Outsourcing: Procurement Pros Shrink Supplier Base

A major shift is occurring in the way the biopharmaceutical industry sources goods and services. Price pressures at the retail end of the value chain and a difficult fundraising environment are forcing biopharmaceutical companies to take greater control of their costs. Purchased goods and services, including contract research and manufacturing services as well as raw materials and laboratory supplies, are a major expense in most companies, so control of those purchasing decisions is coming in for special scrutiny.

Jim Miller

In the annual survey of sourcing practices we conduct in conjunction with BioPharm International and its sister publication Pharmaceutical Technology, we have been tracking the evolution of sourcing practices for several years. The insights we have gained from both buyers and sellers of contract services indicate that major changes are under way.

A major component of this trend is the shift of decision-making power and influence from scientific and technical professionals to sourcing professionals. Service providers are certainly experiencing the growing power of procurement operations: The number of contractor respondents who report that sourcing and procurement groups currently control the decision nearly doubled in 2006, to 22% from 12% in 2005 (Fig. 1). The portion of contractor respondents that expect sourcing and procurement groups to eventually control decision-making grew to 30% from 24%.

Figure 1. Role of procurement and sourcing groups in decision-making

Procurement and sourcing groups are leading efforts to reduce the number of suppliers that their companies work with. Consolidating the supplier base is a critical component of the cost-reduction strategy at most large and mid-size biopharmaceutical companies and many small ones as well. Shrinking the supplier base enables companies to reduce vendor management and overhead costs, negotiate better pricing based on the higher volume of purchases, and improve coordination and communication mechanisms.

Our 2006 survey indicates that vendor consolidation efforts are well underway (Fig. 2). Among biopharmaceutical company respondents, 29% indicated that they have already begun reducing the number of suppliers they work with, and another 15% expect to begin the process within the next year or so. Nearly half of those client-side respondents report that they are considering new vendors only when they need specialized capabilities or services not currently available to them, and 13% said that they are using only current or recent vendors.

Figure 2. Status of companies´ efforts to reduce the supplier base

Contractors are beginning to feel the impact of supply base consolidation efforts. Among contractor respondents, 20% say that they are gaining business already, while 16% report that they are losing business as result of supplier consolidation programs. Nearly half of respondents do not expect much impact on their revenues, which we think is a naïve position for them to take.

Service providers willing to be proactive and keep knocking on doors should do well, however, because plenty of opportunities still remain. A quarter of respondents report that they are looking to expand their supplier base and are continually identifying and testing new vendors.

SLOW EVOLUTION IN SOURCING FROM ASIA

We continue to track biopharmaceutical company interest in sourcing from low-cost countries (LCCs), especially contractors in India and China. Our survey results show a slowly-but-steadily growing interest in sourcing from LCC suppliers, but the pace is not yet alarming to Western service providers. LCC sourcing options are limited for biopharmaceutical companies with large molecule candidates because the universe of biomanufacturers and other suppliers is still very small. On the other hand, companies with small molecule candidates face an increasingly sophisticated set of options.

In this year's survey, 20% of buy-side respondents report that they are actively sourcing now from suppliers in India and China, versus 16% in 2005. However, a quarter of biopharmaceutical company respondents expect 5–10% of their external spend to be with Asian suppliers in two years, a big jump from the 15% reported in the 2005 survey.

Western contract service providers are not panicking over Asian competitors yet, but most know that they will feel an impact sooner rather than later. In this year's survey, 27% of contractors say they expect to feel a "considerable" impact from Indian and Chinese competitors within two years. That is up from just 15% of respondents in last year's survey.

IS "SATISFACTORY" GOOD ENOUGH?

In the 2006 edition of our survey, we asked buyers of contract services about their level of satisfaction with the performance of their service providers. For technical and operational performance, 80% of respondents report their contractors' performance as "satisfactory," and 18% rate it as "excellent." For customer service performance, the numbers are nearly the same: 75% rate contractor performance as "satisfactory" and 19% said it is "excellent."

We don't think contractors should be pleased with that performance. While very few clients appear to be having a really bad experience with their service providers, relatively few are having an exceptional experience, one that will encourage the client to remain loyal over multiple projects and years.

The gap between a company's view of its performance and its customers' perception of its performance can be huge, and the consequences of that gap can be substantial. According to a recent article in Fortune magazine ("The New Rules," July 24, 2006), a study by consulting company Bain & Co. (Boston, MA, www.bain.com) found that while 80% of corporate executives think they are doing an excellent job for their customers, only 8% of those executives' customers view their performance as excellent. According to that same Bain study, the average company loses more than half of its customers every four years.

A focus on customer retention has never been more important for the biopharmaceutical contract services industry. As clients go about winnowing their supply bases down to a few preferred providers, CROs and CMOs that have established good performance track records are going to the top of the list.

The fact is that clients are always looking for new vendors, whether it is to find special capabilities, replace underperformers, or just add to the roster of possibilities. Our survey found that 87% are actively looking for new vendors for one of these reasons. There is a high risk that the very act of searching for a vendor—for whatever reason—will turn up a new service provider that the client will try simply because the client is merely "satisfied" with its current vendors.

Jim Miller is president of PharmSource Information Services, 703.383.4903; Jim.Miller@pharmsource.com