No one who follows the news media would disagree that public service providers have been through several tumultuous years. Following controversy in 2013 over several contracts managed by the Ministry of Justice, two large providers were precluded from bidding for a time, and agreed to pay the government more than £170m by way of settlement.3 The national focus on austerity has resulted in competitive tendering being actively used to drive down prices, with the fees being paid for some mature contracts reduced by 25-30%. At the same time, there has been an aggressive focus on risk transfer, with some companies being obliged to accept responsibility for policy and performance risks which they say they are unable to manage.
A number of high-profile contracts for front-line services, facilities management and ICT support with the NHS, the Department for Work and Pensions, the Home Office and the Ministry of Defence (among others) have been cancelled or are on notice due to under-performance, and other major contracts are known to be losing money.
A quick survey of the financial returns of five of the largest public service providers reveals that only one has made a commercial return over the past five years (and in that case, the situation is obscured by returns from private sector business).4 Over the second half of 2016, two of the largest providers issued repeated profit warnings, while others significantly revised their estimates of the forward order book.
After years of continuity in the senior management ranks of the large public service providers, there has been a sudden turnover to new entrants from outside the sector, in some cases, at the insistence of government.
It is difficult for casual observers to form a clear view as to what has been going on - for obvious reasons, none of the players (government included) is capable of taking a balanced position, and neither side benefits from having the current state of the market portrayed 'warts and all'.
One explanation is that the industry had been charging excessive prices on some of their contracts in the past. In some quarters, the fact that companies have signed up to such large price reductions was seen as evidence that competition had not been driven hard enough. It has been argued that government had not been extracting full value from its supply chain because it was uncoordinated in its procurement strategies, it had ceded too much decision-making authority to a handful of large suppliers, and it had failed to standardise contract conditions.
There has been a renewed emphasis on contract management, with a particular focus on the commercial capability of departments and agencies. Performance criteria are being managed more intensively, and the revenue from financial penalties has increased significantly as a result.
Given the financial state of the industry - evidenced by the annual accounts and newspaper reports about the larger companies - the question is now being asked whether these reforms have not gone too far. For obvious reasons, the industry has found it difficult to develop a coherent response to these reforms: different companies have different business models, and the chief executives of large corporations are reluctant to speak out, from a concern that they might cause offence to their customers. When Rupert Soames, the chief executive of Serco, uttered some highly-guarded remarks in November 2016, eyebrows were raised across the sector:
The fundamental truth is that working with government is really laborious; it's really cumbersome. They have absolutely fiendish terms and conditions; bidding for work is really difficult. It takes ages. The whole tendering process is very complex - and it has to be, because it's with public funds.5
As the author spoke with industry leaders in private, a broadly consistent narrative began to emerge. While different companies have responded in different ways, there is widespread concern at the impact that low-price bidding has had on service quality and financial sustainability. Providers are exasperated at procurement teams who insist on the transfer of risks that simply cannot be managed by providers. They are angry at the aggressive behaviour of some customers who seem to regard financial abatements as an alternative source of revenue.
The following comment, by an experienced senior executive from a large international supplier, is typical:
The market is certainly tightening. It is more cost-focused, with winning based more heavily on price. Quality matters, and over the last three years, there have been fewer of those opportunities around.
Survey respondents acknowledged that by continuing to participate in low-price bidding, and taking on risks they could not meaningfully manage, the industry has encouraged aggressive behaviour on the part of some government customers.
The precedent was set by the Cabinet Office following the global financial crisis, but other departments and agencies have continued to pursue a highly aggressive strategy in negotiating with companies, both in the negotiations prior to signing the contracts and in the negotiations prior to early exits.
This experience is by no means universal, and most providers had positive things to say about some of their customers. They acknowledge that over the past year or so, the Crown Commercial Function (as it is now called) has begun to adopt a more balanced approach to contracting. In recent months, a number of policy notes and guidance documents have been released by the Crown Commercial Service which reflect a more mature approach to procurement and contract management. The Mystery Shopper reports published by the Crown Commercial Service show a decline in anonymous complaints from small suppliers since 2014.6
But there is still deep disquiet among the large public service providers and, thus far at least, it seems that these changes have not extended down into procurement teams. Survey respondents are unsure whether these changes will persist.
There is one sector where there is clear evidence of the impact that severe budgetary constraint and a lack of market stewardship can have on commercial sustainability: social care, with some of the leading providers making substantial losses and walking away from the market. A 2015 survey by the UK Homecare Association documented the decline in provider confidence in the home care sector:
• 93% of providers trading with councils had faced a real-term decrease in the price paid for their service over the previous 12 months, and 20% reported a decrease in the actual fees paid;
• 50% of providers who were aware of tender opportunities from their local authority had declined to bid on the basis of price;
• There was strong evidence of pending market instability over the next year: 74% of providers trading with councils said that they would reduce the amount of publicly funded care they delivered, estimated to affect 50% of all the service users they support; and
• 11% of providers thought they would have 'definitely' or 'probably' ceased trading within the next 12 months, while 38% of providers were completely confident that they would still be trading at the same time next year.7
A similar situation exists in the residential care market. In its 2016 'State of Care' report, the Care Quality Commission stated:
Our data shows the severe financial strain that local authority funded providers continue to be exposed to. Care home providers with more than half of their turnover funded by local authorities achieve, on average, 10% less fee income per bed and generate almost 28% less profit per bed, compared with all providers.8
There is widespread concern about the quality of service in the home care sector. There have been reports of workers being paid less than the minimum wage. At the same time as the large regulated providers have been losing substantial sums of money, there is resentment over profit. And there is ongoing speculation that many of the larger companies will withdraw from the market, leaving services to be provided by large numbers of small unregulated providers.9 The recent decision by Mitie to dispose of its home care business at a loss of almost £140 million, confirms the difficulties being experienced by investors in this sector.10
This is broadly consistent with the challenges being faced by the rest of the industry, particularly in the markets for complex and front-line services.