In the Ring

he word "competition" has all kinds of positive connotations in the American market system: higher quality, lower costs and better service. Yet powerful as it is as an engine of the private sector, competition has had little application in government, where monopolistic thinking has long prevailed.

But times are changing. Now competition is in vogue as a means of reforming the public sector in places as diverse as New Zealand, the commonwealth of Virginia, the city of Indianapolis-and the federal government.

The idea of putting some government services up for sale to the highest bidder has broad appeal, but current efforts to encourage government to be more entrepreneurial have raised a series of tricky questions. Should agencies be allowed to compete against private firms for the business of other agencies? If so, how do you establish a basis for comparing bids among entities that don't have common accounting practices, tax obligations or profit requirements?

These questions, long the province of academicians and government practitioners, came sharply into focus in May, when the Federal Aviation Administration awarded a data center contract worth up to $250 million to the Agriculture Department's National Information Technology Center in Kansas City. All of a sudden, a little-known government office bested IBM and Computer Sciences Corp. in a contract fight.

In front-page stories in the Washington Post and elsewhere, industry officials complained that the bids hadn't been properly adjusted to account for taxes and other factors. FAA delayed implementing the pact to determine whether contracting officials had fully complied with Office of Management and Budget Circular A-76 guidance on calculating whether services can be provided more cost-effectively by private firms. In early June the USDA Center was confirmed the winner.

Then Congress got into the act. A previously unheralded measure, the Freedom from Government Competition Act (S 314) assumed a higher profile. Witnesses and spectators turned out in force when its sponsor, Sen. Craig Thomas, R-Wyo., held June hearings on the bill before a Senate Governmental Affairs subcommittee.

The U.S. Chamber of Commerce is among business groups supporting the legislation. Robert Raasch, its associate manager for domestic policy, says, "the current A-76 process is purely voluntary, with counter-incentives for agency managers to deal with it seriously. This bill would provide federal managers with the cover they need to perform a true cost comparison with the private sector."

The bill's chances of becoming law increased markedly in July, when its key provisions were included in the Senate's version of the fiscal 1998 Treasury and General Government appropriations bill.

Administration officials, though, take a dim view of the legislation. They say recent revisions in A-76 are sufficient to ensure fair competition between public and private competitors. The revised A-76 handbook, says OMB controller Edward DeSeve, "is leveling the playing field for the widest possible competition, not shutting out either the commercial sector or federal agencies from competing. The benefits of competition should assure continual improvements in service as well as lowering costs to provide the best value to the nation's taxpayers."

Testifying in June, then-OMB deputy director for management John Koskinen said the legislation could lead to frequent challenges in court for what are today seen as ordinary management decisions.

Thomas and the bill's leading House sponsor, Rep. John J. Duncan Jr., R-Tenn., said that the bill merely seeks to codify in law a policy supported in principle but not in practice by both Republicans and Democrats: that government should not perform functions that can equally well be done by the private sector.

On two points, the two camps are in agreement: The federal government should be no larger than necessary to accomplish its functions effectively and efficiently, and the taxpayer should be getting best value for the dollar. But that's about all they agree on.

Even the term "privatization," central to the idea of competition in government, has different meanings for different people. To some, it means eliminating government involvement in any way with certain functions, while to others it simply means a significant increase in government contracts.

Further complicating the debate is the often-overlooked distinction between federal program activities (such as running national laboratories or camping facilities at national parks and forests) and those functions (such as payroll processing) that fall under the loose category of "administrative overhead." Most of the debate in recent months has centered on how to define fair public-private competition for such support services.

Outsourcing Overhead

The federal government currently spends $114 billion a year on commercial support services contracts. Every federal agency has a wide spectrum of choices for seeking administrative support. The FAA's data center support, for example, could be done by private contractors. It is not "an inherently governmental activity," a phrase commonly used to denote operations that should not be contracted out. The agency's range of choices included:

• Operating an FAA-owned data center staffed with agency employees.
• Using a consolidated Transportation Department data center, with federal and contract employees.
• Contracting with another agency through an interagency support agreement.
• Turning the function over to a new organization made up of former FAA employees established through an employee stock ownership plan (ESOP).
• Contracting with a private company to run a government owned data center.
• Contracting with a private company that would own the data center.

The last option clearly constitutes privatization, and most experts would also consider an ESOP plan or a government-owned, contractor-operated center to be forms of privatization. While the first three options also would involve commercial contracts for computers, software licenses, and other support, they would not normally be defined as privatization.

Wake-Up Call

FAA's managers decided that either contracting with another agency or letting a private company run and own the data center were the best options for lowest-cost, highest-quality support. So they allowed a full and open public-private competition. They were not averse to industry-their previous data center operator was a private company-but they wanted the best deal.

Six proposals were submitted. In addition to three private firms and USDA, the Defense Information Systems Agency (DISA) and the Department of Transportation's Administrative Service Center (TASC) also bid. The award to the USDA center served as a wake-up call to many industry officials, who had not previously taken the shift to entrepreneurial government competition seriously.

Reaction to the award brought to mind the film Citizen Kane, in which newspaper publisher Kane runs for mayor of his city. With early returns looking favorable, his paper prepares the banner headline, "Kane Wins!" As it becomes obvious that he will lose, his assistant editor proposes an alternate headline: "Fraud at the Polls."

Under the old government contracting practices, it was almost routine for companies that didn't win to file protests, complaining that something about the award was unfair, rather than accept that the winning company had made a better bid. Recent procurement reforms have reduced the frequency of protests, but with entrepreneurial agencies entering the bidding, the familiar cry is being heard anew.

There is some basis for the complaints. Most federal agencies don't yet have accurate cost accounting practices. Traditional federal budgetary accounting has not included a number of centralized costs. Adjustments required under Circular A-76 are intended to level the playing field, but still involve a lot of uncertain estimating.

"We are continually improving the accuracy in identifying all federal costs to level the playing field," says DeSeve.

Franchising's Foundations

The Clinton administration's National Performance Review encouraged agencies to get into the business of selling their services. In 1993, the NPR recommended agencies establish fully self-supporting, business-like units, dubbed "franchises," for services they could sell to other agencies. "Franchise funds" (revolving funds permitting a percentage of retained earnings to be carried over between fiscal years) were authorized to accumulate money for capital investments to modernize or deal with cyclical demands.

The idea behind franchising was to help reduce the number of people in administrative overhead positions in government by allowing agencies to outsource some of these functions to other agencies.

The recommendation was incorporated in the Government Management Reform Act (GMRA) signed into law in October 1994, but was limited to a five-year demonstration project involving six pilot agencies. The first officially designated franchise fund agencies began full operations in October 1996. The project is scheduled to run until 2001.

When GMRA became law, a committee of the Chief Financial Officers Council argued that there must be a level playing field within government to provide true competition among agencies vying for administrative support business. That competition wasn't limited just to the six agencies with franchise funds. Under heavy budget pressure, a number of other agencies, some with existing revolving funds, had begun working to expand their business with federal customers.

The CFO Council developed 12 operating principles for business-like federal organizations. They stressed full competition, with the franchise organizations operating on a self-sustaining basis with full cost recovery and no "captive" customers, such as their home agencies.

The CFO Council established a temporary shelter for franchises and other similar entities to obtain new business or expand without requiring full competition. The shelter expires on Oct. 1, when full and open competition, public and private, will be required.

Experiments in Management

A year into their full operation, the six pilot franchise funds have set up more than a dozen separate businesses that have taken in more than $290 million in sales. The franchise fund agencies have experimented with varying approaches to managing their operations.

The Interior Department has established its franchise fund as a separate entity and has had some success in winning new customers in competition with other agencies. For example, Interior's Denver Administrative Support Center beat out the Agriculture Department's National Finance Center and the Department of Health and Human Services for a contract to provide payroll services for the Social Security Administration in fiscal 1998.

The Treasury Department's six franchises range in size from the small but highly visible Federal Quality Consulting Group, with less than $1 million in business annually, to the Center for Applied Financial Management, which has more than $11 million in revenues. Treasury's other four franchises are cooperative administrative support units (CASUs), which provide shared support services for agencies. The CASU units are headquartered in Los Angeles, Seattle, Baltimore, and Cincinnati. The Los Angeles operation, CASU-West, has more than 180 customers, generating nearly $10 million a year.

"We chose to begin the franchise fund with existing entrepreneurial organizations with proven track records," says Steven App, Treasury's deputy chief financial officer and its franchise fund manager. "While the discipline of our controls assures that each separate franchise succeeds or not on its own, the peer pressure among the separate franchises, which meet quarterly, leads to better business practices. The synergy among them also leads to referrals, bringing increased business for all."

The Commerce Department has two franchises under its fund-the Office of Computer Services, at the department level, and the Administrative Support Centers of the National Oceanic and Atmospheric Administration.

Aggressive marketing by the Office of Computer Services, combined with a strategy of supporting virtually all of the commercial off-the-shelf accounting packages on the GSA schedule, have tripled the unit's revenue since 1994. During the same period, employment was cut by 30 percent. Only 50 percent of staff costs are borne by Commerce now, down from 100 percent in 1994. And customer fees are lower than they were three years ago.

The NOAA unit, which offers procurement assistance to agency customers, administers more than $10 million in contracts with commercial providers on behalf of several agencies outside Commerce.

The Department of Health and Human Services' franchise fund includes the long-standing entrepreneurial Federal Occupational Health organization. The Veterans Affairs Department has seven franchises under its franchise fund, but the two largest operations, its Automation Center and its Finance Center, have not yet developed a coordinated strategy for customer growth outside the department. The Environmental Protection Agency, which did not have an ongoing entrepreneurial organization when it was awarded a franchise fund, has not yet begun operating a franchise offering services outside the agency.

To show the variation in franchise fund operations and other support service providers, the National CASU program has established an electronic "yellow pages" of such operations on the World Wide Web (www.gsa.gov/reimburse).

To a large extent, these franchisers operate as brokers or general contractors, meeting agency needs by subcontracting to commercial providers. Between 41 percent and 87 percent of all revenues franchises receive are ultimately spent in the private sector. The advantage of this for small businesses is that the franchises serve as consolidators, doing the marketing to hundreds of individual agencies that would otherwise be prohibitively expensive for small companies. The advantage to agencies is that concentration of orders can result in better prices.

State, Local Lessons

While the federal franchising movement is just beginning to expand, public-private competition initiatives are increasingly common in state and local government. Five of these initiatives were examined by the General Accounting Office in a report published last March.

L. Nye Stevens of GAO's General Government Division testified in June about six lessons state and local leaders had learned from their experiences. The officials found they needed:

• Committed political leaders championing the privatization initiative;
• An organizational and analytical structure to implement the initiative;
• Legislative changes and/or reduced
  resources available to government agencies to encourage greater privatization;
• Reliable and complete cost data on government activities to assess their performance, support privatization decisions, and make these decisions easier to implement and justify to potential critics;
• Strategies to help their workforces make the transition to a private-sector environment; and
• Enhanced monitoring and oversight to evaluate compliance with the privatization agreement and evaluate performance.

Competition Cuts Costs

Research is already showing that the federal sector is benefiting from cost comparisons, too. A study by the Center for Naval Analyses of more than 2,000 Defense Department A-76 competitions from 1978 to 1992 shows half resulted in contracting, while in the other half, work remained in the government unit. Either way, the competitions resulted in cost savings ranging from 22 percent to 35 percent, and the quality of performance and labor productivity remained high.

DoD has had an incentive to deal seriously with A-76, since the money it saves through the competitions can be redirected into weapons development rather than returned to the Treasury.

Many civilian agencies cannot reprogram the money they save so easily, which has been one of the main factors contributing to less frequent consideration of commercial and competitive alternatives. Indianapolis has a "gain sharing" provision that has contributed to support for public-private competition among both agency managers and employees.

The other problem with the old A-76 process is that it is long and paperwork-intensive. An entire industry of consultants has grown up around it to guide agencies on how to avoid losing work to the commercial sector. The revised A-76 is less cumbersome, and provides for actual rather than theoretical competition between federal entities and commercial companies.

Lost Leaders

Despite the obstacles to public-private
competition, members of Congress, the Clinton administration, and, surprisingly, even federal employee unions have voiced support for the idea. John Sturdivant, president of the American Federation of Government Employees, testified in June that his union, which represents almost 700,000 employees, is not opposed to competition, but simply wants to be among the competitors. Sturdivant said A-76 is working, with functions involving more than 40,000 positions currently under review. The assumption that the private sector is always better and cheaper is proving false, he said.

But in the administration, leadership for entrepreneurial efforts and other long-term change initiatives suffered this summer with the departures of Elaine Kamarck, Vice President Gore's key adviser for the reinventing government initiative, and OMB's Koskinen. They had worked to keep the political focus on management reform, to pressure the agencies to recognize the need for change, and to inspire career executives servants to implement new initiatives.

These career officials are critical to sustaining efforts to create entrepreneurial government. After Clyde McShan II retired from Commerce this year, his role as the champion within the Chief Financial Officers Council of franchising pilots and other federal entrepreneurial efforts has been taken over by Dennis Fischer, chief financial officer for the General Services Administration. Fischer guided the CFO Council review of the reissued A-76, recommending modifications to assure a level playing field for all public and private competitors on administrative support contracts. Another key player has been Chicago-based Dr. Ernest Hardaway of HHS.

One Size Won't Fit All

The new Interagency Council on Administrative Management, established by executive order 13048 of June 10, 1997, could play an important role in determining the future of entrepreneurial government initiatives. Patterned after the Chief Financial Officers Council and the Chief Information Officers Council, it is headed by the OMB deputy director for management and will consist of senior administrative management officials from all the departments and major agencies.

Regardless of what happens with these and other change efforts, the fresh breeze of competition is clearly blowing through the federal government. It is creating a market for the provision of administrative services, with both public and private sector suppliers competing for contracts.

There is no reason to think that this trend toward competition will be limited purely to administrative functions. Indeed, the Freedom from Government Competition Act deals as much with federal program activities that could be accomplished by the commercial sector. The role of Defense and Energy department laboratories in performing non-R&D work, for example, already has been questioned by private-sector officials.

Other examples abound. Providing overnight camping or lodging facilities may be consistent with the National Park Service's programs, but what if there are commercial campgrounds nearby?

The roles and capacities of government and industry have changed and will continue to evolve. One size will not fit all, and certainly not for all time. If the objective is to provide best-value services to the taxpayers, while increasing opportunities for commercial companies, laws that have become obsolete with the passage of time and advances in technology need to be eliminated.

Likewise, federal cost accounting procedures must be improved. There's progress to report in this area, thanks in part to pressure exerted by the National Performance Review to have the Financial Accounting Standards Advisory Board speed up development of federal cost accounting standards.

FASAB issued new standards two years ago, and now they're being used to install new systems in more and more agencies-especially those interested in joining the movement toward entrepreneurial activity in the new era of competition for government services.

Michael D. Serlin, a retired federal executive, led the National Performance Review's financial management team. He is currently an adviser on governmental change.