Privatisation and/or commercialisation of public services is occurring in Australia on a significant scale. Privatisation in Australia involves three principal contexts:
Having made the decision to privatise (by whatever means) activities previously undertaken by the public sector, important issues need to be addressed concerning the ongoing administration of the public interest, including proper accountability for public resources. Public service agencies must strive to maximise overall ‘value for money’ for citizens which requires consideration of issues other than production costs, such as client satisfaction, the public interest, fair play, honesty, justice and equity.
Auditors-General are a fundamental part of the public accountability framework, providing a unique blend of independence, objectivity and professionalism. It would be generally agreed it is important that this role is maintained in an increasingly ‘privatised’ public sector.
The responsibilities of the Commonwealth Auditor-General are outlined in the Auditor-General Act 1997 and in a range of entity-specific legislation. The legislative arrangements for the appointment of the Auditor-General and the establishment of the Australian National Audit Office (ANAO) mean that the Auditor-General is by statute, independent of the political environment. The results of audits are reported to the Parliament, thus providing the Parliament and the community with an important source of information about the way public resources are being administered. The mandate of the ANAO is to undertake audits of:
Essentially, performance audits focus on those core activities that are vital for good management, including the governance framework, performance management, contract management, operational (such as purchasing) guidelines, financial instructions, monitoring and review practices, systems development, integrity and ethical checklists, legal compliance and audit trails. The ANAO’s mandate does not extend to examining matters of government policy per se: the setting of policy objectives is the prerogative of Executive Government. The Auditor-General is empowered to examine how well government programs and policies (outputs and outcomes) are administered and whether they are meeting stated policy objectives.
The ANAO has undertaken a series of performance audits of major asset sales and outsourcing tenders. These audits have identified a number of areas in which particular focus needs to be placed in order to support the maintenance of accountability in the management and monitoring of privatisation and outsourcing initiatives and the achievement of required results. This paper discusses relevant issues in the context of, first, the full or partial sale of government businesses, and second, the outsourcing of services and other activities to the private sector. It also briefly addresses the issue of the control structures needed to manage risks which is more difficult in this new environment. The focus of this paper is largely on the significant challenges to accountability, and consequently audit, in this environment.
In Australia, the last ten years has seen an increased focus on privatisation of government business entities, with some $A50 billion (ANAO Report No. 47 1997-98, ‘Management of Commonwealth Guarantees, Indemnities and Letters of Comfort’, Canberra, 23 June, p. 17, Exhibit 2.3.) raised by the Federal Government through such asset sales over this time. These sales are invariably conducted by way of public share offers or trade sales. The scale of such offers emphasises the importance of sound administrative practices because small deficiencies can have significant adverse financial implications. As well, opportunities forgone can make a large difference to the results achieved.
The ANAO has undertaken a program of performance audits to examine the extent to which government sale objectives have been achieved; the effectiveness of the management of the sale; and the ongoing risk exposure. The assurance provided by such audit activities plays an important role in enhancing accountability for the stewardship of the sale process and including whether post-sale performance is meeting the objectives set by government.
For example, the ANAO has examined the three largest public share offers conducted in Australia, namely the sale of two tranches of shares in Telstra Corporation (our major telecommunications supplier), which collectively raised proceeds of $A30.24 billion, and the third tranche sale of shares in the Commonwealth Bank, which raised proceeds of $A5.15 billion. The audits of those sales examined the key factors that affect the success of any public share offer, such as:
The public accountability aspects of such elements of the sales process are outside the experience of most public servants and, for the most part, are not well understood by private sector participants. There is therefore an ongoing learning process for all participants, not least for the auditors concerned.
A common objective of any privatisation is to obtain a fair value from the sale. In trade sales, fair value can be achieved through an open, competitive tender process that enables a market value for the assets or business to be established. For this reason, a clear focus of performance audits of trade sales has been on the tender process and the evaluation of tenders. From these audits, the ANAO has identified a number of principles of sound administrative practice to guide future Commonwealth trade sales, including:
It has been satisfying to observe that these trade sale audits have had a generally agreed positive impact on the way sales are being conducted. This can be illustrated with the privatisation of Federal airports in Australia, which have been sold in two tranches, with each tranche being audited by the ANAO. Not surprisingly, one aspect of the ANAO approach to auditing the second tranche sale was to examine action taken in response to recommendations made in the audit report on the first tranche sale. It was found that all eleven recommendations in the initial report were implemented by agencies, even though not all had been fully agreed to by the agency responsible for Federal asset sales.
Often in trade sales, bidders include in their tenders ongoing commitments that are consistent with the ongoing objectives of the privatisation. These commitments often relate to advancing the public interest. For example, recent trade sales of Federal airports and of the intrastate freight and interstate rail businesses of a former Government Business Enterprise (GBE) have involved purchasers committing in the respective sale agreements to future capital expenditure on infrastructure development and, in the latter case, the continuation of concessional rail travel for pensioners, blind pensioners and incapacitated war veterans.
Such commitments can be an impressive adjunct to the financial returns from the sale, and often contribute significantly to non-financial sale objectives. However, the benefits of these commitments will be lost unless appropriate administrative procedures are implemented to monitor and enforce compliance with the terms of these sale agreements
These performance audits added value by identifying deficiencies in the administration of commitments by purchasers, including prompting agency action to rectify the identified deficiencies as well as action to prevent recurrence of similar problems in future sales. Administration of the long-term contractual commitments is a possible area of future audit activity to provide added assurance that the full benefits of privatisation are achieved. As with other areas of contracting-out, there is an ongoing shortage of appropriate skills and experience in the public sector in the area of contract management. This adds to the risks of securing appropriate, if not required, contract performance.
The contracting out, or outsourcing, of functions previously delivered by public sector agencies has also been a feature of the changing public sector environment. The following example is illustrative at the Federal Government level in Australia:
The decision in 1997 to outsource information technology and telecommunications (IT&T) services across budget-funded agencies, subject to the outcome of competitive processes to be undertaken within a ‘whole of government’ framework. The measure was directed at achieving long-term improvements in the structuring and sourcing of IT&T services across agencies to facilitate greater integration in the delivery of programs and realise significant cost savings. A key element of the initiative was to gather the IT&T of Commonwealth agencies into a number of groups to be offered to the market. To date, five of the eleven contracts have been let.
Outsourcing advocates point to the opportunities offered in terms of increased flexibility in service delivery; greater focus on outputs and outcomes rather than inputs; freeing public sector management to focus on higher priorities; encouraging suppliers to provide innovative solutions; and cost savings in providing services (Industry Commission, ‘Competitive Tendering and Contracting by Public Sector Agencies’ ). However, outsourcing also brings risks which need to be actively managed
The IT outsourcing initiative have been the subject of performance audit by the ANAO which was reported on in September last year (ANAO Report No.9 2000-2001, ‘Implementation of Whole-of-Government Information Technology Infrastructure Consolidation and Outsourcing Initiative.’ Canberra, 6 September.). The main message flowing from those audits is that savings and other benefits do not flow automatically from outsourcing. Indeed, that process, like any other element of the business function, must be well managed. The experience of the ANAO has been that a poorly managed outsourcing approach can result in higher costs, wasted resources, impaired performance and considerable public concern about associated outcomes.
A sound tendering process and effective management of the resulting contract are also critical for the efficient, effective and sustainable delivery of programs. These two elements will now be discussed to reinforce their inherent characteristics which often seem to be overlooked or disregarded by public sector decision-makers.
In the appropriate circumstances, the use of competitive tendering and contracting promotes open and effective competition by calling for offers which can be evaluated against clear and previously stated requirements to obtain value for money. This, in turn, creates the necessary framework for a defensible, accountable method of selecting a service provider. The reasons for a particular source selection need to be written up and be able to withstand external scrutiny, including from the Parliament.
The recent ANAO performance audit of the IT outsourcing initiative highlighted a number of areas in which the management and monitoring of that outsourcing process could be improved to enhance the robustness, transparency and accountability of the basis for the selection of preferred tenderers, particularly in regard to the transparent assessment of tenderers against the published evaluation criteria.
For example, the public tender documents identified the achievement of substantial and acceptable savings as a precondition to the awarding of a contract. The audit found that the methodology employed to provide the assessment of tenderers against that criteria did not capture all of the relevant costs and, as a result, overstated the potential savings from outsourcing. Also, in two of the three tenders reviewed, the formal evaluation documentation did not set out the responsible evaluation committees’ conclusions as to whether that precondition had been satisfied.
Further, the evaluation planning documentation did not articulate how two key evaluation criteria, savings and industry development, would be combined in order to select the preferred tenderer in accordance with the process set out in the Request for Tender provided to tenderers. Given the importance placed on achievement of significant savings as a justification for IT outsourcing, any shortfall would seem to place commensurate pressure on other perceived benefits to justify the initiative and maintain confidence in the original decision.
Outsourcing represents a fundamental change to an agency's operating environment. It brings with it new risks, including opportunities, which require managers to develop different approaches and skills. Managing the risks associated with the increased involvement of the private sector in the delivery of government services, in particular the delivery of services through contract arrangements, will require the development and/or enhancement of a range of commercial, negotiating, project and contract management skills across the public sector and will be a key accountability requirement of public sector managers. The ANAO quickly learnt that outsourcing places considerable focus and emphasis on project and contract management, including management of the underlying risks involved both within and outside the public sector. The problem has been to achieve both management understanding of, and action on, these imperatives in a reasonable time period.
Although the public sector may contract out service delivery, this does not equate to contracting out the total responsibility for the delivery of the service or program. The current Government and Parliamentary expectation of each agency, and agency management, is to ensure that the government's objectives are delivered in a cost-effective manner, and to be accountable for that outcome. The firm position, as is often reiterated in the Parliament, is that accountability cannot be outsourced.
Any contract must clearly specify the service required; the relationship between the parties needs to be clearly defined, including identification of respective responsibilities; and appropriate arrangements for monitoring and reviewing contractors’ performance need to be put in place. There should not be any equivocation about required performance nor about the obligations of both parties.
It should be noted that the increasing development of more networked systems can change notions of a simple neat dichotomy of contractual obligations between the public and private sectors.
The ANAO has released a Better Practice Guide aimed at addressing some of the financial and probity risks associated with contracting with non-government suppliers (ANAO 1998. ‘Selecting Suppliers - Managing the Risk’. A Better Practice Guide, Canberra, October.). The focus was on managing the risks. This is an issue, or theme, which the ANAO aims to address in future performance audit activities.
An example is the IT outsourcing audit, referred to earlier, which found that, under three outsourcing contracts, the contractual arrangements for the provision by the outsourced provider of IT equipment to agencies over the term of the agreement represented finance lease arrangements, rather than operating leases as had been intended by the Commonwealth. The Commonwealth has substantially underwritten the capital risk associated with dedicated assets used by the outsourced providers in the delivery of the outsourced services such that the Commonwealth has contracted to keep the respective providers ‘whole’ in respect of their capital investment in those assets. Therefore, it is the Commonwealth that is exposed to the ownership risks of loss of value below net book value of the assets and of obsolescence at the end of the contract term. However, this was not taken into account in the assessment of savings from outsourcing in the tender evaluation.
The last mentioned audit highlighted the difficulties that can be experienced when the service contract is ambiguous as to the actual services required to be delivered for the contracted price; or where the required service standards are not framed in such a way as to unambiguously focus the management attention of both the provider and the customer on the aspects of service delivery most relevant to the customer's business requirements (Op. cit., ANAO Report No.9 2000-2001, ‘Implementation of Whole-of-Government Information Technology Infrastructure Consolidation and Outsourcing Initiative’, pp. 212-217 and 221-224.). The Government subsequently appointed an independent Reviewer with Terms of Reference which, among other things, focussed on the implementation risks associated with transitioning from the provision of IT infrastructure from the in-house IT operations of Commonwealth Agencies to an external service provider in contracts let under the initiative to date (Minister for Finance and Administration 2000. Media Statement. Release 67/00, Canberra, 14 November.).
The Review reported to Government in December 2000. A key conclusion was that, within the model of centralised management and mandatory grouping of agencies adopted for the implementation of the Initiative, sufficient attention had not always been given to the necessary process of understanding an agency’s business. As a consequence, post contract uncertainties and associated risks had not always been anticipated. The Review found that this approach had resulted in a large number of issues still needing resolution well after contract signing, which had added considerably to the risks of implementation. The Government accepted the Reviews recommendations which were largely directed at devolving future responsibility for implementing the Government’s IT outsourcing policy to individual agency Chief Executives or Boards.
It has been the experience of agencies involved, in at least one outsourcing contract we reviewed, that poorly framed or overly stringent service standards or requirements become unnecessary cost drivers that distract the service provider's resources and focus from the areas of most importance to the achievement of agencies’ overall objectives. Alternatively, they may cause the price tendered by contractors to be unnecessarily increased. Equally, the service standards originally contracted for were found to not provide appropriate incentives for the provider to focus on the areas of service most important to agencies’ business.
The competent management of the contract is often the Commonwealth's key means of control over its outputs and their contribution to outcomes. An agency must ensure that an adequate level of monitoring of service delivery under the contract is undertaken as part of its contract administration and in line with its broader service delivery responsibilities, such as might be set out in a Client Service Charter.
For example, the outsourcing contracts reviewed in the IT outsourcing audit placed certain obligations on the private sector service providers in regard to ensuring that agency data held on the outsourced IT infrastructure was protected to identified security and privacy standards. That audit and a subsequent audit of fraud control in the Australian Taxation Office (ANAO Report No.16 2000-2001, ‘Australian Taxation Office Internal Fraud Control Arrangements’, Canberra 29 November 2000 pp. 74-92.). found that agencies had not developed adequate strategies for monitoring the providers’ compliance with those obligations, and recommended improvements in this regard.
It is during the transition period, as accountability arrangements and changed organisational structures are bedded down, that the greatest risk to effective decision-making arises. This was particularly apparent in the audit of the implementation of the IT outsourcing initiative, where it was found that both agencies and tenderers had underestimated the complexity involved in managing the delivery of services to a group of agencies, particularly in simultaneously transitioning those services to an outsourced provider (Op. cit., ANAO Report No.9 2000-2001, ‘Implementation of Whole-of-Government Information Technology Infrastructure Consolidation and Outsourcing Initiative’, pp. 180-194.). This lack of appreciation by the parties concerned contributed to service delivery failures and significant delays in the provision by the service providers of reliable invoicing and performance reporting (Op. cit., ANAO Report No.9 2000-2001, ‘Implementation of Whole-of-Government Information Technology Infrastructure Consolidation and Outsourcing Initiative’, pp. 198-204 and 236-242.).
The latter problem also related to a gap in expectations between the agencies and the private sector providers as to the level of documentation and substantiating material needed to support public sector accountability requirements. This created difficulties for agencies in satisfying their own accountability requirements in terms of the expenditure of public resources and the achievement of agency outcomes. The ANAO is hoping to alleviate such problems with the recent release of a Better Practice Guide on Contract Management. The Guide has been prepared on the basis of agency experience and lessons learnt as well as some original research into best practice implementation strategies.
Virtually all traditional accountability mechanisms rely on the availability of reliable and timely information. As a result of contracting out to the private sector, the flow of information available to assess performance and satisfy accountability requirements has on the whole been reduced. This situation has arisen where performance data is held exclusively by the private sector or through claims of commercial confidentiality that seek to limit or exclude data in agency hands from wider parliamentary scrutiny. Thus accountability can be impaired where outsourcing reduces openness and transparency in public administration. For this reason, the issue of commercial confidentiality is likely to be of increasing importance as the extent and scope of outsourcing grows.
A particular concern has been the insertion of confidentiality clauses in agreements/contracts which can impact adversely on Parliament's ‘right to know’ even if they do not limit a legislatively protected capacity of an Auditor-General to report to Parliament.
In making recommendations to the Federal Senate Finance and Public Administration References Committee in its 1997 Inquiry into Contracting Out of Government Services, the ANAO suggested, as did the Commonwealth Ombudsman, that in relation to commercial confidentiality claims by private sector contractors a reverse onus of proof test should be applied.
In essence, the Committee recommended that the question of whether or not commercial-in-confidence information should be disclosed to the Parliament should start from the general principle that the information should be made public unless there is a good reason for it not to be. Put another way, there should be a reversal of the principle of onus of proof which would require that the party arguing for non-disclosure should substantiate that disclosure would be harmful to its commercial interests and to the public interest (Senate Finance and Public Administration References Committee, ‘Contracting out of Government Services’, 2nd Report, May, p. 70.).
With the growing convergence between the private and public sectors referred to earlier, and the considerable increase in contracting, the issue has become a matter of practical importance and some urgency. A particular concern is that agencies may too readily agree to treat contractors’ documents as confidential, notwithstanding the wide access powers that may be provided to the Auditor-General.
The ANAO is currently undertaking a performance audit of the use of confidential provisions in the context of commercial contracts. The audit is seeking to:
The ANAO considers its own access to contract related records and information should generally be equivalent to that which would reasonably be specified by the contracting agency in order to fulfil its responsibility for competent performance management and administration of the contract. The inclusion of access provisions within the contract for performance and financial auditing is particularly important in maintaining the thread of accountability with Commonwealth agencies’ growing reliance on partnering with the private sector and on contractors’ quality assurance systems. In some cases, such accountability is necessary in relation to Commonwealth assets, including records, located on private sector premises.
The Joint Committee of Public Accounts and Audit subsequently recommended that the Minister for Finance make legislative provision for such access (Joint Committee of Public Accounts and Audit 1999, ‘Review of Audit Report No. 34, 1997-98, New Submarine Project Department of Defence’. Report 368, June, p. xiv: ‘Recommendation 5: The Committee recommends that the Minister for Finance make legislative provision, either through amendment of the Auditor-General Act or the Finance Minister’s Orders, to enable the Auditor-General to access the premises of a contractor for the purpose of inspecting and copying documentation and records directly related to a Commonwealth contract, and to inspect any Commonwealth assets held on the premises of the contractor, where such access is, in the opinion of the Auditor-General, required to assist in the performance of an Auditor-General function. (paragraph 6.20).’). The Government response to that report stated that its ‘preferred approach is not to mandate obligations, through legislative or other means, to provide the Auditor-General and automatic right of access to contractors’ premises’ and that ‘the Government supports Commonwealth bodies including appropriate clauses in contracts as the best and most cost effective mechanism to facilitate access by the ANAO to a contractor’s premises in appropriate circumstances.’
The response also stated that the Commonwealth Procurement Guidelines would ‘be amended to emphasise the importance of agencies ensuring they are able to satisfy all relevant accountability obligations, including ANAO access to records and premises.’
While noting the Government’s response, the ANAO continues to encourage the use of contractual provisions as the key mechanism for ensuring agency and ANAO access to contractor’s records for accountability purposes. The ANAO is currently in discussions with the Department of Finance and Administration to review the content of the standard access clauses and intends to write again to agencies recommending the use of the clauses once this consultation process is complete.
This leads to the issue of good corporate governance and associated agency controls, which is particularly important in relation to privatisation of the public sector. In an environment that promulgates the notions of contestability, outsourcing and greater efficiency, the way that agencies implement their corporate governance framework, and particularly how they conduct their risk management, including the control of those risks, will be critical in determining how well the public sector can continue to meet its accountability obligations and determine/report its performance measures.
The control structures within a corporate governance framework provide assurance to clients and the Parliament that an agency is operating in the public interest and has established clear lines of responsibility and accountability for its performance. This is reinforced by the interrelationship of risk management strategies with the various elements of the control culture. Weak internal controls provide an environment where there exists an opportunity to commit fraud (Fulwider Donald G. 1999. ‘Recognizing Fraud Indicators’. International Journal of Government Auditing, Vol.26, No.2, April, p. 13. The author provides examples of signs, signals and patterns indicating fraud which may be encountered during an audit such as Weak Management with its failure to enforce existing controls, inadequate oversight of the control process, and failures to act on fraud; and Loose Internal Controls with inadequate separation of duties involving cash management, inventory, purchasing/contracting and payments systems which allow the perpetrator to commit fraud. p. 13.). As well, the ex-post costs of rectifying a control problem have been generally shown to be considerably higher than the ex-ante costs of establishing a sound control environment.
Simply put, corporate governance is about how an organisation is managed, its corporate and other structures, its culture, its policies and the ways in which it deals with its various stakeholders. The concept encompasses both assurance to the latter and performance measures and/or assessments by which an organisation's results can be judged. The focus is on managing risks, including taking advantage of any opportunities they provide, not on just avoiding them. This aspect of corporate governance was subject to considerable debate last year in the private sector in Australia with its attendant ramifications for the public sector (Barrett Pat AM 2000, ‘What’s New in Corporate Governance’. Presentation to the CPA Australia Annual Congress, Adelaide, 17 November, pp. 22 and 23.).
Corporate governance is another specific issue to address in ANAO performance audits. For example, the IT outsourcing audit found that improvements in the approach taken to the monitoring and enforcement of the contractor's compliance with contractual obligations would enhance agencies’ capacity to ensure there was appropriate accountability for the expenditure of public resources and for the outcomes achieved. In particular, the audit highlighted the need for strong corporate governance arrangements to ensure accountability and transparency in all dealings between agencies and the private sector service providers.
The message here is that external scrutiny (through public reporting and the activities of Auditors-General) is an essential element in ensuring that public accountability is not eroded, by default, through privatisation or outsourcing. Just as it is incumbent upon public sector agencies to ensure they have a sound understanding of the commercial nature of any contract, private sector entities need to recognise that there are overlaying public accountability issues, not present in purely private sector transactions, that need to be addressed.
The public sector, in recent years, has recognised that ‘proper’ accountability and improved performance management stem from an integrated, effective corporate governance framework. Such recognition includes the realisation that the public sector have something to learn from the private sector in this respect while acknowledging the public interest factor and the associated wide-ranging public accountability requirements, including transparency. However, as well, in an era of privatisation and outsourcing, private sector participants have to be aware and understand the rights of citizens, not just as customers or clients, and the expectations of a range of interested stakeholders.
Some recent ANAO audit reports suggest that many contractors have yet to fully appreciate this latter aspect of dealing with government or to embrace the higher and/or different standards of accountability that are required when public money is involved. The latter is essentially the issue being covered by this session with any trade-off, possibly being more about the nature and level of accountability rather than about efficiency per se. However, it is not difficult to envisage at least some cost for accountability over a purely market-oriented transaction. In that connection, the Australian Senate Finance and Public Administration References Committee recently observed that "Additional transparency provisions may be a cost that we have to meet to ensure an acceptable level of accountability" (Senate Finance and Public Administration References Committee (SFPARC) 2000, ‘Inquiry into the Mechanism for Providing Accountability to the Senate in Relation to Government Contracts’. SFPARC, Canberra, June, p. 35.).
That said, there are also challenges with the so-called ‘automated state’ in this era of real time communications, in particular the use of the Internet. It has been suggested that governments might wish to establish and manage contracts for project and/or service delivery largely through the use of information and communications technology. Futuristically, the imperatives of technology use are said to be creating the conditions for ‘virtual government’. There are many issues to be confronted, such as legal, privacy, security and availability (to all citizens) concerns. From an audit viewpoint, for example, it makes the prospect of continuous auditing a reality. And there is the ongoing concern, particularly by the Parliament, of appropriate accountability mechanisms, particularly where responsibilities may be diffuse.
More immediately, the notion of partnerships and alliances within and between the public and private sectors and concepts such as ‘relational contracts’ are challenging the current public management view of accountability. Audit offices should be able to work positively with public sector managers to explore different partnership/cooperative arrangements that can accommodate both public and private interests.
It would not seem to reflect responsive public service to citizens if those responsible were unable to define adequately performance and accountability requirements or, indeed, fail to secure private sector acceptance of such requirements in a more networked environment that focuses mainly on outcomes and not on methods of delivery. A particular challenge will be to establish agreed modes of network governance to ensure proper integration and coordination of all networking activities essential to the effective operation of strategic partnerships and alliances. Day by day the technology appears to be increasingly able to deliver the necessary capability. The question then becomes whether public sector managers can develop the skills and management capacities to take full advantage of that capability. As has been indicated, this is as much a challenge for audit offices as it is for the rest of the public sector and those elements of the private sector that wish to participate in the provision and delivery of public services to citizens.
Notes and References