Healthcare SCM: Indiana University Health has opened a highly automated, state of the art, integrated supply chain service center. With it, they are improving performance, increasing resilience, … and saving money!
Supply Chain evolution differs dramatically by industry. Manufacturing, particularly high-tech manufacturing, has always tended to be at the forefront of SCM change. And the reason is pretty apparent – failure to do so could cost you your business! Some other industries, however, have been slower in their evolution. Healthcare is an example. In healthcare, quality of patient care has always been the focus of attention, with supply chain management (SCM) being regarded as only a necessary expense. So, for a couple of decades now, the typical approach has been to use the major distributors and, where feasible, an industry vertical group purchasing organization or GPO to aggregate purchasing volumes and negotiate discounts. But the cost of medical supplies continues to increase and now represents 35 – 40% of the typical hospital’s operating cost.
However, things are changing in healthcare SCM. As hospital M&As consolidate the market into larger hospital enterprises, some are beginning to explore opportunities to change the paradigm. Indiana University Health is one such pioneer.
Last July, IU Health went live initially supporting three hospitals with its new, 300,000 square foot, $9M Integrated Service Center or ISC in Plainfield, IN, — and with it introduced a whole new way of doing SCM in healthcare. In addition to being the center of operations for procurement and logistics systemwide, the new ISC facility features a robotic storage and goods-to-person picking solution with nearly 8000 bin locations; a pick-and-pass module with four zones; 950 feet of conveyor and sortation; and 21 aisles of rack and shelving storage with 8,500 full pallet locations and 2,500 case locations.
By last December, the facility was serving all 16 hospitals in the IU Health system, supporting over a quarter of a million units picked per day, and placing the system on track to reap $4.2 million in savings in the first year. That means they will achieve full payback in under 2 ½ years.
Recently, I had the opportunity to chat with Dennis Mullins, Sr. Vice President of Supply Chain Operations, and Derrick Williams, Executive Director of Supply Chain Logistics, of IU Health. One of the first questions I asked was how they came up with this dramatic approach. “What we did was a lot of benchmarking. We went around the country to look at practices from different hospital system distribution sites like Intermountain Health and Orlando Health. We also took a look at Amazon, Walmart, and H-E-B down in Texas. We tried to look at the best practices inside the industry and best practices outside the industry space.” Williams told us. This process exposed the IU Health SCM team to the leading practices and newest tools across a broad spectrum of supply chain environments. And although every industry is unique – and healthcare SCM is, indeed, a very unique environment – sound business practices and engineering principals are largely transferable. From the information they gathered, the team selected those practices and tools that appeared to best fit the needs of the state’s largest healthcare system and began to develop a plan for what would ultimately become the ISC.
Having such a large, modern distribution center enables IU Health to buy in bulk directly from the manufacturer. In fact, 80% of purchased materials are being removed from a third-party distributor such as Cardinal or Medline and being shipped directly from the manufacturer to the ISC. Some manufacturers still do not ship directly to IDNs[i], but rather require fulfillment through a distributor. This accounts for the remaining 20%, but long-term, IU Health plans on removing distributors entirely. And with them, their markup.
In addition to the direct cost savings, another set of benefits of their new self-distribution model comes from risk pooling. Risk pooling, in short, is a statistically based risk management principal. As you aggregate variations in supply and/or demand across multiple locations and items, the standard deviation and the coefficient of variation both decrease. As a purely illustrative example, you may have three stockrooms, A B & C, which have for a given item the following safety stock:
A = 50, B = 80, C = 45 Total Safety Stock = 175
But if you consolidate these items into a single warehouse and redo the appropriate buffer stock math, you may find you now need a safety stock level of 125, reducing your inventory investment by 50 units. And if you multiply that kind of savings across several thousand SKUs, that can result in a significant reduction in inventory cost.
IU Health targets maintaining a six-week enterprise-wide supply of inventory on hand in the ICS. That’s six-weeks of inventory for 16 hospitals and some 500 practitioner offices and surgical centers. That’s a lot of inventory, so the savings associated with risk pooling alone is indeed significant.
But there are other, somewhat less easily quantified benefits to this type of consolidation. The first is the inherent resilience this approach lends to the IU Health system. Hospitals and other healthcare organizations that depend on third-party distributors are subject to their allocation decisions when disruptions occur upstream in the supply chain. And those who rely on these distributors to maintain a near just-in-time delivery for PAR location upkeep find that their supply chain is even more brittle as the JIT model maintains very limited on-hand buffer stock. By keeping a 6-week supply in the ISC, IU Health has sufficient stores to ride out most short-term disruptions and a significant time buffer to develop mitigation for longer-term disruptions, even if there is little or no advance warning.
Next is the return of floor space to the operating units. Floor space is something there is never enough of in a healthy, thriving hospital system, and inventory takes up space. Before the ISC, each facility kept a 30- to 60-day stock on site. With the ISC’s 6-week supply, the individual facilities can roll that back to a seven to 10-day on-hand inventory – a 67% to 83% reduction!
But to engage in an operation of this magnitude, you need to have the right size. Finding adequate savings through self-distribution comes down to scope. An estimate of that threshold appears to be in the neighborhood of $200,000,000 in supply spend annually. But the other keys in making a self-distribution system work are A) developing a systems approach, and B) having the buy-in of the individual hospitals involved. Supply chain services in healthcare is an expense to the units it supports, so the business case needs to show that the related setup and operational costs are an investment in those business units, and show the users the pro forma and payback in benefits to them in centralizing not only the warehousing, but all of supply chain services as a system – the buyers, the contracting, the value analysis, and the warehousing and logistics. As pointed out at the beginning of this post, supplies represent 35 – 40% of the cost to a hospital and, as a result, is the area that can return the greatest savings to the organization. And you need to report regularly to the member hospitals showing them those tangible benefits they are experiencing month-to-month to ensure their continued support of the operation.
As more and more hospitals consolidate into integrated
delivery networks, the old models of healthcare supply chain management fail to
scale up. “But we’ve always done it this way,” just doesn’t make it anymore. The
innovative work of forward-looking supply chain leaders like those at Indiana
University Health are helping to pave the way into a new era of healthcare
supply chain management that is adapted to both the unique needs and strengths
of the IDN.
[i] IDNs, or integrated delivery networks, are large healthcare organizations that either own or manage multiple points of patient care – such as hospitals, physician practices, rehabilitation, and long-term care facilities
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