Introduction

Pharmaceutical companies are global in nature. They often requires to outsource their manufacturing facilities to foreign countries through contract manufacturing. Using Transaction cost model, Uppsala Model, OLI model, and Core competency theory this paper will explain why pharmaceutical companies go for contract manufacturing.

What is contract manufacturing?

Contract manufacturing refers to making arrangements to some foreign producers and singing deals that the foreign producers will produce the contracted products for the company in discussion.

The foreign producers are bound to follow all the rules and regulation, qualities and standard mentioned in the contract.

Harvard Business Review revealed that recently there has been some changes in the behavior of the customers. They are demanding more competitive products with lower prices.

As a results, the pharmaceuticals companies are in pressure to reduce the prices of the products, consequently they need to reduce the costs. Therefore, the companies are outsourcing the manufacturing facilities to low costs countries such as countries in the Asia Pacific regions.

Explaining why pharmaceutical companies go international

In this part of the assignment, different models with relation to contract manufacturing will be discussed. Moreover, why the pharmaceutical companies are going to outsource the production plant to another countries will also be discussed on the basis of these models and theories.

Transaction Cost Model explaining why Pharmaceutical companies go for contract manufacturing

The model explains why a firm outsources manufacturing facilities to other companies rather than producing them in house. This model perceives that production in the own plant is related to many bureaucratic activities. It incurs costs.

On the other hand, production in the outsourced plan may be more convenient. When the company thinks that production in the own plant is more profitable. If the company perceives that transaction costs are more than manufacturing costs. Then the business grows inside because the companies invest in the own plant.

But if the outsourcing production facilities are more profitable, then the company outsources in others’ manufacturing plant.

This model of transaction costs can be linked to explain why pharmaceuticals companies are going to outsource the manufacturing facilities.

Transaction costs are generally related to search and information costs, bargaining costs and policing and reinforcement costs. Search and information costs relate to finding out which companies produce drugs and medicine.

Pharmaceutical companies makes a comparison of the costa related to the two situations. If it sees that manufacturing in the own plant is more profitable than the relevant transaction costs with outsourcing. Then the company produces the products in house.

In case of pharmaceuticals industry, the companies need to make huge investment in R&D. Thus the company should be involved with R&D and the production activities should be conducted to low costs countries. The reasons are lower costs of the factors of production such as labour, facilities, utilities etc.

There are growing pressures to reduce the costs of manufacturing productions. The pharmaceuticals company perceives that low costs countries in the Asia Pacific region can produce products if they are directed with guidelines. Therefore, the companies from North America and Europe are making their production through contract manufacturing.

Uppsala Model explaining why Pharmaceutical companies go for contract manufacturing

The Uppsala model explains how a firm engages itself in the international activities. The key factors of this model is that a firm must have national experiences in productions and sales. As soon as the company gains experience in the national market, it starts to export to the international market. Consequently the firms engages with establishment of foreign branch.

This theory of Uppsala Model can be used to explain why the pharmaceutical companies in the North America and Europe are going to outsourcing the production facilities to foreign countries.

The nature of the pharmaceutical companies are international because the R&D costs are so high. If these companies do not engage themselves in the international sales then they will face many problems in terms of economies of scale. Thus, these companies already have foreign sales presence and sales representatives. To make full utilization of the resources, companies in this sector make decision to outsource the production.

There are several reasons for this decision of making the outsourcing decision. Firstly, the customer are demanding medicines with lower costs and developed qualities. But the production costs in the home is much expensive.

To reduce the manufacturing costs the companies are involved with production in the lower costs countries. In this case, contract manufacturing is the most efficient by this way because the pharmaceutical companies then can focus in the research and development activities in the home countries.

The second reason of contract manufacturing is that the costs of factors of production is lower in the developing countries. They are much flexible in production which is very helpful to make the production costs lower. For example, a medicine manufacturing firm wants to produce medicines that need to purchase a new machine. But the same medicine can be produced in another country where the production costs are much lower. Moreover, it can stop the manufacturing anytime if it no more needs the products.

OLI Model explaining why Pharmaceutical companies go for contract manufacturing

The ILO model is also called the Eclectic Paradigm which is considered to be an upgraded version of theory of Internationalization. OLI model depicts that a company makes the products internal to the organization if the transaction costs are more than the costs of production at home plant.

But according to OLI model, the decision of internationalization or internalization of manufacturing facilities does not depend on the costs. It depends on some factors which are related to the firm specific advantages which are absent in other.

These firm specific advantages are called OLI which stands for Ownership, Location advantages and finally internalization advantages. These factors can be linked to the reasons why pharmaceuticals companies are outsourcing to host companies.

If the ownership advantage is analysed first, it will be found that pharmaceuticals companies have ownership advantages such as patent, talents, capabilities, human resource etc. In this case they can make their own products.

Then the next topic is location advantages. The pharmaceuticals companies in the questions are from North America and Europe. Thus they do not experience economies of scale in production, but they have advantage in R&D. Therefore, in this factor the companies in the pharmaceuticals industry do not possess advantage in manufacturing products at home plant.

The third factor is Internalization advantage. Costs of the companies will go up if the companies conducts the manufacturing facilities at home and thus. The companies at this industry will get unfavourable condition in this criteria.

The discussion of the above paragraph depicts that although pharmaceuticals companies have ownership advantages, the companies don’t have location and internalization advantages and thus it won’t be profitable for the companies to engage themselves in in-house production.

The best way for the companies would be to make contract with the host countries’ suppliers and make contract so that they will supply with the required products.

Therefore, this model also shows the reasons why the pharmaceuticals companies are producing medicines through contract manufacturing.

Core Competencies Theory explaining why Pharmaceutical companies go for contract manufacturing

Every company has some forms of competitive advantages that other firms don’t have. For example, Boeing has competitive advantage in aviation industry. It can produce air bus more efficiently than other companies.

The theory of Core competencies suggest that a company with such competitive advantage should involve itself with manufacturing of that product in which it has advantages. In this case, Boing should produce Airbus.

This theory can be linked to the pharmaceuticals industry and it can also be explained why the pharmaceutical companies at the developed countries want to outsource the production facilities to low cost countries.

Pharmaceuticals companies are based in extensive research and development activities to develop new products. Because it takes years and millions of Dollars to bring a product to the market.

These companies have advantages in research and development. In contrast, the low cost countries have efficient production system. And the demand of the market is to have products with lower costs. There should be a combination to meet the demand of all the above 3 stakeholders.

Pharmaceuticals companies should involve themselves in R&D so that most of their resources are spent for the purpose in which they are most efficient. Thus the resources will be used for the best purpose, on the other hand the customers will get more developed products and services.

On the contrary, the low cost countries should be involved with manufacturing facilities in which they are most efficient. Therefore, the resources of these countries will be fully utilized and as a results, the costs of production will drop.

The above discussion on core competencies also illustrates that why the pharmaceuticals companies are involved with contract manufacturing.