The Pacheco Law has over the years been one of the more effective available checks on the runaway privatization of state services.
But the law, which has been the target of continual attacks from privatization proponents, is facing a new challenge, and this time it’s from an unlikely source — the office of State Auditor Suzanne Bump herself.
Bump’s office is charged with overseeing the law, which requires that state agencies seeking to privatize services must first make the case to the auditor that doing so will both save the taxpayers’ money and maintain or improve the quality of the services. Given the prominent role her office plays, it isn’t surprising that Bump has been one of the law’s most effective and vocal defenders.
But COFAR is now joining with state employee unions in opposing a number of provisions in a set of regulations, which Bump’s office has recently proposed to govern the continued implementation of the law. Although the Pacheco Law, also known as the Taxpayer Protection Act, has been in effect since 1993, it is only now that the auditor’s office has proposed regulations regarding the law. The comment period on the regulations ends October 31.
We are in agreement with the unions that a number of provisions in the proposed regulations, as they are currently drafted, would appear to make the Pacheco Law less effective in ensuring that when agencies privatize services, they do so for the right reasons.
In recent years, the Pacheco Law has been embroiled in political battles over the privatization of services and functions at the MBTA. The law has also played a more limited, but still contentious, role in the ongoing privatization of human services in Massachusetts.
Last year, Bump’s office approved a proposal under the Pacheco Law to privatize mental health services in southeastern Massachusetts after the for-profit Massachusetts Behavioral Health Partnership (MBHP) claimed it could save $7 million in doing so.
Prior to the auditor’s decision in the MBHP case, we joined the SEIU Local 509 and the AFSCME Council 93 state employee unions in raising concerns about that privatization proposal. We saw some potentially troubling aspects of the proposal that we thought might be realized due to existing loopholes and ambiguities in the Pacheco Law. But we think the solution to that situation should be to strengthen the law, not weaken it.
The first and fourth objections below to the proposed Pacheco Law regulations have been raised by us in written comments sent last week to the state auditor. The second and third objections were raised in preliminary testimony submitted to the auditor last month by SEIU Local 509, and the fifth objection was raised in testimony submitted by AFSCME Council 93:
1. A provision in the proposed regulations would appear to give state agencies an incentive to boost the actual cost of their in-house services if a Pacheco Law review determined that those services should not be privatized.
As part of the review process under the Pacheco law, a state agency seeking to privatize services must demonstrate to the auditor that contracted services would cost less than an In-House Cost Estimate, which is described as “a comprehensive written estimate of the costs of regular agency employees’ providing the subject services in the most efficient and cost-effective manner.”
That requirement lies at the heart of the Pacheco Law because it is meant to ensure that if services are privatized, taxpayers will indeed save money.
The proposed regulations appear at first glance to bolster that cost-saving purpose in stating that if the work is retained in-house after a Pacheco Law review, the state agency is expected make sure the actual work stays within the In-House Cost Estimate.
But the regulations then go on to state that if the agency fails to keep the actual in-house costs down, the agency may issue another request for bids or reopen negotiations with the contractor that would have been the successful bidder under the earlier request for bids.
This provision in the regulations is not in the language of the Pacheco Law itself. And rather than ensuring that costs of in-house services would stay below the In-house Cost Estimate, we think the provision might actually have the opposite effect.
That is because the penalty on the agency for failing to keep the in-house costs down is actually something that the agency would consider to be beneficial to it, i.e. the agency would now be free to privatize the service. It could either issue another request for bids or reopen negotiations with the contractor that lost out to the state employees in the previous review by the auditor.
The regulations do not state that a subsequent review by the auditor would be required under the Pacheco Law if the agency decided to reopen negotiations with the contractor.
In any event, the same state agency that filed under the Pacheco Law to privatize a service would be allowed to keep getting further bites of the privatization apple if it failed to keep in-house costs under control. Thus, this provision would appear to give the agency an incentive to allow in-house costs to rise or even to actively boost those costs in order to do what it wanted in the first place – privatize the service.
Further, there is no provision in the proposed regulations that would require the agency to restore the in-house provision of the service if the service were privatized and the agency was unable to keep the contracted service costs from rising. Thus, our concern is that this provision in the proposed regulations may actually encourage higher costs of both contracted and in-house services rather than serving, as the Pacheco Law intended, to keep those costs low.
2. The proposed regulations appear to weaken provisions in the Pacheco Law that are meant to ensure continuing quality of services.
The Pacheco law, as noted, requires that in addition to demonstrating a cost savings, a state agency seeking to privatize services must demonstrate to the auditor that the quality of the services provided by the private bidder will equal or exceed the quality of services done by state employees.
The proposed regulations state that the agency’s privatization proposal must include a Written Scope of Services that relies on one or more of six performance measures including quality, timeliness, quantity, effectiveness, cost and/or revenue.
Those enumerated performance measures are not in the actual language of the Pacheco Law. But that’s not the problem. The problem lies in the “one or more” statement regarding the performance measures.
As SEIU Local 509 notes, the regulatory provision implies that an agency could choose just one of the performance measures listed in the Written Statement of Services and ignore the rest, and still potentially be certified by the auditor as having satisfied the requirements of the statement.
For instance, a company might provide services that are provided in just as timely a manner as they are provided by state employees, but that does not mean that the private company will provide the services as effectively as state employees or provide the same quantity of services as the state employees provide.
We agree with Local 509 that the regulations should be reworded to require the vendor to demonstrate that it will either equal or exceed all six of the performance measures in the Written Statement of Services.
3. The proposed regulations fail to ensure that contractors will not cut wage rates or health benefits of staff after the contract is renewed.
Under the Pacheco Law review, an outside contractor’s proposed bid to privatize a service must specify a minimum level for wages and health care benefits for its employees.
However, the Pacheco Law does not require a new review by the auditor when a privatization contract expires after five years, and is renewed. As a result, the SEIU and COFAR have raised the concern that a contractor that wins a contract under the Pacheco Law could cut its wage rates and health benefits once the contract was renewed at the end of its minimum five-year term.
According to the SEIU, the Pacheco Law, however, is written in such a way that regulations could be drafted that would require the contractor to maintain existing wage levels and health care benefits when the contract is renewed. The regulations, as drafted, however, do not address that potential outcome.
As the SEIU noted, the language in the regulations related to minimum wages and health insurance benefits of a successful bidder for privatized services avoids stating that these requirements continue on after the expiration of the original privatization contract.
We raised a concern along with the SEIU last year in the mental health service privatization case that the Baker administration was interpreting the Pacheco Law to allow MBHP, the for-profit company, to cut its proposed wage rates within roughly a year after starting to provide those services and potentially to pocket the extra profits. Citing that and other issues, the SEIU ultimately appealed auditor’s approval of the privatization case to the state Supreme Judicial Court, which upheld the auditor’s position.
The SEIU later noted that neither the auditor nor the SJC addressed the concern about potential cuts in wages and benefits under renewed contracts. We believe the regulations should state that a contractor cannot attempt to evade the intent of the Pacheco Law by reducing wages and benefits of employees when the contract expires or is renewed.
4. The proposed regulations require the In-house Cost Estimate to include equipment depreciation, which inappropriately reflects a sunk cost
The proposed regulations state that in determining the in-House Cost Estimate as part of a privatization submission to the auditor, the state agency must consider equipment depreciation, among other things, as a direct cost of in-house services.
The regulations state that depreciation is a calculated cost based on the acquisition cost of equipment or other assets plus transportation and installation costs.
It would seem that requiring depreciation to be included in the In-house Cost Estimate would make it easier for the contractor to beat that cost estimate. At the same time, an acquisition cost is a sunk cost. As such, we do not believe it is relevant in any price comparison going forward.
As Investopedia notes in an article on sunk costs, a sunk cost is:
… a cost that cannot be recovered or changed and is independent of any future costs a business [or public agency] may incur. Since decision-making only affects the future course of business, sunk costs should be irrelevant in the decision-making process. Instead, a decision maker should base her strategy on how to proceed with business or investment activities on future costs.
It seems to us that the acquisition cost of a piece of equipment is a cost that cannot be recovered or changed and is independent of any future costs the agency may incur. More importantly, the depreciation expense associated with an asset cannot be avoided in the future through the privatization of a service.
Say an agency buys a van to transport clients as part of a service that it wants to privatize. Once the van is purchased, it’s a sunk cost even if that cost is depreciated for accounting purposes over the useful life if the vehicle.
As we understand it, the purpose of the Pacheco Law is to compare contractor bids with in-house costs that are considered likely to be avoided in the future if a service is privatized. As the auditor’s Guidelines for Implementing the Commonwealth’s Privatization Law (June 2012) state:
When determining the potential cost savings associated with the contracting out of a service, the appropriate in-house costs to use in the comparison are the avoidable costs (P. 13). (my emphasis)
Even if the agency privatizes the service for which the van is used, the sunk cost incurred in purchasing that van cannot be avoided even if the agency might avoid the cost of directly paying the driver, for instance.
The Pacheco Law itself does not specify which costs must be considered in calculating the in-house cost of providing services other than stating that those costs should include, but not be limited to, pension, insurance, and other employee benefit costs. For that reason, we believe that equipment depreciation costs should not be included in developing the In-House Cost Estimate.
5. The proposed regulations fail to define “permanent employee,” and therefore provide a loophole for circumventing the Pacheco Law
Both the Pacheco Law and the proposed regulations define a “Privatization Contract” that is subject to the law as an agreement “…by which a non-governmental person or entity” provides services that are “substantially similar to” services provided by “regular employees” of the agency.
The problem here is that the law itself doesn’t define the term “regular employee,” and the regulations do not make things much clearer. In fact, the regulations simply state that a “regular employee” is a “permanent employee.” The regulations do not offer any further definition of “permanent employee.”
AFSCME Council 93 notes that the definition of “regular employee” as simply a “permanent employee” creates a potential loophole that could allow agencies to privatize services without a Pacheco Law review.
In fact, it appears that is exactly what happened earlier this year. AFSCME claims the lack in the Pacheco Law of a clear definition of a “regular employee” allowed the state Department of Conservation and Recreation to privatize parking fee collections at state beaches without a Pacheco Law review because the work supposedly involved short-term seasonal workers and not permanent employees.
AFSCME points out, however, that the DCR’s short-term workers are hired on a regular schedule each year in the same way as the department’s long-term seasonal employees who are covered by a collective bargaining contract.
Moreover, even though the contractor chosen by DCR sweetened the privatization deal by offering the department an upfront payment of $1.2 million, AFSCME stated that the privatization deal was still projected by the department to cost taxpayers $500,000 more than keeping the service in-house.
We support AFSCME’s suggestion that at the very least, the regulations should define regular or permanent employees as including any state or public higher education worker covered under a collective bargaining agreement.
In sum, we support the auditor’s efforts to clarify the Pacheco Law as much as possible through the issuance of regulations. We would just urge the auditor to make the changes that we and the unions are suggesting in this case.