Why HR Is Turning to Outsourcing

Outsourcing-having an outside vendor provide a service that you usually perform inhouse-isn’t exactly a new idea. For years, companies have contracted with outside firms to perform such functions as mail room, payroll, security, data processing and a myriad of other services.

Now, HR professionals are beginning to see-with increasing popularity-the benefits of having outside companies perform some of the functions for which they traditionally have been responsible. These include recruitment, benefits communication, benefits plan design, retirement services and HR recordkeeping services.

Even within HR, outsourcing isn’t all that new. For many years, certain HR functions have been outsourced by many companies, including temporary placement (temp agencies now even set up shop on-site), employee assistance programs, 401(k) plans, relocation, medical-claims processing, transaction processing and awards and incentives programs.

As companies demand that management constantly streamline the way the business operates, however, management is taking a closer look at how blending the services performed both inside and outside the organization can help contribute to the bottom line. In these evaluations, outsourcing has become one option on a larger menu of strategies. Some organizations are using it to re-engineer and streamline their HR departments and other functions to be more responsive to customer needs, both internally and externally.

Although outsourcing a function to a third-party vendor isn’t always the right solution, say some business analysts, HR professionals are finding that, in the right situations, they can improve efficiency, save money, help focus energy and resources or improve the quality of services through contracting with a vendor.

There are several reasons why outsourcing recently has increased in popularity. Such factors as corporate restructurings, downsizings and the sagging economy have contributed to many outsourcing decisions.

Bruce Pittneger, managing director of general management consulting for New York City-based Towers Perrin, offered this observation at a recent conference: “Restructuring will produce a Swiss-cheese organization: one that has a solid overall form, but is missing pieces.” Pittneger suggests that a company’s missing pieces increasingly will be found outside the organization as strategic business units buy services formerly provided by staff functions.

As the economy contracts, outsourcing will grow, explains The Trends Journal in a recent article. Faced with the high cost of payrolls and payroll taxes, health-care costs and other expenses associated with full-time workers, businesses increasingly will look to get work done through outside sources, the journal forecasts.

In the temporary-services area alone, outsourcing has become a way that companies can expand and contract their work forces without having the burden of keeping people on the permanent payroll. According to a survey titled The Olsten Forum on Human Resource Issues and Trends, sponsored by Westbury, New York-based The Olsten Corp., 18% (of those companies surveyed) currently outsource their entire flexible staffing departments to a third party.

“Outsourcing is a natural outgrowth of the temporary-services concept of balanced staffing, whereby a flexible ring of temps is added to a basic core of permanent employees on an as-needed basis,” says Edward Grant, CEO of Career Horizons, Inc., which is the parent company of Woodbury, New York-based TempForce, Inc. “Outsourcing is proving to be an effective cost saver in helping companies climb out of this recession.”

Is outsourcing just a fad? Or is it more than that? According to the 1993 Trend Forecast by The Trends Journal, outsourcing is tenth on a list of trends that are “in” this year, suggesting that next year it possibly could be “out.”

Outsourcing also is number ten on Rochester, Wisconsin-based Runzheimer International’s list of current industry trends. Although contracting with outside vendors isn’t a new phenomenon in relocation, the management consulting firm’s report notes that the practice now embraces the comprehensive administration of ongoing relocation programs in two areas:

• Supplementing corporate relocation staff with outside, contractual personnel
• Replacing in-house staff or departments with outside service providers.

Within the relocation area alone, more than 75% of companies offering relocation programs use a relocation firm for at least part of their corporate mobility needs, according to reports by Valhalla, New York-based Prudential Relocation Management.

It’s also pervading other business functions. According to recent research by New York City-based Coopers & Lybrand, which provides outsourcing services to clients in addition to consulting, 80% of Fortune 500 companies are expected to outsource some information technology processes by 1995.

Other experts suggest that outsourcing is more than a fad or a trend. Richard Dole, vice chairman for Coopers & Lybrand’s process-management area in Houston, says that outsourcing is a shift in the traditional business paradigm. “People are refocusing their core businesses and their core strategies,” says Dole. In the process, they’re asking themselves: What is my core business? How much time should I be spending on administrative tasks? Could I get more value from outsourcing to an outside vendor who probably could do it better and cheaper? Will outsourcing leave me more time for higher-level strategic planning?

Make sure that you have a good reason to outsource.
Experts suggest that any company considering outsourcing should first be clear about their short-and long-term goals. A study of “Employee Benefits Outsourcing,” completed by Towers Perrin in 1992, highlights reasons that companies choose to outsource:

1. Increased focus on core business: Companies want to spend their discretionary management time and energy on the business of their business.
2. Cost and quality: Companies assume that a consultant can do it better and more cheaply than it can do internally.
3. Access to improved technology: Companies with less-sophisticated automation capabilities have greater tendencies to outsource than companies with better technology and automation capabilities.

What’s another reason that HR is turning to outsourcing? HR department workloads are increasing, with literally no end in sight. According to the Olsten survey, more than eight out of 10 (83%) of the respondents stated that their workloads have increased over the past year, and a third report the increase as “substantial.”

Often, the increase in work has little to do with strategic planning. In a recent issue of HRM News, Reuben A. Larson, 3M Co.’s director of HR planning and systems, advises redesigning so that HR spends little or no time on advocacy or administrative duties. According to Larson, line management should take on the advocacy role, and all HR tasks should be examined for possible elimination, automation, restructuring or outsourcing.

Some naysayers warn against outsourcing, saying that it often promises more than it delivers. Outsourcing such functions as the mail room or payroll may work well, says one industry expert. But, he says, outsourcing core functions, especially within HR, could get companies into more problems than they’ve bargained for. They must consider what the legal, tax, legislative and procedural ramifications might be before making the decision to outsource.

Some view these as reasons not to outsource. Others see them as good reasons to make the switch to outsourcing services. With the growing complexity of legal and other issues faced by HR departments, especially those having reduced staffs, paying for and relying on an outside company to provide this kind of up-to-the-minute information can be the difference between being on top of the growing body of regulations and simply trying to hold onto its constantly wagging tail.

Companies need to be very sure about what they’re outsourcing and why, say the experts. Don’t just outsource because it’s popular or seems easier to do so. Some companies, for example, may outsource their temporary-services area simply to get out of being responsible for many of the regulations and legalities associated with hiring workers onto their payrolls.

This strategy may prove ineffective. Recently, in another type of situation, an employer with a self-insured medical plan recently lost its case against the third-party administrator whom it had hired to handle claims under the plan (Kyle Railway v. Pacific Administrative Services, 9th Circuit 1993). Kyle Railway asserted that the administrator had:

• Paid claims not covered by the plan
• Double-paid some claims submitted to the plan
• Failed to pay some claims on a timely basis as required by the plan.

The company lost its case. Ultimately, the organization was responsible for the inequities created by the vendor.

The government may even mandate that companies “insource” before they outsource. An arbitrator recently ruled that the U.S. Postal Service must offer some off-site mail-sorting positions to its own employees before contracting out jobs to private firms.

Others in HR see the benefit of outsourcing some activities, but aren’t convinced that everything should be given to an outside vendor. Although San Francisco-based Levi Strauss & Co. outsources its medical-claims processing and participant record keeping, it outsources few other HR activities on an ongoing basis.

The reasoning? “Nobody’s shown me an outside group that could provide these services like we do,” says Reese Smith, director of employee benefits. Because Levi Strauss has a strong service orientation, he’s wary of looking for outside vendors to provide benefits services to employees. Still in the questioning mode, Smith says that he’s currently considering the pros and cons of outsourcing other areas.

Smith isn’t alone. Many in HR are wondering what outsourcing can do for them. Others have moved beyond curiosity, actually outsourcing various functions. Here’s what some are doing and why.

Outsourcing can save time and help focus energy and resources.
According to a study recently released by Lincolnshire, Illinois-based Hewitt Associates titled Employer Experience in Outsourcing, time is the main reason that employers want to outsource (see chart). More than a third (37%) of those surveyed said that the time they’d save was their foremost consideration in making the decision to outsource benefit activity. Most said that an activity currently performed in-house was too time-consuming or that turnaround time was inadequate.

As the details and recordkeeping of HR have steadily increased over the years, many personnel professionals are interested in having those burdens lifted so that they once again can focus on their “core competencies.”

For example, about two years ago, Dayton, Ohio-based NCR Corp. made a decision to outsource portions of its pension administration-an area long considered too company-specific and too complicated to be handled effectively by an outside vendor.

“With approximately 13,000 retirees, 12,000 terminated vesteds, and 26,000 active employees in the U.S., we at corporate found our days virtually consumed by the need to service participants,” says Douglas M. Bartlett, Director of Employee Benefits, U.S., in a Hewitt report. “We’ve always maintained a high level of service, but with a limited corporate staff and increasingly complex administrative requirements, our resources were strained. We needed to find a way to administer our retirement plans and satisfy participant needs, without doing more internally.”

The solution for NCR was to mix inside and outside resources. Although it still maintains a corporate benefits staff and handles administration through local benefit organizations (LBOs) in various NCR locations across the U.S., the company added another feature. The NCR Service Center, which is now staffed by outside pension consultants, handles most of the day-to-day pension-related activities.

“Originally, the Service Center was intended to support our local benefit representatives only,” Judith E. Hamer, pension manager, explains in the Hewitt report. “As the relationships developed between the LBOs and the Service Center, it became more natural for the Service Center people to begin to deal directly with participant or third parties as a more efficient means of resolving situations.”

In the report, Bartlett adds: “We at corporate are in no way out of the process. But our time is spent differently today. We still get involved from the managerial perspective to resolve the material or unusual situation, but most of our time is devoted to the larger benefit and HR issues confronting an organization the size of NCR. We are able to focus on our primary mission, which is planning the future benefits of the corporation.”

Blending resources, such as in NCR’s solution, often are called strategic alliances. Outsourcing vendors can provide companies with the edge on business they need so that they can “do what they’re best at” rather than spending time, money and resources on processes that don’t contribute to the bottom line.

Companies also can outsource strategic functions, such as benefits planning, since outside vendors often can stay more up-to-date with current practices in those areas because it’s their primary business. Few companies can afford to hire full-time experts in every area of HR. Large outsourcing vendors can.

New York City-based Bankers Trust Co. outsources benefits administration, according to What’s Ahead in Personnel. For nearly two years, the nine people who used to handle these tasks have been employees not of Bankers Trust, but of Towers Perrin Forster & Crosby (TPF&C).

TPF&C is responsible for hiring, firing and supervision. Although Bankers intends to save money, that wasn’t the major reason for the change, according to Ellen Reynolds, VP of HR for Bankers Trust. The arrangement will cost more, but it will free her and other managers from day-to-day involvement in the personnel and administrative issues related to benefits.

Outsourcing can cut costs.
More often, as companies downsize, rightsize or simply economize, they need to watch their budgets to find areas to trim costs. The ever-present dictum is to do more with less. In some cases, HR now is being asked to make money.

“The whole idea of outsourcing done right is creating new career paths that are on the revenue side of the equation instead of on the cost side of the equation,” says Dole of Coopers & Lybrand. “What we almost become is a vehicle to transform a lot of the workplace from a cost-oriented mentality to a value-added mentality.”

Along these lines, Armonk, New York-based IBM outsourced its own HR staff functions by creating Workforce Solutions in 1992. Workforce Solutions sells HR services both internally to IBM and externally to other organizations. According to a May 10, 1993, article in Business Week, IBM claims that it’s now saving $45 million per year by spinning off its entire employee-benefits department into a separate company. It expects to become a profit center by 1994.

Another organization also found it helpful to completely outsource its HR function, including the strategic areas. The New York City-based advertising firm DDB Needham Worldwide has outsourced its entire HR function to People Management Inc. since January 1992.

What’s unique is that the New York City-based HR company is a spin-off of DDB Needham. “It spun us off, but it retains no ownership,” says Jud Saviskas, president of People Management, Inc. Saviskas formerly was DDB Needham’s HR director. When DDB Needham was going through a streamlining and downsizing process in 1991, Saviskas suggested that the company allow him and several members of the HR staff to become a completely autonomous company. The firm’s senior management agreed.

Now, in addition to its largest client, People Management Inc. has more than 10 other clients. The company does everything from employee relations to risk management.

According to Jerry Germain, CFO of DDB Needham Worldwide, the switch-over has been virtually wrinkle-free. “It has been extremely effective,” Germain says. “There has been a cost advantage, and frankly, that was a portion of the rationale for doing it in the first place.”

Carl Anderson, president of Doremus & Co., a small, New York City-based advertising agency, says that HR services cost less to outsource than to maintain an HR staff in-house. His firm buys its HR services from People Management. “Economics was one of the issues for making this decision,” says Anderson. He also now has access to expertise that he didn’t have in his former two-person HR staff. Anderson says that it saves his corporation time because it can identify HR problems sooner. He can do something about issues before they’re problems.

Relatively few companies outsource their entire HR functions. Others outsource bits and pieces, and still get cost savings. For example, a large telecommunications company saved $8 million, cut 48 jobs and increased employee involvement in its 401(k) plan by outsourcing its 401(k) plan to an outside vendor.

Using telephone-based interactive voice-response systems is another way to save money by cutting down on benefits staff time. One bank that uses a phone-based interactive voice-response system (maintained by an outside vendor) reduces its employee benefits staff and provides employees with better services.

On the recruitment side, Diedre Moire Corp., Inc., based in East Brunswick, New Jersey, lowers clients’ hiring costs in the following way. Where fees typically range from 25% to 35% of secured candidates’ salaries, outsourcing the recruitment function brings those costs down to 15% or lower.

There may be an initial cost outlay in terms of feasibility studies and start-up costs. However, costs over the long term often can be less than what an organization currently spends (adjusted for inflation).

Outsourcing improves efficiency.
Management is always looking for ways to improve systems and enhance the way in which business processes run. In the case of HR, an entire restructuring often may result.

At Dallas-based Frito-Lay, HR has been working on outsourcing as part of a general reengineering effort. In the process, it outsourced the work for several functions and “insourced” one other. According to Carl Nielson, manager of HRIS, some previous HR systems were old, cumbersome and complicated. “There were a lot of ways things could be improved at perhaps lower cost,” he says. “We focused it from there.”

HR currently has some work outsourced including accident reporting, preemployment test scoring and service and safety awards administration and is in the process of outsourcing the relocation function. It also insourced its benefits services department to the associate services (payroll) department. These changes, according to Nielson, have helped HR improve its efficiency and concentrate more on the mission of HR.

“We’re in a pilot environment for many of these efforts,” says Nielson. “As we learn more about each project and mature the processes, I have no doubt we will enjoy significant returns on our investment, but it is still early.”

Outsourcing improves quality.
According to the survey by Towers Perrin, HR department personnel who were surveyed indicate that their number-one criterion in choosing an outsourcing vendor is quality of service.

Quality of service was the primary reason that Lillian Gorman, vice president of HR at Los Angeles-based First Interstate Bancorp, says she outsourced her entire benefits function in early 1992.

In 1991, First Interstate went through a corporate restructuring. With 996 offices in 13 Western states, the company decided to centralize many of the functions that previously were duplicated. “We were wanting to turn into a company that had a common culture and common products and common policies,” says Gorman. “That had not really been very prevalent prior to this restructuring.”

HR was the first staff function to look inward to see how it could do things better and more cheaply. As a result, the HR team created an employee-services center in Phoenix, for all administrative tasks. The center employs 75 people, ranging from employee-relations specialists to employment representatives.

The team also created a central design function, or what it calls an R&D center for HR, in Los Angeles. This group originally consisted of 40 HR professionals.

“We didn’t outsource the administration side because we figured that as a bank, we have a lot of operating units and we already know how to do operating and processing fairly well,” Gorman explains. As she looked at the activities of the remaining R&D staff, it was clear that they also were spending the bulk of their time on administrative tasks. Gorman redesigned and again downsized the staff by about 40%, and sent most of the administrative tasks to the Phoenix group.

According to Gorman, when she looked at how little her team actually was doing in the area of benefits-plan design and what they were capable of doing, she discovered why they were not realizing their potential. “Because [benefits-plan design is] so technical and so fast-changing, and so determined by legislative and regulatory changes, it’s very difficult for inside resources to keep up with it,” says Gorman. Because she could afford to have only one expert in retirement or medical, for example, the team was spending a lot of time on compliance issues and little on proactive-planning issues.

“That was a very reactive way of taking care of a very large portfolio of money,” says Gorman. “So we stepped back at a high management level and took a look at whether the whole package was up-to-date, was cost-effectively designed, was in employees’ best interests and was delivering to what our culture would want-all of those strategic issues you have to ask about the whole package.”

Thinking that there must be a better way, she approached Towers Perrin, which had been taking care of the company’s 401(k) plan services. “We asked them if they’d consider outsourcing their brainware,” says Gorman. In early 1992, the vendor agreed to be the company’s benefits strategists on a retainer, rather than on a consulting, basis.

Gorman downsized her inside benefits staff further from eight people to one and outsourced the benefits function to Towers Perrin. “Why did I do it? To improve quality, primarily,” says Gorman. “But it had cost objectives as well. I wanted to make sure that we were spending the dollars we spend in the right places.”

Outsourcing also makes sense for Kathryn Devos, manager of employee services for Madison, New Jersey-based Schering-Plough Corp. She says that she outsources primarily to get better-quality service for employees.

She outsources three areas-relocation, awards and incentives and the EAP program. “I will outsource everything I can,” says Devos. For example, she outsourced relocation to an outside company that now comes on-site. One of the points on which she sold the idea to upper management was that employees were dealing with 17 different people during a relocation. “I couldn’t see the sense of it,” she says. Now employees have one point of contact.

“As things become more efficient, we have to be more efficient,” says Devos. “One of the best ways to do this, and one of the least expensive ways to do this, is to outsource.”

Although on the surface outsourcing may appear to put HR people out of a job, according to Devos, it really doesn’t. “There still has to be a corporate person involved in everything,” she says, and warns: “If you don’t do it, somebody’s going to do it for you.”