Governments wringing too many savings out of outsourced risk is threatening the commercial and political sustainability of the whole enterprise, warns one of Australia’s top government contracting experts. It’s becoming a ‘game of chicken’ where the players want out.
Using outsourcing to aggressively drive down costs to government is undermining service quality and trust, threatening the commercial and political sustainability of markets for such services, warns a report by contracting expert Gary Sturgess.
The tools needed for the procurement of commoditised, easily specified goods and services — paperclips, for example — are not the same as those required for commissioning complex support and human services — yet governments too often treat them as the same, Sturgess argues in Just another paperclip? Rethinking the market for complex public services.
“The danger is that if government treats complex public services as commodities when they are not capable of being standardised, this will encourage a focus on price and a race to the bottom,” he argues.
Competitive tendering is a “highly effective” way of driving down prices, says Sturgess — perhaps too effective, given the tendency for this to overtake other valuable considerations such as quality, and sometimes even viability. Over the long term an unrealistic drive to cut costs encourages under-bidding — “a game of chicken”, as he describes it.
“High risk takers will win contracts at the expense of more prudent companies. Bad contracting will drive out good contracting. Ultimately, this will not be sustainable either, at least not for complex services.”
This is a recipe for driving away providers and destroying trust in the whole idea of outsourcing.
“If providers sign up to outcomes that are undeliverable and/or if they agree to prices that are unsustainable, they may disappoint customers by providing services of lower quality and reliability and/or they may disappoint shareholders and investors by delivering unacceptable returns, causing them to surrender their contracts early. In either case, this may result in individual companies losing the trust of their customers (and the public at large), and ultimately it may contribute to a loss of confidence in public service contracting overall,” he says.
This may mean public service contracting comes to be linked in the public mind with low-price bidding and a ‘race to the bottom’ — if it hasn’t already.
“In spite of repeated warnings over several decades about the dangers of low-price bidding for complex services, the problem is worse now than ever.”
Someone has to pay for innovation
Excessively low pricing results in bare-bones delivery — hardly conducive to genuine innovation. In interviews conducted for the report — mostly with providers, but a few civil servants as well — Sturgess was told it is not unusual for potential customers to speak about quality and innovation in the early stages of the procurement, but then to focus almost exclusively on price.
Although the report focuses on the United Kingdom — which has endured significant budgetary problems and pursued heavy cost-cutting since the financial crisis — the same problems are found Australia, albeit to a lesser degree, Sturgess told The Mandarin. The report was commissioned by industry to encourage government to engage with companies to find out why many are choosing to opt out of working with government.
Companies are increasingly choosing not to bid, and are refusing to accept unmanageable risks. This is particularly noticeable in the highly fraught arena of human detention. British company G4S — which provides a broad range of services in around 125 countries — has reduced the share of government business in its global portfolio from 24% of global revenue to 14% since 2013, following high profile problems in its management of a youth detention centre in the UK. Broadspectrum, formerly known as Transfield, is planning to get out of the business of asylum seeker detention services.
But the problem is much further-reaching than that. The chief executive of an unnamed company interviewed by Sturgess said that there was a lack of respect for industry and a legacy of distrust. Relationships had become antagonistic and adversarial. Reflecting on relations with government, board members expressed the view that: “If a private company treated us that way, we wouldn’t do business with them again”.
And it’s not just cost-cutting. Over-zealous risk transfer — saddling contractors with financial responsibility for things that are out of their control — is adding to the problems and pushing some companies to decide not to bid for contracts. Decisions like making companies assume the risk of government changing its policy, or putting capital costs on the provider for a short service contract, are increasing the risks for contractors despite their inability to influence what happens.
Sturgess believes one of the key drivers of these changes is a shift from a relational form of contracting, based heavily on personal relationships and institutional trust, to a highly transactional approach, which relies on the enforcement of performance indicators through financial penalties. Although making the jump towards a transactional approach can yield savings in the short-term by taking advantage of sunk investment and existing trust, this capital is quickly run down the more aggressive approach can end up being self-defeating as companies opt out of a relationship where the risks are higher and gains lower.
“Contract form must follow service function — and if government is not willing to adapt its contracting models so that they are appropriate to the services being put to market, then the range of functions included in the contract will inevitably shrink. Highly transactional contracting forms are appropriate for simple functions but not for complex services,” he argues.
Ultimately it’s up to governments to change how they approach outsourcing.
“Government must formally acknowledge at the highest level that the procurement and contract management tools appropriate for buying ‘paperclips’ — highly commoditised, easily specified goods and services — are not appropriate for commissioning complex support services and front-line human services.
“Policymakers must distinguish between those markets that have developed to the point where they are capable of commoditisation, and those where the complexity of or uncertainty about the services in question and/or a general lack of understanding or expertise on the supply side requires a less transactional approach.
“If the market for complex public services is to survive and mature, it is essential that government work with industry to rebuild personal, organisational and institutional trust.”