Can you outsource 70 per cent of HR?

Outsourcing champions say HR departments will shrink

After more than 30 years as a senior HR executive, Morty Moorthy is convinced that many HR departments could stand to outsource 70 per cent of what they do.

Only about 30 per cent of all work HR does is strategic, said Moorthy, who has worked at IBM, Bank of Montreal and most recently Ontario Power Generation where he just retired as vice-president of HR re-engineering and outsourcing.

The rest is transactional back-office tasks. HR needs to at least consider outsourcing that.

“The name of the game is doing more for less,” he said. HR has a lot of processes and it’s very difficult for in-house HR departments to complete them cost-effectively, relative to an outsource provider that exists only to deliver those processes efficiently.

Too often people in HR feel the transactional work they are doing is tied to HR’s strategic work. “They feel they are like Siamese twins and they should be connected,” he said. “But I don’t think so. It is just fear of the unknown” that stops HR from outsourcing, he said.

There will always be HR departments but in a much truncated version, he predicted. People who do the back-office work will be moved elsewhere. There is no good reason not to.

People are going to be negatively affected as they are shifted from an in-house HR department to an external service provider, but it is a bottom-line decision, he said. HR leaders have to do it; they just need to be compassionate with the people being moved around.

Until recently, most HR outsourcing was done in a piecemeal fashion: a payroll function here, a benefits administrator there.

In the past few years however, constant pressure for HR to be more cost effective while playing a more strategic role has pushed HR departments to look at further outsourcing. In a few instances, all HR administration responsibilities have been outsourced to one provider — often referred to as HR business process outsourcing. Most notably in Canada, BMO and the Canadian Imperial Bank of Commerce have gone this route, outsourcing half their HR functions.

But Monica Belcourt, author, academic and president of the Human Resources Professionals Association of Ontario, said while some organizations have benefited from outsourcing, she remains skeptical.

“I am wary of it,” she said. Belcourt has been studying the practice closely, having just written a new chapter on the topic for her new edition of Strategic Human Resources Planning slated for release next year. She said the evidence on outsourcing is not conclusive.

“The cost savings are not necessarily achieved and there is a high risk of hollowing out the organization and perhaps creating a negative impact on organizational culture,” she said. (Canadian HR Reporter talked with HR leaders in the Sept. 8 issue about HR outsourcing. It was clear that they too, though interested in outsourcing, are reluctant to go too far too fast. For more click on the "Related articles" link below.)

Cutting costs is the most common motivation for organizations that decide to outsource some part of HR.

The evidence gathered by Belcourt for her new chapter suggests that savings range from zero to 40 per cent. The average savings is 15 per cent and about one-half of organizations say they have met their cost-saving objectives.

However, about 40 per cent of organizations say they have ended up with higher costs than expected.

“People are finding it more expensive to manage the outsourcing arrangement than they expected,” said Belcourt.

“More than 30 per cent of outsourcing arrangements were not renewed because cost savings were not achieved.”

Other motivations for outsourcing reported by organizations include a desire to focus on core activities and access to the most modern technology.

Organizations are also motivated to improve HR service levels. “What they find is that service levels can be written into a contract more tightly and they can demand things that are very difficult to do with an embedded culture,” she said.

A number of potential flaws in the outsourcing model have emerged, she said. Even though service levels can be delivered exactly to contract specifications, HR service providers haven’t been able to respond well when the client organization needs to make changes.

Organizations should also be careful not to outsource something that the vendor could end up selling to competitors. Orientation programs, for example, are essential for holding on to new employees. Organizations need to ask themselves if they want to hand over an orientation program to an outsourcer if it means competitors could then buy the service from the outsourcer.

“A third risk is employee morale,” she said. “Outsourcing always results in displaced employees.”

Employees can be resentful of being treated like property, bought and sold from one organization to another. “When you make an outsourcing decision, you de-skill employees,” she said.

They were in a job where they could do more than one thing and have more opportunities for development. In an outsource arrangement, employees end up doing just one task.

Finally, outsourcing taken to an extreme risks hollowing out a company, leaving little more than a numbered shell, she said. It reduces the ability for organizational change and learning. It reduces the likelihood of innovation because there is less cross-functional interaction.

Some administrative work can be outsourced, but perhaps not all of it. “People kind of denigrate administrative work,” she said. But not all administrative work is unimportant.

“I think you need something in between administrative and strategic, something called critical,” she said. There are certain functions that may not be strategic but still important to the organization. Performance management, for example, may not be considered strategic, but there is no way it should be outsourced, she said.

Harry Feinberg, CEO of New Jersey-based Outsourcing Today, the company that publishes HRO Today magazine, first became convinced of the potential for HR outsourcing when he was running his own business that manufactured video tapes.

He wanted to spend more time on his core business, but instead he kept getting distracted by workforce management issues.

“I had about 70 employees and I was spending an inordinate amount of time on HR issues,” he said. “I would guess it was 15 or 20 per cent of my time.”

One day, Feinberg returned from a Hong Kong business trip to find his employees on strike in his parking lot. “So I fired them,” he said. He then signed on with a professional employer organization. PEOs effectively work as HR outsourcers for small businesses. The result was better, more efficient people management, cheaper health plan and new retirement investment options for employees — and fewer payroll headaches for Feinberg.

“That taught me about the benefits of outsourcing,” he said. In fact, he was so impressed, he started a magazine for the PEO industry in 1996, which was reborn in October 2002 as HRO Today, a magazine dedicated to HR outsourcing.

The magazine is just part of a media company dedicated to HR outsourcing. Aside from the magazine, HRO Europe is scheduled to launch in November. They run the HRO World conference and created the HRO association. Most of the roughly 1,000 members joined the association simply by subscribing to the magazine, but there is a formal board for the association and plans to introduce a membership fee. The group has also agreed in principle to work with New York University to create a certified professional outsourcer (CPO) designation.

Until now, HR business process outsourcing (BPO) was only an option for very large organizations, but at some point the mid-market organizations are going to be flooded with offers from HR service providers.

Many HR service providers have just put the finishing touches on packages and have only recently begun marketing them. HR departments shouldn’t be surprised by an increase in the number of vendors looking to sell them on the benefits of HR BPO in the next little while. “Certainly we see a lot more advertising…that is a very good sign,” he said.

“I think that the providers are several months, 12 or 18 months ahead of the buyers,” he said, adding in Europe and Canada, it may be 24 months before providers start finding willing buyers.

Feinberg is convinced that outsourcing is the way of the future for HR. He predicts as many as 50 per cent of all HR professionals could be working for outsourcers by 2007.

“I think what it means is that the paper-pushers go away and the strategic thinkers stay,” said Feinberg. “This is not about people in HR going jobless. It is about jobs shifting.”

As much as 50 per cent of all work HR does in-house is transactional or deals with the processing of paper. All of that should go to an outsourcer, he said. “That is just the dynamic of the way things are going. That might not be very tasteful to an in-house HR person, but to a CEO or chairman of a company it is very tasteful,” he said.

Peter Bendor-Samuel, CEO of Dallas-based outsource consulting company the Everest Group and author of Turning Lead Into Gold: The Demystification of Outsourcing, said due to government regulations, widely shared expectations about what employers need to give employees, as well as the emergence of a small number of HR technology providers, most organizations do HR exactly the same way.

“The process is largely the same in major organizations whether they are a railway or an airline or a bank,” he said. Because of that, there is little reason for them to keep it in-house.

He too believes it is inevitable that more organizations will go this route because it is cheaper to outsource HR. The savings can be in the range of 25 to 35 per cent, he said.

Any reluctance on the part of HR leaders exists at least in part because of the immaturity of the HR BPO market. “It is still very new,” he said.

By his count, there have only been 32 HR business process outsourcing deals worldwide. The CIBC and BMO deals were just the first of other deals likely to be announced in the near future, he added. “I’m pretty confident saying that there will be other large companies going this route in Canada.”

And while it seems like a strategy only available to large organizations it will become an increasingly tenable option for smaller firms as well. Right now outsourcing is only for organizations with 10,000 employees or more and (the average size has been about 62,000 employees). But that number will come down, he said.

Outsourcing makes a lot of people in HR nervous because they interpret a reduction in the number of people in the department as a reduction in power within the organization. He figures about 60 or 70 per cent of all HR work is transactional and could be outsourced. “I think that is why it is pretty threatening to the HR community,” he said.

However, he is confident many more organizations will go the HR business processing route. “I can imagine a world where 25 per cent of firms will move to this model,” he said.

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