A pivotal year ahead, 2007 may see a flourish of outsourcing activities in outsourced AR contracts. A key question is whether growth will be led by discrete outsourcing deals or will end-to-end FAO be the driver?

by Kerry Ann Vales

Often considered as non-core, back-office process, accounts receivable (AR) has been a major portion of the FAO market for years. Market buzz has tended to focus on larger FAO contracts where multiple F&A processes are bundled together or with accounts payable (AP) outsourcing deals that evangelize the procure-to-pay process. But this could all change in 2007 as AR outsourcing takes center stage and builds off expanded service offerings, global delivery models, and the increasing sophistication of both buyers and service providers.

Industry analysts identify more than 25 different firms providing AR and order-to-cash outsourcing services; these range from leading providers of full-service F&A solutions to specialist firms that solely provide AR support. Estimates of the exact size of the global FAO market vary as market researchers tend to use slightly different definitions, however, the Everest Research Institute in Dallas estimated the total F&A managed services market at $17 billion globally, and the AR function accounts for nearly two-thirds of the overall market at $11 billion. A market this size will surely attract a large number of service providers as many observers see 2007 as the breakthrough year for this segment.

To create buzz in the AR market, the offering itself must first be defined. This has been part of the problem as service providers vary on their descriptions of services and benefits that customers receive. Some industry analysts refer to the AR market in terms of collections; others extend their definition of the AR function to descriptions such as order-to-cash, invoice-to-cash, or even quote-to-cash. Moreover, some providers tend to focus on the business-to-business market versus the business-to-consumer market while the increasing attention that the mid-market is generating only further diffuses the definition of AR.

Nevertheless, 2006 was a banner year for providers of AR services, and it brought with it the emergence of a new expanded, definition called revenue cycle management outsourcing. Regina Paolillo, senior vice president at Genpact and former CEO of Creditek, defines revenue cycle management to include credit, order management, deduction management, collection, cash application, reporting, and analytics. The big news that came about in 2006 is the addition of order management within this definition. Order management is a process that often sits outside the CFO’s office in the sales department, however, if you can integrate order management into a single outsourced process, you can have a major impact on day sales outstanding (DSO), a key metric that many firms use to measure world-class performance in an outsourced environment. Paolillo calls the inclusion of order management in major RFPs as the “game changer” in 2006. Service providers are now in the position to significantly expand their value proposition to clients. This will only propel market growth in 2007.

The growth of the AR market is further validated by Phil Fersht, vice president of the Everest Research Institute. He sees the AR process of order-to-cash as the key driver for the 30-plus percent growth Everest predicts for the multi-process FAO market in 2007.

“If we are looking at just stand-alone AR, we are projecting growth at around 10 percent in 2007. But when we look at AR in a multi-process F&A contract, we see AR as the key process generating very strong market demand for bundled FAO services.”

Currently, AR outsourcing is part of 86 percent of all the multi-process F&A deals tracked by the Everest Research Institute. But penetration in four key industry verticals varies: energy/utilities and manufacturing had slightly higher penetration but both financial services (65 percent) and retail (76 percent) were below the market average.

Driving factors contributing to companies outsourcing their AR functions as a single, discrete process or as an integrated receivables management process are many. A recent report by FAO Research shows that costs savings is the No. 1 motivator for companies to outsource F&A functions such as AR. But the research also noted major compliance issues as a factor driving the outsourcing decision. In the report, Lisa Ross, the CEO and founder of FAO Research, said, “Companies of every size are seeking controls to measure revenue and accounting transactions (due to Sarbanes-Oxley and other government regulations). By outsourcing AR, companies are ensured that reporting procedures will be met, since outsourcing contracts have strict governance clauses surrounding measurement and reporting, including target service level requirements.”

Stan Lepeak, director of research for EquaTerra also noted that buyers are looking to focus their resources and attention on more strategic activities and less on back-office transaction processing . He pointed out that the growth of offshore capabilities by the multinational service providers and the growth of the India-based service providers in the market has greatly increased the potential cost savings buyers can achieve. These factors all make outsourcing the AR function an attractive option for buyers.

Discussions with service providers illustrate even more tangible reasons why companies outsource AR. Mark Vengroff, CEO of Vengroff, Williams Associates, a BPO provider with order-to-cash services meets with C-level prospects regularly. He said these executives are very interested in hearing about the technology efficiency and service functionality that takes place in an integrated order-to-cash outsourcing environment. He noted that customers are continually asking about electronic invoice presentment and payment (EIPP) solutions that create more visibility through customer contact.

Genpact’s Paolillo pointed out that a well-managed outsourcing process of AR can even strengthen customer relationships and build customer brands. Paolillo said she believes that when a client’s customer receives great service around a financial transaction, it enables him to build a better business and a greater brand for themselves.

While some offshore providers may promote their ability to build stronger brands through specialized expertise, some newly emerging offshore providers have been successful by extending the economic value proposition even further. Dennis Sholl, CEO, of Global Vantedge, an offshore AR provider, cited the importance of offshore labor arbitrage. However he also emphasizes the value of what he describes as “skill
set arbitrage.”

”Labor arbitrage gives you low cost, skill set arbitrage gives you performance,” Sholl stated. It is this specialized focus on skill sets that discrete, single process AR providers consistently mention as a strategic competitive differentiator versus the full-service F&A providers that offer AR services.

AR providers can convincingly describe the benefits of outsourcing, but just identifying the benefits are not enough. Buyers need to have a well-established set of metrics to measure world-class performance. In its 2006 Book of Numbers, The Hackett Group reported that “world-class companies are reaching SG&A performance levels that just a few years ago would have been considered an unrealistic stretch, providing services that are better and significantly less costly than the peer group.”

Michel Janssen, director of research for The Hackett Group, pointed out that AR providers must work non-stop to match the service level expectations that sophisticated buyers expect from their providers. Janssen stated that in an environment where the cost for running a world-class finance organization is less than 1 percent of revenue, service providers must meet the dual challenge of cost savings and increased efficiency for all back-office processes.

Reaching world class benchmarks can be difficult as The Hackett Group points out that world class finance organizations operate at a 45-percent lower cost than peer group firms. Katie Downs, who heads up the Hackett Group’s measurement team for AR, takes a holistic view for selecting metrics. She described the AR process as customer-to-cash and looks at the broader themes of cost, cash, and service.

“When you look at receivables and receivables management, you really need to be looking at it in terms of impact to cash flow and service provided to customers,” Downs says.

A key metric that buyers need to manage is DSO. Hackett Group’s 2005 U.S. survey reported that first-quartile organizations had 28.9 DSO versus a median DSO of 46.5. This variance can directly impact the ability to leverage working capital. Downs recommended that companies closely monitor the relationship with their customer, the terms they extend, and the percent of invoices paid within those terms. All of these factors work together to minimize the costs of managing your receivables and impact your DSO.

According to Katie Downs, customers who outsource AR should focus on a handful of dashboard metrics such as the billing error rate, the quality of data in terms of customer records, percentage of credit sales collected within terms, and the DSO. She emphasized to her clients the importance of standardization and automation. Automation is key as it can create more visibility and transparency of information enabling better management and control of the AR process. But even with the increasing sophistication of both outsourcers and client organizations, companies still need to expand the use of electronic invoicing. World-class overall is only 11 percent, according to Hackett, which means a lot of hard paper is floating around with postage attached to it. For an outsourcer, this represents a lot of low-hanging fruit to pick.

While industry analysts emphasize the importance of automation and standardization when it comes to delivering cost-effective services, AR service providers point out the need for a balance between standardization and customization. Unlike other back-office processes, the receivables management process may require customization when it interfaces directly with the client’s customer. But nevertheless, a lot of the collections process can be standardized to support a multi-clientoutsourcing platform. Global Vantedge’s Scholl said he sees customization in collections when it comes to training.

“Training on how to interact with the client and their customers and how to leverage and integrate a client’s existing technology will always need to be customized for a client. But when it comes to major components of the AR process, it is difficult to standardize because every client does it a little different,” he said.

Adapting to the differences between clients and addressing their needs more thoroughly may be part of what has the AR market facing a breakthrough year in 2007. Industry analysts and service providers alike agree that 2007 will be strong for both AR outsourcers and their customers. Using new technology to drive even higher rates of customer satisfaction and adoption, service providers will continue to shape this very large yet relatively untapped market. The only question that remains unanswered is whether the AR market will be led by the full-service F&A providers or the single-process AR providers. Stay tuned as 2007 may be the year when leadership of the market begins to take shape.