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Vision 2015 How Strategic Shifts within the Pharmaceutical Sector will Transform Supply Chain and Distribution

n Models

White Paper Study carried out by Buck Consultants International


January, 2013

Eelco Dijkstra
Senior Strategy Consultant

Johan Beukema
Partner Healthcare Supply Chains

Contents

Executive Summary

Cost Pressures on the Industry

Commercial Model Will Change

More Responsive Supply Chain Model

Information and Visibility

The Final Mile Delivery Component

Collaboration and Partnerships

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Leadership and Change Management

12

The Role of e-Commerce

14

Business Model for the Future

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Executive Summary
The global Pharmaceutical Sector is embarking on a step change transformation journey in which the supply chain will play a strategic change management role. Healthcare reform, patent expiries and increased service requirements will require pharmaceutical companies to adapt their business models to accommodate market changes. The coming years, reduced costs, greater agility and improved speed to market - whilst ensuring the often complex regulatory legal framework in countries are being met - will form a challenging operating landscape for companies in the industry. This white paper outlines a strategic agenda which Buck Consultants believes companies within the industry need to address. Key to the strategic agenda is the changing commercial business model pharmaceutical companies are starting to address. Relevant to the context of this white paper is the role the supply chain will play as companies move forward to address their key business challenges. This whitepaper will address the below points and the step changes companies should consider as part of their strategic agenda.

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Pharmaceutical companies will have to turn more towards direct sales channels to reduce margins in their current business. Within other industries this is a trend observed already for a much longer period of time. There will also be more focus on selling directly to pharmacies, hospitals, care institutions and patients. The concept of online order and e-fulfillment tools will allow pharmaceutical companies to take greater advantage of direct marketing and sales tools to manage the order management and commercial process with the various sales channels. As a result, there will be a clear tendencies towards more direct distribution routes and this will enable greater differentiation per product/market segment. The supply chain will need to play a more strategic role in the business model of many pharmaceutical companies. In turn, this will require a more centrally driven supply chain organization based on a clear mandate and with centralized budget responsibilities able to make the required step changes in the supply chain and distribution model. We believe that within the healthcare field itself pharmaceutical companies can also learn a lot from how Bio-pharma companies have organized themselves in terms of more centralized control, more visibility and more streamlined supply chains. As there is no single size fits all supply chain, pharmaceutical companies should also consider developing more differentiated supply chains. For instance by type of product (generic, patented, bio-pharma, narcotics, etc.) and/or by channel (wholesale, direct to pharmacy, direct to patient, etc.). The value drivers for each of the product market channel combinations will have significantly different levers. A much more focused alignment with the business is key for success. For many companies the key objective will be to first develop a more cost efficient supply chain with the corresponding organization and infrastructure focusing on network and distribution optimization. For some pharmaceutical companies, parts of their business model will require a more agile and responsive distribution model. Here the key drivers will focus on distribution solutions with CMOs and postponement models to allow for greater flexibility and scalability beyond costs alone. Moving forward, it is essential that the supply chain is a critical part of the financially driven business model of pharmaceutical companies. A cost effective supply chain should be integrally linked to the order to cash cycle and will play a more important role in the pharmaceutical business model of the future.

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Cost Pressures on the Industry

The global pharmaceutical industry is embarking on a step change program aimed to address the enormous challenges it faces in the market place. Patent expiries and the rise of generic brands is already being felt by many pharmaceutical companies. This is starting to translate into lower sales revenue and reduced margins. Governments and insurance companies will also continue to apply cost pressure on the healthcare sector as a whole whilst channel customers such as hospitals, pharmacies and care institutions request improved service levels. All of these factors are forcing companies within the sector to better scrutinize their operating costs, their service levels to customers and their current distribution channels. As governments in many countries seek to reduce healthcare expenditures to manageable levels the mind-set of many CEOs in pharmaceutical companies is already changing. The traditional channel distribution is too expensive and too margin focused rather than service focused. Today, the distribution landscape hosts too many players which collectively absorb too much margin and add too little value to the delivery of reliable and quality healthcare to customer channels and consumers requiring healthcare. The issues are structural and will need to be addressed by companies.

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Commercial Model Will Change

Historically, the industry - driven by relatively high margins - could afford to focus less on the up- and down-stream costs of their supply chain. For many companies this has resulted in a fragmented and expensive supply chain in which many internal organizations manage a part of the total, leading to sub-optimization. On the downstream side of the supply chain, an expensive distribution vehicle exists today: too many layers with (pre)wholesalers and distributors who manage the channel sales to hospitals, pharmacies and care institutions. Storage and transportation are often part of the total commercial service package offered by wholesalers and distributors who themselves often play multiple roles in the commercial model. As an example, some of these companies act in some countries as pre-wholesaler in a warehousing and logistics capacity whilst they also act as commercial wholesaler and in another commercial role act as distributor and retailer with retail pharmacy chains. This has left many pharmaceutical companies dependent on wholesalers and distributors in the commercial business relationship with their end customer channels and in the final mile delivery model with their end-customers. Therefore, Buck Consultants believes pharmaceutical companies would be wise to re-think their business model based more on value creation to end customers including direct to patient en direct to pharmacy concepts. This value creation needs to be translated into a more cost effective delivery model tailored to the unique requirements of each channel customer in which costs to serve, service lead times and ease of doing business play key roles. In this changing landscape, wholesalers too, will need to re-think their traditional role where fee for service structures will become more the norm than the traditional commercial margin model. Figure 1 Business delivery model

Source: Buck Consultants International Buck Consultants International

More Responsive Supply Chain Model

A good example of a global pharmaceutical company which has embarked on an intensive change management program is Pfizer. It has recognised that it requires to make step changes to remain a successful player within the industry. It also recognises that changes to the supply chain are an integral part to its change management program to drive change and improve its service model. As John Kelly - Vice-President of Strategy and Transitioning Sites for Pfizer Global Supply - recently stated in the respected industry magazine Pharmaceutical Technology: Our mission is to have an integrated internal and external supply network to provide a competitive advantage for Pfizer by offering fast, flexible, and innovative supply solutions. The key challenge for any Pharmaceutical company will be to better understand the value impact the supply chain has on their company in terms of costs and customer service levels. The supply chain is not only about costs of transportation. It is about value creation to the companys business model in terms of commercial value, the customer delivery experience, and the financial value. This requires a more responsive supply chain to be deployed, a more smart and cost effective supply chain related to the many and complex transportation flows from global API plants to global manufacturing plants to distribution centres and downstream through the distribution channels to end customers. This not only impacts the costs of transportation but also the warehousing costs and the often forgotten real costs of holding inventory. The key challenge will be to unlock this potential into a value proposition around the supply chain organisation. This requires organisational and process redesign up and down the value chain. Figure 2 Process design Supply Chain

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Information and Visibility

Key to understanding how the supply chain works is to have more information and visibility in order to make informed management decisions. To be able to make step changes it is important to first understand the current information flows around logistics and distribution. Therefore, it is key to find and correctly interpreted data related to shipment and order flows, warehouse capacities, inventory levels and service contracts across the supply chain. Information, quantified through real logistics and transportation data extracted from an ERP system is key and often a challenging process to extract for pharmaceutical companies as they embark on this journey. Today, many companies in the pharmaceutical sector have only limited access to operational shipment related information. This information is necessary to manage the supply chain with regards to scheduling of transportation, on time delivery performance, exception management and carrier management. It also helps the customer services department better manage customer expectations, work more efficiently and more pro-actively.

Figure 3

Supply Chain Control Tower

Source: Buck Consultants International

Buck Consultants International

Not only is it important to have data related to physical flows but also to the financial information related to these flows. Having carrier rates and contracts loaded into transport management systems and automatically linked to service level options such as costs, lead times, delivery requirements (ambient or cold chain) and geographies allows orders to be routed to the selected carrier for a given service and/or trade-lane. An IT driven Transportation Management system will route for example parcel shipment A with cold chain requirements going to France to carrier X, whilst a pallet shipment B with ambient requirements going to Italy will be routed to carrier Y. Apart from automatically printing out the required shipment information, the regulatory documentation part of the shipment and the ability to track the on time delivery status against the required lead-times, such a Transport Management system also knows exactly what the costs per shipment are. This information can in turn be used for invoicing and auditing purposes with each carrier making the whole financial shipping process transparent and accurate. Such Transport Management systems also allow companies to make more informed tactical and strategic decisions. Tactical decisions relate typically to on-going cost improvement and optimization programs around transport flows and inventory levels. Strategic decisions relate to choices around distribution models and the required network design per product group and or market. Figure 4 Decision making model

Source: Buck Consultants International

Buck Consultants International

The Final Mile Delivery Component

As the industry re-invents itself, Buck Consultants predicts it will present opportunities for logistics service providers to step into this sector with more comprehensive and better endto-end supply chain solutions than currently the case. The message to logistics service providers is to step up and embrace this unique opportunity to invest in solutions tailored to the pharmaceutical sector and its customers. In Europe and to a lesser extent Asia, the direction will clearly be from having local incountry warehouse and distribution points to regional warehousing and distribution points linked to direct ship solutions where possible.

From domestic networks

To regional DC networks

As a rule of thumb, distribution costs per unit increase as goods travel down the value stream to end customer channels. In the future, cost pressures, reduced inventory levels and faster lead times to market will require more responsive direct ship type distribution solutions from regional distribution centers directly to hospitals, pharmacies, care institutions and possibly directly to patients homes. In a next step this could even mean direct shipment concepts from manufacturing locations to market channels. This presents more opportunities for network based logistics service providers. Historically, a lot has been said about the need to deliver consolidated shipments to channel customers such as hospitals. This by itself is an important service requirement which makes sense. Parcel and transportation providers by default consolidate deliveries through their delivery network and are thus ideally positioned to manage this requirement. A number of courier companies already conduct hospital shipments and some operate in-hospital delivery solutions which sees them distribute shipments inside a hospital to the correct department and collect returns at the same time.

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Already today, many parcel operators serve as subcontractors to wholesalers and distributors to deliver orders to the hospitals, pharmacies and care institutions. Increased investments into temperature controlled storage and network capabilities provide an opportunity for parcel companies to increase their market share in the final delivery mile a trend already underway.

Scalable investments into the final mile are crucial which includes improved service solutions such as in-hospital deliveries, returns management and hospital logistics. However, key will be for logistics service providers to provide scalable solutions which not only address the physical delivery requirements but in which information flows and visibility will play an ever increasing role. This is also linked to the clear trend of outsourcing pan-European customer service such as order-taking and order-to-cash processes (e.g. invoicing, cash collection, dunning). Pharmaceutical companies are searching for solutions to bring also these processes from a domestic scale to a pan-European level. Logistics Service Providers who build this capability will have a clear opportunity to increase their market share in this industry.

Cold Chain Logistics Solutions


As mentioned before in this report, more investments will need to go into scalable GDP certified cold chain transportation solutions in which the combination between technology and cooling plays a critical role. It is expected that the new GDP Guidelines, to be launched in 2013, will give a further push to this. At the same time pharmaceutical companies must also challenge their own interpretation of GDP requirements related to the real transportation requirements of their products across the various markets. There are many industry examples where ambient products have been shipped as cold chain when the legal product requirement to do so is not there. Passive packaging has also become more cost effective making it easier to ship products with normal courier companies rather than with more expensive Cold Chain transportation specialists using active cooling. A clear interpretation based on the intended regulations can often provide further opportunities to reduce costs to serve and help simplify the logistics delivery service solution.

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Collaboration and Partnerships

The industry can learn from other industries with regards to how companies work together to utilize and optimize distribution to for instance common market channels. Buck Consultants sees increasing collaboration between companies to deliver more cost efficient solutions. For example, in the retail sector a number of multinationals are starting to work together to deliver their products consolidated to supermarkets and retail chains. This means improved loading of trucks and for the consignee it means fewer trucks from fewer suppliers to manage the delivery process with. The same efficiencies would apply for example to the delivery process into hospitals and pharmacies. An industry example closer to home is a collaboration between UCB and Baxter to optimize loading capacities in their distribution from regional distribution sites and manufacturing locations located in close proximity to each other to replenish local stocks in specific countries. These types of logistics collaboration models optimize loading capacity as well as simplify offloading at the other end. Figure 5 Supply Chain network collaboration

Source: Buck Consultants International

Buck Consultants observes that many pharmaceutical companies are interested in this type of collaboration model allowing them to utilize common storage and transportation solutions provided my logistics service providers and thus reducing their costs and simplifying their distribution. However, the key obstacle is the ability to connect with other companies within the industry to start such discussions. Logistics service providers can play a valuable role in providing smart and scalable collaboration solutions based on partnership rather than on
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transactional relationships. Industry platforms such as the Healthcare Logistics Forum (HLF) in which a number of pharmaceutical and medical device companies discuss common supply chain challenges. These types of industry initiatives can play a constructive role in fostering collaboration between companies around key industry challenges.

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Leadership and Change Management

Buck Consultants observes that there is a need to first have the required organizational structure in place related to budgets and responsibilities. There must be an understanding at Board level that a fundamental change management program is needed to identify, implement and manage the steps required to make step changes in the up and downstream logistics activities. This includes the recognition to build a more centralized globally driven supply chain organization empowered to fully map out the current supply chain in terms of costs and service contracts and manage the transition across the supply chain in full alignment with operational and commercial processes. The strategic advantages the supply chain offers companies in other industries have in the past been overlooked. It is the supply chain which presents a unique opportunity to help pharmaceutical companies in their commercial model to drive down operating costs and improve service levels to customer channels. Today, the supply chain is often still suboptimized and fragmented in terms of management responsibility, cost budgets and data visibility. Its a sub-optimized supply chain in which the various components such as inventory levels, warehousing and transportation responsibilities are split across the business between manufacturing operations, local country affiliates, regional organizations and global teams. Based on a number of client studies it is clear to Buck Consultants that the opportunity to improve operating costs in the supply chain whilst improving service levels to customers is real and significant. However, key to making this possible in large and complex organizations is through a centralized global supply chain organization with a clear mandate to move forward and carry out a strategy of change aligned fully with the companys changing business model and business objectives. Figure 6 Scope related cost saving potential

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Based on Buck Consultants own consultancy experience, centrally driven cost improvement programs typically offer pharmaceutical companies double digit cost savings as a percentage of current logistics and supply chain costs. However, a cost improvement program has to be well managed and today many pharmaceutical companies lack the organizational framework and tools to do so successfully. Widening the scope of a supply chain review increases the number of alternative solutions and therefore the potential savings. But there is more. Complexity and risks are factors that increase as well when widening the scope. When developing the value chain it is important to look strategically at all the elements of your supply chain including the wider business model and in how this can be best supported with a more effective supply chain organization. Figure 7 Value Mapping Opportunity Matrix

Source: Buck Consultants International

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The Role of e-Commerce

Online retailing is the fastest growing retail channel in most industry sectors around the world. The diagram below illustrates the growth of online retailing the coming years. Figure 8 Online sales in Bln US$, 2010-2013

Sources: JP Morgan, 2011, Centre for Retail Research, 2012

Another interesting trend is that moving forward many retail analysts believe the combination of offline and online channeling the so called cross channel will be the commercial retail model of the future. In this model sales are achieved where both types of marketing and sales management concepts are used in combination to manage relationships and sell products. Figure 9 Future Retail Models

Source: ABNAmro & CBW-Mitex , 2011

Why could these trends be interesting to pharmaceutical companies? The pharmaceutical industry seems to be one of the few industry sectors which has not yet embraced online retailing. The main reasons used are that the strict regulations related to pharmaceutical sales make it difficult to move towards e-commerce. Sometimes this is even clearly forbidden by law. However, there are also examples in for instance The Netherlands and Germany where pharmaceutical e-commerce has been implemented successfully. And even within current regulatory boundaries Buck Consultants International sees opportunities to
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make greater use of online channels and technologies to improve the efficiency and effectiveness of the pharmaceutical chain. Today the order process within the industry is a very manual one in which the order to cash process is often outsourced to a wholesaler or other third party service provider who manages the order intake from customers manually via fax and/or telephone. Orders are commonly manually processed into the pharmaceutical companys order system. Instead, an online order tool would allow this whole process to be more automated. At the same time such an automated online order management tool is an opportunity to develop more direct commercial relationships with hospitals, doctors and care institutions. It is also an opportunity to develop e-pharmacy type models with direct sales to pharmacies. Or for instance directly to patients for repeat recipes which in some countries do not require a doctors visit but can be ordered through a telephone consult and subsequently ordered online. Apple Computers ten years ago developed the Apple Store, an online e-commerce platform whilst retaining its traditional channel distribution through wholesalers and distributors. Ten years on, all sales channels have seen their business increase related to their own customer base. Why cant such a model work in parts of the healthcare sector to help improve the customer experience, for instance home deliveries to sick patients through a home delivery program whilst at the same time reducing healthcare costs in the commercial model?

In an e-commerce model, organizations in many industry sectors have moved from a sales push strategy to a sales pull strategy. A push strategy means that a company pushes products onto the market and into market channels and uses forecasting and category management techniques to determine demand. In a pull strategy, an order is distributed after an order has been made. Key advantage to the seller in a pull model is that in the cash to cash order cycle lead times are shortened and less inventory is needed. This has a positive impact on the company financial model through improved cash flow and is one reason for the success of Apple Computers. However, this type of model requires a fundamentally redesigned operational process model. Making the jump from online retailing to a full e-fulfillment model. Below four critical success factors such a model offers: Ability to develop a direct commercial model with customer channels. Offering the best customer experience. Scalability: size, portfolio, geography. Online technology: full value chain.

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Business Model for the Future

Buck Consultants International observes that the current business model within pharmaceutical companies is in a transformation process which will require the step changes outlined in this report. For sure, pharmaceutical companies will have to turn more towards direct sales channels to reduce margins in their current business. This is a trend observed already for a much longer period of time in other industries. There will be more focus on selling directly to pharmacies, hospitals and patients as the diagram below illustrates. Figure 10 Future Business Model Pharmaceutical industry

Source: Buck Consultants International

The concept of online order and e-fulfillment tools will allow pharmaceutical companies to take greater advantage of direct marketing and sales tools to manage the order management and commercial process with the various sales channels. As a result, there will be a clear tendencies towards more direct distribution routes and this will enable greater differentiation per product/market segment. In turn, this will require the supply chain to play a more strategic role in the business model of many companies. In turn, this will require a more centrally driven supply chain organization based on a clear mandate and with centralized budget responsibilities able to make the required step changes in the supply chain and distribution model.

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Within the healthcare field itself we believe pharmaceutical companies can also learn a lot from how Biopharma companies have organized themselves in terms of more centralized control, more visibility and more streamlined supply chains. As there is no single size fits all supply chain, pharmaceutical companies should also consider developing more differentiated supply chains. For instance by type of product (generic, patented, biopharma, narcotics, etc.) and/or by channel (wholesale, direct to pharmacy, direct to patient, etc). The value drivers for each of the product market channel combinations will have significantly different levers. A much more focused alignment with the business is key for success. For many companies the key objective will be to first develop a more cost efficient supply chain with the corresponding organization and infrastructure focusing on network and distribution optimization. For some pharmaceutical companies, parts of their business model will require a more agile and responsive distribution model. Here the key drivers will focus on distribution solutions with CMOs and postponement models to allow for greater flexibility and scalability beyond costs alone. Much can also be learned from other industries. The global automotive industry went through a massive change management process during the early nineties in which business processes, supplier management and marketing channels were redefined. The consumer retail market has also gone through major changes over the past 10 years. The internet has created a whole new retail channel and online order management framework exploited by many industries but which has yet to be fully embraced by the pharmaceutical industry. Moving forward, it is essential that the supply chain is a critical part of the financially driven business model of pharmaceutical companies. A cost effective supply chain should be integrally linked to the order to cash cycle and will play a more important role in the pharmaceutical business model of the future.

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Buck Consultants International carries out supply chain research, consultancy and implementation in the areas of business strategy, supply chain network design, optimization and location selection. Buck Consultants has an international team of 65 consultants, multidisciplinary professionals and an extensive network of international offices. Clients are typically multinational companies on both the demand and supply side of the supply chain. Buck Consultants International offers supply chain strategy consultancy to the Pharmaceutical, Medical Device and BioMed sector. Pharmaceutical and Medical Device clients include: Amgen, Abbott, Takeda, UCB Pharma, Celgene, Lundbeck, Wyeth, Ferring Pharmaceuticals, Baxter, Medtronic, Edwards Lifesciences, Stryker, Haemonetics, Becton Dickinson, American Medical Systems, Carefusion, etc.

Authors
Eelco Dijkstra, Senior Strategy Consultant Johan Beukema, Partner Healthcare

Eelco Dijkstra Senior Strategy Consultant Buck Consultants International The Netherlands Phone +31 24 3790 222 E-mail Eelco.Dijkstra@bciglobal.com

Johan Beukema Partner Healthcare Supply Chains Buck Consultants International The Netherlands Phone +31 24 3790222 Email Johan.Beukema@bciglobal.com

Website http://cs.bciglobal.com/
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