From fixed to variable...

November 2009 Supplement

Mark Freeman reviews the trend for outsourcing in payroll and HR and offers some practical tips for charities considering this option

There is a lot of debate going on right now about whether to outsource, what to outsource and why. Every organisation is facing new pressures to reduce costs in their totality and at the same time get flexibility into a fixed cost base by exchanging some fixed costs (such as IT infrastructure and headcount) to variable ones. In tough times, it is even more attractive to move balance sheet burdens to a third party, to streamline the organisation and concentrate on core competencies.

On the face of it, outsourcing is the answer. However, many organisations have inbuilt inertia and a change of this magnitude would be habit-breaking. But charities are being forced to revise their strategy and what they are trying to achieve for their beneficiaries. Having addressed this, it’s a natural progression to, ‘what do we need to do – what processes do we have to make our strategy succeed?’ And this inevitably leads to asking ‘what do we need to make our business processes as efficient as possible?’

A strategic tool

Outsourcing if done correctly can be a strategic tool within any organisation’s armoury, with the potential to deliver: cost savings; efficient processing; improved management information; best practice standards as well as measured results in the form of key performance indicators. All of which put an organisation in a better position for continual improvement so that it can react quickly and appropriately to economic, environmental political and social changes.

One strategy that has gained increasing popularity over the past few years is outsourcing a particular process or function. Some of the most common processes which are outsourced include customer service call centres, accounting and payroll, and human resources. It is very often found that the use of outsourcing tends to be more economically viable for non-core operations such as back or front office operations typically performed by white collar and clerical workers.

In the commercial sector the use of outsourcing has become so prevalent that the main motive is to allow an organisation to invest more time, money and human resources into core activities such as building strategies for the development and growth of its business interests. It has grown to such an extent that managers no longer need to justify a decision to outsource a process, but rather in some cases need to justify why work should be done internally, when it could easily be outsourced in a more cost effective manner.

However, the tool has not formed part of a charity’s strategy during the boom times and should be considered as part of any organisational review of costs and income growth.

Where to start

Let’s start with some basic principles of outsourcing then build on them as the process that you would go through to actually outsource the payroll or human resource function. The first thing to recognise with outsourcing is that it is a different way of operating and you have to look at why you are considering it in the first place. The three criteria you need for its evaluation are:

(1) What is the exact reason for outsourcing in your charity? Is it to focus on core business, improve service levels, to benefit from industry best practices or reduce transaction costs?
(2) What specific processes or parts of a process do you want to outsource? Repetitive, transaction-intensive are the best candidates. At the same time, many charities looking at end-to-end business processing do not want to give up control of the process because of strategic and security concerns. This affects what type of organisation it will outsource to.
(3) How well is the function being considered for outsourcing currently performing? If the benchmarks indicate an outperformance of the industry standard, the best bet might not be to do anything, but if the data points to a show a less than average performance, outsourcing may be the best option. For example in an outsourced environment a payroll processor would be expected to process over 1,500 employees per month.

Turning to (1) above, there may only be one main driver for outsourcing. That is to say you can have ‘cost savings’ but not ‘cost savings and expertise’. To have the latter you would have to give up some of the cost savings to have the expertise. An outsourcer wants to understand your objective to be able to provide you with a solution that meets your criteria, but the absence of a clear objective makes it difficult to evaluate the success or failure of the outsourcing relationship later on.

At the same time as setting the primary objective you also need to look at what impact that outsourcing might have on what you are looking to achieve (see (2) above). If you are looking to specify the processes that are to be used to the outsourcer or how the organisation will be involved in the processes then you are now entering the area of bespoke outsourcing which will determine a certain level of cost for the outsourcer (who will be unable to apply their own economies of scale to get the best price for you) and ultimately for your organisation. The less involved you are in the process the lower the cost; but that does not mean no involvement at all – and if you want to control the whole process, outsourcing is unlikely to be for you in the first place.

Main benefits of outsourcing

These include:

the potential to increase service quality, whilst lowering costs;
with the ability to gain capabilities from their supplier not available internally, charities gain access to valuable know-how;
outsourcing provides an organisation with the ability to focus on distinctive core competencies which will help yield long-term benefits;
through the contract development of any outsourcing contract, organisations have the ability to determine and better anticipate any future costs; and
transfer of risk to the outsourcer related to staff recruitment, retention, management and development.

Implementation of a successful outsourcing contract

Assessment

A thorough assessment of outsourcing as an option will determine whether it is correct for your organisation or you can benefit from fine tuning your own internal processes and functions as a result of going though the exercise. The process to follow is set out in figure 1 below.

As with any project you need to document your underlying assumptions. This means looking at the internal and external environment and understanding what you could achieve by
undertaking an outsourced approach. For example, if you are considering outsourcing your payroll, how do the year-on-year benefits compare with the one-off issue of TUPE
(transfer of undertakings).

Outsourcing consultants are able to brief you on the information they need to come up with an appropriate solution for you. When it comes to payroll or human resources you will need to provide the following information:

(1) number of employees by:

(a) full time salaried;
(b) part-time salaried;
(c) part-time hourly; and
(d) fortnightly staff.

(2) the average staff turnover per annum;
(3) the number of pension schemes that you operate;
(4) the number of grievances, disciplinary and other employee disputes that occur per annum;
(5) when the last time your staff/employee handbook was updated;
(6) cost of the process or function;
(7) what payroll or human resource IT system you have in place a the moment;
(8) what issues you face as an organisation in terms of the finance process or function:

(a) consistency of information;
(b) type of reporting;
(c) timeliness of processing; and
(d) expertise and breadth of knowledge.

Time frames

It is possible to complete the process in four to six weeks but realistically it can take between eight to 12 weeks from when others become engaged in the assessment process. At this stage be prepared to ask a great number of questions as it will assist you in refining your options, identifying the process to be undertaken and more importantly your objectives. You also need to note which individual is supporting you with the information you need as it is that person or their team who will be your ongoing partner should you decide to outsource with that provider.

Who to involve in the decision-making

Far too often charities make the decision that they must outsource without identifying the individuals that are critical to the process and the success of the arrangements. Step 2 of the process (see figure 1) is about understanding who within the charity needs to be involved in the decision-making process but also later on in the implementation of the outsourcing arrangements and the ongoing management of the relationship. Figure 2 below sets out who should be involved in the process for both payroll and human resources.

Deliverables

At this point, the objective of what you are looking to achieve needs to be revisited to structure the selection criteria. If we use cost savings as the driver of the objective then it is imperative that the organisations that are approached know this up front so that they can propose solutions acc-ordingly. It also forms the basis of the evaluation of the proposal submitted, but remember if this is the only criteria you have given them, then be prepared to accept the solution without any caveats, which might require expensive customisation.

If you want particular aspects included in the solution you need to state what these are in your invitation to tender for the service provision. Figure 3 below sets out a simple example of a typical set of criteria for payroll outsourcing along with caveats that one might want included in that outsourcing relationship.

Selection of your provider

When you identify a potential provider, the next stage of the process is to obtain more detailed information on who you are passing over the process to – after all you are trusting them with the payment and the support of your staff. At this stage you need to be looking at a number of aspects to ensure that you can satisfy yourself that the organisation will deal with your payroll or human resources in a manner that will not cause problems. Figure 4 below sets out the areas that need to be considered in due diligence. It is also worth noting that visiting the organisation and speaking to those involved in the day to day handling of your payroll or human is very important.

Now is the time to make a decision, though many organisations do this too soon, before undertaking due diligence. This is a mistake and provider selection should always follow on from the due diligence stage as this gives you an opportunity to potentially refine your requirements, costs associated with the solution as well as a
better understanding of what you are getting for your money. See figure 5 below for an example.

Once the decision is made you need to move to the communication stage fairly quickly to ensure that everyone is aware of what is happening, why it is happening, who is affected and what the time scales are for implementation.

The communication stage is critical to the success of outsourcing as this is when the rationale for outsourcing needs to be explained to your stakeholders along with the benefits, as well as introducing the organisation that you will be working with and who will be managing the relationship. The latter is particularly important when dealing with individuals affected by the decision (for example those who might be transferring under TUPE to the provider).

The final two stages of implementation and relationship management are just as critical as the process leading to the final stages. The implementation will determine areas that might need to be revised for the solution that you are after, whilst ongoing management is important to ensure that the relationship works and that both parties are working together to resolve issues as they arise.

Without relationship management you have just lost control of the process and the likelihood of the outsourcing failing to meet your criteria is nearly 100 per cent. The provider needs to have a designated contact in your charity as it will need to understand who is in charge and who signs off any changes in the process should these be necessary.