Let vendors profit

We should welcome higher vendor profits when the vendor has delivered excellent results.

I recently ran into a former senior information technology official who

left the government to take a job in the private sector. I asked him whether

he had picked up any insights from his experience on the industry side.

"I'm still so recently out of the government that I feel a bit like

an outside observer on my new job," he replied. "But there's one really

interesting thing I've noticed, and it's how the people on the commercial

side of the company I work for look down on the people on the government

side of the company."

Why was that? I asked.

"Look, in industry the bottom line is the bottom line. And the problem

is that the federal government side of the business is low-margin business

compared to the commercial side — or even the state and local government

side," he said. "Now, I'm not saying that my new company doesn't have very

good people, but the low margins do mean that the government side of the

business has trouble attracting the best people from the firm. And I'm even

seeing a hesitation sometimes to bid on federal business."

If you look at the annual reports of publicly traded IT firms that separate

their federal and commercial businesses, you'll see that federal profit

margins often run about half what commercial margins run. The major reason

is lower hourly labor rates for IT services.

Government folks frequently complain — justifiably so — that vendors

often do marketing

using key commercial-side personnel who end up not working on the contract.

We're caught in a vicious cycle. The government's unwillingness to pay

what private businesses do means that the government often cannot gain access

to vendors' best personnel. The relatively poorer performance of the federal

divisions of such companies makes it difficult for the government to justify

paying vendors more. And, all too often, we end up in a lose-lose situation:

Vendors make low profits, and the government gets mediocre (or worse) results.

Is there a way out? Unfortunately, there's no big constituency pushing for

shoveling more dough into vendor pockets in the hope that performance will

improve. Instead, the government needs to do a better job of what commercial

firms typically do in exchange for higher payments to vendors: demand results.

Too often, the government pays low and doesn't demand much in return. We

should welcome higher vendor profits, but only when the vendor has delivered

excellent results for the government customer. This would boost radical

incentive-based contracting approaches, such as share-in-savings, per-transaction

deals that don't generate revenue until the vendor has gotten a system up

and running, award-term contracting and incentives for rapid deployment.

They make it possible for vendors to achieve excellent profits, if they

do well by the government. That's a trade well worth making.

— Kelman was the administrator of the Office of Federal Procurement Policy

from 1993 to 1997. He is now Weatherhead Professor of Public Management

at Harvard's Kennedy School of Government.

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