The Maturity of the Pharmaceutical Supply Chain

Several colleagues and I attended the recent LogiPharma 2013 Pharmaceutical Supply Chain conference in Geneva, Switzerland.

We were fortunate enough to have a customer, Elisabeth Kaszas of Amgen, speak at the conference about “A Journey to Optimizing Global Network Planning”, in which Elisabeth discussed the market forces that drove them to re-engineer their global network planning organization and processes. I have attended LogiPharma sessions for several years now and have been disappointed in the past because of the heavy focus on security and physical transportation. Of course these topics are of great importance to the pharmaceutical industry, but what was missing in previous conferences was the focus on network planning. Logistics is about execution. I am more interested in planning, or preparing to execute. The event still had a strong focus on Logistics and Security, but there was a much better balance. In fact the conference was actually 3 conferences with the main conference being bracketed by the first day focused on “Supply Chain Risk, Integrity & Security” and the last day on “Emerging Markets Supply Chain Strategy & Distribution”. But, given their very high gross margins, when compared to most other industries, it is little wonder that pharmaceutical manufacturers have spent more time and money on drug discovery and marketing, with a lot less thought being given to how cost effectively the drugs are manufactured and distributed. But this has been changing over the past few years, and now it seems to be a major focus. We can debate long and hard as to why this is the case, but my take is that it is a combination of market forces and talent coming in from other industries, particularly Consumer Packaged Goods and High-Tech. As emphasized by the title of the last day of the conference (“Emerging Markets Supply Chain Strategy & Distribution”), pharmaceutical manufacturers are faced with a fragmented demand chain with varying regulatory requirements across markets (and several channels within each market), as well as an aging product portfolio which has led to reduced margins. Increasingly, pharmaceutical manufacturers are turning to third party operators at all levels of the supply chain to reduce costs, satisfy local demand, and enhance capacity flexibility. Needing to deliver to diverse customer expectations while coordinating an extended supply chain in an environment of constant change is the current reality for pharmaceutical industry companies.

Symptoms

Nothing captured the shift in focus for me as much as the fact that the first 4 speakers of the main conference all emphasized customer and demand segmentation, and differentiated cost-to-serve based upon the segmentation. The speakers were:

• Jacques Le Ny, Partner, Infosys Lodestone
• Carlo de Notaristefani, President and Chief Executive Officer of Global Operations, Teva Pharmaceutical Industries
• Alessandro De Luca, SVP, Head of Global Supply Network Operations, Merck Group
• Thomas Ebel, Principal, McKinsey & Company, Inc.

Jacque Le Ny introduced the audience to one of my favorite terms VUCA, or Volatility, Uncertainty, Complexity, and Ambiguity. What I find interesting is that VUCA is always raised as an ‘issue’ rather than as an ‘opportunity’, and the conversation immediately moves to how to reduce VUCA.

Know Sooner; Act Faster

I am much more in Andy Grove’s camp (former CEO of Intel) who said that:

Bad companies are destroyed by crisis. Good companies survive them. Great companies are improved by them.

Companies with rigid processes and business models often see VUCA as a crisis, and try to suppress it. Better companies absorb VUCA and profit from it through the OODA loop - Observe, Orient, Decide, Act – developed by John Boyd as a tactic for fighter pilots. A key observation that Boyd makes is that

“… it is vital to change speed and direction faster than the opponent. This is not necessarily a function of the plane's ability to maneuver, rather the pilot must think and act faster than the opponent can think and act. Getting "inside" the cycle—short-circuiting the opponent's thinking processes—produces opportunities for the opponent to react inappropriately.”

In other words, it isn’t necessary to have the most flexible physical supply chain provided you have decision processes that detect supply chain imbalances early and that you make decisions quickly based upon this knowledge.

Diagnosis

Thomas Ebel of McKinsey also brought VUCA in the context of the major business drivers for pharmaceutical manufacturers, not directly, but through the choice of terms used in a survey of LogiPharma attendees to determine the top challenges for pharmaceutical manufacturers.

There was a wealth of information in the McKinsey presentation (Ebel, T., Pharma Supply chain 2030 - shaping business opportunities, McKinsey & Company, 24 April 2013) and it is a real shame that I cannot simply reproduce the entire presentation in this blog (luckily, LogiPharma Europe allows attendees to download the available presentations on their website). Instead I will focus on key areas for improvement suggested by McKinsey, based on comparisons with FMCG/CPG companies, and the likely benefits.

What I find interesting is how these areas for improvement, and by definition the root cause for the need to change, are all interrelated. From a customer service perspective, I hear terms like “every customer every time” used frequently in pharmaceutical manufacturers as a justification for high inventories, particularly finished goods. And yet the typical customer service is below that of FMCG, despite the fact that the inventory levels are over 400% higher. It is little wonder then that total supply chain costs are over 200% higher, especially given the inflexibility in manufacturing reflected by the long production runs in packaging.

Cure

It is difficult to correct these areas of poor performance in isolation. Long packaging runs lead to high inventory, which in turn leads to poor customer performance – too much of the wrong stuff and too little of the right stuff – which in turn leads to high supply chain costs. McKinsey suggests using the concept of a war room – typically only used in crisis – as standard operating procedure. In other words, migrating from a war room mentality of crisis management to a Control Tower mentality of constant updates and rapid response, practices that are being adopted in other industries, particularly High-Tech and FMCG/CPG.

Of course this approach is exactly what John Boyd advocates in the OODA loop discussed above.

Outcomes

As with the Healthcare industry, which is moving quickly to an outcomes-based approach, change is only of interest if there are tangible benefits to be achieved. In just one area of improvement, namely downstream collaboration across the supply network, McKinsey identified large performance improvements across all the areas of concern, leading to over 6% improvement in sales. I would argue that some of the other areas for improvement can lead to equivalent results, particularly the adoption of Control Tower concepts as a standard operating model. This is supported by the fact that McKinsey identified ‘Joint planning and SC transparency’ as the only improvement area providing sales (+6%) and inventory (-10%) benefits, while ‘Transport optimization’ and ‘Optimization of material flow processes’ partially contributed to cost and service benefits.

Supply Chain Maturity

For pharmaceutical manufacturing companies still rooted in 1990s concepts of hub planning centered around key manufacturing sites, several of concepts presented by McKinsey must appear to be Star Wars. But they are not. Amgen is an example of a company that has transformed its supply chain organization into a centralized network planning function with detailed production planning being performed in the factories. This has been a multi-year journey with substantial benefits in both operational effectiveness and financial performance.

There were many interesting presentations on improved performance of the supply chain, but it was in the sessions focused on the Emerging Markets where we could see the vast improvement in supply chain maturity. It is also the area in which talent from other industries, such as Philippe Lambotte of Merck who comes from FMCG/CPG, is being recruited to accelerate the learning and adoption of best practices. Perhaps nothing captured the shift in supply chain maturity better than the panel discussion on Tender Management. It captured all the trade-offs that pharmaceutical manufacturers need to make across the supply network to satisfy a large long term contract with major penalties for non-conformance to contract, while not jeopardizing current business. These are not trivial decisions and they cannot be made in functional silos. Instead they cry out for a Control Tower that spans the entire network allowing a central team to run several scenarios to best understand the trade-offs across the life span of the tender. I look forward to attending LogiPharma next year to check on progress. These are exciting times.