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The collapse of one of the largest suppliers to the UK public sector, services and construction firm Carillion, is leading to some soul-searching about the whole nature of the relationship between private sector service providers and their government clients.

At the extreme, we have some commentators saying that “nothing should be outsourced,” which is clearly ridiculous. Government is never going to develop its own ERP software solutions, run its own hotels or develop mobile phone networks.

Yet it is valid to ask a number of questions. Has the development of outsourcing specialists who carry out a wide spread of work been a good thing? In The Guardian, Professor Karel Williams at Manchester University noted that Carillion had turned from an acquisitive construction company, buying up other builders, into what he calls an “outsourcing conglomerate.”

“With outsourcing, you have to continually bid for new contracts, and the stock market expects to see continuous growth. But sooner or later you take on a contract that makes huge losses and the operation can’t sustain those losses. There are problems when you move past being a specialist outsourcer. Many conglomerates just churn through contracts and move into areas they don’t understand, until their luck runs out. This was an accident waiting to happen,” he says.

So the nature of these firms is one major issue. But has outsourcing always been done for the right reasons in the public sector? (That’s not to say private firms always use it well either, by the way.)  In our view there are some potentially valid and good justifications that explain why organisations, including the public sector, consider outsourcing:

  • Providers can have a cost advantage, perhaps through economies of scale or expertise, compared to internal provision. Some UK public sector outsourcing has been driven by high employment costs in the sector. For instance, the cost of index-linked, final salary pension provision has become huge. A private sector firm (even if it has to take on some previously public sector staff) can probably achieve lower costs here. In some cases, private providers will just pay staff less than the client body did for the same work.  We can debate the morals of this, but it leads to an apparent cost saving for the taxpayer (or a bottom-line gain for a private firm).   
  • Very much linked to this, outsourcing might have balance sheet advantages too. The Mars organisation was ahead of its time in many ways, and has always looked to use its assets to the full. It outsourced transportation and logistics long before it was fashionable to do so, driven partly by the desire to minimise the fixed assets (including trucks and warehouses) used in the business.
  • The organisation may have difficulty in obtaining or maintaining the skills and resource to carry out the activities internally, through skills shortages or the attractiveness to staff of the specialist firms working in the market. That is particularly true in fast-moving, technology-driven markets. Who would join “Gov-oogle,” the new public sector search engine provider, if Google itself was recruiting?
  • The organisation might perceive it would be difficult to keep up with rapidly changing markets or technology if it did the work itself. The cost and effort required to do that might be prohibitive, particularly if the work is not core to the organisation.
  • Some organisations see outsourcing as a way to access innovation and drive through change more quickly or successfully than they believe they could do themselves. In a similar fashion, we have seen outsourcing used as the proverbial “kick up the backside” to part of an organisation – outsourcing payroll might make sense in itself but it might also say to the CFO “sort out your function or the rest of it might go too!”
  • An organisation might follow a strategy of focusing on “core business,” where managing a wide range of activities is seen as a distraction for senior management. Outsourcing allows more time and bandwidth to go on what really matters (in theory – that assumes the outsourcing does not end up as an attention grabber itself of course!).

So if these are valid reasons for outsourcing, what about the less good? Stay tuned for the dark side of outsourcing in Part 2.

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