Baird Capital’s Joanna Arras on the evolving HR tech landscape

What can you tell us about Baird Capital’s investment thesis and how it stands out from other funds?

Baird Capital is the direct private investment arm of Baird and has two fund families: a global private equity fund and the venture capital fund where I’m a partner. The venture fund is focused on mid-stage B2B tech and tech-enabled services businesses with between $5 and $20 million in revenue, and we typically write $10 to $15 million checks at the Series B stage and beyond. We are currently investing out of our sixth fund and have worked with more than 80 companies over the past two decades.

In terms of how we stand out, one of the most important differentiators is our affiliation with our parent company. Baird has around 6,000 employees, including more than 400 investment banking professionals, and is known for its deep industry coverage, sector relationships, and world-class macroeconomic research. We have a deep understanding of capital markets and have a huge network that we can tap into. When it comes to Baird Capital specifically, what stands out is the fact that our partners have an average tenure of 20 years. Not only is that pretty unique, but it also speaks to the depth of experience and expertise we have in the stages and sectors where we invest.

One of the sectors we know you’ve been focused on is HR tech. Why is that an area of interest and how do you think about that market?

We usually look to invest in sectors where our team has particular expertise, and we’ve been able to leverage Baird’s long-standing coverage of public and private HR tech companies. Because of that, HR tech has also become a sector that we’re known for at Baird Capital and where we’ve made a significant number of investments.

The easiest way to think about HR tech is to break it down into two big buckets. The first bucket is the admin side, which includes functions like payroll, time and attendance, workforce management, employee engagement, performance management, learning and development, and benefits. The second is all things recruiting and talent acquisition, which includes areas like recruitment process outsourcing, internal recruiting, and applicant tracking, as well as onboarding and credentialing.

Within the first bucket, there are really strong, consistent players with “tip of the spear” products like payroll since every customer needs to pay their employees. These larger incumbents are always looking to innovate or partner with earlier-stage companies to be able to provide customers more current or modern solutions.

Everyone knows that the way people work has changed since the pandemic. From an innovation perspective, that means that solutions that were built for workforces in 2018 were no longer suitable by 2020 or 2021, just as new solutions built then aren’t really suitable today. While that pace of change can be challenging, it has also created opportunities for early-stage companies to out-innovate incumbents and effectively be native in these new working environments. Not surprisingly, a lot of the startup and investment activity we’re seeing is focused on adapting to the evolving needs of today’s workforce and helping to shape the future of work.

We see pretty consistent M&A activity by the larger players in this space. For example, even amid relatively low acquisition activity in the broader markets so far in 2024, ADP has made three acquisitions and Workday has made one. In 2023, UKG made a nearly $600 million acquisition of payroll provider Immedis.

As you noted, workforce dynamics have changed pretty dramatically in recent years. Beyond the impact that Covid has had, what other trends do you currently see reshaping HR tech?

The way that the HR function is perceived has changed a lot over the past five years. It’s gone from being seen as a corporate resource group that was necessary for administering payroll and onboarding new employees to a strategic imperative that’s essential for attracting and retaining a high-quality workforce. As a result, a lot of HR spend is no longer viewed as discretionary or fluffy, but rather as mission-critical for keeping today’s workers motivated, productive, and focused on what their employers need them to do.

HR has gone from being seen as a corporate resource group that was necessary for administering payroll and onboarding new employees to a strategic imperative that’s essential for attracting and retaining a high-quality workforce.

That said, it’s also important to point out that HR buyers have traditionally been slower when it comes to technology adoption. Not only is that evident in what we are seeing right now with their approach to AI and machine learning, but also in the fact that there is still a huge amount of room for cloud-based providers to grow in the space. So, while HR leaders need tech now more than ever to meet the challenges of retaining their employees and keeping them productive and engaged, they’re also unlikely to be at the cutting edge when it comes to embracing technology that’s new and untested.

Can you tell us about some of Baird Capital’s past investments in HR tech?

Sure, Hireology is a good example. It’s a lightweight applicant tracking system and recruitment management platform for owner-operator businesses. Another is Appcast, which provides programmatic job ad optimization to help enterprise customers get in front of the right candidates at the right time.

I’d also highlight our investment in a company called Montage (now HireVue), a pioneer in the video interviewing space. I know that doesn’t sound super innovative today, but years ago before everyone had Zoom, it was a game changer that helped drive greater efficiency in recruiting workflows by making video interviewing possible at scale.

The bar for an HR tech company to raise capital probably looks different today than it did a few years ago. What would a CEO need to bring to the table to get funded in this environment?

Show me a convincing and tangible ROI that you can deliver to HR departments. I know that sounds overly simplistic, and it certainly isn’t the only thing that matters, but it is way more than half the battle right now. HR departments are cost centers, not revenue generators, so they are far more budget sensitive than sales or marketing departments, for instance. That means that they have a much lower tolerance for trying out new technologies. As a seller, you have to be able to come in and explain how your solution will drive an X% increase in efficiency or save the organization Y dollars every year. And then you have to be able to prove the solution can actually deliver what you say it can over the course of a three-month pilot program.

It’s also important for companies to respect and appreciate where and how HR users interact with technology. A lot of the tech market is obsessed with AI right now, but that’s not nearly as true in HR tech. Marketing buzzwords like AI don’t translate very well to folks who either aren’t at the leading edge of technology adoption or aren’t willing to wait a few quarters or even a few years to find out if something actually works.

Even so, AI will surely play a big role in the future of HR tech. Where do you see the biggest opportunities?

There’s a really big opportunity in recruiting, but I think things get pretty murky when it comes to using AI in workforce management. The reality is that AI isn’t always right. There are a lot of nuances in HR and that makes it incredibly challenging to train models on something like an organization’s culture. On the other hand, AI is perfect for reviewing resumes and identifying applicants who meet a set of criteria. To me, that all suggests that there’s a huge opportunity for AI to run alongside different HR functions to make them more efficient, but that it’s not near the point where it should be replacing humans as the decision maker.

Last question: Where do you see HR tech headed over the next five to ten years?

In my view, HR will continue to play an increasingly important role in the success of businesses. As a result, HR tech will inevitably become more embedded in business units and in everyday business operations. That said, for HR to reach its full potential, HR professionals will need to upskill and the pace of innovation in the technology they rely on will need to accelerate. In the short term, HR tech will move faster, meaning that there will likely be a period of time where technology does more to enhance the general employee experience than HR teams can.

It’s also really exciting to think that people will be able to leverage technology to become better managers. Most middle managers have to wear a lot of hats and don’t prioritize their management style or effectiveness. Going forward, they will be able to leverage tech to keep their staff happier and more engaged by facilitating greater collaboration, recognizing and rewarding good work, and giving employees the opportunities they are looking for to advance their careers. And, as HR solutions continue to evolve, they will touch and be touched by more and more people, ultimately increasing their importance across organizations.

Thanks for sharing your insights, Joanna. We appreciate it!