Direct method vs tender touch

Not all local authorities find external remedies are best for what ails them, says Paul Gosling

South Wight District Council, in one of its last acts before abolition at the end of March, is this week due to sell its direct service organisation (DSO) to the private contractors Ecovert. It is the latest in about 20 DSO "externalisations" undertaken by local authorities of all political complexions.

Management teams in DSOs countrywide are favouring sell-offs. In rare cases, such as on the Isle of Wight, it is to give them a life after the death of reorganisation. Mostly it is to avoid the restrictions of the Local Authorities (Goods and Services) Act, which prevents them selling to other authorities or in the private market.

The sell-offs have given councils capital receipts, which can be used for new building programmes and, in some cases, on-going reductions in the contract price, enabling councils to save on their revenue budgets.

Externalisation has been adopted both by right-wing councils, such as Berkshire, that embrace the concept of the minimalist enabling authority, and by Labour authorities, including Bristol, that want to give DSOs maximum commercial freedom and the best chance of a viable future. A report published in January by the Centre for Management Buy-Out Research predicted a significant increase in externalisations, particularly from staff buy-outs.

"There is a definite increase in externalisation," said Jon Sutcliffe, Compulsory Competitive Tendering (CCT) Information Officer for the Local Government Management Board. "It is no longer a Conservative political thing. Within London there are extra pressures that favour it. There is more competition, especially in building and cleaning. Authorities think, `If we're going to lose contracts anyway, let's jump before we are pushed'."

But externalisation may not offer the assumed benefits. An Ealing committee heard last month that the authority's client departments felt that following externalisation, prices had risen and quality fallen, that the contractor did not take responsibility for poor performance, did not perform to the standards appropriate for a public service, that commercial considerations had eroded necessary capacity and that emergency responses had deteriorated.

The contractors, US-owned Brown and Root, defends its record. A spokeswoman says: "It is natural that after only six months of a major contract both sides should be experiencing problems within some of the service areas. The benefit of certain aspects, such as efficiency savings, have yet to be fully appreciated. The perception of the general public, according to independent research, shows we are scoring well on services such as refuse collection and litter clearance."

Ealing's contract was unusual in being signed days before the Conservative Party lost control, and implementation became the responsibility of a Labour group that had opposed the deal. Many of the subsequent problems derived from failure to define properly required service standards, which the council now says was caused by over-hasty negotiation.

Ealing's case is exceptional in other ways. It was a business partnership deal in which the authority still owned the assets, so no purchase price was paid. Instead, the council was to receive an ongoing reduction from its contract price, in line with the success of the contractors in winning other work.

Brown and Root has so far been unable to win private contracts and the council is not seeing its expected £2m a year savings. Worse still, those savings were built into the authority's budgets, leading now to cuts. Services that are contracted out can generally not be cut as the service levels are already specified, so reductions come from internally provided core services. Externalisation has thus led to budgetary inflexibility.

Some authorities are cautious about externalisation. Liverpool's ruling Labour group rejected it, as did Lewisham's, which was unwilling to lose control of the DSO's terms and conditions of employment, and its influence in the local labour market.

When Sheffield considered externalisation it received a Unison-commissioned report from the Centre for Public Services, which concluded that the authority stood to gain little financially, and could lose significantly in political control.

The report's author, Dexter Whitfield, says: "Contract reductions may not last, the council would be putting itself under monopoly supply conditions." Prices are now being held down by the recession, he argues. Once it ends, contract prices, especially those in the construction sector, will rise, and authorities without a DSO to regulate tendering will be vulnerable.

"You are talking about peanuts for capital receipts, when some DSOs are making stacks of profits - too much, some of us would say," he adds.

Management and employee buy-outs have been successful in purchasing some DSOs, while others have been bought by a few multinational corporations. Paul Butler, commercial director of Quadron Services, a management and employee buy-out of Woodspring Council's DSO, is a keen supporter of externalisation, and says his organisation has become stronger for it. "We are making a profit, and we have increased our workforce from between 400-500, according to the season, to 988, though we took on Rushmoor DSO with 200 staff. The employee shareholding helps us, they do own it."

It is too soon to conclude whether externalisation is beneficial or damaging, but it is happening more often and could be accelerated by reorganisation. The Local Government Management Board thinks, though, that while many councils will consider it, only 50 or so will adopt it.

Dexter Whitfield believes it will become much more common than that. He says, unhappily: "Externalisation could have much more impact than CCT ever had."