This article will cover potential market disruptors and external factors that could influence the PEO industry. The article will focus on regulatory, technology and globalization factors and provide forward looking statements outlining the potential impact on the industry.
The PEO offering and value proposition, to a degree, is based on assisting small and medium sized businesses (SMBs) with State and Federal regulatory compliance. As a result, when regulatory compliance shifts for SMBs, PEOs have historically experienced an uptick in revenue on a macro scale. When these regulatory shifts are monumental in nature, i.e. the ACA, the year over year revenue increase for the PEO industry is more dramatic. Regulatory compliance for the ACA was scheduled to begin January 1st, 2014. The PEO industry experienced a year over year growth for 2014 of 21.25%. For more statistical information, click here. As a basis of comparison, the PEO industry’s CAGR in the four years leading up to 2014 was 5.17%. This means that in 2014, the industry as a whole experienced 411% increase over the 4 year historic CAGR. The result was an industry that grew from $117B in 2013 to $142B in 2014.
Forward Looking Statement
If the ACA is repealed or repaired under the current administration, regulatory changes will occur. Depending on the severity of changes, the year SMB regulatory compliance takes place could equate to another monumental growth year for the PEO industry.
Technology has played a vital part in the ability for a PEO to scale and achieve greater profit. A common metric used within the industry is the worksite employee (WSE) to internal employee ratio. The greater the gap between the two numbers, the better for the PEO (assuming increased client attrition doesn’t occur). Advancements in payroll systems have allowed some PEOs to have a WSE to internal payroll professional north of 2,000 to 1. While advancements can be made to improve upon the current high end of the ratio curve for payroll, there is another potential technology disruptor on the horizon. Artificial intelligence (AI) could act as a major disruptor within the industry. If AI is developed to the point where it can be used to automate the tactical element of HR related servicing, the impact would be dramatic. It would provide the PEO with the ability to further scale the internal to WSE ratio, increase a PEOs profitability, change the PEOs hiring practices, etc.
Forward Looking Statement
If AI is developed to handle a portion of the HR servicing component of the PEO value proposition, early adopters will have a massive competitive advantage. This is assuming that the introduction of the technology doesn’t come fraught with bugs and increase the PEO’s and their client’s liability. AI wouldn’t need to be limited to HR but could also potentially function in aspects of payroll, safety, claims, etc. While human consultation would still be required and valued within the model, AI could dramatically skew the internal to WSE ratios.
Currently the globalization rate in the PEO industry is very low. This is likely due to the size of clientele that the PEO industry services. With an average client size at under thirty WSEs, the need for a global reach is limited. However, as the world continues to migrate to a global economy, this could shift in the future. The challenge with a global reach is the learning curve associated with other countries’ laws, insurance and regulatory mandates. However, if a strong international PEO was to merge with a large domestic PEO, this learning curve could be shortened and set the stage for a global PEO market.
There is also a potential threat from international companies entering the US PEO market. Currently, a number of PEOs utilize global partners by outsourcing some of the PEO functions such as data input, proposal creation, payroll, etc. If these global partners become educated on the US PEO market, there is a potential some could enter the US market. These companies, assuming the value proposition is solid, would have a competitive advantage due to lower wage scales in the home country.
Forward Looking Statement
Based on the size of clientele currently serviced by the PEO industry (under 30 WSEs), globalization would likely be influenced by industry. For example, financial institutions have a propensity for global employees, as do tech companies. Most manufacturing offshoring is done with the indigenous population of the country to which it was outsourced and therefore would not require a domestic PEO to have a global reach. Thus it is likely that a globalization trend within the PEO industry would first occur in the white collar segment.
ACA changes, AI development, and globalization within the PEO industry may never come to pass. However, if they do, those that are positioned to capitalize on these developments would obtain a competitive advantage. While industry penetration in the US is low, competition levels are increasing. For further information on market penetration and competition levels, click here.
Scenario planning is always advised for executive teams, especially with larger national PEOs. It positions the PEO to move more quickly should one of the scenarios come to fruition. It also provides increased transparency with indicators to recognize market shifts early in the cycle.
Author: Rob Comeau is the CEO of Business Resource Center, Inc., a consulting and M&A advisory firm to the PEO industry.