The SME Public Procurement Challenge
Challenges for SME contractors bidding for public works projects include authorities bundling projects together, excessive qualification criteria, inflation and excessive risk loading. Here we look at these challenges with the CIF’s Regional Director Justin Molloy and get responses from the Office of Government Procurement and hear from construction procurement expert Dr Louis Gunnigan on the topic of bundling.
In July the Construction Industry Federation (CIF) called on the Government to reconsider the current public procurement process following a series of contractor collapses and examinerships. The CIF say the process favours the lowest price rather than the best price, and say the transfer of risk and inflation are areas of concern for contractors. In this article, we look at the challenges of public procurement for small and medium-sized enterprise (SME) contractors.
Justin Molloy, Construction Industry Federation
CIF Regional Director Justin Molloy, talking to Irish building, says the Government must review public contracts to allow for inflationary pressures and the reasonable redistribution of risk. Contracting authorities need to review public procurement and undertake a rigorous cost-benefit analysis to justify bundling projects. Authorities must evaluate the suitability of qualification criteria and develop a new procedure for measuring SMEs’ financial capabilities as they are currently precluded from public contracts.
Challenges for SMEs
Presently, there are a number of challenges for SME contractors when bidding for public contracts Justin tells us, bundling being a concern. “One issue is where the State decides to bundle a number of projects together, non-PPP projects, for example school projects or healthcare projects. Good SME contractors with strong track records are excluded from these bundles because they are going to be too high value. Only a joint venture between big contractors can qualify due to the combined value of bundled projects.”
The CIF believes unbundling these projects, or smaller bundles, would allow SME contractors compete for work to the benefit of the public sector authority, and local economies within which SME contractors operate, and of course, local communities awaiting schools and other essential social infrastructure. It also benefits the regional economy as contractors employ people locally and buy goods and services locally.
“This approach doesn’t preclude larger contractors tendering but it does allow SME contractors to do so. It doesn’t make sense from the State’s perspective to exclude SMEs from procurement entirely from any perspective,” Justin adds.
Another area of concern is that the prequalification criteria for jobs can effectively preclude SMEs from tendering. “The turnover criteria can be excessive, requiring companies to have multiples of the value of the contract in turnover. Contracting authorities can also look for qualifications from the contractor’s staff that are excessive or irrelevant to the work involved. National and European guidelines encourage contracting authorities not to exclude SMEs from the procurement process and identify how a fairer set of qualifying criteria can be put in place. Our Government has been slow to adopt these and many contracting authorities now need more resources to equip their procurement staff with the skills to apply these criteria.”
There is still a two-tier economy even with the upturn. “Although not as bad as a few years ago, the regions still have low levels of construction activity compared to the Greater Dublin Area,” Justin says “but we hope that the work from the National Development Plan and National Planning Framework will see activity increase further. Getting public procurement right is essential to the success of these vital strategies so we deliver optimum value for money for the Exchequer and quality construction in housing and infrastructure.”
A narrow procurement viewpoint is that bulk buying brings economies of scale. However, this narrow view isn’t suitable in construction as lower prices often mean lower quality and with schools, roads, and other public infrastructure sometimes leads to difficulties in project delivery. Construction procurement is not straightforward; it is different from purchasing products in other industries he explains. “A contracting authority might say that they are getting a better price bundling projects together and awarding a contract to a large contractor, but they are also taking a risk if that contractor goes under and a supply chain is left unpaid. Ultimately the State is affected. In addition, we have seen how if a large contractor goes out of business then all the bundled school projects are left unfinished leaving many parents and families wondering when new schools will open. This year, 17 bundled school projects stalled and 11 were connected to one contractor going out of business.”
Minding the Margins
Below cost tendering is an issue that is being exacerbated by the Public Sector’s insistence on the lowest price tender. There are no winners when contracting authorities always reward the lowest price rather than the best option. “There is legislation to prevent this, however, it needs to be examined further,” Justin says. “Going for the most economically advantageous tender is critical, taking into account value, safety, methods of construction, sustainability etc. not just price.”
The upturn in activity is welcome but a lot of SMEs in the regions are travelling to Dublin for work . “There is an upturn in the regions but it is not significant and the CIF hope’s that the projects proposed under the National Development Plan will spread demand for construction projects more evenly across the regions. We need more work locally to keep contractors local and maintain communities,” Justin adds.
Contractor’s margins are below the norm in Ireland Justin explains. “In mainland Europe, it might be 4% to 5%; in Britain 2% to 3% but here margins are 1% to 1.5%. It does not take much for something to go wrong and to threaten an entire supply chain. Putting all the risk onto the contractor under the public works contracts is wrong.”
It is too much pressure to break even on a project. There are increased costs in labour and materials due to inflationary pressures he tells us. “We are in a situation where we have inflationary wage rates and materials prices are going up rapidly. Nobody in Government wants to acknowledge the fact that we need mechanisms within the public works contracts to deal with inflations; otherwise, contractors will go out of business leading to stalled projects. Contractors used to be able to recoup costs under the old GDLA contracts,” he says. Justin thinks SMEs will turn away from public tendering with the increase in private sector work as private contracts are more reasonable, stating: “The margins are too small and the risks are too high on public contracts.”
Aware of the industry’s concerns, we contacted the Office of Government Procurement with some questions.
Responses from the Office of Government Procurement
Irish building asked the Office of Government Procurement (OGP) if the contracts should allow for inflation during the period of a contract, if there is a need to review the allocation of risk, the qualification criteria and the cost-benefit analysis undertaken before bundling projects.
Greater cost certainty at the award stage is a key objective for the Government a spokesperson for the OGP tells us. In the public works contracts the contract sum may not be adjusted for cost inflation for a specified period of time as defined in the contract but where the contract duration exceeds the fixed price period, the price variation clause determines the increase in cost due to the contractor. “Contractors, when tendering public works contracts, are required to make provision for inflation cost increases over the duration of the fixed price period,” they add.
Asked about the need for a new review the allocation of risk in the contracts, the representative says a review of the performance of the public works contracts was last undertaken in 2014 and recommendations have been carried out, stating of the last review, “Upon its completion a report was published recommending a number of interim amendments aimed at rebalancing risk previously transferred under the contract. The majority of the recommendations have been implemented since early 2016.” The development of a medium term strategy for
the procurement of public works projects, which is a further recommendation arising out of that review, has recently commenced we are told. This will involve a comprehensive review of the procurement of all aspects of public works projects covering pre-procurement through to risk management, contracting strategies, project management, performance evaluation and review upon completion. Stakeholders, comprising both public bodies and industry, will be consulted at key stages during its development.
The representative responds to our question on the potential for a review of the qualification criteria and extent of appraisal of a company’s financial robustness saying that in 2010, facilitating SME Participation in Public Procurement, extensive guidance material was published to assist contracting authorities in establishing appropriate criteria and setting the associated standards in a manner that is proportionate to the project that is being procured. Upon the publication of the Department of Public Expenditure and Reform Circular 10/14, which updated Circular 10/10, this guidance was reviewed. No change was recommended to the levels that were set in 2010 the OGP representative tells us but a guidance note should be published later this year. “A draft financial appraisal guidance note has been prepared to provide information to contracting authorities on the extent of financial appraisal that should be undertaken on a contractor based on the value and complexity of the project itself. Subject to minor amendments it is due for publication shortly.”
Asked about the need for a review of the cost-benefit analysis of bundling we are told public works projects are subject to oversight and scrutiny in accordance with the Public Spending Code published by the Department of Public Expenditure and Reform and that it is up to the contracting authorities the way they choose to deliver projects. “As part of this process a contracting authority must justify the expenditure to be undertaken on a particular project and to consider the procurement strategy for its delivery. It is a matter for contracting authorities, through engagement in this process, to determine the optimum means to deliver their requirements taking into account the budget available and the project’s objectives.” To get a construction procurement expert’s view we ask Dr Louis Gunnigan about bundling.
Dr Louis Gunnigan, Programme Leader for Campus Development at Dublin Institute of Technology
Dr Louis Gunnigan is currently the Programme Leader for Campus Development at Dublin Institute of Technology’s Grangegorman Campus, one of the largest developments in Ireland. Having worked in both the public and private sector, he has been involved in research and practice in many areas of construction procurement both in Ireland and internationally. Irish building ask him for his views on bundling.
Speaking on the pros and cons of bundling, construction procurement expert Dr Louis Gunnigan says contract authorities want to bundle projects for to get up to a critical mass or size, thereby benefiting from economies of scale. “Project bundling allows the public sector to benefit from having one programme of design, planning, procurement and construction, across several projects, rather than several streams to manage simultaneously. As the projects bundled are part of a larger programme of works, they tend to benefit from access to more public sector management resources than would be the case for smaller individual packages of work. In addition, the bundle of projects will have a higher profile politically as they tend to be spread over a number of constituencies, thereby having more political support than might be available for individual projects. Furthermore, large contractors, through sheer economies of scale, can bring a greater level of resources to a bundle of projects. Such contractors may not tender for the projects if they come on the market individually.”
Dr Gunnigan says there is a downside to bundling from the point of the end users and local economy. “On the negative side of the debate, there tends to be a generic approach to the design of the projects, resulting in the stakeholders experiencing difficulty in getting focus on what is unique within their own projects. For example, a number of projects in a third-level education bundle might comprise a science building, a library, an engineering school and a high-tech research facility all in different locations. In such circumstances, the needs of the end users are diverse and the requirements on the design team to respond to the specific needs of the end users will be a significant challenge – much more so than the challenge of designing one of these buildings as a stand-alone project.
“There is also a tendency for smaller, local contractors to lose out when projects are bundled as they simply do not qualify to tender due to their size, their capacity and their previous experience. Local contractors bring local knowledge, local labour and local smaller subcontractors, thereby providing greater return for the local economy. Bundling of the projects can, therefore, result in removing more of the benefit of the construction activity from the locality of the project.”
Concluding he states: “It’s hard to call what is best as the State benefits on a macro level from project bundling, but we can lose out on a micro level.”
For readers interested in knowing more about public works procurement, the CIF Training Department deliver courses on the public contracts and procurement. Visit the CIF’s Learning and Development website to find more information.
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