Australian Financial Review Government Outsourcing Conference
Canberra
29 May 2001
Five years ago the practice of Information Technology (IT) outsourcing carried with it the perception of opportunity and efficiency for private and public organisations alike.
This perception was fuelled in part by the inability of management to grasp the significance of information in pursuing the service objectives of the business or agency. They just didn’t see information management as core business.
It was also fuelled by the aggressive pitch of IT corporations under pressure to find new markets- and hang desperately onto old ones. These new markets emerged in project managing the complex deployment and maintenance of dynamic, converging technologies.
Combined, these two forces presented an optimal environment for IT corporations to pursue large, vertically integrated contracts with private and public organisations alike.
For management, much of the appeal of this pitch was the transfer of risk associated having to keep pace with change. Procurement of the ‘right’ software and hardware and managing the human resources needed to keep it all running was considered beyond the capability of senior management – it needed specialist expertise.
For many corporate boards and executive government, the appeal was a little more base – the tantalising promise of savings. It is as though decision makers had far greater confidence in prescribing the structure of a contract than in having to determine the best and most suitable information management strategies for their business or agency.
In Australia in 1996, this base appeal of costs savings won the hearts and minds of an incoming Coalition Government that promptly set about mandating a program of IT Outsourcing that placed savings at the forefront of their policy objective.
Five years later with that program in tatters, it is interesting to look back and observe what information was available at that time to inform the Government of the merits of its approach to outsourcing IT.
In evidence to the current Senate inquiry, leading UK academic on IT outsourcing Leslie Wilcox confirmed that there was plenty of information available in 1996 to warn the Coalition of their folly. Based on his international surveys of IT Outsourcing contracts, actual savings were realised in less than 50% of contracts and they were usually accompanied by a reduction in service quality
With this information in public circulation, it is not surprising that the Coalition was perceived as being ideologically motivated in their efforts to outsource on a whole-of government basis, even when a business case was not, and could not be established.
It wasn’t until the first contract, Cluster 3, went to tender that the issue of industry development even registered on the Coalition’s agenda. There was little political recognition of the role of IT purchasing to local businesses and the growth prospects of IT small and medium enterprises (SME’s) not just here in Canberra, but around Australia.
The dire predictions being made by Mortimer and Goldsworthy and others in a range of industry development reports between 1996 and 1998 about the exponential growth in the IT trade deficit was not seen by the Coalition as having anything to do with the IT outsourcing program. It was left to the Opposition and the indigenous IT sector to make the link.
And the link is this. Over 40% of information and communication technology purchased in Australia is by Government. With this kind of leverage, what the government procures has the potential to determine the shape and health of an Australian information and communication technology (ICT) sector.
Apart from the opportunity this presents to specifically tackle the looming IT trade deficit, the potential exists to help Australia keep pace with the strong growth experienced in this crucial sector in comparable economies.
As this graph shows, Australia is ranked last among the 18 OECD countries for which data is available in terms of the contribution of the information industries to the national economy. It shows Australia at 4.1 % of business sector value added, compared to an OECD average of 7.4 %
This means that despite the generally strong growth of the ICT sector in Australia, relative to other economies Australia is still lagging way behind.
In contrast, Labor recognises that spending on the scale practiced by Government has enormous potential to influence the viability and growth of key strategic industries, such as the information and communications technology sector.
I intend to outline some of the key policies Labor has already announced that form the foundation of using this purchasing leverage in a constructive, capacity building way for the ICT sector.
But first I will reflect on the lessons learnt the hard way during five years of an IT outsourcing program that has finally, and appropriately, been abandoned.
The challenge for government and industry is to learn these lessons well and use this new-found knowledge to inform policies that will guide the way forward. The political debate is not whether or not to outsource, but how to ensure that government agencies are strategically source the relevant information and communication technology expertise to deliver quality service outcomes to the Australian Public Service and the citizens that they serve.
Typically, there will be no simple remedy, rather the solution will be a complex array of policy that intertwines through key portfolios.
One stakeholder group that has been and still is vocal about the negative impact the IT Outsourcing program was having was the small to medium enterprises in the information and communication technology sector.
SME’s who had opportunities to grow previously by securing government contracts, were, in the words of one successful local IT company: able to use an Australian Government contract as an export credential. It was like having a passport to go global.
As a result, by far one of the strongest complaints was the exclusion of the SME’s in priming bids because of the sheer size of the clustered contracts. The requirement for large capital guarantees and liability insurance ensured that even if a company or consortia had the capability, then these bid prerequisites kept them off the shortlist.
In addition, the clustered contract structure required huge resources to mount a bid and limited bid times ensured only the big end of town could tender meaningfully.
The complaints from industry were documented in a joint Departmental and Australian Information Industries Association publication in late 1999. This report, titled The IT Engine Room, conducted a survey of ICT SME’s including a question on whether they saw IT Outsourcing as an opportunity.
Well over 50% disagreed or disagreed strongly with the proposition that “Federal and State Government outsourcing of its IT requirements will be a business opportunity for my company”.
Unfortunately this damning indictment of the program was ignored by the publishers of the Report. To add salt to the wound, the report’s conclusions favoured the interests of the larger multinational corporations, again at the expense of local business.
But it was not only the Australian ICT Industry that had complaints with the program. By now the Australian National Audit Office had taken an interest.
The Audit Report into the Implementation of Whole-of-Government Information Technology Infrastructure Consolidation and Outsourcing Initiative was scathing in its findings of the program. In summary, it found serious flaws in every major aspect including Program Management, Savings, Service quality, Industry Development, Privacy and Contract management:
Program Management
Originally the initiative was supposed to have been completed by June 1999. By December 2000, only six tenders had been completed.
$32 million was outlaid on IT consultants and contractors up until 31 December 2000.
The biggest beneficiaries were the US law firm Shaw Pittman, who were paid a total of $19.3 million for strategic advice. Other big beneficiaries included Law firm Blake Dawson Waldron who were paid over $4.8 million and Financial Advisers Price Waterhouse Coopers, Acumen Alliance, Walter and Tumbull and Deloittes who netted over $3.3 million between them.
Savings
Upon implementing the IT Outsourcing Program, the Department of Finance and Administration (DoFA) cut agency budgets in anticipation of savings that the Minister promised would be forthcoming. What the Minister didn’t let on was that a significant proportion of the claimed savings could not be realised by agencies anyway, as they consisted of increased tax revenues like GST and Payroll tax. They were not cost reductions that departments or agencies would experience.
The Auditor challenged DoFA’s financial methodology in assessing savings, in particular the ‘competitive neutrality’ formula. DoFA’ s approach meant the value of the assets offset the contract price as they were transferred to the outsourcer. This had the effect of leaving agencies and departments devoid of IT assets at the end of the contracts, and effectively ‘captured’ by their vendor.
Service quality
Financial penalties for failing to achieve highly prescriptive contracted service levels are built into the IT outsourcing contracts. These financial penalties are clocked up as ’service credits’ for the vendor and deducted from their next progress payment.
All of the contracts have incurred substantial penalties and there is evidence that the contracts are so prescriptive that they not only prevent any cooperation between vendor and client to achieve goals, but they encourage adversity.
Industry Development
As mentioned earlier, one of the most criticised features of the Coalition’s IT Outsourcing program was the way the massive laterally ‘clustered’ and vertically integrated contracts effectively excluded participation by Australian IT companies.
In relation to the industry development commitments given by each vendor, the Coalition has prevented detailed scrutiny by consolidating the data before releasing a report publicly.
The measures used by the Coalition to assess Industry development are also lacking in credibility, with one vendor allowed to include the provision of two scholarships to a local university as part of their industry development offering.
Privacy
The Audit Report exposes the ineffectiveness of contract clauses to protect the privacy of citizens and highlights the urgent need for private sector privacy legislation. However, delays in the introduction of this legislation means it does not come into effect until December this year.
Contract Management
Another serious issue that emerged in Audit Report was the handling of the transition process for these contracts. More often than not, the contracts took far longer than expected to implement, creating service and performance difficulties. This was reinforced by an Institution of Engineers report that documented the systematic loss of contract management experts from the public service.
In all, the Auditor’s Report was critical in turning the tide against the Coalition who had steadfastly stuck by the outsourcing program despite obvious and growing resentment in industry and the administration with their failure to achieve their stated policy goal of ’significant savings’.
In December last year, after consistent pressure, the Coalition engaged in a face-saving exercise, which they called an independent review. This review recommended the scrapping of the program and the Coalition agreed instantly.
The significance of the Humphry review recommendations were that the ‘whole of government’ approach would be abandoned in favour of devolving decision making on ICT sourcing back to department and agency heads. This effectively rendered OASITO impotent. Since then OASITO has had a name change, completing their demise. The Office of Asset Sales and IT Outsourcing is now the Office of Asset Sales and Commercial Support.
The Humphry recommendations also killed two birds with one stone.
By devolving decision making back to departments and agencies, the contracts released for tender were likely to be smaller, presenting more suitable opportunities for SME’s to bid and secure work.
This devolution also addressed the issue of financial responsibility and associated risk management by department heads under the Financial Management Act. For senior public servants, their sharply defined responsibilities under the Financial Management Act shape their decisions on procurement. The Humphry recommendations demanded this reality be acknowledged.
Whilst ever risk aversion is a primary motivator of IT procurement, the innovative solutions on offer by smart SME’s will not get a look in. How this issue of risk is addressed by executive government and senior public servants will be a key determinant in the outcomes of strategic sourcing.
To this end, Labor has already announced as part of our procurement policy, a series of general measures to bring clarity to and improve procurement processes. These include re-introducing mandatory competency standards for all persons undertaking procurement functions as well as requiring all purchasing officers to act in accordance with the Commonwealth procurement guidelines (at present they need only “have regard to” the guidelines).
To ensure compliance with industry development objectives, it will be appropriate to develop an accreditation system for assessing the purchasing performance of individual agencies, including how efficiently and effectively the purchasing function is administered, and whether agreed objectives are being met, such as ANZ content and the commitment to maximise opportunities for SMEs.
To introduce accountability, Commonwealth agencies will have to produce an annual report against this accreditation system, which must be published in the agency’s Annual Report. A select committee that includes representatives of industry will then meet once a year to review these annual reports and to provide advice and assistance to each agency to ensure better purchasing performance in the future.
Finally, the Defence Department currently publishes electronically the reasons its purchasing officers have gone offshore for goods and services for all purchases worth $100 000 or more. Labor will apply this requirement to all Commonwealth agencies.
These points relate to general procurement and form part of the foundation policies for strategic sourcing of ICT.
Other aspects of Labor policy that are relevant to the future of IT Outsourcing include the application of a public interest test as part of the business case analysis when considering external sourcing.
As mentioned earlier, the facilitation of improved skills and competencies in public sector agencies to target the main areas of ongoing Commonwealth contract management risk;
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The establishment of improved, compatible information technology platforms and business practices, including whole-of-government e-commerce guidelines and practices will assist in creating opportunities for innovation at the applications level and in the development of new web interfaces. |
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The establishment of a Procurement Advisory Council with Industry representatives to jointly advise Government Ministers on whether industry development objectives are being met. |
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The provision of advice to Commonwealth Ministers on how to enhance the cross Government benefits of purchasing including through relevant Ministerial Councils and COAG. |
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Ensure education and better dissemination of information regarding government industry development objectives across departments and agencies as well as the development of a system of incentives and penalties for departments and agencies to ensure that they report on and meet industry development objectives in their procurement decisions. |
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The development of a probity plan by departments for contracts worth more than $10 million. Make consequential changes to Financial Management and Accountability Regulation 8 and the Commonwealth Procurement Guidelines to reflect the new arrangements. This applies particularly to the industry development aspects of the reforms. |
With these foundations, there are a number of inquiries and reports that will continue to inform Labor’s ongoing policy development specifically for the strategic sourcing of IT.
I am currently engaged in an inquiry that will report over the next few months. This inquiry, the Finance and Public Administration Senate References Committee Inquiry into the Government’s IT Outsourcing Initiative has broad ranging terms of reference and has already tabled an interim report in the Parliament titled Accountability in a Commercial Environment – emerging issues. April 2001.
The Audit Office has also recently reported on The Use of Confidentiality provisions in Commonwealth Contracts. May 2001.
This report makes recommendations that agencies should include provisions in tender documentation that alert prospective tenderers or contractors to the implications of the public accountability responsibilities of agencies.
However, the Department of Finance and Administration has not agreed in full to this recommendation, stating that they would not put this high level advice in the next edition of the Procurement Guidelines. This demonstrates a continuing resistance to deploy best practice.
The Government’s approach so far to their reporting on Industry Development initiatives has been less than inspiring, with their 1999/2000 Industry Development Progress Report using arguably flawed measures such as Australian Value Add and proportion of revenues to SME’s to gauge industry development outcomes. With their in-scope and out-of-scope approach now ditched, it will be interesting to see if a credible formula for establishing a higher level of involvement of SME’s can be delivered quickly.
The worst outcome is that the Coalition continues to ignore the opportunities that exist for supporting the growth of an indigenous ICT sector.
Labor looks forward to raising the policy bar as high as we can over the next few months to push the Government along a path consistent with our principles and policies. The trade deficit in ICT hangs over our heads and there is a public responsibility to address it.
Labor’s procurement policy as I have outlined today builds a solid foundation for the challenging task of putting taxpayers money to work for industry growth in Australia.
In addition Labor has identified the need for a detailed strategic sourcing policy for ICT. This will also entail a joint industry/ government working party to review the strategy, meaningful enforcement of the measures and greater transparency in purchasing processes.
Labor is prepared to pursue enhanced opportunities for domestic suppliers to bid for government business. Specifically, we will seek to reduce of barriers and costs to SME’s doing business with government – an issue that the Coalition has acknowledged and has claimed it too, will address.
In the meantime, there is a vast amount of published material to inform the debate, including the findings of Professor Mary Lacity, in a recent address on the Best, Worst, and Emerging Practices in Information Technology Sourcing, where in observing the features of the most successful sourcing of IT, she says:
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In successful outsourcing decisions, the organisations knew exactly what they wanted from their information technology provider. |
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The organisations selected activities which were well understood and they could therefore negotiate a sound contract. |
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The organisation signed contracts only for the duration for which requirements were stable. |
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The organisation practiced hands-on management of the contract–they did not throw the contract in the drawer and think– “now the vendor can do this for me.” |
I noted too, with interest that Richard Humphry, in his Review took the opportunity to publish another example of a ‘best practice’ approach to outsourcing.
In conclusion, we need to build a procurement model that gives strength to innovation and therefore efficiency of government administration. Consideration of new models and methodologies to allow government to purchase the best on offer from the private sector whilst serving the public interest is our challenge.
We need a model that allows citizens, business and government to talk the same language. The underlying architecture must be built on standards of interoperability to allow for further innovation at the applications level that will facilitate new, exciting, networked and internet -based service solutions.
How we achieve outcomes that serve the interests of both client department and vendor requires exploration of new ways of creating relationships, whether it is called strategic sourcing, value-added outsourcing, co-sourcing, multi-sourcing, or flexible sourcing!
Thank you.
Labor’s polices on both the Public Service and Government Purchasing can be found at:
