Where HRO has been challenged, FAO is blossoming. As one market becomes established -suffering the usual maladies of a maturing segment -the other sees potential for significant growth.
Having spent the last 12 years with a foot in both the HR and F&A worlds, I have been staggered by not only how different the issues and attitudes are among both sets of buyers but also the strategies they pursue. However, when we look at the current health and state of both industries, it is apparent that FAO is beginning to enjoy a high percentage of deal successes, vendors are finding the experience more clean-cut, contracts are more profitable, and the industry is becoming very attractive to investors.
The HRO industry has faced a bigger struggle. When dealing with a company-wide outsourcing initiative that affects the lives of all employees and managers across the whole organization, you are already fighting an uphill battle to win the hearts and minds of early buyers. HRO service providers have been battling intensely with each other to deliver immediate cost savings, improved employee care, and common HR standards that they can deploy across their existing and future customers. The results are wafer-thin (and some negative) profits, skeptical Wall Street analysts, and a tough sell to investors that HRO vendors need to invest in clients today to build leverageable delivery models for
Two delivery models are evolving to combat these growing pains: mega, global deals in which major outsourcers absorb the initial costs and offset them against other revenues, namely systems integration, application management, and consulting; and mid-market deals in which providers bring customers onto their pre-configured delivery models. Fig. 1 details how the HRO market is evolving into this dual model.
FAO, on the other hand, has experienced a very different growth path. Its growth has been slower in total dollar terms than HRO and is now reaching a rapid-growth phase. Fig. 2 details how it is set to outperform the HRO market this year, with an estimated 49 new multi-process FAO contracts expected.
The reality is stark: FAO buyers and suppliers simply don’t suffer from transitional and financial issues endured by the HRO industry due to a number of factors:
• Most Tier 1 FAO providers target both segments. In fact, 27 percent of recent deals have been with buyers in the $1 to $5 billion revenue category, dovetailed with a swathe of deals at the high-end. When we analyze these deals, we can see the “Big 4” of IBM, Accenture, Genpact, and ACS very active in both deal segments, with Cap Gemini, Xansa, and Progeon (Infosys) also very prominent.
• Barriers to entry are lower in FAO. The industry is witnessing a very level playing field across the established global outsourcers, upcoming Indian vendors, and specialists. Because FAO is more clean-cut, transactional, and easily quantifiable, it has opened the door for providers such as Tata Consultancy Services, Wipro, WNS, Progeon (Infosys), SourceNet (Mellon), and EXL to compete for global deals.
We are even seeing aggressive suppliers such as Karvy Global Services and Office Tiger (RR Donnelly) getting a seat at the table with some buyers. EDS also is entering the fray with its bold acquisition of Mphasis, which is surely being primed for an aggressive FAO move in the medium-term.
When we look at how HRO has evolved, it simply has been a survival of the biggest at the high-end, with a host of service providers who never got off the ground. Accenture is building critical mass with global deals, while making an astute mid-market play with Savista. IBM is sill in the game and hoping to build its global portfolio of clients in the coming months. ExcellerateHRO has finally revitalized its client portfolio with the recent Cardinal Health contract, and Convergys has stuck its neck out with its DuPont deal and other recent client wins. Hewitt is now under the microscope with its recent management upheavals due to operational issues with its HRO deals, and ADP is waiting in the wings to make some high-end plays. Many other providers who dipped their toes in the water and didn’t like the temperature have disappeared as quickly as they entered. Some still haven’t taken the plunge.
FAO is industry-specific, whereas HRO is a horizontal solution. When we look at the order-to-cash and procure-to-pay processes within buyers, they are typically unique to industry type. It is no coincidence that WNS, which was formerly the F&A services arm of British Airways, now has several travel industry clients using their F&A process offerings, underpinned by a technology platform.
Similar buyer adoption can be seen with Accenture’s client base in the energy sector, Cap Gemini’s in manufacturing, Progeon’s focus on high-tech/telecom, Genpact’s in financial services, ACS and IBM fixated on manufacturing and retail, and Perot’s in healthcare. The list goes on.
The key takeaway is that FAO service providers are building leverage points across their clients due to “like” processes and common standards. When you examine the future strategies of many of the FAO providers, it is often to move along industry value chains by partnership and acquisition, rather than buy out the nearest competitor for more market share.
HRO processes tend to be more unique to individual companies and are much harder with which to develop common standards. In areas such as recruitment and compensation, there are many common leverage points across similar organizations. However, these processes only form part of a much larger portfolio that includes payroll, benefits administration, and relocation, which tends to be more customizable offerings at the high end.
We see some areas of HRO—recruitment, for example—becoming standalone industries (RPO for example) as there are too many integration points within HRO for a single vendor to cope with. Bottom-line: where an HRO strategy typically involves more than 20 very unique processes difficult to integrate, FAO engagements typically involve mainly accounts receivable, accounts payable, and general ledger processes, which are much less complex to integrate, are more tied to the ERP, and more easily tailored to a specific industry. Moreover, we increasingly see payroll becoming built into FAO deal structures as it is typically tied to ERP process and tends to report into the finance function within most European organizations.
In the second part of this article, we examine the outlook of FAO and lessons that the HRO market can gain from it.
I would like to thank Bernstein Research for its contribution to the financial outlook in this article.