Biopharma Logistics Providers Wrestle With Uncertain International Landscape

credit: UPS

The ongoing spate of piracy on the high seas around the Horn of Africa highlights the difficulties international trade is experiencing today. At the same time, the downturn in world economies has cut into the volume of trade to be handled by international logistics companies, making the business less profitable even as security and safety issues raise the cost of doing business. Add to this the volatile energy situation, which caused fuel prices to zoom, crash and rebound in less than a year, and the business looks even less attractive.

Nevertheless, the biopharma industry continues to globalize, and logistics providers are giving greater attention to serving this industry sector. In terms of final product value, biopharma is a $600-billion global industry (according to 2008 IMS Health data)—not the biggest piece of international trade by a wide margin, but one that has been growing at an attractive rate compared to the swings in widely traded commodity products. A February survey by EyeForTransport, a London conference organizer, and MercuryGate International (Cary, NC), a transportation software provider, found that pharmaceuticals and healthcare products represented 4% of overall 3PL (third-party logistics) providers.

But arguably what biopharm products lack in volume they make up in value.

Pharmaceuticals tend to be high-value products—so much so that ocean carriers tend not to want pharma business because of the higher risk of loss and liability. (However, some sources also report that ocean carriers are getting a second look after the energy price surge of last year.) Air transport is the preferred transportation mode for many international shipments—especially products that require temperature controlled delivery.

For 3PLs and cargo carriers generally, the high-value pharma shipments are helping to offset what will turn out to be a historically bad business environment. According to Ed Wolfe, principal of Wolfe Research (New York), all transportation modes have suffered dramatically over the past 12 months, and while the downturn appears to have bottomed out, there could yet be more bad news. Compared to 12 months earlier, ocean transport was down 26% in January; international air traffic was down 23%, and domestic truck tonnage was down 11%. The overall decline for stock prices of publicly traded companies is down 30.5% from the beginning of the year through early March, on top of a 26.7% decline in the second half of 2008. And nearly all of this happened after the fuel “shock” of last summer when prices more or less doubled in a matter of months.

Everyone contacted by Pharmaceutical Commerce claimed that the volume of their healthcare products shipping was increasing (which may, in fact, be true), although there is undoubtedly some pulling and tugging of accounts and trade lanes among competitors. Something of a milestone was passed when, at the end of last year, Merck agreed inked an agreement with UPS whereby the latter would take over two of Merck’s distribution centers altogether, hiring the Merck staff as UPS employees, and running the centers both for the benefit of Merck and for other healthcare clients. “This is a game-changer,” said Bill Hook, VP of the UPS Healthcare Logistics unit, at the time. “Overall, we’re taking a significant fixed cost for Merck and converting it to a variable cost for them, and allowing them to focus on what they do best.”

Healthcare logistics is now in the sights of Penske Logistics (Reading, PA), which has built up a global supply chain management business that goes well beyond its roots in trucking. “We’re accustomed to working in heavily regulated manufacturing industries, so this is a natural evolution for us,” says Joe Gallick, business development manager for the life sciences unit. “The current efforts by US pharma manufacturers to grow their businesses in emerging markets worldwide challenges traditional shipping practices, and we think there’s a lot of room for supply chain optimization.”

credit: KUENE+NAGEL

Intercontinental, multinational

There are several key business activities for biopharma and logistics: inbound finished goods and APIs (especially from China and India); outbound shipments of finished goods; and, particularly for temperature-controlled shipping, the movement of clinical trial materials from manufacturing sites to trial sites, and the resulting flow of fluid and tissue samples back.

China, with its double-digit economic growth in recent years, has been both an enormous opportunity and challenge for exporters to that country. According to a report from Research in China, a Beijing market analyst firm, pharma distribution in the country is highly decentralized: There are 16,500 wholesalers, 120,000 retailers and more than 6,300 producers (those producers are, of course, one of the main sources of APIs for the world industry, but they also have their own challenges in distributing within China).

This situation is undoubtedly one of the areas where the “last mile” problem is severe.

Like telecom providers, who have big data pipes crossing continents but have a problem connecting to individual homes, logistics companies have strong infrastructures to move products around the globe, but depend on local providers to move product to the ultimate retailer or distributor. “You can have 50% of your spoilage in an intercontinental shipment in the last 5% of a trip,” notes Marco Stroeken, GM for Penske Logistics’ healthcare unit. “You need good visibility into the supply chain, and well-managed handoffs to local providers.”

“ ‘Last mile’ delivery is a challenge,” agrees Jeff Sitzler, manager of business development for FedEx Custom Critical, the Akron, OH-based unit of FedEx that handles much of the company’s specialty pharmaceutical logistics. “It shows up in China, Africa and Eastern Europe.” Sitzler says that the company has successfully built out its service offering in Eastern Europe through contacts with local providers.

The clinical trial materials market is getting increased attention from logistics providers. It is well-known that manufacturers in the US and Europe are pushing more early-stage clinical trials out to the developing world, mostly because it is easier to locate suitable patients. For either the manufacturers themselves, or for the contract research organizations (CROs) that work with them, the challenge is to get temperature- and time-sensitive samples back and forth from the trial locations. Much of this shipping is in the form of small parcel delivery, which is usually operated via different pathways than volume or bulk shipping.

credit: UPS

“Clinical trial materials transportation is an example of how our comprehensive network performs well,” says John Menna, director of healthcare logistics at UPS. “We track every package through our system, and we have cold storage facilities situated at key points, as well as a recovery/replenishment system (of dry ice) to back up the delivery system if weather or other disruptions occur in transit,” he says.

UPS and archrival FedEx both tout their IT systems that track individual shipments throughout their networks. Besides its Flex Global View for tracking shipments, UPS provides Temperature True for reporting status of temperature-controlled parcel movements. FedEx has FedEx Desktop (among other tracking mechanisms), plus Temp-Assure tracking for the same types of deliveries. Behind both of these tracking systems are asset-rich resources for managing pickup, transportation and delivery, across multiple modes and national borders. While UPS has a network of 25 healthcare logistics facilities around the world (the latest having opened this fall in San Juan, Puerto Rico and Roermond, The Netherlands), FedEx claims the largest air-cargo fleet in the world.

Shipment tracking systems are the feature du jour of 3PLs—most companies operating internationally have a system. Examples from companies that emphasize their healthcare/pharma services:

• Penske Logistics: Supply Chain Window
• DSC Logistics: ASK! (Advanced Supply-chain Knowledge)
• Ozborn-Hessey: e-Focus
• Panalpina: Pantrace
• DHL: DHL ProView
• Kuehne+Nagel: KN Login
• DB Schenker (including BAX Global): SWORD (Schenker’s Worldwide Online Real-time Data network)

Good visibility into shipment status is certainly desirable from the client’s perspective, but it alone doesn’t constitute high-quality service. DB Schenker, according to industry director Bob Gahan, recently won a project from a major US manufacturer that involves both air and ground transportation from China, across Europe, and then via a daily flight from Germany to a logistics facility in Toledo, OH, and thence to the manufacturer’s facility—all with temperature-controlled shipping conditions being maintained. “A lot of carriers that say they understand cold chains really are depending on the packaging to maintain a set temperature, and then just treating the shipment like any other,” he says. “To do this right, you have to have separate operating procedures for temperature-controlled deliveries.”

Meeting new regs

The global logistics industry is still feeling the aftereffects of 9/11, although at this point, most of the new practices seem to be taken in stride by shippers and carriers alike. In January, the requirements of the US Customs and Border Patrol’s Importer Security Filing, commonly known as the “10+2” rule. The rule applies mostly to ocean freight and requires shippers to send advance notice of cargo details to CBP. In practice, the shipper passes this information to the carrier, who then transmits it to CBP, or the shipper can transmit it directly. Overall, though, it is a fairly routine operation provided that the right IT communications are in place, and that there is communication between, say, a freight consolidator in Europe and the importer in the US that is bringing in a container.

credit: PANALPINA

A somewhat more hands-on obligation also went into effect in Februrary, with the Transportation Security Administration’s requirement for cargo screening (the “Certified Cargo Screening Program,” or CCSP), specifically for airborne freight (The European Union has adopted similar requirements for inbound freight there). As of February, 50% of cargo had to be screened; in August 2010, the requirement will go to 100%. Shippers can opt to obtain qualification as a certified screening facility, or make use of comparable certification at their freight forwarders.

Concerns were expressed early on that the prospect of opening up and inspecting carefully packaged, temperature-controlled shipments would undercut the industry’s ability to manage those shipments while maintaining product integrity. But TSA is apparently allowing for some types of nondestructive (of the packaging) testing, such as X-rays or chemical sniffers. Michael Vorwek, COO of LifeConEx, a jv between DHL and Lufthansa Airlines that specializes in biopharma delivery, says that “we have been in close contact with industry experts in this regard to ensure that LifeConEx’s customers will be well prepared.”

“There’s still some kinks to be worked out,” says DB Schenker’s Gahan. “For example, what happens if a package tests positively? But overall, the cooperation with TSA has gone very smoothly, and we should be able to handle 100% screening when that becomes official.”

Cargo screening and 10+2 are not the end of the story, unfortunately. In January, FDA was one of a number of federal agencies that united around proposed “Good Importer Practices,” and FDA issued its own GIP guidance (which does not have the effect of law, but does influence how FDA inspections for licensing are administered). The GIP guidance is proposed form, and public comments were being collected through the spring. GIP codifies a number of industry practices that are already standard practice for most manufacturers—or at least the ones that are careful about their outsourcing and trading partner relations:

• Know the foreign firms that produce the products they purchase and any other firms with which they do business and through which such products pass (e.g., consolidators, trading companies, distributors);
• Understand the products that they import and the vulnerabilities associated with these products;
• Understand the hazards that may arise during the product life cycle, including all stages of production; and
• Ensure proper control and monitoring of these hazards.

“GIP is really focused on the ‘importer of record,’ meaning, in most cases, the manufacturer or wholesaler who is bringing the product into the US,” notes UPS’ John Menna. “How this affects us is that those clients will audit our operations, which has happened numerous times. Our clients are very comfortable with how we handle security and correct operating procedures.”

credit: FEDEX

FedEx’s Sitzler emphasizes the point that his company wants to be a “turnkey” operation for clients—“We will manage the process door to door,” he says, in meeting GIP or other requirements to deliver shipments safely and on time. “The people within the FedEx organization have accountability.”

Show me the money

Managing the physical movement of products, and meeting customs requirements for safety, are one window on the biopharma supply chain. There is distinctly different window when tariffs for imports come into consideration, or where the accounting practices of multinational manufacturers and distributors (as most of Big Pharma has been for years) are factored in.

KPMG, for one, has been a proponent of the “tax efficient supply chain,” citing higher tax authority attention on how biopharma reports R&D, manufacturing and marketing expenditures. “The trickiest of these are issues related to transfer pricing, which are dependent on the tax authorities’ perception of the stage at which value is created. The varying tax laws and, particularly, transfer pricing approaches in different jurisdictions pose the risk of double taxation for manufacturers,” the firm stated in a November publication, “The Tablet.”

Tax accountants both in the Internal Revenue Service and at leading accounting firms are still discussing the impact of rules issued by IRS on Christmas Eve last year. The rules are the latest round of a policy that IRS has been wrestling with for over a decade on how to allocate the revenue generated by “controlled foreign corporations” (CFCs)—i.e., contract manufacturers. They were issued in final, proposed and temporary form, with some of them scheduled to go out of commission in 2011 pending other reviews. The final rules will go into effect on June 30.

For years, Congress and the IRS have been trying to eliminate the tax advantages of so-called “cash boxes”—entities set up to absorb the revenue of contract manufacturing arrangements under favorable tax terms, the so-called “foreign base company sales income rules.” But to do this, IRS has proposed a fairly complex set of tests or elements to define what a “significant contribution” is to a contract manufacturing process. Further complexities enter in cases where the CFC manufactures something that is either sold in-country or exported, as well as what the “hypothetical tax rate” is for the CFC.

In a recent audioconference sponsored by BNA Tax & Accounting, a BNA tax analyst, Harold Pskowski said that “US businesses, such as those in the electronics and pharmaceutical industries that rely heavily upon offshore contract manufacturers, must examine existing supply chains to assure compliance with the regulations.” However, it remains to be determined whether the rules will actually cause a re-evaluation of existing supply chain arrangements, or simply require more detailed reporting and recordkeeping by importers.

“A key part of the rules is that the ‘customer’ [the importer buying from a contract manufacturer] must demonstrate some degree of control over the manufacturing process,” says Deloitte’s David Green, industry leader, tax, for Deloitte’s Life Sciences & Healthcare practice. “This will influence the relationship between the customer and the manufacturer.” IRS has held additional meetings on the topic this spring, and is collecting additional comments prior to finalizing more elements of Subpart F.

Green says that the rules will apply somewhat differently for US-headquartered companies importing into the US, as opposed to foreign-based companies doing the same. (But, on another level up from these issues, there are continual efforts to harmonize both trade and accounting practices internationally.)

Michelle McGuire, principal in Deloitte’s National Global Trade Solutions Group, bring the tariff perspective into the picture. The first cut of evaluating import duties is simply the “corporate tax rate on the country where you are doing manufacturing,” she says, noting that Ireland has recently renewed its very attractive 12.5% tax rate, which has drawn substantial manufacturing to that country.

At another level, the question becomes how import duties are affected by what parts of the overall composition of a product are performed in what countries. “Most of this focuses on where the active pharmaceutical ingredient [API] is manufactured; it’s common to produce the API in one country and do the final ‘fill and finish’ in another.” A complication here is that while APIs might be taxed at one rate, the excipients or additives that go into the final product are at another, which could then upset the tax advantages of importing the API into a country. There is a so-called “K List” of such additives that US Customs and the biopharma industry are evaluating.

A third level to the issue is the use of free trade zones, which allow an importer to bring a product into a country, perform additional manufacturing or finishing steps, and then export it from the country, duty-free. “The pharma industry in the US has been taking advantage of free trade zones for years, but Europe is fairly late to the game in this regard,” she says.

Even so, both Green and McGuire agree that the primary consideration is how a manufacturer wants to go about introducing a product into a country, whether domestically or internationally. “Many countries require language-specific packaging, and supply chain issues such as the need for temperature-controlled shipment can dictate how you handle the distribution,” says McGuire.

For the logistics providers, the impact of tax-efficient supply chain operations means a definite increase in reporting responsibilities, and a possible increase in shipping volumes. “We’re the back end of the process,” says DB Schenker’s Gahan. “We have to ensure that we’re reporting the right documentation and billing data to the right corporate entities.” He adds that the outsourcing trends in the industry have only added to the complexity of how supply chains are being managed. PC