Case study:

Outsourcing proves taxing for the Inland Revenue

We are fortunate that outsourcing contracts between government organizations such as the UK national tax office, the Inland Revenue and outsourcing companies are open to public scrutiny. The government ordered an enquiry into this contract and this case study is based on the executive summary of the report from the National Audit Office. The case illustrates some of the pitfalls of outsourcing, but also gives examples of best practice.

1 From the 1960s onwards the Inland Revenue developed increasing levels of computer support for its business activities until it was running one of the largest administrative computer networks in Europe. By the early 1990s, its Information Technology Office, which developed and ran the Department's systems, employed over 2,250 and had an annual budget of £250 million.

2 After testing the market and taking external advice, the Department concluded in 1992 that fundamental improvements were required to its information systems and information technology, and that a strategic partnership with a single pri- vate sector provider would best meet the objectives of:

¦ gaining rapid access to modern information systems and information technology skills, tools and technologies;

¦ achieving substantial improvements in cost- effectiveness;

¦ improving significantly the speed of response in the development and enhancement of systems;

¦ optimising career opportunities for Information Technology Office staff.

Following a competition, a ten-year contract was let to Electronic Data Systems Limited (EDS). The work, staff and assets of most of the Information Technology Office were transferred to EDS in two tranches, in July 1994 and January 1996, with some staff remaining with the Department to manage the contract. The breakdown of cost of services is shown in Figure 11.12. At 31 March 1999, cumulative revenue expenditure on the provision of information technology services under the contract with EDS stood at £874 million, and payments to EDS for the use of capital equipment amounted to £163 million. Figure 11.12 illustrates the proportionate value of the components of the total volume of work.

The information technology systems provided by EDS include:

¦ National taxes systems supporting, for exam- ple, PAYE and self assessment, which can be accessed by staff in most of the Department's network of over 700 local and central offices;

Figure 1: Proportion of expenditure on IS services (excluding payments for the use of capital equipment)

¦ Systems supporting the activities of specialist offices, such as the Oil Taxation Office and the Capital Taxes Office; and

¦ Systems supporting the administration of the Department, for example, the Payroll and Personnel Management Information System.

3 The Department and EDS run the contract as a partnership, from board level downwards, with both parties putting considerable effort into making the structures work and delivering the high service levels required. Fundamental to the success of the partnership are a clear vision and strategic direction, and a common recognition that it is the objective of both parties to secure benefits under the arrangements. Such an approach requires active management. To assist this, the Department established a risk manage- ment strategy, which is reviewed on a regular basis, so that important issues can be drawn to senior management's attention on a timely basis.

4 The contract with EDS is not a fixed price contract because the information systems and information technology needs of the Inland Revenue are constantly developing and changing in response to external factors, such as government policy and Budget changes, and internal factors, such as ini- tiatives to improve the administration of the tax system. New work will account for about a quar- ter of the forecast £2 billion revenue spend on the EDS contract. The management of the risks of new work is a challenging area for value for money, particularly as the information technology systems developed by EDS will contribute to the future efficiency and effectiveness of many aspects of the Department's operations.

5 Recommendations for further improving the Department's management of risk include:

¦ making a formal assessment of the risks attached to closer working with EDS in the rapid development of information technology solutions;

¦ formalising the criteria for deciding when to refer EDS proposals to the Department's infor- mation technology experts for scrutiny;

¦ improving project managers' understanding of the contract's complex pricing mechanism to reduce the risk of nugatory expenditure; and tightening up post-implementation and hand- over procedures to ensure that live running of new systems can be monitored effectively.

Skills

6 To operate the partnership effectively and to con- tribute to strategic issues senior staff in the Department need to maintain an independent knowledge of current developments in informa- tion systems and information technology. This knowledge depends on key individuals building and maintaining a network of contacts, reading relevant technical publications, attending events and seminars, visiting suppliers and other organi- sations, as well as purchasing market reports and analyses from specialist information technol- ogy research organisations. The Department's framework for staff development has helped to ensure that these activities take place and the Inland Revenue is widely regarded as a source of information on the successful management of information technology outsourcing.

7 There has been very low staff turnover in some small technical units in the Department critical to the operation of the partnership and to the award of new work, resulting in a concentration of skills and knowledge in a small number of people. This had some advantages in the early stages of the contract, but it is important for the Department to have the human resources to remain an intelligent customer and to have a sufficiently large pool of trained information technology staff to secure a reasonable rotation for career development and skill enhancement, as well as to be able to fill vacancies if experi- enced people leave the Department.

8 Recommendations to the Department on the maintenance and development of skills include:

¦ reviewing the role of the specialist Information Technology Technical Unit to ensure that its important work on strategic information tech- nology issues is not put at risk by increasing involvement in the detail of projects; and

¦ improving succession planning and increasing the rotation of staff in specialist units working in partnership with EDS.

External comparisons

9 While the Department's active management of the risks associated with the commissioning of new work and the effective operation of the partnership by skilled staff increase the likelihood of securing value for money, they do not guarantee it. For example, the incentives in the contract to improve efficiency may be insufficient to keep pace with the market. External perspectives can provide assurance about the comparative value offered by EDS.

10 The Department has used benchmarking to compare aspects of the contract with perform- ance elsewhere. Difficulties were encountered, and were to be expected, in making the compar- isons, and the results contain significant caveats. Nevertheless the Department con- cluded that, overall, the parts of the contract studied were competitive with the market. The chief area of concern was a low, but improving, level of software development productivity.

11 The contract allows existing services provided by EDS to be market tested if there is evidence, for example from benchmarking, that the service provided is uncompetitive. Before the Department can proceed to a full market test, EDS is entitled to match or better any indicative price. So far, no existing service has been market tested and one new requirement the provision of an internet capabality has been subject to open competion and let to another organisation. Market testing therefore has provided little direct eviedance of the corporative value offered by EDS.

Figure 2: Structure for managing the relationship between The Inland Revenue and EDS

Questions-

1. Summaries the successes and failures of this outsourcing contract. Evaluate the reasons for the successes and failures.

2. What do you think that other organization considering large-scale total outsourcing could learn from this case study?