1. With regard to the below readings, what were some of the biggest challenges to effective contract implementation and management? How could the issues have been avoided?

Outsourcing in public health:

a case study of contract failure and its aftermath

Suzanne Young

Graduate School of Management, La Trobe University, Melbourne, Australia

Abstract

Purpose - Outsourcing has been used in Australia as part of the new public management agenda

with the aim of increasing efficiency and decreasing costs. In the public health sector its use has been

problematic and the purpose of this paper is to explore the largest Australian health contract at the

time; investigating the reasons, the processes and the outcomes. Specifically, it investigates why the

contract failed and the lessons to be learned from its subsequent awarding.

Design/methodology/approach - The paper uses a case study approach to investigate in depth

the outsourcing decision.

Findings - Alongside savings in costs, changes to work practices and reduction in union power,

it was found that the outsourcing contract produced problems with service quality, sharing of culture,

relationships between contract and internal staff, and in managing the contract and staff; and

reductions in trust and morale of both internal and contract staff. Inadequate contract specifications

and subsequent under pricing was the cause of contract termination, poor quality, and difficulties in

contract management.

Practical implications - The paper provides important lessons for decision makers when

outsourcing in public health.

Originality/value - The paper investigates the largest outsourcing contract in public health in

Australia in the 1990s. It investigates the failure of the initial contract and its subsequent awarding to

another vendor. The case study approach provides an in-depth analysis of this decision.

Keywords Health services sector, Outsourcing, Contracting out, Australia

Paper type Research paper

1. Introduction

Outsourcing, or contracting out, alongside the privatization of public utilities, has been

used extensively in the public sector in the USA, the UK, Australia and New Zealand

throughout the 1990s as part of new public management (Young, 2005b). The primary

stated aim of all governments in the privatization process has been to increase

efficiency and decrease costs by integrating private sector practices into the public

sphere. In Australia the government sought to recompose and reconstitute the public

sector, whilst deregulating the economy, introducing competition policies and

changing the focus of industrial relations (Fairbrother et al., 2002, pp. 1-2). By the

1990s, with the implementation of NCP, Australia's privatization program was

regarded as one of the largest of all OECD countries if measured in value or gross

domestic product (Anon, 1997 as cited in Fairbrother et al., 2002, p. 8). Fairbrother et al.

(2002, p. 4) stated that, throughout the public sector, whilst asset sales were often more

visible, contracting out became almost universally used as a privatization process.

The government stated that "competition, or the threat of it, can create powerful

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Journal of Health, Organization and

Management

Vol. 22 No. 5, 2008

pp. 446-464

q Emerald Group Publishing Limited

1477-7266

DOI 10.1108/14777260810898688

incentives for management to improve internal efficiency and to become responsive to

customers" (State Government of Victoria, 1996, p. 5).

In 1996, the Victorian Government directed that, in the pursuit of such efficiency,

public hospital boards and executives were required to benchmark, or market test,

a variety of clinical and non-clinical services but they were not directed to outsource

per se. As such managers and boards had agency in making such decisions. So even

though a range of services were market tested, there were variations in the extent of

outsourcing and the type of services outsourced.

White and Collyer (1998, p. 506) highlight the inherent difficulties faced in

implementing such policies in the public health sector when they state:

Changes in property rights and other economic transactions that favour competition and

private sector interests alter the structure of incentives faced by decision-makers [. . .] As

a consequence, previous social objectives such as equity, access, quality of service, and public

accountability are sacrificed to those of efficiency and profit.

This paper through a case study approach investigates the largest outsourcing

decision made in the Australian public health sector; it's awarding, termination and

re-awarding; the reasons, processes, outcomes and lessons learnt.

2. Outsourcing literature

Researchers have used a disparate array of economic and political literature to evaluate

outsourcing (Young, 2007). The organizational economics literature (Williamson, 1979;

Jensen and Meckling, 1976; Eisenhardt, 1989) has focused the choice between the use of

internal hierarchy or market with the aim of reducing costs and increasing efficiency,

whilst accepting the restriction of decision makers' bounded rationality and contractor

opportunism. The competitive strategic literature (Porter, 1980) has maintained that the

choice is based on keeping internal the activities that are core, whilst outsourcing those

that are peripheral. Similarly, the labour market literature (Atkinson, 1984; Brunhes,

1989) has argued that the staffing of core services should be kept internal whilst

peripheral services should be staffed through a variety of different arrangements,

including labour-hire firms, part-time or casual workers and outsourcing. The political

literature has claimed that the choice between the use of a contract or an organization is

based on the power relationship between the parties, and their use of political tactics

(Pfeffer, 1981; Tushman, 1977). Political imperatives have also been evident in Public

choice theorists (Downs, 1967; Niskanen, 1971) contentions that bureaucratic decision

makers aim to increase their power by adhering to government pronouncements and

ideology.

Empirical research provides a complex range of evidence of the effects of outsourcing

(Young (2000) for a fuller discussion of these effects). In regard to costs Domberger et al.

(1987) in their investigation of contracting out of hospital domestic services reported that

costs savings amounted to twenty per cent. Hodge (1996, p. 54) reviewed the

international empirical literature on contracting out government services published

between 1974 and 1995 which amounted to a sample size of 20,131. He concluded that an

average cost reduction of between 9 and 14 per cent was achieved.

Such cost savings have resulted from a variety of sources. A Labour Research

Department study on the impact of competitive tendering in the British public sector

during the mid-1990s reported that the reduction in wages and conditions was linked

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to outsourcing, and resulted from an increased trend towards the use of part-time

labour by contractors (Industry Commission, 1995, p. 160). Evidence suggests that

contractors were able to reduce labour costs by utilizing more flexible labour practices

(Ascher, 1987; Walsh, 1991; Walsh and Davis, 1993), specifically in terms of pay,

promotions and conditions (Willcocks and Currie, 1997).

Hartley and Huby (1986, p. 293) found savings often originated from reduced

employment by contractors, increased use of part-time staff and payment of fewer fringe

benefits, as well as the use of modern equipment and better management practices. This

study went on to show that out of the 40 local government bodies surveyed, not one

contractor had re-employed all council staff on a full-time basis. Indeed, 14 out of 25

contractors had paid lower wage rates, with savings realized by reductions in

superannuation contributions, holiday pay and sickness benefits. Fraser (1997, pp. 26-46)

reported that contracting of a government cleaning service resulted in a reduction of

staff, an increase in unpaid work and workloads, and a decrease in sick leave, long

service leave, superannuation and quality of the service.

Furthermore, Hodge (1996, p. vi) found that the:

[. . .] results in agency costs in areas adjacent to those actually contracting out showed effect

sizes of around two-thirds of those areas contracting out. [This was because] the threat of

competition and the acquisition of new financial performance knowledge itself led to real

performance improvements.

In this vein, the extensive review of work practices that outsourcing has initiated in

government services has also been cited as a reason behind the privatization policy of

governments (Industry Commission, 1995, E 27-28). In this instance, it is suggested

that the mere threat of contracting out in-house services can lead to improvements in

efficiency and productivity (Domberger et al., 1986; Hodge, 1996; Industry Commission,

1995; Morgan, 1992). Workers are spurred by the threat of outsourcing to adopt more

flexible work practices and improve productivity to ensure that their jobs are secure.

However, Bach (1998, pp. 566, 570-1) reported that as contracting out in the British

health sector has been performed on a functional basis, where services were outsourced

separately, it was accompanied by a division of labour and Taylorist working patterns.

He argued that this was at odds with the desire of managers to gain more flexibility in

work practices through the use of "generic working" or working across functional

boundaries which breaks down the occupational divisions between staff groups.

Scott's (1996, p. 19) research into government reform in NewZealand has highlighted

co-ordination problems that arise with excessive organizational fragmentation.

An integrated organization structure, it was stated, is superior to contracting out

where the service is difficult to define, investment is in specific capital that cannot easily

be diverted to alternative uses, and there is uncertainty about outcomes.

Others have questioned the sustainability of cost savings. Rimmer (1993) and the

Evatt Research Centre (1990), for example, contended that the Australian local

Government evidence is not clear, and that there are questions about improvements in

service and costs associated with outsourcing. Both reported that local government

councils using outsourcing do not always have lower costs than those using in-house

provision, as contract prices rise over time to reflect actual delivery costs. Willcocks

(1994) also found that there were examples of cost increases in the public sector

through pay rises as staff moved to private sector conditions. Rimmer (1993) further

argued that a lack of competition in bidding for contracts may be the cause

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of identifiable cost increases. It is believed that competition between outsourcing

vendors is needed to force efficiencies into the pricing structure. In cases where

a contract is awarded to a private organization without the discipline of market

competition, outsourcing simply replaces the labour force of a public organization with

a private sector monopoly. In this regard, the Industry Commission (1995, p. 197)

speculated that the replacement of a public sector monopoly by a private sector

monopoly might actually lead to higher prices and reductions in quality.

Ascher's (1987, pp. 260-61) study of the contracting out of public sector services in

Britain found that not all relevant costs of the contract were reported and that these

included administrative and transitional costs, such as redundancy payments and the

development of new reporting systems. Bach (1998, p. 571) in his study of hospital

trusts in the UK stated that:

Managers complained that [. . .] competitive tendering [. . .] had become an end in itself and

had lost sight of its stated objective of obtaining value for money. The transaction costs of

specifying letting and monitoring tenders were viewed as unacceptably high, reinforcing

yeconceptu about contracting out services.

3. Methodology

This paper uses the theoretical literature andempirical evidence as a framework to discuss

the outsourcing contract of a number of the support services of a large city hospital,

consisting of the environmental services of security and gardens and grounds, the hotel

services of cleaning and food, and the distribution and ward support services. A single

contract (called a "prime vendor" contract) operated across all of these services and was

awarded to a sole vendor inDecember 1997.Within 18months the contractwas terminated

and awarded to another supplier. The paper explores the reasons, the process and the

effects of the transfer of these services fromthe public to private sector. It exploreswhy the

contract was terminated and what lessons can be learnt for future contract decisions.

It commences with a discussion of the nature and background of the hospital and the

environmental factors impacting upon it, before progressing to an exploration of the

outsourcing decision in detail.

The information in this paper was obtained from a variety of sources. Interviews

were conducted with hospital managers, managers and staff employed by the private

sector vendor and union officials. The managers included the network's chief executive

officer and director of finance and the hospital's general manager. In addition,

interviews were conducted with the director responsible for the support services, the

manager of contracts and the manager of staff relations. The private sector vendor's

project manager and site operations manager were also interviewed, as well as an

employee of the vendor who also performs the function of the Health Services Union of

Australia (HSUA) No. 1 Branch Shop Steward. These staff were previously employed

by the hospital and simply transferred employment to the contractor on awarding of

the outsourcing contract. Although the majority of interviews were of employees at the

manager level, as they were not all involved in the decision making they could speak

for those effected by the process. In addition staff views were obtained from interviews

with a shop steward employed by the hospital and transferred to the contractor as well

as a union official. Information was also obtained from a variety of reports, which have

not been cited fully in the body of the paper or in the reference list to maintain

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anonyminity and confidentiality. The annual reports of the hospital and the network

of which the hospital became a part, which are publicly available documents, were

used. Information was also obtained from the network's internal financial reports

which are not publicly available.

The participants were initially asked to tell the outsourcing story broadly, and then

proceed to semi-structured questions designed generally around the prior theory.

The "telling of the story" question allowed the interviewees free rein to interpret the

events using their own frames of reference. Support for this method comes from Dick

(1990, p. 9) who stated that "the starting point is a question that is almost content-free".

Credibility through triangulation was gained through having interviewees from

multiple parts of the case study entity and private sector vendor, as well as external

consultants, industry association members and union officials.

As the information produced by such qualitative methods is voluminous, content

analysis, as proposed by researchers such as Patton (1990, p. 381), was used to identify,

code and categorize its primary patterns.

Despite the appropriateness of the research design it did not measure the outcomes

of outsourcing, but investigated the reasons, processes and outcomes as acknowledged

by the participants. The results are not generalizable to other industries as

decision-making in the health sector differs in respect to the autonomy of the boards of

management, and the responsibility of managers.

4. Nature and background of the organisation

The case study hospital was founded in 1871. In 1996, the hospital amalgamated with

ten health services as part of a network structure and then on 1 July 2000 the structure

was again changed to become part of a network composed of three health services.

The catchment for this hospital is largely the metropolitan city area, with around

50 per cent of inpatients residing in this area. The hospital also provides specialist

services for the whole state, including heart-lung transplants, trauma care, a cystic

fibrosis unit, and hemophilia and HIV/AIDS services. In addition to being a leading

provider of acute care in the city, the hospital's medical research and health care

teaching components are extensive.

The hospital has 42 clinical units, providing all forms of medical treatment except

for obstetrics and pediatrics. In 1998, 44,480 acute inpatients were admitted, and 3,107

statewide and specialist patients and 284,008 outpatients were treated. In addition,

1,359 mental health patients were admitted and 145,857 mental health outpatients were

treated. Of the 2,200 beds funded across the whole network, 450 were situated at this

hospital. The staffing level for the hospital prior to outsourcing was approximately

3,100. Approximately, 450 staff were employed in the areas contracted out.

In 1998/1999, the network received government operating grants of $536.8 million,

investment income of $7.8 million and donations of $15.8 million. In the same year, of

the $640 million operating expenses, $580 million related to health activities, of which

wages amounted to $370 million or 64 per cent. Of this, 80 per cent was spent on the

provision of acute care.

5. Outsourcing of support services

An executive manager (interview, 13 June 2001) discussed the reasons precipitating the

outsourcing decision, in terms of ideology and trends. He indicated that the decision

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was made to firstly abide by the policy framework of the liberal-national government,

with its general philosophy of private sector involvement in public sector activities.

A second reason was that New Zealand had led the way in outsourcing, particularly of

hotel services, and there was "a bit of a trend or fashion" to at least market test these

services. A third factor was the strong philosophy of the government appointed board

of management which supported the involvement of the private sector, especially in

indirect patient services or non-clinical areas, such as hotel (food, cleaning and ward

support services) and administrative services, pathology and radiology.

In supporting a bid from the in-house team, the board was operating within

a prevailing paradigm in the belief that changes to work practices could be encouraged

by the threat of outsourcing. An executive manager (interview, 13 June 2001) argued

that the process:

[. . .] would at worst encourage the in-house team to carefully review work processes and

practices and efficiencies and quality and inject a little enthusiasm into their work and, at

best, you might get some quantum gains in work process. So there was a sense that this was

good and reasonable public practice circa early to mid-1990s.

This was linked to financial reasons for outsourcing, as another belief was that the

private sector could perform the work cheaper since they employed workers under

different industrial agreements (interview, 2 July 2001).

There were mixed views about the effect of union power and whether it was an

impetus for outsourcing. One manager (interview, 13 July 2001) argued that union

power was a factor. The new federal liberal-national government saw the opportunity

to "get rid of this millstone and hospital management viewed contracting out as an

attractive option to get rid of the threat of industrial disputation". However, an

executive manager (interview, 13 June 2001) discounted the strength of the HSUA No. 1,

suggesting that in the event of stop work orders or bans, management and other

unqualified staff could still operate the service.

5.1 The first contract

The decision was made at the network board level to use a prime vendor contract.

Amanager explained that in choosing such amodel "it got rid of smaller service providers,

who only wanted to provide one or two aspects, which we felt would be too difficult to

manage" (interview, 3 June 2001).

The specifications were extensive, which were difficult to write due to the range of

services to be covered and the changes to processes and positions that were made

(executive manager interview, 13 June 2001). A manager stated, "We used this as an

opportunity to investigate and change the delivery of some services" (interview,

13 June 2001). For instance, the position of patient care assistant, often called ward

support, was created. These staff delivered food and cleaned wards, which prior to this

process were services performed by nurses and food service assistants (interview,

13 June 2001).More widely throughout the health sector the use of contract specifications

to change work practices and positions was common. Indeed, across the sector a lot of

practices had not been fully documented prior to the market testing process.

Owing to the low price submitted by the contractor, questions were raised on

awarding the contract. These concerned the risk to service quality and the contractor's

ability to meet the specifications at the price. However, it was claimed these concerns

were dismissed due to the extent of the financial savings (interview, 13 June 2001).

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It was argued that "even if things went horribly wrong and we had to increase staff,

there was still a significant cushion" (executive manager interview, 13 June 2001).

Although the winning bid submitted the lowest price, management claimed that the

initial awarding of the contract was based on a variety of other factors, with each bid

being evaluated against ten criteria. In evaluating the bids, the ten criteria were

weighted within a range from 5 to 25 per cent. Price was weighted at 25 per cent, along

with quality. Other factors taken into account included service quality, the ability of

the contractor to absorb rises in costs, the contractor's financial viability and human

resource management practices (interviews, 13 June 2001).

Numerous interviewees raised the importance of quality. One executive manager

explained:

We were very focused, very conscious of the issue of quality and so we put a lot of emphasis

on their quality plan and their quality management, their track record and their

demonstration of a quality application, quality improvement and a quality monitoring

strategy (interview, 13 June 2001).

Another manager (interview, 13 July 2001) tempered the quoted emphasis on quality

when he stated that, although the evaluation included visits to referee sites, the

testimonials from these clients tended to be sporting venues, office buildings and very

single-focused operations without the complexity of a hospital.

New contract positions were published and staff were asked to submit an

"expression of interest". Direct employment was offered, with around 75 per cent of the

450 staff who were previously employed in the relevant departments transferring to

the contractor. Around 20 were redeployed and 80 took departure packages.

The packages offered financial payouts of between $AUS18,000 and 30,000. Upon

accepting the new positions with the private organization, long service leave could be

cashed-in whilst all other entitlements were transferred. Pay rates remained similar

due to the "transmission of business" ruling handed down by the Australian Industrial

Relations Commission (AIRC) (interview, 2 July 2001).

5.1.1 The internal bid. An internal bid was encouraged (interview, 3 July 2001),

although whether it was evaluated impartially was questionable. Limited resources

were provided for the development of the internal bid whilst management support was

not completely forthcoming, and the reasons given to staff for further market testing

displayed an attempt at blaming the government for the decision. An executive

manager explained the rationale that was used to modify staff's concerns:

We put it under the guise of the government's Competition Policy. So it wasn't an internal

decision, but we were compelled to comply (interview, 13 June 2001).

In contrast, another manager questioned the hospital's commitment in saying, "to put a

realistic tender of this complexity together would cost $75,000 to $100,000; expenditure

which was not even considered" (interview, 13 July 2001).

Although consultants were used to assist the in-house team, their bid was

unsuccessful, with differing opinions as to the reason. Executive managers (interviews,

13 June 2001) described the price gap between the internal bid and the winning bid

as huge. In contrast, a director indicated (interview, 3 July 2001) that the gap was not

huge, taking into account the fact that the winning bid was under-priced. "The gap was

more about non-financial matters as the in-house team was not seen as having the level

of management skill required to deliver the service" (interview, 3 July 2001). He added

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that their bid was dependent on further re-structuring or workplace reform to achieve

its financial targets, which produced a degree of reluctance on the part of the assessors.

5.1.2 The termination of the contract. Notwithstanding the emphasis on risk

management and past performance in the evaluation of bids, the hospital parted company

with the contractor after 18 months (interview, 13 June 2001). Although the details of this

process were confidential, an executive manager did state, as noted previously, that the

hospital had concerns about their ability to deliver against the contract and to deliver at the

price (interview, 13 June 2001). It was generally agreed that the outsourcing contract did

reduce quality. However, it was debatable whether such a reduction was due to

deficiencies in setting the specifications by the hospital or a consequence of the low

contract price. A manager, more specifically, said:

Service standards were not met. The complaints from patients and other stakeholders were

rife about the cleanliness of the hospital, poor service quality, poor food quality, poor

response time for portering of patients and so on (interview, 13 July 2001).

For instance, in food services, food was produced off-site using a cook-chill system to

reduce staff, save on penalty rates, and operate within core hours, Monday to Friday.

Furthermore, he argued:

The hospital let the contractor off the hook, as they under quoted and were losing $20,000 per

day. The ability of the contractors to meet the hospital demands was overestimated. It was

just assumed by management that if someone was prepared to tender they would

competently perform the work (interview, 13 July 2001).

Another manager proposed (interview, 13 June 2001) that the problems that eventuated

were twofold. First, the company, being an amalgam of two existing organizations, was

subject to its own internal tensions as to corporate direction. Secondly, the provision of

services in a complex teaching hospital of this size was new to them, as their previous

experience had been predominantly in the defence industry. As such, there was a lack of

in-depth experience at providing the complete service and "trying to pull it all together

with an inexperienced management team proved to be more difficult than anticipated"

(interview, 13 June 2001).

Whilst another manager contended that a culture clash occurred in their lack of

assimilation of what were really public sector employees into their organizational

culture (interview, 13 June 2001). A director (interview, 3 July 2001) explained that he

thought the contractor did not do enough to imbue staff with their vision and

objectives. Even the basic step of ensuring that the staff were provided with new

uniforms with the private organization's logo did not occur initially.

5.2 The second contract

The re-tendering process was performed over six to eight weeks. Internal employees did

not place a bid, as there was no longer an internal management layer. Four bids were

received and, although similar specifications were used, the price the hospital was

willing to pay was reviewed (interview, 13 June 2001).Asecond contract was awarded in

January 1999 to another vendor for three years, plus one year at the option of either party.

5.2.1 Financial considerations. In 2000/2001, the contract cost was the largest

outsourcing contract in health in Australia at the time (executive manager interview,

13 June 2001). He reported that using a contract, rather than internal provision, had

saved 20 per cent of the contract price.

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Another executive manager argued, belatedly of the importance of matching the

contract price with the required service:

There was a common belief amongst those in the public sector at the time that if you screwed

these organizations really hard at contract negotiation, they would just have to wear losses.

But they can't do it and you can't ever have a successful working relationship if one of the

parties is losing money. Hence, the issue is finding a balance between what gives these

organizations a fair and reasonable profit margin and them delivering the sort of quality of

service that you want for the price that you are willing to pay (interview, 13 June 2001).

A director expressed support for such a viewpoint, when he explained that the

important issue in maintaining savings is minimizing variations to the contract:

You pay very handsomely for anything over and above the specifications or if there are changes

internally, such as extra cleaning areas. So if you come in at the low end, there is a never-ending

haggle in regards to getting variations out of the deal (interview, 29 August 2001).

From the contractor's viewpoint though, they continually complained of tight margins,

and the risk always existed that they could walk away from the contract (interview,

13 July 2001; interview, 29 August 2001). A vendor manager explained:

We went into the hospital far too cheap. We basically got the roster costings wrong right from

the start, and we've been struggling ever since (interview, 2 August 2001).

A hospital manager added that "it would actually cost us [the hospital] more to do what

they are doing" (interview, 13 July 2001). However, if the contract failed, a director

(interview, 29 August 2001) argued that the hospital could not take over the service

internally at short notice, so it was bound to negotiate and work with the contractor to

ensure its success.

The changes to the industrial and political environment eventually produced

questions in the hospital managers' minds about the extent and long-term nature of the

cost savings. An executive manager stated:

[. . .] at the time we did this, it was absolutely the right decision because we made huge

savings in one whack. I don't think we could have done it any other way. Whether we are

substantially better off now is a different question (interview, 13 June 2001).

The explanation he gave was that one of the initial reasons for outsourcing, namely to

save money by paying lower wages, did not come to fruition in an ongoing manner due

to the "transmission of business" case at the AIRC. He added:

Now we are banking on whether these guys deliver better management than you can deliver

internally. I say questionable. Can these guys deliver better equipment and better quality

assurance mechanisms and do they do it smarter? I say questionable (interview, 13 June 2001).

Transparency became a casualty, with minimal reporting of financial information

relating to the cost of contract provision. Financial reporting of these support services

became a one line item in the financial statements, shown as "contract payments".

A director contrasted this with the detailed financial information that was previously

included in the form of salary budgets and non-salary costs (interview, 29 August 2001).

Savings in the management of industrial relations were significant but were not

specifically included in the cost/benefit analysis. A director (interview, 3 July 2001)

qualified this by stating that the risk was not completely transferred to the private

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contractor as any resultant industrial activity from disputation affected the hospital,

and still required management intervention.

5.2.2 Contract management. Contract management proved expensive, with

unforeseen assistance required on an input basis, through monitoring of work

processes, even though the contract specifications were based on outputs (interview,

3 July 2001). For example, the contract specified that a ward must be clean, but it failed

to specify the time of day or the level of cleanliness. In comparison, an inputs-based

contract may specify that the ward must be vacuumed and washed at least twice a day,

at six am and at two pm and when a patient is discharged (interview, 3 July 2001).

Consequently, although the initial provision for the Contract Manager's position was

one EFT, this was extended to two at the time of the re-tendering of the contract. In

addition, it was claimed that other directors and department managers took over

management tasks in the support services area (interview, 13 July 2001).

Monitoring quality became the major focus of the hospital's contract manager. As a

result, it was claimed that the overall strategy for support services had not been given

enough attention (interview, 3 July 2001).For instance,waste reduction, a strategic priority

of the hospital although not of the contractor, was to be managed internally in future

contracts, even if it raised conflict with the contractor's objectives (interview, 3 July 2001).

5.2.3 Work practices. As mentioned previously, specifications were used to change

work practices. An executive manager added, "We now have detailed specifications,

detailed monitoring and a much better handle on how we operate than before we went

through this" (interview, 13 June 2001). However, a vendor manager (interview,

2 August 2001) claimed that contract specifications were not always correct, and before

signing the contract they should have re-measured the spaces and checked the

previous labour figures. In support, another of the vendor's managers (interview,

2 August 2001) stated:

The specifications are pretty grey and open to interpretation and negotiation. For example,

the specification regarding a ten-minute response time in distribution. There are questions as

to when the time starts; is it from the initial taking of the call?

The use of outcome measurement in the contract for ward support staff also produced

problems in relation to the monitoring of contract staff's work processes. As such,

questions of accountability and control of contract staff were raised. Even though the

contracts were not re-written to include work processes, the contractor and hospital

staff informally revised some specifications to ensure work processes were more

clearly defined. For example, the contract may have stated that the contract support

staff were to pick up all blue bags from the theatre at the end of a shift. However, if

nurses used the wrong colour bag, the theatre wastes would not be removed.

By defining complete work processes including what to do when internal staff did not

perform their correct procedures, such problems were overcome (Shop Steward

interview, 29 August 2001). A ward support worker (Shop Steward interview,

29 August 2001) also explained that he now had a list of tasks to do for the week, rather

than just being told to meet an outcome such as having a clean ward by the end of

every day. A complaint of the nursing staff at the ward level, was that they were not

notified of changes to their ward support staff, and that the replacement support staff

were unaware of their exact role, their role having evolved to fit the needs of the ward

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nursing staff rather than specifically meeting the contract specifications (Shop Steward

interview, 29 August 2001). A hospital manager gave an example:

In ward support the nurses would continually state "my ward support's terrific and she does

everything I want", but what the nurse wants isn't in the specifications and the ward support

service repeatedly fails to reach the 80 per cent benchmark (interview, 13 July 2001).

Additionally, the introduction of new technology by the contract company resulted in

changes to work practices. Furthermore, working conditions were altered initially in the

operation of after-hours work. For instance, in food production, staff numbers were reduced

by 75 per cent due to the reduction in cooking shifts from 15 to 4. On-site fresh cooking was

reinstated shortly into the operation of the second contract due to quality problems with the

cook-chill system (interview, 2 August 2001). A vendor manager explained:

The staff are working harder because there are less of them. Specifically in the cleaning area,

they have to work faster and harder. There has been a real reduction in catering as well.

Rosters have changed so that staff either work a weekday or weekend roster which alters

their annual leave accrual (interview, 2 August 2001).

It was proposed by a number of managers that such changes could have been achieved

without outsourcing, but as an executive manager stated, especially in relation to

rosters and accrued days off, "These sorts of issues are "sacred cows", and they become

very difficult to change, due to their emotive nature" (interview, 2 July 2001).

In addition, six management positions were made redundant (interview, 13 July

2001) whilst overall management skills increased over time. An executive manager

claimed that the whole process "forced the development of financial and negotiating

skills that were not evident before the process began" (interview, 13 June 2001).

5.2.4 Quality. A director (interview, 29 August 2001) argued that quality fell with

the use of outsourcing, specifically in cleaning, where it was traded-off against reduced

costs. Furthermore, he contended that neither the first, nor subsequent contract

organizations ever met the contract specifications with regard to quality in their

entirety. And, in this regard, negotiations continued over the life of the contracts.

Another manager agreed with such concerns and added:

Overall across the industry, the Department of Health Services cleaning standards are far too

low and, although all hospitals reached the 90 per cent benchmark, if you didn't you would

have a filthy hospital (interview, 13 July 2001).

A vendor manager, being more recently employed, in talking about the service quality

stated:

When I came here it was terrible, absolutely terrible. There was a step-in clause that

stipulated if the hospital was not happy with the cleanliness they could call in another

contractor at our expense. That happened late one Friday afternoon, so we employed more

staff, a project team, we stripped and sealed and steam cleaned the place from top to bottom,

which took nearly eight months (interview, 2 August 2001).

A director (interview, 3 July 2001) believed that the contractor was continually looking

at ways to cut costs, but was limited due to the contract specifications which were

monitored by internal and external audits. A benchmark of 80 per cent was set in order

to pass each audit, and upon reaching the benchmark a financial bonus was paid. But

a hospital manager (interview, 13 July 2001), who was responsible for the audits,

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explained that as the contractor only passed 30 to 40 per cent of the audits another

audit was required to be conducted within a month at their own expense. And the

non-compliance resulted in ad nauseam conducting of audits. The director believed

that the major difference between an internal and outsourced services is that an

"external contractor is subjected to much more scrutiny than an in-house team"

(interview, 3 July 2001).

5.2.5 Relationships, culture and morale. The relationship between internal and

contract staff cannot be overlooked as an important contributor to the success of the

outsourcing arrangement. An executive manager elucidated:

The contract staff often have intimate contact with clinical service staff, and so if things

weren't going right the internal staff would get down in the dumps and angry and frustrated,

which in turn has downstream effects on what the patients and family experience (interview,

13 June 2001).

Contract staff worked alongside nurses, communicated with patients, and performed

non-clinical roles. Managers began to question their categorization as non-core and the

belief that they could be outsourced without any effect on the hospital's performance

and core patient care values. The CEO explained:

The yeconcept of places like these is the patient and the family, and these people are interfacing

with the patient, doctors and nurses; they're not back room people. Patients are going to see

these people at least once a day because they are going to serve meals and clean the rooms.

In some areas, they perform an absolutely critical function, because if those places aren't

cleaned properly, it's a problem for management, as it increases the risk in terms of patient care,

but it also increases the anxiety and aggravation of our clinical staff (interview, 13 June 2001).

The whole outsourcing process produced a detrimental effect on staff morale

(interview, 2 July 2001). The manager, in describing the feelings of the staff, said,

"They were frightened that the private operator would treat them differently and sack

them if they didn't do the right thing" (interview, 2 July 2001). A director explained:

The reality is those staff still work here [. . .] they still walk in the front door, they're still part

of the place and yet for a long time after the event they felt they'd been sold out. They felt the

organization was saying to them, we don't value your services anymore; we've sold you to the

highest bidder (interview, 3 July 2001).

A vendor manager (interview, 2 August 2001), in referring to the low-staff morale,

argued that the staff were insecure, but as some of the contract managers were

previously employed internally and open communication was being encouraged, trust

was beginning to build. Additionally, he stated that "to have a good rapport with the

staff is number one - your staff is what makes or breaks you".

The distrust spread to other sections of the hospital staff, such as radiology and

pathology, who saw themselves as the next in line to be subjected to the outsourcing

process. Those involved with direct patient care had the initial view that:

It was not going to happen to them, and anyway, this was going to deliver better quality

services, so therefore it must be a good thing. The savings could be put back into core

services. However, after problems arose with quality, the realization came that this panacea

was suddenly not true and sympathy emerged (interview, 3 July 2001).

A director (interview, 3 July 2001) argued that the breaking up of an organization into

parts produced a set of problems inherent in trying to establish an yeconc de corps

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amongst the staff when they were beholden to different organizations. "At the end of

the day they are still part of the hospital, and, as a patient, if the service is poor you

blame the hospital, not the private contractor" (interview, 3 July 2001).

A vendor manager further argued that the culture was beginning to change, and

reasoned that the upheaval in employment from the hospital to the first contractor and

then to another within a couple of years produced a distrust of management.

In contrast, the contractor's manager said, "As the contract is up for renewal soon for

an additional year, staff are feeling insecure again" (interview, 2 August 2001).

A union organizer (interview, 7 August 2000) concluded that, in general,

outsourcing produced no benefits at all for staff, and summarized the effects as

a change of culture as staff lost their affinity to hospitals. He explained that they

previously had pride in their high standard of service, seeing themselves as "carers",

whereas with the contracted service they changed their view of themselves to simply

"employees" of a contract cleaning firm. Their morale was reduced, cleaning standards

were diminished and finally, workers "threw in the towel and did not care".

An executive manager, in conclusion, argued that he saw outsourcing "as a change

management mechanism. The process produces change, but it is not necessarily that

the private sector does things better or smarter" (interview, 13 June 2001). Similarly,

another executive manager stated that:

[. . .] the solutions offered by the private sector are not always as glossy as they make out. Albeit

they can do it in one sector, doesn't meanthey can translate that to another (interview, 13 June 2001).

A director said his preference:

[. . .] would be to attempt to deliver the service on an in-house basis, but subject them to the

same amount of rigor that you would an external bidder, give them the same financial

latitude, and you would find the results wouldn't be that much different and the outcome

would be entirely dependent on the skill of the management team (interview, 3 July 2001).

6. Discussion

The decision to outsource consisted of contracting with a sole contract organization for

the provision of food, cleaning, security, ward support, gardens and grounds, and

courier services. The reasons for this outsourcing related to the desire to reduce costs

and increase efficiency, primarily through improving workforce flexibility; the desire

to improve the management of industrial relations problems; and the desire to adhere

to government ideology.

6.1 Economic factors in the outsourcing decision

Itwas believed that by outsourcing non-core or peripheral areas financial savings could be

achieved as staff moved to different employment awards and changed work practices.

Money was not saved by reducing wages, but rather by changing work processes and

rosters and using new technology. This labour force was made up of low-skilled

blue-collar workers, who were easily replaceable and transferable to the contractor.

Contract organizations operating in this industry were numerous, although framing

the contract on the basis of a "prime vendor" reduced the numbers somewhat.Owing to the

number of vendors, the prospect of them acting in an opportunistic manner was slight.

6.1.1 Financial results, specifications and quality. The tender process resulted in

a significant reduction in costs, with savings of approximately $2 million per annum.

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However, the hospital was willing to take a gamble with service quality, trading it off

against financial gain in the first contract, and producing diverging opinions about the

level of quality in the second contract. As inputs, such as the number of staff, and work

processes were not stipulated in either of the contracts, outsourcing allowed changes to

be made to work practices. In addition, the acceptance by the contractor of hospital-set

specifications and size of areas without checking the required workforce levels to

achieve them or re-measuring areas produced problems with quality. The key seems to

be that the specifications should be clear, tested and formed after a thorough

investigation of internal processes. In future contracts, the hospital intended to specify

some inputs, such as staffing levels and work processes, as well as outputs.

One manager claimed that if the same specifications had been given to internal staff

the financial results would have been similar.

Owing to inexperience and/or not costing the contract correctly, the first contract was

terminated and the second was thought to be unfinancial for the contractor. Not as

measurable though,were the cost of decreased staff morale and increased monitoring and

contractmanagement costs,whichwere not taken into account in themove to outsourcing.

6.1.2 Core and peripheral categorizations. Despite the outsourced staff being regarded

as peripheral to patient care, a number of managers talked about their importance and

their relationship with nurses, patients and families. Hence, it was in fact a matter of

subjectivity whether the outsourced activities were regarded as core or peripheral.

The changed opinion of what was core and what was peripheral led management to

investigate bringing those activities that required communication with patients and

nursing staff back in-house. Relationships between patients, their families and ward

staff were always important and the contracting out of such staff caused communication

problems with staff required to report both to both contract managers and nurses.

6.2 Political factors in the outsourcing decision

6.2.1 Ideology. The hospital was operating in a political environment which demanded

the use of outsourcing. It had been subjected to decreased funding, coupled with

a government and board ideology which pushed competition with the private sector

and market testing of hospital services (Young, 2005a, p. 30). By making decisions

that aligned with the government's pronouncements decision makers ensured that they

were viewed in a favorable manner by government and bureaucrats.

6.2.2 Relationships between management and operating staff. Another political

imperative was the industrial relations climate and hence, the problematic relationship

between management and labour. Even though the relative power of the unions was

questioned, it is clear that the HSUA No. 1 Branch was perceived as volatile, with

numerous interviewees stating that industrial reasons were paramount in the minds

of the decision makers when they chose to outsource these areas. In general,

the right-wing ideology of the state government produced an unfavourable view of the

union movement, and hence the blue-collar areas were often subjected to the first wave of

outsourcing in an effort to further decrease their power as well as being seen as one of the

easier areas to privatize. As the board of management was aggressive and proactive in

its implementation of national competition policy, as seen in its use of the "prime vendor"

contract and its lack of support for the internal bid, it could also be assumed that similar

ideology may have underlain its relationship with the HSUA No. 1 Branch. At this

hospital it was only support services, or blue-collar services, which were outsourced and

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the changes which the internal staff made prior to outsourcing were not given any

weight in the outsourcing decision.

The hospital's previous actions in downsizing had reduced trust, and staff were

wary of the hospital's motives, whilst the process of outsourcing further reduced the

trust and morale of staff. The workforce had been employed over a long period, but this

was not considered to be important by the decision makers. The relationship between

management and workers was never discussed in terms of loyalty, and indeed, the

main reference to human resource considerations by the executive staff was the use of

outsourcing to transfer industrial relations risk to the contractor. Whilst industrial

relations unrest was evident as part of the transfer process, it decreased subsequently,

although staff's insecurity was manifested through the taking of all accrued sick leave.

Management positions were also reduced, and although the loss of experience was not

viewed as a problem, itmay have been a cause of themanagement problems that surfaced

over the first two years of the contract. Interestingly, poormanagement skillwas one of the

factors cited as a reason for not accepting the internal bid. Over time, management skills

improved, but the lack of management experience in the health sector was a problem.

6.2.3 Culture. The transfer of internal staff to the contractor provided for the

retention of firm-specific knowledge, although it made cultural change difficult to

achieve. Staff simply changed their employer, but continued to work alongside their

peers. Hence, the ability of staff to change their commitment from the hospital to the

contract company was slow.

Culture clash was evident, both between internal and contract staff, and within the

contract organization. Ward staff were unsure of who bore ultimate responsibility for

their work, as they answered to both contract management and nursing staff. The trust

and motivation of staff working alongside contract staff in other departments was

believed to have decreased as well. However, improvements in trust between the

parties began to emerge as the contract organization and the hospital both made an

effort to improve communication. In addition, hospital management, in realizing the

importance of a team-based approach, began to include contract staff in hospital

meetings and staff functions. This occurred alongside improved staff morale and trust

in management as some of the contract managers were replaced and the skills of the

managers improved. This is evidence that even though organizations use culture and

clans to control the behavior of employees, in an outsourced arrangement the building

of relationships is also important.

In conclusion, although the second contract was regarded as a financial success,

with savings of over $2 million per annum, there were doubts expressed about

outsourcing continuing in a number of areas that were close to patient care, and about

the potential rise in the contract cost on its re-awarding. In addition, disadvantages

were found relating to trust, morale, job insecurity and culture, which were not

quantified. Directors and managers believed that rather than outsourcing, other

change mechanisms could have been used, which included empowering line

management to work with staff and unions to investigate other methods to reach

similar outcomes. Further outsourcing was not to be considered, especially in clinical

areas, as the teaching and research nature of the hospital heightened the risk of failure.

However, the over-arching factor in this decision was the change of government, which

reduced the ideological drive to favor outsourcing over other change mechanisms.

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7. Conclusion

In evaluating the reasons for the outsourcing decision there was a desire to reduce

costs and increase efficiency which was achieved by providing for improved

management practices, changes to work practices and downsizing, rather than by

decreasing pay rates. Although, theoretically (Williamson, 1979; Quinn et al., 1991;

Morkel, 1993), costs should be reduced with the use of contractors who can specialize

and introduce expertise and economies of scale, this was not completely apparent in the

case study organization, as the contract was awarded to private sector participants

who lacked experience in the health sector.

A desire for changes to work practices was another reason for embarking on the

process of market testing. Changing employees' attitudes to work and their willingness

to accept change were cited as both reasons for embarking on this process and

outcomes. Even though pay rates could not be reduced when labour was transferred to

a contractor due to the "transmission of business" case, workforce flexibility, changes

to work practices and downsizing did occur, alongside cultural change. These findings

support Benson and Ieronimo's (1996) argument that the decision to outsource is part

of a movement for labour market flexibility through changing work practices. This

research has shown that in outsourcing, the desire to reduce costs and increase

efficiency and the desire to introduce workforce flexibility were linked. Costs were

reduced through changing work practices and downsizing, rather than by reducing

pay rates or introducing more part-time workers.

Another important finding was in relation to accountability. The research found

that at ward level the interaction between clinical and non-clinical staff was high, as

they worked alongside each other, and this complicated the issue of control and

accountability of such contract staff. Questions were raised such as: From whom

should ward staff take direction? When work practices needed to be changed, did the

contract specifications or nurses' wishes take precedence? Working at the same site but

changing staff's accountability from the host to the contract organization was shown to

bring about problems in changing their culture. Active measures were needed on the

part of the contract organization to imbue transferred staff with a sense of belonging.

And mixed messages were received by staff from the hospital where they had been

employed, some for over 20 years. Mixed loyalty and commitment produced problems

with morale and trust.

Although managers expressed mixed views concerning the power of the unions

covering the industry, a desire to improve the management of industrial relations

problems was shown to be important in the decision to outsource. The prevailing state

government view was that the union movement had too much power and that

outsourcing would assist in its reduction. And as a result of the threat and use of

outsourcing across the sector union power was considered to have been reduced.

However, in the eyes of the public, if industrial relations activity did occur, it was

perceived to be a problem of the hospital or network, as opposed to a contractor, as the

staff were still located on the same site. Furthermore, internal managers were required

to manage any industrial relations problems that arose. Hence, the ability to transfer

risk to the contractor was not as easy as anticipated, and the management of industrial

relations still fell partly to the host organization.

The hospital had to subsequently employ additional management staff to provide

a supervisory role in monitoring inputs and work processes. Hence, the aim in

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outsourcing of reducing monitoring did not occur and the management of the contract

proved more complex and time consuming than anticipated. Indeed, the termination of

the contract was due to the contractor's inability to perform the work to the required

outcomes due to having under-priced the contract or having not understood the specific

requirements of the hospital. The non-inclusion of all transaction costs swayed the

decision in a direction that may not have been optimal on the basis of efficiency.

Hence, the questions that had been raised at the time of awarding the contract with

regard to service quality and low-contract price proved ominous. The lesson an

executive manager learnt with the failure of the first contract was that even with

detailed contracts, when difficulties eventuated contract law was of little assistance.

He contended that the overriding factors were that:

[. . .] people who work on the ground have to be happy with the service. Secondly, that staff

who work with the outsourced organization have to feel that they are part of the team, and

thirdly, that the contractor has to be able to survive financially (interview, 13 June 2001).

Overall, itwas claimed (interview, 3 July 2001) that lessons to be learnt fromgoing through

the process included the need to introduce flexibilities into the contract to allow for

changes to the delivery of services, more robust incentives for improvements in service

delivery, clearer procedures on the transfer of working conditions, and the opportunity to

stop the process if the changes made by staff prior to the decision were significant.

Mana