Why Companies Outsource the HR Function

While short-term cost savings are generally seen as the major reason for outsourcing, they are not the only reason. Academic research suggests the following drivers for HR Outsourcing  

❐ Influence from Elsewhere in the Business: Organisations often explore outsourcing as part of a business-wide exploration of service delivery options, together with several other internal functions. For example, the organisation may have a parent company that encourages or requires an outsourcing strategy. Indeed, research indicates that the decision to outsource is often not driven by the HR team alone – there is usually pressure from fellow directors or other internal forces. 

❐ Cost Reduction: The most obvious benefit of outsourcing is the removal of cost from the HR operation, achieved by streamlining processes and the introduction of leading-edge technology to support new processes. Although in theory organisations could achieve much of the cost reduction through their own efforts, many lack the skills to bring about the transformation or do not have the right technology or scale to do so. For this reason, organisations often conclude that it is much more cost-effective to use an external provider that has an established infrastructure in place and can bring expertise and experience to their customers. Outsourcing providers deliver services to a wide range of customers and are able to spread costs over a large number of employees, enabling them to achieve extensive economies of scale that would not be available to individual organisations. Outsourcing also reduces the cost of overheads involved in providing the service, smoothing out peaks and troughs in workload to ensure consistency of service delivery. 

❐ Moving HR up the Value Chain: HR often sees administration as a barrier to working strategically – if the function can be freed from the burden of administrative work, there is more scope to operate at a higher level (this issue will be explored in subsequent chapters). Even in organisations where the HR Business Partner model has been introduced, evidence suggests that organisations experience difficulties in breaking away from administrative tasks and seek transformational approaches that enable HR to concentrate on other activities. For example, Business Partners often find themselves pre-occupied by operational issues and are unable to diagnose and develop strategic HR solutions, becoming ‘bogged down’ in detail.

❐ Risk Reduction: All organisations have a legal obligation to comply with the requirements of local and national employment legislation. Employment legislation continues to become more complex (especially in Europe) and non-compliance can ultimately lead to legal action. A report by BusinessHR and MORI, which looked at UK SMEs and their attitudes towards staff attraction, retention and motivation found that 43% of managing directors experience difficulty in keeping in keeping up with growing employment legislation. The risks are obvious – failure to comply with legislation can consume huge amounts of management time, while the cost to employers of defending a tribunal claim can be very high (in some cases, such as those linked to gender and disability discrimination there are unlimited penalties). Bad experience of employment claims is often the trigger for exploring outsourcing options. 

❐ Service Quality Improvement: Companies that want to improve the speed, quality and effectiveness of their HR operations face two barriers. Firstly, they lack knowledge of best practice processes and how to implement them and secondly, their HR teams are so entrenched in current ways of working that they find it difficult to make the transition to a customer-focused service centre approach. HR outsourcing service providers typically bring experience and knowledge of best practice processes, built through experience of working with a range of customers and technologies. 

❐ Increasing HR’s Capacity to Respond to Organisational Change: Outsourcing is a tool often used by smaller organisations during their early growth if they are not able or motivated to invest in an internal HR function. It can also be used by organisations that wish to transform HR but cannot see an effective way to change their service delivery structure without external intervention. Likewise, outsourcing is sometimes a response when one division of a company is sold (such as in the case of a management buy-out) leaving it with no HR infrastructure, as an alternative to establishing a new internal HR operation. 

Why is HR Service Delivery Important?

In his 1997 ground-breaking book ‘Human Resource Champions’, Management Professor (and HR guru) Dave Ulrich set out a model for the operation of the Human Resource function that would influence a generation. One of the roles he defined for the HR function was the ‘Administrative Expert’, a role designed to cope with the vast range of back-office support services that ensure the business is compliant with statutory requirements and internal policy. HR typically delivers two distinct types of service: 

❐ Simple transactional services: Administration arises as a direct result of employing people and covers a vast range of processes – including issuing employment contracts, managing pay and conditions and maintaining personal data, all of which require effective administrative processes. As a minimum, processes must be legally compliant, but ideally they should also be cost-effective, efficient and of good quality. These activities are generally considered to be ‘compliance’ processes – they enable the business to operate within the law and policy, although they do not in themselves provide any direct strategic capability. 

❐ Transformational HR services create value for the organisation through processes such as learning & development, performance management, talent management and recruitment, leading to increased employee engagement and the creation of competitive advantage. These types of services tend to be delivered in organisations where the Human Resources model is relatively mature and where adding value is more important than compliance with policies. Providing HR and Payroll transactional services is expensive for an organisation, representing an overhead to the business both in terms of operational cost and managerial time. Anything that can be done to reduce the cost of delivering these services represents money the business could invest in other customer facing activities that can create wealth. As a result, there is often pressure on HR functions to meet the dual and sometimes conflicting requirement of reducing the cost of delivering service while at the same time improving its quality. A key decision facing organisations is how best to structure the delivery of HR and Payroll services to meet these needs, a problem that remains just as much a challenge now as it did in the mid-1990s.