Human Resources Outsourcing: A Roadmap to Transformation

Now is the time to reassess HRO contracts

The next generation of human resources outsourcing (HRO) is upon us as the first long-term deals—those signed between 2001 and 2004—begin to expire. Nearly 50 contracts will terminate this year alone. Buyers might be tempted to take the easy option and renew their existing contracts. But the advantages of reassessing those contracts and reevaluating market capabilities are too big to ignore. Today's HRO providers have improved capabilities and new technologies that could bring cost savings of 35 percent or more. And they are hungry for deals.

Figure 1: More than $7 billion in HRO contracts are set to expire, but more buyers will renew with incumbents

Resistance to change is understandable when it comes to outsourcing contracts. After spending years getting accustomed to processes, the costs of switching suppliers and the hassle of a comprehensive sourcing exercise can seem like needless trouble. So it's little surprise that in the market for HRO—in which more than $7 billion worth of contracts will expire in the next three years—most buyers are choosing to renew with existing vendors rather than go through the time and trouble to find new ones (see figure 1).

This could be a big mistake. For, in the current market, the upside benefits of a competitive sourcing exercise cannot be ignored. Vendors have spent the past decade improving their offshore delivery teams and bringing down their costs. Our research finds that engaging in a competitive process rather than renewing existing deals can bring up to 35 percent in savings from offshoring, strategic sourcing, continuous improvements, self-serve and automation (see figure 2). For companies that have not yet outsourced, the savings could reach 50 percent or more.

In short: The opportunity is too big to pass up.

Why Now?

Several major developments have given buyers more options and leverage in the human resources outsourcing market.

Figure 2: HRO 2.0 could yield 35 percent in savings

Improved capabilities. Major acquisitions in the HRO market have allowed vendors to broaden their capabilities. Many business process outsourcing (BPO) leaders and best-of-breed niche players have invested (both organically and through acquisitions) in expanding their HRO portfolios, meaning a wider range of viable options. Hewitt improved its benefits capabilities after it was acquired by Aon in October 2010, while IBM improved its recruiting capabilities through lean-based delivery innovations and strategic partnerships with Manpower and Seven Step. Many niche players are gaining momentum in this space. However, the three biggest players still dominate the space—Aon Hewitt, NorthgateArinso and IBM combine for 45 percent of the total HRO market, and almost 60 percent of new contracts, because of their broader, multi-function offerings (see figure 3). For buyers, the time is right to cast a wide net for vendors (from multi-function to best-of-breed) and ensure access to the latest capabilities that will improve service and reduce costs.

Figure 3: Aon Hewitt, NorthgateArinso and IBM own 45 percent of market share—and 59 percent of new deals

"Second-generation HRO clients have an increased focus on transformation and innovation," says Alice Morrison, Partner, IBM Global Process Services. "One second-generation HRO client said it was looking for the 'Wow Factor.' Clients are taking this opportunity to improve the HR experience and make end-to-end processes more seamless, integrated and intuitive. For example, at a global airline, more than 30 percent of their employee questions now come through IBM's 'Click to Chat' portal capability."¹

Vendors are "hungry" so prices are negotiable. Providers are willing to bid aggressively for services, both to fill capacity and to forge new relationships. With investment and capacity outpacing recent growth, many vendors have dropped prices to draw customers. Several niche players have emerged in the HRO market—including SourceRight, PeopleScout, Ceridian and Sun Life—offering specialized, services and a more consultative approach. As a result, buyers now have access to a broader range of vendors, hence a greater opportunity to extract competitive pricing.

Better talent. Offshore delivery centers have matured and stabilized, and now feature best-in-class talent at costs as much as 35 percent lower than onshore locations. Six Sigma and continuous improvement programs are also reducing the number of manual and redundant processes. More HRO providers now have off-the-shelf self-serve and automated solutions that improve efficiency and reduce costs.

Reduced switching costs. HR information technology (IT) has advanced, with software as a service (SaaS) and cloud architecture reducing switching costs and improving the viability of IT solutions. For example, self-service HR options can lessen call-center volumes by up to 10 percent. It's simply much less expensive and easier to switch providers today than in the past.

Figure 4 offers a useful comparison of the major differences in HR outsourcing vendor capabilities and benefits over the past 10 years.

Going to Market

The conditions are ideal, yet "incumbent bias" is always strong when service contracts are up for renewal. Smart buyers will overcome their biases and address the major issues with their first-generation contracts, including:

Figure 4: The HRO market: capabilities and benefits have improved in the past decade

"Clean up" obsolete contract terms. Buyers have the upper hand when it comes to cleaning up years-old contract terms and ensuring the effectiveness of new contracts. They can match contracts with current market standards, refine key processes, identify new ways to streamline HR operations, and remove underperforming or obsolete services.

Take advantage of improved IT capabilities. Upgrading IT can be expensive and time-consuming. But vendors have improved their capabilities significantly and state-of-the-art HR IT systems are more efficient, user-friendly and flexible than ever. The competitive bidding process can help determine the future scope of HRO, compare the costs of ongoing maintenance with one-time implementation, and benchmark IT costs and technology trends among many providers.

Revamp service-level agreements (SLAs) and key performance indicators (KPIs). SLA and KPI values can be misleading when it comes to selecting HRO solutions. Achieving a level of service does not guarantee satisfaction, and scoring well in a KPI does not necessarily mean that long-term business objectives will be met. Phased SLAs, in which buyers and vendors hold regular review meetings to discuss time-based metrics such as continuous improvement, will ensure that all standards are being met with an eye toward business objectives.

Invest in governance. Despite a rigorous vendor selection exercise, many deals fail when buyers or vendors underestimate the complexity of moving to a next-generation solution. Both sides must work closely to create a solid transition process—including setting realistic timelines, preparing a business continuity plan, and establishing a strong change management structure—in order to avoid the last-minute surprises that so often hamper deadlines.

A Critical Juncture

It is clear that human resources outsourcing is at a critical juncture. As the first contracts expire, buyers have an opportunity to create new, more strategic and longer-term relationships with their vendors—and deliver better service, more capabilities and lower costs.

Authors

Christine Ahn is a partner and head of the firm's organization and transformation practice. She is based in the San Francisco office.

Jeffrey Postma is a principal in the organization and transformation practice. He is based in the Chicago office.

Amit Sachdev is a consultant in the New York office.

Yogesh Khadilkar is a consultant in the Chicago office.