money.

"It's my experience that in cases where there is always insufficient cash, the practice is simply spending more money than it could earn," he says. "Often, the real problem is that the physicians don't measure how much cash they should be getting."

Robert Redling, practice management editor for Physicians Practice, last wrote about productivity-based compensation in the July/August issue. He can be reached at rredling@physicianspractice.com.

This article originally appeared in the September 2004 issue of Physicians Practice.