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Legal challenges, security concerns raise the stakes for background screening.
National Law Journal called it one of the “Top 100 Verdicts of 2007.” A truck driver for a hazardous waste company in Texas caused an accident that led to a man’s death. A jury awarded $20.7 million to the deceased’s estate, agreeing with the plaintiff that the employer was negligent in hiring the driver without adequately checking his drug use or driving record. The parties settled out of court for an undisclosed sum during the appeal.
State courts are hearing more civil suits like this, based on negligent hiring claims. Plaintiffs argue that employers knew, or should have known, about a hire’s potential threat to others. Juries usually find against employers and, on average, award damages of $1 million or more. For this and other reasons, more employers are conducting pre-employment background checks.
But there’s a catch: While juries punish employers for inadequate background checks, the U.S. Equal Employment Opportunity Commission has stepped up enforcement against overzealous use of background checks in ways federal officials say violate federal law.
In state courts, “there are more negligent hiring and retention claims,” says Pamela Devata, a partner at Seyfarth Shaw LLP, citing the Texas case Bohne v. Enviroclean Management Services Inc. as an example. “But these are tricky waters to navigate.” In fact, federal officials are looking closely at hiring practices and policies related to criminal and credit histories.
Add to increased federal scrutiny variations in state laws governing the use of criminal records and credit histories in hiring decisions, and it becomes clear that background checks are fraught with legal landmines. Hence, HR professionals must not take the choice of a screening partner lightly.
Darby James, director of staffing at Continental Airlines, with 40,000 employees, is adamant about one criterion: “I expect the screening partner to protect me and to know when I shouldn’t know or ask for information. They have to know all the various laws from state to state. I can’t know that.”
Choosing a background screening partner is not simple. There’s not much financial information for most providers. Until recently, there haven’t been industrywide standards vendors agree to meet. Technological capabilities are important, but these service providers still need boots on the ground. The fragmented industry features a few big vendors, dozens of medium-size companies and hundreds of small ones—some not much more than private-eye wannabes or computer jockeys with delusions of using Google for easy cash.
“A few years ago …
Entrepreneur magazine listed pre-employment screening as a growth business. I still take a few calls a month or get e-mails about what to do to get into this line of work,” says Tracey Seabrook, executive director of the National Association of Professional Background Screeners (NAPBS) in Morrisville, N.C. “With all the new legislation across the states, it is a lot more difficult than it used to be. The first thing I ask anyone is whether they have read the federal Fair Credit Reporting Act.”
Founded in 2003, the nonprofit trade association launched an accreditation program in March. NAPBS would like its accreditation to become a seal of approval customers come to rely on. It is the first time the industry has attempted to apply best practices for consumer protection, legal compliance and client education, and standards for court researchers, data, and verification, to its 400 screening members. Seabrook says the first accredited companies will be announced before year-end.
Some vendors have ISO certification from the International Organization for Standardization. But that designation is not specific to background checking and does not guarantee quality of products or services, only that formal business processes are applied.
Still, ISO certification is a must in her current vendor selection process, says Susanne Reilly, senior director of talent management at Stryker Orthopaedics in Mahwah, N.J. With accreditation from NAPBS now operative, “we’ll look for that certification, too,” she says.
When Entrepreneur published that article on growth industries, it wasn’t wrong. Pre-employment background screening had been increasing in frequency for at least a decade, driven by several factors:
Vendors saw brisk growth and then it came to a screeching halt: “The recession has been devastating to a lot of background screening companies,” says Cherie Smith Homa, managing director in the Baltimore office of KPMG Corporate Finance LLC. “The size of the market is $2 billion to $3 billion. It grew every year until 2009 and then there was a 20 percent pullback.”
Homa’s estimate is not precise because financial details are lacking; only a few vendors are publicly held and required to issue financial statements. Some are a division in a publicly held company and may not report revenue separately. Several vendors are owned by private equity firms.
Homa augments the publicly available financial information with confidential surveys and findings from public records. After years of growth, revenue slowed in late 2007 and crashed in 2009. “Most company revenues were down between 10 percent and 30 percent,” Homa says. Revenues rose in the first half of 2010.
Homa identifies three large vendors:
Each of the three exceeds $100 million in annual revenue, Homa says. She estimates another half-dozen providers have $50 million to $100 million in revenue. There might be 50 with $5 million to $50 million in revenue and “hundreds with less than $5 million.”
Depending on the client’s culture and size, a big provider is often considered the safe choice, Homa says, adding that many large customers choose mid-tier providers for what they see as better service. Continental recently changed vendors for that reason, James says.
ne industry and its mandates were important, but customer service clinched it. The new provider, James says, “blew us away, in large part because it feels like a partnership. They don’t want us to get anything wrong. When you [the vendor] get too big, it is too easy for it to become a process, not a partnership.”
Fragmentation And Consolidation
The need to invest in technology, and the complexities of privacy and data security created advantages to being larger, and encouraged consolidation in the industry, Homa says.
“If you didn’t look at it historically you’d say the current consolidation was due to the recession, but I don’t think that is the case. It is driven by the fact it is still fragmented. There were probably some opportunistic acquisitions during the recession but there was only a slight increase in the last 12 months,” Homa says.
Lester S. Rosen, chief executive officer of ESR Inc., a privately held screening firm in Novato, Calif., and author of The Safe Hiring Manual (Facts on Demand Press, 2007), agrees that the industry is still fragmented, but notes: “Investment banking firms buying and consolidating big companies is a new trend. Larger financial interests are involved at the same time we still have medium-size or boutique firms.”
Rosen says two models have evolved: “A large data-driven industry with assembly-line-like practices and a boutique approach with emphasis on education and consultation.”
Homa, Rosen and others expect consolidation to continue.
“We were looking for acquisitions,” says Nick Fishman, chief marketing officer at privately held EmployeeScreenIQ in Cleveland. Some “companies putting themselves up for sale were so distressed they weren’t worth salvaging.” He expects another slowdown; some who weathered the recession may be forced to
Whenever a vendor of an HR service is acquired, there’s a period of uncertainty for customers. With background screening, it can be argued that consolidation is more positive than not. The economies of scale help vendors improve profit margins; when a background screener is acquired by a company not in screening there are other revenue streams to buffer it; and the acquirer often has deeper pockets to invest in technology and compliance.
“In the 1990s, you could be a small shop and get along fine. I don’t know how you do that now with all the technology and the legal stuff,” says Rob Pickell, senior vice president of customer solutions for HireRight, the commercial background screening unit of Altegrity. “Bigger is not necessarily better, but you do have resources.”
Altegrity illustrates the positive side of consolidation, he argues. USIS is strong in the trucking and federal government segments; Kroll is strong globally and in financial and health sectors; and HireRight has a customer base among the Fortune 500 and a solid technology platform.
He says the basic background check has become a low-priced commodity; smaller providers must compete by attracting small customers or by specializing in certain vertical industries. “We see about a dozen competitors who probably serve about 80 percent of the transactional volume in our industry, and an enormous tail for the remaining 20 percent. The long tail is hundreds of companies,” Pickell says.
Consolidation doesn’t appear to have hurt pricing, in part because many options remain. “Prices are reasonable. The industry is getting more competitive based on our electronic age,” says Mary Bryan, vice president of HR field operations at OfficeMax Inc., a retail and wholesale office-products company with about 30,000 employees.
resumably with more accuracy. Top companies offer a range of capabilities, but, Pickell notes, “even among the top 10 or 12, a reasonable number are still solidifying their technical capability.”
Technology has played a role in the maturing of this industry but is not a panacea. It has sped up service delivery and driven down prices. Three aspects of technology have become important: the user interface for job candidate and client, back-end processing used by the provider, and network links into courthouses. All of this is at some expense to vendors.
Sterling Infosystems Inc., a privately held screening company based in New York City, has invested heavily during the past six years to build direct links into the computerized criminal records of about 70 percent of the nation’s 10,000 courthouses, says President Richard Seldon.
All vendors use various national databases for an initial search of criminal records, but if they stop at that they run the risk of missing more recent records of criminal convictions that are not yet in the national repositories. Often, the only way to be sure about a candidate’s criminal record is to know the jurisdictions he or she has lived in, and send court runners to manually check in those courthouses. Seldon says Sterling’s technology has automated much of this activity, but as many as one-fourth of the nation’s courthouses still are not computerized, necessitating the use of court runners.
While vendors must invest in technology to compete, the technology has brought down the price of doing business. “As providers have increased their use of technology to deliver service to clients, they’ve experienced pricing pressures,” Homa says. “Yet vendors still have to pay for the data.”
Most large customers expect any cost savings from technology to be passed on to them.
“It has to be a challenge for the vendors,” says Executive Vice President Stephen Wood, chief human resources officer at Dish Network Corp., in Englewood, Colo., with about 21,000 employees. “But the technology has helped their margins and they don’t get to keep it all.”
The author is a contributing editor for HR Magazine and is based in Silicon Valley in California.
What pre-employment screening do you use? Have you found certain types of screening to be particularly effective for all or particular categories of employees?
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