The word savings itself can be somewhat enigmatic. Everyone has a concept of what savings “is”, but how to define it is something else altogether. Some would say that only a unit cost reduction (I paid 2, now I pay 1) counts as savings. Others include “cost avoidance” in their definition (I paid 2 in the past, now I pay 3, but I would have paid 4). Sometimes savings definitions include non-price or total cost of ownership factors, such as the reduction of demand or process improvements that make tactical transactions more efficient. The doctor over at Sourcing Innovation even likes to opine that there’s no such thing as savings.
In the case of the City of Chicago, savings can probably be defined as anything that results in a budgetary reduction, when compared to the previous year. In order to achieve these reductions, the City has enlisted the help of Accenture, who has agreed to work on a gain share basis, only getting paid if they produce savings.
This brings about an important question - is the Accenture definition of savings in line with how the City of Chicago defines it, or at least should define it? After all, alignment between the two definitions is critical not only to the success of the program for the City, but to the Accenture compensation model.
Appendix A of the contract between Chicago and Accenture goes into great detail as to what qualifies as savings, or what Accenture calls “Sourcing Benefit Levers”….really? There are 15 “levers” in total, and I give Accenture credit for the clarity they provide in this section of the contract - each lever includes a definition, an example (called a “Situation” and “Result”), and the precise way savings would be calculated and forecasted out (referred to as “Benefits”). Some are very reasonable. For example, Lever # 1 - Purchase Price Reduction, is basically a no brainer. It is defined as a “Reduction in baseline purchase price for same specification with same supplier”, which could not be more clear. Lever # 2 - Specification Changes, even takes into account switching costs, though some may take issue with how those costs are determined. Lever #5 - Contract Compliance demonstrates that Accenture will also be auditing invoices and requesting credits if the supplier charges an incorrect price. Lever #11 accounts for transportation costs. While overall the “sourcing levers” defined in the agreement match the City’s expectation of budgetary reductions, there are a few calculations Chicago should have had removed from this agreement, or at the least, defined more clearly.
Lever #4 - Capital Improvement. This lever is defined as “Capital savings attributed to improved inventory management performance, although absolute value of capital expenditures may remain constant or increase due to overall demand increases”. Accenture gives an example illustrating an inventory of motors. In the example, a 60 days supply equating to 100,000 units (worth $300 each) of motors is kept in inventory. As part of an Accenture recommendation, inventory performance is improved by 20%. Accenture considers this a “one-time benefit” of 20,000 units reduced at $300 a clip, translating to $6 million in savings.
In this example, the motors will still be purchased, just at a later date, but Accenture is calling it a savings. There may be a business case that demonstrates a reduction in inventory carrying costs, but certainly not 100% of the value of the inventory. Will the City budget be impacted by 100%? Not really, this option simply improves their cash flow position. This lever really gives me pause, because there are tons of vendor managed inventory and other programs that the City should and could be taking advantage of to improve inventory carrying costs, but outsourcing your tool crib to a third party certainly doesn’t translate into a 100% savings for spare parts. Given the current definition, Accenture could make a good amount of money by simply recommending lower inventory levels. Additionally, there is no mechanism for defining the additional cost of presumably higher order quantities now that inventory is cycling quicker (which are in fact accounted for as a savings in Lever #8 below).
Lever #8 -Purchasing Process Improvement. The definition states this is a “Change in purchasing process, resulting in a lower cost to buy.” In the example of savings, Accenture transitions individual buys for each location for a particular item to a centralized demand and buy through a blanket Purchase Order (PO). So instead of issuing dozens or hundreds POs for the same item, scheduled releases come off of one PO. The benefits include “Purchase Price Reduction + transaction process cost reductions”, yet transaction process costs are undefined. So in this case, if Accenture identifies a way to improve a process, they will apply “transaction process cost reduction” to the savings calculation, but they do not spell out how to calculate that reduction in the contract.
Besides the lack of a clear definition, the problem is this really isn’t a cost reduction to the City. Sure, people will be working more efficiently, and additional time available may mean that they will get to projects they didn’t have time for before. In the long run it might even mean the city doesn’t have to hire additional staff. Identifying these types of efficiencies is important, but they have zero budgetary impact. This should be considered a value-add, not a cost savings.
Lever #9 - Operational Process Improvement. The contract defines this as a “Reduction in FTEs given a streamlined or consolidated processes (e.g., centralized planning).” The example includes reducing resource needs by 25%, “through process changes and new automation”. Under this scenario, Accenture Value Added Fees are weighted against 100% of the reduction in staff.
There are numerous issues for including headcount reduction as a form of savings during a strategic sourcing initiative, particularly when working with a government entity. First, it is important to remember a point we covered in our last post on this topic. Once Accenture issues a recommendation, the City has 10 days to accept or disqualify it. After the 10 days pass, the proposal is accepted by default and Accenture is due its fees. Accenture can recommend a headcount reduction, and if the City doesn’t have time to review the recommendation within the allotted timeframe (maybe because they don’t have enough heads), Accenture gets paid, even if the City doesn’t follow through.
Beyond the timeline restriction, which really is a concern of ours for all of the levers, is the problem of the applicability of a clause like this in a government contract. In government, like it or not, it’s very difficult to just get rid of people. Even if the City is overstaffed, which they probably are not, the best they could hope for is the ability to shift resources to other areas. Perhaps Accenture has created efficiency in that the City no longer needs to add headcount sometime in the future, but from a budgetary perspective, there is no net improvement on the books.
The second issue with this lever is that the calculation provided by Accenture takes no consideration into the costs of process improvements or “new automation”. Under their scenario, you can replace a man with a machine and the savings is based on the cost of the man, without factoring in the cost of the machine. Total Cost of Ownership it ain’t.
Third, under Lever #8 we have savings accounted for “transactional process cost reductions”, in other words, for making people more efficient. However, if reducing headcount means a shift of some, if not all, of that FTE’s responsibilities to other workers, shouldn’t the added capacity placed on others be factored into the savings? Efficiency savings run both ways.
Lastly, and possibly most importantly, the project the City has engaged in with Accenture requires a substantial amount of time and effort from city employees. How willing will employees be to work with Accenture or implement their programs if the consulting firm is simultaneously recommending headcount reduction? Yes, FTE reductions should be analyzed, but that initiative should be separate and apart from a strategic sourcing engagement.
Overall, many of the savings levers that result in compensation to Accenture are in line with the City’s goal of budgetary cost reduction. However keep in mind that Accenture gets paid whether the City takes action or not - as long as the City accepts the recommendation. That being the case, some of the levers identified in the contract do not belong there, or at least require further explanation.
In our next post on the Accenture/City of Chicago contract, we will examine termination penalties and what happens if things go wrong. We will then wrap up the series with our take on the contract as a whole, and give our prediction on what the results of this engagement will produce, for both Chicago and Accenture.
----
See the full series:
Part 1 - An Intro to Chicago Accenture Sourcing Deal
Part 2 - Unclear Language and Term Definitions
Part 3 - Analyzing the Accenture Fee Structure
Part 4 - Tracking and Compliance
Part 5 - Resources and Responsibilities
Part 6 - Determining What Counts as Savings
Part 7 - Understanding Termination Clauses and Penalties
Part 8 - Wrap Up, Getting What You Paid For?
Part 9 - Why We Did the Cost Savings Series
In the case of the City of Chicago, savings can probably be defined as anything that results in a budgetary reduction, when compared to the previous year. In order to achieve these reductions, the City has enlisted the help of Accenture, who has agreed to work on a gain share basis, only getting paid if they produce savings.
This brings about an important question - is the Accenture definition of savings in line with how the City of Chicago defines it, or at least should define it? After all, alignment between the two definitions is critical not only to the success of the program for the City, but to the Accenture compensation model.
Appendix A of the contract between Chicago and Accenture goes into great detail as to what qualifies as savings, or what Accenture calls “Sourcing Benefit Levers”….really? There are 15 “levers” in total, and I give Accenture credit for the clarity they provide in this section of the contract - each lever includes a definition, an example (called a “Situation” and “Result”), and the precise way savings would be calculated and forecasted out (referred to as “Benefits”). Some are very reasonable. For example, Lever # 1 - Purchase Price Reduction, is basically a no brainer. It is defined as a “Reduction in baseline purchase price for same specification with same supplier”, which could not be more clear. Lever # 2 - Specification Changes, even takes into account switching costs, though some may take issue with how those costs are determined. Lever #5 - Contract Compliance demonstrates that Accenture will also be auditing invoices and requesting credits if the supplier charges an incorrect price. Lever #11 accounts for transportation costs. While overall the “sourcing levers” defined in the agreement match the City’s expectation of budgetary reductions, there are a few calculations Chicago should have had removed from this agreement, or at the least, defined more clearly.
Lever #4 - Capital Improvement. This lever is defined as “Capital savings attributed to improved inventory management performance, although absolute value of capital expenditures may remain constant or increase due to overall demand increases”. Accenture gives an example illustrating an inventory of motors. In the example, a 60 days supply equating to 100,000 units (worth $300 each) of motors is kept in inventory. As part of an Accenture recommendation, inventory performance is improved by 20%. Accenture considers this a “one-time benefit” of 20,000 units reduced at $300 a clip, translating to $6 million in savings.
In this example, the motors will still be purchased, just at a later date, but Accenture is calling it a savings. There may be a business case that demonstrates a reduction in inventory carrying costs, but certainly not 100% of the value of the inventory. Will the City budget be impacted by 100%? Not really, this option simply improves their cash flow position. This lever really gives me pause, because there are tons of vendor managed inventory and other programs that the City should and could be taking advantage of to improve inventory carrying costs, but outsourcing your tool crib to a third party certainly doesn’t translate into a 100% savings for spare parts. Given the current definition, Accenture could make a good amount of money by simply recommending lower inventory levels. Additionally, there is no mechanism for defining the additional cost of presumably higher order quantities now that inventory is cycling quicker (which are in fact accounted for as a savings in Lever #8 below).
Lever #8 -Purchasing Process Improvement. The definition states this is a “Change in purchasing process, resulting in a lower cost to buy.” In the example of savings, Accenture transitions individual buys for each location for a particular item to a centralized demand and buy through a blanket Purchase Order (PO). So instead of issuing dozens or hundreds POs for the same item, scheduled releases come off of one PO. The benefits include “Purchase Price Reduction + transaction process cost reductions”, yet transaction process costs are undefined. So in this case, if Accenture identifies a way to improve a process, they will apply “transaction process cost reduction” to the savings calculation, but they do not spell out how to calculate that reduction in the contract.
Besides the lack of a clear definition, the problem is this really isn’t a cost reduction to the City. Sure, people will be working more efficiently, and additional time available may mean that they will get to projects they didn’t have time for before. In the long run it might even mean the city doesn’t have to hire additional staff. Identifying these types of efficiencies is important, but they have zero budgetary impact. This should be considered a value-add, not a cost savings.
Lever #9 - Operational Process Improvement. The contract defines this as a “Reduction in FTEs given a streamlined or consolidated processes (e.g., centralized planning).” The example includes reducing resource needs by 25%, “through process changes and new automation”. Under this scenario, Accenture Value Added Fees are weighted against 100% of the reduction in staff.
There are numerous issues for including headcount reduction as a form of savings during a strategic sourcing initiative, particularly when working with a government entity. First, it is important to remember a point we covered in our last post on this topic. Once Accenture issues a recommendation, the City has 10 days to accept or disqualify it. After the 10 days pass, the proposal is accepted by default and Accenture is due its fees. Accenture can recommend a headcount reduction, and if the City doesn’t have time to review the recommendation within the allotted timeframe (maybe because they don’t have enough heads), Accenture gets paid, even if the City doesn’t follow through.
Beyond the timeline restriction, which really is a concern of ours for all of the levers, is the problem of the applicability of a clause like this in a government contract. In government, like it or not, it’s very difficult to just get rid of people. Even if the City is overstaffed, which they probably are not, the best they could hope for is the ability to shift resources to other areas. Perhaps Accenture has created efficiency in that the City no longer needs to add headcount sometime in the future, but from a budgetary perspective, there is no net improvement on the books.
The second issue with this lever is that the calculation provided by Accenture takes no consideration into the costs of process improvements or “new automation”. Under their scenario, you can replace a man with a machine and the savings is based on the cost of the man, without factoring in the cost of the machine. Total Cost of Ownership it ain’t.
Third, under Lever #8 we have savings accounted for “transactional process cost reductions”, in other words, for making people more efficient. However, if reducing headcount means a shift of some, if not all, of that FTE’s responsibilities to other workers, shouldn’t the added capacity placed on others be factored into the savings? Efficiency savings run both ways.
Lastly, and possibly most importantly, the project the City has engaged in with Accenture requires a substantial amount of time and effort from city employees. How willing will employees be to work with Accenture or implement their programs if the consulting firm is simultaneously recommending headcount reduction? Yes, FTE reductions should be analyzed, but that initiative should be separate and apart from a strategic sourcing engagement.
Overall, many of the savings levers that result in compensation to Accenture are in line with the City’s goal of budgetary cost reduction. However keep in mind that Accenture gets paid whether the City takes action or not - as long as the City accepts the recommendation. That being the case, some of the levers identified in the contract do not belong there, or at least require further explanation.
In our next post on the Accenture/City of Chicago contract, we will examine termination penalties and what happens if things go wrong. We will then wrap up the series with our take on the contract as a whole, and give our prediction on what the results of this engagement will produce, for both Chicago and Accenture.
----
See the full series:
Part 1 - An Intro to Chicago Accenture Sourcing Deal
Part 2 - Unclear Language and Term Definitions
Part 3 - Analyzing the Accenture Fee Structure
Part 4 - Tracking and Compliance
Part 5 - Resources and Responsibilities
Part 6 - Determining What Counts as Savings
Part 7 - Understanding Termination Clauses and Penalties
Part 8 - Wrap Up, Getting What You Paid For?
Part 9 - Why We Did the Cost Savings Series
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