Outsourcing agreements continue decade-long acceleration

Downsizing is a well-known tool to cut payroll costs. Outsourcing provides a finer blade for targeted expense cuts.

By spinning off non-core business functions to specialist providers in those fields — such as information technology or human resources — companies increasingly are turning out-of-house to handle jobs they used to do in-house.

Why has outsourcing grown?

Outsource providers say cost savings to companies that enter into such agreements generally range from 15 percent to 30 percent, depending on the sophistication of service.

“The first reason to outsource is obviously cost,” agreed Mike Goodwin, senior vice president of information technology at Hallmark Cards Inc. “It’s a bunch of noise to say it isn’t. If you don’t save money, why do it?”

Hallmark asked itself that question prior to signing an IT outsourcing deal in 2004 with Texas-based ACS Inc.

Five years into the seven-year contract, Goodwin said Hallmark is on track to realize a projected $47 million in savings.

For ACS, a $6.2 billion, Fortune 500 outsource provider, the contract to become Hallmark’s data center was one more indicator that outsourcing is a solution for many kinds of U.S. businesses.

Still, outsourcing deals slowed in some sectors last year when the recession put the brakes on overall business activity.

And some companies have reversed outsourcing decisions because they wanted to bring tighter control back in-house.

But generally, outsourcing continues a decade-long acceleration.

The International Association of Outsourcing Professionals, a trade group, said in February that 75 percent of its member organizations were doing the same or more outsourcing in response to the recession, while 25 percent reported lower volumes and 19 percent said they had renegotiated prices on existing contracts.

“We’ve seen growth in all aspects of outsourcing,” said Derrell James, ACS group president for IT outsourcing.

“Ours is a good business when the economy is good and even better business when the economy is bad. Sure, we have our challenges too, especially in the mortgage industry as this bad economy has gone on longer than expected. But, generally, BPO is growing.”

BPO — business process outsourcing — represents the lion’s share of outsourcing deals. It essentially removes a back-shop operation (such as accounting) or a front-office function (such as call centers) from companies that don’t have those functions as part of their core business.

As with Hallmark, such contracts may involve “rebadging” employees. About 70 employees who worked for Hallmark became ACS employees, with an unusual contract guarantee that their jobs at ACS were protected for three years.

Typical outsourcing contracts provide no or only a one-year guarantee of continued employment for rebadged workers.

Goodwin estimated that about half of those rebadged Hallmark workers are still with ACS.

James said about half of the 70,000 employees that ACS now has were rebadged from various employer clients.

A major rebadging effort is under way in the Kansas City area as about 10 percent of the Sprint Nextel work force is being transferred to Ericsson, a Swedish telecom company.

Sprint and Ericsson reached a seven-year deal that will have Ericsson do the day-to-day operations and maintenance of the Sprint Nextel networks.

That rebadging affects about 6,000 Sprint employees, about 2,000 of whom work in the Kansas City area. As of the announcement last month, no layoffs were scheduled in connection with the rebadging.

But outsourcing critics note that rebadging rarely saves jobs on a one-for-one basis. Economies of scale mean that the outsource provider doesn’t need as many workers to do the work that the combined total of employees did for their individual employers.

It’s also those same economies of scale that allow outsource providers to spread the costs across multiple corporate clients and purchase cutting-edge equipment and programs that individual companies can’t (or don’t want to) afford.

Access to better technology and IT expertise contributed to Hallmark’s decision, Goodwin said, noting that Hallmark would have required “significant capital outlays” to update its computer and security systems on its own.

“Rather than spend it ourselves, we wanted to leverage with an outsource expert that could spread the expense across its client base,” Goodwin said. “We could ‘pay by the sip’ for what we needed instead of having to buy for future capacity and pay it all upfront.”

ACS sealed the outsource deal by agreeing to establish a tech center in Kansas City. But the big draw was a provision of 24/7 tech support service, something Hallmark didn’t have before, the outsource partners said.

Also representative of outsourcing trends, Hallmark began about two years ago to use ACS’ help desk in Monterrey, Mexico.

“Monterrey is part of our delivery model,” James said. “It’s a matter of covering the major time zones and getting the best labor and labor rates. … We’ll offshore, nearshore or rural shore.”

“Nearshore” is jargon for locating workers in Mexico, Canada, the Caribbean, or other countries nearer to the United States. It differentiates from “offshore” — the movement of jobs anywhere outside the country (which, over the past decade, has become a political hot potato, given U.S. job loss).

“Rural shore” refers to locating workers in what the industry calls “tier three” population centers, generally small towns in rural America that are job-hungry.

“That’s part of our delivery mode, too,” James said. “We find we get better employee retention, better loyalty and reduced labor rates” compared with corporate pay scales in big cities.

There’s also the customer service advantage, particularly in consumer contact centers, of not having to deal with foreign accents.

But industry players said something more quantifiable than customer aversion to accents slowed outsourcing in the last year.

“With the downturn in the economy, there was a significant hold put on outsourcing, even when companies saw the advantages,” said Bryan DiGiorgio, chief executive of CXO Global Solutions in Overland Park. “With layoffs, companies were in disarray. Individuals in decision-making roles moved on. But there’s been some pickup in the last quarter, especially in the last month.”

His company provides unified communication services, such as VOIP, e-mail, chat, conferencing and live media services.

“Particularly in medium-sized and large companies, there’s no reason for them to invest in non-core activities,” DiGiorgio said. “Support operations in big companies probably aren’t able to excel and improve at a pace everyone would aspire to. Companies want to buy functional and industry knowledge, improve speed to market and reduce defects, all with overall lower working capital.”

IT is hardly the sole business function susceptible to outsourcing.

An Everest Research Institute report about finance and accounting outsourcing said contracts signed in 2008 reached $3 billion, the strongest year ever, though some caution was detected, especially among midsized businesses.

Other business processes, notably human resources, call center operations and special events logistics, dot the outsourced landscape.

One-third of respondents to a 2008 outsourcing poll conducted by the Society for Human Resource Management said they expected their organizations’ HR outsourcing activities to increase over the next five years.

Background checking, employee assistance and counseling, and flexible spending account administration were the most common HR activities outsourced so far.

Forty-nine percent said they had achieved cost savings from HR outsourcing, 28 percent had cost increases, and 23 percent stayed the same.

Eighty-five percent to 90 percent reported satisfaction with their outsourcing arrangements.

Ron Trachsel, a partner at Allied Staffing Group in Lenexa, agreed that the recession slowed the human resource outsourcing juggernaut somewhat.

“It started (slowing) in October last year when staffing industry business plummeted, and the business has been very flat from January on,” Trachsel said. “But it may have stabilized. We’ve seen a pickup in call center business.”

The human resource outsourcing niche that seems to be growing, he said, is the job candidate search and pre-screening business. In that, the outsource provider delivers a specified few prospective employees — sometimes just one — to employer clients for potential hire.

Many of these “recruitment process outsourcing” firms have reported significant growth in the last three months because companies have eliminated their internal recruiting positions.

Companies that go the outsourcing route cite one more benefit in an uncertain economy:

Outsourcing, like shorter-term contract employment, provides just-in-time staffing without engaging in the time and expense of hiring full-time employees.

That’s not a solution that laid-off job hunters welcome, but it’s one that makes a difference to corporate bottom lines and thus is unlikely to fade away.

How ‘outsourcing’ differs from ‘contracting out’

In outsourcing, the buyer turns over control of the process to the supplier, a vendor with expertise and economies of scale to serve multiple buyers.

In contracting, the buyer maintains ownership control of the process, instructing the supplier how to perform the service.

Functions most often involved in business process outsourcing

  • Information technology
  • Human resources
  • Accounting and finance
  • Customer contact and call centers
  • Sales

Why outsource?

  • To save money if an outsource provider can do the needed work for a lower cost than it could be done in-house.
  • To have access to newer or better technology (hardware and software) than can be afforded in-house.
  • To benefit from specialized talent that isn’t available in one’s core business.
  • To have just-in-time labor rather than hiring/firing employees.

Offshoring draws outsourcing controversy

Offshoring, a relatively small subset of outsourcing, tends to get more public attention. But, in reality, the number of jobs moved overseas pales in comparison to the number of jobs that are reassigned to domestic outsource providers.

One statistical series, provided by the U.S. Bureau of Labor Statistics in its quarterly mass layoff reports, gives a hint about the dominance of domestic versus offshore outsourcing. Quarter after quarter, for the last five years, the mass layoff report shows that when workers lost their jobs in mass layoffs, the work more likely was relocated to sites elsewhere in the U.S. than moved outside the country.

And when the mass layoff jobs were offshored, the jobs have been more likely to stay within the company than be outsourced, or transferred, to another employer.

Beyond the mass layoff subset, though, offshoring is growing.

The Duke Offshoring Research Network’s fifth annual report on offshoring, issued this month in collaboration with The Conference Board, found that 50 percent of U.S. companies have an offshoring strategy, and 60 percent of those currently offshoring said they have “aggressive plans” to expand.

The researchers said “very few” plan to relocate offshored functions back to the United States.

WashTech, an organization formed in 1998 by Microsoft contract employees in Redmond, Wash., and affiliated with the Communications Workers of America, is a leader in fighting offshoring that replaces Americans with cheaper workers abroad.

WashTech and other labor groups continue to lobby Congress for laws that would limit offshoring or impose tax penalties on U.S. employers that do it.

Jim Bogle, owner of Just In Time Consulting in Kansas City, said market forces are reducing some of the labor savings from offshoring.

For example, Bogle said, a U.S. call center paid workers $14.50 an hour. When it transferred jobs to India, the cost plummeted to $4.50 an hour. But customer dissatisfaction with foreign accents and other service problems caused the bar to be raised for those foreign workers, who now earn as much as $10 or $12 an hour.

“When companies have to pay a premium for someone who’s dialect-neutralized, the cost savings will be minimal,” said Bogle, who has had experience with outsourcing at MCI, EDS, IBM, Teletech and PRC. “Companies that offshore have to be very careful that they have covenants to deliver equal to or better services.”

Quality and cost savings doubts caused one-third of chief executives (surveyed earlier this year in the NYSE Euronext 2010 CEO Report) to say they believe offshore outsourcing “offers less economic value than five years ago.”

 
 

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