Special Report HR Outsourcing—Back to Basics

By Jessica Marquez

Mar. 27, 2009

J im Konieczny likes to refer to the mid-2000s as the “euphoric period” for HR busi­ness process outsourcing.

    In June 2004, Hewitt Associates acquired Irvine, California-based outsourcing company Exult for $690 million. Overnight, the Lincolnshire, Illinois-based consulting and benefits provider became the goliath of the fast-growing HR business process outsourcing market. Within months of the acquisition, Hewitt closed almost $1 billion in deals with 10 big-name companies, including Mar­riott, PepsiCo and Sun Microsystems.

    “Everyone was talking about HR BPO and how big it was going to be and how great it was and that it was worth jumping into

    right now,” says Konieczny, senior vice president of multiprocess HRO at Hewitt.

    But then it came time to implement the deals, and the mood within the market drastically changed as providers realized they might not be able to fulfill the duties required in the contracts they had signed.

    During the next three years, employers including Wachovia and NiSource brought their HR processes back in-house while others struggled with implementation delays and rising costs. In 2007, it became routine to hear about HRO pro­viders turning down pro­spective clients because they were too bogged down with making existing contracts work, analysts say.

    No company is more familiar with these challenges than Hew­itt. Once the industry leader, the company now places fifth in terms of market share behind IBM, Accenture, ACS and Convergys, according to AMR Research.

    In the past couple years, Konieczny and his colleagues have been renegotiating contracts with buyers and fixing the business model of the deals. In fiscal 2006 and 2007, the company’s HR outsourcing business saw total losses of $918.6 million.

    But today, Hewitt is back in business, albeit on a smaller scale. No longer is the company saying yes to any big deal that comes its way. Instead, it’s being selective and looking to be the outsourcer for a more core HRO offering that centers on benefits administration, workforce administration and payroll for North America- and U.K.-based companies.

    “We have learned that it is hard to be all things to all people,” says Robyn Sweet, vice president of multiprocess HRO solutions. “When you are delivering 10, 11 or 12 processes, it’s hard to be great.”

    And Hewitt’s back-to-basics approach to HR outsourcing may very well be the new face of the industry, experts say.

“We have learned that it is hard to be all things to all people. … There were certainly discussions about not taking all of these clients on, but we wanted desperately for the [Exult] acquisition to be successful. And they were great clients with strong brand names.”
—Robn Sweet, VP of mulitprocess HRO solutions, Hewitt

    “The days of the business transformation outsourcing deal are probably dead,” says Neil McEwen, managing consultant at PA Consulting. “No one has the time to go through that whole effort.”

    That means buyers are looking to outsource one or two HR processes at a time rather than sign a huge HR outsourcing deal that involves 10 processes to one provider, he says.

    For Hewitt and other pro­viders, the fact that buyers are more cautious could be a good thing, says Jason Corsello, a vice president at consulting firm Knowledge Infusion.

    “Hewitt shot to the moon and had a very hard fall back to reality,” Corsello says. “Now the question is, where do they go from here?”

What went wrong
    Even in the months after the Exult acquisition, Hewitt executives knew there were problems with some of the deals being signed, Sweet says.

    “There were certainly discussions about not taking all of these clients on, but we wanted desperately for the acquisition to be successful. And they were great clients with strong brand names,” she says.

    So Hewitt said yes to everyone, resulting in multiple deals that required various levels of customization, Konieczny says.

    “In many of those deals, the buyers were saying, ‘This is what we need; you guys build it like this,’ ” he says. “But when we looked at what we had, we found that we had a lot of deals that were like 31 different flavors of ice cream, and they all needed to get done.”

    The major problems with the early deals, which are known as “lift and shift” because the providers essentially lifted the client’s operations and people and shifted them to their own centers, was that they weren’t scalable, says Mike Wright, senior vice president of HRO sales and marketing at Hewitt.

    On top of that, the language in many of the contracts often was vague, meaning that providers would find themselves in charge of duties that they didn’t know were supposed to be part of the contract. That happened with Hewitt, Wright says.

“There was obviously disappointment about the financial performance, but the mind-set was always that we have to fix this. It was too intertwined with our other businesses.”
—Jay Rising, president of HRO, Hewitt

    One issue with the early HR outsourcing contracts was sweep clauses, which essentially said the providers would be in charge of “all other things” included in the HR role, Wright says.

    “Those ‘all other’ provisions became things like planning birthday parties for executives, because that’s what HR used to do,” he says.

    Vague contract language and sweep clauses were a problem that ended up plaguing all providers, says Lowell Wil­liams, executive director, human resources advisory services at Equa­Terra, a Houston-based sourcing advisor.

    “Some of those clauses went way off track,” he says. “Usually when you hear people talk about them, the discussion is preceded by some profanity.”

    By the summer of 2006, it was clear to Hewitt executives that they had a problem. That June, the company announced that Bryan Doyle, president of the HRO business, was leaving and CEO Dale Gifford was retiring.

    By August, the company announced a third-quarter net loss of $202.2 million, or $1.88 diluted loss per share, compared with net income of $33 million, or 31 cents per diluted share, a year earlier. This loss included a $249 million pretax noncash charge related to the company’s HRO business. That charge included a $70 million loss provision based on the expectation that one-third of its 2005 contracts and two earlier contracts would lose money.

    It was then that Konieczny, who at the time was Hewitt’s HR outsourcing operations leader, took over the multiprocess HRO division to help fix it. First on his list was to figure out which contracts were in the most trouble and see if they could be salvaged.

    “We found about eight to 10 agreements that if we couldn’t fix them, it was time to fold the tent,” he says.

    But getting out of HR outsourcing wasn’t really an option for Hewitt, because those clients also were either benefits clients or consulting clients, says Jay Rising, who joined Hew­itt as president of its HRO business in May 2007.

    “There was obviously disappointment about the financial performance, but the mind-set was always that we have to fix this,” he says. “It was too intertwined with our other businesses.”

    Starting in late 2006, Konieczny set out to renegotiate one-third of the company’s contracts that had been identified as the biggest problems for the firm.

    “I would basically go in and say, ‘This thing needs a tourniquet,’ ” he says. For the most part, buyers understood the depth of the troubles and were willing to renegotiate contracts.

    Mark Azzarello, who at the time was director of HRO operations at International Paper, remembers Konieczny being frank about the company’s position. International Paper signed a 10-year end-to-end HR outsourcing deal with Exult in 2001. While the deal wasn’t one of the problem contracts, Hewitt wanted to change a few things.

“In many of those [early] deals. the buyers ere saying, ‘This is what we need; you guys build it like this.’
But when we looked at what we had, we found that we had a lot of deals that were like 31 difference
flavors of ice cream, and they all needed to get done.”
—Jim y, senior VP of mulitprocess HRO, Hewitt

    Under the initial agreement, Hewitt agreed to maintain International Paper’s service center in Memphis, Tennessee. But when Hewitt started having issues, it asked International Paper if it could consolidate operations into its center in Houston.

    But Azzarello wasn’t happy with the transition’s progress. “They had a great project plan, but there was a lack of execution,” he says. “They addressed our concerns, but not without a lot of involvement from us.”

    Renegotiating and fixing problem contracts while continuing with day-to-day business was a challenge for
Hewitt, Wright says. And the timetable was tight. “We were taking huge write-downs,” Konieczny says. For fiscal 2006, Hewitt reported a net loss of $115.8 million, which included $264 million in charges related to the HR outsourcing business.

    By April 2007, Konieczny had renegotiated the majority of deals that needed to be fixed. “We kept all of the deals that we wanted to,” he says. And even clients that Hewitt lost on the HR outsourcing side, such as Wachovia, decided to keep their benefits administration with Hewitt.

Rebuilding a business
    Today, Hewitt’s HR outsourcing contracts look very different from those signed during the “euphoric period,” Konieczny says.

    For one, the company has metrics in place it checks on a monthly basis, he says. “For example, we check our implementation costs monthly and make sure that [they track] it tracks against the deal model and goals,” Konieczny says.

    Hewitt’s overall HR outsourcing model is much more standardized than before, Sweet says. The days of agreeing to do everything a buyer might want are over.

    “Right now we are more focused on selling upfront a standard scope of services with standard service level agreements and standard HR technology,” she says.

    Yet Hewitt still offers customization to clients, Sweet says. “It just means that we will price it in,” she says.

    If clients want Hewitt’s call center support to handle calls on a specific topic that is out of scope, Hewitt can add that into the contract.

    The core Hewitt HRO offering centers on workforce administration, payroll, benefits and the customer service and technology surrounding those functions. Hewitt will no longer offer full-scale recruitment process outsourcing, but it will provide some back-end administrative services that support recruiting, Sweet says.

    And Hewitt is focusing on prospects that are based in English-speaking regions. “We are looking for deals initiated out of the U.K. and North America,” Wright says, noting that these companies may have employees in other locations. “That is the business model and scale that we feel we can deliver on.”

    While three years ago Hewitt’s approach was to sell the concept around an end-to-end HR outsourcing deal, today the company is more focused on one or two processes at a time.

    “It is so much easier to do one process at a time,” Rising says. “You don’t need board approval. It’s better for everyone in this environment.”

    Hewitt also has further integrated its consulting services into its BPO offering, a move clients welcome.

    “When Hewitt and Exult merged, we anticipated that Hewitt’s consulting would be part of the BPO offering,” says Azzarello of International Paper. “But that never happened. In fact they, like many of the providers, drew clear lines in the sand between consulting and BPO instead of integrating them.”

    That was never Hewitt’s intention, Wright says. But integrating consulting expertise can be challenging, and
Hewitt was busy fixing its financials, he says. Today, consulting on issues such as performance management (through an arrangement with SuccessFactors) and change management are all part of Hewitt’s HRO offering.

    “This will now be our offering out of the gate,” Wright says.

Looking forward
    Despite a widespread belief among analysts that Hewitt is going to go back to its core business of benefits administration, executives insist they are going after new HR outsourcing deals.

    “This is a $600 million book of business; of course we are in this business,” Konieczny says. “But I’m not going to sign 10 deals. That’s a capacity issue. If they came to me, I wouldn’t do them.”

    Instead, Hewitt is selling BPO to existing clients to see if they want to add more processes, Wright says. “Frankly, we aren’t seeing a lot of RFPs out there,” he says, noting that he has seen fewer than 12 requests for proposals in the past year.

    But Hewitt has had recent success. Late last year, the company renewed its HR outsourcing contract with BP—an Exult deal. In 2006, BP announced it wasn’t going to renew the contract, but then reversed that decision. Sources say, however, that the agreement is scaled down from the original end-to-end contract. Hewitt also expects to sign one or two more deals in the next several months.

    While the market has slowed from the frenetic pace of four years ago, there are deals happening. As of July 2008, there were 22 large-market HR outsourcing deals, compared with 33 in July 2007, according to AMR Research. “Deals are getting done, but they are more transactional deals rather than the full-scope deals we used to see,” says Phil Fersht, an analyst with AMR Research.

    Analysts don’t think the days of the big HR outsourcing deal are dead; those contracts are just fewer and far between.

    “Single-process outsourcing deals are more attractive right now because there is an earlier payback in term of cost savings,” says Helen Neale, an analyst in the London office of sourcing advisor NelsonHall.

    The current economic crisis has buyers much more focused on the bottom line, and that means CFOs are often involved in discussions about HR outsourcing, Rising says.

    For Hewitt, the end of the euphoric era for HR outsourcing means that deals today are centered on common sense—deals that Hewitt says it wants to win.

    “The first deals were largely built on vision and aspiration because that’s what pioneers do,” Wright says. “Now we have a much more solid base. We are probably in the teenage years of growing up.”

Workforce Management, March 16, 2009, p. 1, 14-19Subscribe Now!

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