Practical Hints in Designing Flexible Strategies for Centralized Public Procurement Belgrade Nov 24, 2010 Gian Luigi Albano, PhD Head of Research and Development Consip S.p.A., The Italian Public Procurement Agency

(A short) Roadmap Centralized public procurement through Framework Agreements 1 The pros and the cons of flexible tools: Some hints for implementation 3 2 A conceptual approach to Framework Agreements 4 Conclusions (if any)

Introduction - Motivation Framework Agreements (FAs) recognized (by some) as potentially useful tool for implementing flexible strategies of centralized public procurement FAs allow public agencies to aggregate demand and streamline procurement processes, while keeping some degrees of flexibility. Today’s talk aims at  discussing the importance of “knowing your chickens” before setting up two-stage procedures;  providing some hints on the concrete design of FAs 1

Framework Agreements: General Features (1/2) General definition arrangements whereby a procuring entity and provider(s) establish the terms on which purchases may or will be made over a period of time. The procuring entity makes an initial solicitation of offers against set terms and conditions; selects one or more providers on the basis of their offers; places periodic orders as particular requirements arise EU Procurement Directive (2004/18/EC) Similar tools in the US: IDIQ Contracts, Multiple Award Schedules, … FAs for goods and services only, no civil works! 1

Framework Agreements: General Features (2/2) 1 Two basic common features: aggregation of demand 2-stage procedure 1.FA is concluded with certain number of economic operators (on the basis of a “master contract”) 2.Specific Contracts are awarded  call-offs

Main “Families” of Framework Agreements (1/2) 4 “families” of FAs: 2 relevant classes: 1.Complete Framework Agreements with 1 supplier (“Frame Contract”)  Competition entirely concentrated at the first stage 2.Incomplete Framework Agreements with n suppliers (“strictu sensu”)  Effective competition can (and should!) take place at both stages 1 completeness of the contract number of economic operators 1 operator complete 1 operator incomplete n (  3) operators complete n (  3) operators incomplete

Main “Families” of Framework Agreements (2/2) In general, useful in two broad sets of circumstances: repeated purchases by a single contracting authority central purchasing body or buyers consortia procuring for several contracting authorities 1 completeness of the contract number of economic operators 1 operator complete 1 operator incomplete n (  3) operators complete n (  3) operators incomplete

A simple qualitative analysis of FAs (1/4) 2 Focus on Frame Contracts: Pros Minimization of the process cost (for both buyers and suppliers): issuing of purchasing orders in a few minutes benefit from efficient use of expertise and information Maximization of competition: economies of scale standardization Buyers’ higher bargaining power Potentially strong effects on competing firms’ market share

A simple qualitative analysis of FAs (2/4) 2 Focus on Frame Contracts: Cons  No flexibility Risk of lock-in by public agencies if overstretched contract length + risk of favoring quasi-monopolistic positions (if contract covers a sizeable fraction of public demand) standardization may imply “loose tailoring” or no tailoring at all  Risk of adverse selection (please forgive some economic jargon…)

A simple qualitative analysis of FAs (3/4) 2 (Multiple award) incomplete Framework Agreements Main goal: aggregate demand and streamline process + leeway for flexibility Pros Accommodate for heterogeneous needs/preferences  personalization and customization, delivery conditions, physical location, different bundles of the same commodities, intrinsic characteristics as buying entities (timeliness of payments, managerial skills, purchases taking place at different points in time, suppliers’ inventories…) Suppliers’ selection targeting single specific contracts  allocative efficiency

A simple qualitative analysis of FAs (4/4) 2 (Multiple award) incomplete Framework Agreements Cons  Require reopening of competition  higher process cost  Overall, reduced competition  potentially higher purchase prices  Reduced number of competitors interacting repeatedly  risk of collusion  Some suppliers’ strategic behaviour can distort expected competition Need for careful and accurate design

An overarching picture for decision making 2 Choosing the appropriate class of FA

3 Basic trade-off administrative efficiency higher competition higher process cost savings lower quality/price ratio vs Main drivers flexibility contract tailoring efficient allocation contract tailoring efficient allocation demand side market side demand heterogeneity market structure suppliers heterogeneity market structure suppliers heterogeneity Nuts and Bolts of FAs (1/3)

Nuts and Bolts of FAs (2/3) 3 Balancing competition in the two selection stages: main drivers 1. Degree of completeness of the “master” contract Establish at the first stage (virtually) all dimensions/clauses which are likely to be common across all SCs to be awarded during the FA If CAs wish to buy the same homogenous good, but require different delivery conditions and SLAs, then: Let suppliers compete on the good price at the first stage (conditional on some minimal quality standards); and Let selected suppliers compete on delivery conditions and SLAs to award specific contracts at the call-off stage

Nuts and Bolts of FAs (3/3) 3 2. Number of economic operators (n) part of the agreement The lower the number suppliers selected to enter the agreement… …the higher the competition for entering the agreement … the lower the flexibility (if firms are somewhat specialized) n should increase with: - the expected number of SCs - the degree of heterogeneity of the SCs n should increase with: - the expected number of SCs - the degree of heterogeneity of the SCs Ideally, one should select those suppliers having a good chance of serving at least one SC! Balancing competition in the two selection stages: main drivers

When should we worry about FAs? (1/2) 3 Highly incomplete “master” contract Loose selection of economic operators at the first stage No competition to award specific contracts “Life-long” FA If the conditions below are simultaneously satisfied:  Closed “suppliers list”  Risk of corruption (firms may compete in bribes)  Inability to properly assess different public agencies’ performance in terms of achieved value for money Example 1

When should we worry about FAs? (2/2) 3 Lay down all conditions in the “master” contract Opt for a loose selection of economic operators at the first stage Award specific contracts not on the basis of the first- stage ranking When looking for multi-brand supplies, Cas may  Fake competitive process  Brand-driven and not performance-driven choice  Potentially high variance in quality-price conditions Example 2

4 Wrapping all up Some economics (I hided myself by using the label of “qualitative analysis”) should be included in public procurement experts’ toolkit: legal rules often depict constraints, not “best” choices Knowledge of both sides (the chickens!) of the market is as indispensable to FAs as water to life! Simple design pays off  “ essential” FAs