Contracting out of Government Services Second Report

Table of Contents

CHAPTER 2

THE TENDERING PROCESS

Tendering is at once the most crucial and most difficult area to deal with in contracting out. It is through the tendering process that an agency will be able to select the best service provider in terms of capacity, quality and cost. It must be conducted in a manner that is beyond reproach – professional, even handed, fair and honest. The Industry Commission identified the tender process as the key to realising the potential benefits of contracting out:

The extent to which contracting of services provides benefits to the client agency, and the community more generally, is dependent on the efficiency and effectiveness of the competitive tendering process. If tendering mechanisms are poorly or inappropriately designed or implemented, the costs imposed upon the client agency and prospective contractors may reduce or overshadow any potential benefits. [1]

The procurement process is central to the achievement of the objectives the government is pursuing through the acquisition of services by contracting out. Those objectives are summarised in the Commonwealth Procurement Guidelines as,

• continuing measurable benefits in value for money obtained on a whole of life basis;
• benefits in industry development and in support of other specified policy objectives; and
• satisfaction in the supplier community with the operation of the Commonwealth's procurement system overall. [2]

The Commonwealth Procurement Guidelines emphasise value for money as the `essential test against which any procurement outcome must be justified' and distinguish value for money from the lowest price tender. At the same time the Guidelines warn that the decision will be based on a range of criteria that may not be capable of objective evaluation and that it is neither `possible [nor] desirable to eliminate subjective judgement':

Decisions frequently have to be made on the basis of incomplete or imperfect information. For example, it is not easy to forecast the residual value of equipment in several years time or to place a precise financial value on service and quality …[for] complex requirements, such as for high level consultancy, creative or advisory services … it is difficult to demonstrate objectively which choice is the best. [3]

In seeking services governments rarely look at a single criterion in determining the successful tenderer. Tendering may be used to give effect to a range of government policies:

Government, as a major purchaser of goods and services, can act as a positive force to promote national competitive advantage and to develop competitive Australian and New Zealand (ANZ) industries. [4]

The Australian government seeks to promote local business generally, small to medium enterprises specifically and business in regional Australia.

Agencies are also required to ensure that other government policy objectives are integrated into their purchasing decisions. These are described in the Commonwealth Procurement Guidelines [5] and include policies regarding the environment, advancement of Aboriginal and Torres Strait Island people, affirmative action and general trade, foreign policy and Commonwealth-State priorities. Some of these requirements are binding legal commitments – for example under the Affirmative Action (Equal Employment Opportunity for Women) Act 1986 – where failure to comply can disqualify a company from becoming a contractor or constitute a breach of an existing contract, while others are a requirement to consider certain matters. The committee supports the requirement that companies receiving government contracts must comply with the appropriate government standards with regard to all these matters. However it would like to see compliance strengthened in some areas.

The Commonwealth Procurement Guidelines set out in some detail the need for mandatory compliance with Affirmative Action legislation under Finance direction 25H. In contrast compliance with environmental policies and the provision of opportunities for Aboriginal and Torres Strait Island people tends to be expressed in `best efforts' terms or requirements to consult and consider:

[agencies] should ensure that, to the greatest extent practicable, they fully examine and take into account matters affecting the environment when formulating requirements. [6]

Pursuit of industry development objectives in particular can face agencies with a difficult choice. A government contract can be an excellent way for a new entrant in an industry to get off the ground, for a small or medium enterprise seeking to expand or for a business seeking to move into new markets. To rely on established suppliers tends to reduce real competitiveness and thus the effectiveness of contracting out as a means of driving efficiency gains. It also reduces the efficacy of government contracting as a means of promoting industry development. Choosing a new entrant to the particular industry which has no proven record in projects of the size, type or location for which it has tendered but looks good on paper carries with it greater risks. A company in that position may not acquire the staff, facilities or equipment necessary to fulfil the contract until after it has been awarded the contract. Agencies selecting such a tenderer to perform a contract must rely on documentary evidence of the company's commercial and professional abilities which suggest it will have the capacity to undertake the contract successfully. The capacity of the agency to judge these issues will be crucial. Whether agencies will be able to retain or even acquire staff with the necessary skills and experience to make these decisions is a matter of concern.

The Amann Aviation case is a recent example of such a contract coming unstuck. In March 1987 Amann Aviation won the contract to provide coastal surveillance services in northern Australia without at the time having the scale of operations, the expertise or equipment to meet the requirements of the contract. In the period between the awarding of the contract and its commencement in September of that year Amann was to acquire all the necessary resources and expertise. Its tender indicated that these matters were well in hand and only awaited confirmation of the contract to proceed. In practice the company was not in a position to proceed by the start-up date. The matter ended up before the courts after the Commonwealth terminated the contract. On the issue of whether the Commonwealth had acted properly in terminating the contract the courts found in favour of Amann Aviation and damages against the Commonwealth were assessed at more than $5 million. The value of the original contract was approximately $17 million. The Amann case stands as a stark reminder of the risks inherent in using government contracts to encourage new entrants to an industry and also the care needed in managing a contract. No one suggested that Amann was likely to be able meet its contractual obligations in any reasonable time. However it was the Commonwealth's failure to follow the terms of the contract in seeking to extricate itself that brought it undone.

The range of outcomes being pursued, the extent to which decisions may be difficult to justify objectively and the potential risk involved all contribute to the complexity of the tendering process. They also add weight to the third of the government's objectives quoted above – `satisfaction of the supplier community'. It is absolutely vital that the process be carried on with the highest standards of probity if that satisfaction is to be maintained. Tendering can be an expensive process particularly for smaller enterprises. Its outcome can be crucial to a business's future development. It also involves direct and public comparison with a company's competitors. If unsuccessful tenderers are not satisfied that process is absolutely fair, or agencies cannot demonstrate that it was, then companies will be unwilling to tender for government business in the future. In addition, flawed tendering processes will undermine public confidence. This would undermine the potential benefits to be gained from competition among suppliers.

As an aside it might be argued that one of the means by which contracting out will enhance accountability is through the scrutiny which unsuccessful tenderers will bring to bear on the process (and the successful tenderer) and their willingness to cry foul if they believe the process to be in any way flawed.

The tender process is also the area that offers the greatest temptation to meddle. Political interference, corruption, cronyism and taking shortcuts through the tender processes to minimise cost or delay or to achieve the outcome which the agency wants are among the pitfalls. However the reliability and predictability of the tendering process is essential to producing fair outcomes. There are a number of recent examples in various jurisdictions which can be used to demonstrate that these are not theoretical problems but live issues. The tendering for management of the South Australian water supply is an example of playing fast and loose with proper tendering processes including redefining the process itself as a request for proposals, thus negating the rules applying to tendering. This led that state's Auditor-General to comment:

If this were a tender, the whole process would be set aside. A tender is a whole different set of contractual relationships. If this situation had happened in a tender environment it would have been cataclysmic. Because it was changed and was a request for tender proposal the irregularities have been accepted by the Solicitor General. [7]

An element in the Amann case was the desire of the contracting agency to move from the previous contractor partly because of difficulties in the relationship between the two parties and partly to avoid `capture' – dependence on one contractor over a series of contracts. This, it was claimed, resulted in a less than objective consideration of alternative tenders.

The advertising and public relations contract for the Commonwealth's Guns Buy Back campaign attracted some comment in 1996-97 when it was found that the successful tenderer had not even been included in the original list of agencies to be invited to tender. That list was prepared by the government's professional advisers on advertising from its register of suitable companies. It transpired that the agency, which was not on the register, had been added to the list after representations by a senior ministerial adviser. The Australian National Audit Office (ANAO) reviewed the whole process and, in a conclusion which has general relevance to all tendering processes, stated:

in order to ensure public accountability, including transparency and equity, as well as management efficiency and effectiveness in the selection process, it is essential to articulate clearly the criteria by which agencies are to be shortlisted and selected and then adhere to these throughout the process. Any changes should be justified and made known to all parties concerned. These criteria include not only criteria on the extent to which proposals meet the Commonwealth's stated requirements, but also the methodology which selection committees use to interpret assessments … it is important to ensure that any decision to change the approach is adequately documented. [8]

The importance of stating clearly the criteria which would be used to evaluate tenders, sticking to them or, if changes were made, ensuring that those changes were published and the process properly documented was emphasised in the Civil Aviation Authority's (CAA) acquisition of a new air traffic control system. The tender process became a matter of public concern amid claims that assessment criteria were being changed in mid-stream. As a result an independent inquiry into the tender process was established. With regard to the issue of public confidence in tendering processes it is worth quoting the inquiry report:

The record of accusations, innuendo and concern in Hansard and media clippings is quite voluminous for a process which would not normally attract other than specialised interest [emphasis added]… the concern was widespread, covering politicians from all parties … trade unions representing CAA employees, and companies desirous of obtaining this and other contracts … The most serious criticisms concerned alleged bias and some implied corruption. Others asserted irregularities and incompetence. [9]

The review found, among other problems, that the original tender process was departed from in a manner that was both unsound and unfair and that haste in the conduct of the process had been the single most damaging factor. As a result of the inquiry a further request for tender (RFT) was issued and the two preferred tenders were re-evaluated. The new RFT stated the criteria that would be applied to deciding the outcome.

The successful company was not the lowest priced tenderer but was adjudged to have offered the best Australian industry involvement opportunities. However some of the successful tenderer's offers in that regard had been submitted after tenders closed. The unsuccessful tenderer took the CAA to court. The court found for the unsuccessful tenderer on the grounds that the RFT represented an implied contract with the tenderers that the process of evaluation would be conducted fairly and that the CAA had breached that contract in a number of material ways.

Among the areas of concern which the court commented on was the involvement of two ministers with relevant responsibilities in writing to the CAA board, which was responsible for the final decision, stressing the importance of maximising local industry involvement in reaching their decision. One of the ministers in fact had the power to issue directions to the board on that matter with which the board would have to comply. Such directions would be public. While the judge found himself `unable to conclude that such attempted ministerial interference as there was had any effect on the board's decision' [10] he believed the minister was seeking to contrive a particular outcome without actually requiring it or, as the judge somewhat more poetically expressed it, `like Macbeth, he “would not play false, and yet wouldst wrongly win'”. [11]

This example also demonstrates the delays and costs involved if the process is flawed. The CAA took the decision to develop a new air traffic control system in March 1991. The initial decision on the successful tenderer was made in March 1992. The inquiry into that process was appointed in June 1992 and, as a result, the second RFT was issued in July 1993. A preferred tenderer was eventually chosen in December 1993. The costs to the Commonwealth continued. The unsuccessful tenderer's legal action against CAA, commenced in December 1994, was not resolved until June 1997.

An example of bypassing the tender process was given by the decision of the then Department of Finance in 1997 to join the previously signed information technology outsourcing contract of the Department of Veterans' Affairs. While there was nothing illegal about this - the Department of Finance was simply taking up capacity provided for in the contract – there were aspects of the decision which caused disquiet particularly in the IT industry. When the original Department of Veterans' Affairs request for tender was put out there was no suggestion that other departments or agencies might join the contract thus companies tendered on the basis of the Department's projected requirements only. The option of joining the contract, `piggybacking', was suggested by the successful tenderer to the Department of Finance. In evidence to a Senate committee examining the department's estimates officials acknowledged that otherwise the department would not have considered the option.

The committee has discussed these examples of problems not to suggest that every tendering process is likely to be flawed but to give weight to its view that proper management of the tendering process is crucial to a positive outcome. These, and many other, examples show that the cost of flawed processes can be considerable – in financial penalties, delays in implementing decisions or introducing new approaches, loss of confidence in government and damage to this country's reputation as a place to do business. They also show that, despite the volumes of advice on how to get the process right, some agencies still do not do so.

In addition to mismanagement of the tender process there is also the possibility of outright corruption. Collusive tendering has been the subject of comment before the Independent Commission against Corruption and the Gyles Royal Commission in New South Wales. The interaction between political parties and large contractors has also been a source of concern overseas leading one commentator to note that:

There are only two types of donors to political parties in the US – those who currently have government contracts and those who would like to have government contracts. [12]

Other cases point to outright bribery of officials or governments to ensure contracts are `won'. Corruption is difficult to eliminate but the best protection against it to establish clear processes and follow them.

Tendering is a costly and potentially time-consuming process. The demands of visibility and accountability do not require every agency to go to full public tender inviting all comers every time. Using approaches to tendering which satisfy the government's guidelines while at the same time minimising the cost and delay to both agency and client should be the objective. The Attorney-General's Department in its submission to the committee noted the variety of tendering methods contained in the Australian Standards code of tendering. These can be tailored to the needs of particular agencies. The use of standard forms and easy-to-interpret guides can also reduce complexity and ensure that general issues of Commonwealth policy are dealt with uniformly.

The [Attorney-General's] Legal Practice has developed standard form conditions of tender which take into account the requirements of the Procurement Guidelines and industry standards such as the Code of Tendering … [which] … can be readily adapted by the Legal Practice for the procurement of goods and services of any kind. [13]

As this report was being prepared public discussion of Pre-Qualification Schemes for industries supplying the Commonwealth was being fostered by the Department of Finance and Administration. This would act as a quality control mechanism on potential suppliers and simplify tendering by reducing the amount of supporting information pre-qualified companies would have to provide. [14]

It is important that where options to streamline the tendering process are adopted – selected tenderers, pre-registered tenders etc – that those processes are themselves transparent and fair. For example in the Guns Buy Back campaign cited above dispute arose because of the inclusion in a select list of potential tenderers of a company not in the relevant register. Where Commonwealth agencies keep registers of potential suppliers for particular types of services it is important that the criteria governing access to such registers and the method of registration are openly available. The World Trade Organization Agreement on Government Procurement (AGP) requires agencies using selective tendering to maintain lists of tenderers who must satisfy published eligibility criteria and agencies `[m]ust publish annually the enumeration of lists maintained, the conditions that must be fulfilled to be listed as a qualified supplier and the period of validity of the lists.' [15]

The World Trade Organisation AGP came into force on 1 January 1996. It may have an impact on some aspects of government purchasing in Australia. The objective of the AGP is to apply the principles of non-discrimination and transparency to government purchasing. The agreement is voluntary and Australia has not yet made a decision to sign it. Were Australia to accede to it some tendering practices would have to be reviewed. The AGP identifies four favoured methods of conducting tenders – open, selective, limited or through competitive negotiations. A study by the Productivity Commission [16] on the probable impact of the agreement concludes that it would prohibit:

seeking or considering “offsets” in the qualification and selection of suppliers, products or services, or in the evaluation of tenders and the award of contracts in government procurement.

Current practices such as two envelope tendering [17] and endorsed supplier arrangements would be unacceptable.

In ensuring that the tendering process is properly conducted, particularly where large contracts are involved, increasing use is being made of independent probity monitoring. The recent contracting out of employment services emphasised the aspect of procedural integrity. The Commonwealth Department of Employment, Education, Training and Youth Affairs (DEETYA) which managed the process developed a Probity Plan and retained private legal advisers who in turn selected and managed a quality assurance team which,

will observe each part of the tender process to ensure that agreed processes and procedures are followed. They will also adopt quality control techniques to ensure objective and consistent assessment of the tenders. [18]

The outcome of this process was announced shortly before this report was completed thus it is too early to comment on its success. However early indications are that, given the number of contracts involved, it has worked reasonably well. While outcomes will always be questioned by unsuccessful tenderers there has been very little adverse comment on the probity of the actual process.

In-house bids

The question of in-house bids has the potential to cause probity problems. In-house bids occur where a unit within an agency that is contracting out services itself tenders to provide those services. In general terms the committee supports the use of in-house bids, provided that a successful in-house bidder is subject to the same accountability requirements as other bidders. Such a bid will give the agency a good indication of the `best' deal it can expect if the service is retained in-house and provide a benchmark for other bids. A successful in-house bid can circumvent many of the problems of accountability that might otherwise arise. Development of the bid will assist the agency to clarify whether it wishes to proceed with contracting out at all by providing a guide to the efficiency gains and quality improvements that could be expected by using in-house providers. The agency will be better placed to make a judgement as to whether the costs and added risks of contracting out are justified. A disadvantage of in-house bids to which weight must be given is that, where successful, no contract can exist between the agency and the in-house bidder because both are organs of the government.

Thus the relationship must be governed by a memorandum of understanding (MOU) or similar document. This involves a lesser degree of certainty for the agency in dealing with the service provider because the normal remedies available under contract law are not available.

In developing such a bid the agency must ensure that the in-house team is at arm's length and does not gain any unfair advantage over external bidders for example by access to other tenders or to more or better information or by influencing the design of the tender documentation or process. It is also important that the in-house bid team does not receive any `hidden subsidies' from within the agency either in developing its tender or in the costings, service standards etc included in the tender. Where in-house bids are initiated agencies should consider initiating a probity plan at that stage to ensure that the preparation of the bid meets the probity requirements of the tendering process. When tenders are called, the advertisements should make clear whether in-house bids will be considered.

Tender challenges and complaints

A number of submissions raised the question of challenging the process or outcome of tendering. The Commonwealth Procurement Guidelines summarise the present situation:

Suppliers that complain about procurement processes or decisions are entitled to receive a fair hearing from agencies. … [however] There is no special Commonwealth-wide system for dealing with procurement complaints or providing remedies for complainants. [19]

A complainant may go to the Commonwealth Ombudsman who, if the complaint is upheld, can recommend remedies ranging from an apology to compensation. Where a breach of the Government Procurement Agreement is involved a complaint may be made through the Department of Finance and Administration.

Dr Nick Seddon, an expert in contract law from the Australian National University, has noted that `there is a world wide trend to put in place specific and transparent tender challenge procedures for government contracts'. [20] The WTO Agreement mentioned above is similar to requirements in the European Community (EC) and the North American Free Trade Agreement. In evidence to the committee Dr Seddon noted that the EC, Japan, Korea, the United States and Canada has all signed up to the WTO/AGP agreement and that this was an urgent matter for Australia to address. [21] If Australia joined the AGP Dr Seddon suggested that the Administrative Appeals Tribunal might be an appropriate body to handle tender disputes.

Dr Seddon raises the issue in response to comments in the Attorney-General's Department submission that it had,

reservations about whether it would be necessary, for the purpose of achieving the objective of public accountability in tender and contracting, to extend the jurisdiction of the Ombudsman in relation to tenders and contracts for government services. [22]

The department relied heavily on procedural safeguards and took the view that because Commonwealth tenders are conducted `in accordance with industry standards and in accordance with the principle of acting as a model contractor' and tenders `routinely include provisions which provide for fairness and transparency', [23] formal tender challenge procedures are unnecessary. In the committee's view, this line of argument is flawed.

Dr Seddon's view is rather different:

tendering procedures should be subject to the discipline imposed by rights of redress available to disgruntled tenderers. At present in Australia there are very few avenues for tender challenges. … a very important channel for tender challenges is the Ombudsman. This is borne out by the Ombudsman's Annual Reports which are full of stories about badly administered procurements. [24]

Dr Seddon also disputes the department's view that existing procedures are adequate, preferring formal legal processes to `informal avenues':

there is, according to current Australian case law, no contract between tenderer and the government prior to award of the contract. In other words the tendering process is not itself a contract. There are therefore very limited legal avenues for redress. [25]

Subsequent to the committee's consideration of this issue the decision in Hughes Aircraft Systems International v Airservices Australia [26] in the Federal Court has added to the case law on this matter. The Australian Government Solicitor summed up the implications of the case as underlining the

need for Departments and other Commonwealth bodies to arrange and conduct their tender processes with maximum care and supervision, bearing in mind that the tender processes might be treated by a court as contractual in nature. [27]

While a simple request for tender may be no more than an ordinary invitation to treat, where the agency and tenderers agree on tender processes that may be held to constitute a contract. The Hughes case may extend the possibilities for redress of the aggrieved tenderer if the acceptance by all parties of tender conditions is taken to constitute a contract. To the best of the committee's knowledge, however, this has not subsequently been tested.

However the committee does not view the choice between procedural protections and `remedy mechanisms which have teeth' as a real problem. Virtually every commentator on this issue supports the view that there must be graded avenues of response to problems in both the tendering process and contract management. Every effort should be made to resolve problems before they get to the stage of litigation. Procedures relying on consultation and arbitration are to be preferred to involving the Ombudsman or initiating formal legal procedures in the first instance. If the increased reliance in contracting out produces a parallel increase in tender dispute cases before the Ombudsman, it may be necessary to consider funding a specialised group within that office to handle the work. The committee will liaise with the Ombudsman in monitoring the level of tender disputes. If the number and nature of those disputes causes sufficient concern, the committee will consider reporting again on this aspect of its inquiry.

Footnotes

[1] Industry Commission, Competitive Tendering and Contracting by Public Sector Agencies, (Melbourne, 1996), p. 321.

[2] Commonwealth Procurement Guidelines, (Canberra, 1997), p. 2.

[3] ibid., p. 11.

[4] ibid, p. 17.

[5] ibid., pp. 29-34.

[6] ibid., p. 30.

[7] South Australian Auditor-General, in evidence to a state parliamentary committee. Quoted in the submission of the Public Sector Research Centre, University of New South Wales, in Submissions, vol. 2, p. 254.

[8] Auditor-General, The Gun Buy-Back Scheme, Report No. 25, 1997-98, Canberra 1997, p. 63.

[9] Ian McPhee, Independent Review of the Civil Aviation Authority's tender evaluation process for the Australian Advanced Air Traffic System, 1992, p. 4.

[10] Hughes Aircraft Systems International v Airservices Australia, 1997, 146 ALR 1, at p. 76.

[11] ibid., p. 73.

[12] G. Hodge, Contracting out Government Services, Melbourne, 1996, p. 30.

[13] Attorney-General's Department, in Submissions, vol. 2, p. 380.

[14] See, for example, Canberra Times, 9 March 1998, p. 11.

[15] Productivity Commission, WTO Agreement on Government Procurement, Report 96/18, (Canberra, AGPS, 1996), p. 21.

[16] ibid.

[17] `Two envelope tendering' as described by the Productivity Commission, op. cit., p. 11, requires companies tendering for contracts over $10m to submit aspects of their bid dealing with the development of domestic industry in a second envelope, separate from the price and performance aspects. The purchasing agency must then evaluate the tenders against the criteria for the development of domestic industry and assess which tender offers the best development outcome. It makes the final purchasing decision on the basis of both the development of domestic industry and price and performance assessments.

[18] DEETYA, Overview of the Employment Services Request for Tender, 1997, p. 9.

[19] Commonwealth Procurement Guidelines, op. cit., p. 163.

[20] Dr N. Seddon, in Submissions, vol. 3, p. 564.

[21] Evidence, 16 May 1997, pp. 223-224.

[22] Attorney General's Department, in Submissions, vol. 2, p. 383.

[23] ibid., p. 383.

[24] Dr N. Seddon, in Submissions, vol. 3, pp. 563-4.

[25] ibid., p. 564.

[26] Unreported, No. ACT G86 of 1995, 30 June 1997. The comments on this case are drawn from the Australian Government Solicitor Legal Briefing, number 33, 2 July 1997.

[27] ibid.