The Evolution of Full-service Outsourcing
OEMs and Contract Manufacturers Forge Closer Bonds As More Functions Are Turned Over to External Partners
Andy Teng - Editor
Product manufacturing remains a key component of outsourced services, but increasingly other operations are being turned over to contract providers. Above, Synovis employees inspect precision micro-coiled products. Photo courtesy of Synovis.
Outsourcing in the medical device industry these days has become a marketplace of pushes and pulls. Even as OEMs demand more from their contract services partners, those same providers are figuring out novel ways to insinuate themselves into the daily operations of their customers. The idea of partnership is taking on a new meaning as a plethora of responsibilities shift from customer to vendor, redefining the concept of full-service outsourcing along the way.
A nebulous term, full-service outsourcing today connotes different meanings to different parties. In one sense, the concept might mean providing all manufacturing-related services; to others, the term could include front-end design functions as well as distribution and supply chain management. Whatever the meaning, industry observers point out that full-service outsourcing encompasses a much broader scope today than a few years ago.
Lots of Arrows
"What full-service outsourcing means today is a broad range of services, depending on what a particular customer needs," said George Blank, the president of South Plainfield, NJ-based The MedTech Group. "If you're going to be providing full-service, you're going to need a lot of arrows in your quiver."
Blank and other contract manufacturers say full-service outsourcing has significantly evolved in recent years and will continue to do so in the foreseeable future. That's because the medical device industry is becoming more sophisticated in its manufacturing strategies as OEMs look for ways to focus on core competencies. In the past, medical device companies included manufacturing as part of their core mission. Today, design and even some R&D activities are seen as distractions and take resources away from mission-critical functions. As device marketers leverage their strengths, they are also paring down their weaknesses through outsourcing partnerships.
Much in the way that other industries have already consolidated their vendor bases and honed in on essential operations, the medical device sector is following a well-traveled path. Often, procurement professionals with prior experience in the electronics or automotive industry drive the outsourcing push as they undertake cost-cutting efforts. They are able to impose new paradigms that have a profound impact on outsourcing practices in the medtech sector.
At the same time, contract manufacturers are making greater inroads into their customers' operations. As they invest in expanded capabilities and identify services valued by OEMs, contract manufacturers build closer relationships with customers. Many are also racing to become one-stop shops that can provide everything from soup to nuts. But even that target seems to be moving as the definition of one-stop shops have changed over the years.
"Maybe soup to nuts meant one thing 20 years ago. Now it includes utensils, napkins and everything else," said Tom Black, the vice president of sales and marketing for Bethlehem, PA-based B. Braun OEM Division, one of the largest medical contract manufacturers in the world. He pointed out that B. Braun is asked to provide a plethora of services not traditionally associated with contract manufacturing. These include distribution, marketing and even research in some instances.
Because the company is also a global OEM that supplies hospitals, it has vast resources to provide those services.
However, the inherent peril for some contract service providers is overextending themselves in their efforts to be all things to all customers. At a time when the lure of revenue growth can divert investments to potential customers from existing ones, service providers are finding they must balance the call to expand into new territories against the pitfall of being spread too thin. By the same token, manufacturers must be cautious not to fall behind to competitors racing to offer more full-service capabilities. At this point of the outsourcing evolution, medical contract manufacturers must walk a thin line indeed.
Diluting the Identity
In the eyes of one OEM, it's clear that vendors face a dilemma. Issac Young, the director of strategy and operations, North America, at Baxter BioScience, said service providers are trying to offer a broad range of services, but they run the risk of blurring their identity. While those who concentrate in only a few products and services will usually be recognized for their specialities, the same can't be said for manufacturers that boast a broad range of offerings.
On the other hand, he added, companies that can offer turnkey solutions stand a better chance of winning business from OEMs because they are looking for solutions and not just products.
"You might sit there from the financial side and say, 'I might pay a little more [for a turnkey solution] but there's less risk,'" Young pointed out.
He added that risk mitigation is a powerful incentive for OEMs because the costs are significant. Baxter had initiated a number efforts to measure risks costs, he said, but it's a very "subjective" process. Nevertheless, he added, risk aversion plays an important part in any company's decision to outsource.
Avoiding risk is not just a concern of large companies such as Baxter. OEMs of all sizes are asking their contract service providers to take on risk. From services varying from ensuring products are delivered to end customers on time to undertaking entire product designs, outsourced manufacturers have become in many instances buffers for their customers.
Take the case of Synovis Life Technologies of St. Paul, MN. A surgical OEM that also offers contract services, the company leverages its expertise in product development and even regulatory expertise to help OEM customers launch products more quickly. Focused on a variety of products for surgical, cardiac rhythm management (CRM), vascular intervention and neurological markets, its Interventional Solutions business, which offers contract manufacturing, has gone as far as developing and acquiring a 510(k) for a sterile stylet. The company offers the product to other OEMs who can market it either under their own label or that of Synovis.
Richard Kramp, the president and COO for the division, said some CRM companies may be so focused on the next generation of implantables that they fail to adequately develop devices used to place the leads into the patient. Ironically, ease of use of the delivery system often help drive sales. By offering an already approved stylet, those companies don't need to develop their own.
"They've welcomed it because they don't always have the R&D dollars to develop this. This is where we can add value and take on some of the risk," he said.
Kramp said the company's unique approach to providing full-service outsourcing sets it apart from competitors. While many manufacturers offer design and engineering services in addition to manufacturing, Synovis' proprietary technology allows it to reduce some of the risks associated with product launches. This effectively shifts the risk burden from OEM customers to Synovis.
He added that because its hospital products business is constantly developing its own products, Synovis is able to leverage internal capabilities to help its contract manufacturing division.
"There is a bit of risk [to Synovis], but it's mitigated by the fact that we [develop products] only in the areas of our main business," he added.
Because it can help reduce risks, full-service outsourcing is being looked at more closely by OEMs, said Randy Keene, the president of Fort Worth, TX-based Avail, one of the largest contract manufacturers in the medical device industry. He argued that OEMs who place more business into the hands of one supplier may actually be at less risk.
He used an example of a small outsourced component costing pennies. To the component manufacturer, it may be an insignificant piece of business that garners scant attention. To a company such as Avail, the component may be part of a larger contract valued at perhaps millions of dollars. So even though the part itself is minor, it's as important as any other component made by the full-service provider.
"If we get the chance to mitigate the risks for our customers, then every aspect of that product is important," he added.
A Wider Range of Services
Shouldering risks is just one facet of what many contract manufacturers are assuming these days. As the outsourcing model transforms, service offerings are broadening as well. A more recent phenomenon-management of the supply chain-is adopting the practices of high-volume industry. For example, tier-one suppliers have always been a critical partner to auto makers because they procure and manage other suppliers in the chain, freeing customers from the arduous task of managing materials and services.
Using computer-aided design systems such as mold-flow analysis and finite-element analysis tools, an engineer at Fort Worth-TX-based Avail helps refine a product. This type design work is becoming more common in today's outsourcing model. Photo courtesy of Avail.
"It's the turnkey approach people are looking for from an outsourcing partner who has the ability to manage the entire supply chain," said Jim Wagner, the vice president of engineering at Harmac Medical Products in Buffalo, NY.
Wagner said the desire to offload supply chain responsibilities is becoming so great that many OEMs view it as a critical value-added service they must have from a contract service provider. Managing procurement, supplier quality, validation, sourcing options, volume purchasing and other issues has become increasingly complex. By shifting those burdens to vendors, OEMs free up time and resources to focus on other projects, he said.
Wagner likened OEMs to grocery stores. By having vendors stock the shelves, they don't need to expend energy on such mundane tasks.
"We're correlating [procurement activities] with our customers inventory level and managing their inventory in the warehouse," he said, noting the process has changed markedly over the years. "Years ago they would just issue a purchase order and you would make 5,000 widgets and put them on the shelf."
Today, full-service providers link production to customers' forecasts, using tools such as lean manufacturing and Six Sigma to reduce waste and excess inventory, he added.
Another driving force behind the move to vendor-managed supply chains is the effort to consolidate the vendor base, pointed out Dean Schauer, vice president of engineering for the endoscopy division of Newton, MA-based Accellent. He said many of his company's customers now want Accellent to provide all of the services and products that they used to purchase from a number of vendors. They can also benefit from economies of scale through its purchasing power, he added.
"There's probably not a conversation that I get into with a customer in which supply chain consolidation isn't discussed," said Schauer. "That's probably one of the biggest things you hear from the customers: 'The reason we come to you is so we don't have to worry about that part of the business.'"
Asset Acquisition Strategy
Managing customers' supply chain is taking place in many forms. In fact, some contract manufacturers are taking over entire plants through asset purchases from customers. This tactic has emerged as an alternative to traditional outsourcing models, even though it is considered a mainstream approach in other industries.
For instance, Medtronic and Hospira in the past two years have turned over some facilities to contract manufacturers (see story on p. 62). These agreements call for the outsourced partners to oversee all manufacturing and related procurement activities for those groups of products. In exchange, they are awarded long-term contracts from the OEMs. While not widely emulated in the medical device industry, these accords are attracting the attention of numerous companies considering such an arrangement.
"We believe that the concept of becoming a partner with an OEM and acquiring their entire manufacturing or a portion of their manufacturing makes good business sense," said Christy Bieber Orris, the CEO of ATEK Medical Manufacturing, which acquired Medtronic's facility in Grand Rapids, MI, home of ATEK's headquarters. "Other industries have been more open to outsourcing finished product assembly than the medical industry."
Bob Thatcher, senior vice president of sales and marketing at Durham, NC-based TriVirix, said he believes that while medical device companies have been hesitant to sell assets to their suppliers, that will likely change as they see successful examples of the model emerge in the medical industry. He added that the practice will likely accelerate as companies realize the benefits they can gain on their balance sheet through asset divesture.
"It seems the device industry has been the holdout in the outsourcing of products whereas the consumer and electronic industries jumped on the bandwagon years ago," he said. "It's not a question of if but when."
Thatcher said that the sector has been slow to adopt this model because of concerns about FDA regulations. However, as Medtronic, Hospira and others demonstrate that such deals can be executed without being bogged down in regulatory quagmire, more companies are apt to follow.
Another function OEMs increasingly outsource is product design and development. Just about all sizable contract manufacturers have design teams in place to aid a customer's development process-from making minor changes before a product is transferred to the assembly lines to producing entire designs on the proverbial drawing on a napkin. This trend is driven by both expanded capabilities at the manufacturer's facilities and a conscious effort by medical device companies to increase their outsourcing activities.
It also indicates a fundamental shift in how OEMs view their core competencies and those of their suppliers. In the past, design was clearly the domain of device companies; today, the responsibilities are often shared between the customer and their contract service providers.
"More and more people are getting that front end beefed up," said Kelly Stichter, the opportunity development manager for Hudson, WI-based Phillips Plastics Corp.
Like many injection molding suppliers, Phillips' customers are involving the company earlier in the product development process and tapping its group of engineers to improve on design. Phillips said it must provide value-added services in these competitive times. "We realize that we can't be competitive making just components any more," Stichter said.
Like Phillips, Scottsdale, AZ-based The Tech Group is growing its engineering department to service the needs of its customers. With more than 45 engineers on staff, the company said it realized that it needed to make investments to keep up with customers' demands.
"We did a gap analysis and we understood where we had to be and we reacted to it," said Tom Podesta, the vice president of healthcare for The Tech Group.
He pointed out that the company is often pulled into a project to help refine final designs; other times, the company is starting much earlier in the cycle.
Podesta said one reason why OEMs increasingly are turning to molding manufacturers for design input is that they realize the cost benefits of having that input before a design is finalized. Working in conjunction with the contract manufacturer's design team, the OEM can make minor changes that will have a major impact on manufacturing costs.
Additionally, injection molders and other manufacturers may have more knowledge of new materials and processes to help minimize costs.
Podesta added that the trend of soliciting manufacturers' input in the nascent stages will continue, perhaps involving them as early as the research stage. That in turn may lead some manufacturers to offer contract research organization (CRO) types of service. "The benefit is once the project ends, they cut it off and they don't have to keep that headcount," he added.
While assembly remains the core function of full-service outsourcing, contract manufacturers are being asked to-and providing-a myriad of other services. Above a worker for B. Braun Medical-OEM Division prepares products on an assembly line. Photo courtesy of B. Braun.
Aside from offering design and other front-end services, contract manufacturers say a myriad of other demands are transforming their role in the medical device industry. These include:
• Leveraging the expertise a contract manufacturer may have through a sister OEM company. Many contract providers grew out of their own finished device business. B. Braun, Eagle Labs and Synovis are just a few contract manufacturers that also market and distribute their own finished products. As a result, they have insight into the regulatory, sales and marketing and distribution hurdles companies must clear to sell to hospital, clinics and doctors' offices.
Rich De Camp, general manager for Rancho Cucamonga, CA-based Eagle Labs, said the ophthalmology company's contract manufacturing business has grown tremendously because it offers a wide range of services, including assembly, sterilization, validation and even fulfillment. Eagle, which has a portfolio of more than 400 of its own finished products, began offering contract packaging and sterilization services to larger OEMs three years ago. Many of its customers are startups and small companies, so they require guidance and support in many areas, including managing inventory, regulatory support and order fulfillment. Being familiar with end customers also helps the company understand their customers' marketing as well as manufacturing needs. De Camp said some companies require all of Eagle's services while other need support in a just a few areas.
"They may need CE marking. We provide that service as well. We can do something as simple as piggybacking their products onto ours," he added.
• Contract manufacturers are increasingly viewed as partners than as vendors. As OEMs entrust more of their products and processes to service providers, they realize a tighter integration between internal and external operations is needed. To do this, they are sharing forecasts, strategic planning and even marketing plans with their contract manufacturers.
"If you look at our top 10 to 20 customers, we're viewed 95% of the time as a partner," said Avail's Keene.
He stressed that OEMs approach partnerships differently than vendor-customer relationships. For instance, there are multiple contact points within the two companies. Also, issue resolution takes place in a less adversarial way. Furthermore, medical device companies invite partners to product development meetings.
"Ten years ago they wouldn't have allowed us in that room; today it happens all the time," he added.
• OEMs are taking a more active role in contract manufacturers' capital investments. To incentivize companies to make continuous cost and quality improvements, some customers are rewarding service providers with more lucrative terms or outright purchasing equipment for them.
"In some cases, customers will help make the investments or guarantee a level of production," said MedTech Group's Blank.
Kramp said his company has benefitted from customers investing in new capital equipment for Synovis. Although new equipment can help attract new customers, there must be sufficient justification for these purchases.
"We can't make a $600,000 investment with a hope of getting $100,000 worth of business. We have to look for business that is many times that of the investment," he added.
• Customers and contract manufacturers are jointly implementing process tools such as lean manufacturing to cut production costs. Service providers know that as their customers become more efficient, they stand to benefit. Schauer said many of his customers operate kanban inventory schemes or rely on Accellent to manage inventory.
Similarly, Harmac said it is helping customers to adopt lean initiatives. "We can provide definite input into designing their subsystems," said Wagner. "We're helping them to become more efficient. It only helps us. The faster they can differentiate themselves in the field, the more products they can sell. We're an extension of their whole plant."
Other functions that may be more fully incorporated into future outsourcing models could include sales and marketing support, regulatory submissions (see sidebar p. 87), field servicing, patient surveillance and more, some manufacturers say. As extensions of their customers, contract manufacturers may be called to perform just about any function their customers deem not essential.
Clearly full-service outsourcing has evolved to encompass a broader range of services. As the medical device industry takes its cues from other manufacturing sectors, it is likely to incorporate even more practices from the outside. And for champions of this evolution on both sides of the aisle, the changes can't come fast enough.