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 / Spring 2012 / Issue 66(originally published by Booz & Company)


Five Steps toward a Revitalized Pharmaceutical Supply Chain

The rise of generics, coupled with the high cost of drug development, places tremendous price pressure on products made by multinational pharmaceutical companies. In developed countries, the old distribution model — a relatively simple chain consisting of drug companies, wholesalers, retailers, and, in some places, insurers — faces an onslaught of new competitive systems. Public and private health plans increasingly rely on third-party pharmacy benefits managers or cost-conscious reimbursement policies to favor less expensive generics over branded drugs. At the same time, more direct and more efficient alternatives to traditional pharmacy dispensing options, such as the Internet and mail order, have been adopted with noteworthy success. Moreover, pharmacy consolidation and the rise of big chains such as CVS and Walgreens in the United States have enhanced the negotiating power of the drug retailers, forcing down the price of some medicines and making generics appear to be a better choice in many categories. Meanwhile, in emerging markets, financially strapped consumers tend to gravitate toward lower-priced drugs, and generics and startup local pharmaceutical companies are eagerly targeting this demand.

In addition, hospitals and other large purchasers, including payors and pharmacy chains, are increasingly negotiating contracts directly with pharmaceutical companies to buy drugs at set prices for a specific period of time (anywhere from a few months to a few years). Globally, about 30 percent of all drugs, including 15 percent of on-patent drugs, are now purchased through this so-called tender process. Not only does competitive bidding tamp down prices, but this approach also greatly affects the fluidity of supply chains and capacity management by driving the need for operational agility to deal with the fluctuating (all or nothing) demand associated with tenders.

Policymakers are also bedeviling drug companies with new pricing and reimbursement requirements. As government leaders take steps to hold down healthcare costs around the world, the cost of pharmaceuticals is one of their primary targets. In the United States, the Obama administration supports controlling the prices of prescription drugs sold through the Medicare program by negotiating purchasing contracts directly with pharmaceutical manufacturers; in the United Kingdom, the National Health Service has already implemented mandatory generic drug substitutions and price cuts of as much as 5 percent on branded pharmaceuticals; and in Turkey, a recent proposal would discount patent-protected drugs by as much as 24 percent, up from 13 percent currently. In addition, changes in tax laws, such as legislation passed in Puerto Rico that would impose a 4 percent tax on companies that conduct manufacturing on the island but are headquartered elsewhere, could eliminate some of the cost benefits pharmaceutical companies have traditionally enjoyed.

With this raft of industry disruptions, it’s little surprise that profit margins at global pharmaceutical giants are coming under increasing pressure.

Reinventing the Supply Chain

In taking on these challenges, one of the most powerful strategies available to multinational pharmaceutical companies is reinventing the supply chain. Most pharmaceutical supply chains were originally set up to produce items in high volume, in factories not noted for agility. Consequently, supply chains were structured to avoid stockouts and to meet regulatory requirements, even if that meant maintaining high inventory levels and carrying costs, and eventually taking substantial write-offs.

As they tackle the issues that threaten their future, multinational pharmaceutical firms must strategically transform their supply chain to facilitate revenue and profit growth. This means streamlining the supply chain and making it more flexible, so it can produce and deliver drugs efficiently to meet the needs of a variety of product and market segments at competitive cost levels. Depending on a company’s current and future product portfolio and marketing strategy, the supply chain must be designed for several activities: to compete with generics at low price points for mature, off-patent products; to take advantage of higher margins for critical drugs with low demand; and to handle the increased complexity of the new sales channels.

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