Forbes - October 20, 1997

The more paperwork the feds load on small businesses, the more guys like Paul Sarvadi smile.
We cure small-business headaches.

By Christopher Palmeri

PAUL SARVADI loves to show off a slide called The Growing Burden of Employment Regulation. It shows a confusing mass of acronyms: ADA (the Americans with Disabilities Act); FMLA (the Family and Medical Leave Act); EPPA (the Employee Polygraph Protection Act, which says that employers can’t give lie detector tests to job candidates).
Congress in its great wisdom has seen fit to pass a mass of sometimes conflicting, frequently onerous laws with the stated goal of protecting working stiffs. In fact these laws are more often a bonanza for lawyers and a costly headache for small businesses. "We have really mixed emotions about these laws," Sarvadi says with a smile. "But they drive our business."

Sarvadi is in the business of taking regulatory hassles off the backs of small-business owners. His company, Administaff, Inc., is one of the largest players in the fast-growing field of staff-leasing.

Call in Administaff and it transfers your employees from your payroll to Administaff’s. It does IRS forms, pays payroll taxes, writes paychecks and handles the acres of paperwork that big companies have staffs to handle but small-business owners and their spouses must often do late in the evenings or on weekends.

On average, Administaff charges 3% of a company’s personnel expenses. The business owner makes the hiring and firing decisions. Administaff is there to provide legal advice. If desired, Administaff will place want ads and do preliminary job interviews.

Worried about sexual harassment suits? Send employees to Administaff’s leafy headquarters in the Houston suburb of Kingwood, Tex., where the company runs an Administaff University that teaches courses in things like sexual harassment awareness and workplace violence prevention. About 3,000 people took these classes last year.

Administaff can earn money beyond its 3% fee. Buying in bulk, it pays less for health and workers’ compensation insurance. Administaff pockets the spread between what an employer used to pay and the bulk deals it negotiates.

Because Administaff assumes most of the liability of employee accidents, it sends professional inspectors to work sites to suggest improvements and provide safety training.

The business is, not surprisingly, growing. Started in 1986, Administaff’s first-year revenues were $750,000. This year it expects $1.1 billion. "We get all of the resources of a big business," says Administaff customer Daniel Prosser, president of 30-person Houston-based telecommunications consulting firm. Administaff now services 28,000 employees at 1,700 client companies, half of whom are in Texas.

Last year Administaff netted $2.6 million on a total payroll of $900 million. That’s not bad, considering stockholders’ equity at the time was just $13 million. Sarvadi insists margins will get better as volume grows and investments in computer systems and organization are spread over a bigger base. "We are at the front end of the hockey stick of awareness," says an incessantly beaming Sarvadi. "It takes a lot of work to get all of the metrics right."

Sarvadi is not alone in sniffing opportunity here. In fact he has only about 1% of the market. Some 2.5 million employees receive paychecks from rival staff-leasing firms.

The staff-leasing industry began in the early 1980s and has not enjoyed a squeaky-clean image. Some promoters offered their services to doctors and other professionals as a gimmick for increasing the boss’ tax-deferred pension contributions. Some ran sophisticated schemes that skimped on health care and workers’ comp insurance. Some just took the employer’s money and ran.

Sarvadi worked briefly for one of the worst offenders, James Borgelt, who founded a number of staff-leasing companies in Dallas and last year was sentenced to a three-year prison term for stealing from his clients.

States like Florida, California and Texas have begun regulating the industry. In the early 1990s Administaff and a number of larger players supported licensing efforts now in place in 16 states. "We’ve set the standards now," he says.

But the scandals keep erupting. In March Phoenix-based Employee Solutions, Inc., the industry’s first publicly traded company, announced that it would sharply increase reserves for workers’ comp claims. The high-flying stock collapsed.

Yet in the past 12 months, five staff-leasing firms, including Administaff, have gone public. Most trade at very rich valuations, Administaff at 42 times this year’s estimated earnings.

Scandals or not, staff-leasing is a valid concept. T. Joe Willey is a consultant to staff-leasing companies and former operator of one himself. He recalls buying the California customer list of one of James Borgelt’s defunct companies out of bankruptcy court a decade ago. A solid 82% of the clients signed on with other staff-leasing firms. Says Willey: "That convinced me there was something to the business."

Reprinted with permission of Forbes Magazine.