Demand for HRO holds steady. Profitability for providers is now looking up as ITO and procurement outsourcing makes heady gains.
EquaTerra recently completed its second-quarter pulse surveys with those on the front lines of the BPO industry—its own global advisors and the industry’s service providers, and the results are surprising for the HRO market.
These quarterly surveys, which commenced in 2004, offer in-the-field insights into sector trends and projections. Each quarter, nearly 100 EquaTerra advisors and approximately 20 service providers answer our questions on the ITO and BPO markets on a proprietary and confidential basis. Here are the latest findings.
After five consecutive quarters, the moderate, sequential decline of outsourcing market demand has stopped. More than half (55 percent) of EquaTerra’s advisors cited demand as increasing (versus 40 percent in the previous quarter) as did 67 percent of service providers (versus 59 percent in the first quarter.)
ITO, HRO AND…PROCUREMENT?
Demand trends by process area shifted in the three months from April to June. Among advisors, demand for HRO slipped to third (marking the first time in six quarters that HRO wasn’t cited as the No. 1 process area), with ITO taking the leading slot and procurement BPO moving into second place. EquaTerra advisors’ citings on these three process areas were 28 percent for ITO, 25 percent for procurement, and 20 percent for HRO.
In contrast, among service providers, HRO remained the leading process area (cited by 53 percent), followed by FAO (24 percent), and procurement (12 percent). The disparity of rankings between EquaTerra advisors and service providers is a function of marketplace demand, the focus areas of the advisors, and service providers polled, and a slightly different ranking methodology required by advisors versus service providers.
EquaTerra advisors and service providers were in agreement, however, on which of the process areas within HR ranked the highest: payroll (79 percent of advisors; 64 percent of service providers), benefits (78 percent versus 43 percent) and HRIT (53 percent versus 71 percent).
Within FAO, the strongest process demand areas were accounts payable (96 percent advisors and 62 percent of service providers), accounts receivable/credit and collections (74 percent versus 62 percent), and general accounting (50 percent versus 46 percent).
Sales-cycle lengths vary significantly by deal, depending on process areas, clients, service providers, and whether sourcing advisors were involved. Sales cycles should not be confused with “time-to-contract,” which is defined as the period from the release of the RFP to actual contract signing. In the quarter, 26 percent of EquaTerra advisors (compared with 30 percent in the previous quarter) cited a lengthening sales cycle, and 64 percent of advisors said the cycles remained the same.
Most (94 percent) of the service providers polled saw the sales cycle remaining the same versus 65 percent in the previous quarter. Clearly, sales cycles have stabilized.
Both advisors (85 percent) and service providers (82 percent) cited India as the preferred multi-shore location. India was followed by Central/Eastern Europe (51 percent of advisors and 71 percent of service providers); the Philippines (51 percent versus 24 percent); and China (31 percent and 24 percent).
Outsourcing pricing in the second quarter was cited as “stable” by 63 percent of EquaTerra’s advisors, while 15 percent cited pricing as more favorable to service providers. This pricing environment has allowed service providers to be less reliant on dropping their prices to win business. This pricing equilibrium between buyer and provider is healthy for the industry as a whole.
CONTRACT PROFITABILITY AND ROIC
Modest restructuring of their BPO contracts by outsourcing providers has helped improve their contract profitability, as has more diligent pursuit selection and organizational restructurings. This quarter, service providers cited 47 percent of their contracts had “steady” profitability, versus only 35 percent in the previous quarter. In the latest quarter, 41 percent of service providers predicted their contract portfolios would reach profitability in 12 to 24 months, and 35 percent stated they would break even in fewer than 12 months. In addition, 88 percent of the service providers reported healthy return on invested capital (ROIC)—of between 10 -20 percent—in 2Q06 compared to only 73 percent in the previous quarter. Increasing market demand—coupled with improving profitability, stable sales cycles, favorable pricing, and tightening capacity—point to an attractive market environment for service providers in the coming quarters.