Special Report Mid-Market Outsourcing Moving Toward the Middle

By Michelle Rafter

Feb. 21, 2008

Are midmarket companies the new center of the HRO universe?

It’s true that the number of U.S. companies with 3,000 to 15,000 employees with multi-process HR outsourcing deals is still small, and activity at that level remains relatively uncharted.

However, company executives, industry analysts, deal makers, vendors and other observ- ers agree that a confluence of factors could drive the midmarket HRO business to new heights during 2008, outpacing activity at the troubled large-market level.

Here’s why: The cost of doing a midmarket multi-process HR outsourcing deal is dropping, as is the time vendors need to get outsourcing contracts up and running. Many midmarket companies appear willing to accept the standardized technology platforms midtier vendors are offering if it means they don’t have to take on the dual headaches of transforming processes and upgrading technology themselves.

At the same time, more vendors are targeting midmarket customers, and a couple—Ceridian and Northgate/Arinso—are receiving infusions of private equity funding for that purpose.

The list of vendors now includes some top-tier players who’ve dipped into the midmarket for customers while larger buyers hold off signing huge deals as they reassess outsourcing strategies.

The Human Resources Outsourcing Association is even getting into the act, forming a special interest group for midmarket companies to satisfy the demands of members who’ve felt underserved until now.

“I’ve seen it, I know it works,” says Lisa Knutson, the HR executive who’s chairing the HROA midmarket special interest group and who previously helped orchestrate a large-market outsourcing deal at Fifth Third Bank. “It can work for the middle market as well.”

But there are some clouds on the horizon.

For one, midmarket companies need to have a better handle on the internal processes that they want outsourced. At the midmarket level, “a good half of the RFPs that come out are garbage,” says one longtime industry insider who currently plays matchmaker between HRO clients and vendors and who asked not to be identified.

Second, because so little research has been done exclusively on midmarket deals, and because many deals are still so new, there’s little industrywide data on whether outsourcing is helping companies cut costs and transform their HR practices.

Also, some industry watchers believe growing interest in “software as a service” as a delivery method for HR applications could put a damper on the outsourcing business model. Others, though, maintain that in the long run, software as a service will complement rather than compete with outsourcing.

Finally, a substantial number of midmarket companies still want to simply “lift and shift” their existing HR processes to an outsourcer rather than convert to a standard platform. “They want the status quo and someone else to do it. I think that’s why we haven’t seen any huge breakout,” says Lisa Rowan, HR and talent management services program director at market researcher IDC.

Whether outsourcers can convince them lift and shift isn’t a viable outsourcing strategy “is the million-dollar question,” she says.

Midmarket Ramping Up
Whatever the future holds, there’s no denying that HRO activity at midmarket companies is increasing, thanks to lower costs and faster implementation times.

Since 2002, the average price of midmarket multi-
pro­cess HRO deals has declined 40 percent, to $600 per employee, according to Everest Research Institute, an HRO market researcher and consulting firm. That’s good news for buyers because it means suppliers are getting more efficient and can deliver at a better price point, says Everest Research vice president Monica Barron.

Implementation times are down too. ADP, for example, is implementing midmarket multi-process HRO contracts in four to six months, half the time it took two years ago, says Terrence McCrossan, ADP’s vice president of vertical markets. At Ceridian, implementation cycles have dropped 25 percent over the past couple years, to between six and nine months, says Keith Strodtman, senior vice president and HRO general manager.

As a result, more deals are getting done. ADP signed 30 multi-process HRO deals with midmarket U.S. and overseas companies in 2007, while Ceridian inked eight and Northgate/Arinso signed one. From the outsourcing industry’s inception in 2000 through mid-2007, the total number of midmarket deals for three or more HR processes rose to 102, compared with 105 total large-company deals, Everest’s Barron says.

Although top-tier deals still account for 86 percent of worldwide HRO contract values, midmarket contracts are being signed at a faster rate, she says.

Phil Fersht, a longtime HRO analyst who recently joined AMR Research and blogs about the industry at “The Outsourcing Blog,” puts the total value of midmarket contracts signed since the industry’s 2000 inception somewhere between $750 million and $1 billion. That’s just the deals people know about. Getting a true picture of midmarket HRO activity has been tricky because so few midmarket contracts are announced. “We all shake in our boots when so-and-so signs so-and-so and it’s a multinational, hundred-thousand [employee] company,” IDC’s Rowan says. “But when it’s a 10,000-employee company, they don’t announce it. It’s not as sexy, so it doesn’t get assessed.”

“We all shake in our boots when so-and-so signs so-and-so and it’s a multinational, hundred-thousand [employee] company. But when it’s a 10,000-emploee company, they don’t’ announce it. It’s not as sexy, sot it doesn’t get assessed.”
—Lisa Rownen, HR and talent management services
program director, IDC

Even when vendors are willing to talk, clients aren’t. After Ceridian publicly unveiled its new midmarket clients in 2007, customers like ACCO, an office products supplier, and Johns Manville, a building materials maker, declined to discuss details, saying they didn’t want to reveal data on internal company operations.

The vacuum created by such unwillingness to share experiences is one reason HROA member Knutson felt compelled to help start a midmarket special interest group for the association.

Knutson and representatives from 14 other association members have worked since summer 2007 to craft membership benefits, meeting dates, research project proposals and other goals. The group, which also includes HR executives at Catalina Restaurant Group and Teradata, plans to officially launch sometime in March and hold its first meeting at the HRO World conference in New York in April. A daylong seminar could follow in the fall, according to Knutson.

One of the group’s priorities is establishing standards for midmarket HRO service-level agreements and other benchmarks that haven’t existed before now, says Knutson, who is vice president of human resources operations at E.W. Scripps Co. in Cincinnati.

“Being able to do a survey like what [HROA] has done in the large-market buyers group to tell us about buyers’ experiences, how satisfied they are with outsourcing” would be beneficial, Knutson says. “We’ll get there eventually.”

Knutson has an ulterior motive. Scripps, a media company with 9,200 employees, is expected to split into two publicly traded entities this year, and is researching HR outsourcing options. “We’re hoping in the next couple months to make a decision and have some type of announcement,” Knutson says.

Vying for Market Share
When they start looking, companies like Scripps will find more vendors competing in the midmarket.

Front-runners such as ADP, Ceridian and Northgate/ Arinso are being joined by vendors like Accenture, Fidelity, Hewitt and IBM—companies that traditionally limited their efforts to large-company customers.

Those vendors are seeking the midmarket’s attention because their large-market customers are tapped out, IDC’s Rowan says. Large companies are shying away from big multi-process deals following the bad experiences of outsourcing pioneers who failed to garner expected cost savings or ran into implementation problems. As a result, some are switching vendors, renegotiating contracts or, in a few cases, taking HR back in-house, according to Rowan and other analysts.

That was the case with NiSource. In December 2007, the $7.5 billion Merrillville, Indiana, energy company said it was taking back in-house the HR functions it had originally outsourced to IBM in 2005 as part of a $1.6 billion multi-tower outsourcing deal.

But analysts question how successful Hewitt, IBM and other large-market vendors will be in the midmarket space. Vendors used to working with large-market customers that demand highly customized outsourcing packages might not be able to develop the type of one-to-many technology platform it takes to turn a profit on midmarket deals.

Plus, there’s not as much money to be made on smaller customers. “Salespeople who do large HRO deals don’t want to do small ones. They make their money on big ones,” says Mark Robinson, CEO of Emportal, an HR technology provider.

Some vendors have already pulled away from the multi-process business. Aon Consulting, for one, retreated from multi-process HRO deals after failing to make much progress. The company is now refocused on selling its core pension administration outsourcing services and is actively seeking partner- ships with other HRO suppliers, says Josh Trent, vice president of business development for Aon’s employee benefits outsourcing practice in Minneapolis.

“We know that we do some things better than anything else and we’ve decided to stay true to that,” Trent says.

By contrast, midmarket specialists Ceridian and Northgate/Arinso are poised to make substantial investments after going private. In November, Ceridian closed a $5.3 billion private equity deal with Thomas H. Lee Partners and Fidelity National Financial, a Jacksonville, Florida, insurance claims handler.

“Our mantra has been ‘business as usual,’ ” says Strodtman, Ceridian’s HRO general manager, who notes that growth in the company’s multi-process outsourcing business is outpacing the industry.

In mid-December, buyout firm Kolberg Kravis Roberts & Co. made a $1.1 billion offer for Northgate, which itself acquired Arinso in August 2007. The deal is expected to go through this year.

“It’s an excellent time to be privately held, where we have reliable access to significant financial resources to execute our plan without the sensitivity to quarterly earnings announcements and the volatility of today’s credit markets,” says Treat Hull, Northgate/Arinso’s vice president of marketing. According to Hull, the buyout gives the company, which is strong in Europe and Canada, more muscle to enter the U.S. HR outsourcing market, where it’s now “a well-kept secret.”

Outsourcing Meets Web 2.0
Other vendors continue to enter the market. Among the newest are companies seeking to become an alternative to pure outsourcers by offering technology through a software-as-a-service delivery model, where HR applications are maintained by the supplier and accessed by clients via the Web.

Some midmarket companies have shied away from outsourcing because they didn’t want to lose control over processes. Software as a service gives them another option because they don’t have to outsource and they don’t have to maintain an IT structure either, IDC’s Rowan says.

Aon, for one, has introduced an HR portal that integrates the company’s pension benefits administration services with HR technology from other partners in one Web-based front end. Whether employees are enrolling in their health plan, using online education tools or looking at internal job postings, the portal supports them all regardless of the supplier, “so employees don’t have to go to another site,” says Trent, the Aon business development executive.

Emportal, the Walnut Creek, California, startup, also uses software as a service to provide a single interface to merge separately outsourced HR processes. Robinson, the company’s CEO, wouldn’t name his first two clients, but he says one is a European company with 10,000 employees, including 3,000 in the U.S. for whom Emportal has begun providing HRMS, talent acquisition applications and benefits administration.

Robinson makes no bones about Emportal’s status compared with other HRO vendors. “Right now they view us as a flea on the dog,” he says. “At some point, I hope they view us as a friend, and I think sometimes it’s OK to compete with your friends.”

While some industry watchers believe software as a service will pose a threat to outsourcing down the road, others believe the two will complement each other.

Warnings of an upcoming recession give midmarket companies yet another reason to consider outsourcing. Companies that face economic pressures from a changing business climate or offshore competition are looking for ways to shave costs off their operations, and outsourcing can do that, analysts say.

So while oil and gas companies are so cash rich right now they don’t have to worry, companies in industries like manufacturing, chemicals and pharmaceuticals are on the hot seat.

“There’s not a major pharmaceutical company that’s not looking at this,” says Lowell Williams, executive director of HR advisory services at EquaTerra, the outsourcing consulting firm that works with large and midmarket companies.

Banks are in the same boat, Williams says. The subprime meltdown means banks are looking for radical ways to cut their costs, and “outsourcing is where you turn.”

With 2008 being a presidential election year, candidates will inevitably raise the issue of outsourced jobs moving offshore, but Williams doubts anything will come of it. “It happened four years ago, it’ll happen again, and it’ll come to nothing,” he says.

The potential for multi-process HR outsourcing at midmarket companies is wide open. Midmarket companies are starting to understand how outsourcing can help them transform their HR processes, upgrade to state-of-the-art technology and possibly weather economic downturns, according to analysts and other industry watchers.

The provider community is working hard to mature, and as a result there will be better vendors out there in the next three to five years.

Customers will mature too, says Naomi Bloom, an independent outsourcing consultant in Fort Myers, Florida, who works with vendors, software makers and end-user companies. “No one expects magic,” Bloom says. “We need this business model. It is important. It is going to make a difference.”

Workforce Management, February 18, 2008, p. 26-32Subscribe Now!

Michelle Rafter is a Workforce contributing editor.

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