Enabling Technology

Payroll Outsourcing: An Evolving Market

Small organizations are more likely to outsource payroll, but larger firms are catching on.

by Lisa Rowan

Growth in spending for stand-alone payroll outsourcing—although less dramatic than growth in the overall HR BPO space—has remained steady in the 6-to-8 percent range in the U.S. It’s noteworthy, given the size and maturity of the market. IDC regularly surveys organizations that make HR outsourcing decisions, and the results of these studies show that payroll outsourcing inclination is changing. Read on to see how.

Automatic Data Processing (ADP) first institutionalized the automated payroll outsourcing process in 1949, shortly after the introduction of the ENIAC computer made it possible. Even prior to the emergence of automation, smaller companies often looked externally to third-party accountants to perform this function for them.

In the 1960s and 1970s when larger firms began investing in mainframes, they found themselves with the excess capacity needed to run their own transaction-heavy processes and sought to justify their hardware investments. The transaction processes they turned to were largely financial in nature and frequently included the company payroll. Pioneering software firms such as McCormack & Dodge and MSA made this possible by offering “packaged solutions” for general ledger, accounts payable and receivable, and payroll. Surprisingly enough, there are still such systems in place today, despite the fact that the originators of the software have been out of business for many years.

This sets the historical context for payroll transaction outsourcing adoption as it exists today. Despite the maturity and robust nature of the market, many larger firms still pursue a strategy of managing payroll in-house, harking back to their mainframe days. As client/server emerged and ERP solutions matured, they replaced the older systems. The result is that the propensity to outsource payroll continues to be tied to organization size. The smaller the firm, the more likely it is to outsource. This situation is not a surprise because smaller organizations have fewer IT resources than those at the higher end of the market.

The U.S. payroll market is dominated by three major players with a 44-percent share. In order, they are: ADP, Paychex, and Ceridian Employer Services. Florida-based CompuPay merged with Tennessee-based PayMaxx last July to become the fourth-largest payroll provider in the U.S. The rest of the market is shared by mostly small, regional players that cater to employers at the very local level. There continues to be market consolidation, as demonstrated by the CompuPay merger. Sage, formerly Best Software, entered the market in 2005 through its offer of payroll outsourcing based on the Abra platform, but we see few new nationwide entrants in an already mature market.

Although the propensity to outsource payroll declines for larger organizations, many of these same firms report that they are outsourcing some payroll processes. In this case, 38 percent of firms with more than 10,000 employees reported outsourcing payroll check and deposit advice printing and distribution even though only 21 percent of them claimed to outsource the payroll process itself. This is an indicator that larger organizations will outsource more of the payroll process over time and likely account for the larger payroll deals we see in the market. A 2005 IDC survey of HR executives underscores this conclusion: respondents from firms with 10,000 or more employees indicated an intention to outsource 24 percent of their payroll process during the next 12 months, up quite a bit from two years ago.

There are a number of alternatives to stand-alone payroll outsourcing as we know it today. First, companies may look to broaden the use of HRO. Market leaders are well positioned with HR BPO offerings at the ready. Secondly, newer delivery models such as software-as-a-service may have an effect on the market. Software-as-a-service has emerged as a popular delivery model in a number of other areas of HR, notably recruiting and applicant tracking. It will likely be more widely deployed in HR, with payroll being among the potentials for future adoption. Payroll outsourcing suppliers will need to take heed and position themselves with delivery flexibility as the future unfolds.

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