Ousting the Outsourcing Misconception

by | Nov 15, 2016

When Life Hands You Lemons

Reach back into your childhood memories and imagine that you are a kid again. A kid selling lemonade in your neighborhood. During the summer months, you find yourself understaffed because of the high demand for the product. Your staff of recruited neighborhood kids are overworked trying to produce enough lemonade. Because of this, the quality of your lemonade is suffering. What is worse, is several of the neighbors have filed complaints about the customer service at your stand. During the down time in the colder months, your stand is overstaffed, but you don’t want to deal with letting anyone go. Given this fluctuation, you find it difficult to budget and find yourself running at a substantial financial deficit while you wait for the warmer months to return.

Now imagine that there was an opportunity to bring in a group of neighborhood kids that you could partner with to increase customer service, bolster the quality of your lemonade, handle staffing and activity fluctuations and save money.

These kids are from your local area. They are not looking to monopolize the lemonade stand business-it is still your stand. You no longer have to worry about staffing changes because this group can bring in additional resources during peak periods. With years of experience they understand that each neighborhood is different- so they customize their approach to make sure that unique needs and customer service expectations are met.

As a kid, you likely would not think twice about making this switch- it just makes sense. Because of the local benefits driving this decision, you would not view this process as “outsourcing,” but rather as an alternative to delivering better services, improving your bottom line, and operating more efficiently.

While providing community development solutions is undoubtedly a different world- more complex and more critical than selling lemonade- the ideology and concept behind this analogy is not that far off from how numerous communities across the country are approaching the operations of their building departments.

A Preference for Privatization

Anytime local governments contract with outside companies or agencies to perform services without their own employees doing the work, they are using an alternative service delivery.[i] There are many ways to define alternative service delivery. Many officials and communities casually interchange these terms[ii]. Definitions are frequently blurred together and often times this contributes to the confusion and negativity towards the concept because people don’t have a solid understanding of what is really taking place. Privatization is an umbrella term for referring to a range of policy choices involving some shift in responsibility from the government to the private sector, or some form of partnership to accomplish certain goals or provide certain services.[iii]

Privatization is not partisan. Politicians from both major parties have had success privatizing public services and have been able to get re-elected after doing so. Many communities have relied on contracted providers for services such as solid waste collection and disposal, street repairs, and utilities for years, and with the “new normal” in local government, communities are evaluating other services as well.

What Really Goes on Behind the Scenes: Debunking the Myths of Privatization

Privatization is a complex subject and one that is commonly misunderstood- often times by those with an interest in maintaining the status quo. It is important to look beyond these misrepresentations and understand what really goes on behind the scenes.

One of the most common misconceptions or beliefs about privatization is that it threatens and displaces local jobs. However, comprehensive examinations of private initiatives have found that they tend to result in few, if any, layoffs- those not retained by the new contractor usually either retire early or shift to other public sector jobs[iv]. Furthermore, private companies often present greater opportunities for upward career advancement, training and continuing education as well as performance compensation increases.[v]

A second myth is that privatization involves a loss of local control or that it leads to the contractor “taking over.” Taking over is simply not an accurate way to describe what is taking place. When a public-private partnership is executed correctly, the government and taxpayers actually gain accountability and have better oversight as a result of having a carefully spelled out contract that highlights all of the responsibilities and expectations[vi]. Failure to follow through on these performance metrics can result in the contractor facing financial penalties or termination. Under this model, governments never lose control- in fact, they may gain control.

Yet another stigma, is that people associate privatization with an attempt to monopolize a certain niche. However, many government systems today act as more of a monopoly than they would under a private model. How so? The reason privatization works is because it creates competition in an otherwise monopolistic system of public service delivery in local governments.[vii] Governments operate free from competitive forces and without a bottom line. Therefore, program structures and approaches often stagnate, progress is not measured, and success is difficult to replicate[viii]. When competition is absent, governments will often be monopoly providers of government services which tends to create higher costs, less choice, decreased service levels, and less innovation in service delivery[ix].

Despite not having to make a profit, the public sector does not always necessarily deliver cheaper and more financially sensible services[x]. The growing public sector reliance on defined-benefit pension systems and generous retiree health care benefits for retired employees, also known as legacy costs, carry an indirect cost that is rarely considered in discussion of whether governments should look to alternative service delivery options.

Goals/Benefits of Privatization

Like most things in life, privatization can be effective when used well and ineffective when used incorrectly. When a professional and experienced team is leading the charge, the initial goals of privatization can quickly become the benefits of privatization. Some of these key benefits include service improvements, accommodating fluctuating seasonal peak demands, access to outside expertise and new insight into innovations.

But one of the most significant outcomes of a well-executed privatization program and the focal point of the rest of the article, is cost savings. Financial savings are often realized through economies of scale, better technologies, innovations, or simply a different way of completing the job. Reduced labor costs- including legacy costs, which strap communities with increasing healthcare and benefit fees for current employees and retired pensioners- also contribute to overcoming financial burdens. As a conservative rule of thumb, cost savings through privatization typically range between 5 and 20 percent, on average.[xi]

A Tale of Two Cities

While there are examples abound of communities across the country that are realizing the financial benefits of privatization, here are two examples of communities that have taken the bold but fiscally responsible step of privatizing their building department services.

Peachtree City, Georgia

Peachtree City is a planned community approximately 45 minutes southwest of Atlanta with a population of approximately 34,600 people. In April of 2010, Peachtree City faced a significant financial dilemma with respect to their building department. For the third year in a row, taxpayer money from the general fund was going to be necessary to maintain the department. Building departments operate from permit fees, a fee charged to builders as a means to recover the cost of performing work needed to insure that buildings and other structures within the community are safe. In 2010, those fees were again not going to generate enough revenue to support the department. Worse, the deficit was growing each year. $114,678 of taxpayer funds were needed to support the department in fiscal year 2008, which became $159,223 in fiscal year 2009 and was over $270,000 with two months remaining in fiscal year 2010.

In reviewing its options, the city contacted several private-sector firms requesting proposals for providing building department services before ultimately making a decision in 2010. In late fiscal year 2011, several commercial permits brought to light the disparity of the fee schedules between residential and commercial construction. As a result, the city worked with the private firm to make adjustments to its fee schedule so that commercial properties would no longer be charged at a higher rate than residential properties. The city adopted a graduated fee schedule based on the 97 UBC and made it applicable to all projects. As a result, the contract was changed such that 80% of all permit fees were paid to the building services provider. The 2013 adopted budget showed that with this new fee arrangement, it is estimated that only $34,800 of taxpayer funds were needed to support the building department by the end of fiscal year 2012. While permit revenue from fees were estimated at 30% below 2008 levels in the budget, taxpayer funds needed to support the building department in 2012 were 69% less than those needed in 2008. The city has since reduced its financial commitment to the department while guaranteeing services are delivered by qualified staff.

Troy, Michigan

770 miles north of Peachtree City lies Troy, Michigan, the largest city in Oakland County with a population of 82,212 people. Prior to 2010, the City of Troy’s building services department was operating at a substantial deficit. As noted in the City’s Comprehensive Annual Financial Report dated June 30, 2010, there was a cumulative shortfall of $6.6 million. The city’s general fund had subsidized the department- an unsustainable long-term solution. Following this, Troy made the decision to privatize its building inspections department. The partnership was a fiscally responsible decision for the city’s leaders. In return for providing services, the company receives a percentage of the permit fees. With this fee structure, Troy’s building department never has to worry about costs exceeding revenue- even with fluctuations in building activity. In addition to the revamped fee structure, staffing changes saved the City of Troy’s building inspections budget $1 million in fiscal year 2010/2011, in what was just the first year of the contract.

Excellent service and cost efficiency go hand-in-hand. A firm that seeks to hit the ground running, looking for ways to improve the department’s processes and create efficiencies will help bolster the financial performance down the road. For example, by reconfiguring the department’s co-located office space within city hall, the workflow was improved and they are now using half the square footage to accomplish the same amount of work. Thousands of paper records were scanned for more efficient archiving and retrieval. Inspectors were equipped with wireless laptops so they could access and enter information in the field. By saving time and improving customer service, further cost efficiencies continue to be achieved. Also important to a city’s budget is the ability and willingness of departments to work together. In Troy, improved interdepartmental and intergovernmental relations have occurred through better communication. Permit technicians disburse permits for water and sewer, planning, and other city departments, thus improving the flow of information among city workers, saving time and money.

Officials with Troy understood that the traditional in-house model of the building services provision is not always the most efficient and fiscally responsible way to ensure a code compliant community. By privatizing these services, not only did the city address the reduction in tax and state revenues, but it also enabled Troy to operate more efficiently and in a more customer-friendly manner.
How’s Your Stand Operating?

While the neighborhood kids lemonade stands may not actually be turning to privatization and public-private partnerships, the reality is that policy makers across the country in communities like Peachtree City, GA and Troy, MI are finding that one of the most effective and efficient ways to deal with the “new normal’ in governance is through privatization. For years there seemed to be a cloud of uncertainty lingering over the concept of privatization. To this day, some remain unsure of its effects on local control and quality. However, as the experience of thousands of other local governments around the country have demonstrated, there are numerous pragmatic and beneficial reasons for turning to privatization including perhaps most importantly, the financial aspect.  Privatization is certainly not for everyone, but it is worthwhile for everyone to at least honestly and openly look at their own local “lemonade stand” and ask themselves if there is a better way to operate. When done correctly, with a solid understanding of the due diligence and implementation process and when in the hands of experienced professionals, privatization is a powerful tool for improving service levels, realizing cost savings, and dealing with fluctuating activity levels and demands.

 

[i] “A Handbook of Alternative Service Delivery for Local Government.” HR Green. Jerry Gabris et al.  http://www.hrgreen.com/Documents/Brochures/HRG-NIU-ASD_Handbook_Executive_Summary.pdf (accessed March 3, 2014)

[ii] “A Handbook of Alternative Service Delivery for Local Government.” HR Green. Jerry Gabris et al.  http://www.hrgreen.com/Documents/Brochures/HRG-NIU-ASD_Handbook_Executive_Summary.pdf (accessed March 3, 2014)

[iii] Definition from Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[iv] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[v] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[vi] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[vii] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[viii] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[ix] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[x] Reason’s Foundation Savings for Fresno Report by Leonard Gilroy and Adrian, Moore, Ph.D. Policy Brief 104. May 2013. http://reason.org/files/fresnoprivatization.pdf

[xi] Over 100 studies of cost savings from privatization are reviewed in John Hilke, Cost Savings from Privatization: A Compilation of Study Findings, Reason Foundation How-to Guide No.6, (Los Angeles: Reason Foundation, 1993), http://reason.org/news/show/cost-savings-from-privatization (accessed February 19, 2014).

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