Shared services under the Public Contracts Regulations 2015

Shared services involve public sector bodies working or joining together to pool knowledge, skills and resources in the development or delivery of services (most commonly administrative or back office functions).

As discussed below, there are a variety of models available including new models such as: those involving a range of different organisations (eg, a local authority, a university and an NHS foundation trust), those that aim to generate a commercial return and public service mutuals.

The main drivers are to improve efficiency and save costs through pooling resources and/or aggregating demand. For some models there may also be an opportunity to create new revenue streams, for example, by selling HR services to other public or private sector bodies. Creating or using a centralised service provider can also concentrate expertise and so deliver higher quality services to customers. Depending on the structure, the opportunity to save VAT may also be available.

There are variety of models available, ranging from relatively loose, informal working arrangements and joint procurement to the creation of new corporate vehicles. Examples of these include: 

• Framework agreements for several customers: An NHS body may procure a framework agreement for back office support services on behalf of itself and other NHS bodies in its area.
• Joint purchasing. Two further education colleges decide to jointly outsource their back office finance and payroll function to a private sector company.
• Public sector co-operation: Four local authorities sign a co-operation agreement for the reciprocal treatment of waste.
• In-house (Teckal) company: Three further education colleges merge their finance and accounting functions by establishing a jointly owned limited company to provide those services, as shown below:

• Joint venture: A university enters into a joint venture with a private sector company to provide HR and payroll services for both the university itself and other universities in the region, as shown below:

• Informal joint working: Two local authorities work together on a project without any formal contract between them.
• Joint appointments or employment: Two clinical commissioning groups jointly appoint a Head of Procurement to be the procurement lead for both organisations.

If a public body is a “contracting authority” as defined in the 2015 Regulations, the procurement rules will apply where it lets services contracts over the relevant financial threshold. 

Subject to the exceptions discussed below, this applies even where the contract is between two public bodies. As a result, many shared services arrangements can fall within the scope of the Regulations as they often require over-threshold contracts for services to be put in place. Those structures where the Regulations may apply (to at least an element of the structure) and those falling outside the Regulations are listed below. 

The 2015 Regulations may apply: 

• Joint purchasing
• Framework agreements
• JVCo's (with private sector)
• Employee mutuals (currently)

The 2015 Regulations probably do not apply: 

• "Teckal" companies
• Co-operation among contracting authorities in the carrying out of public functions
• Informal joint working
• Joint appointments/employments

While informal joint working or joint appointments will usually fall outside the 2015 Regulations (because there is no contract for services), bear in mind that arrangements may initially be informal but may evolve over time into more definite structures to which the Regulations may apply. 

The other two key models which are not caught by the 2015 Regulations are where: 

• Services are provided by an in-house or “Teckal” company; and
• The arrangement can be viewed as co-operation between public bodies in relation to a public task which they each have an obligation to perform.

We look at the structure and legal test for both of these models below: 

The in-house or Teckal company

Here a contracting authority/contracting authorities can avoid the procurement regime by establishing a “Teckal” company to provide the services (named after the case which first established the exemption). 

At present, the legal test is set out in Regulation 12(1) and, broadly speaking, has three parts: 

1. The “control test”: the contracting authorities must exercise [joint] control over NewCo similar to that which they exercise over their own departments. This means they have the power to exert decisive influence over strategic objectives and significant decisions of NewCo. Importantly, NewCo cannot include any private sector capital or interest; and
2. The “essential part test”: NewCo must carry out at least 80% of its activities with the controlling contracting authorities. Other activities are of only “marginal” significance. NewCo is not market orientated.
3. There is no direct private sector shareholding in NewCo.

Given these three tests, this structure will be unsuitable for more complex shared services arrangements designed for commercial exploitation (as no private sector investment/ownership is permitted nor may NewCo do any significant business with third party customers). However, for simpler structures, it provides a useful model. 

The “co-operation” in a public task model

Another EU procurement case, Hamburg, established that genuine co-operation between public bodies to jointly fulfil a public task which they each have a duty to perform, will also fall outside of the procurement regime. Currently, to meet the test set out in Regulation 12(7),  the “contract”: 

• Must be concluded in a framework of genuine cooperation between the participating contracting authorities: aimed at carrying out jointly their public service tasks (ie, different in character to a contract for services);
• Involves co-operation only between public entities;
• Is non-commercial in character (with only a maximum of 20% of the activities concerned being carried out on the open market)
• Is governed solely by considerations and requirements relating to the pursuit of objectives in the public interest and is of little or no interest to a private sector supplier.

As with Teckal, this exemption will not assist where contracting authorities wish to use the shared services vehicle for commercial exploitation.

In addition to working through the public procurement issues associated with any shared service structure, there will be a number of other legal issues and challenges to consider. These include:

• Limitation of liability and indemnities. The arrangements should protect each of the public bodies against the possibility of a breach by one of the partners (or any JVCo, NewCo or other private partner).
• Data protection and Freedom of Information. If the arrangement involves the sharing of personal data, each of the public bodies involved must have the power to share data with other organisations and must comply with data protection law and Human Rights Act 1998. Whether any new vehicle established is subject to the Freedom of Information Act will also need to be considered.
• Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE). If the arrangement involves the transfer of any staff, the TUPE regime will bite to protect employment conditions for transferring staff. Pensions arrangements for transferring staff will also need to be considered.
• Powers. The contracting authorities involved must ensure they have the statutory powers to enter into the arrangements to avoid these being “ultra vires”
• Corporate vehicle issues. Where the arrangement contemplates the establishment of a new corporate vehicle, its legal structure, shareholdings, governance, powers, voting rights and exit arrangements must also be considered. This will be of particular importance for Teckal companies whose structure must still satisfy the legal test.
• Tax treatment: Some shared service models have the benefit of favourable tax treatment and can make savings on VAT. Models wishing to take the benefit of this must be structured carefully to ensure they satisfy HMRC’s requirements.

Where there are different types of public body involved, there may be different limitations and governance/tax issues for each depending on their legal form. The participating bodies may also have different interests and incentives, all of which will need to be considered and reconciled.