PEO Client Selection Process
By: Rob Comeau
A well-defined client selection process is necessary to remove ambiguity within the decision-making process of selecting new clientele. If a PEO does not clearly define its client selection protocol, it will assume a selection protocol by default. Lack of a selection strategy may result in default criteria being determined by a carrier’s underwriting guidelines, ability for price acceptance, clients with minimal options due to poor historical performance, and/or channel partners determining appropriate clientele.
Moreover, without a defined client selection framework, the PEO may cause confusion internally regarding what an appropriate client profile looks like. As a result, the PEO may incur unnecessary risk and internal interdepartmental friction through an ill-defined client selection process.
This article will review some of the variables to consider when determining an appropriate client selection process. Moreover, it will contrast some of the consequences between a defined and undefined client selection process.
A Defined Client Selection Process is Important
Sustainability, to a large degree, is a byproduct of appropriate client selection. When a clearly defined client selection process is not in place, alternative framework is created by default. This alternative framework for client selection may not always be visible to PEO leadership. Moreover, it may not be in line with the vision for the company. This can create confusion for sales, implementation, underwriting, and the PEO’s service team. It may also create interdepartmental friction about whom is an appropriate client for the organization. This confusion and friction can be avoided by clearly defining the client selection process.
Beyond creating potential internal conflict, the PEO will likely incur additional risk when its client selection process is not defined. The sales department is incentivized on new business growth. Underwriting is instructed to mitigate potential risk. When these two departments are not in sync with a defined selection process, friction will occur. Pressure will be put on sales to produce while pressure is also applied to underwriting to protect against unnecessary liabilities. Misalignment in determining an appropriate client can slow down revenue growth and/or increase risk with poor client selection. Simply put, either sales or underwriting is going to win on each account while each may be frustrated with the process. The result for the PEO is slowed revenue growth, increased insurance liability, disjointed departmental alignment, and reduced employee satisfaction.
When the client selection process is clearly defined, departments can work harmoniously toward a common goal. Ambiguity is removed in the decision-making process and alignment occurs. Sales knows what type of clients to hunt for and underwriting knows what client profile is acceptable. While these respective departments will not agree on every account, defining the process will lessen conflicts and thus create a more streamlined process. The result for the PEO is increased revenue growth, decreased insurance liability, aligned departmental vision, and stable employee satisfaction.
Variables to Consider When Designing a Client Selection Process
The emphasis on a PEO’s value proposition generally is indicative of the macro client segmentation it desires (white, grey, or blue collar industries). For example, a PEO focused on the white collar segmentation may emphasize its HR, technology, and benefits package. Conversely, a PEO focused on the blue collar segment may emphasize HR, Safety, and workers’ compensation. While each respective PEO will offer the full gamut of the PEO offering, the emphasis of certain aspects is indicative of its desired clientele. This is an important step as the PEO wants to ensure that the macro client segmentation is in line with its value proposition. Once the macro client selection process is determined, a PEO can narrow its framework for appropriate client selection.
The following variables are some suggestions on elements to define when creating a client selection process:
- Minimum gross margin threshold
- Industry cyclicality
- Industry trending
- Claims history
- Propensity for long term claims
- Client size
- Industry market size
- Financial solvency requirements
- Risk mitigation controls
- WSE turnover
- Average WSE pay rates
- Ownership attitude
- Industry Insurance risk factor
- SMB growth trending
There are additional factors that may be considered when defining a well-rounded client selection process, but the above fifteen bullet points will provide a solid foundation. We’ll quickly take each of these bullet points one by one for further insight.
Minimum Gross Margin Threshold
Defining a minimum GM$ threshold will protect your PEO from bringing on clients that may not be profitable. A client that is too small can create multiple issues. Each client, regardless of size, require service hours. Very small clients can take up valuable time from your service team while returning minimal profitability. This can skew the WSE to EE ratio in an unfavorable direction. Moreover, a shock loss with insurance can take a decade to recoup profitability with a very small client. Establishing a GM$ floor will either mitigate taking on clients that are too small or ensure that small business is priced effectively to ensure profit is commensurate with service allocation and incurred risk.
Are the industries your PEO services prone to volatile cyclicality? If yes, the PEO, by default, is also subject to increased cyclicality since PEO pricing is typically a percentage of payroll. When an economic downturn occurs, certain industries are prone to greater swings in revenue. New housing construction and the oil industry are good examples of industries that are prone to greater degrees of cyclicality. If the industries a PEO services have increased cyclicality, the PEO can incur reduced revenue, increase unemployment claims, and potentially increased workers’ compensation claims simultaneously. It is advised for a PEO to diversify its book of business to lessen the degree of cyclicality.
Are the industries your PEO services growing, stable, or dying? Industries that are growing equate to your client’s WSE count growing. The result is an increase in same store sales for the PEO. If the industries are dying, a PEO will feel increased pressure for new business to offset a reduction in same store sales.
Unless something has changed within an SMB’s model, i.e. automated manufacturing processes, new leadership, etc., claims history is indicative of client performance. Thorough underwriting will help vet undesirable clientele while also shedding light on prospects that may warrant a second look. Predictive analytics is advised to assist underwriting in making educated decisions.
Propensity for long term claims
From an insurance perspective, some clients are great until they are not. Industries that have a propensity for longer term exposure claims should be scrutinized. For example, asbestos exposure (demolition), silica sand inhalation (foundries), underground and inhalation exposure (mining), may be some industries to carefully review. Long term exposures can erode profitability of clients that appeared profitable for the short term.
What is the desirable WSE range for your PEO? This is an easy guideline to help your sales force and channel partners focus on prospects that fit within your PEO’s wheelhouse. Typically, we advise PEOs to establish a range and peripherals. For example, a PEO may target prospects with 20 to 200 WSEs with a peripheral range of 15 to 250 for appropriate accounts. Determining the appropriate range for client size will help protect against unfavorable WSE to EE ratios and guide the PEO’s sales engine toward desire business.
Industry Market Size
How big are the industries your PEO is targeting? Is there a lot of white space to grow or is the industry a small niche? Review the market size in conjunction with your desired geography to ensure the PEO has plenty of fish to catch.
Financial solvency requirements
Is the prospect liquid to cover payroll and billing liabilities? Reviewing banking statements, average daily balance, etc. will help protect against NSFs that could damage the PEO’s profitability.
Risk Mitigation Controls
Does the prospect currently have appropriate safety and risk mitigation controls in place? Is there a genuine willingness for the prospect to expand upon this in the future? Clients that cut corners with safety put their employees and the PEO at risk for unnecessary liability.
High WSE turnover can drive up a PEO’s SUTA rates and create a higher risk for post-termination claims. Moreover, if turnover is higher than industry averages, it is indicative of greater problems occurring within the prospect.
Average WSE payrates
If an SMB’s payrates are below industry averages and they do not provide health benefits, it creates risk for the PEO. This risk can take the form of higher WSE turnover, fraudulent workers’ compensation claims, and employment litigation.
It may sound simple, but sales should conduct the airport test when meeting with SMB ownership. Is leadership someone you wouldn’t mind being stuck next to during a long layover? Your service team is going to deal with the SMB on a weekly basis. Moreover, if the leadership of the SMB is consistently difficult, they will siphon the service teams time, create unnecessary problems, and likely have a WSE workforce that is not happy. This can create additional liability in unemployment and claims.
Make sure that the PEO’s clientele are within appropriate range based on the determined structure for service. PEOs that utilize an in-person service model will find it difficult to maintain clients too far from office locations. Moreover, we have found that the further the client is from the office, the higher the client attrition and claims experience. There are exceptions to this, but review what is best for your PEO.
Industry Insurance Risk Factor
Do the industries your PEO service have a high propensity for claims or WSE attrition? Seasonal industries can provide a spike and revenue but also an increase in back-end liability with unemployment and insurance claims. Review the industries your PEO chooses to service to ensure that unnecessary risk isn’t being incurred. This may vary from State to State based on workers’ compensation volatility within each State. Be sure to take these factors into consideration when determining industry profiles.
SMB Growth Trending
Is a prospect growing, stable, or declining? Asking for year over year revenue and profit growth percentages will be a good indicator. Growing prospects equate to same store sales growth within the PEO. Declining prospects equate to the opposite. Growing prospects typically love to discuss their growth. Declining prospects may be more guarded with this information. It is not always possible to determine this information but whenever possible, growing prospects are obviously ideal.
Your PEO may have its own criteria it uses to determine the client selection process which may include some of the bullet points covered. Regardless of the criteria used, defining the client selection process will help improve interdepartmental alignment and court higher employee satisfaction. Moreover, it will help reduce liability, insurance risk, and unemployment claims. Finally, a defined client selection process should assist in streamlining sales and provide channel partners with an appropriate framework for client submissions. Remember, a client selection process is at work in every PEO. The question is whether the client selection framework was intentional or by default.
Rob Comeau is the CEO of Business Resource Center, Inc. BRC is a business consulting and M&A advisory firm to the PEO industry. For more information on BRC, you may visit www.biz-rc.com.
4 thoughts on “PEO Client Selection Process”
Hi Rob – thank yo very much for the responses. the only one I have a question on is. $800-1200 per WSE Annually. Not sure what WSE means (worksite employee??). So does that mean for a 100 person (100 WSE) Company their PEO cost would be $800 x 100 or $80,000 per year?
The other request I have, is can you remove my post or at least my client name from the post? Again, Thank you very much. Steve Carson
Hi Steve, you are correct that WSE is an acronym for Worksite Employee. You are also correct with the range being based on an annual basis. In your example, assuming the PEO charged $800 per WSE annually, the client would pay $80K in administrative fees. Don’t forget there are also expenses for insurance which we did not cover. With regard to your other request, all identifying information has been redacted from your previous comment, thanks. Have a great day!
Hi Rob – i recently read your article on PEO selection process. I found it to contain several strong points and many very practical themes a PEO could use and it was helpful for me with current research I’m conducting. I have a few questions and to set the stage for my questions let me explain the purpose.
My name is Steve Carson, I run a Sales and Operations Advisory business called SalesOpsAdvisors.com, I am conducting research on the PEO market in prep for my client to begin actively selling their HR/Legal solution into the PEO marketplace. My client is REDACTED, a 20 year young services Company that provides a Cloud based solution which includes Content, Compliance Tools and Access to Attorneys and has a proven record of generating high engagement rates. Traditionally, they have sold their solution through a distribution model targeting Insurance Cos who package the REDACTED solution with their applicable insurance policies (covering Employment Law, Healthcare/Benefits Law, Retirement Law, Cyber Security Law, etc). If you are familiar with REDACTED, they would be a competitor but do not offer some of the elements that my client does. Hopefully that background will helpful help with my questions about the typicals in the PEO Market. What is:
1. Avg. Retention Rate
2. Avg. cost for PEO services (as an example an avg might be $5, $15, $30.00 Per Employee Per Month). I have no idea so hoping you can provide some ball parks.
3. Avg. Growth Rates % of new clients added per year across the PEO market. Is there a rough average.
4. What I’ve read to date indicates there are approx. 900 PEO’s in the US and they are only serving approx. 15% of the total SMB market. So it would suggest there is lots of room for growth. Is that how you see it or is it consolidating?
5. Is there a key SMB market segment which the PEO’s focus on for new business (retail, services, manufacturing, etc)?
6. How important is differentiation for the PEO’s when selling their services to new clients? and How do most of them differentiate (through the portfolio of services they offer)?
If you can take the time to provide some answers to the above it is greatly appreciated and I owe you a lunch on me at your favorite location.
Thanks in advance and if I can ever help you please let me know. You will also find me on LinkedIn lets connect.
Hi Steve, thanks for the overview. In response to your questions, please see the below high-level answers:
1. Average retention rate would be between 85% and 95% annually. The sweet spot is typically around 88% to 90%.
2. This question is tougher to answer because it depends on what the PEO is offering. Insurance costs (i.e. workers’ comp and health benefits would factor into this). If you remove the insurance costs from the equation and just focus on the administrative fees (charge for PEO services) I would say a fair average would range anywhere between $800 and $1,200 per WSE annually.
3. This varies greatly on the PEO’s size. However, you can view our industry statistics, 2018 article to see how the industry is growing from a revenue perspective.
4. You are correct on the estimated number of PEOs in operation today. I would say the penetration rate is closer to 5% to 7% in lieu of 15% (a lot of white space). The industry is fragmented with 900+ players but is consolidating through acquisitions. However, revenue distribution is consolidated. Meaning that it is likely the top 20 players control roughly 2/3 of the industry revenue.
5. Yes. Most PEOs will adhere to a macro client segmentation focus (i.e. white, grey, or blue collar industries). From there, depending on the PEO’s focus, they will filter down to desired industries. I would say that aside from niche focus PEOs, most PEOs will have a mixed bag of industries that fall within their macro client segmentation strategy.
6. Differentiation and execution are key unless a PEO is selling on price. The differentiation will come in the form of scope of service, execution strategy, insurance, tech, etc.
Hope this helps. Let me know if you have any other questions.
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