Christopher Delporte and Michael Barbella05.10.12
The deal hardly seemed revolutionary at the time. But in hindsight, the arrangement brokered by Eastman Kodak Co. CIO Katherine Hudson was a seminal event—a milestone that has become as important to the business world as the invention of the printing press was to the
Medieval World.
On that early October day in 1989, Hudson negotiated an agreement to outsource most of Kodak’s IT functions to IBM for $250 million. The move not only helped the multinational imaging and photographic equipment, materials and services giant cut costs, it also launched the practice of outsourcing, a business strategy that had been tentative and experimental until that point.
Since then, outsourcing has grown to become a standard practice in most industries. Even the medical device sector, which typically is hesitant to embrace new business strategies, has incorporated the practice over the last two decades as increased competition, shrinking reimbursement rates and emerging markets forced manufacturers to operate more cost-effectively and efficiently. Though it has not changed the rudiments of business, outsourcing has transformed the way companies create and distribute optimal value from those fundamentals.
From its roots in hardware operations, outsourcing has moved steadily up the value chain, first digesting applications and software, then conquering higher-level business processes and services such as design, prototyping, testing, research and development, and manufacturing. In its third decade, outsourcing could very well tackle the frontiers of strategic value and innovation as companies wrestle with the challenges of globalization, healthcare reform and economic uncertainty.
The medical device industry has fared better than most, but the past few years haven’t come without their share of obstacles for device makers—shrinking pools of capital, regulatory unknowns,
increasing cost pressures, just to name a few.
For the most part, outsourcing providers remain optimistic—positioning themselves as problem solvers for their OEM partners. And most, despite some of the challenges that remain, continue to see opportunity ahead.
To better assess the future of full-service outsourcing service’s path and its potential impact on medical device firms, Medical Product Outsourcing spoke to more than half a dozen manufacturing professionals over the last few weeks.
Panelists for this year’s installment of MPO’s annual question-and-answer session included:
1. Have you seen a change in requests for full-service outsourcing in the last year? What factors are contributing to the current climate?
Randall S. Barko: We have seen a mixed bag of requests from our clients in the last 12 months. Many of our major clients have been looking for us to take responsibility for the complete supply chain effort including clinical builds and market launch quantities. On the other hand, many early stage clients have been looking to complete individual milestones as they proceed in parallel with fundraising activities. The major factor contributing to both is limited resources in either manpower or financial support.
Bethania A. Tavárez: In an ever-expanding, changing and regulated industry, Oscor understands that to improve quality and control cost and lead times it needs to completely vertically integrate all key elements of product development and manufacturing. In the last decade, Oscor has invested significant dollars to continue to expand its vertical growth. This has resulted in consistent annual growth of 27 percent to 30 percent. Oscor has four major core areas of business, which include cardiac rhythm management, atrial fibrillation, cardiovascular and neuromodulation. These platforms are leveraged by our OEM customers and emerging companies to allow them a faster turnaround and access to proven technology. We believe that our bigger OEM customers are concentrating on investigating next-generation products and business opportunities.
Gregg Olson: OEMs evaluating the concept of outsourcing for the first time and customers looking for more innovative solutions from their supply chain partners. What factors contributed to the change? OEMs have a laser focus on reducing unit costs and driving innovation.
Brian Highley: More and more OEMs are recognizing the need to focus on their core competencies such as R&D and marketing. So they are turning to strategic partners like us for their product development and manufacturing needs. At the same time, we are able to offer them a global operational footprint and supply chain continuity, ensuring more competitive pricing.
Renae Moomjian: Yes, more companies are asking for full-service outsourcing. A greater breadth of service requests have come to Xeridiem over the past year. Many of the startup and larger companies are expanding their service needs. The economic downturn has contributed to more outsourcing from larger companies. Many companies haven’t expanded their internal resources and they are relying on companies like Xeridiem to act as an extension of their product life cycle maintenance. In addition, supplier network consolidation has had an impact. Once a quality supplier is identified, then companies tend to outsource more projects to them. It is easier to manage a handful of trusted, full-service qualified suppliers than a larger network of specialized companies.
David Cocke: Most of the inquiries we’ve gotten in the last year relate to full-service outsourcing opportunities. We see the smaller companies that want to focus their capital where it will yield the highest return, and they have little desire to “re-create the manufacturing wheel” when their main focus is driving market demand and development of new products.
Dave Busch: We have had several customers request design-through-commercialization-production services. We have also received a number of inquiries from medical OEMs requesting proposals for a “full-service outsourcing” solution that includes design, production and often repair services. Most of these requests are for complete product build and put-into-service fulfillment. The drive to “variablize” a product’s cost seems to be the driving factor for the increased requests as well as the realization that product costs are primarily driven by materials and design. OEMs want to take advantage of contact manufacturers’ material spend aggregation as well as the ability to variablize portions of product design or refresh costs. We’re also seeing an increase in requests to review designs for cost and manufacturability even if we’re not asked to perform the design work.
2. What services are popular with customers? Why are these services so important to your client companies?
Tavárez: Oscor’s design, validation and regulatory services are among the most popular. Our customers understand that for a successful regulatory submission, you must have a solid product design and robust design verification to ensure a successful and timely product launch.
Highley: Historically, OEMs came to us for our injection molding expertise. Now, they rely on us for product design and development, value engineering, and finished device assembly, as well as launch to distribution and other post-production services. By offering all of these services, we enable our customers to better focus on building and sustaining their competitive advantage.
Barko: Our ability to provide an integrated solution from insight to outcome is by far the most popular service we bring to our clients. Since we have a complete roster of expertise in-house from research to NPI [new product introduction] we can complement the resources of our clients whether it is electrical engineering, software development or managing clinical trials. Our value proposition is to minimize the risk and deliver on time and within budget so we become a reliable extension of our client’s capabilities. Our services are a variable cost to our clients so they don’t have to manage a department P/L [profit and loss] where headcount is a fixed cost. We provide them with a lot of flexibility and since we have a track record with them, they are comfortable with our recommendations.
Moomjian: Entrepreneurs and smaller companies are interested in our full-service capabilities including full regulatory and logistical support. Many startup companies and entrepreneurs are not only looking for guidance on how to get their devices approved globally but also need someone who can process the approvals for them. The logistical support we offer has enabled some entrepreneurs to literally run a company from their iPhones. Xeridiem acted as the bricks and mortar as they got their companies off the ground and raised additional funds to expand. Larger companies look to Xeridiem as an extension of their engineering teams. As mentioned earlier, many large companies have not expanded their engineering support for product life cycle maintenance yet still need to support products in the field. Oftentimes these companies ask us to help them make enhancements to an existing product line. They appreciate our responsiveness and ability to meet their needs quickly and efficiently while enabling them to refresh product lines without the need to hire employees.
Busch: As I mentioned earlier, design for manufacturability and design for cost are two services we’re being asked to perform for existing products. We’re also being requested to provide electronic design including board layout, schematic capture, FPGA (field-programmable gate array) programming and such. There are several reasons why these services are important to customers. Electronics and software are increasingly the product’s differentiation. Knowledge of component obsolescence cycles and design for testability are critical for product differentiation as well as achieving target market pricing. Contract manufacturers now have greater skill and expertise in supply-base trends and state-of-the-art test procedures than medical OEMs, which is why the services have become more important.
Olson: Popular services are manufacturing in low-cost locations, which must be safe and stable and have proven quality systems. Innovative component and design service capabilities that help facilitate breakthrough products. Why are these services so important to customers? Customers want help driving revenue and lower unit cost, but with world-class quality.
3. Customers are expecting a full service of capabilities from their manufacturing partners. With supplier lists shrinking, how do you stay innovative to remain on those preferred vendor lists and differentiate yourself from other companies?
Barko: One of the best ways to differentiate yourself in a competitive market is execution. We strive to treat every customer every day like they are a new customer because we know that if we don’t, somebody else will. You can’t take anything for granted and assume that just because you did a great job for them that they will award you the next program. We are fortunate that we have many global clients and we have had a presence in Asia for over two decades developing and managing sourcing strategies and working to qualify suppliers in a number of commodities and technologies. In fact, since Ximedica is not vertically integrated with in-house manufacturing of components we can be completely agnostic in our development assignments to incorporate the best solution—process and technology—for our clients’ products. We don’t need to design the component to fill up our underutilized molding machines or metal stamping machines. We have complete design freedom to bring innovation and value to our clients. And we recognize that innovation without value is not acceptable to our clients or their customers.
Busch: There are two vectors to this question. Matching contract manufacturers’ size to an OEM’s business unit and product-specific solution offering. Contract manufacturers will increasingly have to provide services in an environment that matches the OEM’s. If you’re building high volume cost sensitive products like a blood glucose [meter], a Tier One with a low-cost- country supply base is probably a better partner; whereas if you’re building a low-volume, high-complexity ophthalmological surgical instrument a Tier Two with skills tailored to such instruments will be the better choice.
Moomjian: Being close to our customers and responsive to their needs allows us to remain a preferred vendor. Xeridiem maintains the highest quality standards and understands that our customers need suppliers that rigorously adhere to global quality and regulatory standards. Factors that differentiate Xeridiem are providing full service, comprehensive support to medical device companies. We can take a concept from the initial design to final manufacturing. Once the manufacturing is in place, we can also offer supply management and logistics for the device.
Tavárez: Oscor provides full services, from concept to high-volume manufacturing. We are completely vertically integrated, allowing maximum flexibility. Oscor allows OEM customers to use their technology and IP [intellectual property] at a reasonable cost and at no cost with a contract manufacturing agreement. We invest regularly in the latest technology to remain current, to maintain efficiency and keep costs down throughout the manufacturing process. Manufacturing [cost] savings are shared with OEM customers on a year-over-year basis.
Olson: Proprietary, innovative components and processes.
Cocke: Our product focus is our customers. We target an under-served niche in the medical products outsourcing business—the entrepreneur and startup. Our greatest innovation is attention to our customers, and becoming an extension of their company. So when they have an urgent need, they don’t think, “I better call NuPak Medical,” they think, “I better call Jeff.”
Highley: We continuously look beyond today’s needs, adding capabilities such as design, automated mold making, technology development, and ODM [original design manufacturer] business model that provide innovative, cost-effective solutions through each step of the integrated value chain.
4.Trust is one of the key components of a good outsourcing partnership. In what ways can companies establish trust with their outsourcing partners?
Busch: As with most service providers the relationship can fall anywhere on a continuum from supplier-transaction-based to strategic-partnership-based. A trusted-partnership is essential for products and services that are core to the product’s success, have high switching costs and typically have long horizons. Transaction-based relationships are more appropriate for commodity type products/services, where switching costs are low and the product and service has a short horizon. Key to a good outsourcing relationship is agreeing on the type of relationship it should be.For those relationships that are strategic and long-term, building a bond of trust ensures that both parties feel fulfilled. Trust is built through repeated delivery of commitments that are agreed to by both parties.I’ve found that a project plan with detailed milestones that performance is measured against is an effective tool for building trust in an outsourcing partnership. Both parties can see where and when success has occurred and when milestones are not met, understanding why they were not met and remediating them strengthens the relationship.
Olson: Transparency. Sharing new product and technology road maps. Sharing cost data. Co-investment in strategic research and development initiatives.
Barko: Trust is obviously earned and it is a two way street. Both parties must work to establish the trust that leads to a long-term relationship. For years, outsourcing activities have been transactional. The supplier is kept at arm’s length and business is conducted on a purchase order by purchase order basis. Eventually the transactional relationship could evolve to a preferred supplier status where blanket orders and annual or multi-year purchase commitments are the way the business relationship is conducted. In some cases, the relationship could expand further into a strategic relationship or strategic alliance, where both parties are intimately involved at the C-level where they understand and share intelligence and in some cases share infrastructure. It can take years to achieve the trust to develop a strategic relationship between two parties but it begins with saying what you are going to do and doing what you say. It is a two-way street.
Tavárez: As an OEM service provider for over 30 years, protecting our customer IP is essential to a successful partnership. Oscor has policies in place to ensure our customer information is managed with the highest level of privacy. Oscor has been instrumental to the successful launch of hundreds of projects and we have a customer retention rate of 98 percent.
Cocke: I think the best way to establish trust with a customer is by showing them that we have their best interests at heart. We often build trust by creating savings opportunities for a client. For example, if a startup comes to us asking for pricing on an eight-cavity tool for their new device, which has zero sales and a fair amount of market risk, we’ll often convince them to start with single-cavity tooling to prove out the market opportunity before moving into high cavitation production tools. In other situations, we have performed a design review (from a manufacturing perspective) that replaced expensive custom parts with off-the-shelf alternatives. We look to establish long-term relationships with our customers; we want them to think of us as an extension of their company versus being a vendor. From our perspective, that pushes us to think of the relationship as a series of interactions vs. on a per-transaction basis.
Moomjian: It is important to be very transparent with customers, both positive and negative aspects of a project. The transparency develops trust and customers rely on that feedback. Also adhering to budgets and delivering on time is critical. Say what you do and do what you say.
Highley: We’ve earned the trust of our customers by seeking out feedback and listening, by our commitment to quality and service, and by delivering what we say we are going to deliver. Long-term relationships benefit both us and our customers—it’s a win-win—so we invest heavily in building them.
Lisk: The best way to establish trust is to make sure there is a very clear understanding up front regarding roles, responsibilities, and inter-company procedures. While setting up formal agreements regarding change control, process controls, and establishing other understandings such as product and process ownership can be an arduous task, they make for a solid foundation for a relationship where assumptions are minimized.
5.What are some of the risks both sides of an outsourcing partnership face when creating such a
relationship? What can be done to minimize those risks?
Moomjian: Identifying risks within a project up front with the customer helps alleviate issues and creates open communication. The risk of being a transparent partner is losing the business to another company that may not offer the same level of detail. Also, there are instances when we have underestimated costs and because delivering on-time and on-budget is critical to our customers, we have absorbed the difference. In general, however, identifying the risks up front and being very transparent with the customer throughout the design, development and manufacturing process minimizes these issues and builds trust.
Barko: Open communication at multiple levels between organizations is the key to a successful relationship. There are always changes in people in any organization so being connected to different disciplines at different levels is key to maintaining open communication. A successful relationship cannot rely upon a limited number of contacts between the parties. I like to describe the desired result as “customer entanglement,” where there are no surprises and both parties understand how the other party operates, which makes it easier for them to work with one another. With expectations clearly defined and understood by both parties, execution becomes the focus and risks are minimized.
Olson: The outsource manufacturing partner cannot absorb nor shield the OEM from market condition costs. What can be done to minimize those risks? Open and regular communication on cost drivers and conditions. Mutual strategy and involvement to counter cost changes.
Tavárez: It is imperative that the company outsourcing finds a partner that encompasses the experience and technological competency to execute all phases of a project. This will minimize the initial investment on both the customer and supplier.
Highley: When customers select an outsourcing partner, they not only invest time, energy, and money in the relationship, they take a risk that the partner will deliver what they promise. So we mitigate their risk by investing in the highest quality systems and processes, fostering clear communication at every touch point, establishing a sourcing strategy for both development and manufacturing, and by building a strong governance structure that openly shares information and solicits feedback for the betterment of the partnership.
Cocke: Entering into an outsourcing partnership creates risk for both the client and the contract manufacturer. The client must ensure the quality and production capacity of the contract manufacturer meet their expectations and production schedules, and the contract manufacturer must ensure that the client can meet its financial commitments. Typically, our customers underwrite NuPak’s abilities through audits and reference checks with other current customers. In addition, our ISO certification shows them that there is a foundational quality system in place, and that the system is periodically
reviewed by external experts. NuPak uses standard credit reporting services to monitor its customers’ payment histories. Finally, we have always believed that good contracts make for good partners. So we have an extensive written contract that covers all aspects of the business relationship. Besides being a regulatory requirement, this contract protects both parties and goes a long way to eliminate confusion with respect to which party is responsible for what.
Busch: Asymmetry in relationship expectations is the biggest risk—and cause of failure—in outsourcing relationships. One party is expecting an “intimate” relationship where everything is shared openly while the other party sees the relationship as purely transactional. This risk is best mitigated when both parties’ objectives are shared and discussed before the MSA and production work is underway. The agreement negotiations are a good means to understand what each other is expecting from the other.
6. Where do the smaller job shops and niche providers fit into the manufacturing value stream?
Barko: There should always be an opportunity for niche players because many innovations are driven by niche players. They may not have the quality systems or infrastructure to support direct supply to the OEM but if they bring a unique solution that can be incorporated to make the product better and more cost effective, they can be developed into an integral part of the supply chain with the support and guidance of the outsource partner or OEM. The key to success with a niche player is the ability to understand the potential risk and reward of their involvement. You are only as strong as your weakest link so you must be certain that the niche player is capable of meeting the needs from a quality and volume perspective.
Tavárez: Small shops are ideal for small prototypes run or as collaborators to full-service OEM providers on a consulting basis.
Olson: Providing a critical role as a Tier Two supplier/partner, aligned to support the primary outsource partner.
Busch: The commercialization process used to define where the different classes of service providers played—design shops for design and working prototypes; (typically) rapid prototype/new product introduction shops took the product to low-volume production (which is where many medical devices stopped on their growth curves) and larger contract manufacturers for “volume production” or for builds in other markets. Today, Tier Ones and most Tier Twos offer design-to-volume-production service so smaller shops are having to specialize in not only the service they offer but for the genre of products they can serve. Market segmentation to the product level is critical for success—picking up those segments the larger players don’t desire.
Moomjian: Smaller job shops and niche players are excellent partners when we are searching for low-volume commitments for smaller scale production runs—for example, new product launches. Typically, they don’t require large quantity commitments or long-term agreements. Also, niche players provide focused solutions to a specific problem and allow us to be flexible and provide that flexibility to our customers.
Cocke: As a smaller contract manufacturer, our niche is the company that is too small to get the attention or focus of the industry giants. NuPak Medical exists for the sole reason that a key customer was not able to get the service or turnaround time from its existing, larger contract manufacturer. We understand that our competitive advantage is helping small companies grow, and giving them the focus that larger contract manufacturers can’t or won’t.
Highley: Niche players and virtual shops typically try to compete on cost, where advanced technology, quality, and service are not important, but they are just not able to meet the needs of the larger OEMs.
7. Please discuss the importance of having a low-cost-country option as part of a full-service outsourcing menu of capabilities.
Lisk: Low-cost countries have their place and they can be an excellent way to reduce cost quickly and relatively inexpensively (compared to the investments required for automation); outside the United States is an attractive option to extend the lifespan of mature programs and for certain new-launch devices as well. We recommend keeping the highly complex equipment operations where the expertise exists to support them. Do your homework before choosing a site as there are many excellent options.
Barko: Over the last few years, low-cost-country options have almost become the flavor of the month. It is important to have low-cost options but you really need to understand the options you are considering. Medical device manufacturing cannot be moved overnight because the quality system, SOP’s [standard operating procedures], and process validations take time, training and monitoring. The infrastructure takes time to be developed and you must have the same consistency and reliability from one production run to another. Risk/reward must be clearly understood as well as the total cost of the product including time in transit, working capital, etc. If a product assembly is labor intensive, the manufacturing processes utilized to produce the components of the device are readily available locally and the quality systems and support infrastructure is well trained and proven, the risk with a low-cost-county option can be minimized. As I mentioned earlier we have been developing supply chains and low-cost country manufacturing of finished products for over two decades. We have experienced people on the ground in the region to provide oversight with our approved partners as well as working to qualify emerging and niche players to expand new capabilities for our clients.
Busch: Savvy medical device OEMs are triaging their product portfolios and building products closer to the end-market they’re intended for. Thus low-cost-country (LCC) facilities are increasingly building product in-market/for-market or building those products that benefit from lower cost labor and have
minimal logistics costs. Thus, single-use devices are typically well suited to be built or fabricated in an LCC facility as well as a medical device that will be consumed in the market of the LCC facility.
Moomjian: The importance depends on your business model. Commodity products typically are competing on price alone so oftentimes a low-cost-country option is beneficial. Highly specialized non-commodity products typically require highly skilled labor and stringent manufacturing conditions, which usually fit best within the E.U. [European Union] or U.S. model.
Tavárez: This is no longer an option, it’s a must. With the transformation of the healthcare industry, cost saving is a requirement to remain in the competitive medical industry.
Olson: COGS [cost of goods sold] has always been a key consideration and motivation for outsourcing. With today’s market factors, cost of goods is a stronger factor than ever. Low-cost manufacturing locations are where the focus and growth is. OEMs are becoming more sophisticated in evaluating a location’s safety, stability, quality systems, technical support, supply chain component, and services offerings.
Cocke: Although overseas manufacturing can work, for our smaller customers it’s difficult to get the focus and effort that the larger device companies can command. In addition, the long lead times associated with overseas suppliers complicate supply chain planning and require a higher inventory level, which sucks up critical working capital. We’ve seen customers with 16-week lead times quoted for repeat orders to run. In the states, the lead times would be less than a month. Our customers have often found overseas cost savings illusory. The economics are enticing, but we have seen customers miss out on entire product life cycles due to the inability of a Chinese manufacturer to produce conforming parts. We recently received a first article package for a customer from an overseas partner showing outstanding critical product measurements. The only problem was that the luer connection was missing on half the parts.
8.How do you maintain quality in a full-service outsourcing setting, given the more critical and unpredictable examination of device approvals and uncertainty among manufacturers about the current regulatory environment?
Barko: Never, never, never compromise on quality. There are always the pressures of deadlines for deliverables but the quality culture must be the driving force of everyone in the organization, starting at the top. A good reputation takes years to build and can be lost in a day. There are no shortcuts in quality and regulatory compliance. The quality system must be robust and also flexible to handle multiple customer and product requirements. We can provide clinical and regulatory guidance to our clients and our quality system has been audited by many of the top medical OEMs who constantly challenge our system and procedures, which we look at as an opportunity to learn from the best. We know that whatever we are doing today will not be good enough for tomorrow and we embrace the opportunity to improve what we do.
Tavárez: Oscor’s situation is unique due to the vertical integration of our processes. This makes us extremely attractive to the OEM customer since this allows us maximum control of the supply chain. This minimizes the exposure since the number of critical suppliers are low for material at the lowest grade.
Highley: Our expanded footprint is a direct result of needing to be in the regions where our customers do business. With facilities in four locations in the U.S., and in Puerto Rico, Mexico, Ireland, France, Germany, India and China, we provide an extension of the OEM’s local manufacturing capabilities, as well as offering them the benefit of low labor cost countries.
Olson: You must maintain a rigorous daily focus on quality systems and world-class compliance. This includes training, monitoring tools, and quality system automation tools.
Moomjian: We make quality a priority for the organization from top management down. Our Quality/Regulatory group is focused on staying current with the FDA as well as other global standards such as ISO 13485. Our goal is to consistently improve quality and we welcome working with the FDA and other organizations to deliver safe and improved products to the market.
Busch: Dollars spent up front on design for manufacturability, design for testability for improved manufacturability and test more time spent on failure modes and effects analysis for risk assessment significantly improve quality, reduce risks and ultimately total cost of ownership. Once the process is validated it’s hard to improve quality. It becomes a game of measuring and maintaining quality.
Highley: Our people understand the regulatory environment, and have transformed quality from a cornerstone philosophy to a way of life—a way of life that touches all planning, development and manufacturing activities. We continually invest in ensuring what we consider the “table stakes” of our industry—quality and compliance, and we have developed an effective and robust quality system to maintain adherence.
9. In a full-service outsourcing partnership, is it important to have an assortment of capabilities under one roof or can strategic partnerships get the job done? Does that (assortment of capabilities) make the supply chain more complex?
Barko: At Ximedica we have a full range of subject matter experts integrated in-house from research to new product introduction (NPI). We have established strategic partnerships with a number of medical-focused contract manufacturers where we have jointly brought products through the development process including NPI and successfully transitioned a documented manufacturing process into high-volume production. We have done the same with OEMs’ in-house operations. In these cases the supply chain has been identified, developed and approved during the early stages of development process to minimize the risk associated with transition into high-volume production. Our focus is time to market, handling the low volume, high-risk requirements for clinical trials, market tests and product launch. We can support lower volume production until the market acceptance justifies high-volume production. We minimize the risk to the OEMs in a variable cost model where we can leverage our highly technical staff to handle multiple programs with dedicated resources.
Tavárez: Both situations can be managed, however, having an assortment of capabilities under one roof allows for superior control of quality and cost. At the same time, this simplifies our customers’ supply chain by having one source for a device that requires multiple capabilities. In addition, this has a significant impact on our customers’ annual expenditure dealing with supplier audits and quality assurance and supplier controls.
Moomjian: It is dependent upon a company’s business model. In general strategic partnerships are important, however, a base expertise is also needed to augment and find the best solutions. We have a base of core competencies and we have a network of strategic partnerships. As the medical devices we have been working on have increased in complexity, it has made more sense for us to find strategic partners rather than trying to bring the specialties in house.
Olson: OEMs want their outsourcing partner to provide as much of the value-add as possible. The motivation is that it reduces costs and mitigates risks of numerous suppliers. It also allows a supplier to provide more innovative solutions for improvements and new product designs.
Cocke: We have been successful using strategic partnerships to meet the needs of our entrepreneurial customer base. When there is an occasional or intermittent need for a service, we have a network of service providers established over the years that allows us to provide a one-stop approach for our customers without the committed overhead expense.
Highley: We find both are important to meet the diverse needs of our customers, so we have both in house core competencies and strong strategic partnerships. To add the most value and reduce complexity for our customers, we manage them seamlessly.
Busch: The vertically integrated campus works well for high-volume products with minimal configurations. The supply chain can be optimized for volume production with reasonably stable forecasts. For more complex devices with multiple configurations or variations by region or market and variable forecasts a confederated supply chain often provides the greater flexibility required to fulfill customer requirements.
10.What impact will the medical device excise tax have on full-service outsourcing partnerships?
Barko: Certainly we have already seen significant reduction of resources at the OEMs. There has been a renewed emphasis to leverage their strategic partners in a new outsourcing model sometimes referred to as “Outsourcing 2.0” where there is a sharing of the risk and reward in a more focused approach that can optimize innovation, reduce cost to the OEM and increase the profit opportunity for the outsource provider. This focus could be with a particular product portfolio or product family where the results are more easily measurable. This approach, also referred to as “supplier enabled innovation,” is being pursued by a number of major OEMs now and I would expect the co-development model to become more desired going forward.
Busch: Too early to tell but its cost is another reason medical device OEMs are outsourcing—to produce their products in facilities with higher asset velocity.
Olson: OEMs’ focus on cost reduction has never been stronger. OEMs that are immature in the outsourcing option are commencing on their initial evaluations of the opportunity to do so.
Moomjian: It depends on the nature of the relationship of the supplier. Pricing usually takes into account the tax and the agreement of the final responsibility for the tax. Agreements are considered and they need to be clear to maintain a transparent communication of the responsibilities.
Cocke: To the extent that this tax forces our customers to look for more cost-effective production alternatives, we feel well-positioned to offer a portfolio of manufacturing solutions to our customers. Unfortunately, any increase in expenses will make new products more difficult to justify and we fear this new tax will have a stifling effect on innovation, and ultimately, patient outcomes.
Tavárez: That is to be determined. However, this will force the entire industry to become even more sensitive about its cost-saving.
Highley: The new tax is very much factored into the decision to outsource. It is expected to put pressure on margins, result in job loss and impede innovation. We are keeping a close eye on the implications of the tax and are collaborating on new go-to-market strategies that will minimize the impact.
11. Does outsourcing become more imperative in a tight financial market?
Barko: Cash is king and investors are looking for a return on their investments. In public companies the share price drives the business and quarterly results sometimes force short-term decisions to increase quarterly results at the expense of long term strategy. R&D budgets are being trimmed as a P/L [profit and loss] expense and several major OEMs are looking to leverage the R&D dollars by shifting some of the spending from the P/L to the balance sheet, where they will invest in emerging technology companies along with VC [venture capital] funding. In many cases these niche opportunities are being developed by these emerging technology companies by the same outsourcing partners that are also working with the OEMs. The key is leverage and risk sharing with greater focus on time to market.
Tavárez: We believe it does, due to the fact that some companies have an enormous overhead dealing with their internal operations, manufacturing, supplier and supplier controls. Having the correct OEM provider will not only save the customer operating cost but it will allow them to be more cost competitive while carrying smaller liability, which represents even more savings.
Moomjian: It depends on a company’s business model. For some companies, the project could be easier to manage with one person rather than five different companies. Or it could be better to outsource to a trusted partner rather than do it all in house.
Highley: Absolutely. It calls attention to the need to control costs and focus on competitive advantage.
Cocke: In tough capital markets, the need for capital efficiency becomes paramount. As a contract manufacturer, we have made investments in production capacity and quality systems that our customers can leverage, and focus their spending where it will do the most good for their business plan—typically on additional research and development and on product marketing.
Busch: Not just in tight financial markets but as manufacturing becomes increasingly complex to obtain the skills of manufacturing specialists.
12.Have improved economic conditions impacted your business at all?
Tavárez: Yes. We have seen a significant amount of new ventures and new development projects arising from the improved conditions.
Barko: We continue to invest in our range of services and in-house expertise. We opened an office in Minneapolis, [Minn.] last fall to support local clients and we continue to add staff there to support these opportunities. The Ximedica culture, systems and procedures will be uniform in all locations as we continue expansion in other locations based on client demand through a formal training and exchange program. We have also continued to invest in our people because it is our people who make Ximedica successful.
Olson: We have been very fortunate to have a diverse set of solutions for our customers and as a result, we have experienced strong growth over the past several years.
Moomjian: We have started to see the economic change with volume orders improving and customers wanting to get their orders reserved earlier than the previous year.
Cocke: Given the nature of our customer base, which is focused on the entrepreneur and startup companies, macro economic conditions are much less of an issue for our company. If an inventor has a great idea, he doesn’t stop developing it if unemployment is 5 percent and the Dow [Jones Industrial Average] is up 20 percent for the year; he pursues it with the same zeal. Much more important to our customers is the overall regulatory environment for the device industry. Time is truly money for the folks we deal with, and delays and uncertainty created by unclear government and regulatory priorities can chill any entrepreneur’s desire to invest in a new venture.
Busch: More customers either are doing work in the U.S. or employing a bifurcated model of building lower intellectual property parts in Mexico and doing final assembly and test in the U.S. Logistics costs are impacting companies’ “where-built” decisions.
13. What opportunities (technological, financial, new markets, etc.) for growth do you predict for your business going forward?
Barko: We have seen a number of opportunities to co-locate team leaders with our key clients and we have several individuals located remotely. We will continue to leverage our resources to better understand our customers’ needs and provide better solutions. We are committed to maintaining a leadership position in both the evaluation and utilization of emerging technologies and with our global client base, expanding our capabilities to meet the needs of emerging markets. We cannot be successful without a business plan where profits fund growth and expansion. We are committed to provide value for our services so this plan can continue to be achieved.
Tavárez: We just expanded our Technology and Innovation Center due to the execution of various OEM contracts. Besides the increase in new ventures, we are also seeing significant growth in the transfer of existing technology to Oscor’s manufacturing due to our extensive facilities certification and IP.
Moomjian: More funding is to be allocated for research and development to improve our expertise and create innovation, and then we can offer our advancements to our customers.
Highley: We are expecting to see a return on the investments we have made in strategic acquisitions and technology, as well as our focus on emerging markets and building stronger relationships in our target segments. We are also poised for new business from our finished product assembly and packaging capability.
Lisk: The company is growing at a double digit rate and we expect to maintain that pace with contributions from multiple sources. In addition to new projects, we continue to find attractive investment opportunities to add to our capabilities and serve our customers better. For example, we designed and built a fully automated laser welding system for our Bridgeport, Conn., facility, and we are opening a low-cost assembly facility in the Dominican Republic. Both are in final qualification
activities and will be in service in the second quarter of 2012. Having a rock-solid financial footing has enabled us to seek out strategic acquisitions such as Boston Endo-Surgical Technologies in the fourth quarter of last year.
Medieval World.
On that early October day in 1989, Hudson negotiated an agreement to outsource most of Kodak’s IT functions to IBM for $250 million. The move not only helped the multinational imaging and photographic equipment, materials and services giant cut costs, it also launched the practice of outsourcing, a business strategy that had been tentative and experimental until that point.
Since then, outsourcing has grown to become a standard practice in most industries. Even the medical device sector, which typically is hesitant to embrace new business strategies, has incorporated the practice over the last two decades as increased competition, shrinking reimbursement rates and emerging markets forced manufacturers to operate more cost-effectively and efficiently. Though it has not changed the rudiments of business, outsourcing has transformed the way companies create and distribute optimal value from those fundamentals.
From its roots in hardware operations, outsourcing has moved steadily up the value chain, first digesting applications and software, then conquering higher-level business processes and services such as design, prototyping, testing, research and development, and manufacturing. In its third decade, outsourcing could very well tackle the frontiers of strategic value and innovation as companies wrestle with the challenges of globalization, healthcare reform and economic uncertainty.
The medical device industry has fared better than most, but the past few years haven’t come without their share of obstacles for device makers—shrinking pools of capital, regulatory unknowns,
increasing cost pressures, just to name a few.
For the most part, outsourcing providers remain optimistic—positioning themselves as problem solvers for their OEM partners. And most, despite some of the challenges that remain, continue to see opportunity ahead.
To better assess the future of full-service outsourcing service’s path and its potential impact on medical device firms, Medical Product Outsourcing spoke to more than half a dozen manufacturing professionals over the last few weeks.
Panelists for this year’s installment of MPO’s annual question-and-answer session included:
- Randall S. Barko, president and CEO at Ximedica LLC. The Providence, R.I.-based company provides expert human-centered research, product development, regulatory and introductory manufacturing services to leading medical and healthcare companies.
- Dave Busch, vice president of Business Development and Marketing, OnCore Manufacturing, a provider of electronic manufacturing services. In addition to its medical division, the company also provides product commercialization services for low- to medium-volume, high-complexity products to the aerospace, defense and industrial sectors.
- David Cocke, general manager at NuPak Medical Ltd., a contract manufacturing and packaging firm based in San Antonio, Texas.
- Brian C. Highley, vice president ofDesign and Development for the Healthcare unit of Clinton, Mass.-based Nypro Inc. The company’s largest business segments are healthcare and consumer electronics. Services include design management, precision injection molding, and high-speed assembly and process development. The company has multiple facilities worldwide.
- Ken Lisk, business president of Bridgeport, Conn.-based Lacey Manufacturing, a full-service contract manufacturer of finished assemblies, subassemblies and precision components for the medical market. The company is a division of Precision Engineered Products LLC.
- Renae Moomjian, business development director for Xeridiem Medical Devices, a Tucson, Ariz.-based designer and developer of complex, single-use medical devices.
- Gregg Olson, vice president of business development at Vention Medical, a Salem, N.H.-based company formed last year through the amalgamation of The MedTech Group, TDC Medical and Advanced Polymers. The firm creates an integrated services solution for the design, engineering and manufacturing of complex medical devices and components.
- Bethania A. Tavárez, vice president of sales, marketing and new business development at Oscor Inc., a Palm Harbor, Fla.-based designer, developer and manufacturer of implantable cardiac pacing leads, venous access systems and diagnostic catheter technology.
1. Have you seen a change in requests for full-service outsourcing in the last year? What factors are contributing to the current climate?
Randall S. Barko: We have seen a mixed bag of requests from our clients in the last 12 months. Many of our major clients have been looking for us to take responsibility for the complete supply chain effort including clinical builds and market launch quantities. On the other hand, many early stage clients have been looking to complete individual milestones as they proceed in parallel with fundraising activities. The major factor contributing to both is limited resources in either manpower or financial support.
Bethania A. Tavárez: In an ever-expanding, changing and regulated industry, Oscor understands that to improve quality and control cost and lead times it needs to completely vertically integrate all key elements of product development and manufacturing. In the last decade, Oscor has invested significant dollars to continue to expand its vertical growth. This has resulted in consistent annual growth of 27 percent to 30 percent. Oscor has four major core areas of business, which include cardiac rhythm management, atrial fibrillation, cardiovascular and neuromodulation. These platforms are leveraged by our OEM customers and emerging companies to allow them a faster turnaround and access to proven technology. We believe that our bigger OEM customers are concentrating on investigating next-generation products and business opportunities.
Gregg Olson: OEMs evaluating the concept of outsourcing for the first time and customers looking for more innovative solutions from their supply chain partners. What factors contributed to the change? OEMs have a laser focus on reducing unit costs and driving innovation.
Brian Highley: More and more OEMs are recognizing the need to focus on their core competencies such as R&D and marketing. So they are turning to strategic partners like us for their product development and manufacturing needs. At the same time, we are able to offer them a global operational footprint and supply chain continuity, ensuring more competitive pricing.
Renae Moomjian: Yes, more companies are asking for full-service outsourcing. A greater breadth of service requests have come to Xeridiem over the past year. Many of the startup and larger companies are expanding their service needs. The economic downturn has contributed to more outsourcing from larger companies. Many companies haven’t expanded their internal resources and they are relying on companies like Xeridiem to act as an extension of their product life cycle maintenance. In addition, supplier network consolidation has had an impact. Once a quality supplier is identified, then companies tend to outsource more projects to them. It is easier to manage a handful of trusted, full-service qualified suppliers than a larger network of specialized companies.
David Cocke: Most of the inquiries we’ve gotten in the last year relate to full-service outsourcing opportunities. We see the smaller companies that want to focus their capital where it will yield the highest return, and they have little desire to “re-create the manufacturing wheel” when their main focus is driving market demand and development of new products.
Dave Busch: We have had several customers request design-through-commercialization-production services. We have also received a number of inquiries from medical OEMs requesting proposals for a “full-service outsourcing” solution that includes design, production and often repair services. Most of these requests are for complete product build and put-into-service fulfillment. The drive to “variablize” a product’s cost seems to be the driving factor for the increased requests as well as the realization that product costs are primarily driven by materials and design. OEMs want to take advantage of contact manufacturers’ material spend aggregation as well as the ability to variablize portions of product design or refresh costs. We’re also seeing an increase in requests to review designs for cost and manufacturability even if we’re not asked to perform the design work.
2. What services are popular with customers? Why are these services so important to your client companies?
Tavárez: Oscor’s design, validation and regulatory services are among the most popular. Our customers understand that for a successful regulatory submission, you must have a solid product design and robust design verification to ensure a successful and timely product launch.
Highley: Historically, OEMs came to us for our injection molding expertise. Now, they rely on us for product design and development, value engineering, and finished device assembly, as well as launch to distribution and other post-production services. By offering all of these services, we enable our customers to better focus on building and sustaining their competitive advantage.
Barko: Our ability to provide an integrated solution from insight to outcome is by far the most popular service we bring to our clients. Since we have a complete roster of expertise in-house from research to NPI [new product introduction] we can complement the resources of our clients whether it is electrical engineering, software development or managing clinical trials. Our value proposition is to minimize the risk and deliver on time and within budget so we become a reliable extension of our client’s capabilities. Our services are a variable cost to our clients so they don’t have to manage a department P/L [profit and loss] where headcount is a fixed cost. We provide them with a lot of flexibility and since we have a track record with them, they are comfortable with our recommendations.
Moomjian: Entrepreneurs and smaller companies are interested in our full-service capabilities including full regulatory and logistical support. Many startup companies and entrepreneurs are not only looking for guidance on how to get their devices approved globally but also need someone who can process the approvals for them. The logistical support we offer has enabled some entrepreneurs to literally run a company from their iPhones. Xeridiem acted as the bricks and mortar as they got their companies off the ground and raised additional funds to expand. Larger companies look to Xeridiem as an extension of their engineering teams. As mentioned earlier, many large companies have not expanded their engineering support for product life cycle maintenance yet still need to support products in the field. Oftentimes these companies ask us to help them make enhancements to an existing product line. They appreciate our responsiveness and ability to meet their needs quickly and efficiently while enabling them to refresh product lines without the need to hire employees.
Busch: As I mentioned earlier, design for manufacturability and design for cost are two services we’re being asked to perform for existing products. We’re also being requested to provide electronic design including board layout, schematic capture, FPGA (field-programmable gate array) programming and such. There are several reasons why these services are important to customers. Electronics and software are increasingly the product’s differentiation. Knowledge of component obsolescence cycles and design for testability are critical for product differentiation as well as achieving target market pricing. Contract manufacturers now have greater skill and expertise in supply-base trends and state-of-the-art test procedures than medical OEMs, which is why the services have become more important.
Olson: Popular services are manufacturing in low-cost locations, which must be safe and stable and have proven quality systems. Innovative component and design service capabilities that help facilitate breakthrough products. Why are these services so important to customers? Customers want help driving revenue and lower unit cost, but with world-class quality.
3. Customers are expecting a full service of capabilities from their manufacturing partners. With supplier lists shrinking, how do you stay innovative to remain on those preferred vendor lists and differentiate yourself from other companies?
Barko: One of the best ways to differentiate yourself in a competitive market is execution. We strive to treat every customer every day like they are a new customer because we know that if we don’t, somebody else will. You can’t take anything for granted and assume that just because you did a great job for them that they will award you the next program. We are fortunate that we have many global clients and we have had a presence in Asia for over two decades developing and managing sourcing strategies and working to qualify suppliers in a number of commodities and technologies. In fact, since Ximedica is not vertically integrated with in-house manufacturing of components we can be completely agnostic in our development assignments to incorporate the best solution—process and technology—for our clients’ products. We don’t need to design the component to fill up our underutilized molding machines or metal stamping machines. We have complete design freedom to bring innovation and value to our clients. And we recognize that innovation without value is not acceptable to our clients or their customers.
Busch: There are two vectors to this question. Matching contract manufacturers’ size to an OEM’s business unit and product-specific solution offering. Contract manufacturers will increasingly have to provide services in an environment that matches the OEM’s. If you’re building high volume cost sensitive products like a blood glucose [meter], a Tier One with a low-cost- country supply base is probably a better partner; whereas if you’re building a low-volume, high-complexity ophthalmological surgical instrument a Tier Two with skills tailored to such instruments will be the better choice.
Moomjian: Being close to our customers and responsive to their needs allows us to remain a preferred vendor. Xeridiem maintains the highest quality standards and understands that our customers need suppliers that rigorously adhere to global quality and regulatory standards. Factors that differentiate Xeridiem are providing full service, comprehensive support to medical device companies. We can take a concept from the initial design to final manufacturing. Once the manufacturing is in place, we can also offer supply management and logistics for the device.
Tavárez: Oscor provides full services, from concept to high-volume manufacturing. We are completely vertically integrated, allowing maximum flexibility. Oscor allows OEM customers to use their technology and IP [intellectual property] at a reasonable cost and at no cost with a contract manufacturing agreement. We invest regularly in the latest technology to remain current, to maintain efficiency and keep costs down throughout the manufacturing process. Manufacturing [cost] savings are shared with OEM customers on a year-over-year basis.
Olson: Proprietary, innovative components and processes.
Cocke: Our product focus is our customers. We target an under-served niche in the medical products outsourcing business—the entrepreneur and startup. Our greatest innovation is attention to our customers, and becoming an extension of their company. So when they have an urgent need, they don’t think, “I better call NuPak Medical,” they think, “I better call Jeff.”
Highley: We continuously look beyond today’s needs, adding capabilities such as design, automated mold making, technology development, and ODM [original design manufacturer] business model that provide innovative, cost-effective solutions through each step of the integrated value chain.
4.Trust is one of the key components of a good outsourcing partnership. In what ways can companies establish trust with their outsourcing partners?
Busch: As with most service providers the relationship can fall anywhere on a continuum from supplier-transaction-based to strategic-partnership-based. A trusted-partnership is essential for products and services that are core to the product’s success, have high switching costs and typically have long horizons. Transaction-based relationships are more appropriate for commodity type products/services, where switching costs are low and the product and service has a short horizon. Key to a good outsourcing relationship is agreeing on the type of relationship it should be.For those relationships that are strategic and long-term, building a bond of trust ensures that both parties feel fulfilled. Trust is built through repeated delivery of commitments that are agreed to by both parties.I’ve found that a project plan with detailed milestones that performance is measured against is an effective tool for building trust in an outsourcing partnership. Both parties can see where and when success has occurred and when milestones are not met, understanding why they were not met and remediating them strengthens the relationship.
Olson: Transparency. Sharing new product and technology road maps. Sharing cost data. Co-investment in strategic research and development initiatives.
Barko: Trust is obviously earned and it is a two way street. Both parties must work to establish the trust that leads to a long-term relationship. For years, outsourcing activities have been transactional. The supplier is kept at arm’s length and business is conducted on a purchase order by purchase order basis. Eventually the transactional relationship could evolve to a preferred supplier status where blanket orders and annual or multi-year purchase commitments are the way the business relationship is conducted. In some cases, the relationship could expand further into a strategic relationship or strategic alliance, where both parties are intimately involved at the C-level where they understand and share intelligence and in some cases share infrastructure. It can take years to achieve the trust to develop a strategic relationship between two parties but it begins with saying what you are going to do and doing what you say. It is a two-way street.
Tavárez: As an OEM service provider for over 30 years, protecting our customer IP is essential to a successful partnership. Oscor has policies in place to ensure our customer information is managed with the highest level of privacy. Oscor has been instrumental to the successful launch of hundreds of projects and we have a customer retention rate of 98 percent.
Cocke: I think the best way to establish trust with a customer is by showing them that we have their best interests at heart. We often build trust by creating savings opportunities for a client. For example, if a startup comes to us asking for pricing on an eight-cavity tool for their new device, which has zero sales and a fair amount of market risk, we’ll often convince them to start with single-cavity tooling to prove out the market opportunity before moving into high cavitation production tools. In other situations, we have performed a design review (from a manufacturing perspective) that replaced expensive custom parts with off-the-shelf alternatives. We look to establish long-term relationships with our customers; we want them to think of us as an extension of their company versus being a vendor. From our perspective, that pushes us to think of the relationship as a series of interactions vs. on a per-transaction basis.
Moomjian: It is important to be very transparent with customers, both positive and negative aspects of a project. The transparency develops trust and customers rely on that feedback. Also adhering to budgets and delivering on time is critical. Say what you do and do what you say.
Highley: We’ve earned the trust of our customers by seeking out feedback and listening, by our commitment to quality and service, and by delivering what we say we are going to deliver. Long-term relationships benefit both us and our customers—it’s a win-win—so we invest heavily in building them.
Lisk: The best way to establish trust is to make sure there is a very clear understanding up front regarding roles, responsibilities, and inter-company procedures. While setting up formal agreements regarding change control, process controls, and establishing other understandings such as product and process ownership can be an arduous task, they make for a solid foundation for a relationship where assumptions are minimized.
5.What are some of the risks both sides of an outsourcing partnership face when creating such a
relationship? What can be done to minimize those risks?
Moomjian: Identifying risks within a project up front with the customer helps alleviate issues and creates open communication. The risk of being a transparent partner is losing the business to another company that may not offer the same level of detail. Also, there are instances when we have underestimated costs and because delivering on-time and on-budget is critical to our customers, we have absorbed the difference. In general, however, identifying the risks up front and being very transparent with the customer throughout the design, development and manufacturing process minimizes these issues and builds trust.
Barko: Open communication at multiple levels between organizations is the key to a successful relationship. There are always changes in people in any organization so being connected to different disciplines at different levels is key to maintaining open communication. A successful relationship cannot rely upon a limited number of contacts between the parties. I like to describe the desired result as “customer entanglement,” where there are no surprises and both parties understand how the other party operates, which makes it easier for them to work with one another. With expectations clearly defined and understood by both parties, execution becomes the focus and risks are minimized.
Olson: The outsource manufacturing partner cannot absorb nor shield the OEM from market condition costs. What can be done to minimize those risks? Open and regular communication on cost drivers and conditions. Mutual strategy and involvement to counter cost changes.
Tavárez: It is imperative that the company outsourcing finds a partner that encompasses the experience and technological competency to execute all phases of a project. This will minimize the initial investment on both the customer and supplier.
Highley: When customers select an outsourcing partner, they not only invest time, energy, and money in the relationship, they take a risk that the partner will deliver what they promise. So we mitigate their risk by investing in the highest quality systems and processes, fostering clear communication at every touch point, establishing a sourcing strategy for both development and manufacturing, and by building a strong governance structure that openly shares information and solicits feedback for the betterment of the partnership.
Cocke: Entering into an outsourcing partnership creates risk for both the client and the contract manufacturer. The client must ensure the quality and production capacity of the contract manufacturer meet their expectations and production schedules, and the contract manufacturer must ensure that the client can meet its financial commitments. Typically, our customers underwrite NuPak’s abilities through audits and reference checks with other current customers. In addition, our ISO certification shows them that there is a foundational quality system in place, and that the system is periodically
reviewed by external experts. NuPak uses standard credit reporting services to monitor its customers’ payment histories. Finally, we have always believed that good contracts make for good partners. So we have an extensive written contract that covers all aspects of the business relationship. Besides being a regulatory requirement, this contract protects both parties and goes a long way to eliminate confusion with respect to which party is responsible for what.
Busch: Asymmetry in relationship expectations is the biggest risk—and cause of failure—in outsourcing relationships. One party is expecting an “intimate” relationship where everything is shared openly while the other party sees the relationship as purely transactional. This risk is best mitigated when both parties’ objectives are shared and discussed before the MSA and production work is underway. The agreement negotiations are a good means to understand what each other is expecting from the other.
6. Where do the smaller job shops and niche providers fit into the manufacturing value stream?
Barko: There should always be an opportunity for niche players because many innovations are driven by niche players. They may not have the quality systems or infrastructure to support direct supply to the OEM but if they bring a unique solution that can be incorporated to make the product better and more cost effective, they can be developed into an integral part of the supply chain with the support and guidance of the outsource partner or OEM. The key to success with a niche player is the ability to understand the potential risk and reward of their involvement. You are only as strong as your weakest link so you must be certain that the niche player is capable of meeting the needs from a quality and volume perspective.
Tavárez: Small shops are ideal for small prototypes run or as collaborators to full-service OEM providers on a consulting basis.
Olson: Providing a critical role as a Tier Two supplier/partner, aligned to support the primary outsource partner.
Busch: The commercialization process used to define where the different classes of service providers played—design shops for design and working prototypes; (typically) rapid prototype/new product introduction shops took the product to low-volume production (which is where many medical devices stopped on their growth curves) and larger contract manufacturers for “volume production” or for builds in other markets. Today, Tier Ones and most Tier Twos offer design-to-volume-production service so smaller shops are having to specialize in not only the service they offer but for the genre of products they can serve. Market segmentation to the product level is critical for success—picking up those segments the larger players don’t desire.
Moomjian: Smaller job shops and niche players are excellent partners when we are searching for low-volume commitments for smaller scale production runs—for example, new product launches. Typically, they don’t require large quantity commitments or long-term agreements. Also, niche players provide focused solutions to a specific problem and allow us to be flexible and provide that flexibility to our customers.
Cocke: As a smaller contract manufacturer, our niche is the company that is too small to get the attention or focus of the industry giants. NuPak Medical exists for the sole reason that a key customer was not able to get the service or turnaround time from its existing, larger contract manufacturer. We understand that our competitive advantage is helping small companies grow, and giving them the focus that larger contract manufacturers can’t or won’t.
Highley: Niche players and virtual shops typically try to compete on cost, where advanced technology, quality, and service are not important, but they are just not able to meet the needs of the larger OEMs.
7. Please discuss the importance of having a low-cost-country option as part of a full-service outsourcing menu of capabilities.
Lisk: Low-cost countries have their place and they can be an excellent way to reduce cost quickly and relatively inexpensively (compared to the investments required for automation); outside the United States is an attractive option to extend the lifespan of mature programs and for certain new-launch devices as well. We recommend keeping the highly complex equipment operations where the expertise exists to support them. Do your homework before choosing a site as there are many excellent options.
Barko: Over the last few years, low-cost-country options have almost become the flavor of the month. It is important to have low-cost options but you really need to understand the options you are considering. Medical device manufacturing cannot be moved overnight because the quality system, SOP’s [standard operating procedures], and process validations take time, training and monitoring. The infrastructure takes time to be developed and you must have the same consistency and reliability from one production run to another. Risk/reward must be clearly understood as well as the total cost of the product including time in transit, working capital, etc. If a product assembly is labor intensive, the manufacturing processes utilized to produce the components of the device are readily available locally and the quality systems and support infrastructure is well trained and proven, the risk with a low-cost-county option can be minimized. As I mentioned earlier we have been developing supply chains and low-cost country manufacturing of finished products for over two decades. We have experienced people on the ground in the region to provide oversight with our approved partners as well as working to qualify emerging and niche players to expand new capabilities for our clients.
Busch: Savvy medical device OEMs are triaging their product portfolios and building products closer to the end-market they’re intended for. Thus low-cost-country (LCC) facilities are increasingly building product in-market/for-market or building those products that benefit from lower cost labor and have
minimal logistics costs. Thus, single-use devices are typically well suited to be built or fabricated in an LCC facility as well as a medical device that will be consumed in the market of the LCC facility.
Moomjian: The importance depends on your business model. Commodity products typically are competing on price alone so oftentimes a low-cost-country option is beneficial. Highly specialized non-commodity products typically require highly skilled labor and stringent manufacturing conditions, which usually fit best within the E.U. [European Union] or U.S. model.
Tavárez: This is no longer an option, it’s a must. With the transformation of the healthcare industry, cost saving is a requirement to remain in the competitive medical industry.
Olson: COGS [cost of goods sold] has always been a key consideration and motivation for outsourcing. With today’s market factors, cost of goods is a stronger factor than ever. Low-cost manufacturing locations are where the focus and growth is. OEMs are becoming more sophisticated in evaluating a location’s safety, stability, quality systems, technical support, supply chain component, and services offerings.
Cocke: Although overseas manufacturing can work, for our smaller customers it’s difficult to get the focus and effort that the larger device companies can command. In addition, the long lead times associated with overseas suppliers complicate supply chain planning and require a higher inventory level, which sucks up critical working capital. We’ve seen customers with 16-week lead times quoted for repeat orders to run. In the states, the lead times would be less than a month. Our customers have often found overseas cost savings illusory. The economics are enticing, but we have seen customers miss out on entire product life cycles due to the inability of a Chinese manufacturer to produce conforming parts. We recently received a first article package for a customer from an overseas partner showing outstanding critical product measurements. The only problem was that the luer connection was missing on half the parts.
8.How do you maintain quality in a full-service outsourcing setting, given the more critical and unpredictable examination of device approvals and uncertainty among manufacturers about the current regulatory environment?
Barko: Never, never, never compromise on quality. There are always the pressures of deadlines for deliverables but the quality culture must be the driving force of everyone in the organization, starting at the top. A good reputation takes years to build and can be lost in a day. There are no shortcuts in quality and regulatory compliance. The quality system must be robust and also flexible to handle multiple customer and product requirements. We can provide clinical and regulatory guidance to our clients and our quality system has been audited by many of the top medical OEMs who constantly challenge our system and procedures, which we look at as an opportunity to learn from the best. We know that whatever we are doing today will not be good enough for tomorrow and we embrace the opportunity to improve what we do.
Tavárez: Oscor’s situation is unique due to the vertical integration of our processes. This makes us extremely attractive to the OEM customer since this allows us maximum control of the supply chain. This minimizes the exposure since the number of critical suppliers are low for material at the lowest grade.
Highley: Our expanded footprint is a direct result of needing to be in the regions where our customers do business. With facilities in four locations in the U.S., and in Puerto Rico, Mexico, Ireland, France, Germany, India and China, we provide an extension of the OEM’s local manufacturing capabilities, as well as offering them the benefit of low labor cost countries.
Olson: You must maintain a rigorous daily focus on quality systems and world-class compliance. This includes training, monitoring tools, and quality system automation tools.
Moomjian: We make quality a priority for the organization from top management down. Our Quality/Regulatory group is focused on staying current with the FDA as well as other global standards such as ISO 13485. Our goal is to consistently improve quality and we welcome working with the FDA and other organizations to deliver safe and improved products to the market.
Busch: Dollars spent up front on design for manufacturability, design for testability for improved manufacturability and test more time spent on failure modes and effects analysis for risk assessment significantly improve quality, reduce risks and ultimately total cost of ownership. Once the process is validated it’s hard to improve quality. It becomes a game of measuring and maintaining quality.
Highley: Our people understand the regulatory environment, and have transformed quality from a cornerstone philosophy to a way of life—a way of life that touches all planning, development and manufacturing activities. We continually invest in ensuring what we consider the “table stakes” of our industry—quality and compliance, and we have developed an effective and robust quality system to maintain adherence.
9. In a full-service outsourcing partnership, is it important to have an assortment of capabilities under one roof or can strategic partnerships get the job done? Does that (assortment of capabilities) make the supply chain more complex?
Barko: At Ximedica we have a full range of subject matter experts integrated in-house from research to new product introduction (NPI). We have established strategic partnerships with a number of medical-focused contract manufacturers where we have jointly brought products through the development process including NPI and successfully transitioned a documented manufacturing process into high-volume production. We have done the same with OEMs’ in-house operations. In these cases the supply chain has been identified, developed and approved during the early stages of development process to minimize the risk associated with transition into high-volume production. Our focus is time to market, handling the low volume, high-risk requirements for clinical trials, market tests and product launch. We can support lower volume production until the market acceptance justifies high-volume production. We minimize the risk to the OEMs in a variable cost model where we can leverage our highly technical staff to handle multiple programs with dedicated resources.
Tavárez: Both situations can be managed, however, having an assortment of capabilities under one roof allows for superior control of quality and cost. At the same time, this simplifies our customers’ supply chain by having one source for a device that requires multiple capabilities. In addition, this has a significant impact on our customers’ annual expenditure dealing with supplier audits and quality assurance and supplier controls.
Moomjian: It is dependent upon a company’s business model. In general strategic partnerships are important, however, a base expertise is also needed to augment and find the best solutions. We have a base of core competencies and we have a network of strategic partnerships. As the medical devices we have been working on have increased in complexity, it has made more sense for us to find strategic partners rather than trying to bring the specialties in house.
Olson: OEMs want their outsourcing partner to provide as much of the value-add as possible. The motivation is that it reduces costs and mitigates risks of numerous suppliers. It also allows a supplier to provide more innovative solutions for improvements and new product designs.
Cocke: We have been successful using strategic partnerships to meet the needs of our entrepreneurial customer base. When there is an occasional or intermittent need for a service, we have a network of service providers established over the years that allows us to provide a one-stop approach for our customers without the committed overhead expense.
Highley: We find both are important to meet the diverse needs of our customers, so we have both in house core competencies and strong strategic partnerships. To add the most value and reduce complexity for our customers, we manage them seamlessly.
Busch: The vertically integrated campus works well for high-volume products with minimal configurations. The supply chain can be optimized for volume production with reasonably stable forecasts. For more complex devices with multiple configurations or variations by region or market and variable forecasts a confederated supply chain often provides the greater flexibility required to fulfill customer requirements.
10.What impact will the medical device excise tax have on full-service outsourcing partnerships?
Barko: Certainly we have already seen significant reduction of resources at the OEMs. There has been a renewed emphasis to leverage their strategic partners in a new outsourcing model sometimes referred to as “Outsourcing 2.0” where there is a sharing of the risk and reward in a more focused approach that can optimize innovation, reduce cost to the OEM and increase the profit opportunity for the outsource provider. This focus could be with a particular product portfolio or product family where the results are more easily measurable. This approach, also referred to as “supplier enabled innovation,” is being pursued by a number of major OEMs now and I would expect the co-development model to become more desired going forward.
Busch: Too early to tell but its cost is another reason medical device OEMs are outsourcing—to produce their products in facilities with higher asset velocity.
Olson: OEMs’ focus on cost reduction has never been stronger. OEMs that are immature in the outsourcing option are commencing on their initial evaluations of the opportunity to do so.
Moomjian: It depends on the nature of the relationship of the supplier. Pricing usually takes into account the tax and the agreement of the final responsibility for the tax. Agreements are considered and they need to be clear to maintain a transparent communication of the responsibilities.
Cocke: To the extent that this tax forces our customers to look for more cost-effective production alternatives, we feel well-positioned to offer a portfolio of manufacturing solutions to our customers. Unfortunately, any increase in expenses will make new products more difficult to justify and we fear this new tax will have a stifling effect on innovation, and ultimately, patient outcomes.
Tavárez: That is to be determined. However, this will force the entire industry to become even more sensitive about its cost-saving.
Highley: The new tax is very much factored into the decision to outsource. It is expected to put pressure on margins, result in job loss and impede innovation. We are keeping a close eye on the implications of the tax and are collaborating on new go-to-market strategies that will minimize the impact.
11. Does outsourcing become more imperative in a tight financial market?
Barko: Cash is king and investors are looking for a return on their investments. In public companies the share price drives the business and quarterly results sometimes force short-term decisions to increase quarterly results at the expense of long term strategy. R&D budgets are being trimmed as a P/L [profit and loss] expense and several major OEMs are looking to leverage the R&D dollars by shifting some of the spending from the P/L to the balance sheet, where they will invest in emerging technology companies along with VC [venture capital] funding. In many cases these niche opportunities are being developed by these emerging technology companies by the same outsourcing partners that are also working with the OEMs. The key is leverage and risk sharing with greater focus on time to market.
Tavárez: We believe it does, due to the fact that some companies have an enormous overhead dealing with their internal operations, manufacturing, supplier and supplier controls. Having the correct OEM provider will not only save the customer operating cost but it will allow them to be more cost competitive while carrying smaller liability, which represents even more savings.
Moomjian: It depends on a company’s business model. For some companies, the project could be easier to manage with one person rather than five different companies. Or it could be better to outsource to a trusted partner rather than do it all in house.
Highley: Absolutely. It calls attention to the need to control costs and focus on competitive advantage.
Cocke: In tough capital markets, the need for capital efficiency becomes paramount. As a contract manufacturer, we have made investments in production capacity and quality systems that our customers can leverage, and focus their spending where it will do the most good for their business plan—typically on additional research and development and on product marketing.
Busch: Not just in tight financial markets but as manufacturing becomes increasingly complex to obtain the skills of manufacturing specialists.
12.Have improved economic conditions impacted your business at all?
Tavárez: Yes. We have seen a significant amount of new ventures and new development projects arising from the improved conditions.
Barko: We continue to invest in our range of services and in-house expertise. We opened an office in Minneapolis, [Minn.] last fall to support local clients and we continue to add staff there to support these opportunities. The Ximedica culture, systems and procedures will be uniform in all locations as we continue expansion in other locations based on client demand through a formal training and exchange program. We have also continued to invest in our people because it is our people who make Ximedica successful.
Olson: We have been very fortunate to have a diverse set of solutions for our customers and as a result, we have experienced strong growth over the past several years.
Moomjian: We have started to see the economic change with volume orders improving and customers wanting to get their orders reserved earlier than the previous year.
Cocke: Given the nature of our customer base, which is focused on the entrepreneur and startup companies, macro economic conditions are much less of an issue for our company. If an inventor has a great idea, he doesn’t stop developing it if unemployment is 5 percent and the Dow [Jones Industrial Average] is up 20 percent for the year; he pursues it with the same zeal. Much more important to our customers is the overall regulatory environment for the device industry. Time is truly money for the folks we deal with, and delays and uncertainty created by unclear government and regulatory priorities can chill any entrepreneur’s desire to invest in a new venture.
Busch: More customers either are doing work in the U.S. or employing a bifurcated model of building lower intellectual property parts in Mexico and doing final assembly and test in the U.S. Logistics costs are impacting companies’ “where-built” decisions.
13. What opportunities (technological, financial, new markets, etc.) for growth do you predict for your business going forward?
Barko: We have seen a number of opportunities to co-locate team leaders with our key clients and we have several individuals located remotely. We will continue to leverage our resources to better understand our customers’ needs and provide better solutions. We are committed to maintaining a leadership position in both the evaluation and utilization of emerging technologies and with our global client base, expanding our capabilities to meet the needs of emerging markets. We cannot be successful without a business plan where profits fund growth and expansion. We are committed to provide value for our services so this plan can continue to be achieved.
Tavárez: We just expanded our Technology and Innovation Center due to the execution of various OEM contracts. Besides the increase in new ventures, we are also seeing significant growth in the transfer of existing technology to Oscor’s manufacturing due to our extensive facilities certification and IP.
Moomjian: More funding is to be allocated for research and development to improve our expertise and create innovation, and then we can offer our advancements to our customers.
Highley: We are expecting to see a return on the investments we have made in strategic acquisitions and technology, as well as our focus on emerging markets and building stronger relationships in our target segments. We are also poised for new business from our finished product assembly and packaging capability.
Lisk: The company is growing at a double digit rate and we expect to maintain that pace with contributions from multiple sources. In addition to new projects, we continue to find attractive investment opportunities to add to our capabilities and serve our customers better. For example, we designed and built a fully automated laser welding system for our Bridgeport, Conn., facility, and we are opening a low-cost assembly facility in the Dominican Republic. Both are in final qualification
activities and will be in service in the second quarter of 2012. Having a rock-solid financial footing has enabled us to seek out strategic acquisitions such as Boston Endo-Surgical Technologies in the fourth quarter of last year.
Best Practices for EstablishingService-Level Agreementsin Outsourcing By Marc Tanowitz, Principal, Pace Harmon What is the best approach for manufacturers to garner meaningful service level agreements? Medical product manufacturers should leverage service-level agreements (SLAs) as a core piece of measuring and managing an outsourcing provider’s performance. Essentially, SLA requirements establish minimum performance levels and assign credits as a consequence for not meeting the designated standards. Meaningful SLAs focus on measuring key elements that directly contribute to productivity and quality as well as align with overall business objectives. This can include items such as process timeliness or accuracy, but nonetheless, all SLA metrics should be mutually exclusive, exhaustive, and quantitative; moreover, each should include a documented set of data sources and specified performance calculations to ensure that measurement is 100 percent clear. Many organizations are impressed by SLAs that go beyond their basic needs with over-the-top service expectations and big performance credits; however, this is a red flag as the most effective SLAs are those that specifically address the benchmarks that the company need—and go no farther. The reason is that excess service levels can have negative repercussions, such as increased costs/pricing resulting from the effort required to ensure such high performance levels. Also, higher than normal service levels can result in elevated SLA exclusions, fewer performance credits or lower performance caps, and overall reduced flexibility in the agreement. Additionally, higher performance targets will negatively impact pricing, especially when labor and technology architecture are involved. Are incentive-based outsourcing pricing models effective? Does gain-sharing work? Pricing models driven by incentives or monetary bonuses are great in principle but are incredibly challenging to meaningfully implement and negotiate. Here’s the rub: Establishing a correlation between an outsourcer’s work and the direct impacts on driving costs out of, or increasing revenue for, the medical product manufacturer is a daunting task, even when applying the highest levels of analytical rigor. At the end of the day, pricing models must be reduced to a contractual agreement that clearly explains what outcomes the vendor innovations are intended to produce, how they will be measured, and what benefits they will drive for both the manufacturer and outsourcing provider to make them worthwhile for both parties. In short, a direct cause and effect needs to be established—which can prove to be a very difficult task. Gain-sharing can be an effective model if executed properly—with both the medical manufacturer and outsourcing provider sharing the benefits of vendor-driven cost reduction initiatives over time, e.g., value engineering products to reduce direct material costs, increase product quality, or reduce manufacturing lead time to increase the productivity of the manufacturing plant (as opposed to adding incremental product functionality that may or may not be valued by the end user. Of course, vendors are motivated to identify their own cost reduction opportunities to improve their own margins, so customers should hardwire the requirement for cost reductions into their contract. For example, if the contract states that the outsourcing provider must reduce their cost per shippable unit year-over-year (e.g., 3-5 percent per year), then the provider must find a way to accomplish this minimum reduction while maintaining agreed upon service levels to maintain margins. For this model to work, customers need to offer transparency into their current state of operations so the provider realistically can determine whether they can achieve the efficiencies needed to drive the required cost reductions. What are the implications of switching outsourcing providers or bringing outsourced work back in house? During a transaction, companies have a tendency to apply a 10:1 focus on “transition to” versus “transition away from” the vendor, as contracts are negotiated during the honeymoon period when the vendor has stepped up with price, service level and other concessions, to win the favor of the customer. Manufacturers should spend significant effort on road-mapping the exit strategy up front before the deal is signed. This includes considering everything from transition (away) milestone payments and holdbacks to provider commitments relating to inventory management, transition (out) resource commitments, and other specific transition activities required by the vendor. If faced with a deal coming off the tracks, manufacturers should first identify the root cause (e.g., provider failing to align with service level agreements or undocumented performance requirements, sub-par outsourcing provider personnel, provider costs do not match market rates, etc.). From there, the customer has several options: Restructure or renegotiate the currentcontract, recompete the services, or bring some or all of the work back in house. Restructuring or renegotiating the deal is the least disruptive option and should be considered first. For example, if SLAs can be modified, underperforming personnel issues can be mitigated with new personnel requirements, or market rates realigned, then the contract can be updated. However, if there is no viability to continuing the existing relationship, then most companies look at switching to another outsourcing provider. The key point about changing providers is to understand the underlying causes of the problems that occurred with the original provider. Also, the process of transferring services to a new provider can be complex, resource-intensive and often results in temporarily lower service performance. The last option is bringing work back in house. While it is unusual for companies to comprehensively repatriate outsourced work, many are pursuing point initiatives by designating components of an outsourced service model to be managed in-house (e.g., production planning and forecasting down to the plant level of detail). —M.T. Marc Tanowitz is a principal at Pace Harmon (www.paceharmon.com), an outsourcing advisory services firm providing guidance on complex outsourcing and strategic sourcing transactions, process optimization, and supplier program management. Bringing more than 15 years of experience and delivering more than $1 billion in client savings to date, Tanowitz works with global enterprises to develop and implement strategies for improving operations and increasing company performance. Founded in 2003, Pace Harmon is headquartered in TysonsCorner, Va. |