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Journal of Purchasing & Supply Management 11 (2005) 221231

Publicprivate partnershipDevelopment of long-term relationships in public procurement in Germany

Michael Essig, Alexander Batran
Chair of Materials Management and Distribution, University of German Federal Armed Forces, 85577 Neubiberg, Munich, Germany Received 25 May 2005; received in revised form 14 November 2005; accepted 18 January 2006

Abstract Hybrid partnerships are well established in the private sector combining market efciency with the possibility of hierarchical steering mechanisms. By implementing PublicPrivate Partnerships (PPPs), public authorities seek to benet from cooperation with specialised suppliers. However, many complex factors, including legal regulations, have to be considered in relation to outsourcing activities in the public sector. The decision on publicprivate cooperation is not driven only by economic principles. This paper deals with the economic and legal decision process of PPPs. The theoretical and legal framework is then applied and illustrated through a case study of the German Aerospace Center (Deutsches Zentrum fur Luft- und Raumfahrt e.V./DLR). r 2006 Elsevier Ltd. All rights reserved.
Keywords: Public procurement special issue

1. Introduction New Public Management (NPM) is the label typically given to the contemporary paradigm shift in public administration applied to a set of reforms over the past 20 years. The perceived lack of effectiveness and efciency of traditional bureaucracy led to the emergence of alternative management models (Farazmand, 2001; Pollitt, 1993). NPM has its origin in the established business administration concepts of private sector institutions. As a consequence, new concepts designed to overcome the inefcient allocation of resources in public authorities and the production of (public) goods and services (Budaeus, 1998; Loefer, 2003) have emerged. Many public authorities suffer from nancial crisis as a consequence of their functional and structural organisation, and exacerbated by decreasing tax revenues as a result of a falling rate of gross domestic product (Schedler and Proeller, 2003). NPM therefore attempts to enhance the performance of the public sector by adopting management
Corresponding author. Tel.: +49 89 60044221; fax: +49 89 60044222.

E-mail addresses: (M. Essig), (A. Batran). 1478-4092/$ - see front matter r 2006 Elsevier Ltd. All rights reserved. doi:10.1016/j.pursup.2006.01.001

methods from the private sector. Some key terms are, concentration on core competencies (Prahalad and Hamel, 1990), outsourcing and, more recently, supply chain management as a portfolio of vertical arms length and closer relationships between supplier and buyer (Loefer, 2003). Long-term partnerships with suppliers can build social capital (Erridge and Greer, 2002). Social capital, mainly developed by trust and commitment (Morgan and Hunt, 1994), may reduce transaction cost and enhance linkages between public, private and not-for-prot sectors (Erridge and Greer, 2002). Major perspectives of NPM are embedded in the macro- and microeconomic level as shown below (Fig. 1; Hammerschmid, 2001) although they also contain strong ideological overtones (Pollitt, 1993). Macroeconomic considerations result in a basic change in the role of the state, as it is enabled by the public sector. Public sector authorities are expected to concentrate on core competencies in the hope of eliminating nonefcient operations, thus creating a lean state (Kyrer, 2001). Further tasks, those outside the core competencies should, ideally, only be vertically integrated if accompanied by economic advantage, a major emphasis being the reduction of transaction costs (Coase, 1937, 1960, 1988).

Economic perspective
Macroeconomic reforms (Fundamental change of tasks fulfilled bystate)

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Organisational perspective General objectives Redefinition of public tasks ("Lean state", concentration on core competencies) Cooperation public-private ("Resource-gap)"

External organisation = Public Microeconomic governance

reforms (Reform of governance mechanism and Internal structures)

Structure (Decentralisation, privatisation, cooperation)

organization = Public management

Implementation of economic management concepts ("Management-gap")

Steering mechanism, (Output-orientation) Labor (incentives) Outside view (Customer orientation)

Fig. 1. Framework for new public management (Sources: Adapted from Hammerschmid, 2001; Budaeus, 1994).

First, microeconomic reforms relate to the internal organisation of public authorities, in terms of decits in bureaucratic governance leading to the implementation of revised management concepts and tools. In Germany, these new paradigms are known as Neues Steuerungsmodell and were developed by an association of local authorities named Kommunale Gemeinschaftsstelle fur Verwaltungs vereinfachung (Local Authorities Association for Simplifying Public Administration; KGST). As many activities of modern government failed to meet the efciency goals of NPM, a more fundamental, strategic approach was needed (Savas, 1987). Performance management with a strong focus on outcomes replaced the former input-oriented steering mechanism. Labour and management incentives were seemingly matched to enhanced output quality, and a customer service orientation provided citizens with a more transparent view of public organisations. Second, the external reform of public organisations intersects with the basic strategies arising from the macroeconomic view. A concentration on core competencies has become associated with decisions about outsourcing former public responsibilities as a consequence of the lean state. Public managers operating in this environment are simultaneously endeavouring to introduce managed competition and are contracting with the private sector to deliver public goods and services more efciently and effectively (Savas, 2000; Hammerschmid, 2001) though this is not always achieved (Callender and Johnston, 2001). Contracting is a critical point of a continuum between market and the public sector hierarchy (vertical integration), now often dependent on outsourcing activities and, in specic situations, more innovative forms of publicprivate cooperation might be needed. 2. Theoretical background 2.1. A new approach to public authorities responsibilities Public Choice, a theory which underlies contemporary macroeconomic and microeconomic external reforms, suggests that politicians and bureaucrats may not act in

the public interest, but with their own self-interest in mind (Budaeus and Gruening, 1997; Loefer, 2003). This view also suggests the public sector needs to foster more marketdriven incentives (competition) and their related microeconomic control mechanisms instead of bureaucratic control (Vogel and Stratmann, 2000; Harms and Reichard, 2003a, b; Bundesministerium fur Wirtschaft und Arbeit, 2003). One of the main questions posed by NPM is concerned with optimal public service market penetration: which tasks have to be fullled by the state itself and which tasks should better be co-produced by private companies? That is, what activities might be arranged by the public sector, but produced by private institutions? In the case of outsourcing, the state is responsible for steering goods and services delivery (Gewaehrleistungsstaat). For example, under the NPM model for energy supply, the state remains responsible, but the institution that produces this energy can be in private hands (Budaeus, 2003; Bundesministerium fur Wirtschaft und Arbeit, 2003; Callender and Johnston, 2001). Energy supply is an example of toll goods which are characterised by joint consumption and the feasibility of exclusion. Toll goods (Savas, 1982) and purely individual or private goods, such as a personally owned motor car, are characterised by individual consumption and the feasibility of exclusion of other users can be created and handled in markets which reect individual demand. But there are also goods and services which are characterised by an absence of such feasibility of exclusion. These are either joint consumption, collective or pure public goods, such as national defence or individual consumption goods such as public transport. Goods such as pure public goods pose a particular problem, as entrepreneurs are unwilling to produce these goods and services unless there is some articially created method of receiving payment, especially where an individual has an incentive to act as free rider, using such goods without paying for them. However, many of the goods and services, especially toll goods, previously provided by public authorities are also well suited to being provided by private partners (Savas, 2000; Borins and Gruening, 1998). Pure public goods lack self-regulating mechanisms, due to their singular characteristics and, in this case, public authorities need to be active in both steering and monitoring the position. In situations where market solutions are not necessarily available, cooperation in PublicPrivate Partnerships (PPPs) offers a closer relationship between markets and traditional hierarchical governance (Budaeus and Gruening, 1997). The structure of public goods and services stays unaffected by PPPs, as these are mostly exogenously determined by politics and law (Schedler and Proeller, 2003). However, development of PPPs facilitates the movement of the state from the role of direct operator to one of organiser, regulator and controller of the outputs produced by the private partner (Commission of the European Communities, 2004). Categories of responsibility, including publicprivate co-working, can be divided


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into responsibility for warranty (public), responsibility for nancing (public or private) and responsibility for execution or production (private) (Naschold et al., 2000; Schedler and Proeller, 2003). Depending on the PPP structure, a continuum emerges from joint co-production to public governance structures only retaining the responsibility for steering public service production where it is undertaken by private businesses. 2.2. An economic and legally determined outsourcing process In the private sector, the optimal level of in-house production has been a long-discussed management issue in relation to total cost of fullment and transaction costs (Williamson, 1985). In the public sector, some jurisdictions have suffered budget decits owing to falling tax revenues and increasing costs (Budaeus, 2003; Gottschalk, 1997). As a consequence, the public sector is forced to bring down its costs. Outsourcing decisions of public authorities are often cost driven as well as ideological decisions. Economic analysis is the rst step (Fig. 2). The transaction and production costs of in-house production (make) are compared with external sourcing (buy) options. Transaction cost analysis leads to a choice in terms of the public governance structure between make or buy decisions where markets and hierarchies are two main alternatives (Williamson, 1979). For the public procurement process, a second step is required. Besides economic criteria, public authorities have to comply with a complex framework of legal regulations and laws, as will be discussed later in this paper. The different forms of PPPs can be explained in an extensive framework of New Institutional Economics (market exchange versus hierarchy) (Williamson, 1979, 1985), the Theory of Contract (Macneil, 1978), and the Theory of Organisations (Budaeus et al., 1997) as shown in Fig. 4. Denitions of PPPs vary widely in the literature. It is a special form of hybrid cooperation (Eichhorn, 1998) between public and private sectors. However, some authors include all forms of cooperative interaction between public and private institutions as PPPs. In the latter case, the term

PPP thereby loses much of its analytical value, because all kinds of buying from external sources would be treated as a PPP relationship. Beginning with a narrower denition, the US-based National Council for PPPs (NCPPP, 2004) denes, a PPP as a contractual agreement between a public agency (federal, state or local) and a for-prot corporation. Through this agreement, the skills and assets of each sector (public and private) are shared in delivering a service or facility for the use of the general public. In addition to the sharing of resources, each party shares in the risks and rewards potential in the delivery of the service and/or facility. This denition describes the general purpose of a PPP and provides a working denition that will be formalised later in this analysis. 2.3. Transaction cost analysis: publicprivate hybrids between market and hierarchy Outsourcing results in a concentration on and increased importance of supplier management and as a consequence, the growth in the role of procurement within institutions. For many years, the strategic importance of the procurement function was not recognised in either the public or private sectors. Recognition of the strategic nature of procurement has emerged very slowly. The structure of public goods offered is determined primarily by politics and cannot be changed quickly as such change is embedded in the social system expenditure traditions and other ideological inuences. Therefore, public governance has to seemingly concentrate on efciency (doing things right) within the public (procurement) system. Savings in production cost may be reached by economies of scale, by bundling production quantities, and by outsourcing. This means sharing tasks with specialised suppliers. Limitations exist according to Transaction Cost Theory, because of increasing coordination efforts, which Williamson (1985) describes as the costs of drafting, negotiating, and safeguarding an agreement (Williamson, 1985). A two-step approach to the analysis of a PPP involves, rst, assessing the strategic importance of a potential outsourcing project, and, second, the specicity of an outsourcing project, to identify the volume of transaction costs (Picot, 1991). Strategic importance and specicity may be interdependent, as many strategically important assets are also highly institution-specic. But there may also be very specic parts of an end-product (e.g. bolts) which are non-strategic (Picot, 1991). It would be expected that the strategic importance of public goods would be dened clearly and precisely before proceeding with the public outsourcing process, although there is evidence that this is not necessarily the case (Callender and Johnston, 2001). Many public tasks have also been kept in-house through ideologically based specious arguments of strategic importance. Differences between the strategic choices of private and public institutions come from their particular aims. Private sector institutions seek to react to market changes and,

New Institutional Economics, Public Choice Theory

Basic Constitutional Law, Federal Budgetary Regulations, Act against Restraints of Competition, Public Procurement Law, EU CommunityRules, EC Treaty, ... Economic analysis (Public authorities) Outsourcing decision No No Vertical integration Vertical integration Yes Legal analysis (restrictions) Yes PPP

Fig. 2. Economic and legal analysis.

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presumably, maximise their prots in the form of shareholder wealth (economically determined objectives). Public authorities do not only react, they often create, through the political environment, a set of socially and ideologically driven welfare determined objectives. Strategic importance has therefore to be discussed in the context of general political objectives. A democratic decision-making process identies general political objectives with signicant relevance to the long-run development of the society. Political programs are constituted through a mixture of laws, regulations, budgetary decisions and political decisions which serve as the framework for public authorities. The output of these public programmes leads to an impact on citizens based on their reaction to the realisation of these policies. This impact may differ from the primary intentions of politicians. This stepped system, balancing strategy and project strategy, produces an outcome as a reaction to the whole system which shows the consequences of politics and therefore is seen to be strategically relevant. Public strategic objectives (or politics at the highest level) are not only internal to public authorities, but externally are dependent on the level of political process. The strategic importance of tasks at different levels of the public system are directed towards the outcome which has to be secured (Naschold et al., 2000; Schedler and Proeller, 2003). The responsibility to realise public strategic objectives is not connected to institutions. If monitoring of compliance of activities within the public value chain undertaken by private partners is feasible, outsourcing will be an adequate approach. Limitations are set, if risks arise that endanger the realisation of dened strategic objectives (Naschold et al., 2000; Schedler and Proeller, 2003), they then should be noted by the compliance system in place. For example, the German social welfare system cares for high-maintenance citizens with individual health support. This is a political and strategic objective of a social welfare system with a visible output: individual care. The output is nanced by taxes paid by citizens as a wholenot the individual who uses the services; however, almost everyone has to pay taxes to keep the system running. This situation is called a non-coherent exchange relationship (nichtschluessige Tauschbeziehung). If organised by private institutions, nobody wants to pay voluntarily for services taken by others and thus the major nancial burden falls on the state. Nevertheless, cooperation with private sector institutions is possible. In Germany, local health care services are provided by organisations such as Rotes Kreuz (Red Cross) which is a not-for-prot institution. The impact of this system might dissatisfy the younger generation which has to nance the elderly! Specicity is one main factor responsible for differences between various public and private transactions (Williamson, 1985). Specicity has relevance to the degree to which an asset or product can be redeployed to alternative uses and by alternative users without losing productive value (Williamson, 1991). With the behavioural

assumptions of bounded rationality and opportunism, behavioural uncertainty takes on greater importance with the increase in specicity (Williamson, 1985). Non-specic relationships have little value in regard to continuity (Williamson, 1985). However, specicity in relation to citizen or public sector outputs causes parties to transactions to operate on the basis of ex-post bilateral dependency, and therefore poses added contracting hazards. Both continuity and specicity thereby increase the transaction cost of all forms of governance, although the comparative transaction cost advantages of market, hybrid and hierarchical coordination at different degrees of specicity (Williamson, 1991; Coase, 1937) need to be considered. Determinants are crucial differences in adaptability, and the use of incentives and control instruments. Whereas markets are believed to provide efcient price mechanisms (incentives), the public sector hierarchies provide better control mechanisms and adaptability (Williamson, 1991). Hybrid structures are found between strong market incentives and bureaucratic control of organisations. As specicity increases, hybrid and hierarchical solutions are recommended (Picot, 1991), although the extent of uncertainty decreases the benets of internal organisation (Williamson, 1985). Outsourcing of public tasks requires an effective governance structure considering categories of responsibility in publicprivate cooperation. Dependent on strategic relevance and degree of specicity, several forms of cooperative integration are suggested. (Fig. 3). Strategic importance and specicity are therefore connected with the core competences of public authorities with strategically important tasks being highly integrated within

Strategic importance, degree of integration PPP on institutional basis ("Equity Joint Venture") III MAKE Vertical integration IV

Traditional award of contract I BUY

PPP on contractual basis II

Specifity of goods and services

Field of PPP-application
Fig. 3. PPP portfolio (Sources: Naschold et al., 2000; Commission of the European Communities, 2004).

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Transaction cost theory Market exchange Theory of contract Classical contract law Neoclassical contract law Relational contract law Formal cooperation PPP Hierarchy

rities dene the standard of goods and services delivered and compensate the producer for it (Budaeus and Gruening, 1997). 2.4. Legal analysis The German system of public authorities is quite complex and is reected in the structure of the public procurement system. Public authorities are located at the national level (Bund, federation), the federal state (Laender) and the regional level (Kommunen, municipalities). Within each level, there are separate sub-levels. National as well as federal state and regional-level authorities have to consider administrative and constitutional law, together with legal regulations on the European level in regard to the assignment of public tasks to private sector companies. There is no explicit law governing the general PPP in Germany, except a Green Paper of the Commission of the European Communities which discusses legal aspects of PPPs. This can only be regarded as a preliminary report of government proposals that is published in order to stimulate discussion without any commitment to action, although it delivers a very useful framework with laws, legal directives and guidelines that have to be applied in order to build PPPs. Legitimation for common publicprivate institutions is basically set by public purpose expressed through public tasks and priorities. Limitations with respect to the privatisation of public tasks are set by constitutional law. For example, Article 33 (4) Basic Constitutional Law states that the exercise of sovereign authority y [will] be entrusted to members of the public service who stand in a relationship of service and loyalty dened by public law.). There is no general interdiction in relation to privatisation. However, public authorities as executive authorities are obliged to use the requirements of democracy, which means executing public tasks under the monitoring and inuence of parliament by creating a hierarchical governance structure (Becker, 1997). Furthermore, if there are organisations operating under private law that must be controlled to guarantee responsibility for their output, publicprivate organisations are a legitimate instrument for reforming public authorities. This measure is dealt with in the Federal Budgetary Regulations (Section 65 (1)), which allows the Federation y participate in an organisation under private law y only (1) y if there is no alternative to full a dened purpose more economically y (2) y governance must be feasible in a sufcient way, like a board of directors, or others y. Deciding to join a publicprivate organisation, following step one of this analysis, is explicitly efciency driven. However, constitutional law also postulates economic efciency (Article 114 (2), Basic Constitutional Law). Objectives of this kind are directed at the structure and processes of public authorities to apply resources in the most efcient way available at this time. Taxes should be used for public tasks as dened by the Commonwealth (Becker, 1997).

Traditional award of contract

Theory of organisation

Informal cooperation Cooperation based on trust

Fig. 4. Theoretical inuences of PPP (Sources: Adapted from Budaeus et al., 1997).

public administration and public companies. If specicity is low and core competences are not involved, public authorities set up a publicprivate organisation (quasihierarchy) as a distinct entity (Fig. 4). The investment must be large enough so that the minority partner enjoys an acceptable level of power (Eichhorn, 1998). This is the strongest form of PPP, with a high degree of formalisation (closer denition of PPP with a high degree of formalisation and a high degree of objective conformity to the strategic goals of both public and private institutions and thus clear agreement on objectives) (Budaeus, 2003). PPP resources are allocated under the governance arrangements of the contracting organisation (Budaeus, 2003), although the strategic objective remains the responsibility of the public sector. From a contractual perspective, a PPP represents a form of pure market contract, Fig. 4. Market, hybrid, and (quasi-) hierarchies differ with respect to contract law (classical, neoclassical, relational contract law; Williamson, 1991). A pure contractual basis will possibly also inuence to a lesser extent the degree of formalisation which leads to a wider denition of PPP (also with a high degree of conformity to public objectives, but a low degree of formalisation; Fig. 4). Governance over joint resources remains on both sides (Budaeus, 2003). For non-specic goods and services markets, exchange and discrete contracting may be sufcient. There is a low level of objective conformity and thus a potentially high level of conict over objectives but also a need for a high level of formalisation. This form of cooperation is called contracting out (for more detail, see Budaeus and Gruening, 1997). This is the traditional award of contract for standardised goods and services where public autho-

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The total range of public tasks and sovereign authority on a national and federal state level are determined by the Basic Constitutional Law (Articles 3037). Authorities at the national level are not allowed to undermine the basic competences of the federal states (Article 30 Basic Constitutional Law), although an allocation of tasks can be found in Articles 3037 and, at the national level, in Articles 87 (a)(f) of the Basic Constitutional Law. Limitations are also set by individual Municipal Codes of the federal states. For example, the Municipal Code of the Bavarian federal state (Article 92 (1)) permits Mixedeconomy [publicprivate] participation y is only permitted for (1) public purposes y (2) with appropriate governance y board of directors y and (3) y limited liability of the municipality y. There is less legal strength on the level of municipalities. Municipalities can decide whether to work together with private partners as they have less sovereign tasks which must be kept in-house (Article 28 (2) Basic Constitutional Law). Such local affairs include, e.g. waste management, water and energy supply. The legal issues at the time of an outsourcing decision are also inuenced by the rules of public contract (Fig. 2). If a public authority decides to award a service fullment to a third party, it is bound to comply with a set of rules that take place downstream of the economic and legal choice made by a local, regional or national authority. Every contractual action between publicprivate organisations must also be examined in respect of the EC Treaty, especially the principles of freedom of establishment and freedom to provide employment (Article 43 EC Treaty) and services (Article 49 EC Treaty). Furthermore, principles of transparency, equality of treatment, and mutual recognition are also included. These guidelines may help to avoid both the risk of inappropriate preference being given to local or national tenderers when awarding a contract, and eliminate other than economic considerations (Commission of the European Communities, 2004). In Fig. 3, two different forms of PPP are outlined in respect of their procurement procedures: rst, contractual partnerships designated as a public contract or concession; and second, partnerships involving the creation of a joint organisation (Commission of the European Communities, 2004). In Germany, public contracts are also regulated by the Act against Restraints of Competition which sets out general principles (Section 97) and denes contracting entities according to whether they are regional or local authorities with special funds, or functional contracting bodies which perform tasks as a special interest of the state (for example, hospitals). Legal regulations for a functional contracting body are only applied if the organisation exceeds distinct threshold values. Public contracts, are ofcially dened as Supply contracts y for the procurement of goods, Works contracts y for the execution or the simultaneous design and execution of works or a work which is the result of civil engineering or building construction work, and Service contracts for all other

types of contract (not covered by the other two subsections) of Section 99. In Germany, the national procurement law is further divided into regulations or Verdingungsordnungen, contracting rules for award of public contracts for those public contracts, deliveries and other services (VOL), construction and buildings (VOB), and services provided by freelance contractors (VOF). Service contracts are covered by VOL/A and VOF (Section 100 and Section 101). Guidelines for the application of different categories and procedures of award are specic to regulations VOB, VOL and VOF. Unlike private sector organisations, public authorities and also publicprivate corporations are forced to apply these guidelines through open procedures (oeffentliche Ausschreibung), restricted procedures (beschraenkte Ausschreibung) or negotiated procedures (freihaendige Vergabe), whereas open procedures are standard to contracts of regulation of VOL and VOB. Procedures must be used in a hierarchical way. The concept of a concession is dened as a contract of the same type as a public contract except for the fact that consideration for works to be carried out or services to be provided consists solely in the right to exploit the construction (Commission of the European Communities, 2004). There are fewer specic regulations for concessions. The contracting authority is free to select the award procedure, although the minimum requirements of the EC Treaty must be met (Commission of the European Communities, 2004). A joint organisation can be put in place, either by founding a jointly held organisation or by the private sector taking control of an existing public undertaking. In the meaning of Section 99 (1), Act against Restraints of Competition, a public contract implies supply activities which are not searching for cooperative partners only. However, this would ignore Public Procurement Law, if the organisation to be established aims to full services originally undertaken by the public authority. Following a recent adjudication of the European Court of Justice, the phase of selection of private partners is already treated legally as a public contract (Benken, 2004). Beside, these requirements, partnerships need a particular t between their partners. Traditional procedures for awarding a contract are not suited to the parties getting to know each other as an open and unrestricted procedure is formally forbidden. Recently, a new procedure known as competitive dialogue has become applicable when awarding particularly complex contracts (Article 29 Directive 2004/ 18/EC). The competitive dialogue is launched when a public authority is objectively unable to dene the technical means that would best satisfy its need and objectives. This new procedure allows the contracting authorities to open a dialogue with the candidates to nd a solution meeting their procurement needs. At the end of this process, the candidates are invited to participate in the nal tender. Similar to awarding a public contract or concession, the highest demonstrable efciency will be the decisive factor in

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the competitive dialogue, not only the lowest price (Section 25, No. 3 VOL/A, by analogy see Section 25, No. 3 (3) VOB/A and Section 16 VOF). High requirements are set for transparency and equality of treatment. In choosing the legal form of publicprivate organisations, the need to limit the liability of public authorities has to be carefully considered and, therefore, a limited liability corporation (Ltd., in Germany GmbH) is established (Article 92 (1), No. 3, Bavarian Municipal Code).

also Section 98, 2 Act against Restraints of Competition, functional contracting bodies). 3.2. Results 3.2.1. Field of PPP-application DLR, its associated members and research institutes formerly provided all information technology services (ITS) in-house. These services ranged from simple service support of individual desktop PCs, telecommunication and data networks up to highly specic supercomputers. Arising from a 1996 review, the outsourcing object was the entire bundle of IT services which are primarily related to DLR internal customers. 3.2.2. Outsourcing decision, responsibilities, governance structure and degree of formalisation Optimal manufacturing service penetration rst considers the strategic relevance of potential outsourcing objects. ITS only play a supporting role for DLRs strategic core competence in research activities. Second, transaction costs mainly refer to the degree of specicity. Service support of desktop PCs is generally non-specic. In fact, the problems associated with standard software can be seen to be the same in all companies while supercomputers are likely to be customised and therefore are highly specic. Furthermore, ITS must be provided in the headquarters in Cologne as well as in seven subsidiaries all over Germany. Transaction Cost economics recommends hybrid governance structures for medium or high specicity, especially bilateral governance, and relational contracts for recurrent frequency (Williamson, 1985). Regarding legal restriction (Section 7 efciency, Section 65 Federal Budgetary Law) an essential condition must be the economic advantage of private provision of public goods and services. Indeed, DLR identied decits in efciency to also provide legal argument for an outsourcing decision. A pure market governance would endanger the whole research organisation if fullment could not be guaranteed by DLR as research activities are strongly dependent on ITS. As a result, DLR decided to found a joint organisation with T-Systems as a private partner. 3.2.3. Objectives of partners The main objective of DLR has been to enhance ITS efciency using market-driven mechanisms. In-house reforms (e.g. prot centre) are often difcult and are based on old structures. Therefore, for a fundamental reform a PPP is a suitable instrument. A new organisation facilitates the use of the capacity of supercomputers by other research organisations, such as the Gesellschaft fur Reaktorsicher heit (Association for Reactor Safety) which has joined the group bringing IT personnel and assets. However, task sharing involves potential agency-related problems regarding the objective of common welfare of public authorities and prot-seeking private partners. Furthermore, as a result of potential principal-agent problems, governance

3. Case study 3.1. Methods Treating the publicprivate dyad as the unit of analysis, this exploratory study focuses on the public buyers perspective upon a self-selected private supplier. The highest level of the procurement function in the public organisation, which plays a signicant role in managing PPPs, was targeted for this study. The data for the single case study was collected in a personal interview. Owing to the complexity of a PPP, a single case was chosen, as fundamental problems in implementing a single PPP in Germany could be identied and compared with the economic and legal analyses set out above. The adoption of business administration concepts from the private sector is not useful for this study even though these concepts could contribute to the reform of the public sector procurement. A questionnaire was prepared based on theoretical and conceptual considerations with different topics capturing different stages of a PPP. The main stages of a PPP implementation were found to be: rst, the eld of PPP application; second, outsourcing decision, responsibilities, governance structure and degree of formalisation; third, objectives of partners; and fourth, the phases of implementation (preparing and decision phase, implementation phase, operating phase, termination phase). The selection of the public organisation deliberately excluded investigations at the German municipal level which have already been the subject of case studies about cooperation in citizen-related services at the local level. Questions were formulated in open form, primarily to serve as an interviewer guideline. Structuring the questionnaire provided a framework for analysis and the basis for further comparative investigations. The selected object of analysis was T-Systems SFR (Systems for Research) a joint organisation of the German Aerospace Center (Deutsches Zentrum fur Luft- und Raumfahrt e.V./ DLR) and T System, a subsidiary of Deutsche Telekom AG for ITservices. DLR is member of the Helmholtz-Society, where all 15 so-called Grossforschungseinrichtungen (largescale research institutes) in Germany are working together. This research institution is mainly nanced by the German national government (Bundesministerium fur Bildung und Forschung, or Federal Ministry of Education and Research) and therefore is a typical public institution (see

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mechanisms have to be established (Gottschalk, 1996; Budaeus et al., 1997; Bundesministerium fur Wirtschaft und Arbeit, 2003; Budaeus, 2003) as the private partner works to achieve prot and also gains market status because of its relationship with DLR. 3.2.4. Phases of implementation Preparing and decision phase: Initiated by top management of DLR (buy decision) and supported by a wellknown consultancy, DLR started with an initial market analysis for IT services in 1997 throughout Europe. An internal sourcing project group, consisting of the head of DLRs ITS, a lawyer for mergers and acquisitions, the Chief Financial Ofcer, a delegate representing all members and research institutes, and the head of procurement of DLR, was constituted to specify the project. Additionally, several HR department members joined the project team as DLR planned to transfer all IT employees to the new organisation. Safeguarding the rights of these former public employees in the new private organisation was one of the major challenges. As IT services are difcult to dene, a negotiated procedure (called Verhandlungsverfahren for European-wide tendering) was applied (Section 3, No. 4a VOL/A, and Section 5 VOF). Denitions were only based on the functional level (for example, time requirements a user helpdesk must be available or response time) and the best solutions to full these requirements had to come from the private bidders. Performance criteria to evaluate candidates were based on their previous experiences with PPPs as well as the potential of annual productivity growth rates of 25 percent. Having regard to the rate of development in IT hardware, this was not seen to be a utopian value. As the contract value was above the threshold value of h200.000, a European-wide tender process had to be undertaken (Article 7 (1) Directive 1992/50/EC). For this reason, the tender had to be advertised in the EU Ofcial Journal (Article 16 (2) and 17). Negotiation afterwards took place with pre-selected potential partners (Section 4, No. 1 VOL/A). Additional requirements were set by the founding institution of DLR, the Federal Ministry of Education and Research. It required analyses of scal effects, Budgetary Regulations restrictions, restrictions of the Act against Restraints of Competition and in particular, an evaluation of the efciency of the PPP solution. The DLR also limited the duration of the PPP to 3 years. In the rst quarter of 1998 DLR accepted the bid of DEBIS, a former subsidiary of DaimlerChrysler AG, now T-Systems. Implementation phase: The entire negotiation process lasted almost 1 year. A number of conicts escalated to the top management level and forced the development of a number of compromises. Problems arose over the short contract period of only 3 years followed by a new tendering process, and the transfer of all IT employees of DLR to the new PPP with all safeguards inherent to public organisations (for example, layoff protection). Neither aspect is

common in private organisations in Germany. Specic investments were required to be amortised over this short period making such arrangements problematic considering the sunk cost. Second, guarantees to employees caused signicant problems to DLR in the negotiation phase. Risk sharing aspects are an important process step for a successful conclusion to the formation of a new PPP. However, feeling responsible for its employees, DLR guaranteed all DLRPPP employees the right to return to DLR, if the partnership with DEBIS was terminated in 2002 whether or not the PPP continued with another private partner. DLR also signed an acceptance duty as high as the former cost of ITS creating in-house DLR as minimum transaction value. To keep in mind the efciency goal an annually decreasing acceptance duty was part of the contractin the rst year after foundation 95 percent, in the second 90 percent, and nally in the third 85 percent. DEBIS SFR had been found by signing the contract in May 1999. DLR contributed additional resources (real assets) to the PPP. A second contract followed in 2002, a third one will follow in 2005 with a period of 5 years after signing twice for 3 years. The period of 5 years was chosen, as the PPP is stabilised and is working well. However, this does not mean that a new tendering process necessarily results in the appointment of the same private partner. The legal form of the PPP, from the beginning, is a limited liability corporation with a 25.1 percent participation of DLR. This amount of participation is required due to the need for an adequate minority power within the board of directors of the PPP (responsibility for output). There is an inevitable risk in depending on an external partner. Every single service is regulated in individual service contracts (Section 1a, No. 3 VOL/A) including performance criteria in relation to service and quality and penalities for non-performance. On the operational level, control activities proceed via one centralised and several decentralised IT managers at all seven locations of DLR. In 2003 all DEBIS shares were transferred to T-Systems. Therefore, the PPP was renamed T-Systems SFR. The service contracts stayed untouched, separate from the ownership framework as termination of cooperation was not intended by the transacting parties. In the future, if a new tender results in more than 20 percent of the contract being awarded to another private company, the existing arrangements would be terminated. Operating phase: Initial problems in the operating phase were solved by learning processes. Improvements concerning economic consequences have been achieved by the implementation of exit scenarios, and the termination of guarantees to employees for the award of contract in 2005. In addition, the denition of services awarded has been improved. In the past, DLR based its denition of services on a historical IT infrastructure which was unique to each group of users in DLR. Now, denitions are based on a consolidated homogenous IT infrastructure which is DLRwide, thus making specication much easier.

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Termination phase: The founding institution of DLR, the Federal Ministry of Education and Research also seeks to leave the PPP within the next few years. This will become an issue after the rst 5 year contract which will be the third contract from 2005. For this reason there are two possible exit models (Trigeorgis, 1995): rst, DLR will sell its shares to the private partner (put-option) or will buy the shares of the private partners for a subsequent total privatisation (call-option), or, second, DLR will take back all resources (assets), except employees who will stay with the private company. 4. Conclusion This study aims to compare conceptual and theoretical ndings inherent in a typical public sector PPP-decision process, compared with the ndings contained in a specic case in practice. Looking at the decision process at DLR, there was an economic demand for new solutions arising from the need for increased efciency in the beginning. Founding a joint organisation brought considerations of strategic importance and specicity of ITS. In this case, strategic importance was more important than specicity, as responsibility for output must be guaranteed by public institutions. Overall, research activities are the core competence of DLR, and this output might be seen as a genuine public good. These basic research activities are often at such an early stage that economic success is not predictable and very uncertain, although incurring high costs. Nevertheless, as a public institution, DLR provides these activities. Private research activities on the other hand are mostly based on concrete products. As a result, government and its associated organisations (such as DLR) are in a position to provide research activities in the common interest (Gewaehrleistungsstaat), where pure private institutions would fail, since everyone tries to act as a free rider. Strongly connected with its core competence, DLR must also secure its ITS which are necessary sub-services to support research activities. For that reason the strategic importance of ITS evolves, and, with low to medium and high specicity, the requirement to choose a joint organisation as the PPP model becomes fairly clear. With only two major types of PPPs, we consolidated a lot of mostly empirically oriented PPP denitions which make a limited contribution to an economic and legal-based analysis. This case study is based on the national level in Germany. Hence, further investigations to close the gap should be based on the regional and local levels. For example, at the regional Laender or state-level outsourcing of police clothing production and administration to a PPP could be achieved. Police uniforms have very high specicity and special importance to ensure ofcers are identied as police. At the local level there are several examples of cooperation between municipalities and private companies for energy supply, waste disposal, public baths and hospitals.

A further question might be whether PPPs are the rst step towards a complete restructuring of public services. Within EU public procurement regulations, there is now a new instrument called competitive dialogue which allows the integration of suppliers at a very early stage of purchasing procedure and as a result the implementation of supplier relationship concepts (Erridge and Greer, 2002). Public Procurement also moves towards Public Supply Chain Management (Fig. 5), and, taking into account that PPPs offer changes in the role of the public sector, the whole public value chain comes into an NPM focus. Public Supply Chain Management is a possible development route for public procurement. Networks are traditionally much more common to the public sector, especially in the state structures, where coordination of efforts on different levels of politics are required. Economic analysis proceeds at network levels of administration, public companies and also private companies that need to implement differentiated management structures. Management is more difcult, with competing priorities which cannot be balanced completely. Compared with the characteristic private sector commercial focus, public procurement is determined by regulatory requirements and socio-economic responsibilities (Erridge and McIlroy, 2002). The politics network at the top level, followed by the administration network level that takes responsibility for the execution of policies, occurs at the federal, state and local (municipality) level. As the results of this paper show, execution might also be carried out by private sector companies constituting a private supply chain but


Relational/ relationship


Pub l par ic priv a tne rsh te ip

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= Public supply chain management in a wider sense

Fig. 5. Public supply chain management.

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fullling the needs of the public supply chain. However, coordination is more complicated as not only legal and economic aspects have to be considered, but also the demands and needs of society. Acknowledgements The German Aerospace Center (DLR), namely Berthold Schaefer, is gratefully acknowledged for its support of this research. References
Becker, R., 1997. Die Erfuellung oeffentlicher Aufgaben durch gemischtwirtschaftliche Unternehmen. Nomos Verlagsgesellschaft, Baden Baden. Benken, H., 2004. Privatisierung und Vergaberecht. In: Stoye, J., Freitag, O., Benken, H., Herma, M., Koppen, J. (Eds.), Aktuelle Probleme des Vergaberechts. Deutsche Hochschule fur Verwaltungswissenschaften Speyer, Speyer, pp. 80124. Borins, S., Gruening, G., 1998. New Public ManagementTheoretische Grundlagen und problematische Aspekte der Kritik. In: Budaeus, D., Conrad, P., Schreyoegg, G. (Eds.), New Public Management. Walter de Gruyter, Berlin, pp. 1153. Budaeus, D., 1994. Public Management: Konzepte und Verfahren zur Modernisierung oeffentlicher Verwaltungen. Edition Sigma, Berlin. Budaeus, D., 1998. Public Private Partnerships als innovative Organisationsform. In: Scheer, A.-W. (Ed.), Neue Maerkte, neue Medien, neue MethodenRoadmap zur agilen Organisation. Physica-Verlag, Heidelberg, pp. 4764. Budaeus, D., 2003. Neue Kooperationsformen zur Erfullung oeffentlicher Aufgaben: Charakterisierung, Funktionsweise und Systematisierung von Public Private Partnership. In: Harms, J., Reichard, J. (Eds.), Die Oekonomisierung des oeffentlichen Sektors: Instrumente und Trends. Nomos Verlagsgesellschaft, Baden Baden, pp. 213233. Budaeus, D., Gruening, G., 1997. Die rechtliche Ausgestaltung von Public Private Partnership. In: Budaeus, D., Eichhorn, P. (Eds.), Neue Formen oeffentlicher Aufgabenerfuellun. Nomos Verlagsgesellschaft, Baden Baden, pp. 2566. Budaeus, D., Gruening, G., Steenbock, A. (Eds.), 1997. Public Private Partnership IIMethodische Grundlagen und Elemente einer Theorie der Public Private Partnership. Hochschule fur Wirtschaft und Politik, Hamburg. Bundesministerium fur Wirtschaft und Arbeit (Eds.), 2003. Public Private Partnership: Ein Leitfaden fur die oeffentliche Verwaltung und Unternehmer, second ed. Arbeitsgemeinschaft fur wirtschaftliche Verwaltung, Eschborn. Callender, G., Johnston, J., 2001. Contracting between governments and the private sector: private haven or public hell? In: Farazmand, A. (Ed.), Privatization and Public Enterprise Reform: Implications for Public Management. Greenwood Publishing Group, Westport, CT, pp. 2341. Coase, R.H., 1937. The nature of the rm. Economica 4, 386405. Coase, R.H., 1960. The problem of social cost. Journal of Law and Economics 3, 144. Coase, R.H., 1988. The Firm, the Market, and the Law. University of Chicago Press, Chicago. Commission of the European Communities, 2004. Green Paper on PublicPrivate Partnerships and Community Law on Public Contracts and Concessions. URL publicprocurement/ppp_en.htm Eichhorn, P., 1998. The public private partnership. In: Urban, S. (Ed.), From Alliance Practice to Alliance Capitalism. Gabler Verlag, Wiesbaden, pp. 225239.

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Further reading
Budaeus, D., Eichhorn, P. (Eds.), 1997. Public Private Partnership: Neue Formen oeffentlicher Aufgabenerfuellung. Nomos Verlagsgesellschaft, Baden Baden. Budaeus, D., Conrad, P., Schreyoegg, G. (Eds.), 1998. New Public Management. Walter de Gruyter, Berlin. Dyer, J.H., Cho, D.S., Chu, W., 1998. Strategic upplier egmentation. California Management Review 40, 5777. Scheer, A.-W. (Ed.), 1998. Neue Maerkte, neue Medien, neue Methoden Roadmap zur agilen Organisation. Physica-Verlag, Heidelberg.

Stoye, J., Freitag, O., Benken, H., Herma, M., Koppen, J. (Eds.), 2004. Aktuelle Probleme des Vergaberechts. Deutsche Hochschule fur Verwaltungswissenschaften, Speyer. Thom, N., Ritz, A., 2003. Moglichkeiten der Wertschopfungssteigerung durch Public Private Partnership. In: Bach, N., Buchholz, W., Eichler, B. (Eds.), Geschaeftsmodelle fuer Wertschoepungsnetzwerke). Gabler Verlag, Wiesbaden, pp. 435457. Urban, S. (Ed.), 1998. From Alliance Practice to Alliance Capitalism. Gabler Verlag, Wiesbaden.