SMB HCM Trends to Watch
SMB HCM: Driven by the unintended consequences of the ACA
Is the Affordable Care Act (ACA) a long overdue step toward universal health coverage, creeping socialism, a case study in U.S. governmental dysfunction, or all of the above? At TSCIU, our concern isn’t politics — it’s the market opportunity. Our analysis shows that U.S. businesses spend $385 billion on healthcare benefits each year, plus nearly $60 billion on administration and management. Employees pay another $50 billion in premiums and out-of-pocket costs. So what we have is a half-trillion-dollar market opportunity, governed by an imperfect law that stands to be neither amended nor repealed in the near future. Pardon the cynicism, but that sound you hear is an army of entrepreneurs, investors, lawyers, accountants, and consultants revving their engines to go get that candy.
The genie is out of the bottle. The impact of the ACA has already set in motion a tectonic shift in the American workforce that will have as significant an impact as the late 19th century shift from an agricultural economy to an industrial one or the rise of the Organization Man in the post-World War II economy. This change is bigger than how workers in the U.S. pay for and consume healthcare. Complying with the ACA will change how the U.S. works. At The Starr Conspiracy Intelligence Unit, we see these seven trends will have a significant impact on the direction and development of SMB HCM in the years to come, largely driven by the ACA but also by larger HR technology changes:
The rise of compliance as a service. Want to scare your local HR person? Ask them how their Form 1094 and 1095 compliance reporting is going. In 2016, ACA reporting requirements get real when mandatory reporting provisions require many employers to file annual returns with the IRS and provide annual statements to employees containing health plan coverage information. Failure to file the required informational returns (or filing incomplete or inaccurate forms) could result in both reporting and financial penalties. Right now, most employers are clueless about how to comply. One way we’re seeing HCM companies respond is by offering compliance as a stand-alone service that could make up almost one-quarter of the overall per-employee HR spend.
The evolution of the group health plan. Since 1945, employment has been the primary mechanism for U.S. workers to access health coverage. Typically, employers picked up 80 percent of the tab, and employees paid the other 20 percent through premiums and out-of-pocket costs. Also, a plan could count on a large cohort of healthy people or low-incidence users (roughly 80 percent of plan participants) to pay for the smaller cohort of injured, seriously ill, or high-incidence users (roughly 20 percent of plan participants).
Because of the ACA and 20 years of significant cost increases, employers now have an opportunity to move from defined benefit to defined contribution plans and shift more of the cost burden to employees, whether they continue to offer group health plans or push employees to private or public exchanges. Some of this is the looming “Cadillac tax” on health plans beginning in 2018 — a 40 percent excise tax on employee-only coverage greater than $10,200, or family coverage greater than $27,500. Some of it is simply because they have the opportunity. Regardless, the healthy younger cohort that has made the group health plan possible from an actuarial perspective will soon have financial incentives to opt in to much less expensive catastrophic coverage or opt out of coverage altogether and just pocket the money. Expect big changes to health plan structures over the next few years — first gradually, then suddenly.
Disintermediation of the benefits broker model. All of the talk over the past two years about ACA exchanges and Zenefits’ disruption of the benefits broker model tends to obscure the simple fact that brokers aren’t going anywhere. The broker model will be forced to evolve and the type of broker who depended more on relationships than expertise may go the way of the dinosaur. However, if anything, we see brokers and consultants becoming more important as the benefits environment becomes more complex and companies will need more expert advice to navigate the changes. Although some technology vendors will seek to supplement their business models by acquiring PEOs or becoming benefits agencies, we see a more likely path to success for SMB HCM technology vendors by scoring highly in the “plays well with others” category. Brokers and technology companies have a lot to benefit from working together. For example, voluntary benefits are generally an afterthought to many brokers and technology companies. However, voluntary benefits could become big moneymakers for brokers because these benefits are generally governed at the state level and not subject to the avalanche of ACA and ERISA requirements.
The growing contingent workforce. The ACA requirement for employers to offer health coverage to any employee who works more than 30 hours has led to vigorous workforce management initiatives to prevent the ranks of eligible employees from increasing and driving up costs. Already, somewhere between 25 and 33 percent of the U.S. workforce works on something other than a full-time basis. By 2020, that number will probably be between 40 and 50 percent. Encouraging collaboration and engagement among extended, distributed teams that include FTEs, part-time employees, and a rotating cast of contract and freelance resources will be as important — if not more important — for SMBs than even enterprise employers. One possible area of synthesis would be integrating SMB HCM platforms with established HR platforms for freelancers like Upwork (formerly Elance-oDesk) and emerging players such as Stride Health.
Security is a looming issue. With large troves of personal information such as social security numbers, benefits and payroll vendors are a natural target for hackers. This year alone, Anthem Health and BCBS California both suffered major security breaches. And the unfortunate fact is that most SaaS enterprise software providers come up woefully short in data security. According to research from Web security firm Skyhigh, across more than 10,000 cloud services available today, only 9.3 percent meet requirements of large enterprises for data protection.
Rebalancing the scales between technology and services. Are you a software company or are you a services company? It used to be you were one or the other. Today, technology vendors are being pushed by their buyers to be both. What’s the appropriate level of service? What will your business model bear? This an area where larger legacy vendors have an advantage over upstart competitors. There’s more experience and institutional knowledge in-house and more room (generally speaking) to fit in a higher level of consulting and maintain margin.
Blending of communication tools and functional tools. Not too long ago, the race in HR technology was to build out the end-to-end platform. Now, there’s the push toward “one desktop” — a holistic work experience. The thinking is that an HR system shouldn’t be somewhere you go. It should be a seamless part of your daily user experience as an employee. Then look at the rise of Slack and Evernote as enterprise software solutions. Buyers want employee collaboration, an elegant user experience, and functional HR solutions that reimagine the way work gets done, not just mimic an analog process. Expect the meeting to happen in the middle — along with an expanding idea of what constitutes “work” technology.
So what do these trends mean?
For HCM vendors, there’s a “crisi-tunity” at hand. The crisis part? You can’t assume that just because things were always one way that they will stay that way. The opportunity? If you ever wanted to grab market share (and who doesn’t?), now is the time to do it. Question everything. Look for opportunities to be bold, do things that are truly disruptive, and make those approaches key differentiators.
For HCM buyers, double down on due diligence. Oftentimes, brand is a proxy for due diligence. Hey, we’ve all bought a bottle of wine because it had a cool label. And generally speaking, companies with solid brands will have their act together on the product side as well. However, there is also a correlation between great brands and fast-growth companies, and an additional correlation between fast-growth companies and salespeople who will overpromise. Dig down and ask a next level of questions. Find out how they deliver on the things important to you and pay close attention to the future road map. Things in this market will change quickly.
For HCM investors, you’ve got to up your game. The good startups in this space know they are sitting on a goldmine. We’ve talked to more companies in this space that are bootstrapping longer or have no plans to take on investment capital. In this space, it’s possible to go it alone and see 100 percent year-over-year growth. If you want to play in this space, you are going to have to bring something else to the table besides a checkbook.