März 26, 2018
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Outsourcing: Transitioning From Supplier to Partner
As outsourcing in the medical device industry continues to grow by double digits, the OEM-supplier relationship is evolving in new directions.
Although the medical technology industry embraced outsourcing fairly late in the game compared with some other sectors—automotive comes to mind—the trend has been accelerating for many years now, and there appears to be no end in sight.
Robust growth is forecast for the foreseeable future, but it’s worth noting that outsourcing in the conventional sense is experiencing a changing dynamic, as OEM expectations evolve. What used to be purely transactional relationships, limited to the supply of commodities, is transforming into partnerships. That, in turn, is informing how OEMs source their critical, top-tier suppliers.
Double-digit growth forecast
Recent business reports have documented the size and strength of the medical device outsourcing market. One such report from Grand View Research values it at $33.2 billion in 2016 and forecasts an 11.5% compound annual growth rate through 2025.
Class II devices, defined by US FDA as fairly simple devices with a slightly higher potential risk than Class I products, represent almost half of the medical device market share, according to the report, and, therefore, capture a large percentage of outsourced manufacturing. “Concentration on core competency, cost efficiency and accelerated time to market are expected to be the vital drivers [for OEMs], promoting higher subcontracting by manufacturers of these devices,” note the report authors.
The report also points out that increased regulatory oversight, such as the new Medical Device Regulations, will drive growth in the regulatory consulting space and that third-party product design and development also will grow. In 2016, the latter represented 15% of market share, a considerable change in historical terms, as the medical device industry traditionally has been very selective in letting outsiders into the design and development process.
Consolidation impacts both OEMs and their supply chain
Merger and acquisition activity in the medtech sector was robust in 2017—BD’s $24 billion acquisition of Bard ended the year in spectacular fashion—and, by most accounts, the trend will continue this year. Contract manufacturers have been mirroring this trend to increase scope and, in some cases, measurably increase their footprint in the medtech supply chain, as was evidenced by the acquisition in 2016 of Phillips-Medisize by global interconnect company Molex. This is a welcome development for medical device OEMs, who are actively engaged in trimming their supply chain.
“Many OEMs are currently dealing with massive supplier databases, caused by acquisitions or what we call supplier layering or creep,” notes Mark Bonifacio, President of Bonifacio Consulting Services in Boston, MA. “They added suppliers without any real strategy in mind for much of the 1980s and 1990s. It was very ad hoc and not developed into a supply-chain strategy and competency, as most OEMs have today.”
Through supplier consolidation, “OEMs can deal with a smaller number of suppliers, leverage their spend, and shrink their own supply chain management staff, which has swelled greatly over the years,” adds Bonifacio. “OEMs working with one supplier in various geographic regions can become a more significant part of the contract manufacturer’s business and, thus, gain more leverage and attention,” he adds. “That said, there is a happy medium: You don’t want to be an insignificant customer, but it also can be dangerous to represent 70% of a contract manufacturer’s business.”
In his consultancy, Bonifacio collaborates with global medical device OEMs and contract manufacturers to help them grow organically and via mergers and acquisitions. Earlier in his career, he worked with several medical device OEMs before founding medical device contract manufacturer APEC, which he sold to Freudenberg Medical in 2007. He founded Bonifacio Consulting Services soon afterward.
OEMs simultaneously are pruning their supply chain and asking more from their contract manufacturers. In many cases, suppliers are being asked to play a more strategic partnership role in the relationship. The main supplier—or critical supplier in the parlance of the Medical Device Regulations—could well be managing other suppliers on behalf of its OEM “partner.”
“The term partnership has come to mean many things to many people,” notes Bonifacio, but, generally speaking, he agrees that larger OEMs are entering into more strategic partnerships with their top suppliers. The partnerships may involve “cost sharing agreements, longer term contracts, and quality and supply agreements. These can include cost escalators for materials and de-escalators for efficiencies as well as guidelines for possible growth rebates and other mechanisms that promote the partnership and increase business,” says Bonifacio.
Smart sourcing
Within this business landscape, medical device OEMs sourcing supply-chain partners must balance a set of priorities, including choosing between a one-stop shop or a highly specialized manufacturer, deciding whether to offshore production and determining how much of supply chain management should be under the purview of their top supplier.
Although the consolidation described above would seem to argue in favor of expansive one-stop shops, focused expertise in a complicated process can be a strong calling card. And companies can stumble and worse by attempting to be all things to everyone.
To make that determination wisely, you really have to understand your product and the processes and capabilities that are most critical to your success, says Bonifacio. “Many contract manufacturers have developed a supply chain as a key competency and competitive advantage. In this case, [the distinction] becomes less critical.”
Nevertheless, the drive to consolidate gives full-service suppliers a definite advantage, especially when that is coupled with geographic reach, says Bonifacio. OEMs are embracing localization strategies—manufacturing products in the country or region where they will be marketed, as in China for China—so a supplier that combines a global footprint with a single point of contact holds many of the cards that OEMs covet.
Price is always a factor in sourcing a supplier, but that doesn’t mean the company putting in the lowest bid should get the nod, says Bonifacio. “We always suggest that OEMs look at total landed cost, including non-recurring engineering, freight and logistics, inventory, and payment terms in addition to the product cost,” he says. “This will give you your best real cost picture.”
Quality systems are a given, of course. I have had a handful of suppliers to medical device OEMs tell me in the past that they have purposefully not sought ISO certification in order to keep costs down and remain nimble. There may be some narrow applications where this can make sense, but it seems to be a questionable business model in today’s medtech supply chain. “ISO certification and good manufacturing practices are a must in medical manufacturing,” says Bonifacio unequivocally. That becomes doubly important among so-called critical suppliers.
The Medical Device Regulations stipulate that both “announced and, if necessary, unannounced inspections of the premises of economic operators as well as suppliers and/or subcontractors, and, where necessary, at the facilities of professional users” can be conducted. Moreover, ISO 13485:2016, which goes into effect on March 1, 2019, requires medical device manufacturers marketing medical devices in Europe to use components manufactured by companies that have achieved certification to the revised standard. Clearly, medtech OEMs have every reason to ensure that there are no weak links in their supply chain from a quality systems and safety perspective.
As outsourcing in medical manufacturing develops into a more tiered structure, as has been the case in automotive for decades, if many components are further outsourced to Tier 2 suppliers, it’s imperative that your Tier 1 supplier maintains good supply chain practices, audit programs, supplier rankings, and so forth, says Bonifacio.
As OEMs wrestle with demanding regulatory requirements and pressure from customers to constrain costs, they are looking for supply chain partners that have the capabilities, scope and commitment to innovation to help them navigate a challenging business environment. Make no mistake—the outsourcing paradigm is shifting, but it is also growing at double digits. Business opportunities abound for contract manufacturers and medical device OEMs, as long as they are on the same page when it comes to smart sourcing.
© MTME - MedTech Media Europe II Joseph Heeg