Originally Published IVD Technology October 2004
Contract manufacturing
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| Trained associates at NERL Diagnostics (East Providence, RI) carefully inspect each bottle to maintain high quality control standards. |
In today’s competitive environment, outsourcing is becoming an attractive
option for IVD manufacturers. As the pace and complexity of new product development,
manufacturing, and supply continue to accelerate, manufacturers are finding
it difficult to stay ahead and conduct global launches without support from
other organizations.
IVD companies may need to leverage more specialized or patented technical capabilities
than they can master internally. They may also need to reduce costs, increase
margins, and improve the return on assets. In addition, they probably need to
bring more-sophisticated IVD product systems and service offerings to market
faster, and maximize the value of their differentiated products throughout the
life cycle to support post-withdrawal. As organizations focus on their core
businesses, they are improving their ability to manage remote partners, due
largely to the Internet and a growing number of experienced contract manufacturing
partners.
As a result, for most IVD executives, the decision-making process has shifted
from whether or not to outsource, to what to outsource, whom to partner with,
and how to implement an outsourcing strategy. Even though much of the implementation
detail is dealt with after an IVD manufacturer has determined a strategy, partner
core skills, technology, cost structure, and specific partnering capabilities
should influence the formation of a strategy.
Outsourcing Decision Framework
To make such decisions, IVD executives should take a comprehensive approach
to evaluating outsourcing opportunities and how they fit within the company’s
business and operations strategies. This article reviews the main considerations
for making such choices in ways that add the most value to the business.
When developing an outsourcing strategy, IVD manufacturers should evaluate the
following eight factors: strategic fit, outsourcing scope, process and intellectual
property (IP) control, resource and infrastructure requirements, provider capabilities,
regulatory and quality control, risk tolerance, and cost and payback.
Strategic Fit
IVD executives evaluating the decision to outsource should understand the company’s
current and future core capabilities. To do so, executives should address the
following questions: Are all the manufacturing operations core capabilities?
Are only certain aspects? Or none of them? What about development activities
and product support functions?
Perhaps an IVD manufacturer’s core capabilities are focused on channel
strengths: clinical contacts, training skills, field service, and support. In
general, the core capabilities in the value chain will be some or all of those
that add the most value to an IVD product. Conversely, noncore activities will
be those that add the least or no value. Configuring such capabilities more
effectively than the competition can provide unique advantages and opportunities.
While such advantages do not last forever, they can sustain many years of double-digit
growth.
IVD companies will not want to outsource core capabilities. However, many other
development, supply-chain, and support operations performed in-house can be
outsourced. IVD executives developing their companies’ outsourcing strategies
should have good reasons for not outsourcing noncore activities. Such an approach
will be a prerequisite for maintaining leadership in core activities.
A good outsourcing strategy achieves a solid fit for both the original equipment
manufacturer (OEM) and its partners. OEM decisions entail long-term commitments
of at least 3–5 years. OEMs and contract manufacturers (CM) should perform
thorough assessments of potential partners. Such assessments include looking
at a company’s near- and long-term financial stability and its commitment
to the partnership. Senior IVD executives need to build shared understandings,
so their companies can develop true partnerships of synergy that will lead to
increasing value over time.
Outsourcing Scope
IVD companies can outsource many different steps along the value chain, including
technology and product development, design, clinical trials, and manufacturing
processes. The outsourced activity may be a pure play of one of these steps,
such as all manufacturing operations for an IVD product. Alternatively, it may
be a combination of two or more steps, such as final assembly and distribution
of certain products sold outside of the United States. For design and development,
a company can keep certain parts of a product system in-house (e.g., consumables,
user interfaces), while outsourcing instruments and operating software. Or it
can outsource entire older systems and keep the latest developments in-house.
Such an approach is referred to as the boundary for outsourcing, since it defines
what an IVD company will continue to do in-house, and what it will outsource.
The ideal location of that boundary can change, depending on changes in sales
volumes, geographical sales distribution, supply-chain costs, technologies,
and products.
Process and IP Control
Understanding how the technologies involved in manufacturing IVD products are
evolving is important to making an informed outsourcing decision. If such technologies
are changing quickly or are cutting edge, a product may not lend itself to outsourcing,
since the technology transfer process can be difficult. However, patented IP
is relatively easy to protect in a partnership. It should not deter outsourcing
activities with the right partners as long as the agreements are written properly.
IVD manufacturers should consider working jointly with CMs to improve their
products. The best suppliers are constantly trying to do better. IVD companies
should look into agreements that cover how product changes will be mutually
explored and agreed upon, and who has the rights to the jointly developed new
ideas and products. A CM’s incentive is the ability to spread an innovation’s
value to other products and markets that do not overlap with those of the developing
OEM partner.
IVD products employing cutting-edge technologies tend to command higher margins
and are less attractive for outsourcing. If an IVD company does not have tight
controls over manufacturing processes (i.e., poorly understood processes are
involved), it will be difficult to transfer such processes to another company.
Conversely, if a CM can master manufacturing processes that an IVD company cannot
do well, it may present an opportunity to outsource certain manufacturing operations.
Resource and Infrastructure Requirements
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| Contract manufacturers, such as Strategic BioSolutions (Newark, DE), must invest in testing equipment that mirrors the client’s use of the antibodies in order to harmonize final quality control testing with the clients’ internal quality control methods. |
OEMs considering a contract manufacturing partnership need to understand the
processes, resources, and systems required to maintain the partnership on an
ongoing basis. IVD companies tend to focus on the transition without looking
in detail at the ongoing management and capabilities that will be required and
determining how they will be put into place. OEMs must also consider their own
capabilities and resource commitments as well as those of the CM.
As a part of such an analysis, IVD manufacturers should review their own and
their potential contract manufacturing partner’s information technology
(IT) needs and capabilities. Especially for high-volume or high-mix operations,
having seamless IT interfaces can be important. The analysis would also include
the regulatory requirements that apply to IT systems. An IVD company and a CM
should jointly define the protocols for all data communications to ensure they
occur as needed to build an effective relationship. Internal training is important
too. Many relationships falter because an OEM intending to protect the company
refuses to pass along vital information to the contract suppliers.
IVD manufacturers need to address the issue of resources at the governance level.
For example, what resources will be required to manage the contract supplier
partnership at the senior levels? Are both companies prepared to commit those
necessary resources? An IVD company and a CM should jointly plan the key mechanisms
to keep the relationship running smoothly from the beginning. Otherwise, misunderstandings
can arise and create barriers to cooperation for a long time.
Having to deal with many suppliers, OEMs may also establish a three-tier framework.
Such a framework could range from an arm’s-length relationship for purchasing
specific sub-assemblies to a strategic partnership for jointly developing new
products. IVD manufacturers can develop expectations at each tier regarding
the various outsourcing factors discussed, such that managing a portfolio of
suppliers is easier. This approach helps with managing expectations at all levels
of each supplier organization and creates more predictability for IVD companies
involved in multiple supplier relationships.
Provider Capabilities
Are there CMs performing certain supply-chain processes that an IVD manufacturer
is looking to outsource? If it is not an exact match, are the CMs conducting
or managing processes that are similar enough to make an IVD company think the
CMs can take over the operations being considered for outsourcing?
IVD manufacturers also need to consider other factors when making outsourcing
decisions, such as capacity and interest. For example, are there contract suppliers
with sufficient excess capacity to take over producing an IVD company’s
product or whatever else is needed from them? How much additional capacity do
the CMs plan to build relative to the growth projections for the IVD product?
How do the CM’s geographical capabilities align with the OEM’s needs?
IVD manufacturers should find out if the manufacturing processes and functions
that they are considering outsourcing are areas of interest to the contract
supplier, and ones in which it will continue to invest resources to develop
further in the future. If a CM expresses an intention to change something to
provide what is needed, an IVD company should investigate: Is the commitment
solid at all levels? Does it really make sense for the contract supplier? Or
is it wishful thinking for both the OEM and the CM while trying to solve a problem
and make a deal?
Time-to-market leadership is another crucial part of the equation, particularly
for start-up companies. How can the outsourcing partner help to manage the project
quickly, while delivering on transfer milestones reliably?
Regulatory and Quality Control
Even when the CM entirely manages the supply chain, only the OEM’s name
appears on the IVD product. Everyone downstream, including FDA, holds the OEM
ultimately responsible for that product. If there are problems with the product,
FDA approaches the OEM first and holds it responsible for any issues, regardless
of the source of the problems.
For this reason, OEMs and their contract manufacturing partners should set up
the appropriate regulatory and quality control systems to manage the supply
chain. OEMs need to be assured that potential contract outsourcing partners
have the appropriate quality control systems. Such systems should meet the OEM’s
audit standards and obtain the regulatory approvals in the various countries
where it manufactures and markets its products. As a rule of thumb, auditing
and validating an outsourcer’s procedures are preferable to attempting
to inspect the quality of products and processes on an ongoing basis.
Before launching a contract manufacturing partnership, OEMs also need to determine
how regulatory feedback loops will be set up. For example, when a customer returns
an IVD product, which entity is responsible for investigating the problem, determining
the root cause, establishing and implementing corrective actions, and reporting
back to FDA and end-users? Which responsibilities will each entity have in the
event of a recall? From a data flow perspective, corrective and preventive action
systems may need to be hardwired between entities from the beginning.
According to a recent survey conducted by MassMedic (Boston) and PRTM
(Waltham, MA), at least 67% of contract manufacturers thought they were meeting
OEM needs on quality. Meanwhile, only 25% of OEMs thought their quality needs
were being met—a significant disparity. Clearly, IVD manufacturers need
to build sufficiently robust levels of understanding and communication to ensure
these two perceptions are better aligned.
Risk Tolerance
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| A technician at Web Converting Inc. (Westborough, MA) puts the finishing touches on a canister product, which is converted, assembled, and shipped directly to the customer’s distribution center. |
Handing over key technologies or production of an IVD product to an outsourcing
partner involves a certain amount of risk. OEMs need to feel they can trust
a partner to protect their IP from potential competitors, some of whom may even
use the same contract manufacturer for their products. OEMs need to draft their
agreements carefully. Distinctive process know-how may not be best protected
with patents that reveal it to the world. If such knowledge is to be shared,
it needs to be carefully managed.
OEMs also need to have a plan for managing the risks associated with each stage
of the supply contract. Such risks include the initial transition, ramp-up,
ongoing supply, and the general business risk of relying on outside companies
for key supply-chain activities.
This is not to say that IVD companies should not outsource. Outsourcing risks
exist in varying forms in almost all relationships with other companies. In
many cases, the risks of outsourcing are lower than the risks of not outsourcing.
However, in the case of a contract supply partnership, because of an OEM’s
strong dependency on a contract supplier, an OEM should understand its exposure
early in the process.
In addition, OEMs should be comfortable with risk mitigation plans and manage
those risks on an ongoing basis. Safeguard procedures help in managing many
of the risks. For example, OEMs should make sure manufacturing standard operating
procedures are in place, in the hands of an independent party, regularly updated,
etc., in case a supplier needs to be replaced by a new CM. This is especially
true where IP is involved, which would not be easily learned or developed independently
by a new provider.
Cost and Payback
The final factor to be considered is the economic impact of the supply partnership.
This includes understanding in detail the transition costs and the ongoing manufacturing
or service costs. The transition costs include the costs to start up a new operation,
and any reconfiguration or shutdown costs at the donor site. An impact analysis
is important: how will the shared costs be redistributed and what else will
be affected? IVD manufacturers need to understand the fixed and variable costs,
as well as the impact of outsourcing over time on both the balance sheet and
the profit and loss statement.
IVD manufacturers should also examine how costs might vary with different scenarios,
such as production volumes, raw-material issues, exchange rate swings, or delays
in the transition. IVD companies should consider the range in costs when different
configurations of products, processes, and functions are outsourced to contract
manufacturing partners.
Conclusion
Outsourcing can be a key component of an IVD company’s overall operations
and business strategy. It can yield numerous benefits, including lower costs,
faster time to market, and more-comprehensive customer offerings. These all
add up to an increased management focus on the core business, which enables
and drives a company’s competitive success. While IVD manufacturers should
not change their operations strategies regularly, they should check them regularly
against key assumptions. As manufacturers reevaluate their strategies every
1–2 years, they should strive to maintain the alignment of outsourcing
with their strategies and goals for value delivery.
John Lamb, PRTM
(Waltham, MA)
Copyright ©2004 IVD Technology
