Paper  on  Procurement  Management    Attention  Karl  Croswhite,  UW  Project  Management  Extension  Class    Date:    April  7th  2010    Author:    Philip  Corsano    Procurement  Management  Process  for  IBM  Project  Company  Sirena  3.    

   

 Background:    Sirena  3  a  special  purpose  Project    company  was  established  in  1991,  by  Aeroflot,  the  monopoly  Russian  Airline  system,  at  the  time  the  largest  airline  system  in  the  world.      My  role  was  to  substitute  the  Project  Manager  in  1998  as  the  project  had  run  into  substantial  difficulties  and  to  restructure  the  Project  so  as  to  be  able  to  deliver  the  required  service  within  budgetary  constraints.    The  objective  of  the  “Project”  company,  [Project]  was  to  provide  a  new  IATA  compatible  airline  reservation  system  to  cover  both,  domestic  [internal  to  the  Former  Soviet  Union]  and  international  flights.    The  total  project  costs  at  the  time  were  estimated  to  be  in  region  of  $450  million,  making  this  the  largest  single  investment  made  in  the  Former  Soviet  Union  in  1991.    The  Project  Sponsors  were:    

IBM  for  the  System  390  backbone;   ATT  satellite  infrastructure  to  link  all  the  remote  areas  of  the  Soviet  Union  to  

the  central  data  base  run  on  a  satellite  farm  outside  Moscow;1   Sabre  reservation  system  software,  an  American  Airlines  Company;   The  whole  operations  were  to  be  project  managed  by  IBM.  

 The  financing  for  the  procurement  of  the  equipment  and  man-­‐hours  necessary  for  the  $450  million  estimate  was  to  be  US  EXIM  bank  financed.    This  required  an  overall  project  procurement  guarantee  by  the  Government  of  the  Russian  Federation.    In  addition  the  Project  would  be  “Project  Financed”  by  means  of  a  $2.50                                                                                                                  1  The  ATT  international  operations  were  purchases  by  GE  Spacenet  in  1997,  GE  Spacenet  became  the  supplier  of  the  satellite  infrastructure,  still  based  on  the  AT&T  architecture.  

per  ticket  reservations  charge  which  would  flow  directly  to  the  Sirena  3  Project  company.    The  estimated  transactions  volume  of  flights  internal  to  the  Former  Soviet  Union  [FSU]  and  internationally  in  1990  were  in  the  region  of  110  million,      Change  in  the  Economic  Environment  in  FSU  1991  -­1998    In  1998  was  asked  by  the  IBM  project  manager  at  the  time  to  turn  the  project  around.    The  business  environment  in  the  FSU  had  changed  substantially  since  1991,  as  the  FSU  had  experienced  a  very  severe  contraction  in  output  as  a  result  of  the  break-­‐down  of  the  FSU  and  amongst  other  issues,  the  establishment  of  the  Central  Asian  republics  of  Kazakstan,  Uzbekistan,  Tajikstan  and  Kyrgystan,  as  well  as  the  seccesion  of  the  Caucasus  republics  of  Georgia,  Azerbajan,  Armeian,  and  several  other  smaller  republics  including  Ossetia.    The  graph  below  show  the  impact  of  the  economic  crisis  on  GDP  experienced  by  the  FSU  from  1991  to  1995.    By  1998  the  Russian  Federation  had  also  experienced  a  default  and  massive  devaluation.    Hence  many  of  the  assumptions  underlying  the  economics  of  the  ticket  reservation  charge  were  found  to  be  severely  wanting.    Most  domestic  flights  were  run  by  regional  carriers,  following  a  “balkanization”  and  deregulation  of  the  domestic  airlines.    There  was  no  “Central”  Aeroflot  purchasing  decision  maker.    Rather  there  were  at  least  20  regional  airlines,  all  which  had  their  own  ticket  reservations  plans,  and  they  had  to  be  convinced  to  buy  into  the  Sirena  3  reservation  system.    Also  by  this  stage,  most  of  the  infrastructure  for  a  150  million/ticketing  reservation  system  for  the  airlines  in  FSU  had  been  committed  to.          GDP  in  USSR  &  Former  Soviet  Union.    

     GDP  went  from  $1,600  billion  in  1990  to  just  over  $300  billion  in  1999.  

     Procurement   Management  Plan  Issues.              

   

   

   

                     

   The  above  chart  shows  how  the  various  suppliers  into  the  Sirena  3  project  company  sourced  the  procurement  process.    Up  to  1998  IBM  Services  [IBM]  was  in  charge  of  dealing  with  all  suppliers  of  the  Project  company,  at  least  all  suppliers  who  were  non  Russian.    IBM  then  had  to  ensure  the  delivery  of  the  procured  items,  [from  the  complete  installed  system  390,  to  the  equipment  for  the  point  to  point  satellite  network,  to  the  Sabre  data  base  that  was  the  engine  of  the  real  time  reservation  system].    The  funding  of  the  procurement  would  be  dealt  with  through  the  Sirena  3  management,  in  particular  the  funding  which  was  covered  by  US  Exim  Bank  and  the  Russian  Federation  Guarantee.        

Sirena  3  Project  Co  

Russian  Govt  Guaranty    V  

US  Exim  Bank  

Sabre  Information  Services  

IBM  Services  

GE  Spacenet  Satellite  Services  

 How  we  dealt  with  Specific  Problems  of  the  Procurement  Process:    

1. Make  or  Buy:  The  make  or  buy  decision  for  Sirena  3  was  a  dynamic  and  complex  process.    The  Project  was  established  in  1991  at  the  time  of  the  break  up  of  the  FSU.    The  technological  solution  at  that  time  was  to  deliver  a  real  time  central  data  base,  based  in  Moscow  at  the  Satellite  Farm  run  by  the  ex  military.    Hence  although  the  satellite  receivers  were  US  built,  much  of  the  infrastructure  used  was  domestic  Russian  manufacture.    This  required  a  substantial  amount  of  integration  effort  between  the  Russian  engineers  of  the  former  military  facility  and  engineers  from  GE  Spacenet.    As  the  Project  progressed,  we  witnessed  more  tension  in  terms  of  the  systems  integration  of  the  base  station  infrastructure  [in  Severni  Aziori]  and  the  regional  sites  for  linking  to  Moscow,  [Moscow  was  linked  in  real  time  to  89  regional  satellite  links  to  ensure  complete  coverage  of  all  the  main  flight  hubs  of  the  FSU].    We  also  witness  a  complete  change  in  terms  of  the  “cheapest  to  deliver  solution”.    The  internet  protocol  [IP]  revolution  in  the  travel  booking  system  was  a  very  real  alternative  to  the  central  data  base  system  envisaged  on  the  Sabre  system.    Hence  the  make  or  buy  decision  was  an  extremely  dynamic  process  that  required  substantial  intellectual  effort  to  ensure  that  the  product  lines  that  were  planned  to  be  delivered  were  in  fact  appropriate  for  the  Project.    In  particular,  once  the  IBM  system  390  was  installed  in  the  central  data  base  location  in  Severni  Aziori,  the  Project  Company  was  locked  into  the  central  data  base  mode.    There  was  no  alternative  then,  but  to  deliver  on  the  central  data-­‐base  architecture  run  on  Sabre.    The  procurement  make  or  buy  decisions  did  shift  in  terms  of  the  following  aspects,  the  choice  for  the  satellite  to  be  used:    

Astra  Geostationary,  satellite,  which  reached  mainly  European  Russian;   Northern  Russian  Ex  military  satellite,  which  covered  most  of  Siberia,  

Northern  regions  and  Russian  Far  East;        The  decision  was  made  to  use  the  Russian  Northern  satellite,  for  the  remainder  of  its  expected  useful  life,  [expected  5  years  but  these  satellites  have  shown  far  longer  expected  useful  lives].    The  decision  was  supported  both  by  the  reach  of  the  satellite  and  the  cost  of  the  satellite.    This  reduced  the  overall  Project  operating  costs  substantially,  but  required  a  major  investment  in  terms  of  the  integration  of  the  GE  Spacenet  equipment  to  ensure  continuous  service  coverage.    Russian  Northern  satellite  is  not  Geostationary.    It  has  an  elliptical  orbit  over  the  Northern  Hemisphere  that  requires  adjustment  to  the  ground  station  tracking  equipment.    The  Present  Value  of  this  investment,  when  compared  to  that  of  the  alternative  Geostationary  equipment  justified  the  “Make”  decision.    However  there  was  a  substantial  risk  of  delivery,  as  this  was  a  “new”  technical  solution  and  one  that  had  not  been  planned  for  in  the  original  project  plan.    Nevertheless,  the  solution    proved    

be  effective  and  was  able  to  be  integrated  into  the  system  390  and  Sabre  proprietary  airline  data  base.      This  is  a  classic  case  of  the  Project  Team  exercising  expert  judgement  in  conjunction  with  technical  experts  who  were  able  to  certify  that  the  system  would  be  able  to  integrated  into  the  GE  Spacenet  infrastructure,  even  though  we  were  dealing  with  unknown  ex  military  Russian  suppliers  in  terms  past  performance  and  reputation.    

2. Procurement  Statement  of  Work:    By  the  time  of  my  involvement  with  Sirena  3,  in  January  1st  2008,  the  Project  company  had  at  least  had  two  or  three  statements  of  work,  which  had  evolved  from  the  inception  of  the  Project  in  early  1991.    The  initial  statement  of  work  had  been  based  on  the  assumption  of  a  110million/passenger  year  volume.    The  Russian  Federation  guarantee  for  the  entire  foreign  procurement  of  the  Project  company  was  back-­‐stopped  by  US  EXIM  bank,  so  the  statement  of  work  and  documentation  elements  of  this  Project  were  extensive.    As  discussed  in  the  section  on  the  change  in  economic  environment  of  the  FSU,  the  economic  basis  of  the  Project  changed  substantially  from  1991  -­‐1998.    When  I  was  elected  to  become  the  Project  manager,  the  Project  was  severely  behind  in  its  payments  to  the  three  main  suppliers,  IBM,  GE  Spacenet  and  Sabre.    Many  of  the  statements  of  work  had  to  be  completely  revisited  to  be  made  congruent  with  the  new  economic  reality  the  Project  company  operated  in.    In  the  first  three  weeks  of  my  assignment,  I  had  to  read  all  the  agreements  between  the  parties,  and  it  became  clear  that  the  main  statement  of  work  that  needed  extensive  revision  was  the  Sabre  component.    This  was  in  part  because  the  IBM  System  390  had  been  delivered  and  installed  as  per  contract,  as  was  for  the  main  part  the  GE  Spacenet  equipment,  save  for  the  modifications  on  the  Satellite  tracking  system  as  described  above.    With  Sabre  the  problem  was  complex.    Without  the  Sabre  software  engine,  [a  proprietary  development  of  American  Airlines],  the  system  was  dead.    Yet  the  very  premises  upon  which  the  software  architecture  was  based  appeared  to  be  obsolete.    There  was  no  monolithic  purchaser  in  Aeroflot.    There  was  Aeroflot  international,  and  at  least  40  baby  Flots,  which  included  several  sovereign  airlines,  like  those  of  Kyrgyzstan,  Uzebekistan,  as  well  as  Sibir  Air,  Bashir  Avio  and  many  such  smaller  airlines  which  had  begun  to  operate  in  a  newly  unregulated  competitive  environment.        The  Sabre  architecture  and  software  solution  did  not  have  multiple  buyers.    Hence  I  had  to  request  Sabre  to  completely  rewrite  whole  sections  of  the  software.    The  new  solution  would  be  targeted  to  the  requirements  of  the  independent  and  competitive  airlines.    This  was  a  complex  matter  both  from  an  economic  and  negotiation  standpoint,  [Sibir  Air  competed  directly  with  some  airlines  on  routes  to  say  Khanty  Mansysk  in  Siberia]  as  well  as  from  a  contracting  and  procurement  standpoint.    The  

Project  was  substantially  behind  schedule,  and  Sabre  had  not  been  paid  for  its  last  delivery  of  work,  because  the  Project  had  no  more  funds.    The  contracting  also  included  a  clear  “Project  Completion”2  clause,  and  Sabre  had  not  completed  its  part  of  the  work.    This  was  not  entirely  attributable  to  a  Sabre  failure  as  has  been  discussed.    Hence  I  had  to  call  a  Sponsor  meeting  in  which  we  agreed  the  following:    

That  Sabre  would  run  a  pilot  for  one  of  the  domestic  Baby  Flot  airlines,  [Bashkir  Avio],  with  the  objective  of  proving  the  system’s  effectiveness;  

That  the  debts  that  had  been  incurred  with  all  suppliers  would  be  pro-­‐rated  and  extended,  such  that  each  of  the  three  suppliers  would  share  in  the  economic  pain  resulting  from  extending  the  time  horizon  of  their  payments.  

 The  meeting  was  highly  contentious  as  can  be  imagined.    The  two  suppliers  who  had  completed  their  project  requirements  were  understandably  reluctant  to  take  any  further  risk  and  delay.    Especially  because  Sabre  was  the  only  supplier  to  be  in  substantial  delay  relative  to  the  Project  schedule.    However,  given  the  Project  Completion  clause,  all  suppliers  were  jointly  and  severally  liable  for  non  completion.    Hence  the  alternative  was  either  walk  away,  litigate  and  bankrupt  the  Project,  or  accept  the  extension  of  payment  terms,  until  the  Sabre  delivery  of  the  Bashkir  Avio  pilot.    In  the  end  we  reached  agreement,  and  I  was  not  the  most  popular  person  for  a  while.    The  project  was  safe  for  a  few  more  months  and  extensive  and  expensive  litigation  was  averted.      

3. Procurement  Documents:    

These  included  amongst  others  anti-­‐bribery  clauses  in  compliance  with  the  WTO  directives  on  anti  corruption  in  public  procurement,  as  well  as  the  usual  technical  statements  of  need,  in  Russian  and  English.    There  was  a  substantial  intellectual  property  element  in  all  the  procurement  documents  which  covered  among  other  things,  the  Sabre  software  license,  the  IBM  System  390  operating  system  license,  the  GE  Spacenet  proprietary  technology  for  the  Satellite  uplink,  as  well  as  the  Russian  satellite  procurement  contracts  with  the  Russian  military  regarding  use  of  bandwith  in  the  FSU.    All  these  documents  required  substantial  updating  and  revisions  as  a  result  of  what  is  described  in  2  above.    

                                                                                                               2  Project  completion  is  a  legal  term  in  Project  Finance  Management.    It  states  that  the  risk  of  the  project,  if  not  complete  and  tested  in  accordance  with  requirements  of  the  Project  Manager,  rests  with  the  suppliers.    This  is  a  very  effective  discipline  for  managing  complex  procurement  processes  in  large  projects  like  Sirena  3.  

PROJECT  PROCUREMENT  DIAGRAM  FOR  SIRENA  3.      

         

   

 

 

   

   

     

   

     

4. Source  Selection  Criteria:    The  source  selection  for  the  Sirena  3  Project  was  determined  for  the  main  part  when  the  three  main  suppliers  and  Sponsors  of  the  Project,  [IBM.  GE  Spacenet,  and  Sabre]  underwrote  the  project  and  the  assumption  behind  the  Project,  which  at  the  time  [1991]    was  the  largest  single  direct  investment  in  the  infrastructure  of  the  FSU.    There  was  substantial  work  though  in  the  selection  and  sourcing  of  Russian  suppliers.    We  had  to  establish  a  system  for  performance  reporting  for  these  suppliers,  together  with  inspections  and  audits  of  the  work  performed,  and  compliance  with  IATA  standards.    There  was  also  a  procurement  closure  process  which  was  common  to  all  suppliers.    One  of  the  main  problems  we  had  was  the  anti-­‐bribery  clauses  in  our  contracts  which  were  required  under  US  Statute,  because  of  US  Exim  bank  involvement.    We  had  to  obtain  special  VAT  exemptions  for  the  equipment  imported,  given  the  that  Russian  Federation  was  ultimate  guarantor.        

Sirena  3  IBM  Quality  Control  

Human  Resouces  

Schedule   Project  Cost  Management  

Risk  Management  

Project  Scope  Definitions  1998  Revised    

Integration  Russian    Suppliers  

Satcom  Communications