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Step Two: Competitive Sourcing Selection
Analysis - Full Cost - "COMPETE"

This step is crucial in order to determine the value of the competitive sourcing opportunities identified in step one. The feasibility of competitive sourcing is determined by subjecting these opportunities to a business analysis in order to determine the best course of action.

The total (or "fully-allocated") cost for government to perform the opportunity is also calculated as part of step two. The fully-allocated cost includes all direct and indirect personnel costs, materials and supplies, equipment, capital and equipment depreciation costs, rent, maintenance and repairs, utilities, insurance, travel, operations overhead, and general administrative overhead. This calculation can be difficult, due to the differences between the government’s cost accounting system and a businesslike accrual accounting system

Deciding when it is appropriate to use competitive sourcing should involve an identification of the risks and an assessment of their costs. It is not sufficient simply to identify risks and use them as a basis for ruling out competitive sourcing. The risks may be grouped into those related to the particular service, the market and the agency.

Governments should assess the scope for competitive sourcing on a case-by-case basis. Key topics and issues are provided below to help guide the Step Two competitive sourcing and selection analysis.

Key Analysis Topics and Issues for Step Two Competitive Sourcing and Selection

  1. Identify constraints.
    1. Identify any functions that for legal reasons, or because of other commitments, require government officials perform the task (core functions)
  2. Review functions.
    1. Identify functions of the agency in terms of its policy goals.
    2. Consult with "customers" and other stakeholders about the services that are required to meet the policy goals.
    3. Assess whether the existing services meet requirements for service delivery.
    4. Determine the fully-allocated net cost for current performance of the service. Obtain the unit cost if possible.
  3. Identify alternatives.
    1. Where it is a new function, consider competitive sourcing as the original service delivery method.
    2. Identify other service delivery options.
    3. Compare other service delivery options with the existing service delivery method.
    4. Make an estimate of the likely net costs of the competitive sourcing process itself.
  4. Assess the suitability and risks in competitive sourcing.
    1. That competitive sourcing involves risks should not preclude its use, but, the likely cost of all the risks, and ways to minimize them, should be assessed. The following questions will help.
      1. Service-specific factors.
        1. Are there any accountability, privacy, security, consumer protection, access, equity, or other policy considerations, that cannot be addressed satisfactorily through contract specifications, contract management and performance monitoring? The less difficult these considerations are, the greater the opportunity for competitive sourcing.
        2. How easy is it to specify the service (in terms of performance results rather than specific prescribed inputs) , measure the service output, and measure contractor performance? The easier these items are, the greater the case for competitive sourcing.
        4. How serious are the consequences of service interruption arising from contract failure? How likely is such a failure? The less serious these considerations are, the greater the case for competitive sourcing.
      2. Market-specific factors:
        1. Is there an established market for delivery of the service? What is the level of competition or potential competition in that market? The stronger the established market, the greater the case for competitive sourcing.
        2. If there is not an established market, assess the likelihood of a market developing, and its potential competitive strength. Use caution if there is not an established market.
        3. How easy would it be to penalize contractors, or replace them for unsatisfactory performance, without significantly interrupting service delivery? The easier it is to penalize or replace contractors, the greater the case for competitive sourcing.
        4. What incentives can be used to reward superior performance by contractors? The easier it is to use incentives, the greater the case for competitive sourcing.
      3. Agency-specific factors:
        1. Does the agency have, or have access to, the skills required to prepare specifications, evaluate proposals, and manage the contract? Competitive sourcing is greater where those skills are available or can be obtained.
        2. What are the likely implications of moving from direct government delivery to competitive sourcing? Competitive sourcing is easier to implement where it is less likely to cause disruptions.
        3. Would competitive sourcing reduce the portion of management resources used to providing services of secondary importance to the agency’s goals? Where the service takes up a disproportionate amount of management resources, the case for competitive sourcing is stronger.
  5. Weigh the costs and benefits:
    1. Assess the probable full costs of competitive sourcing, including the costs of service delivery, transition costs, and contract monitoring and management costs.
    2. Make an overall assessment of the costs and benefits of competitive sourcing, compared with other service delivery options on a net present value basis.
      1. This last point is probably the most critical, due to the differences in accounting systems between the government and the private sector.

In 1997 the U. S. Government Accounting Office published a study of successful state and local government privatization programs, in order to learn what made them successful. (1) The Congressional study was intended to reduce uncertainty by examining what has worked at the state and local levels and to extend those lessons to the federal level. After a complex selection process the GAO identified Virginia, New York, Michigan, Massachusetts, Georgia and the City of Indianapolis as having the most extensive privatization efforts that correlated with those performed at the federal level. The GAO then audited the privatization programs of these six governments for their report. The GAO reported that all governments reviewed developed information on the cost of government activities. But only one local government and one state government obtained the fully allocated government costs -- the rest used estimates. Indianapolis used an activity-based costing approach with a Big Six accounting firm. Virginia used a comprehensive cost analysis computer program "COMPETE" to calculate the fully allocated costs. (2)

Reliable and complete cost data on government activities is needed to ensure a sound competitive process and to assess overall performance. Such data would quantify each specific opportunity in dollar terms, and so provide a good performance metric to measure the project. Reliable and complete cost data simplifies competitive sourcing decisions. It makes it easier to implement those decisions and easier to justify to potential critics.

The introduction of an accrual basis of accounting in the public sector will reduce the problems associated with the current cost based accounting system. On June 30, 1999, the General Accounting Standards Board issued Statement 34, Basic Financial Statements and Management’s Discussion and Analysis for State and Local Governments. (3) It will measure not just current assets and liabilities but also long-term assets and liabilities (such as capital assets, including infrastructure and general obligation debt). It also will report all revenues and all costs of providing services each year, not just those received or paid in the current year or revenues and all costs of providing services each year, not just those received or paid in the current year or soon after year-end. This new policy will alter how state and local governments must track and report their financial activity. The new annual reports should give government officials a new and more comprehensive way to demonstrate their stewardship in the long term, in addition to the way they currently demonstrate their stewardship in the short term and through the budgetary process.

Statement 34 implementation will be required for large state and local governments (with $100+ million in revenue) effective June 15, 2001. Smaller governments (revenue between $10 and $100 million) will be implemented effective June 15, 2002. Small governments (under $10 million in revenue) will be implemented effective June 15, 2003.

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(1) Privatization: Lessons Learned by State and Local Government, Government Accounting Office, GAO/GGD 97-48, (March 14, 1997). Messrs. John Needham and Don Bumgardner led that large body of work for the GAO.

(2) The federal government has a computer program called "COMPARE" developed by the United States Air force. This program has been approved for use by all federal government agencies for use in the OMB Circular A-76 Performance of Commercial Activities.

(3) GASB Statement 34, Basis Financial Statements -- and Management's Discussion and analysis -- Government Accounting Standards Board, June 30, 1999. This statement will have far-reaching impact on state and local government.

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Peggy.Robertson@dpb.virginia.gov

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