Special Report - HR Outsourcing - Back to Basics (Mar 09)

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Special Report: HR Outsourcing - Back to Basics (Mar 09)Once the king of the HRO mega-deal, Hewitt Associates is now doing business on a smaller scale,reflecting a broader industry shift. By Jessica Marquez

Jim Konieczny likes to refer to the mid-2000s as the "euphoric period" for HR business processoutsourcing.

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

"Everyone was talking about HR BPO and how big it was going to be and how great it was and that it wasworth 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 asproviders 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 processesback in-house while others struggled with implementation delays and rising costs. In 2007, it becameroutine to hear about HRO providers turning down prospective clients because they were too boggeddown with making existing contracts work, analysts say.

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

In the past couple years, Konieczny and his colleagues have been renegotiating contracts with buyersand fixing the business model of the deals. In fiscal 2006 and 2007, the companys HR outsourcingbusiness 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 toany big deal that comes its way. Instead, its being selective and looking to be the outsourcer for a morecore HRO offering that centers on benefits administration, workforce administration and payroll for NorthAmerica- and U.K.-based companies.

"We have learned that it is hard to be all things to all people," says Robyn Sweet, vice president ofmultiprocess HRO solutions. "When you are delivering 10, 11 or 12 processes, its hard to be great. "AndHewitts 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 werecertainly discussions about not takingall of these clients on, but we wanteddesperately for the [Exult] acquisitionto be successful. And they were great

clients with strong brand names."Robn Sweet, VP of mulitprocess

HRO solutions, Hewitt


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"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 hugeHR 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 JasonCorsello, 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 wrongEven in the months after the Exult acquisition, Hewitt executives knew there were problems with some ofthe deals being signed, Sweet says.

"There were certainly discussions about not taking all of these clients on, but we wanted desperately forthe 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, " hesays. "But when we looked at what we had, we found that we had a lot of deals that were like 31 differentflavors 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 providersessentially lifted the clients operations and people and shifted them to their own centers, was that theywerent 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 didnt know were supposed to be part of the contract. Thathappened with Hewitt, Wright says.

"There was obviously disappointmentabout the financial performance, but

the mind-set was always that we haveto 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 thatswhat HR used to do," he says.

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


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

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

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

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

"We found about eight to 10 agreements that if we couldnt fix them, it was time to fold the tent," he says.

But getting out of HR outsourcing wasnt really an option for Hewitt, because those clients also wereeither benefits clients or consulting clients, says Jay Rising, who joined Hewitt as president of its HRObusiness in May 2007.

"There was obviously disappointment about the financial performance, but the mind-set was always thatwe 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 companys contracts that had beenidentified 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, buyersunderstood 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, remembersKonieczny being frank about the companys position. International Paper signed a 10-year end-to-end HRoutsourcing deal with Exult in 2001. While the deal wasnt one of the problem contracts, Hewitt wanted tochange a few things.

"In many of those [early] deals. thebuyers 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 thatwere like 31 difference

flavors of ice cream, and they allneeded to get done."

Jim y, senior VP of mulitprocessHRO, Hewitt

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


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But Azzarello wasnt happy with the transitions progress. "They had a great project plan, but there was alack 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 forHewitt, 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 ofthe deals that we wanted to," he says. And even clients that Hewitt lost on the HR outsourcing side, suchas Wachovia, decided to keep their benefits administration with Hewitt.

Rebuilding a business

Today, Hewitts HR outsourcing contracts look very different from those signed during the "euphoricperiod," Konieczny says.

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

and goals," Konieczny says.

Hewitts overall HR outsourcing model is much more standardized than before, Sweet says. The days ofagreeing 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 servicelevel 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 Hewitts call center support to handle calls on a specific topic that is out of scope, Hewittcan add that into the contract.

The core Hewitt HRO offering centers on workforce administration, payroll, benefits and the customerservice and technology surrounding those functions. Hewitt will no longer offer full-scale recruitmentprocess 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 dealsinitiated out of the U.K. and North America," Wright says, noting that these companies may haveemployees in other locations. "That is the business model and scale that we feel we can deliver on."

While three years ago Hewitts approach was to sell the concept around an end-to-end HR outsourcingdeal, 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 dont need board approval. Its betterfor 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 Hewitts consulting would be part of the BPOoffering," says Azzarello of International Paper. "But that never happened. In fact they, like many of theproviders, drew clear lines in the sand between consulting and BPO instead of integrating them."


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That was never Hewitts 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 performancemanagement (through an arrangement with SuccessFactors) and change management are all part ofHewitts 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 ofbenefits 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 Im notgoing to sign 10 deals. Thats a capacity issue. If they came to me, I wouldnt do them."

Instead, Hewitt is selling BPO to existing clients to see if they want to add more processes, Wright says."Frankly, we arent seeing a lot of RFPs out there," he says, noting that he has seen fewer than 12requests for proposals in the past year.

But Hewitt has had recent success. Late last year, the company renewed its HR outsourcing contract withBPan Exult deal. In 2006, BP announced it wasnt going to renew the contract, but then reversed thatdecision. 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 ofJuly 2008, there were 22 large-market HR outsourcing deals, compared with 33 in July 2007, according toAMR Research. "Deals are getting done, but they are more transactional deals rather than the full-scopedeals we used to see," says Phil Fersht, an analyst with AMR Research.

Analysts dont think the days of the big HR outsourcing deal are dead; those contracts are just fewer andfar between.

"Single-process outsourcing deals are more attractive right now because there is an earlier payback interm 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 areoften 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 oncommon sensedeals that Hewitt says it wants to win. "The first deals were largely built on vision andaspiration because thats what pioneers do," Wright says. "Now we have a much more solid base. We areprobably in the teenage years of growing up."

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

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Special Report - HR Outsourcing - Back to Basics (Mar 09)