The context
Existing supplier markets will, over time, often become stable, with an established range of suppliers focused on a clear customer need and improving the performance of existing services. Innovation is not always guaranteed from any supplier market.
Challenge for any market manager
Market managers need demonstrate to their suppliers the scale of the challenges faced and the outcomes sought from a market to shift their focus towards the new ideas that will be needed to deliver those outcomes successfully. Innovation is disruptive: it takes time and often requires significant investment by suppliers. In order to shift suppliers’ focus onto a new market model, new business models and expectations are needed which makes it easier for incumbents and new suppliers to see a commercial return from investing in new approaches.
Recommendations that support innovation in the market include:
1. Lengthen the contract term
- Need: A contract that provides sufficient scope to make investment by external partners commercially attractive.
- Problem: Short-term contracts may be on the face of it lower risk for a public sector organisation, but it is likely to mean that the service offerings tendered by bidders will not provide sufficiently innovative solutions. The length of a contract in a tender document can send out a signal to the market about expectations from that contract. The shorter the length of a contract, the more limited the capacity of any provider to invest in and change how a service or project is delivered, and secure returns in the back-end of a contract before it is re-tendered.
- Solution: Flexibility needs to be costed in and reflected in the contract length. Suppliers willing to invest in innovative approaches will be looking primarily for two key things: the capacity to alter the way a service is managed to identify and achieve cost savings and sufficient time to ensure appropriate returns over the life of the contract. Longer contracts, with appropriate break clauses, are a route to addressing this need while providing appropriate accountability and control for the customer.
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2. Use a risk-share clause in the contract
- Need: Contract model that incentivises external partner to invest in necessary service provision where public sector financing is limited.
- Problem: Contract terms can do not always provide sufficient time in which suppliers can get returns back from revenue invested in provision. In addition, a new service may not have an established precedent and existing risk profile making it challenging for a supplier to be able to price in the unbounded risks within a commercially viable bid.
- Solution: A risk share clause in a contract can recognises this and ensures a process for managing future risk through the most appropriate party. It should incentivise both parties to account for and successfully manage the risks associated with new provision. Risks that are difficult to control or forecast should not be borne by the contractor, such as uncertainties around demand. Effective risk-share arrangements might subsidise a contractor if demand falls below a certain level; while the financial risks associated with service development and implementation on the ground are best managed through the private sector partner. A poor risk management solution will make it more difficult for a supplier to secure at the right price the necessary investment.
3. Use outcomes-based contract elements
- Need: Suppliers require operational freedom to develop appropriate service solutions in response to uncertain outcomes and the capacity to develop solutions using more agile techniques.
- Problem: Without sufficient operational freedom, the likelihood is a service model that is insufficiently flexible to adapt to changing demands and service outcomes.
- Solution: An outcomes-based contract is one where the desired outcome can be and is defined, and against which the contractor is held to account. By measuring the contractor's performance against delivery of these outcomes, space is created for the supplier to take on the risk of managing how to achieve those outcomes over the lifetime of the contract. It can do this by drawing on its existing project management and operational expertise and as required investing in new service designs or appropriate demand and customer service elements in response which will limit its exposure to financial risks and open up new routes to ensuring these defined outcomes.