Section 3

Choosing the right
delivery model

3.1 Introduction

The decision to outsource should follow an appraisal of different options including in-house solutions and alternative delivery models, which are discussed in sections 10 and 11. Equally, there should be a similar appraisal before a decision is made to bring services back in house or to move to an alternative delivery model.

This section describes the approach that public sector organisations may take in order to reach such decisions. It then outlines the pros and cons of the different models.

3.2 Benefits of a strategic approach

Public sector organisations are likely to make better decisions if they adopt a strategic approach to the selection and implementation of delivery models (a ‘sourcing strategy’), rather than simply deciding on a case-by-case basis how services are to be delivered. It is useful to think in terms of ‘sourcing projects’, which include projects to:

■outsource services that are currently under in-house management
■reprocure services under outsourced contracts that are due to end
■bring services back in house
■move to alternative delivery models and replace such arrangements that are due to end.

A sourcing strategy enables the organisation to:

■develop criteria for determining how different services are to be delivered
■improve its planning of sourcing projects
■develop better plans for improving services that are to remain in house
■ensure that capital investment is targeted appropriately depending on how services are to be delivered
■ensure the right resources are available to manage sourcing projects and that these resources are used efficiently
■co-ordinate the timing of different procurement projects so that the client can allocate sufficient resources to each one and so that suppliers’ bidding teams can respond effectively to each opportunity
■ensure that lessons learned from successive projects are disseminated across the organisation so that there is an accumulation of knowledge and continuous improvement.

The sourcing strategy may be set out in a stand-alone document or contained in a wider document, along with the procurement strategy. Irrespective of which is the case, it should be reflected in relevant corporate and departmental documents, such as:

■the corporate strategy, ie the document that sets out corporate priorities
■the capital investment strategy
■the procurement strategy
■the medium-term financial strategy
■service plans.

It is recommended that the sourcing strategy should, as a minimum, cover:

■the organisation’s policy on outsourcing and retention of services in house, including core functions that the organisation would not consider outsourcing
■what criteria the organisation will use to determine the delivery model for each service: in-house management, outsourcing or alternative delivery model
■which services will be reviewed and when, to determine whether the current delivery model should be changed
■summary of decisions that have already been made to change the delivery model for particular services
■summary of plans for improving services that are to remain in house or to be brought back in house
■how sourcing projects will be resourced, eg the extent to which project management will be centralised
■the skills and capacities that the organisation needs to retain in order to oversee in-house and outsourced services effectively
■how the organisation will measure the success of sourcing projects
■how lessons learned from sourcing projects will be disseminated across the organisation.

3.3 Reviewing the current delivery model

A good starting point when considering how services are to be delivered is to identify any key issues that are causing poor performance or preventing improvement under the current delivery model. Where the services are currently being provided in house, for example, the following issues may be relevant:

■the quality of management
■the ability to recruit and retain people with the skills and motivation to deliver a high-quality service
■the ability to overcome bureaucratic barriers, restrictive practices and other obstacles to improvement
■how the cost of performing the services in the client organisation compares with the cost of providing similar services elsewhere
■any challenges that the client organisation may face in the immediate future and in the longer term, which would affect the services in question.

Three different examples of issues with a service under in-house management are set out in the following box.

Example 1: Problem with individual manager

Performance has historically been good and costs still compare favourably with similar operations in other organisations, but the quality of the service has deteriorated recently following the appointment of a new manager. There have been no other changes that could account for the deterioration.

Example 2: Chronic poor management

The service suffers from weak management; this is not a recent development, but a long-term issue. Various attempts have been made to deal with this problem, including paying higher salaries and using different recruitment methods, but they have all failed. As a result performance is poor in terms of both quality and cost.

Example 3: Reduction in the client organisation’s budget

The service is competently managed and up until now performance in terms of both quality and cost has been viewed as satisfactory. However, the organisation’s financial position is deteriorating and it must reduce its budget drastically over the next two years. Having already carried out market soundings about the possibility of outsourcing the service, the client has realised that any savings that external suppliers could make, it could make itself.

Identifying the problem should help to inform the appraisal of the benefits and costs of different delivery options. The solution in each of the above examples might be:

■example 1 – appoint a new manager to improve the quality of service in house
■example 2 – consider outsourcing in order to reduce cost and improve quality
■example 3 – reorganise the service in house in order to reduce costs.

However, before jumping to conclusions about the best solution, clients should carry out a proper evaluation of the various delivery options.

3.4 Framework for evaluating delivery models

3.4.1 Cost, quality and resilience

When considering outsourcing, or any other change of delivery model, the client may have a primary objective to achieve savings, to improve quality or to do both. Whichever is the case, the impact on both quality and cost must be considered in order to assess the net benefit of the proposed delivery model and compare it with other options.

‘Quality’ is used in this guide to mean all aspects of service outcome including:

■the frequency of service provision, eg how often domestic waste is collected
■hours of service provision, eg a library’s opening hours
■waiting times, eg how long a patient must wait for a hospital operation
■response times, eg how long it takes for callers to get through to a tax enquiry line
■quality of personal care, eg in looking after elderly and infirm people in a care home
■quality of an end product, eg the accuracy and clarity of a translation service.

The costs that need to be taken into account include not only the recurrent costs of providing the services, but also the project management, procurement and other costs incurred in the transition from one sourcing model to another. The cost of managing an outsourcing contract and the relationship with the supplier, which are discussed in section 8.2, should not be underestimated.

Clients also need to consider the resilience of the service to change under the different delivery models. In other words, they need to look ahead to the changes and risks that may affect the service in the medium and longer term and ensure these are taken into account when delivery options are being compared.

3.4.2 Comparing the net benefits of different delivery models

The costs and benefits of different delivery options should be compared on a like-for-like basis. Where outsourcing is being proposed, for example, comparison with the in-house solution should be based not on the current position, but on the expected position, taking into account any savings and improvements in quality that can be achieved under in-house management.

It is beyond the scope of this guide to describe option appraisal techniques in detail. Suffice to say that the degree of sophistication applied to the evaluation of costs and benefits should be related to the size and complexity of the project. A full cost–benefit analysis may be appropriate in some cases, but only where monetary values can sensibly be assigned to the benefits. As a minimum the client should make a qualitative assessment of all the benefits and compare them with an estimate of the costs in order to make an informed judgement.

Discounted cash flow analysis may be used to compare the cash flows under different options, eg where it is expected that savings will be achieved more quickly under an in-house solution, but that outsourcing will eventually bring a higher level of savings.

The issues that clients need to consider when comparing delivery options are illustrated in the example in the following box.

Example – comparison of three delivery options

The client organisation is considering three options for a service that is currently managed in house:

■Option 1 – keep the service in house and introduce a programme of change to improve efficiency.

■Option 2 – tender the service on the open market.

■Option 3 – set up a wholly owned company and award it a contract to provide the service without competition.

It is expected that there would be savings and improvements in quality under all three options, but that they would be highest under option 2, because the contract would be won by a private sector supplier, who would introduce more efficient management and a less bureaucratic decision-making process. In particular, the supplier would be better able to recruit and retain specialist staff, which is a problem for the client organisation. However, the gross savings under this option would be offset by the supplier’s profit and the costs of the procurement process. Also, because of the time taken to procure a supplier, savings would not be achieved as quickly as under option 2. Option 3 is an intermediate solution that would bring some of the advantages of option 2 and avoid some of the disadvantages. The key issues in comparing the three options are summarised in table 7.

Table 7: Comparison of three delivery options

Issues	Comments
Tangible costs:
Project management costs	Lowest under option 1, highest under option 2
Cost of external advice	Minimal under option 1, significant under options 2 and 3
Procurement costs	Only incurred under option 2
Contract management costs	Incurred under options 2 and 3
Supplier’s profit	None under option 1, paid to shareholders under option 2, re-invested in the service under option 3
Intangible costs:
Disruption/uncertainty	Risk of negative impact on employees and end users is greatest under option 2 because the procurement process prolongs the period of uncertainty and there is a bigger change in methods of delivery
Benefits:
Savings and improvements in quality	■Lowest under option 1, highest under option 2 ■Achieved most quickly under option 1, least quickly under option 2
Resilience and flexibility:
Resilience	■Worst under option 1, because of the client organisation’s problems with recruiting and retaining specialist staff ■Best under option 2, because the supplier can offer an attractive career structure for specialist staff
Flexibility	Best under option 1, because the client is not tied into a contract or other arrangement with a third party and can therefore: ■introduce further change more easily, eg reduce levels of service if it needs to achieve further savings in a year’s time ■move to another delivery model at any time, whereas under the other options there is less flexibility, eg under option 2 the client is tied into the contract, unless it terminates early, which is difficult

More information about option appraisal techniques can be found in Option Appraisal: A Practical Guide for Public Service Organisations (CIPFA, 2011).

3.5 Pros and cons of different delivery models

3.5.1 Pros and cons of outsourcing

Outsourcing may deliver benefits as result of either or both of the following:

■the client’s use of a contract to specify requirements and ensure performance
■the ability of a third party to manage the services more efficiently than the client is able to do.

Table 8 summarises the advantages that a third party may have over the client in terms of being able to manage a service more efficiently.

Table 8: Advantages a third party may have in delivering a service

Area	Potential advantages
Staffing	■Ability to offer more attractive career opportunities ■More flexibility over terms and conditions ■More flexible recruitment procedures
General efficiency	■Better management skills ■Better commercial acumen ■Simpler processes and procedures for governance and internal control ■Better ability to take and manage risks
Other	■Ability to purchase specialist supplies and equipment in bulk

Public sector organisations are subject to a variety of pressures that can hinder their ability to operate as efficiently as commercial companies. These include:

■public scrutiny
■criticism from the media
■regulation and legislative controls
■interference from central government
■the political dimension to governance.

While private sector organisations, particularly large companies, are by no means free from these pressures, they tend to be affected by them to a lesser degree. They are able to focus on a single key objective, which is to make profits. Provided they are in a competitive market, they must operate efficiently to survive.

Other types of supplier – voluntary organisations (including social enterprises and co-operatives) and other public sector organisations – are not driven primarily by the profit motive and have a mixture of social and financial goals, but may nevertheless be able to operate more efficiently than the client organisation can. They may also have other advantages that private sector suppliers do not have, such as:

■expertise in a particular area of public service provision that private sector suppliers tend not to provide
■financial advantages, eg exemption from business rates if the supplier is a charity
■dedication to a particular public service objective, if the supplier is a voluntary organisation
■strong links to and understanding of particular communities or stakeholders.

The client organisation may operate inefficiently simply because it is badly managed. The symptoms of this may include:

■excessive aversion to risk
■excessively bureaucratic processes and procedures for governance and internal control
■weak decision-making
■a blame culture.

While inefficiency might be a reason why outsourcing would deliver improvements, it does not necessarily follow that outsourcing is the right solution. It may be better to address the inefficiencies in house. The key issue is whether the client has the capacity to improve and whether there is a fundamental reason why the services are better performed by a third party.

If poor management is the problem, then the client is likely to be poor at procuring and managing contracts, as well as poor at managing in-house services. This may result in outsourcing arrangements at best failing to achieve their full potential benefits and at worst failing completely. Where this is the case it may be necessary to address the root causes of the problem, ie to take steps to improve the quality of internal management, before any outsourcing project can be contemplated.

The beneficial features of outsourcing tend to have corresponding disadvantages and risks. Outsourcing may, for example, give the client organisation access to external expertise that it otherwise would not have, but this has a downside in terms of a loss of internal expertise and capacity, which may result in the client being unable to manage the contract properly.
Table 9 summarises the disadvantages and risks against the corresponding advantages.

Table 9: Summary of pros and cons of outsourcing

Advantages	Disadvantages	Risks
■A third party may be able to achieve savings that the client organisation cannot achieve itself ■Savings can be built into the contract price and any gain-sharing arrangements	■The time taken to procure a supplier will delay the achievement of savings ■The cost of the procurement process will reduce the net saving to the client ■Any profit margin required by the supplier will reduce the net saving passed on to the client ■The cost of managing the contract will reduce the net saving to the client	■The supplier is unable to achieve expected savings – performance may decline as the supplier cuts other costs and the supplier may wish to pull out of the contract ■Savings higher than expected – possible windfall gain to the supplier, which may make the supplier less sensitive to payment deductions and therefore complacent about performance ■The client’s ability to make further savings if the organisation’s overall financial position worsens constrained by the contractual arrangement ■Savings that should accrue to the client are kept by the supplier, as a result of poor procurement, contract drafting and/or contract management
■A third party may be able to improve quality in a way that the client cannot ■The client is able to specify quality in the contract and to use contractual mechanisms to ensure performance	■Client loses direct control over quality	■Contractual mechanisms do not create the right incentives to ensure performance ■The client manages the contract poorly so that the supplier does not perform ■The ability to make further improvements in quality is constrained by the contractual arrangement
■Introduction of external expertise	■Loss of in-house expertise	■The client is unable to manage the contract properly ■It is more difficult for the client to bring the services back in house should it wish to do so in future ■The client organisation is unable to understand its own responsibilities, including statutory functions

It is important for clients to be aware of the disadvantages and risks when they are considering outsourcing. If the primary aim is to achieve savings, for example, then outsourcing may not be the right solution unless the gross savings under outsourcing considerably exceed those that could be achieved in house; otherwise the client may be able to achieve a greater net saving by avoiding the costs of a procurement process, implementing savings more quickly and avoiding the costs of managing a contract.

3.5.2 Strong and weak reasons for outsourcing

Public sector organisations sometimes embark on an outsourcing project without having a clear rationale for choosing this option. Where there is a rationale, it often makes sense up to a point but is not a sufficient reason for outsourcing.

Table 10 provides examples of strong and weak reasons for choosing to outsource.

Table 10: Strong and weak reasons for outsourcing

Strong	Weak
Management of the service requires commercial acumen, which the client does not have, and is unable to acquire	Performance is unsatisfactory under the existing in-house arrangement because the client has failed to take action to deal with internal weaknesses, such as poor management, excessive bureaucracy and general inefficiency
People looking to make a career in this area of work are unlikely to choose to work in the public sector	The client organisation has difficulty in recruiting good managers and specialist staff because the salaries it offers are below market rates and its recruitment procedures are inflexible
There is a healthy market of suppliers who, unlike the client organisation, specialise in performing this type of work and have knowledge and skills that are not available to the client	Suppliers’ marketing persuades the client that outsourcing is the way forward
Third parties can achieve economies of scale that the client cannot
There is clear evidence to suggest that outsourcing of this type of service by other public sector organisations has delivered benefits	Others have outsourced similar services, so outsourcing must be a good idea

An outsourcing project with a well thought-through, clearly articulated and convincing rationale is more likely to succeed because:

■outsourcing is more likely to be the right solution
■employees, end users and other stakeholders will be more inclined to support the project
■the project can be planned, procured and managed in a more focused way that supports the client’s objectives.

3.5.3 Pros and cons of in-house solutions

The pros and cons of retaining services under in-house management are the obverse of those that apply to outsourcing. The advantages, disadvantages and risks of in-house solutions, compared with outsourcing, are summarised in table 11.

Table 11: Pros and cons of retaining services in house

Advantages	Disadvantages and risks
■In-house expertise is retained	■Access to external expertise is limited
■Client retains direct control of the services	■The client is unable to use a contract to specify the services and ensure performance
■Savings can be achieved more quickly as no procurement process is required ■The costs of a procurement process are avoided	■Savings achieved in the long run may be less than what could be achieved under outsourcing
■Improvements can be achieved more quickly as no procurement process is required	■Improvements achieved in the long run may be less than what could be achieved under outsourcing
■Risk of damage to employee morale due to outsourcing is avoided	■The ability to deal with workforce issues may be limited
■More flexibility to introduce further changes in house or to change to a different delivery model at any time	■The in-house provider may not be resilient to risks, such as increasing difficulty of recruiting and retaining specialist staff in a recovering economy

If a service is brought back in house, having been outsourced, the client will incur transitional costs and the process of change may create uncertainty for the workforce and end users. The client’s ability to manage the service may be better or worse than it was before it was outsourced. Otherwise the pros and cons of bringing services back in house are similar to those shown in table 11.

Various in-house solutions that may be considered as alternatives to outsourcing are described in section 10.

3.5.4 Pros and cons of alternative delivery models

The pros and cons of alternative delivery models, which are described in section 11, vary depending on the features of each model. Table 12 sets out general principles that apply.

Table 12: Pros and cons of alternative delivery models

Key features of the particular model	Advantages	Disadvantages
■Services are provided by a third party	■Potential benefits of a third party provider as under outsourcing, eg more efficient management, better ability to recruit specialist staff, etc	■Loss of in-house expertise
■Services are provided under a contract	■Contractual mechanisms can be used to enforce performance ■Potential benefits of partnership working	■The client loses direct control of the services ■Costs of managing the contract and the relationship with the supplier
■The provider does not have to compete with other bidders or competition is restricted	■The client determines the provider or type of provider	■Risk of worse outcome in terms of value for money
■The provider must compete for a contract	■Potentially better value-for-money outcome as a result of competitive pressure	■Abortive costs if the client has set up a new entity to provide the services, which does not win the contract

3.6 Market testing

The efficiency of in-house operation may be tested by tendering the service and allowing the in-house provider to compete with other bidders, as was the case with CCT. Provided a fair comparison can be made between the bids, this has the advantage that it enables the decision as to whether the service should continue to be managed in house to be based on evidence of whether this arrangement is providing value for money rather than on a preconception that one delivery model is always better than another for the service in question.

A key risk with market testing is that suppliers are deterred from bidding because they think the incumbent in-house provider has an advantage. This can be mitigated by:

■putting robust procedures in place to ensure that the in-house provider cannot influence the tendering and evaluation process
■carrying out effective market engagement (see section 4.4) before procurement commences
■ensuring that all bidders are given all relevant information to which the in-house provider has access
■building up the client organisation’s reputation for even-handed treatment of in-house and external bidders.

Wandsworth Council has a policy of routinely market testing services wherever it considers that there is a market of suppliers able to provide the service in question. The council, which was one of the first local authorities to tender services voluntarily in the early 1980s, believes it can do this without incurring the risks set out above because it has a reputation among suppliers as an efficient organisation that is ready to outsource services wherever it considers this will provide value for money. On the other hand, services that are market tested sometimes remain with the in-house provider. Highways maintenance functions other than major works, for example, have remained under in-house management.

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