Fixing the Healthcare Supply Chain

Fixing the Healthcare Supply Chain (Jonathan Byrnes)

With limited hospital budgets, supply chain inefficiencies consume resources that could be used to bring important therapies into more widespread availability.

The paradox of healthcare supply chains is that they are the home of some of the best and worst practices in supply chain management. This problem affects us all: about 25 percent of hospital costs are supply-related.

The opportunity costs of this inefficiency are enormous. With limited hospital budgets, supply chain inefficiencies consume resources that could be used to bring important therapies into more widespread availability.

I am grateful to Chris Holt, UPS Consulting VP who heads the Healthcare and Life Sciences Practice, for co-developing and co-authoring this material.

The healthcare industry has developed some of the most important supply chain innovations. In the mid-1980s, federal regulations severely crimped hospital budgets. In response, a particularly innovative hospital supply company developed one of the first powerful vendor-managed inventory systems, which greatly reduced costs and increased service at the same time. (See Profit from Customer Operating Partnerships.)

Now conditions are right for another round of major healthcare supply chain improvements. Healthcare budgets are very tight, supply chains have critical vulnerabilities, and providers have significant opportunities for much-needed process improvements.

Supply chain improvement opportunities: These process improvement opportunities are rooted in five key areas: (1) disaster recovery; (2) supply chain integrity; (3) network complexity; (4) disintermediation; and (5) value visibility.

Disaster recovery. I recall talking to a friend ,who was one of the top officers of a major Wall Street financial institution, about the aftermath of the World Trade Center disaster. He was relieved that no one in his company was hurt and that the company was operational the next day. Fortunately, the company had an IT disaster recovery plan, and was able to convert an administrative department into a temporary trading floor in New Jersey.

In most companies, supply chain disaster recovery planning has seriously lagged behind IT planning. This is a pressing problem in healthcare because lives can be at stake. Most current planning focuses on emergency response to a short-duration event, such as September 11, but some of the most serious issues concern disasters with long-duration effects. For example, some critical drugs are made in only one factory. If the factory were destroyed, it would take two to four years to relaunch. Similarly, some companies have consolidated their distribution systems, centralizing key products in one or two giant facilities. If one of these were destroyed, product flow could be severely hampered for a long time.

The answer is not simply to carry large amounts of product inventory, because healthcare supply chains have critical choke points. The most effective action is to develop systematic contingency plans, including factors like alternative production sites, manufacturing flexibility, factory-direct shipping capabilities, offsite backup distribution center capacity, and critical safety stocks.

Supply chain integrity. Quality assurance, such as lot integrity and tracking, is a crucial healthcare supply chain function. It ensures that patients receive safe therapies, and that problems are contained and minimized. Healthcare companies have careful procedures and safeguards in this area, yet the FDA has recently levied some enormous fines for regulatory violations.

As products move through healthcare supply chains, quality assurance becomes increasingly difficult. Factories and distribution centers are self-contained and relatively few workers handle the product. Cases are clearly labeled. By contrast, the control environment within hospitals and clinics is much more complex and difficult. Numerous individuals handle products, and often products are hard to identify because they have been removed from their packaging.

Grey market diversion raises another important healthcare supply chain integrity problem. Many pharmaceuticals and medical devices are very valuable, and prices vary considerably from country to country. This has created problems that go far beyond economic issues: where diversion occurs, it is not possible to be certain that product integrity has been maintained.

New technologies, such as radio frequency identification (RFID), offer the prospect of ensuring supply chain integrity. However, these new technologies require pervasive, costly changes throughout the supply chain, involving systems, procedures, facilities, and management. These changes require early planning and careful management. (See Who Will Profit from Auto-ID?)

Network complexity. Healthcare supply chains are becoming increasingly complex. Many major hospitals are combining with clinics and other providers under common management. Some hospital groups are buying medical practices to secure their patient inflow. Increasingly, outpatient procedures are being performed in offsite clinics, and more patient care is being shifted to the home.

Traditionally, hospital materials managers have focused on managing within a single hospital. The newly increasing network complexity is presenting these materials managers with a new set of supply chain challenges. The skills and experience base necessary to successfully manage a complex, geographically scattered supply chain are fundamentally different from those typically possessed by even highly skilled, single-site managers. Hospital materials managers can succeed in this new environment, but they will require new training and education covering supply chain design, complex process management, and change management.

At a broader level, healthcare supply chains are very fragmented. Manufacturers, distributors (including wholesalers), group purchasing organizations, and providers largely operate independently from one another. The channel is often characterized by forward buying in anticipation of price increases. There is little upstream demand signaling. For example, most manufacturers learn about actual demand by subscribing to a third-party service that reports usage up to six weeks after actual customer sales are made.

Healthcare supply chains need to move toward an integrated "demand-pull" model, so that manufacturers have much earlier visibility into actual consumption. In many