LITERATURE REVIEW
2.1 Introduction
In this chapter, I will first introduce the concept of between New Public Management and Outsourcing. Then the details of outsourcing will be discussed in the second part of this chapter.
There are many scholars working in the field of outsourcing. Some of them are focus on the pros and cons of outsourcing and some of them are focus on the conditions required for successful outsourcing. In this dissertation, I will not focus on the pros and cons of outsourcing but will analyze the conditions required for successful outsourcing.
Although this dissertation if focus on the conditions required for successful outsourcing, there are still many scholars doing research in this field. In this chapter, I will discuss the theory from two scholars i.e. Simon Domberger and Paul Seidenstat. At the end, I will identify the gap between the theories and indicate which theory I will adopt as the theoretical framework of the dissertation.
2.2 The Concept of New Public Management and the Objective of Outsourcing
Over the last decade, the term of New Public Management (NPM) is widely used in academic, governmental and organizational discussion and the debate over the nature of the NPM also becomes more and more serious. The idea of NPM is origin from a set of public sector reform in the 80s and 90s.At that period of time, the public services were neither efficiency nor effective. As a result, either cost containment or quality improvement was requested from the community. On the basis of these beliefs a trio goals, cost containment, public support and performance improvement, emerged as central drivers for reform[1] . In order to achieve the above trio goals, public managers tried to adopt the private sector mode of organizing and managing.
One of the most critical aspects for the reform is to use contact as the dominant means of control instead of the hierarchies. Other aspects followed, including the introduction of what were seen to be ‘business-like’ management practices in human resource management (appraisal, performance management and seeking to recruit senior managers from the private sector) and a requirement to account, and to pay, for capital utilization.[2]
One of the leading scholars in the field of NPM is Christopher Hood and his article ‘A public management for all seasons?’ is still the most widely used concept of the idea of NPM. He describes NPM as a doctrine, or at least as a label for a set of administrative doctrine which he and other identified as ‘New’. Before the concept of NPM, public administration was always focus on institutions, politics and value system. On the other hand, NPM referred to private sector management practices, including performance incentives, and to markets. According to Sandra Dawson and Charlotte Dargie. “NPM drew on two competing conceptual frameworks. One, skin to managerialism, supported the introduction of private sector practices, which included attempts to manage professionals, introduce performance measures and incentive reward system. The other, with us its emphasis on markets, derived from variants of public choice, rational choice and ‘New institutional economics’, and led to an emphasis on decentralization and competition that is at odds with the centralizing tendencies of the other[3].
Christopher Hood defines the nature of NPM and states it comprises seven doctrines:-
· A focus on hands-on and entrepreneurial management, as opposed to the traditional bureaucratic focus of the public administrator;
· Explicit standards and measurers of performance;
· An emphasis on output controls;
· The importance of the disaggregation and decentralization of public services;
· A shift to the promotion of competition in the provision of public services
· A stress on private sector styles of management and their superiority: and the promotion of discipline and parsimony in resource allocation.[4]
The concept of privatization definitely falls into the doctrine of disaggregation and decentralization of public services, and the promotion of competition in the provision of public services.[5] According to Ascher, he defines privatization as ‘an umbrella term that has come to describe a multitude of government initiatives designed to increase the role of the private sector. [6]. Privatization includes different forms of alternative service production and delivery schemes. In general, there are nine forms of privatization and they are service shedding, asset sales, franchising, vouchers, grants, subsidies, public-private partnership, volunteer activities, contracting in, contracting our and competitive contracting.
Among the above privatization options, contracting out or outsourcing is the most commonly used privatization option. Outsourcing involves a binding agreement by which a government pays a private firm or outside entity to provide all of part of a specific service. It is because, on one hand, the government retains the ownership and overall control of the outsourced services or goods, on the other hand, the government employ the private company to provide the services or goods that delivered in-house previously. According to Ascher, she describes outsourcing as the situation where one organization contracts with another for the provision of a particular good or service. It is an essential form of procurement, in the sense that contractors may be considered supplies, but in common usage it has come to refer more specifically to the purchase of an end product which could otherwise be provided in-house by the purchaser. [7]
To conclude, the terms of New Public Management, Privatization and Outsourcing are interlinked. By using the concept of NPM defines by Christopher Wood, privatization is one of the administrative tools for the public managers to implement the concept of NPM in the public sectors. The terms of outsourcing is one the administrative tools under the umbrella of privatization.
According to John A. O’Looney, there are three main objectives to outsource a government service and they are to reduce, make more efficient, and to reform government services.[8] , To reduce means many things which includes to reduce the services by allocating less resources to contractor and to reduce the size of the government.
Another objective is to enhance the efficiency of the government. ‘This can occur through a number of mechanisms, including (1) restoring competition, (2) tapping economies of scale, and (3) discovering the most efficient production techniques. [9] The last objective is to reform the government by introducing competition and to manage contracts rather than manage programs.
2.3 Conditions required for successful outsourcing laid down by Simon Domberger
Regarding the conditions required for successful outsourcing. Simon Domberger lays down four keywords for successful outsourcing and they are Specialization, Market Discipline, Flexibility and Cost Saving. In the following, I will discuss the details of each keyword separately.
Specialization
The first condition for successful outsourcing is that organization should know the importance of specialization and also intends to focus on specialization. Simon Domberger defines ‘Specialization’ as ‘Concentrating on those activities in which the organization has established a distinctive capability, letting other produce supporting goods and services.’[10]
Regarding specialization, Simon Domberger introduces the concept of core activities and core competencies. According to Alexander and Young (1996). ‘they suggest that there are four meanings associated with core competencies or core activities. They are 1) activities traditionally performed in –house; 2) activities critical to business performance; 3) activities creating current or potential competitive advantage; 4) activities that will drive future growth, innovation, or rejuvenation. Among the above four meanings, the first one is relatively meaningless as everything produces in-house is core activities or core competencies.’[11]
After knowing the meaning of core competencies, organization needs to identify them among the goods and services produced in-house. Two aspects of core competencies need to be known. According to Prahalad and Hamel (1990), they suggest that ‘organizations should not simply think they are producing products only. Organizations should rather to cultivate the competencies which will be more enduring than the products they currently produce, will not diminish with use, and will be the platform form which they will launch new and successful products in the future.’[12] One of the examples quoted by them is Sony’s capacity to miniaturize components and audio-visual products.
Prahalad and Hamel also states that ‘Outsourcing can provide a shortcut to a more competitive products, but is typically contributes little to building the people-embodies skills that are needed to sustain product leadership’ [13] which means outsourcing the provision of key parts and components can lose and organization its core competence, or the opportunity to create one. They warn that before surrender economic activities to an outside supplier, organization must think very careful and thoroughly the potential gain as well as the loss. Simon Domberger further adds one point that organization should consider the losing of technological competence to potential competitor. The concept is especially valid in the high-tech industries including computer, telecommunication and the like. The knowledge of high-tech not only is risky and costly to acquire but also can keep the organization ahead in front of the other competitors in the market.
To sum up, specialization can make economic benefits by concentrating on activities in which an organization is relatively more efficient, total value added is maximized.
Market Discipline
According to Simon Domberger, another condition for successful outsourcing is market discipline. He defines market discipline as ‘the process of identifying conditions in which the purchaser is separated from the provider and a formal transaction takes place under contract. [14] Simon Domberger states that market discipline provides a couple of advantages. They are 1) separation of purchaser from provider; 2) focus on performance; 3) effective interface between purchaser and provider:; and 4) competition.
The separation of purchaser from provider means one party concentrates on consumption and another on production. Simon Domberger states that ‘the implications of the separation of market participants are far-reaching: there are not two organizations where previously there was on: the financial impact of the activities each becomes transparent through the splitting of the organization accounts: and the cost of resources used in providing services across organization boundaries comes into much sharper focus. The separation also enhances incentives to perform and to delivery services that meet client needs. Once the separation of purchaser from provider, purchaser can select another contractor who performs better or provides better terms.[15]
The focus on performance has impact on both the purchaser and provider. Before entering into any contracts, the purchaser must think very carefully the nature of goods or services required from the provider. According to Simon Domberger, ‘prior to contracting many public sector organizations did not specify the goods or services provided in-house. [16] By outsourcing, purchaser not only needs to specify the details of goods or services required but also to monitor the goods or services provided by the provider. Thus, the focus on performance has a positive effect on service quality.
The effective interface between the purchaser and the provider starts with the contract. Generally, the service contracts are relationship contracts rather than spot contracts. The relationship contracts require exchange of information and data between both parties to evaluate the contract. One of the options to deal with under-performed provider will be the contract termination. However, it will impose cost on both parties. Therefore, the relationship contracts provide a basis for both parties to start a constructive dialogue to discuss the strengths and weaknesses of the provider and the nature of their relationship.
Simon Domberger also mentions that the market discipline introduces competition to the purchaser and provider. Simon Domberger states that introducing competition has significant and positive effect in working practices, innovative approaches to work redesign, and, as a consequence, significant cost saving. The force of competition will be discussed more thoroughly in the part of cost savings.
Flexibility
According to Simon Domberger the third condition is that organization should know the importance of flexibility. He defines flexibility as ‘the ability to adjust the scale and scope of production upwards or downwards at low cost and rapid rate.[17] In order words, flexibility means the speed and cost of an adjustment to changes in demand or supply situations. And a flexible system means the cost and speed of adjustment to external stimulus is lower than the other system.
It is common that output adjustment is less costly and more rapid in small organization. It is because output adjustment often requires dismissal of staff and disruption of internal relationship. Therefore, by outsourcing to numerous small organization, the output adjustment can be made more quickly and easily.
Simon Domberger quotes Benetton as the example of flexibility. He states that the success of Benetton not only because of its sensibility to customers’ tastes but also of its outsourcing strategy by contracting producing to small organization, which makes Benetton change its product design quickly, easily and less costly. Finally, Simon Domberger states that ‘other things being equal, smaller organizations tend to breed closer-knit working communities, in which commitment to organizational objectives is easier to elicit. This adds to the ability of small-scale enterprise to respond rapidly to external change.[18]
Cost Saving
The last condition is the intention to reduce cost. Simon Domberger defines cost savings as ‘lower resource costs of service delivery compared to in-house production.[19] Not many people will challenge that competition drives price down. A classical example in Hong Kong is the service fee of mobile phone. Before the Hong Kong Government opened up the telecommunication market, PCCW (previous Known as CSL) enjoyed the monopoly and set the service fee at a very high level. However, after the opening of the market, the power of competition surfaced and the fee decreased tremendously because of the vigorous competition in the market.
Some people may argue that competition drives price down as it also drive the quality of goods or services down too. However, according to Simon Domberger, it is not the case. He uses Fig. 2.1 to illustrate his argument.
Source: Adapted from Domberger et al. (1995).
Fig. 2.1. Competition, price, and quality
From Fig. 2.1 shows that the price for non-competitive contracts is 28 while the price for competitive is 16. On the other hand, the cleaning performance indicators for non-competitive contract is 0.56 while the indicator for competitive contracts is 0.63. The figure shows not only competitive contracts reduces price but also increases the quality. Simon Domberger further mentions that the result of one study is not convincing. But the study sows that it is possible that competition can drive down the cost as well as raise the quality.
Simon Domberger further states that public sector purchaser will not follow the concept of ‘lowest price win’ but rather follow the concept of ‘value for money’. The concept of ‘value for money’ further guarantees the quality of goods or services outsourced will not be decreased.
In addition, as mentioned in market discipline, purchaser will pay more attention on performance. Simon Domberger explains that ‘the greater emphasis on performance has resulted in more reliable and accessible information on quality than was available prior to contracting. This increase in information should lead to improvements in quality, since it is now more difficult for vendors to shade quality without being caught our. In sum, it should not be surprising to see in quantitative studies that the introduction of contracting, and the competition that accompanies it, tends to enhance quality irrespective of its influence on prices.’ [20]
2.4 Conditions required for successful outsourcing laid down by Paul Seidenstat
Paul Seidenstat is co-editor of Privatizing Education and Educational Choice, and Privatizing Transportation Systems. He is Associate Professor of Economics at Temple University. His recent research has been in the area of state and local government finance and management. In his book ‘Contracting Out Government Services’, he states that because of the growing fiscal difficulties of state and local government and the increasing opposition to fax increases, outsourcing becomes one of the methods to ease the pressures by cutting cost so as to avoid raising taxes or drastically cutting the level of services provided by the government.
Paul Seidenstat defines ‘outsourcing as a management tool as well as a device to realign the public-private sector mix. The managerial objectives include cutting costs, improving the quality of services produced, or both. Most frequently, the primary aim has been to cut costs in order to relieve budgetary pressures rather than to improve service, especially since assessing the equality of output of many government services can be a complex and time-consuming activity. Outsourcing was also aimed at increasing the flexibility of government operations such that expansion, contraction, or complete elimination of specific services could be accomplished with fewer obstacles and with greater speed. [21]
Paul Seidenstat lies down very clearly that certain environmental factors must be present for successful outsourcing. The factors are 1) political support; 2) managerial/political leadership and 3) a supportive private market structure, in the following, I will discuss those factors in detail.
Political Support
‘Overcoming the bias toward the status quo protected by the stakeholders who receive monopoly rent is essential. A strong case must be made for change; the case must speak to the benefits to be received with a provision/production arrangement in comparison to the costs that may have to incurred.’[22] Therefore, voter and legislative support introduces an opportunity for outsourcing and to allow the new structure a chance to show its advantage.
According to Paul Seidenstat, there are two main advantages for outsourcing which are cost containment and quality enhancement. It is no doubt that by introducing competition the operating costs can be reduced. Savas mentions that ‘saving from competitive contracting of public services-the most thoroughly studies form of privatization –average roughly 25 to 30 percent. [23] As mentioned earlier, although reducing operating cost is the main objective of outsourcing, achieving high service quality is also another objective of outsourcing. According to Paul Seidenstat in certain services such as education and prisoner services the quality has improved with impressive results because the nature of the service and the outputs of these services are difficult to define and measure.
Managerial/Political Leadership
‘The full support of political leaders, especially in the executive branch, greatly enhances the chances the chances of success. Not only is this support required for approval of change, but also enthusiastic and careful backing of the effort often is compelled so sustain it. Well-prepared and ardent political leaders often are needed to overcome the inertia of the status quo.[24]
Paul Seidenstat further states that political leaders should be aware of certain cautions and pitfalls. The first one is there is little competition in the private market. Without any competition, not only saving cannot be achieved but also service quality cannot be maintained. As a result, the process of outsourcing is simply a process of shifting public monopoly. Should there is sufficient competition, the contract should be carefully drafted and monitored. It is because ‘vague contract may lead of less than optimal results, and enforcement may not be effectively practiced.[25] Most importantly, abuse of the public trust and favoritism in awarding contract is another pitfalls. Bidding competition and public watchdog are the useful tools to avoid the undue influence of outsourcing. In sum, the conduct of political favoritism, corruption, and the toleration of poor contractor performance should not be overlooked.
Supportive Private Market Structure
To achieve the maximum benefits of outsourcing, the private sector should be structured such that native suppliers exist to compete in providing the service in the case of load-shedding, can compete for contracts in the care of contracting out or franchising, or can supply services in the case of vouchers. Without competition, privatization might simply consist of a private monopoly substituting for a government monopoly.[26]
With a supportive private market structure, public-private competition is introduced to the government. Outsourcing not only reduces the operating cost and enhance he services quality but also has the effect of weakening the power of public union. Paul Seidenstat quotes the example in the United State, some governors and mayors used the thread of privatization in negotiating with the public servants to persuade them to accept major modifications in their work rules by trading off the idea of privatization. The result was the unions accepted the proposal.
Many people may ask why private sector can produce goods or delivery services with lower cost, at a given level of service when compared with the government. Paul Seidenstat explains that ‘ a competitive market framework will drive unit cost to the minimum level. Only way the private producer accomplishes cost minimization is by limiting labor costs in such ways as using more part-time and lower-skill workers, paying for less time off overtime, establishing clearer job definitions and greater worker accountability, and having more workers per supervisor. Other input cost can be reduced by holding first-line managers more responsible for equipment maintenance and giving them more authority to hire and fire, shifting toward a higher capital to labor ration, and utilizing more effective purchasing methods. Relating manager pay to profitability can lead to more emphasis on innovative ways to produce, incorporating new technology, dispensing with “red tape”, and making timely decision. On the other hand, changing managers in light of poor performance in a private organization typically can be accomplished with greater speed and with less disruption.[27]
2.5 conclusion
To conclude, Paul Seidenstat’s view on conditions required for successful outsourcing is that should the number of public servants affected is small, specialized services are involved, output can be easily defined and measured, several potential private suppliers exist or entry of others is easy, and the service beneficiaries are numerous, outsourcing goods or services will be implemented successful.
[1] . Sandra dawson and Charlotte Dargie, “New Public management – A discussion with special reference to UK health in Kate McLaughlin, Stephen P.Osborne and Ewan Ferlie,”New Public management Current Trends and Future Prospects’(Routledge,2002),P.35
[2] Sandra dawson and Charlotte Dargie, “New Public management – A discussion with special reference to UK health in Kate McLaughlin, Stephen P.Osborne and Ewan Ferlie,”New Public management Current Trends and Future Prospects’(Routledge,2002),P.35
[3] Sandra Dawson and Charlotte Dargie, “New Public Management –A discussion with special reference to UK health in Kate Mclaughlin, Stephen P.Osborne and Ewan Ferlie, “New Public Management Current Trends and Future Prospects” (Routledge. 2002) P.38
[4] Stephen P.Osborne and Kate McLaughlin, “The New Public Management in Contest” in Kate McLaughlin, Stephen P.Osborne and Ewan Ferlie, “New Public Management Current Trends and Future Prospects”(Routledge, 2002), P.9
[5] Ascher, K. “The Politics of Privatisation” (Macmillan, London, 1987), P.4
[6] Ascher, K. “The Politics of Privatisation” (Macmillan, London, 1987), P.4
[7] Ascher, K. “The Politics of Privatisation” (Macmillan, London, 1987), P7
[8] John A. O’Looney, ”Outsourcing state and local government services: decision-making strategies and management methods”, (London : Quorum, 1998) P. 23
[9] John A. O’Looney, ”Outsourcing state and local government services: decision-making strategies and management methods”, (London : Quorum, 1998) P. 24
[10] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 51
[11] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 35
[12] Prahalad and Hamel, “The core Competence of the Corporation”, (Harvard Business Review, 1990) P. 80
[13] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 36
[14] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 51
[15] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 47
[16] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 47
[17] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 51
[18] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 50
[19] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 51
[20] Simon Domberger, “The Contracting Organization: A Strategic Guide to Outsourcing”(New York: Oxford University Press, 1998) P. 46-47
[21] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 14
[22] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 15
[23] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 14
[24] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 14
[25] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 17
[26] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 15
[27] Paul Seidenstat, “Contracting Government Services”, (London : Praeger, 1999) P. 16-17
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