This is a blog post to evaluate the Pharmaceutical Industry. Specifically, we’ll be discussing its challenges in managing high complexity levels and recommended strategies to deal with them. In part one of this two-part series, I’ll review:
- Current supply chain performance benchmarks in the Pharmaceutical industry
- Pharmaceutical Supply Chains, in general
- Key issues in the Pharmaceutical industry
In Part two of this blog, I will introduce Integrated Business Planning and related decision analytics as a strategic response to managing complexity and delivering best-in-class business performance.
Supply Chain Performance Benchmarks
When compared with Consumer Products or High-Tech, Pharmaceutical Supply Chains are still largely work-in-process. Let's take a quick look at some key metrics that define Supply Chain Excellence. This data is per AT Kearney’s 2014 Supply Chain Panel report.
- Customer Service Level: average service levels at 94.5% are 5% lower in Pharmaceutical when compared to Consumer Products. If we examine average service level achieved by generic pharmaceutical companies based in India, the numbers drop even further to less than 90%.
- Days of Inventory: 53 days for best in class Consumer Products compared to 117 days for best in class Pharmaceutical. Pharmaceutical average performance is 178 days.
- Forecast accuracy at N-3 cycle in Pharmaceutical: 61% on average compared to 90% for best in class companies.
- Total supply chain cost as % of COGS in Pharmaceutical: 17% on average compared to 10% for best in class companies. This metric is in 30% or more range for generic pharmaceutical companies in India.
Understanding the Structure of Pharma
Before we dive into the complexities and challenges that Business Planners in pharmaceuticals frequently face, let’s start with some basic background. Below is a list of key groups within the Pharmaceutical Industry:
- Large R&D based Giant Branded Companies: These have a global market presence in branded products supported by a global manufacturing base.
- Large Generic manufacturers: These get into multiple markets with generic versions of blockbuster drugs as they come off-patent. They are often supported by a regional manufacturing base.
- Single Country Manufacturing Companies: These produce branded products or generic drugs under license or contract.
- Contract Manufacturers: Such manufacturers have no product portfolio of their own. Instead, they help manufacture key intermediates, API, or final products, as they provide outsourcing services.
- Drug Discovery and Biotech companies: These are often smaller start-ups with no significant manufacturing capacity
Now that we’ve understood the five main groups within pharmaceuticals, let’s have a look at the various echelons within the supply network.
1. Primary Manufacturing / Active Pharmaceutical Ingredient (API) Manufacturing: This involves several chemical synthesis and separation stages resulting into long manufacturing lead times and high inventory between stages to buffer and stabilize manufacturing campaign against downstream demand volatility. It also includes QC check points before API material can be fed to downstream manufacturing. See below.
2. Primary Suppliers: needed ingredients for Primary / Active Pharmaceutical Ingredient (API) Manufacturing
3. Secondary Suppliers: Packaging materials for Secondary / Dosage Formulation (DF) Manufacturing. Same API material can be converted into multiple DF forms: Injectibles, Capsules, Tablets, Syrups, etc.
4. Secondary Manufacturing / Dosage Formulation (DF) Manufacturing: This takes the API from upstream, adds excipient inert materials, followed by further processing (granulation, compression, coating, etc.) and packaging to produce final products in SKU form. Secondary manufacturing sites are separately located from primary sites to optimize tax, transfer pricing, etc.
5. Market Warehouses / Distribution Centers: to store Finished Products in end-markets.
6. Wholesalers: e.g., HMOs in US
7. Retailers / Hospitals: Pharmacies or other Retailers like the ones at CVS or Target; or Hospitals like Kaiser Permanente.
Key Challenges in Pharmaceutical Industry
The Pharmaceutical Industry is quite unique within the supply chain space. Not surprisingly, it faces a number of unique challenges that are only very slowly being addressed by existing supply chain planning and optimization tools. Below, we discuss some of the key challenges within the industry.
Pharma Faces a Tough Business Environment
A Global marketplace is leading to increased competition from Generics for Branded players — at the same time, the business environment remains tough overall with eroding margins and increasing regulatory pressures. Governments in many countries are concerned about aging populations and increasing healthcare costs thus leading to encouragement of generics when/where available. Meanwhile, healthcare payers are also putting pressure on prescribers to move towards low-cost generics. This shortens patent lives while increasing patent litigation is reducing a patent's ability to act as an entry barrier. Multiple options are now available in terms of generic alternatives to most branded drugs.
Much of the future growth in pharma is coming from Emerging Markets. This also means that further production sites will gravitate towards Asian markets to enable local market access and cost efficiencies for the Global Giants who have branded product portfolios. New routes to market are evolving as payers, pharmacies, and other retailers work closer with Pharmaceutical companies. Most Generic Pharmaceutical companies believe the traditional Wholesaler model is not going to survive.
Stringent & Expensive Regulation
Tighter regulations have begun to hinder innovation and agility, thus leading to a decline in Research and Development (R&D) productivity, i.e., the number of new drugs compared to the R&D investment.
Product & Process Development Complexity
Drug discovery and development processes continue to be drawn out and costly affairs with uncertain outcomes, both in terms of timing as well as the success of getting approved and patented drugs. These include clinical trial failures, market withdrawals due to side effects and competition from similar products.
Given the high costs and risks, executive focus is on managing downside risk rather than chasing returns — this all can hinder innovation.
Further, complex problems of chemistry and yield optimization have resulted in slow, inefficient manufacturing processes. This leads to higher batch sizes and longer cycle times than necessary.
The Pharma industry is riddled with problems around demand uncertainty. Below are a few of the key demand uncertainties facing pharma today:
- Uncertainty in new products pipeline due to uncertain clinical trial outcomes
- Uncertainty in existing SKUs due to competition
- Uncertainty in extending protected phase through new formulations
- Poor forecast accuracy from Market teams further compounds the inventory planning challenge, resulting into poor supply chain metrics in this industry
- Long tail. SKU portfolios spiraling out of control. Quite often, new products are still at 10% of projected revenue levels 2-3 years into the launch. Marketing teams are unwilling to rationalize SKU portfolio and simplify Supply Chain Operations waiting for the SKUs to mature.
- Low revenue from Emerging markets. Too many players and small market size for generics. High supply chain complexity due to low levels of demand with lumpy patterns. Management unwilling to exit certain low-performing emerging markets.
- Market teams do not want a lost sales scenario due to inventory stock-outs. This leads to Market teams providing the most optimistic market forecasts. This results in second-guessing true demand by upstream planning leaders at secondary manufacturing sites. The end result: demand / supply imbalances and finger-pointing
Demand Planning occurs at regional/national level which is then transmitted through the network to the Global/Regional manufacturing plants. Secondary (DF) manufacturing is pull-driven and based on market demands, while primary (API) manufacturing is push-based with long lead times and changeover inefficiencies. De-coupling of API and DF processes is desirable, but increases the inventory risk of API strategic buffer at DF sites due to the perishable and costly API product. API plants face the bullwhip effect of being multiple tiers upstream and DF batch sizing.
Yet another responsiveness challenge is complex manufacturing processes leading to non-responsive supply chains. This results in a bottlenecked supply chain with low velocity in both Primary (API) and Secondary(DF) stages, due to long manufacturing lead times (given multi-stage chemical synthesis in API) as well as excessive Quality Control checkpoints that help reduce risk but slow down material flow.
There exist long, costly downtime between products given the need to avoid cross-contamination of products and requirements for validated cleaning and changeovers. This leads to long campaigns to optimize asset utilization, which increase risk of inventory obsolescence if forecasted demand does not materialize within available shelf-life time frame.
All of the aforementioned problems greatly limit the overall responsiveness of pharmaceutical supply chains. Complexity inherent in this environment leads to local optimization at the cost of global optimization. As a result, pharmaceutical supply chains are non-responsive when compared to other leading verticals like Consumer Products or High-Tech.
Supply Chain Collaboration, Warehousing, Transportation Challenges
Global, fragmented supply chains
Pharmaceutical supply chains include multiple agents with different objectives. Their internal dynamics adds turbulence to the Coordination is complex given growing pattern to outsource manufacturing and tight capacity constraints. Multiple trading partners (3rd party API manufacturing, 3PLs,) and disconnected planning processes between market facing teams and production oriented teams. This creates another level of turbulence on top of an inherently volatile external demand environment. The distributed decision making is often sub-optimal, silo focused, and leads to tensions in the supply chain.
High logistics cost
Complexity of a temperature managed supply chain. High inventory cost due to high levels of waste in market inventory given perishable product, uncertain demand, lack of alignment on true net requirements, and current practices of running large production campaigns in API given costly changeovers.
Carrying & forwarding agents in the Distribution Network
The presence of Carrying & Forwarding C&F agents in the Distribution Network adds to network complexity in the Pharmaceutical Supply Chain (apart from Manufacturing Warehouses, Regional Distribution Centers / Hubs, Market Facing Distribution Centers). Network configuration from a planning perspective is different from the actual logistics purpose. For this reason, the results of Distribution Requirements Planning need to be mapped back to the physical logistical network location level for the actual transport/shipment orders.
Production Planning Immaturity
Secondary / DF Manufacturing facilities focus on converting net demand to fixed lot sizes in Manufacturing as they plan production on various assembly lines. Typical lot sizes are large: they can be a million tablets or higher.
At the DF packaging, there is an added complexity at the labeling end as the country specific demand need to carry country specific labels (both language and requirements specific). Most companies are now providing a decoupling point between primary packaging and secondary (country specific) packaging.
API-dependent demand and DF forecasts-based Production Planning is not orchestrated in an integrated way. There is API related production optimization (given 10-12 level deep BOM it is a plant specific and FG product specific optimization- kind of binning problem in Semiconductors) in API facilities.
Secondary / DF Manufacturing is being scheduled based on short term, firm orders. In general, downstream DF planners are not aware of or do not care about API upstream constraints.
Primary / API Manufacturing process is still operating with long campaigns, which bottlenecks the whole Pharmaceutical Supply Chain. Trade-offs are not evaluated (e.g., API changeover cost and inconvenience against overall Supply Chain Responsiveness).
Product Traceability / Integrity
Counterfeit drugs are a major headache and they impact both patient health and the Pharmaceutical players' brands. Counterfeit drug volume is up to 30% in the Developing world. Companies need to meet Track & Trace directives and new serialization regulations that require inventory to be auditable throughout the supply chain.
Capital Investments & Capacity Planning Lead Times
Time-to-market is the most important driver for success in the Pharmaceutical industry. Pharmaceutical business leaders need to place mid-to-long-term capacity bets in the face of highly uncertain demand environment (uncertain clinical trial outcomes, unknown competitor activity & strategies).
It's hard to determine capacity requirements and make capital investments given long lead times to add capacity. This means capacity decisions need to be made far in advance of having reliable demand data. Tough regulatory & Quality environment slows down the speed of capacity expansion. Delaying capacity decisions is not an option given the Time to Market strategic imperative in Pharmaceutical industry.
Taxation driven Supply Network Design
Tax implications take priority over logistics considerations to take advantage of tax haven status for a certain duration. This results in complicated supply chains going in and even sub-optimal supply chains once the tax advantage expires. Plants are designed with decade-old manufacturing technology suited for batch job production instead of continuous flow based processes.
Missing Executive Support
Management focus has been on Drug Discovery- and Market-oriented activities, e.g., Sales & Marketing. Hence, supply chain has not been traditionally seen as a value enabler. Supply chain is mostly just a cost optimization opportunity while the focus is on moving product securely and efficiently.
The average pharmaceutical company has a ways to go with respect to reaching its potential for supply chain excellence. Volatile demand and complex product portfolios hinder forecast accuracy efforts, especially within large Generics providers. There is also a large gap between Inventory turns of Pharmaceutical supply chains when compared to the Consumer Products supply chains.
This brings us to the end of Part 1 of this two-part blog post. To summarize, we reviewed current supply chain performance benchmarks in Pharmaceutical industry, an overview of Pharmaceutical Supply Chains, and key issues facing today.
In Part 2 of this blog, I will introduce Integrated Business Planning and related decision analytics as a strategic response to manage the complexity and deliver best in class business performance.
Ashutosh Bansal is the Founder & CEO of GitaCloud.
Incorporated in Delaware in 2015, GitaCloud is on a mission to help enterprises and people make better decisions. GitaCloud Principals are seasoned Supply Chain Executives (ex- VP Supply Chain from Industry). GitaCloud team comes from a rich background of helping dozens of leading Fortune 500 companies through their Supply Chain transformation. GitaCloud offers a full range of software and services: business transformation engagements, reselling best of breed cloud software, Systems Integration engagements, and supply chain planning managed services. GitaCloud clients range from High-Tech, Pharmaceutical, Automotive, Consumer Goods, and Retail verticals across North America and Asia Pacific markets. For more information, please visit www.GitaCloud.com.