This is an excerpt from Medically Necessary, a health care supply chain newsletter. Subscribe here.
The story: The high price of freight and raw materials continues to be a major problem for a number of companies in the health care supply chain.
In recent earnings calls, leaders from 3M, Becton, Dickinson and Co. (BD), Cardinal Health, Owens and Minor, and AmerisourceBergen all called out the increasing cost of freight, logistics and raw materials as a big hurdle for the remainder of 2021.
“What we have seen is a broad-based increase in all commodities. … And then logistics cost has continued to be a pretty strong headwind,” 3M CFO Monish Patolawala said on a conference call. “There’s not enough supply based on the V-shaped recovery. … Until that stabilizes itself, I think we’re going to continue to see inflation.”
Executives cited polypropylene prices, ocean shipping rates and container shortages as some of the biggest supply chain hurdles last quarter.
Background: Freight and raw materials costs have been a concern for the health care supply chain throughout the pandemic, but most companies were more focused on utilization trends, the amount of health care patients were seeking.
Overall health care spending dropped in 2020 — the first time that’s happened in decades — largely because many health care providers reduced or canceled elective procedures.
The decline in elective procedures meant that manufacturers and distributors simply had fewer products to produce and ship, reducing the impact of rising prices.
On the other hand, demand for personal protective equipment far exceeded supply for much of 2020 and into 2021. That meant higher prices, making it easier to justify unusually high costs for freight and raw materials. In addition, there was a moral imperative to deliver those products and save lives.
The transition: Now, several companies are reporting that health care utilization has basically returned to pre-pandemic levels.
Cardinal Health reported that elective procedures had effectively returned to pre-COVID levels during the second quarter of 2021. McKesson noted that primary care visits reached about 95% of pre-COVID levels in June. Cancer treatments are back to pre-COVID levels. Drug distributor AmerisourceBergen reported that prescription levels had returned to pre-COVID levels by June, earlier than expected.
While health care utilization has mostly returned to normal, the cost of freight and raw materials has certainly not.
In August, the Health Industry Distributors Association, a trade group representing medical distributors, warned that a shortage of shipping containers, clogged ports and high rates are hampering the industry’s ability to respond to the pandemic.
BD estimates its shipping rates are four times higher than normal. Cardinal Health says shipping prices are three to 10 times higher than pre-COVID rates.
Owens and Minor saw prices for polypropylene, used to make plastic, double in the first six months of 2021. The company expects prices to keep rising in the third quarter.
The Plastics Exchange, a website monitoring plastic prices, reported that polypropylene prices were about 31 cents per pound at the beginning of 2020. At the end of July they reached 75 cents a pound.
At the same time, the demand for PPE generally fell during the second quarter. Many hospitals have stocked up on PPE over the past several months. The falling number of COVID-19 cases in late spring and early summer also reduced demand.
The caveat: The delta variant complicates the picture for both of these trends. In areas with rising COVID-19 cases, some hospitals have reduced or canceled elective procedures and demand for PPE is rebounding.
BD CEO Thomas Polen estimated that 16 U.S. health systems, mostly in the South, had already stopped or substantially reduced elective procedures because of recent outbreaks. Owens and Minor CEO Edward Pesicka said demand for PPE has increased dramatically in areas with high COVID-19 cases, such as Florida.
The variant also adds uncertainty to prices of freight and raw materials. New outbreaks of the coronavirus recently shut down a port in China and reduced activity substantially at a port in Vietnam.
What’s next? Most companies expect the high price of freight and raw materials to extend through at least the end of 2021.
Cardinal Health CEO Mike Kaufmann suggested those obstacles could continue through the next few quarters. Owens and Minor CEO Andy Long said he expects supply chain issues to suside during the second half of the year. Other leaders were more reluctant to make specific predictions.
“I think it’s a really hard one to call,” Patolawala, 3M’s CFO, said. “Where will that peak? I may be wrong here, but at some point demand and supply need to start settling out.”
Initially, 3M anticipated that freight and raw materials cost would be a minor drag on profits, slicing up to 10 cents off earnings per share. Now, the company says that number may be 80 cents a share.
Several companies, including 3M, BD and Cardinal Health, now recognize those prices aren’t likely to abate anytime soon, and they plan to pass on those costs to customers. The challenge will be increasing prices quickly enough to keep up.
“We’re not looking to absorb all of those increases in raw material costs over time. We are beginning to pass on some of those,” Polen, BD’s CEO, said on a conference call. “We have raised our shipping rates for customers, and we are passing on price increases. … That will not happen, though, overnight.”