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Rather than invest in technology, more companies are outsourcing HR -- sometimes with one provider.
Lori Calabro, CFO Magazine
August 1, 2003
When Hughes Electronics Corp. began to outsource various human-resources functions several years ago, the goal was "cost avoidance, rather than a reduction in current costs," says Sandra L. Harrison, senior vice president for HR and administration.
The main cost the global communications company wanted to avoid with its "natural evolution" of HR outsourcing, as she calls it, was that of upgrading its legacy mainframe system to meet the growing HR service levels demanded by its 13,000 employees. Developing additional in-house administrative capabilities certainly wasn't the answer. And creating a new internal system "wasn't realistic." So a task force at the El Segundo, California, company conducted an eight-month study of options for both its DirecTV subsidiary and corporate headquarters — seeking a more "financially sound" HR process.
The choice soon came down to buying a product off the shelf or outsourcing, and ultimately the task force determined outsourcing to be significantly cheaper, says Harrison. Before long, Hughes began offloading its payroll, hiring procedures, compensation management, and other HR functions to Fidelity Employer Services Co. (FESCo), the unit of Boston-based Fidelity Investments that was already handling Hughes's 401(k), defined-benefit plan, and health and welfare administration. And recently, Harrison began talking to another subsidiary — Hughes Networks Systems — about joining the outsourcing network.
The advantages of outsourcing HR seem obvious to the company, a unit of General Motors Corp., which in April announced plans to sell its interest in Hughes to The News Corp. for $3.8 billion in cash and stock. For one, HR head count was drastically cut — in payroll's case, by 60 percent. That has freed remaining HR staffers for higher-priority tasks, says Harrison. And although productivity gains are hard to measure, she feels intuitively that the speedier HR data delivery allows "employees to be more focused" on their jobs.
Like Hughes, many companies are farming out more and more HR functions — and some are aggressively placing them with one provider through "end-to-end" outsourcing contracts. In the United States, in fact, HR ranks as the number-one outsourced business process among companies that outsource at least one function, according to Gartner. Meanwhile, 31 companies — including pioneers BP America and British Telecom — have signed end-to-end contracts totaling $11.2 billion and encompassing most of the more than 20 HR processes, according to Michel Janssen, president of the Supplier Solutions Practice at Dallas-based Everest Group, which advises companies on such deals.All Together Now
Neither Will nor Bandwidth
Given the newness of the market and the delicacy of employee relations, it is not surprising that most companies are taking the piecemeal approach to outsourcing HR. What's clear, however, is that by outsourcing even part of HR — at least transaction-based HR — companies see an opportunity "to manage their overall investment in HR, gain overall cost savings, and hold someone else accountable," says Bryan Doyle, head of Hewitt Associates's outsourcing services. And if industry watchers are right, those benefits may soon ignite a move to total HR outsourcing — a trend similar to the mass shift that occurred when companies first let IT functions migrate outside. "In the late 1980s, Eastman Kodak was the first company to outsource IT — to IBM," notes Mark Hodges, co-founder and chairman of EquaTerra Inc., a Houston outsourcing advisory firm. By 1992, some 30 companies had done it, he says, and now, less than 15 years later, IT outsourcing is considered standard fare. With HR, he adds, "we are just at the end of the early adopter stage, and are now entering the growth stage."
IT, in fact, is partly driving the latest outsourcing trend. No company wants heavier-than-necessary capital investment in its enterprise resource planning systems, notes Tony Martin, managing director of Mellon HR Solutions in Fort Lee, New Jersey. "Most companies are facing some big nut right now," he says, "and they are finding it tough to make that investment themselves." Given the current economic conditions and the upgrades companies have made to address Y2K, he adds, many "have neither the will nor the bandwidth" to deliver certain HR systems themselves.
Jay Hurst, manager of HR information systems at BASF Corp., the U.S. division of the German chemical giant, agrees. "Every two years, you have to upgrade your software," and besides the cost, he says, the process "puts you in freeze mode for six to nine months." Avoiding that disruption was a major reason the Mount Olive, New Jersey, division systematically began outsourcing HR functions to Mellon, starting with 401(k) administration and recently adding payroll.
In payroll, IT headaches had been compounded because BASF partly outsourced the function to ADP while keeping some of it internal through an HR software system. "That simply wasn't working for us," says Hurst. Discrepancies — sometimes 40,000 a year — occurred in trying to "keep two databases in sync," he says. Now, by implementing Mellon's technology and creating self-service dashboards for employees and managers, such errors have been eliminated.
Freedom to Consult
Outsourcers handle the IT investment problem by spreading costs over multiple clients. That's one reason spending on HR processes averages "80 to 85 percent of what it costs to do them internally," says FESCo president Peter Smail. Still, only 17 percent of CFOs report actually measuring the return on investment for an outsourcing project, according to Hewitt. And payback may take a while to realize — from 9 to 12 months, estimates Doyle. "It's not necessarily a quick hit," he says.
The quick hits that are realized are often head-count reductions. At BASF, for example, outsourcing contributed to shrinking the HR staff from 300 to 100. Yet that downsizing raises fresh questions: How should the newly thinned department be retooled? And what, if any, functions should be retained?
There does seem to be agreement on what HR processes should be kept. HR policy still must be set internally, for example. And comparing IT outsourcing with HR outsourcing goes only so far. "With IT outsourcing, you ended up with [on-call] contract employees," says Hughes's Harrison. That may work with technical problems, but in processes such as recruitment, where an outsourcer may have to hire and assign professionals remotely, "I don't know what value added that would have on a daily basis," she says.
In the end, says Mellon's Martin, certain areas of HR "are strictly between a manager and an employee." But without the burden of administrative processing, Harrison maintains that those managers have an "invaluable" opportunity to understand the business. Consequently, "companies need to carefully consider the HR department that remains," says Martin, "and retool it so that the members can contribute."
At BASF, for example, HR professionals who once spent 62 percent of their time on administrative processing are now working with business units on everything from acquisitions to career development, says Hurst. And at Hughes, senior staffers now play more of a consulting role, says Harrison. Dr. Pamela Hymel, vice president of benefits and medical services, for example, is currently working with employees, local employers, medical personnel, and insurers to eliminate absentee problems at a DirecTV call center in Boise, Idaho.
Ahead: A War for Talent
To hear the HR outsourcing consultants and providers tell it, Corporate America is about to experience a stunning market growth for HR outsourcing — especially the end-to-end kind. EquaTerra's Hodges, for example, expects 10 to 12 more megacontracts to be signed in 2004. (And mega they are: a Bank of America deal in 2000 with Irvine, California-based Exult was worth $1.1 billion.) Eventually, says Glenn Davidson, chief of marketing strategy for Accenture HR Services, companies on the sidelines will make the move simply because it will become "a competitive advantage."
Such potential, of course, is one reason why pioneers such as Exult, E-peopleserve, and PricewaterhouseCoopers have been joined by more than a dozen competitors in the past five years. It's also big business. Fidelity's employer-services unit contributes almost a third of its parent's $8.9 billion in annual revenue, for example, and Mellon Financial Corp. got $1.1 billion in 2002 revenue from its HR sector, out of a total of $4.2 billion.
If the prospect of outsourcing with one provider seems close to HR nirvana for potential clients, occasionally reality can set in. What if a disagreement arises with your provider about some aspect of the contract? While providers maintain that the initial contract can address such contingencies, Harrison calls that prospect "a little scary." Moreover, many of the providers are still struggling with integrating their own internal technology.
"In the end," says Hurst, "the supplier who can do the integration the fastest will win." And among its clients, it will be "the forward-looking companies that will retain the best people," says Doyle. Especially in "two to three years, when we are back in a war-for-talent mode."
The major HR functions companies outsource.
Source: Hewitt Associates