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Overcoming concerns about outsourcing to Asia

Doug Jennings and David Whitaker
Medical Device & Diagnostic Industry Magazine
March 2010

Carefully evaluating five major factors will help OEMs make a more confident decision about manufacturing in Asia.

Compared with other industries, medical device companies have been relatively slow to move their manufacturing activities to Asia. This is largely due to regulatory, quality, intellectual property (IP), and cost concerns related to doing business in the region. As a result, many companies lack experience with outsourcing operations to Asia. To evaluate the potential risks and to maximise the benefits of outsourcing, device makers need to perform a prudent cost-benefit analysis before plunging into the Asian market.

Asian Opportunities
Western companies in many industries are reaping the benefits of moving some of their manufacturing activities to Asia or subcontracting to suppliers there. In doing so, they not only take advantage of reduced costs but also position themselves to better serve local emerging markets. In addition to manufacturing, some companies have started to move research and development activities to the Far East region as well.
By comparison, medical device companies are under-represented in Asia. OEMs have several, often valid, concerns about transferring manufacturing there. As well as setup costs, manufacturers worry that Asian operations will not be able to satisfy the stringent regulations and quality standards that medical devices must meet. They also fear that there will be difficulties with transport and communication.

However, device companies cannot afford to ignore the opportunities that Asia offers. Medical manufacturers have only recently started to feel the pinch from the global financial downturn, and this could lead major companies to drastically rethink their cost structure and operational organisation. As a result of this financial pressure, OEMs need to find ways to overcome the perceived risks in Asia. To avoid pitfalls and maximise benefits, it is important that they address the five factors presented in this article—both when setting up an Asian operation and when running it. It should be remembered, however, that Asia is developing rapidly. Business trends that are true today may well have changed tomorrow.
1. Economics

Economic factors are important when selecting which activities should be moved to Asia. For example, there are significant time and cost savings to be gained from using certain Asian prototype component manufacturers, but the same companies may be less suitable for production volumes.
Also, with labour costs rising across most of Asia, companies need to ensure that they pick the right locations for their manufacturing operations. Clues can be obtained from looking at what Asian companies are doing. For example, some Taiwanese companies have set up factories in mainland China to lower costs while Singaporean businesses have been outsourcing to Malaysia.
OEMs need to bear in mind that lower labour costs will not necessarily mean lowest overall cost. For example, wages in Singapore are higher than they are in China, but this difference may be offset by lower component costs in Singapore.
Additionally, shipping and associated export costs should be taken into account. Manufacturers can sometimes exploit legitimate tax loopholes by finding the right location, such as one that makes it convenient to ship between Hong Kong and China prior to export to the European Union or the United States.
As we have seen more recently, the change in exchange rates can have a significant effect on the cost of goods. Most Asian suppliers quote and charge for goods in US. dollars, which can result in large fluctuations in the costs of goods sold. European companies must be wary of this. In some cases, it may make better financial sense to move facilities to Eastern Europe to avoid unpredictable exchange rates.
Lastly, travel costs should be factored into the analysis. Effective supplier management requires Western-based employees to make many visits to the offshore operation.
2. Ease of Communication
Speaking the local language is an important practical consideration when locating an Asian operation, as well as when managing an existing relationship. Managers at the Asian site need to be able to communicate with both the customer’s headquarters staff and with local workers. English language abilities vary widely across the region—Singapore, India, and Hong Kong tend to have the largest number of English-speaking employees. Historical ties may determine how close a country’s culture is to the OEM’s and how well English is spoken.
A range of cultural differences must be taken into account when communicating with Asian counterparts. For example, the level of reliance on face-to-face meetings varies from country to country. Such meetings are vital when building a business relationship in countries such as South Korea, but perhaps less so in China, where companies are used to receiving orders from afar. Despite the custom in the supplier’s country, the OEM may find that it prefers face-to-face contact when dealing with such activities as development, new product introductions, validation, and making sure that products launch on time. This type of communication can eliminate the misunderstandings that can occur across linguistic and cultural boundaries.
Another communication issue to be aware of is that, in some countries, cultural constraints may mean that all communications have to go through one senior person. This person may not be the most linguistically capable member of the staff. OEMs should take this into account because it complicates the normally straightforward task of identifying a primary contact within a supplier’s organisation.
Time zone differences also determine the ease of communication between an OEM and contract manufacturer. Asia spans five zones and, because regular contact is vital, it is important to pick the one that suits the OEM’s home location best. That usually means, all other things being equal, that a company headquartered in Europe should choose an Asian location as far west as possible, and a US. company should choose one as far east as possible.
3. Availability of Expertise
Companies in Asia can often provide a high level of technical expertise, but it is important to ensure that a particular supplier’s technology and experience has some relevance to the manufacture of medical devices. Due to the momentum in Asian manufacturing, most companies invest in the latest equipment and technology to stay ahead of the game.

Expertise varies from country to country. While most Asian countries specialise in labor-intensive manufacturing processes such as manual assembly, differences do exist across the region. For example, South Korea is more inclined than China to automate. Countries may also specialise in particular products and processes. Singapore is known for its local expertise in manufacturing precision metal components.
Within a country, too, there can be clusters of plants with a particular speciality because sub suppliers often locate close to a major customer’s site. For example, there are large clusters of suppliers in South Korea drawn to Samsung’s factories. This is something medical OEMs should regard with caution. The local focus on Samsung may mean that suppliers place that company’s needs ahead of their device customers’.
4. Regulatory Compliance, Quality, and IP
Validation is an area in which Eastern practices can vary widely, and generally lag behind Western ones. Manufacturers should not assume that common practices in the West, such as 100% first-article inspection and process capability on all critical dimensions, are followed abroad. Asian manufacturers tend to rely primarily on the use of their relatively large labour force for inspection and perform limited dimensional analysis. Therefore, it is important that Western companies carefully monitor validation. From the outset of the project, they must be clear on the validation demands and metrology.
Other threats to quality include the subsourcing of components and relocation of production without prior arrangement, high staff turnover, and lack of change control. This is best handled by choosing a supplier carefully and then putting a rigorous quality agreement in place from the outset. It is essential to inspect factories before entering into a manufacturing agreement. Once manufacturing is under way, the OEM should communicate continually with their Asian supplier and contractually enforce the required standards and practices. ISO 13485 accreditation is becoming more commonplace in Asia but, nevertheless, OEMs should still check a potential supplier’s scope for this accreditation and make sure the systems that they have in place meet their requirements.
In our experience, in countries such as Malaysia and China, contract manufacturers have been known to hire Western certification bodies to perform the audits to gain some degree of credence. Yet, the suppliers do not always select the most suitable bodies in terms of medical device manufacturing expertise. Other companies in these countries claim to have ISO 13485 accreditation; however, they have a limited scope, which means that various key stages of the process—such as tool making—are omitted and may not be covered by any recognised quality management system.
Another widely recognised issue is that some Asian countries are relaxed when it comes to the protection of IP. Once again, this varies between countries and, therefore, is a factor in deciding where to site an Asian operation. More-developed nations such as South Korea and Singapore have a better reputation for handling IP. The same is true of physical security, although most countries are now taking steps to prevent pilfering. At some Asian facilities, armed guards patrol prototyping and manufacturing areas to prevent goods from being taken by employees. Device manufacturers can take advantage of this heightened security.

It is important to remember that OEMs can encounter many of the problems mentioned above with Western suppliers—suppliers that tend to take longer to finish products and charge more for their labour. Thus, with the right controls in place, outsourcing work to Asia remains an attractive proposition for Western medical device makers.
5. Maintaining Quality Control and Design Authority
It is best to keep control of design in the West and to use Asian companies as suppliers rather than partners. A more formal relationship, in which the divisions of responsibility are clearly defined, provides OEMs with the opportunity to evaluate claims of expertise and efficiency. Compared with an Asian-owned company, a Western company with an Asian subsidiary may provide a faster and easier route to set up. In either case, companies should plan for close involvement at the manufacturing site along with frequent communication by other means such as Web meeting tools.
The method of manufacture and assembly must be designed in collaboration with the particular supplier involved. Local capabilities and labour costs will influence whether automated or manual assembly is the best option.
It is important to establish an appropriate level of information exchange. OEMs should avoid overloading a prospective supplier with development information, but they should get its input on the preliminary design. They should also return for more detailed discussions and negotiations once the design has been developed or at least chilled.
Although moving selected aspects of manufacturing to Asia is a highly attractive proposition, there are also quite a number of pitfalls to be anticipated and negotiated. In doing so, there is no substitute for experience. This is true both when deciding which geographies to use for which activities, and also when managing an existing East-West relationship. The decision to use Asian suppliers should not be taken lightly, nor is it always the best option. However, in the right circumstances, the potential benefits are huge provided that the importance of supplier selection, involvement, and management is understood.
Doug Jennings and David Whitaker are principal consultants within the technology and innovation practice of PA Consulting Group (Cambridge, UK, and London).

Reproduced by kind permission of MDDI Magazine. To read the full article, please click here.

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