On June 16, 2004 two human resources (HR) outsourcing giants announced they are merging. Hewitt Associates, the industry leader in benefits administration, is purchasing Exult, Inc., the industry leader in HR outsourcing (HRO). The merger provides great synergies because benefits administration is a key component of HRO.
Why the Merger Is Good for Exult
Jim Madden started Exult in 1998 with $50 million in venture capital funding from General Atlantic Partners, a firm that has funded other outsourcing start-ups. Madden, who had been doing IT outsourcing for years, wanted to venture into BPO. General Atlantic wanted to fund a BPO service provider and was searching for a leader; the two struck a deal. Subsequent rounds of funding totaled over $200 million.
Exult went public during the heady days of the Internet boom in May 2000. Unlike many of its peers (a lot of ASPs as well as BPO providers like LeapSource) who perished in the tough economy that followed, Exult not only survived but flourished. Exult became a profitable firm. In February 2003 Madden rang the opening bell on the NASDAQ stock exchange in New York City to celebrate the firm’s first profitable quarter. Exult’s revenues grew 18 percent in 2003.
However, while Exult has been successful in capturing the largest market share in the HRO industry, this growth has not yet produced the profitability necessary to make the increasingly large investments in systems and integration to keep Exult’s platform ahead of its competitors. Joining hands with Hewitt puts Exult on a firmer financial footing. Hewitt’s larger resources will provide Exult with the capital it needs to compete in a competitive market.
Exult also faced another challenge. As an HRO leader, it needed to own more of the components in its HRO offering. Exult, which specializes in recruiting and training, didn’t have enough wallet share as a pure play HR integrator. Realizing this, the company had already started down the path of expanding its offerings when it purchased ReloAction, an employee relocation company, in May. Being able to offer Hewitt’s well-defined benefits administration offerings is the next logical step for Exult.
I expect the expert Exult leadership team to remain in place. This is important because the team is experienced in the HRO management.
Why the Merger is Good for Hewitt
Ted Hewitt formed Hewitt Associates in 1940. It started as an insurance brokerage business for financial executives. By 1950 it added employee benefits to its list of services. Today Hewitt is one of the most successful benefits administration firms in the outsourcing industry. Its revenues grew 15 percent in 2003.
But Hewitt has struggled to establish a dominant position in the HRO space. According to an Everest HRO study completed November 2003, Hewitt completed only three of the 18 major deals. Merging with Exult vaults the provider into the leading position in HRO from both a marketplace and a capability perspective. Now Hewitt can offer Exult’s services to its existing customer base. Exult’s customers include the Bank of America, British Petroleum, International Paper, and Prudential Financial. Currently, Hewitt’s customers include more than half the companies that make up the Fortune 500 and nearly a third of the corporations that make up the Fortune Global 500. Clearly, both companies were going after the same marketplace. Joining hands means they don’t have to compete with each other across the bargaining table. That should make the combined company a strong competitor in the HRO market since they are working with — not against — each other.
On paper this merger creates an industry powerhouse that is vertically integrated. It is also adequately financed. The new firm is potentially quite profitable; if that actually happens, it retains a leading edge in the fast-growing HRO space.
And that is the big if: Actually making the merger work. How well the leadership can integrate the two firms will determine its ultimate success. Merging two disparate corporate cultures is always tricky.
What is the Impact on HRO Buyers?
Currently, the HRO space is highly fragmented. Buyers seeking a provider have to gamble that they would select a supplier who would be one of the eventual winners as the industry consolidates. There is clearly a risk if you didn’t pick the winning transaction engine, given the high costs of switching suppliers. After the merger, the new Hewitt looks like it will be one of the surviving suppliers. This removes some of the risk in the selection process.
Consolidation like this is good for buyers. Synergies between the offerings of two merging companies should produce more savings for them. In addition, combining financial resources should shake lose more capital to invest in improving today’s transaction engines. That improvement should create better services.
What will be interesting to watch is to see how the other major players react to this shift in the HRO supplier space. On the payroll side, what will Ceridian and ADP do? How will integrated suppliers like ACS, Fidelity Employer Services Company, and IBM react? I suspect they will have to upgrade their offerings to compete with the new Hewitt. In theory, this should create even more value for a buyer of HRO services.
What Does the Merger Mean for the HRO Industry?
Currently, there is a wide variety of HRO players. Mergers like this are a harbinger of things to come; they are part of the natural lifecycle of an emerging industry. This merger is the start of the industry’s consolidation. When the consolidation is complete, I predict we will see no more than four major players with transaction engines emerge to serve the Fortune 500, with the new Hewitt being one. Another four major players will coalesce to dominate the mid-range market.
Without a crystal ball, no one knows for sure what the future will bring. But I’ll wager the Hewitt-Exult merger will usher in a new chapter in the history of HRO.
Lessons from the Outsourcing Journal:
- Buyers must be careful when selecting an HRO supplier because they have to select one that will survive the coming industry consolidation. The new Hewitt looks like it will be one of the surviving players.
- Other suppliers will have to upgrade their offerings to compete with this strong new player. Improving supplier offerings should bring more value to buyers who outsource HR.
- Exult benefits from the merger by gaining access to capital to continually upgrade its transaction engine services and achieves more wallet share through Hewitt’s offerings. Hewitt gains by being able to tap into Exult’s integrated HRO services.
- The currently fractured HR supplier industry will begin to consolidate with a few strong players emerging.