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Want Better Logistics? Make a Clean Start

Pharmaceuticalmanufacturersconsistentlyspendtoomuchondownstreamlogisticsservices.
Cleansheetmodelinghelpsthemplannetworksaroundrealcosts,ratherthanhistorical
precedents.
ByKnutAlicke,RaoulDubeauclard,MartinLschandMichaelSchmeink,McKinsey&Company
Nov30,2011

Effectivedownstreamlogisticsprocessesthemovementofproductsfromtheirfinal
productionorpackagingsitestoendusersareacriticalpartofpharmaceuticalcompanies
serviceofferingtotheircustomers.Accurateproductpicking,ontimedeliveryand
uninterruptedcoldchainsarevitalelementsoftheseprocesses.Despitetheirimportance,the
logisticssystemsofmostcompaniesareunnecessarilycomplexandinefficient,however.
Worse,theyusuallypaytoomuchfortheservicetheyreceive.
Thisstateofaffairshasitsrootinthehistoricaldevelopmentofpharmalogisticschains.Most
companieshavereliedontheirstrongsalesandmarketingorganizationsinindividualcountries
todeveloplogisticssystemsthatsuittheneedsoftheirlocalmarkets.Theresulthasbeena
widediversityofapproaches,considerableredundancybetweenadjacentregions,and
significantmanagementcomplexity.Thelogisticsserviceproviderscontractedtoexecute
theseprocesseshavehadlittleincentivetoimprovethem.Instead,theyhavebeenableto
chargeapharmapremiumtotheirclients,makingtheindustryaparticularlyprofitableniche.

Nowanincreasingnumberofcompaniesarerecognizingthattheyhavetheopportunityto
simultaneouslyimproveservicelevelsandreducecostsbyadoptingamoreholisticapproach
tologisticsnetworkdesign.Astheydoso,theyhavemadesomesurprisingdiscoveries.
ProblemswithPrices,NotCosts
Companiescanreducethecostsoftheiroutsourcedlogisticsnetworksintwoways.
Commercialleversinvolvenegotiatingmorefavorablepricesfromserviceproviders,usuallyas
aresultofcompetitivepressure,orinreturnforincreasesinvolumeorlongerservice
contracts.Structuralleversinvolvereductionsintheactualcostofdeliveringtheservice,
usuallybyoptimizingthesizeandpositionsofwarehousesandthetransportflowsbetween
them.Inmostindustries,structuralleversofferbyfarthelargestopportunitytoreducecosts,
butinourexperiencewithanumberofmediumandlargesizedcompanies,thereverseistrue
forthepharmaceuticalsector.Inpractice,atleasthalfthepotentialsavingsinpharmalogistics
costscomefromcommercialrenegotiation.
BuildBetterBenchmarks
Thesizeofthepotentiallogisticscostsavingscomesasasurprisetopharmalogistics
executives,whofeeltheyhavebeendiligentinreviewingtheirsuppliercostsbyregularly
benchmarkingtheircurrentcontractsagainstcompetitoroffers.Unfortunately,ashighcosts
areendemictothesector,suchbenchmarkingeffortsfailtorevealthetruesavingspotential.In
addition,manypharmasupplycontractsareframedinawaythatbearslittlerelationshiptothe
actualcostsincurredbyserviceproviders,beinginvoicedonapercentageofsalesbasis,for
example.
Toescapethebenchmarktrap,leadingcompaniesareturningtofirstprinciplesasthebasis
fortheirlogisticscontractrenegotiations.Ratherthanstartingwiththeirexistingagreements,
thesecompaniesareadoptingacleansheetapproach,inwhichtheybuildamodelofthereal
costsofrunningtheirnetworksfromthegroundupthenlookforproviderswhocanofferthat
serviceatanappropriateprice.
Cleansheetmodelscancoverlonghauldistributionfromplantstowarehouses,thecostsof
handlingandstorageandtransportationtotheendcustomer.Theywilltypicallytakeinto
accountdetailslikedriverwages,specificroutedistancesandshipmentfrequenciesaswellas
labor,energyandspacecostsforwarehousestorageandpackingoperations.Whilesuch
granularanalysismayseemdaunting,proprietarymodelsareavailablewithdetailedinbuilt
costdatabasesformanyregionsaroundtheworld.
Onecompanythatusedthisapproachdiscoveredthat,evenincludingareasonableprofit
marginforthelogisticsserviceprovider,everytenderitreceivedforlogisticsserviceswasat
least40percenttoohigh.Thecompanyimmediatelyabandonedthetenderingapproachin
favorofaggressiverenegotiationoftermswithproviders.
SmarterNetworks
Thecleansheetapproachprovidespowerfulbenefitswhenappliedtostructuralleverstoo.

Oncecompanieshaveapictureoftherealcostsinvolvedinstoring,pickingandtransporting
productsacrosstheirnetworks,theycanmodelandcomparealternativescenariostoexplore
theoptionsforimprovinglogisticsperformancethroughnetworkoptimization.Doesitmake
sensetoclosewarehousesinindividualcountriesandsupplycustomersusingcrossborder
shipments?Willtheefficiencybenefitsgainedfromconsolidatingmoreproductmovements
throughasinglewarehouseandasingleserviceprovideroutweighanypotentialincreasein
transportationcosts?
Mostcompaniesfinditusefultoapplyaphasedapproachwhenconductingsuchanalyses.
Theymightbeginbybuildinganunconstrainedmodel,designedtofulfillcurrentlogistics
requirementsatthelowestpossiblecost.Suchmodelscansuggestdramaticcostreductions,
buttheirimplementationisrarelypossiblesincetherewillbesignificantcommercial,politicalor
regulatoryconstraintsrequiringcompaniestoretaincertainproductflowsorwarehouse
locations.Thefirstmodelactsasausefulbenchmark,however,allowingcompaniesto
comparetheimpactofpotentialnetworkchangesagainstanidealsystem,ratherthantheir
currentone.
Insubsequentmodelingphases,companiescanaddtheirbusinessconstraintstothemodel
andexplorethenetworkdesignspossiblewithinthoseconstraints.Theycanalsocomparethe
savingsdeliveredbycertainnetworkchangeswiththecost,complexityandriskassociated
withimplementingthem,allowingthemtoquicklydistinguishstructuralchangesthatgenerate
realsavingsfromthosethatachieveonlymoderatesavingsandyetrequiremajor
transformations.
Asaresultofthiskindofanalysis,onepharmacompanyreduceditsnetworkof25separate
countrywarehousesacrossEuropetoeightfacilitiesservingmultiplecountries.Theresulting
increasesinwarehouseefficiencyandconsolidationofproductflowshelpedthecompanyto
reduceitsoveralllogisticscostsby15percent.Inanotherexamplethereductionin
warehouseswasfrom30to15andcostreductionwas20%.
FromModeltoReality
Negotiatingandimplementinganoptimizedlogisticssystemistypicallymorechallengingthan
designingone.Tosucceed,companiesneedadetailedimplementationplanthatincludesall
thekeyactionsrequiredtodesignthechangestothelogisticssystemthataddressthe
identifiedpotential,negotiatethetransitionfromthecurrentsystemtothenewoneandsustain
networkperformanceoverthelongterm.
DesigningtheNewSystem
Thesequenceandtimingofchangestothelogisticssystemmustbecarefullyplanned.
Companiestypicallyprioritizechangesbasedontheirpotentialimpactandthetimeor
investmentrequiredtoachievethem.Planningmustalsoconsiderpracticalconsiderationslike
expiryofcontractsandthebusinessriskinvolvedindifferentmarkets.Gettingbuyintothese
changesfromthemarketsisoftenakeysuccessfactor.Thiscanbedonebygenerating
impactquicklywithoutdisruptionsinonepilotmarket,aswellastravellingtoeachmarketto

getlocalbuyin.Theplanalsohastoenablelogisticsserviceproviderchangeorconsolidation
withoutbusinessdisruption.
NegotiatingtheTransition
Alargescalelogisticsoptimizationprojecthassomeparticularskillandcapability
requirements.Pharmaceuticalcompaniesmustensuretheseareavailablebeforeembarking
onsuchaproject.Forexample,logisticsserviceprovidersmaybemoreexperiencedandmore
professionalinnegotiationsandincontractdesignthantheirpharmaclients.Toclosethisgap,
pharmacompanieswillneedcarefulpreparationandtherightresourcesandexpertise.Once
again,comprehensivecleansheetmodelsarepowerfulallies.Onepharmacopreparedits
negotiationteamwithanintensefulldayworkshop,whichincludeddetailedroleplaysof
potentialnegotiationstrategies.Anothercompanyusedasingleserviceprovidernegotiation
team,whichrannegotiationsinallitsmainmarketsonebyone,gainingexperienceand
expertiseasitwent.
SustainingNetworkPerformance
Changesinacompanyslogisticsnetworkdesignandinitswayofdoingbusinesswithservice
providersmayresultintheneedforadifferentorganizationstructureandskillset.Implications
forthefutureorganizationandskillshavetobestudiedcarefullyduringtheimplementation
phaseandappropriatechangesplanned.
Anotherimportantsetofimplicationsmayariseforthesystems.Changesinserviceproviders
mightresultintheneedforinterfacesbetweendifferentsystems,forexample,andfor
integrationacrosssystemstoensuresufficienttransparencyandcontinuousdataflowbetween
thecompanyanditslogisticspartners.
ChangeandEvolution
Asthepharmaceuticalmarketcontinuestoevolve,mostplayerswillhavetochangeand
evolvetheirlogisticsoperations.Bytakingasmarterapproachtonetworkdesignandservice
negotiation,companiescanavoidagreeingtounnecessarilycostlyapproachesnexttime
around.
AbouttheAuthors
KnutAlicke,RaoulDubeauclard,MartinLschandMichaelSchmeinkareleadersinMcKinsey
&CompanysPharmaceuticalOperationspractice.
SpecialthanksforMarcAntoinedelaChevasnerieandBetulSusamisUnaran,consultantsin
McKinsey&Company,fortheresearchandanalyticalhelp.