Executive Overview
When we compiled the Supply Chains to Admire Report in August 2014, no pharmaceutical company made the list. To make the list, a company had to deliver performance (above average results for the period of 2009-2013 than their peer group on a portfolio of metrics including operating margin, inventory turns and Return on Invested Capital) and drive supply chain improvement (based on the Supply Chain Index) faster than their peer group. We believe both performance and improvement matter.
In the pharmaceutical industry, we find most companies to be stuck. They have either regressed in supply chain performance or they are at the same point as they were a decade ago. For many supply chain leaders that attend conferences, this may seem unfathomable. There is an industry belief that companies have implemented new technologies, and evolved processes, and driven improved balance sheet results.
As we will show in this report, as seen in Figure 4, this is not necessarily the case. On average, AstraZeneca has outperformed Bristol-Myers Squibb, and the industry as a whole, but they are not resilient. They have gone backwards in margin and not sustained inventory turn improvements. In contrast, Bristol-Meyers Squibb has not made progress in either performance or improvement and has remained at the same level of performance, without improvement, throughout the period.
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Supply Chain Metrics That Matter - A Focus on Pharmaceutical Companies - 27 APR 2015
1. Supply Chain Metrics That Matter:
A Focus on Pharmaceutical Companies
Progress on Supply Chain Excellence
04/28/2015
By Lora Cecere
Founder and CEO
Supply Chain Insights LLC
By Regina Denman
Client Services Director
Supply Chain Insights LLC
2. Page 2
Contents
Research
Disclosure
Research Methodology
Executive Overview
Understanding Pharmaceutical Industry Supply Chain Performance
Profitability
Managing Cycles
A Closer Look at Generic Pharma
Recommendations
Conclusion
Appendix
Prior Reports in This Series
About Supply Chain Insights, LLC
About Lora Cecere
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Research
Supply Chain Metrics That Matter is a series of reports published throughout the year by Supply
Chain Insights LLC. They provide a deep focus on progress in supply chain excellence for a specific
industry.
These reports are based on data collected from financial balance sheets and income statements over
the period of 2000-2014. In these reports, we analyze how companies made trade-offs during that
time in balancing growth, profitability, cycles, and complexity.
Within the world of Supply Chain Management (SCM), each industry is unique. We believe it is
dangerous to list all industries in a spreadsheet and declare a supply chain leader. Instead, it is our
preference to evaluate change over time with a focus on an industry peer group. In this series of
reports—Supply Chain Metrics That Matter—we analyze the potential of each supply chain peer
group while sharing insights from industry leaders and giving recommendations based on general
market trends.
Disclosure
Your trust is important to us. As such, we are open and transparent about our financial relationships
and our research process. This independent research is 100% funded by Supply Chain Insights.
These reports are intended for you to read, share, and use to improve your supply chain decisions.
Please share this data freely within your company and across your industry. All we ask for in return is
attribution when you use the materials in this report. We publish under the Creative Commons
License Attribution-Noncommercial-Share Alike 3.0 United States and you will find our citation policy
here.
Research Methodology
The basis of this report is publicly available information from corporate annual reports from the period
of 2000-2014 for publicly-owned companies involved in the pharmaceutical industry. To complete this
analysis, and understand the patterns we discovered, we partnered with an Operations Research
team from the School of Computing, Informatics and Decision Systems Engineering at Arizona State
University (ASU) during the spring of 2014 to develop the Supply Chain Index methodology to
analyze supply chain improvement based on pattern analysis of performance. Details on the math
used in this methodology are outlined in the Appendix of this report.
4. Page 4
In the analysis of the Supply Chain Index, we use supply chain financial ratios as opposed to absolute
numbers. The use of ratios allows us to compare large companies to small entities, and also to
compare the progress of companies operating in different countries, using differing currencies.
Additionally, it allows us to track progress over time. In Table 1, we share the supply chain ratios we
have been mining to understand the trends in the Metrics That Matter report series. For the Supply
Chain Index, we measure the patterns and trade-offs between year-over-year Revenue Growth,
Operating Margin, Inventory Turns and Return on Invested Capital (ROIC).
Table 1. Financial Ratios Considered in the Development of the Supply Chain Index
While there are other measurements which we believe are important in the determination of supply
chain excellence—like forecast accuracy, case fill rate, carbon footprint, and inventory write-offs—we
cannot find a reliable and consistent source of data for these metrics that covers all industries and
years studied. Instead, we find that the industry data sources are spotty and largely inaccurate due to
the self-reporting of data. Without a consistent data source across the industries, we cannot include
these factors even though we believe they are important.
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The Supply Chain Index methodology was built on the belief that a supply chain is a complex system
with increasing complexity. We believe it is the supply chain leader’s role to build and manage supply
chain performance to drive year-over-year improvements which are balanced, strong and resilient.
We find that most companies throw the system out of balance and are able to only drive progress on
a single metric, not the entire metrics portfolio. To illustrate this point, and to develop this report, we
studied 190 companies, and we only find 21 of the companies in the study group performing better
than their peer group on the portfolio of metrics.
While a company may have a goal to drive performance on a single metric, we believe that this
should be a conscious choice. In our review of the data in this report with supply chain leaders, most
are not aware of how they rate to their peer group, and it has not been their goal to drive a singular
metric. Almost all companies are attempting to grow while managing costs, and inventory, and
effectively utilizing assets.
In the management of the supply chain, there are many metrics. In fact, we find that most supply
chain leaders measure too many. Our first goal was to determine which metrics should be tracked in
the portfolio analysis. After two years of research in building the Metrics That Matter reports, we
selected four financial ratios as the foundation of the analysis, i.e. year-over-year Growth, Return on
Invested Capital (ROIC), Operating Margin, and Inventory Turns. This was based on interviews with
supply chain leaders, and the ratios’ correlation to market capitalization.
Table 2. Correlation of Supply Chain Financial Ratios to Market Capitalization
6. Page 6
To understand the relationship between supply chain performance and market capitalization, we
calculated the correlation of seven years of financial ratios to market capitalization (the number of
outstanding shares multiplied by the share price), both on a quarterly basis. The results of this study
are presented in Table 2. Our goal was to select a portfolio that would be meaningful to all industries.
We believe supply chain improvement takes time. In our research, we find it takes at least three years
to drive significant supply chain progress, and the best improvements take at least five to six years.
We also find it is difficult for supply chain leaders to sustain progress levels which they have
achieved. A bad project—a quality issue, or a merger—can cause gyrations. As a result, most
companies go through ups and downs with distinct patterns. We believe these patterns matter. It is
for this reason that in this report we analyze companies’ progress in time periods. For the purpose of
industry groupings, we use NAICS code designations.
In judging improvement, the patterns matter. The foundation of the Supply Chain Index starts with
understanding the resulting pattern when two supply chain metrics (generally ratios) are plotted over
time on an orbit chart. As shown in Figure 1, the orbit chart enables the visualization of performance
patterns. In this case, the company is Apple, Inc.
Figure 1. Example Orbit Chart of Apple, Inc.
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The average values for the two financial ratios of operating margin and inventory turns are shown in
the box, and the annual progress is shown as points on the chart. The best scenario is notated in the
upper right-hand corner. This pattern of Apple’s performance, as shown in Figure 1, is very
characteristic of most companies. The company is improving one, not two, of its critical metrics. We
seldom see a company making linear improvement at the intersection of these two important metrics.
As you will see in the case of pharmaceutical companies, many companies are not even making
improvement in one of the metrics.
Continuing our orbit chart examples, Apple’s pattern is quite different than that of Wal-Mart Stores,
Inc., as shown in Figure 2. Note the differences in the patterns. Walmart has primarily focused on
improving inventory turns without much improvement in operating margin over the period. Also, the
degree of improvement at Walmart is less than what we see at Apple.
Figure 2. Example Orbit Chart of Apple, Inc.
Yet, the patterns of these two companies are much more orderly than what we see in other
companies like Dow, DuPont, Mattel, or even Procter & Gamble. For most companies, the orbit charts
are gnarly patterns. Our first challenge in building the Supply Chain Index, was to create something
that could be used across a variety of industries, and be applicable to different levels of supply chain
maturity. A much more intricate pattern to read, as demonstrated in Figure 3, depicts the progress of
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Dow Chemical. Like many companies, Dow has not made much progress. (Note that Dow’s
performance in 2013 is at almost the same place they were in 2000.)
Figure 3. Example Orbit Chart of Dow Chemical
The charts from other industries in the methodology section will help to ground the reader as they
look at the results from pharmaceutical leaders.
9. Page 9
Executive Overview
When we compiled the Supply Chains to Admire Report in August 2014, no pharmaceutical company
made the list. To make the list, a company had to deliver performance (above average results for the
period of 2009-2013 than their peer group on a portfolio of metrics including operating margin,
inventory turns and Return on Invested Capital) and drive supply chain improvement (based on the
Supply Chain Index) faster than their peer group. We believe both performance and improvement
matter.
In the pharmaceutical industry, we find most companies to be stuck. They have either regressed in
supply chain performance or they are at the same point as they were a decade ago. For many supply
chain leaders that attend conferences, this may seem unfathomable. There is an industry belief that
companies have implemented new technologies, and evolved processes, and driven improved
balance sheet results.
As we will show in this report, as seen in Figure 4, this is not necessarily the case. On average,
AstraZeneca has outperformed Bristol-Myers Squibb, and the industry as a whole, but they are not
resilient. They have gone backwards in margin and not sustained inventory turn improvements. In
contrast, Bristol-Meyers Squibb has not made progress in either performance or improvement and
has remained at the same level of performance, without improvement, throughout the period.
Figure 4. Orbit Charts of AstraZeneca and Bristol-Meyers Squibb
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Orbit charts allow the visualization of performance improvement over time. Based on the work we
have done for the book Supply Chain Metrics That Matter, we find that companies make the most
progress when it is done in incremental small gains (Cecere L. , Supply Chain Metrics That Matter,
2014). An example of supply chain leadership that follows this trend is Novo Nordisk. Note in Figure 5
that while Eli Lilly and Novo Nordisk compete in the same market, that Novo has outperformed Eli
Lilly in driving supply chain improvement at the intersection of operating margin and inventory turns.
While Novo Nordisk has driven improvement, Eli Lilly has regressed and is now going backwards. For
the period, Novo Nordisk is driving a higher level of supply chain improvement than AstraZeneca,
Bristol-Meyers Squibb or Eli Lilly.
Figure 5. Orbit Chart Comparison of Eli Lilly vs Novo Nordisk for the Period of 2006-2013
However, as we will see in this report, there are few success stories of driving supply chain
improvement in pharmaceuticals like Novo-Nordisk.
With growth as a major platform, the pharmaceutical industry has continued to grow at a rate of 8%.
This growth rate is slowing as more and more drugs come off patent. In addition, as shown in Figure
6, overall, the pharmaceutical industry has improved operating margins by 29%, but increased
inventory levels; however, performance in inventory turns has worsened with a 16% decline.
11. Page 11
Figure 6. Overall Performance of Industry Subgroups
Understanding Pharmaceutical Industry
Supply Chain Performance
In our work at Supply Chain Insights, we are actively tying financial results—balance sheet and
income statement results—to software selection, process design, and organizational culture. To do
this, we developed a model, shown in Figure 7, which we term the ‘Effective Frontier’. The concept is
this: for companies to win, they need to manage a balanced portfolio of metrics in the areas of
growth, profitability, cycles, and complexity.
In this analysis, we found that nine out of ten companies were stalled at the intersection of inventory
turns and operating margin. They were able to either improve inventory turns or cost, but not both
together. In most industries this is due to the rise of complexity. Complexity affects asset utilization. In
our analysis, we use Return on Invested Capital as a proxy for complexity.
The Effective Frontier model, as seen in Figure 7, is designed to illustrate the principle that a supply
chain is a complex system with increasing complexity. It is deliberately not termed the “Efficient
Frontier”—a term used in economic theory. Why? Quite simply, it is because the term “efficiency” in
12. Page 12
supply chain processes is usually linked to the lowest cost; and the concepts of the Effective Frontier
are based on the balance of growth agendas with cost, cycle metrics (including inventory), and
complexity.
Figure 7. The Effective Frontier
The Effective Frontier model is designed to illustrate the principle that a supply chain is a complex
system with increasing complexity. It is deliberately not termed the “Efficient Frontier”-- a term used in
economic theory. Why? Quite simply it is because the term “efficiency” in supply chain processes is
usually linked to the lowest cost; and the concepts of the Effective Frontier are based on the balance
of growth agendas with cost, cycle metrics (including inventory), and complexity.
So, how did the Pharmaceutical Industry perform on the Effective Frontier? To understand their
performance, see Figure 8.
Figure 8. Pharmaceutical Supply Chain Performance on the Effective Frontier
Operating Margin Inventory Turns Return on Invested Capital
Periods 2005-
2014
2009-
2014
2011-
2014
2005-
2014
2009-
2014
2011-
2014
2005-
2014
2009-
2014
2011-
2014
Abbott Laboratories 0.11 0.11 0.12 8.9 8.8 8.1 12% 11% 10%
AstraZeneca 0.27 0.27 0.22 15 16 14 22% 19% 15%
Bristol-Meyers Squibb 0.08 0.08 0.08 7.8 7.8 7.5 7% 6% 7%
Eli Lilly and Company 0.2 0.23 0.21 8.2 8.4 8.4 16% 21% 18%
Merck and Company 0.15 0.13 0.16 9.1 7.3 7.2 15% 13% 11%
Novo Nordisk A/S 0.36 0.35 0.37 6.5 7.3 8.2 42% 51% 60%
Novartis AG 0.21 0.21 0.2 8.1 8.3 8.4 13% 11% 11%
Pfizer 0.5 0.23 0.26 8.13 7.83 8.1 12% 10% 12%
Average 0.24 0.20 0.20 8.97 8.97 8.74 17% 18% 18%
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While AstraZeneca performs the best on the Effective Frontier, the organization is not driving
controlled supply chain improvement. Likewise, while Novo Nordisk is not outperforming the average
on these three metrics, the organization is driving the highest level of improvement as measured by
the Supply Chain Index. This is common in industries. There is often an overperformer like
AstraZeneca that is “outperforming” but not able to drive supply chain improvement. In parallel, there
is usually a company on the rise, like Novo Nordisk, driving supply chain improvement and closing the
gap on performance.
It is difficult to balance the supply chain metrics portfolio. Note that companies tend to outperform in
one area, but underperform in another.
Profitability
There is an inverse relationship between margin and supply chain excellence. The lower the margin,
the more serious companies need to be about supply chain. With the historically high margins in the
pharmaceutical industry, supply chain has not been an industry imperative. As drugs start coming off
of patent, and the pharmaceutical companies experience leaner times, they will get more series about
supply chain. Gross margin performance for the competitive group is shown in Figure 9.
Figure 9. Gross Margin Averages by Company across Time Periods
14. Page 14
With a serious patent-cliff issue looming, it is not surprising that Eli Lilly is driving the highest level of
R&D spending. This level of spending is closely followed by Amgen and AstraZeneca. The future in
pharmaceuticals hinges on finding new blockbuster drugs.
Figure 10. R&D Spend by Pharmaceutical Company
Managing Cycles
When it comes to managing cash-to-cash cycles, a small number is better. The question in the
boardroom is, “How small can supply chain cycles be managed before we put the supply chain at
risk?” To understand the management of cycles in the pharmaceutical industry we evaluated them in
three time periods: pre-recession, during the recession, and post-recession. We wanted to
understand how the components of cash-to-cash cycles had changed across competitors over time.
Cash-to-cash is a composite metric of receivables, inventory, and payables. As can be seen through
the charts, the greatest improvement in supply chains in the last decade has been made in
payables— i.e. lengthening payment terms to supplies—while inventory levels and receivables have
been more constant. While it looks like AstraZeneca has made the most progress in managing cash-
to-cash cycles when you examine Figure 11, a closer look at the payables in Figures 12-14 tells a
different story. The improvement is primarily coming from lengthening payables. This is dangerous.
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We find that the supply chain leaders who are making the most progress on the Effective Frontier,
and have the tightest resiliency on orbit charts (at the intersection of inventory turns and operating
margins), usually have lower payables in the 30 to 45 day range.
Figure 11. Year-Over-Year Cash-To-Cash Results
Notice the elongation of payables by AstraZeneca over the period.
Figure 12. Traditional Pharmaceutical Company Cash-To-Cash Performance for 2000-2007
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Figure 13. Traditional Pharmaceutical Company Cash-To-Cash Performance for 2007-2009
Figure 14. Cash-To-Cash for Traditional Pharma for the Period of 2010-2014
17. Page 17
A Closer Look at Generic Pharma
While the first part of this report focused on branded pharmaceuticals, a new industry for generic
drugs has evolved. These companies operate at a lower margin where supply chain performance
should be paramount. However, note that the Generic Pharma leaders, Teva and Mylan, have not
been able to drive higher levels of supply chain performance or improvement. Both companies lack
resiliency at the intersection of operating margin and inventory turns. There is an opportunity in
generic pharma to use supply chain as a competitive advantage, but that’s has not happened yet.
Figure 15. A Study of Teva and Mylan at the Intersection of Operating Margin and Inventory Turns
Recommendations
In supply chain benchmarking, it is important to look at performance and improvement of peer
companies over time. The orbit charts are very useful to see these patterns. As companies do this
work, we recommend that:
1) Benchmark companies within an industry. Each industry has unique rhythms and cycles.
2) Look at a portfolio of metrics, and study progress at the intersections.
3) Evaluate performance over time to understand improvement.
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Conclusion
The pharmaceutical industry has historically been an industry laggard in supply chain performance.
To understand who performed best within the peer group, we have to analyze supply chain
performance together with supply chain improvement. In this study, while AstraZeneca outperforms
the peer group in supply chain performance, they are not able to drive supply chain improvement. On
the other hand, Nova Nordisk is driving supply chain improvement, and is closing the gaps on the
metrics. We consistently see that it’s all about driving balance, strength, and resiliency on a portfolio
of metrics based on the Effective Frontier.
20. Page 20
Prior Reports in This Series
Supply Chain Metrics That Matter: A Focus on Retail
Published by Supply Chain Insights in August 2012.
Supply Chain Metrics That Matter: A Focus on Consumer Products
Published by Supply Chain Insights in September 2012.
Supply Chain Metrics That Matter: A Focus on the Chemical Industry
Published by Supply Chain Insights in November 2012.
Supply Chain Metrics That Matter: The Cash-to-Cash Cycle
Published by Supply Chain Insights in November 2012.
Supply Chain Metrics That Matter: A Focus on the Pharmaceutical Industry
Published by Supply Chain Insights in December 2012.
Supply Chain Metrics That Matter: Driving Reliability in Margins
Published by Supply Chain Insights in January 2013.
Supply Chain Metrics That Matter: A Focus on Hospitals
Published by Supply Chain Insights in January 2013.
Supply Chain Metrics That Matter: A Focus on Brick & Mortar Retail
Published by Supply Chain Insights in February 2013.
Supply Chain Metrics That Matter: A Focus on Medical Device Manufacturers
Published by Supply Chain Insights in February 2013.
Supply Chain Metrics That Matter: A Focus on Consumer Electronics
Published by Supply Chain Insights in April 2013.
Supply Chain Metrics That Matter: A Focus on Apparel
Published by Supply Chain Insights in May 2013
Supply Chain Metrics That Matter: A Focus on Contract Manufacturing
Published by Supply Chain Insights in August 2013
Supply Chain Metrics That Matter: A Focus on the Automotive Industry
Published by Supply Chain Insights in October 2013
Supply Chain Metrics That Matter: A Closer Look at the Cash-To-Cash Cycle (2000-2012)
Published by Supply Chain Insights in November 2013
Supply Chain Metrics That Matter: Third Party Logistics Providers
Published by Supply Chain Insights in December 2013
Supply Chain Metrics That Matter: A Critical Look at Operating Margin
Published by Supply Chain Insights in December 2013
21. Page 21
About Supply Chain Insights, LLC
Founded in February, 2012 by Lora Cecere, Supply Chain Insights LLC is now in its fourth year of
writing research focused on delivering independent, actionable, and objective advice for supply
chain leaders. If you need to know which practices and technologies make the biggest difference to
corporate performance, turn to us. We are a company dedicated to this research. Our goal is to help
you understand supply chain trends, evolving technologies and which metrics matter.
About Lora Cecere
Lora Cecere (twitter ID @lcecere) is the Founder of Supply Chain Insights LLC and
the author of popular enterprise software blog Supply Chain Shaman currently read
by 5,000 supply chain professionals. She also writes as a Linkedin Influencer and
is a a contributor for Forbes. She has written three books. The first book, Bricks
Matter, (co-authored with Charlie Chase) published in 2012. The second book, The
Shaman’s Journal published in September 2014, and the third book, Supply Chain
Metrics Metrics That Matter, which published in December 2014.
With over twelve years as a research analyst with AMR Research, Gartner Group, and Altimeter
Group, and now as a Founder of Supply Chain Insights, Lora understands supply chain. She has
worked with over 600 companies on their supply chain strategy and speaks at over 50 conferences a
year on the evolution of supply chain processes and technologies. Her research is designed for the
early adopter seeking first mover advantage.