Changes in Outsourcing Today May Impact HRO Tomorrow

Linda Merritt, HRO Research Analyst, NelsonHall

Being ever watchful on behalf of our HRO community, I periodically look beyond HRO into the larger outsourcing industry to see what emerging trends could impact HRO. Today’s perspective is from NelsonHall’s own Sarah Burnett and her Targeting the U.K. Central Government BPO Market report.

In HRO, pricing options beyond the ubiquitous per employee per year or month (PEPY or PEPM) have been pushed now and then by both clients and vendors. Under great cost reduction mandates, the central government sector in the U.K. is currently looking at alternative pricing options to ensure outsourcing delivers the required return while transferring more risk to the service provider.

 Traditional fixed pricing such as PEPY /PEPM is still the most common model for U.K central government contracts, but its use is slowly decreasing. Pricing based on fixed fees with an incentive for performance above requirements and delivery of planned enhancements is part of the mix, but it’s not really growing.

Two other models are increasing, although from small initial bases. The first is customer-usage pricing where the vendor directly charges the end users, whether internal or external, and actual usage must cover the vendors cost. This seems similar to the encroachment we are seeing in SaaS-based services. If you pay by the sip for the system, why not pay an associated by the sip fee for any surrounding BPO support? The usage fee may work well for discrete transactions like processing a drivers license application, but would not work as well for more complex HRO services.

The second is outcome-based pricing where the BPO service provider takes on more of the risk in creating business results. Fees would be fully or partially based on the vendor’s ability to increase the success of the associated program. In the U.K., the largest experiment is with the DWP’s Work Programme. The purpose is to increase the success rate of the welfare-to-work program using a network of private, public, and volunteer organizations. Over the first three years, guaranteed fees will decline and vendors will increasingly be paid for participants that get and sustain employment.

Some HRO vendors propose outcome-based pricing incentives themselves, but it is more difficult than it may look. HRO processes flow across organization lines in the client’s business and the service provider may not have enough direct control / authority or process scope to ensure improved business outcomes are due largely to its efforts.

Whether a client is in the public or the private sector, some trends will migrate from one type of client to another. Be ready to discuss pricing model alternatives and the pros and cons of each related to the HRO services being offered. Expect to see an increase in the variety of pricing elements in a contract as one all-encompassing price per participant may no longer best serve the needs of either providers or clients.

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HRO and the Total Cost of Ownership

A top question for buyers new to outsourcing is how much will we save?  A legitimate question and one that can be hard to answer. Many studies have been done over the years tracking the subject, often asking respondents to estimate the percent of savings. In other words, asking for their opinion. Not exactly what senior business leaders are looking for!

ADP sponsors PwC’s Total Cost of Ownership (TCO) Study and the 2011 results are in. The research covers the costs of payroll, workforce administration (HRIS), time and attendance, and health and welfare services and compares the cost of in-house managed services to clients that outsource to ADP. The 279 participants compiled a more complete picture of the following costs: systems (e.g., install, upgrade, and maintenance), direct and indirect labor, and direct non-labor (e.g., vendor fees, facilities, and other overheads), the cost of outsourcing was included for those using ADP.   

TCO for organizations managing the four services in-house, with no outsourcing, were $1,403 for larger employers (1k+ employees) and $1,953 for those with 100 to 1,000 employees.

Guess what? Outsourcing saves money. Average savings of outsourcing over in-house is 18%. Employers with more than 1,000 employees save more due to good old-fashioned economies of scale, up to 27%.

Outsourcing clients sometimes feel they do not reduce costs as much as pitched by the vendor or planned in the business case. The ADP-sponsored study also identifies success factors that help maximize TCO savings.

The findings put real data behind what we intuitively know:

• Adding self-service is basic to reducing cost for HR and time for employee users.
• Comprehensive process transformation is needed to realize full savings. It takes more than new technology; process redesign, governance, and standardization are also needed.

Another finding confirms what I have long suspected: using one vendor and one service platform (outsourced or even in-house) saves more than using multiple vendors and platforms. There is added cost to using multiple, even “best-of-breed” point solutions for payroll, workforce administration, and time and attendance.

• Average cost of outsourcing the three services to one vendor on a common platform was $910 per employee per year, compared to $1,020 (+18%) for managing in-house on a common platform and $1,202 (+32%) for managing in-house using multiple vendors and platforms.

To understand total costs look at the “seams,” places where interdependent processes and systems must be integrated, interfaced, up-dated, and even manually coordinated when using multiple platforms and vendors. The cost can be as high as $200 per employee per year.

HRO works and significantly reduces TCO, but it takes time and effort of both the vendor and the client to achieve maximum benefits. I’ll cover more on that topic next time.

Also, I have some good NelsonHall news. The 2011 Targeting MPHRO study has just been released by our HRO colleague Amy Gurchensky, see more information at www.nelson-hall.com.

Linda Merritt, Research Analyst, HRO, NelsonHall