Carillion, Capita and the obsession with lowest price contracts

In the wake of Carillion's implosion, we are coming to see the internal workings of the UK Government in a light that might be surprising or unexpected for those looking from the afar. The most recent piece of information comes in today's Telegraph and is connected to what award criteria are used. Mostly, lowest price even in large outsourcing contracts.

The Public Contracts Regulation 67(1) establishes - correctly - the principle that contracts need to be tendered in accordance with the most economic advantageous tender. 3 years after the Regulations came into force, lowest price or price only contracts should be a thing of the past. But they are not, why?

First, as mentioned in the Telegraph's piece, there is a huge pressure on budgets and that means the pressure is passed on to the private sector via price only contracts. If a large percentage of a pool of contracting authorities operating in a market all have the same approach, then margins of economic operators are indeed squeezed. By itself that is not a problem and is part and parcel on the economic world. No company likes competition, so take with a grain of salt the tears claiming contract prices in the public sector are too low. Having said that...  

The winner's curse exists really is a thing in public procurement. If only one contractor can win and the lowest price is the award criteria, there is a huuuuuuge pressure to win the contract at any cost - and try and make the difference up during the contract. In effect, quite often the prices presented to win the contract are not sustainable, ie, will not cover costs and allow for a profit to be made. Have too many of those, a little bit of a head wind and the positive cashflow won't be enough to keep the ship from keeling over. In effect, this is roughly what happened to Carillion (and may be happening to Capita as well).

In consequence, I would argue there are a lot more tenders that are abnormally low than those that are formally checked for that condition. In other words, there are plenty of apparently normally priced tenders which are effectively abnormally low depending on the financial circumstances of the tenderer and eventually other contracts the economic operator has already won or will be winning in the contract. In a world where the majority of winning tenders are abnormally low, when looked in context they will all look, well, normal.

That is only part of the story though.

Second, a longer term problem looms: lack of capacity in the public sector to deal with tender complexity. Lowest price tenders are easier to assess/compare and the corresponding decision to justify. It is no surprise they remain very popular in the UK (and elsewhere too), making irrelevant the default MEAT rule in both the Directive 2014/24/EU and the Public Contracts Regulations 2015.

This brings me to the final point: the UK pushed for significant changes to be introduced in Directive 2014/24/EU, which then led to the creation of the competitive procedure with negotiation and the innovation partnership amid other measures that I classify as being "for the 1%" of contracting authorities.

What Carillion's demise is showing is that not even the "1% of contracting authorities" have the chops to do the 'advanced' basics well (moving from lower price to MEAT) let alone deal with all those new toys included in the Directive. For years I have clamoured that what we need is to support contracting authorities in doing the bread and butter well. That means doing the actual work of training, supporting, upskilling and rewarding those at the coal face. To date I have seen zero investment from the UK Government on this (publishing guidance doesn't count...)

But that makes for less compelling marketing case than the new toys. Plus, it costs lots of money. Up front and for uncertain or diffuse benefits (ie, improving tenders, reducing risk and avoiding the next Carillion). For now, it is important to cut those budgets a little more though.

In the meanwhile, lowest price contracts remain the rule and not the exception.