As broad-scope offerings emerge and standardization becomes common, buyers and providers will find themselves on new ground as the market moves into an era of collaborative contracting.
Today’s HRO market offers companies of all sizes—traditional Global 1000 buyers, as well as the expansive mid-market sector—the opportunity to assess strategically how to source HR functions. Until now, the mid-market sector was left with disaggregated point solutions (e.g., separate payroll and benefits administration suppliers working independently) as its only option. With the continued evolution of the supplier landscape and the recent arrival of broad-scope and global, mid-market HRO solutions, 2008 offers HR executives a choice to retain an in-sourced strategy, to selectively buy a disaggregated point solution strategy, or to pursue an integrated, full-scale HR outsourcing strategy.
Mid-market HRO providers have emerged from a variety of backgrounds, as both industry giants and former niche players gravitate toward the mid-market customer. Companies such as Accenture, ACS, ADP, Excellerate HRO, and Hewitt & Associates have developed full-scope HRO offerings for mid-market companies, while benefits specialists such as Ceridian, Fidelity, and Mercer have expanded their offerings to service the full suite of HR process needs for the mid-market customer.
At the other end of the spectrum, small-company specialists such as Paychex, Gevity, SuccessFactors, and SumTotal continue to expand their offerings and customer base, as HRO becomes a viable course in mid-market company operations.
For HRO transactions in 2008, success will increasingly be defined by the efficiency of the sourcing strategy-to-signature phases of the project. Key elements for the growth and maturation of the mid-market HRO industry are service delivery and service management standardization. With a tighter focus on HR offerings that meets a mid-market customer’s price point, service standardization and increased speed-to-contract allow suppliers to gain greater economic efficiencies that will ultimately flow through to the customer and fund innovation.
These market developments can become a self-promoting cycle of improved service delivery at ever-lower costs. As the HRO market moves toward this model, success for customers and suppliers will be gauged by a transaction lifecycle reduction, increased speed-to-contract, adoption of standardized contract methodologies, resource utilization efficiency, adaptability of standardized service offerings and performance metrics, and service delivery efficiency.
Executing on the goals of standardized transaction methodology and service delivery, as well as shortened contracting lifecycles, will require a front-loading of sourcing activity. By investing more time and resources up front in defining the business requirements and objectives, customers will receive more accurate and committed proposals from suppliers. This boost in commercial data for customers and suppliers will help reduce wasted effort by eliminating providers that don’t match the requirements or lack cultural “fit,” thereby saving the effort of preliminary discussions and solution designs.
Ensuring more robust commercial data will also significantly shorten the contract negotiation phase. Historically, much of the commercial content was not mature at the time when negotiations with a selected supplier commenced. Broad teams of customer and supplier subject-matter experts were retained through contract negotiations so that they could analyze and fill in the gaps as they arose during the slow march to contract.
It was not uncommon for just the contract negotiation phase to extend to four to six months of dedicated effort at a significant cost to both sides. As more time passes and the level of investment increases, there is more risk to the transaction. The risk can manifest itself in the form of higher service cost, loss of customer employees needed to maintain the services, poor customer-supplier relationship, or even an aborted transaction. The provision of more robust commercial data to prospective suppliers early in the sourcing process allows the contracting phase to be managed down to a more reasonable four- to eight-week endeavor with significantly less risk (Fig. 1).
The Impact on Contracts
A significant advantage of the mid-market solution is the service-volume flexibility offered to customers. This means buyers can have more fluid consumption of outsourced services, matching price to consumption instead of buying fixed capacity independent of transaction volumes. To support this advantage, suppliers need consistent service offerings and management methodologies to help drive efficiencies and flexibility. Accordingly, customers should expect to face a flexibility trade-off: balancing an increase in volume flexibility with the need to sign up for standardized, industry-driven service offerings and contract terms (Fig. 2).
Core contract elements such as the service description, service level methodology, corresponding metrics (to a degree), fee models, benchmarking, and some elements of governance such as change orders will see increased standardization. This is necessary to allow the supplier to operate more efficiently in the mid-market world.
While mid-market HRO contracts will become more standardized than their large-scale HRO predecessors, it does not mean that customers will be required to forgo rational contractual protection or lose the ability to impose company-specific regulations or requirements. Each customer is still unique, and the outsourced services are still core to the function of the business, so unique contract terms and customization will still be available in appropriate situations.
What we can expect is more standardization of terms that are not unique to specific customers—those that drive how the suppliers deliver and manage services from within their environments. The avoidance of account-specific processes within the suppliers’ environments is critical to the success of the mid-market solution.
The development of new market offerings with greater standardization of solutions and terms will require a shift in focus away from cram-down contracting during the negotiation phase toward a more collaborative style with an emphasis on enabling the development of a functional, sustainable governance structure between the parties.
The notion of “collaborative contracting” seeks to move the contract phase squarely in line with the overall objectives of the customer and supplier, realigning the adversarial contracting phase with the more collaborative pre-negotiation phase. The entire sourcing effort up to the point of contracting is generally characterized as “collaborative,” with each side exchanging requirements and capabilities, issues, and solutions. Historically, the contracting phase marked a shift to a more aggressive style that’s geared toward win-lose outcomes.
That style and the associated outcomes are dangerous, potentially creating a relationship wedge between the parties and causing them to lose focus on the ultimate goal of service delivery and innovation. If providers are pinched too hard on meaningful contract terms, they end up managing the P&L aspect of the relationship rather than ensuring the highest levels of service delivery and innovation. Today’s market requires mutual respect and balance of commercial and legal positions that produce predictable and equitable contracts for customer and supplier alike.
Mid-market contracting will, therefore, require the abandonment of the traditional style of adversarial representation and instead engender a process that champions the transaction itself and not the individual contractual terms. As the HRO mid-market industry continues to mature, customers and suppliers should insist on contract models that support the selected service solution and are founded upon the core contract values of equity, accountability, and sustainability (Fig. 3).
A rational governance model is both an extension of the collaborative contracting approach and a necessary condition to a successful customer-supplier relationship. The collaborative nature of outsourced relationships does not stop after supplier selection and contract negotiation. Instead, collaboration is never more important than through the transition and service delivery phases of the relationship. Successful governance models are built on the elements of proper focus and balance, both designed to support the parties’ objectives.
The focus element is aimed at proactive issue identification, solutions, and management. Unsuccessful supplier management organizations are generally not focused and tend to be reactive, crisis-driven, and micromanagement-oriented. Having a proactive focus fosters open communication between the parties so that minor issues do not become major issues, allowing for prompt response to issues before they rise to crisis levels. It also provides a greater strategic direction and oversight, and proactive planning.
With focus must also come balance. A proactive focus can be undermined if the parties are not equitably sharing or balancing their roles and influence in the governance process. Much like the contract negotiations, proper governance balance empowers each party to be respectful and mindful of the other’s economic and legal imperatives as they jointly find win-win solutions to relationship and service delivery issues over the course of the contract term. Optimum contract balance requires management processes that are results-focused and hold the supplier accountable, but it also helps the two sides avoid micro-management, allowing performance issues to be addressed and resolved promptly (Fig. 4).
The age of broad-scope, mid-market HRO has arrived. As marketplace offerings continue to evolve, greater uptake will see increased standardization of solutions and contractual terms. Customers are advised that in the context of these standardized offerings, maximizing the benefit to the business of such transactions requires a shift in focus toward collaborative and sustainable governance structures.