McKinsey Business Plan- Reproductive Health Financial Mechanism Analysis

Publication date: 2006

Reproductive Health Financial Mechanism Analysis REPRODUCTIVE HEALTH SUPPLIES COALITION: SYSTEMS STRENGTHENING WORKING GROUP Business Plan July 2006 ANALYTICAL SUPPORT PROVIDED BY MCKINSEY & COMPANY This report is solely for the use of client personnel. No part of it may be circulated, quoted, or reproduced for distribution outside the client organization without prior written approval from McKinsey & Company. Contents 1. EXECUTIVE SUMMARY 2. CONTEXT AND OBJECTIVES 3. LANDSCAPE AND CURRENT REPRODUCTIVE HEALTH COMMODITY TRENDS 4. SUMMARY OF THE PROBLEM 5. VISION, OBJECTIVES, AND TARGET MARKETS 5.1 Vision 5.2 Overall objectives 5.3 Target markets 6. SERVICE OFFERING 7. BUSINESS MODEL, SYSTEMS AND PARTNERSHIPS 8. GOVERNANCE, ORGANIZATION AND MANAGEMENT 9. FINANCIAL REQUIREMENTS AND IMPACT OF THE MECHANISM 10. IMPLEMENTATION ROADMAP APPENDIX A – FINANCIAL PROJECTIONS APPENDIX B – INTERVIEWEES, SOURCES REVIEWED AND KEY ANALYSES APPENDIX C – ASSUMPTIONS Reproductive Health Supplies Coalition April 13, 2006 APPENDIX D – MINIMUM VOLUME GUARANTEE, UNFPA ONLY APPENDIX E – NON-OECD SUPPLIER POOL APPENDIX F – PLEDGE MECHANISM: APPLICATION BY CLIENT GROUP APPENDIX G – MINIMUM VOLUME GUARANTEE: APPLICATION BY CLIENT GROUP Reproductive Health Supplies Coalition April 13, 2006 1. EXECUTIVE SUMMARY This business plan proposes the creation of a novel financial mechanism to improve the efficiency of the financing and procurement architecture for reproductive health (RH) commodities at the global and country levels. The financial mechanism is one element of a more comprehensive effort by the Reproductive Health Supplies Coalition to improve access to RH commodities (see Context). The proposed mechanism is designed to solve a) donor finance variability problems and b) issues with sub-scale procurement and lack of advance commitments in reproductive health supply. There are three key issues with donor funding: ¶ First, the timing of donor funds across years is often uncertain with delays common. ¶ Second, the magnitude of donor funds is uncertain, particularly over successive years, so actual funds received may be smaller or larger than anticipated. ¶ Third, donor funding for RH commodities often comes late within a fiscal year and must be spent rapidly. These problems create inefficiencies in the form of higher costs for emergency shipments, higher costs due to subscale orders and inability to commit long term to manufacturers, longer supply lead times sometimes resulting in stock-outs, and a cascading effect on the downstream supply chain: exacerbating issues related to forecasting, inventory management in-country, distribution, and planning. Procurement scale/ commitment problems in public sector purchases arise from the prevalence of fragmented, small orders with lack of advance commitment to manufacturers. This is partly a result of variability in donor funding (as mentioned above), but also due to lack of coordinated buying and an inability on the part of procurers to make advance commitments and take volume risks (regardless of funding source). The proposed mechanism would have two major service lines that address the problems. ¶ 1. Pledge guarantee. The mechanism would advance money to a party based on projected financing flow from donor pledges to smooth donor funding volatility Reproductive Health Supplies Coalition April 2006 3 ¶ 2. Minimum volume guarantee. The mechanism would also provide minimum volume guarantees to manufacturers to reduce total systems costs through volume discounts, advance purchase discounts, and avoiding costly rush shipments and stock outs. The mechanism could be governed by a small Board to oversee the finance-related decisions and the organization, if it is housed outside an existing institution. Regardless of the host model, there will be a small operational team consisting of five to seven individuals initially. Some of these individuals should be fully dedicated staff and others will be part-time, depending on the model. The capital cost of the Pledge Guarantee is estimated at $26 million up front. There is an assumed annual default rate of approximately $2 million, and operating costs of about $1 million. This generates annual cash savings of $2.2 to 5.4 million. More importantly, the Pledge Guarantee will avoid some stockouts at the national and regional level that result in lack of access. And smoothing financial inflows for countries and agencies can provide indirect benefits related to improved planning, distribution, and inventory management enabling scaling-up of programs. It is appropriate to compare the cash savings amount to the operating costs, as default costs will be offset by commodities reaching countries. On that basis, the return on investment for the Pledge Guarantee is 2 to 5 fold. The capital cost of the Minimum Volume Guarantee is $2.5 to 5 million up front. There is an assumed wastage rate of $0.5 to 1.5 million, representing 20 to 30% of the 5-10% of product that is purchased and not immediately used (approximately 1 month inventory). The administration costs equates to approximately $1 million. This generates annual cash savings of $2.6 to 8.2 million depending upon the number of users and product volume. The minimum volume guarantee can help avoid some stock outs through reducing supply lead times and could be structured to help improve downstream supply systems. It is appropriate to compare the cash savings amount to the waste and operating costs. On that basis, the return on investment for the Minimum Volume Guarantee is likely to be breakeven to 3 fold. There are moderate synergies to running both service lines in parallel, as not all staff would be duplicated. The financial mechanisms also could be structured in a way to integrate with existing software programs and databases in development. The full set of financing and procurement challenges would not be solved by these financing mechanisms. Additional efforts are still required to help strengthen country supply systems and mobilize sufficient resources to procure commodities. However, the mechanisms represent some first, initial steps to help rationalize the RH financing and procurement architecture and set the stage for maximizing the benefits from future investments. Reproductive Health Supplies Coalition April 2006 4 2. CONTEXT AND OBJECTIVES The vision of the Reproductive Health Supplies Coalition (RHSC) is to protect people’s health and improve livelihoods by ensuring sustained access to a choice of quality RH supplies. To contribute toward fulfilling this vision and its mission that every person is able to obtain and use RH supplies, the Coalition commits itself to achieving a sustained supply of affordable, quality reproductive health supplies in low- and middle-income countries by focusing on five goals: ƒ Improve access to and choice of RH supplies for low- and moderate- income consumers through public, private, and commercial sectors. ƒ Increase political commitment and financial resources and their more effective use to serve the RH needs of poor and vulnerable populations. ƒ Strengthen global, regional, and country systems for reliable and predictable supply of quality RH supplies. ƒ Improve coordination and use of global, regional, and country-level information, knowledge, best practices, and lessons learned. ƒ Formulate other strategic responses as needed to address the future demand for RH supplies. The implementation and technical arms of the RHSC are represented by working groups, which build on the mandates, interests, resources, and comparative strengths of members, and represent core partnership activities. One of these bodies is the Systems Strengthening Working Group (SSWG), whose objectives are the following: 1. Improve joint efforts for timely access to and use of standardized information to align financing and reproductive health product flows to meet country requirements. 2. Develop solutions to drive increased reliability, predictability, and efficiency of public financing for RH supply needs, especially for poor and vulnerable populations. 3. Identify and support supply chain improvements for effective and efficient delivery of quality assured RH supplies. In the November 2005 meeting of the RHSC, the SSWG reflected upon growing research on global health financing and procurement,1 particularly from a recent 1 Extensive research has been conducted on the aid architecture overall (e.g. “Mapping and Assessing the Effectiveness of Aid Architecture,” DFID Health Resource Centre, August 2005; Papers produced by OECD/DAC Working Party on Aid Effectiveness and Donor Practices) that provide broad findings. In addition, DFID and the Bill & Melinda Gates Foundation commissioned analyses to examine the RH commodity aid architecture specifically (“RH Commodity Security: Adequacy of the International Architecture for Finance and Supply,” DFID Health Resource Reproductive Health Supplies Coalition April 2006 5 DFID report and an analysis by Mercer Management Consulting commissioned by the Bill & Melinda Gates Foundation, which both noted that improvements can be made to the global financing and procurement architecture for reproductive health commodities. Specifically, these reports highlighted inefficiencies (costly emergency shipments, higher product prices) and country challenges (procurement decisions, impediment for long-term planning and scaling-up programs) caused by volatile, unpredictable, and unreliable funding from donors. In response, the SSWG identified a work plan to explore the possibility of financing solutions to address the apparent financial constraints and inefficiencies in the RH commodity environment. Several partners from the working group – including UNFPA, DFID, KfW, and the Bill & Melinda Gates Foundation (henceforth referred to as the “Advisory Group”)2 – issued their interest and commitment towards this research, and collectively developed the terms of reference. The research objective was stated as: to develop technical design options of financing strategies that will alleviate reproductive health commodity supply constraints in developing countries, examining two areas: (1) providing mechanism(s) to mobilize additional resources for reproductive health commodities; (2) improving efficiencies in the reproductive health commodity financing/procurement system – the latter of which is the subject of this paper. The first analytical work stream has also been initiated with financial support from KfW, and coordination and information exchange will be managed to explore opportunities for greater synergy. Members of the Advisory Group recognized from the beginning that a broad research agenda would be required in order to pinpoint all opportunities for systemic step changes in the financial architecture for RH commodities. This study represents a segment of the research agenda as first identified by members of the Systems Strengthening Working Group, focused on examining optimal use of dollars flowing from the global arena. The findings will ideally drive improvements in one part of the overall system that should be complemented with other activities, particularly at the country level. McKinsey & Company was contracted, with the financial support of the Bill & Melinda Gates Foundation, to conduct and manage the analytical exercise with the oversight and input of the Advisory Group. McKinsey performed this work based on a substantial fact base from prior studies by the RHSC and its members, consultation with an Advisory Group, and interviews with various private and Centre; “Contraceptive Availability Study: Methodology and Key Findings – Report to the Reproductive Health Supplies Coalition, Mercer Management Consulting, September 2005). 2 McKinsey would like to thank the following individuals Wolfgang Bichmann (KfW), Jagdish Upadhyay (UNFPA), Georgia Taylor (DFID), Kees Kostermans (World Bank), Jacqui Darroch (Gates), and Blair Sachs (Gates) Reproductive Health Supplies Coalition April 2006 6 public actors in the field3. The ultimate goal for the work was to develop 2-4 technical financial design options with the main focus of alleviating inefficiencies in the financing/procurement system for reproductive health commodities, not raising additional monies or directly addressing other supply chain issues such as poor planning and weak in country distribution. McKinsey’s structured the work in three phases. ¶ Phase I: Diagnose the existing supply system to identify specific financial/procurement activities where opportunity exists for improved efficiency ¶ Phase II: Review models from health and other fields to develop a prioritized solution set of financing strategies for mobilizing additional resources for reproductive health commodities ¶ Phase III: Develop 2-4 technical design options for financing solutions for alleviating inefficiencies in financing/procurement system The main end products of the study were to: 1) Analyze the magnitude of finance-related inefficiencies by country and product type (including a detailed analysis of funding variability) and cross- check findings with targeted interviews, 2) Assess potential benefits of addressing inefficiencies with a financing mechanism solution, 3) Propose alternative models for financial mechanisms, 4) For prioritized model(s), create technical designs for the mechanism(s), including services offered, management, and financing required, 5) Discuss prioritized model(s) with the Advisory Group and members of the reproductive health community to refine the model, and 6) Draft a high level implementation plan. 3. LANDSCAPE AND CURRENT RH COMMODITY TRENDS An estimated 466 million women in developing countries outside China are sexually active and fertile and do not want a child soon or at all – thus placing them at risk for an unintended pregnancy. 3 McKinsey would like to thank the 40+ people we interviewed to supplement the fact base and address new issues that emerged during design of the facility. Appendix B includes the list of interviewees. Reproductive Health Supplies Coalition April 2006 7 Unintended pregnancies have a significant negative impact on women. First, they are a significant cause of mortality for women – approximately 20% of maternal deaths can be traced to an unintended pregnancy (36,000 women per year). Recent studies have demonstrated that maternal mortality is highest in countries where women are least likely to have access to modern contraceptive methods.4 Second, unintended pregnancies lead to short- and long-term health problems – for every maternal death an estimated 30 additional women suffer pregnancy related health problems. Third, there is an immense social and economic cost due to women being unable to regulate their own fertility in terms of lost productivity and long- term negative health effects. Poorly spaced births create financial pressure on households that are already stretched in terms of resources – the addition of a new child often means less food and resources for all children. Securing sustained and increased use of modern contraceptives is key to preventing many of these unintended pregnancies given that: • 35% of women at risk for unintended pregnancy5 (161 million) require ongoing supply to continue their method (IUDs, contraceptive implants, injectable and oral contraceptives, and condoms), • 26% (121 million) rely on contraceptive sterilization, which requires one- time RH supplies, • 13% (61 million) use traditional methods that usually have low effectiveness and increases a risk for unintended pregnancy, and • 26% (123 million) use no method and thus are at very high risk for an unintended pregnancy As the figure below indicates, overall prevalence of contraception remains quite variable between regions. The overall prevalence of contraception among women at risk for unintended pregnancy is 63% in Asia and 27% in Africa versus 76% in North America and 67% in Europe.6 With limited access to contraception in Sub- Saharan and Asian regions, there are an estimated 80 million unintended pregnancies (or 4 out of every 10 pregnancies) per year in developing countries.7 4 “Promises to Keep,” UNFPA, 1997. 5 Sexually active, do not want a child in next 2 years or at all and physically able to become pregnant if used no contraception 6The prevalence of contraception in Asia increased significantly by inclusion of China, Japan, and Korea. 7 Vlassoff et al., Assessing Costs and Benefits of Sexual and Reproductive Health Interventions, Guttmacher Institute, 2004. Reproductive Health Supplies Coalition April 2006 8 0% 20% 40% 60% 80% 100% Sub-Saharan Africa Asia, minus China Latin America & Caribbean % d is tri bu tio n of w om en at ri sk o f u ni nt en de d pr eg na nc y No method Other, non-supply SUPPLY: Condom SUPPLY: Pill SUPPLY: Injection/Implant SUPPLY: IUD Sterilization: Female Sterilization: Male Figure 16. Continued and increased pregnancy prevention requires adequate and reliable contraceptive availability. 35% *Excludes China Source: J.E. Darroch, tabulations for Singh et al., Adding It Up, Guttmacher Institute, 2004. 24% 33% 47% 33% 18% 16%16% 13%13% 11%11% 100% = 62,497,000 305,221,000 80,330,000 Effective delivery and uptake for contraceptives is particularly dire in Sub-Saharan Africa. Among married women of child-bearing age in Sub-Saharan Africa, almost twenty six percent have an unmeet need for contraception and only eighteen percent are using contraception, according to Population Action International (Exhibit 3.2). SATISFYING THE NEED FOR CONTRACEPTIVES IS ESPECIALLY CRITICAL IN SUB-SAHARAN AFRICA * Unmet need refers to married women of reproductive age who do not want another birth within the next two years, or ever, but are not using a method of contraception Source: Population Action International; Africa’s Population Challenge, 1998 Exhibit 3.2 17 West Africa and North Africa Latin America All developing areas (excluding China) 19 16 19 Sub-Saharan Africa Asia (excluding China) 26 Women with unmet need for contraception* 67 18 43 42 45 Women using contraception Reproductive Health Supplies Coalition April 2006 9 More work is clearly needed to increase contraceptive use, including moving the 123 million women at risk using no method and the 61 million using a traditional method to use of modern methods. While contraceptive supply problems are not the sole reasons behind unmet need, adequate and reliable commodities are a necessary component without which other interventions cannot be effective, especially in areas, such as Sub-Saharan Africa, that rely heavily on non- sterilization methods. In Africa, 80% of married women between 15 and 49 using contraception rely on pills, IUDs, injectables, and condoms, compared to 50% in Latin America and Asia. (Exhibit 3.4). Financial resources for reproductive health commodities, however, lag far behind what is needed. UNFPA estimates that the funding shortfall required to provide sufficient reproductive health commodities of all varieties (i.e., beyond the scope of this effort) to those who need them is in excess of US$150 million per year. In addition, worldwide demand for contraceptive supplies is projected to increase due to a surge in the numbers of women and men of reproductive age and to success of family planning programs in activating demand. The United Nations estimates that to attain predicted fertility trends, the number of contraceptive users in developing countries other than China will increase by 19% (92 million users) between 2005 and 2015, of which a projected 53 million will use reversible method needing ongoing supply and 39 million will be additional sterilization users.8 Ensuring contraceptive availability will require both increasing available funds, as well as improving the efficiency of the current financing and procurement system (i.e. making available money go further). Opportunities for efficiency include interventions such as strengthening country planning and procurement activities (including LMIS systems), moving consumers with a willingness and ability to pay to the private sector to release public sector funds for those with greater need, increasing the predictability and reliability of donor funding, and utilizing procurement approaches to achieve optimal product prices. 8 United Nations Population Fund. Contraceptives, Drugs, and other Medical Supplies needed for ICPD Reproductive Health Goals. United Nations Population Fund, 2005 (in draft). Reproductive Health Supplies Coalition April 2006 10 THERE ARE SIGNIFICANT DIFFERENCES IN PRODUCT PENETRATION BY REGION Exhibit 3.4 Prevalence of method by region Percent of prevalence amongst married woman 15-49 1 44 312420 5 4 6 World 7 5 4 7 21 63 Latin America 13 Asia 59 2 18 37 4 Africa 24 0 3 3 Pill Injectables & implants IUDs Condoms 5 Male sterilization Other 3 15 2 57 Female sterilization Source: UN, 2003; team analysis Focus RH products A further resource efficiency opportunity exists in the role of “southern” or generic providers that have the potential to provide significant cost savings of up to 50% below OECD manufacturers. The proposed Reproductive Health Financing Mechanism could make it more attractive for these manufacturers to enter the market through the minimum volume guarantees. Other potential interventions related to this activity, however, are currently the focus of the RHSC Market Development Approaches Working Group and not discussed further here. The primary focus of this paper, however, is on the volatility of donor funding for RH commodities. While figures vary, estimates used by the UN and the Gates Foundation size the total market for RH commodities across all developing countries at approximately $900 million per year. Donor funding represents only a small portion of the total RH commodities market – less than 200 million per year. From 1990 to 1993, the average growth rate for donor funds was 14%, compared to 20% in the past three years. Despite this overall growth trend, however, donor funding for RH commodities fluctuates significantly, both in aggregate and by individual donor (Exhibit 3.5). Reproductive Health Supplies Coalition April 2006 11 HISTORICALLY, DONOR FUNDING HAS FLUCTUATED SIGNIFICANTLY DESPITE THE OVERALL GROWTH TREND Exhibit 3.5 TOTAL DONOR PROCUREMENT SPEND, BY DONOR $ ‘000 Source: UNFPA, interviews, project analysis - 50,000 100,000 150,000 200,000 250,000 Others IPPF DFID BMZ/KFW World Bank PSI UNFPA USAID 7% CAGR • High funding variability both at aggregate and individual donor levels • Relative share of USAID decreasing over time with broadening of donor base • Increasing role of UNFPA A DFID Health Resource Centre paper offers additional insight on these fluctuations: “Current commodity procurement arrangements are too short-term or even last-minute, leaving too little time to organize procurement properly, let alone fit into a wider long-term RH strategy. A major reason for this seems to be the generally short term nature of donor budgeting cycles, combined with the difficulties in coordinating between different budgeting cycles and other financing procedures between various donors, agencies and countries involved.” Of course, unpredictable, short-term funding commitments contribute to additional resource inefficiencies in areas such as: - Costly Shipments: Inability to make and commit to longer-term shipment plans can contribute toward stock-outs that require costly emergency shipments. - Supply Lead Times: Likewise, lack of more predictable, longer-term purchase commitments require that manufacturers ramp up production to meet unanticipated/uncertain volume requests. - Supply Chain Management Inefficiencies: Unpredictable supplies constrain efficient country supply management; for example, an inability to report projected shipments constrains country monitoring and coordination of in- bound supplies. - Price: Inability to engage in longer-term commitments with manufacturers compromises ability to achieve optimal commodity prices. Reproductive Health Supplies Coalition April 2006 12 The impact of unpredictable donor funding varies across countries correlating with country reliance on donor funding. This study relied upon a segmentation of developing countries organized by Mercer Management Consulting (2005), in which countries were segmented into three groups based upon need (e.g., contraceptive prevalence rates, unmet needs), donor reliance, and overall system performance (e.g., JSI/Futures Contraceptive Security Index). Donor funding is the primary source of funding for Group 1 (primarily Sub-Saharan African countries, e.g. Rwanda, Ethiopia, Nigeria) and Group 2 countries (e.g., Bangladesh, Ghana and Kenya), where the need for these products is largest. (Exhibit 3.6). Group 1 and Group 2 receive 86% and 61% of their total RH procurement spend from public sources respectively. 550* Total size of developing country market – excluding China and Sterilization DONOR FUNDING/PROCUREMENT IS THE PRIMARY SOURCE OF CONTRACEPTIVE SUPPLIES COUNTRIES WITH CRITICAL NEED Breakdown of procurement for RH contraceptive commodities (2005); $ Millions * Based on latest Gates estimate; DFID analysis indicates that total world market size is ~$15B and developing countries market is ~$4B, of which $300M were from Government and $225M from Donors; However, DFID analysis is not conclusive and is considered to be significantly overestimated; Alternative sources/estimates suggest $~8B total world market size with significantly smaller developing countries market size (more in the range of $1~1.5B) ** Scaled down to reflect social marketing commodities that are actually procured by donors and/or governments Note: Numbers may not align completely with previous time-series numbers due to using different source to get country level information, using procurement based numbers, and excluding sterilization and China. However, they provide directionally consistent picture. Source: Gates / Mercer RH Strategy reports; Mercer model; DFID; Interview with DIFID Health Resource Center; Comments to DFID analysis by Peter Hall, Health Consultant for WHO/CIPIH ~900* Total size of developing country market Total public sector here is 256+101+36 = $393M (not $402M as used in analysis). Additional $9M is estimated social marketing spend that is procured publicly, not privately as indicated here Private sector** Country govt. Donor funding and leading third-party procurers 32 408 Group 3 13 31 70 114 Group 2 4 32 36 Group 1 152 224 256 101 Exhibit 10.1Exhibit 3.6 The key insight regarding financing is that Group I countries- those with the lowest contraceptive prevalence rates – rely on donors for 90% of their funds, and are therefore most vulnerable to funding variability. Furthermore, the supply chain for contraceptives in developing countries is extremely complex, and often exacerbates the problem of funding variability. Many individual countries order both directly from manufacturers and though the UNFPA or other third-party agencies. Main players in this space are country governments, foreign donors (often development agencies, e.g. KfW, USAID, DFID), procurement agents (e.g. Crown Agents), multilateral agencies (e.g. UNFPA), Reproductive Health Supplies Coalition April 2006 13 development banks (e.g. World Bank), among others. Funding today moves from donors and multilateral agencies through procurement agents to the country governments [Exhibit 3.8]. This fractured procurement environment undermines global and national agencies’ abilities to establish an optimal financing and procurement system – a system that would be characterized by long-term commitments to achieve optimal prices, access to flexible resources to respond to emergency needs, and a system that operates with a long-term vision. This analytical exercise aims to examine and design financing options that could be introduced into this fractured and inefficient financing and procurement system to overcome some of these resource inefficiencies. PUBLIC SECTOR CURRENTLY WORK WITH A COMPLEX SUPPLY CHAIN TO ENSURE RH COMMODITY SECURITY Exhibit 3.8 Source: McKinsey analysis Manufacturers Sources of Funding Procurement Agents Ministry of Health/CMS In country distribution District Service Provision Product users (demand) Players Potential Issues Numerous • Ensuring supply, price, quality, innovative products, low cost suppliers USAID, Crown Agents, UNFPA, UNICEF, Recipient Governments, • Ability to bulk purchase • Lack of coordination • Forecasting Central Medical Stores Ministry of Health Ministry of Finance • Forecasting • Supply chain management • Stock Outs • Shocks/Crises District government Other players (MAP,IDA, contractors, wholesalers/ distributors) • Product security • Product expiry Private and public service provision • Financing • Marketing Bilaterals (e.g.,DFID, KfW, USAID) Governments Multilaterals (e.g., World Bank, UNFPA) • Lack of coordination • Declining funding levels Product Funds Private sector and NGOs add additional product channels to countries Private sector and NGOs add additional product channels to countries 4A. SUMMARY OF THE PROBLEM The review of the current state of reproductive health commodity finance and procurement architecture identified three finance-related problems. First, the timing of donor funds across years is often uncertain with delays common. Second, the magnitude of donor funds is uncertain, particularly over successive years, so actual funds received may be smaller or larger than anticipated. Funding variability is felt most deeply at the individual country level, where funding can shift as much as Reproductive Health Supplies Coalition April 2006 14 40% in a given year (Exhibit 3.7). Volatility between years contributes to country’s inability to engage in long-term planning regarding scaling-up programs and in- country distribution. Third, donor funding for RH commodities often comes late within in a fiscal year and must be spent rapidly. This compromises planning and inhibits procurement strategies to achieve optimal prices. (Exhibit 3.9). DONOR FUNDING VARIABILITY IN COUNTRY GROUPS 1 AND 2 Exhibit 3.7 Group I Donor Support Volatility 0 5000000 10000000 15000000 20000000 25000000 1999 2000 2001 2002 2003 Rwanda Ethiopia Nigeria Zimbabwe Cote d'Ivoire Angola Group II Donor Support Volatility 0 10000000 20000000 30000000 40000000 50000000 60000000 1999 2000 2001 2002 2003 Bangladesh Kenya Georgia Uganda Reproductive Health Supplies Coalition April 2006 15 7 W orking D raft -Last M odified 4/28/2006 3:09:03 P M P rinted TIMING OF DONOR FUNDING FOR SELECT DONORS AND COUNTRIES 0 1000000 2000000 3000000 4000000 5000000 6000000 7000000 8000000 1 2 3 4 1 2 3 4 3 4 1 2 3 4 1 2 3 4 1 2 3 4 2004 2005 2004 2005 2004 2005 IPPF UNFPA USAID Total Within Year Major Donor Funding Variability For Group I Select Countries *This is shipping data and may differ from approval date by funder *Looks at maximal need for donors within year to smooth funding, comparable data only available for two years Source: Team Analysis, Donor Funding Data (UNFPA, USAID, IPPF) UNFPA funding mainly 3rd and 4th quarter implies possible delays in Q1,Q2. 2005 peak Q1 reflect 2004 funding and likely delay from year before USAID shipments in all quarters. 2004 and 2005 shows flattening (improvement) indicating upside potential in efficiencies for donors Exhibit 3.9 Again, the higher donor-reliant countries, who already face many other challenges, are predominantly affected by the donor financing fluctuations. The dynamics may lead to (Exhibit 4A.1): y Emergency shipments ($5+ million per year) y Higher costs due to subscale orders and inability to commit long term to manufacturers y Longer supply lead times sometimes resulting in stock-outs (overall country level stock-outs about 10 to 15 per year with 1 to 2 attributed to donor variability). Often procurement processes only start when cash is in hand despite awareness of a likely donation and the need for the products y Cascading effects on the downstream supply chain: exacerbating issues of inefficient distribution, planning, and poor inventory management in-country – which can lead to local stockouts. Reproductive Health Supplies Coalition April 2006 16 PUBLIC SECTOR CURRENTLY WORK WITH A COMPLEX SUPPLY CHAIN TO ENSURE RH COMMODITY SECURITY Exhibit 4A.1 Funding variability types Issues How it affects supply chain • Timing of funding flow is driven by donor internal process cycle, not country needs – Donors can not commit until cash in hand – Money typically comes in lump sum in last quarter of the year and needs to be spent by the end of the year (UNFPA) • Funding commitments are short term (~1 year) and unpredictable • Donors at times pull out of commitments • Countries rush to spend money without proper procurement planning – Leads to high prices, over stocking, high storage cost, and waste/leakage • Manufacturers face demand spike – Delay in product shipments due to capacity constraint and long production lead time • Countries overstock when they can to minimize stock-outs – Leads to waste and high storage cost • Prevents long-term planning and capacity building • Leads to stock-outs if countries can not find alternative funding source in time • Small monthly budget allocation from government • Makes “bulk” procurement difficult – High product price and shipping costs • Actual delivery of pledged funding comes later than expected • Causes procurement/product delays; potentially results in stock-outs if no sufficient inventory buffer in place – Leads to high prices and shipping costs for emergency shipping Funding delays Mismatch w/ procurement requirement Unpredictability in amount Source: Interviews Unpredictable funding also contributes to another resource inefficiency observed in the system, whereby a significant portion of donor and government spend on commodities does not achieve best price. Variations in product procurement prices across agencies exist for a number of reasons: vendor source, volume discounts, etc. Nonetheless, interviews with manufacturers indicated that better prices could also be achieved if procurers could make advanced, long-term commitments to enable production planning – a practice that USAID utilizes. These price advantages are inaccessible, however, to agencies such as UNFPA who operate with shorter-term cash flow and cannot assume the risk of long-term contracts. As discussed elsewhere, interviews suggested that manufacturers are willing to reduce prices in return for more predictable and longer term commitments from procurers. Reproductive Health Supplies Coalition April 2006 17 W orking D raft -Last M odified 4/21/2006 12:09:31 A M P rinted 4A.2 THERE ARE SIGNIFICANT VARIANCES IN PROCUREMENT PRICES ACROSS DONORS/AGENCIES Potential drivers of price differences • Vendor sourcing (e.g., use of “southern” or generic providers) • Extent of volume discount • Order scheduling efficiency (e.g., emergency orders) • Quality vs. price trade off • Extent of customized packaging / labeling * 2004 numbers are 7.1 for USAID and 3.5 for UNFPA Note: USAID prices are substantially higher than average. This is likely to be due to their use of tied aid (Buy American), though this has not been confirmed. PSI figures may be due to part use of tied aid Source: UNFPA; project analysis 3.93 4.32 9.08 3.45 All other UNFPA* DFID 3.61 PSI 4.30 BMZ/KfW USAID* Major condom procurers 2002 – average procurement prices Dollar per gross (144), constant 2002 prices Moreover, best prices are not achieved with manufacturers both because procurers make sub-scale orders and are unable to make long term commitments. A minimum volume guarantee or pledge guarantee can enable countries to aggregate their own purchasing (that might be split by the timing of receipt of funds) or getting a “best price” from a longer term commitment. These approaches would still be promoting country ownership and building upon existing finance and procurement structures. Reproductive Health Supplies Coalition April 2006 18 W orking D raft -Last M odified 4/21/2006 12:09:31 A M P rinted 4A.3 THERE ARE SIGNIFICANT PRICE DIFFERENCES FROM A MANUFACTURER BASED ON ORDER VOLUME Source: UNFPA EXAMPLE Select manufacturers volume-based pricing for UNFPA (2005 data) Dollars Product Volume Pricing Male condoms (per gross) Pills (per cycle) Relatively high cost saving potential from bulk buying Relatively high cost saving potential from bulk buying -5% >694,444 104,168-347,222 2.900 2.990 347,223-694,444 <104,167 2.950 3.050 -24% 500,000-2,000,000 0.235 250,000-499,999 0.255 0.31010,000-24,999 0.30025,000-49,999 100,000-249,999 0.275 50,000-99,999 0.290 This analysis estimated that >50% of global public sector purchasing does not get best price either because: y An individual order is too small (estimated to characterize 20% of UNFPA and country direct procurement with 6-11% savings possible if aggregated- based on interviews with select manufacturers on potential volume discounts that could be made available). y The purchaser did not make an advance commitment (estimated to characterize 40% for UNFPA purchases and country-direct procurement, with up to 5% savings possible, based on interviews with select manufacturers on efficiency discounts that could be provided). Reproductive Health Supplies Coalition April 2006 19 W orking D raft -Last M odified 4/21/2006 12:09:31 A M P rinted 4A.4 ANALYSIS OF UNFPA PROCUREMENT ORDER DATA SUGGEST 6 to 11% POTENTIAL SAVING ON SUBSCALE ORDERS BY COMBINING WITH LARGER ORDERS * See Exhibit 7 for details ** Based on pricing table of representative major vendor; average used half of maximum discount level Source: UNFPA procurement order database (2005); manufacturers interview Highest savings potential products from minimum volume guarantee • For minimum volume guarantee – Assumed 6-11% savings on subscale orders – Additional 0~5% price discount potential from upfront minimum volume guarantee based on manufacturer interviews • For donor pledge stability mechanism, assumed ~50% of the 6~11% saving is possible through increased visibility into yearly ordering and ability to better plan and negotiate procurements • For minimum volume guarantee – Assumed 6-11% savings on subscale orders – Additional 0~5% price discount potential from upfront minimum volume guarantee based on manufacturer interviews • For donor pledge stability mechanism, assumed ~50% of the 6~11% saving is possible through increased visibility into yearly ordering and ability to better plan and negotiate procurements ~6-11% savings on subscale orders could be realized by combining with large existing order volumes Amount of subscale order* $ Millions Potential discount (current average maximum discount level)** Percent Potential savings if combined with maximum discount volume orders $ Millions Total 10.2 M ~0.6-1.1M ~2.5-5.0 ~3.5-7.0 ~7.5-15.0 ~5.0-10.0 (Progestagen) ~5.0-10.0 (Phasic) ~12.0-24.0 (low dose) ~2.5-5.0 x 0.2Implants 0.3IUDs 0.9Injectables 4.2Pills 4.5Condoms ~0.006-0.012 ~0.01-0.02 ~0.07-0.14 ~0.38-0.75 ~0.13-0.23 = 17% of total UNFPA procurement order base ~6-11% of ~$10 million subscale order amount) Countries and UNFPA procurers are particularly missing opportunities for getting better health for their dollar given fragmented, subscale spend on pills and condoms. Pills and condoms show higher cost opportunities because over 75% of spend for these commodities is open for volume discounts. In contrast, only 16% of injectables is available for volume discounts, due to the presence of fixed price contracts from several manufacturers for this commodity. The volume of IUDs and implants may be too low to warrant substantial savings from aggregating spend, but could be examined through further research. In summary, the RH contraceptive financing and procurement architecture does present opportunities for greater resource efficiencies. Country spend, either due to the budget allocation process, delays in receipt of donor funding, or typically small orders, is often made piecemeal throughout the year, and is unable to achieve optimal spend. UNFPA, while it has a more robust pipeline of funding, is unable to guarantee any product purchases, since it is unable to take on risk under UN bylaws and regulations. Various efforts are underway to encourage donors to make longer- term commitments that might alleviate many of these problems. But until this state of play is achieved, strategic financing initiatives could be introduced to help ensure dollars are utilized for maximum resource efficiency and health impact. Reproductive Health Supplies Coalition April 2006 20 4B. APPROACH To develop the financing options, the team conducted a literature review, interviews of 40+ reproductive health experts, and reviewed findings and proposals with a five member Advisory Group. This group convened six times during the course of the 8 week project, receiving continuous input on approach and design specifics. The workplan below further outlines the process that lead to the recommendations described in this document: W orking D raft -Last M odified 4/21/2006 12:36:27 A M P rinted 5 W orking D raft - Last M odified 2/6/2006 4:31:38 P M P rinted 2/2/2006 5:48:00 P M 4B.1 OVERALL WORKPLAN FOR “IMPROVING RESOURCE EFFICIENCY” 2006 Solutions options identification Timing January 17 - February 10 March 6 – March 17 Phase I Phase II Phase III February 13 – March 3 Activity • Develop a prioritized set of financing strategies for alleviating financing/procurement inefficiencies identified in Phase I • Detail 2-4 technical designs for financing solutions to improve resource efficiency • Develop implementation plan across solutions in conjunction with stakeholders • Diagnose existing supply system to identify specific opportunities for improved financial/procurement efficiency • Prioritize issues based on country and product type Solution development Key deliverables • Prioritized set of financing options and scenario analysis of potential impact across stakeholders • Technical design, business case, and implementation plan for optimal solutions • Prioritized review of supply chain inefficiencies • Early understanding of financing solutions Needs and system diagnostic The following activities were conducted to enable the Advisory Group to make informed decisions regarding potential financial mechanisms: 1. Extensive external literature review related to reproductive health and financing design 2. Targeted interviews with several different types of stakeholders, including government policy makers and agencies, manufacturers (e.g., Condomi, Hindustan, Merck, Mayer Labs), donors, including bilateral agencies and NGOs, procurement agents at NGOs, UNFPA, USAID, social marketing agencies, and country offices. (See Appendix B for full list) 3. Analysis of funding variability within years and across years for selected countries and analysis of CAR meeting notes mapped to shipping data 4. Solution option development with advisory group and other experts 5. Idea evaluation, shortlisting of options, and detailed solution development Reproductive Health Supplies Coalition April 2006 21 Out of the variety of initial options proposed, the Advisory Group narrowed down the solution set to the two options outlined here by assessing the the options based on impact, feasibility, and alignment with existing system. In addition, the group considered the costs, financial benefits, and capital required for each service, as well as indirect downstream benefits to the overall RH system, as well as critical implementation hurdles. W orking D raft -Last M odified 4/21/2006 12:39:23 A M P rinted NJE-070105.029-20060318-subiHR2 56 W orking D raft - Last M odified 4/8/2006 11:45:42 A M P rinted 4/3/2006 11:21:51 AM 4B.2 CRITERIA TO ASSESS SERVICES Impact • Solves priority issues (i.e., funding variability, delays, stockouts) • Has positive indirect impact • Aligns with current field trends/direction Feasibility • Ease of use • Operational Risk • Fits within system constraints Criteria Example • Addresses priority issues of funding variability, delays, stockouts • Facilitates country planning • Creates incentives for improving country systems • Supports high risk countries • Develops supply base for RH commodities • Harmonizes with other initiatives in the RH space • Easy for donors, countries, manufacturers to use • Will be able to maintain capital base, whether through fees or top-ups; and manage default risks • Does not require any major legal or procedural changes to the current way of doing business 5. GOAL, OBJECTIVES AND TARGET MARKETS 5.1 Goal The overall goal for the financing mechanism is to improve the efficiency of the global financing and procurement architecture for reproductive health commodities. 5.2 Objectives In light of that goal and the problem analysis, the Advisory Group decided to focus on solving three key inefficiencies: Reproductive Health Supplies Coalition April 2006 22 – Accelerating access to funding and products from donors – Minimizing lead times and – Reducing the total cost of providing products Targeting these key elements would significantly help improve the current RH commodity distribution landscape. Beyond financial savings, the mechanism would also indirectly help resolve downstream supply issues. Increased reliability in funding flows allows for longer term planning and more efficient management of distribution. The Advisory Group reviewed and identified certain strategic approaches to achieve the objectives (Exhibit 5.2.1): ¶ Accelerate access to funding and products from donors -- from as long as six months to less than 6 weeks through providing access to funds with proof of pledge (this is necessarily a rough estimate but timing is estimated from the time a donor would be willing to make a “pledge guarantee” until product arrives at a country) ¶ Minimize product lead times -- from 4 to 5 months to less than 2 to 3 months through: y Provide minimum volume guarantees to manufacturers to enable manufacturer planning and scheduling ¶ Reducing the total cost of providing products -- by 5%-20% through: y Making advance commitments and negotiating volume contracts y Potentially expanding the supplier base to include emerging suppliers In addition to the gains from the three objectives above, solutions were identified by the Advisory Group based upon the impact the approaches might have indirectly on issues such as improving country ownership of RH commodity issues, in-country forecasting & investment, and downstream supply issues. Reproductive Health Supplies Coalition April 2006 23 6 W orking D raft -Last M odified 4/28/2006 3:09:03 P M P rinted 5.2.1 VALUE PROPOSITION AND POSSIBLE SPECIFIC OBJECTIVES * Total purchasing costs would include price to manufacturer, shipping costs, storage costs, waste, discounts …Reducing the total cost of providing products …Minimizing lead times… Accelerating access to funding / products from donors… • 5-20% total purchasing cost reduction in the first three years (primarily OCls)* • ~ 35% total purchasing cost reduction in 3~5 years (primarily hormonal pills, and injectables)* • Reduce supply lead times to an less than 2~3 months • Reduce central warehouse stock outs by 10% • Accelerate donor pledge to actual funding time to less than six weeks for 80% of UNFPA and 30% of all other donor funding Possible objectives How to achieve • Negotiate contracts for aggregated volumes and reduce freight, waste, and storage cost through improved in manufacturer’s production planning, delivery, and storage • Expand supplier base with financing and TA support to southern manufacturers • Provide minimum volume guarantees to manufacturers to allow for planned production and timely delivery • Provide front-loaded reproductive commodities to countries with proof of donor pledge 5.3 Target markets After reviewing the nature and size of problem, the Advisory Group recommended examining mechanisms that focus on: ¶ All major consumer product lines – condoms, OCs, injectables, IUDs, and pills (although the majority of suboptimal spend in the system is for pills and condoms) ¶ Primarily on Group I and II countries (donor dependent) countries, although it will not exclude others ¶ Additional target markets include UNFPA, donor-dependent countries not reliant primarily on USAID, and NGOs9 9 USAID initially indicated unwillingness to participate in mechanism based on current efficiencies, procurement policies, and an existing USAID warehouse and buffer fund Reproductive Health Supplies Coalition April 2006 24 6. SERVICE OFFERING Analysis and Advisory Board input ultimately identified two mechanisms that fit the criteria and could contribute toward achieving the stated goals: a pledge guarantee and a minimum volume guarantee. To ensure that the mechanism has the greatest impact possible, we propose that the RH community consider developing both services, although not all customers of the mechanism may use both services. 6.1 Pledge guarantee service OVERVIEW Past studies and interviews with country managers and representatives have indicated that uncertainty on the timing of donor funding is a significantly cited issue with significant down stream effects on supply security. The pledge guarantee service will provide countries with cash to buy RH products based on a pledges from a donor. The service guarantees donor pledges by providing countries access to promised funds when necessary with proof of donor pledge and agreement to participate in the mechanism (a commitment to repay). This will smooth timing variability. This mechanism directly addresses donor funding variability and benefits the countries most at-risk for RH commodities shortages by allowing countries and organizations to access funds to procure commodities while waiting for donor funding and thereby: 1) lowering costs by decreasing emergency shipments, 2) avoiding stock-outs, and 3) reducing cost of product through advance notice/negotiations. Reproductive Health Supplies Coalition April 2006 25 3 W orking D raft -Last M odified 4/28/2006 4:27:23 P M P rinted Text Country A obtains “pledge” from donors for budget support, SWAp, or commodities, e.g., bilateral donor approves $10M for health sector, appraisal pending* Mechanism verifies pledge with donor Manufacturer ships products to country directly Country A requests mechanism to cover product costs for immediate need in coordination with MoF and MoH 1 2 3 4 56 Donor (as per MOU) repays mechanism 7 Country orders from manufacturer via normal procurement process, mechanism pays relevant party 6.1.1 SERVICE A – PLEDGE GUARANTEE MECHANISM OVERVIEW Mechanism establishes MOU with donor OPERATIONS In order to achieve these objectives, the pledge guarantee service provides credit against a donor pledge, for donor-dependent countries, the UNFPA, and NGOs. The reason for this operating model is that donor dependent countries and UNFPA are unlikely to use a debt incurring credit line for commodities. (see exhibit 6.1.1 for example of operations). Examples of how this mechanism would apply in certain contexts (countries, UNFPA, etc.) are included in Appendix F. RATIONALE Interviews with donors suggest that this service would work for several reasons. First, although the timing of donor pledges is variable, there is a high rate of follow through on these commitments. Second, in many situations RH commodities represent a small part of total bilateral and health aid to a country. As a result, donors may approve “pre-financing” for these products as they pursue the more complex and time consuming planning and reviews for a larger aid package. Third, longer-term pledges and signs of improved coordination are increasing among this sector. ADDRESSABLE MARKET Reproductive Health Supplies Coalition April 2006 26 W orking D raft -Last M odified 4/21/2006 12:39:23 A M P rinted 6.1.2 PLEDGE GUARANTEE – TOTAL SIZE OF OPPORTUNITY: $69 MILLION Expressed low interest Public RH commodity spend $ Millions * Total country government and direct bilateral and NGO spend estimates derived from multiple sources (see Appendix Exhibit 23 for detailed estimate); Country government includes portion provided by donors through budget support ** See Appendix Exhibit 18 for details Source: PSI; USAID; UNFPA; Interviews; Team analysis Addressable by pledge guarantee mechanism 69 4026 39 48 PSI 71 USAID Total spend 65 UNFPA 152.7 18 Direct bilateral and NGO* 160 200 Country government* 333 402 40%Maximum percentage addressable Source Interviews indicate 40% of UNFPA funding would benefit from pledge guarantee** 15% Maximum 10- 15% of funds would benefit based on inter- views** 20% Interviews indicate average 10-20% of country spend would benefit from pledge guarantee** 17% This section estimates the percentage of the $402 million total public RH commodity spend addressable by the pledge guarantee The total addressable market is $69 million across a range of public RH commodity spend as shown above, based on the portion total spend that could be addressed by the mechanism (USAID and PSI were not interested) and would positively impact delays due to variability (UNFPA spend is especially volatile) (Exhibit 6.1.2). Based on interviews, a conservative, base case assumption for the uptake of the mechanism was approximated at 50% of the addressable market, or $35 million (Exhibit 6.1.3). This represents approximately 10% of public RH commodity spend, based on interviews and analysis of the spend that is currently highly variable, impacted by donor funding delays, and could be impacted by a mechanism. Reproductive Health Supplies Coalition April 2006 27 NJE-070105.029-20060318-subiHR2 82 W orking D raft -Last M odified 4/8/2006 11:45:42 A M P rinted 4/3/2006 11:21:51 AM 6.1.3 PLEDGE GUARANTEE – BASE CASE UPTAKE ESTIMATE: $35 MILLION 0.9 (5%) 3 (5%***) 10 (5%) 14 (4%) 20 (10%) 35 (9%) 13 (20%) 1.8 (10%)2.7 (15%) 69 (17%) 40 (20%) 26 (40%)UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions High uptake 100% of addressable spend Base case uptake 50-67% of addressable spend** Low uptake 13-33% of addressable spend • If uptake is 100% of addressable spend then $69 million is addressable • However, interviews indicate 20-67% uptake for new mechanism involving donor / country involvement* Public RH commodity spend; $ Millions Chosen scenario Percent of total annual commodity expenditure for segment ( ) * See Appendix Exhibit 7 for more details ** Assumes a slighter higher base case percentage uptake for bilats (67% vs. 50%) based on interviews *** Assumed 5% as worst-case scenario across all groups, in the event the field does not understand or legitimize the concept Source: Interviews; Team analysis IMPACT/COST: The pledge guarantee mechanism would have an estimated annual direct impact of $2.2-5.4 million in direct cost savings to participating countries/donors through reduced emergency shipping, reduced stockouts, reduced waste, and reduced product cost (Exhibit 6.1.4). The pledge guarantee would also indirectly improve the downstream supply chain by allowing for effective, long-term planning and enabling improved supply chain management. This mechanism would cost $2.7-4.5 million and would require an estimated initial capital outlay of ~$26 million (details discussed in Section 9). Reproductive Health Supplies Coalition April 2006 28 3 W orking D raft -Last M odified 4/28/2006 3:09:03 P M P rinted 6.1.4 PLEDGE GUARANTEE – IMPACT ESTIMATE: $2.2-5.4 MILLION Cost saving potential • 3-6% price reduction in commodity prices is feasible due to advance notice** • Long-term planning enabled by donor pledge guarantee mechanism can help reduce waste level by 10-30% from countries overstocking • 28% current waste level assumed from JSI/DELIVER’S “Forecasting Accuracy” report and Mercer analysis • UNFPA sees ~10% air shipments (~70% from funding variability remainder due to conflict and normal procedures) • Shipment costs reduced from 15-30% of commodity cost (air) to 6.5% (ship)*** Direct impact Amount $ Millions Reduction/ discount Total $ Millions * See Appendix Exhibit 8 for further details on Countries-At-Risk (CAR) assessment of stockouts ** Assumed about 50% of 6~11% volume-based cost saving potential assumed due to improved procurement planning and negotiation with advanced notice; See Appendix Exhibit 9 *** Reduction results from shifting from air freight to non-air freight; For more detail see Appendix Exhibit 10 Source: JSI/DELIVER; UNFPA; Interviews; team analysis Cost reduction commo- dities 35 3-6% 1.0-2.0 Waste reduction 35 x 28% 10-30% 1.0-2.9 Freight cost reduction*** 35 x 10% x 70% x 15-30%= 0.4-0.7 From 15-30% of commodity cost to 6.5% 0.2-0.5 Total 2.2-5.4 20 (10%) 35 (9%) 13 (20%) 1.8 (10%) Base case uptake 50-67% of addressable spend UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions • Product cost reduction • Waste reduction • Freight cost reduction (e.g. reduced emergency shipping) Direct impact • Reduces stockout events (1-2 per year) • Allows long-term planning for MOH programs • Increases relevance and importance of forecasting • Benefits donor dependent, Group I countries • Encourages increase in RH profile Indirect impact Public RH commodity spend; $ Millions, (% of total annual spend for segment) 6.2 Minimum volume guarantee mechanism OVERVIEW A second finance option addresses the problem of sub-optimal prices due to small and/or unpredictable orders through a minimum volume guarantee negotiated with manufacturers. The minimum volume guarantee would either negotiate price discounts with manufacturers through volume guarantees over specified time periods, or would back a single procurer’s negotiations by guaranteeing their volumes and accepting their risk to enable better prices. The value of this service is that it will reduce product cost and total lead times by advance notice and guaranteeing volumes with manufacturers, and, in the long term, this could be used to help rationalize the number of SKUs or brands to ease complexity in the supply chain. In order to do so, the mechanism will serve two core functions: 1) aggregate global volumes of target clients, and guarantee minimum volumes to manufacturers, and 2) develop pre-negotiated contracts which will allow for faster turnaround times,. Over time, the mechanism might pursue additional activities such as working with countries and manufacturers on branding and packaging to reduce procurement and distribution costs, but these are not envisioned at start up. Reproductive Health Supplies Coalition April 2006 29 2 W orking D raft -Last M odified 4/28/2006 3:09:03 P M P rinted Text Mechanism works with countries, donors, and/or UNFPA to estimate annual volume to be purchased Countries or donors place orders under master contract Mechanism establishes contracts with manufacturers 1 2 3 4 6 Mechanism informed of any unused volume Mechanism establishes level of volume guarantee to provide/ risk to assume Mechanism coordinates storage or sale of unused portion 7 5 Manufacturer ships products to countries directly EXHIBIT 6.2.1. SERVICE B - MINIMUM VOLUME GUARANTEE OPERATIONS A schematic explaining the operation of the mechanism is illustrated in Exhibit 6.2.1. The mechanism takes the risk on volumes based on estimated usage and negotiates discounts with manufacturers by providing advance commitments. This helps manufacturers plan production and staging in advance of actual orders and improves overall efficiency in the chain. The financing mechanism assumes the cost of any portion of the negotiated minimum volume that is not procured. Examples of how this mechanism could resolve finance challenges in different contexts (e.g. UNFPA, decentralized country, etc.) are included in Appendix G. RATIONALE This mechanism allows virtual aggregation/pooling of orders while taking the long- term commitment risk that procurers cannot assume. For example, UNFPA benefits due to the ability of mechanism to take risks on projected orders. Countries with small orders/decentralized procurement also can take advantage of the lower price contract. In addition to reducing commodity costs and lead times, this service also has several indirect benefits. The mechanism’s risk taking ability is influenced by the accuracy of demand forecasts. In order to be most effective, it could therefore be structured to include incentives/rewards over time for improvements in forecast accuracy. Second, with the potential for a guaranteed volume and/or access to new buyers, more manufacturers will be encouraged to enter this market, which will likely drive down prices further in categories like oral contraceptives where few Reproductive Health Supplies Coalition April 2006 30 manufacturers play today. Third, manufacturers will now have an incentive to ensure that their products are “pre-qualified” to participate in the volume agreements, increasing quality of products in the market. ADDRESSABLE MARKET The total addressable market is $83 million, based on estimates of the spend for RH commodities that is either subscale (not leveraging volume discounts) or suboptimal (not leveraging manufacturer guarantee discounts). Of this total, market uptake was conservatively estimated at 75%, or $62 million of the total, based on interviews of pill and condom manufacturers and country managers (shown in Exhibits 6.2.2 and 6.2.3 below). W orking D raft -Last M odified 4/21/2006 12:39:23 A M P rinted 58 W orking D raft -Last M odified 4/17/2006 7:56:36 P M P rinted 6.2.2 MINIMUM VOLUME GUARANTEE – TOTAL SIZE OF OPPORTUNITY: $83 MILLION Public RH commodity spend $ Millions * Total country government and direct bilateral and NGO spend estimates derived from multiple sources (see Appendix Exhibit 23 for detailed estimate); Country government includes portion provided by donors through budget support ** Suboptimal= Could benefit from committing volume upfront, Subscale: Could benefit from combining with large volume orders; see Appendix Exhibit 6 and 7 for details Source: PSI; USAID; UNFPA; Interviews; Team analysis Addressable by minimum volume guarantee mechanism 83 4039 2648 PSI 319 402 Total spend 71 USAID 65 UNFPA 144 18 Direct bilateral and NGO* 160 200 Country government* 60%Max. % addressable Source Based on analysis of UNFPA database 60% of spend is suboptimal and addressable, 20% subscale & addressable** 20% Interviews with major pill and condom mfrs., donors, and analysis indicates 20% is subscale and addressable** 20% 21% This section estimates the percentage of the $402 million total public RH commodity spend addressable by the minimum volume guarantee Market opportunity =(60%x65)+ (20%x18)+ (20%x200) =$83M Interviews and database analysis indicate average 10-20% of country spend is suboptimal ** 0% Expressed low interest or low ability to participate 0% Expressed low interest or low ability to participate Reproductive Health Supplies Coalition April 2006 31 1 W orking D raft -Last M odified 4/28/2006 1:20:22 P M P rinted 1.8 (10%) 20 (30%) 20 (10%) 41 (10%) 30 (15%) 62 (15%) 29 (45%) 2.7 (15%)3.6 (20%) 83 (21%) 40 (20%) 39 (60%)UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions High uptake 100% of addressable spend Base uptake 75% of addressable spend Low uptake 50% of addressable spend Public RH commodity spend; $ Millions, (%) Chosen scenario Percent of total annual commodity expenditure for segment ( ) Source: Interviews; team analysis • Interviews and analysis indicate 75% uptake is reasonable – Turnkey market (UNFPA) with concentrated volume increases uptake percentage – Interviews indicate uptake will be greater than pledge guarantee • 100% too aggressive given some manufacturer- country relationships; general transaction cost MINIMUM VOLUME GUARANTEE – BASE CASE UPTAKE Exhibit 6.2.3 IMPACT The minimum volume guarantee service would have an estimated annual direct impact of $2.6-8.2 million in the early years that would be realized in direct cost savings to participating countries/donors, and would indirectly reduce lead times (Exhibit 6.2.4). This mechanism would cost $2.1-3.9 million and would require an estimated capital outlay of $2.5-5.0 million. Reproductive Health Supplies Coalition April 2006 32 4 W orking D raft -Last M odified 4/28/2006 3:09:03 P M P rinted Base case uptake UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions 13 30 (45%) 2 2.7 (15%) 30 30 (15%) 46 62 (15%) Subscale 75% of addressable spend Rationale • Based on interviews and analysis of UNFPA and country purchases, we estimated that of total UNFPA purchases 60% is suboptimal & 20% is subscale – For country govt. and bilat, all addressed is subscale • 6~11% saving on $46 million subscale volume (20% of total as verified through interviews and analysis of UNFPA purchases1) • Additional 0~5% savings due to advance notice to vendors on total amount of $62 million – based on interviews with manufacturers2 Direct impact Amount $ Millions Discount Percent Total benefits $ Millions Subscale volume 46 6-11 2.6-5.1 Sub- optimal volume 62 0-5 0 - 3.1 Total – OECD mfr. only 2.6-8.2 • Reduced product cost Direct impact • Reduced lead times • Creates direct incentive to improve forecasting • Provides foundation to expand supplier base • Has proportionally higher impact on Group I countries Indirect impact 6.2.4 MINIMUM VOLUME GUARANTEE – IMPACT ESTIMATE: $2.6-8.2 MILLION 1 46 million includes subscale volumes of 13 million from UNFPA, 2 from bilateral, and 31 from countries 2 Indicates savings due to upfront commitment of purchase, percentage varies across manufacturers, see appendix Exhibit 13 for more details on savings Source: Team analysis Suboptimal Public RH commodity spend; $ Millions, (% of total annual spend for segment) A straight forward approach to the minimum volume guarantee would be to begin with the UNFPA only. By simply guaranteeing volumes on behalf of UNFPA to select manufacturers, the mechanism can have immediate uptake and reach critical mass before including other target markets. This approach could potentially use existing UNFPA personnel and have smaller operating costs. The estimated impact of the minimum volume guarantee backing only UNFPA, would be $1.0 to 4.1 million (see Appendix D for further details on this approach). 6.3 Value of two services together While both the pledge guarantee and minimum volume guarantee services have merit; the combination of both of these services will enable the mechanism to have the greatest reach and potentially enable strengthening of country systems. First, the combined services will target a wider breadth of clients, from those who are donor dependent to those which are self-procuring. Second, volume from pledge guarantee will drive volume and savings through minimum volume guarantee ($5M-$10M, primarily country government spend). Finally, administrative and management costs can be limited if both services are combined within one organization. 7. Business model, systems and partnerships The mechanisms are characterized by: Reproductive Health Supplies Coalition April 2006 33 y Financial capacity (e.g. ability to make multi-month, effectively unsecured loans to countries and assume backorders) y RH expertise (e.g. forecast RH commodities demand, understand country/sector needs) y Procurement expertise (e.g. strong contact with procurement agencies, may need to negotiate volume agreements with manufacturers directly or via an existing specialized procurement organization) y Country and agency relationships (e.g., monitor effective procurement, repayment, and maintain strong relationship with MoHs and MoFs) The mechanism must also have administrative and back-office capabilities to sustain operations. Finally, the mechanisms must be able to remain independent of country pressure (e.g. pressure to give credit when inappropriate or not collect debts). The core business model of the pledge guarantee mechanism would allow countries and donors to opt-in as desired. The mechanisms would begin through country and/or donor notification wherein they would contact the mechanism to request access to product based on either a (1) donor promise and/or (2) desire to purchase product at “mechanism” prices for cash at some point in the future. This notification would be followed by (1) a pledge verification or (2) willingness to pay verification. Once the pledge / minimum volume has been verified either (1) the country contacts an approved manufacturer to receive the “Mechanism” price OR (2) Country gets credit from the Mechanism and contacts select manufacturers/ procurers to source product and ship directly to country. Finally, the country/donor would repay the mechanism the required amount (Exhibit 7.1) Reproductive Health Supplies Coalition April 2006 34 7.1 MECHANISM BUSINESS MODEL (SERVICES COMBINED) Key features of mechanism Provides advance funding / products with proof of pledges 1 Centrally negotiates prices with manufacturers with minimum volume guarantee 2 Donors 2 Bulk price negotiation with minimum volume guarantee 1 Request for products with proof of pledge, review, approvalManufacturers CountriesMechanism Procurement agents $ Ordering Product Delivery Strong partnerships are required to ensure the efficacy of this non-grant approach and the focused scope of the mechanism. Partners are required to play two roles. First, advocacy is required to communicate the benefits of a new service to the existing aid architecture. Second, the partners will need to consider non-OECD suppliers in areas like oral contraceptives. This movement will enable the mechanism to realize more value from bulk purchasing and advance commitments. Thirdly, the technical and geographical expertise of several key partners is needed to perform critical tasks, including forecasting and inventory analysis, in-country distribution, evaluation of potential manufacturers, and technical assistance to non- OECD suppliers. 8. GOVERNANCE, ORGANIZATION AND MANAGEMENT The management of both the pledge and volume guarantees require similar activities, including 1) managing country interactions, 2) forecasting the guarantee level, 3) establishing contracts with manufacturers, 4) ensuring orders/ contracts are Reproductive Health Supplies Coalition April 2006 35 executed, 5) managing the technical pledge processes, and 6) managing the financial processes (Exhibit 8.1). 8.1 EFFICIENCIES EXIST IN SHARED ADMINISTRATION AND FUNCTIONAL ACTIVITIES BETWEEN MECHANISMS Key activities - Minimum volume guarantee • Interprets current demand levels and past performance to establish expected volume to guarantee as a mechanism Forecasting • Establishing contracts with manufacturers – Links with manufacturers and allocates guarantees across manufacturers, depending on product type/capacity – Potentially promotes terms as part of contracts (e.g., heat-stable packaging, integration with RHI, GMP, low rate for defect allowances) • Ensuring orders/contracts are executed – Monitors execution of orders via procurer – Monitors finance/purchasing when product needs to be purchased Contract manage- ment • Manages purchase process if end of year guarantee level is not met by countries Financial manage- ment • Working with Ministry of Finance and/or Ministry of Health liaison to navigate country budget system and existing procurement system / guidelines • Training countries and donors on application process • Works to ensure maximum uptake of service Communi- cations Key activities - pledge guarantee • Only as part of verification with donor regarding pledge • Technical pledge processes – Manages contracts between donors and mechanism – Interprets legal regulations – Ensures MOUs processed in a timely/effective manner • Manages repayment; follow up when funds are delayed • Manages finances of funds, ensures adequate cash flow • Working with Ministry of Finance and/or Ministry of Health liaison to navigate country budget system • Maintaining relationships with major donors • Training countries and donors on application process • Works to ensure maximum uptake of service Because of the overlap in skills required, there may be economies of scale and scope in having these activities handled by one organization. The key functions that need to be managed are administrative, marketing, and operations. Exhibit 8.2 outlines a potential organizational structure and roles for the mechanism’s management team, for the minimum volume guarantee service. Reproductive Health Supplies Coalition April 2006 36 W orking D raft -Last M odified 4/17/2006 7:56:36 P M P rinted Procure- ment Relations 8.2 MINIMUM VOLUME GUARANTEE ORGANIZATIONAL MODEL Management team Mechanism Director Financing/ Risk Manage- ment Admini- stration/ Operations* Fore- casting* Country Programs Manu- facturing Liaison Manager* Bilateral / Social Marketing Board of Governors * Needed to support single procurer (i.e., UNFPA, Crown Agents only) – 3 positions total Source: Team Analysis Lean model Extended model Country Programs Manu- facturing Liaison (Quality) • 3 options exist – a) 3 people supporting 1 procurer’s volume (procurer manages manu- facturers) – b) 6 people (lean model) – c) 12 people (extended model) • Lean model intended as part of larger institution • Extended model (years 2+ potentially) could be standalone • 3 options exist – a) 3 people supporting 1 procurer’s volume (procurer manages manu- facturers) – b) 6 people (lean model) – c) 12 people (extended model) • Lean model intended as part of larger institution • Extended model (years 2+ potentially) could be standalone 22 An independent Board of Directors would be recommended to provide oversight to the funding strategies and execution of activities. There are multiple structural options for the Board, but the best model could be a small oversight Board of 3 to 5 members. This Board would not be representative in nature. There are a variety of different options for where to house the services outlined in the following chart (Exhibit 8.3): Reproductive Health Supplies Coalition April 2006 37 8.3 KEY OPERATING CRITERIA FOR HOST INSTITUTIONS Criteria Description of abilities required • Ability to take risk (e.g., make unsecured loans, back orders) • Receive financial commitments • Disburse funds to firms/ countries • Collect functions from countries Pledge guarantee Min. vol. guarantee Commercial bank Develop. bank Multilateral institution Nonprofit foundation UNFPA Source: Team analysis Criteria’s importance to mechanism type Host institutions Relevant Financial capabilities • Demand forecast for RH commodities • Understand country/sector needs and recommend appropriately • Maintain dialogue with sector stakeholders RH expertise • Contract with procurement agencies • Contract and negotiate with manufacturers Procurement expertise • Monitor effective procurement • Maintain relation with country MoH, HoF • Maintain relations with agencies Country /agency relationships • Legal, IT, HR support • Ensure effective working environment for employees Back-office support • Independent of institutional pressure Indepen- dence • Pledge guarantee’s requirements are most appropriately matched by a commercial bank • Minimum volume guarantee's requirements are most closely matched by a multilateral institution • Independence criteria reduces appropriateness of development banks and the UNFPA as hosts • Pledge guarantee’s requirements are most appropriately matched by a commercial bank • Minimum volume guarantee's requirements are most closely matched by a multilateral institution • Independence criteria reduces appropriateness of development banks and the UNFPA as hosts 9. FINANCIAL REQUIREMENTS AND IMPACT OF THE MECHANISM The cost of the pledge mechanism ranges from $2.7-4.5 million per year of which $1.7-3.5 million stem from estimated default on repayments and $1 million is from personnel costs. The mechanism would also require a $26 million capital outlay to initiate the mechanism, assuming the $35 million capital need identified in the base case scenario, a 5 month average repayment cycle, and equal quarterly need (Exhibit 9.1 and Appendix A). This also assumes that defaults do not materially reduce the capital in any given period. An ideal model could be for donors to have an informal, or formal if legally feasible, agreement to replenish the fund if the pledge mechanism pays out on their pledges and if the donor or countries do not reimburse the pledge. This model would create favorable incentives for donors and countries. Reproductive Health Supplies Coalition April 2006 38 W orking D raft -Last M odified 4/17/2006 7:56:36 P M P rinted 9.1 PLEDGE GUARANTEE – CAPITAL AND ANNUAL COSTS Capital rationale • $26.1 million capital required to assume base case need of ~$35 million need – Assume average repayment cycle 5 months, ¼ of capital used quarterly • Represents one-time up front cost Capital Amount $ Millions Percent Total $ Millions * See Appendix Exhibit 9 ** Cost could also be potentially borne by mechanism to discourage defaults, but would create an additional start-up hurdle Source: Team analysis 9 months lending 35 0.75 26.1 Cost rationale • 5-10% default of repayment estimate – Crown Agents study and interview suggest historically 85-90% rate of follow through* • Estimated staff 5 – $200,000 each annual costs* Annual Cost Amount $ Millions Percent Total $ Millions Default Personnel Total 35 1.0 5-10 1.7-3.5 1.0 2.7 - 4.5 20 (10%) 35 (9%) 13 (20%) 1.8 (10%) Base case uptake 50-67% of addressable spend UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions Percent of total annual commodity expenditure for segment ( ) Default represents product needed in field and can be considered as grant / Program Related Investment** Assuming base case uptake, the cost of the minimum volume mechanism ranges from $2.1-3.9 million, primarily driven by personnel costs of $1.6-2.4 million with the remainder being waste of 20-30% of the 5-10% of unused product ($0.5-$1.5). The mechanism would also require $2.5-5.0 million in capital outlay to initiate the mechanism to assume unused volume risk (Exhibit 9.2). Reproductive Health Supplies Coalition April 2006 39 W orking D raft -Last M odified 4/17/2006 7:56:36 P M P rinted Percent of segment total spend ( ) 30 (15%) 62 (15%) 29 (45%) 2.7 (15%) Base uptake 75% addressable spend UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions Capital rationale • A one time outlay will be required to cover the unused volume risk at the end of the year • Based on interviews and analysis we estimate this requirement to be approximately 5-10% of the 80%** of $62 million guaranteed Cost rationale • Product waste: 5~10% of minimum volume guarantee amount not used; ~80% forecast level volume guaranteed by RHCI** • Personnel (6-12 at 200,000 each) plus 2% outsource fee (0.44) for procurement Capital Total mount $ Millions Unused Percent Total $ Millions Product purchased 62* (0.80) = 50 5-10 2.5-5.0 Cost Amount $ Millions Discount Percent Total benefits $ Millions Waste 1-3 0.5-1.5 Person- nel 1.6-2.4 - 1.6-2.4 Total – 2.1-3.9 62* (0.80) = 50 * Assumed ~75% of high case; See Appendix Exhibit 13 ** For explanation data behind forecasting the minimum volume guarantee, see Appendix 14 Source: Team analysis 9.2 MINIMUM VOLUME GUARANTEE – COSTS AND CAPITAL Combined the two mechanisms would provide a direct impact of $3.8-11.6 million with costs of $3.8-7.4 million and a capital outlay of ~$26 million. Starting with UNFPA, on the other hand, would provide a direct impact of $1.0-4.1 million with costs of $0.9-1.6 million and a capital outlay of $1.6-3.2 million (Exhibit 9.3). While the savings generated by the mechanism benefit the field, the mechanisms themselves bear the cost. These annual and capital costs could potentially be reduced by charging interest on the mechanism transactions, establishing a line of credit from a bank that could provide the capital as part of a secured loan, or building in regular replenishments of capital from the multil-lateral and bilateral donor community. Based on a qualitative and quantitative assessment of the two main services, the advisory group recommended a service which provided a minimum volume guarantee to UNFPA, based on the following rating (Exhibit 9.4): Reproductive Health Supplies Coalition April 2006 40 ADVISORY GROUP ASSESSMENT* OF SERVICES RATED FROM 1-5 1 2 4 Solves priority issues Down- stream impact Impact Aligns with field Ease of use Sustainable over time Min. volume guarantee – UNFPA only Pledge Guarantee 3 3.8 (3-4) Minimum volume guarantee Pledge and minimum volume guarantee combined Fits within system constraints Feasibility 3.4 (3-5) 3.4 (3-5) 5 = Good 1 = Bad Service type 3.6 (3-5) 4 (3-5) 3.8 (3-5) 3.4 (3-4) 4 (3-5) 4.4 (4-5) 2.8 (2-4) 3.8 (2-5) 4.4 (3-5) 3.4 (2-5) 3.4 (2-5) 4.2 (4-5) 3.2 (2-4) 3.8 (2-5) 4.6 (4-5) Average 3.4 3.7 4.1 4.0 (4)4.3 (3-5) 3.3 (3-4) 3.5 (2-4)2.8 (2-3) 3.3 (2-4) 3.5 * Four out five members were surveyed Source: Interviews; Team analysis Average shown (range in parentheses) Exhibit 9.4 Similarly, the Advisory Group identified the best option as the combination of the pledge and minimum volume guarantee, to realize synergies between the two, with an initial focus on the minimum volume guarantee (Exhibit 9.5): INITIAL DECISION ON GOING FORWARD WITH FINANCIAL MECHANISM Options Recom- mended Rationale Both pledge and minimum volume guarantee (start with minimum volume) • Proposed option • Solves both variability and subscale/ suboptimal procurement issues • Synergy in operating costs ($1 M) Only pledge guarantee • Third option • Addresses upstream issue of funding variability • Need to believe “indirect impacts” on country planning and forecasting Only minimum volume guarantee • Second best • Potentially high leverage action - return on investment (~60%) • Capital risk manageable by adjusting minimum levels • Win-win for manufacturers/buyers due to long-term commitments and resulting production efficiency • Integrates well with on-going efforts in field for non- OECD manufacturer qualification Exhibit 9.5 Reproductive Health Supplies Coalition April 2006 41 10. IMPLEMENTATION ROADMAP Prior to implementing the pledge and minimum volume guarantee service lines, three sets of decisions need to made: 1) technically: assumptions about the financing mechanisms’ operations need to be tested and verified (see Appendix C for details) and decisions must be made regarding which services should be offered and serving which markets 2) organizationally: a board, staff, and housing location need to be identified, and 3) tactically: donors and users have to be recruited and opt-in to the mechanism (Exhibit 10.1). IMPLEMENTATION REQUIRES THREE MAIN SETS OF DECISIONS Source: Source Technical Organizational Tactical Activities required • Test assumptions (eg. Donors will agree to sign an MOU with specific terms of repayment, forecasting across multiple agencies is feasible, manufacturers could aggregate orders across small, brand specific countries and still reduce costs, etc.) • Get buy-in of stakeholders • Decide on services offered • Decide on starting point and partners to include at launch Type of decisions • Build Board, staff, and key processes • Find a “home” for the mechanism • Launch website, communications, informational forms • Initiate leading and guaranteeing of contract Exhibit 10.1 There are several considerations to keep in mind when choosing which service to launch first: (1) selecting what problems want to resolve; (2) assessing strategy to optimally manage capital and risk. The pledge guarantee, while addressing the primary issue of funding variability, requires the most up front capital and marketing. The minimum volume guarantee is easier to implement and maintains an impact to cost ratio that is 70% greater than the pledge guarantee, yet does not address core funding variability issues. The capital needs and costs, however, as well as the actual risk the financing mechanism assumes can be managed by making choices about who can use the financing mechanism, for what products/volumes, and under what conditions (e.g., degree of certainty on forecast or pledge) Reproductive Health Supplies Coalition April 2006 42 Once those decisions have been made, a three stage process begins. The first stage involves aligning key stakeholders such as the RHSC, lead funders of RH, and country Ministries of Health. The second stage involves acquiring a management team and enough capital to execute these services. The third stage involves launching a pilot service to test core processes, legal and technical issues, and contracts with manufacturers. These three stages could occur within a nine month period, followed by a scale-up period when additional users, regions, or services are added (Exhibit 10.2). 0 W orking D raft -Last M odified 4/28/2006 1:20:22 P M P rinted Exhibit 10.2 • Gather additional facts to validate approach and core services • Identify lead initial funder(s) • Confirm buy-in from key RH commodity donors • Develop communication strategy • Work with country MoH to create buy-in • Establish Board • Board launches staff search • Hire or contract for Director and management team (if relevant) • Raise Capital • Develop Risk Management Model • Develop Recipient Country Marketing/Ownership Strategy • Complete initial forecast • Develop MOU and hold donor forum to explain mechanism • Develop Minimum Volume contracts with manufacturers • Launch service via website / phone • Begin pledge financing • Track and fulfill volume guarantees • Receive and fulfill first pledge requests • Grow user base • Expand manufacturer base • Continue to create tailored incentives for country ownership • Establish revised 3-5 year plan Resource requirements • Key individual to champion process • Admin/support • Initial team (2-3) to develop working model and raise initial capital • Expand operating team (5-10) Milestone • Finalize business plan • Confirm funding • First board meeting • Milestones would include expanding volume covered and relative pricing available • Business system developed • Initial staff in place • Funding in place • Services launched • Expand operating team and capital based on need Align stakeholders Acquire management team/develop core processes Launch Scale Select actions OVERVIEW OF IMPLEMENTATION -- PLEDGE AND MINIMUM VOLUME 11. Conclusion Implementing the pledge guarantee and minimum volume guarantee service will generate financial savings, help resolve downstream issues by enabling long-term planning and forecasting and reducing stockouts and emergency shipments, and will have the greatest impact on individual Group I, donor dependent, countries that typically suffer from high levels of funding variability, highly fragmented procurement, and the lowest prevalence rates. While the financial impacts of these services are somewhat limited, at least in the short term, the immediate indirect Reproductive Health Supplies Coalition April 2006 43 impacts are substantial, warranting further pursuit by the Reproductive Health Supplies Coalition and the establishment of a pilot program, driven initially by leadership from the Systems Strengthening Working Group. Reproductive Health Supplies Coalition April 2006 44 Appendix A: Financial projections GUARANTEEING $35 MILLION ANNUALLY REQUIRES $26.1 IN CAPITAL ASSUMING QUARTERLY LENDING AND 150- DAY REPAYMENT $ Millions $ Lent to countries Cash remaining • $34.8 distributed over 4 quarters • $8.75M (34.8/4) needed each quarter • With 150 day repayment terms, 3 quarters require coverage • (3) x $8.75 = $26.1* • $34.8 distributed over 4 quarters • $8.75M (34.8/4) needed each quarter • With 150 day repayment terms, 3 quarters require coverage • (3) x $8.75 = $26.1* 8.758.758.75 8.758.758.75 8.75 17.517.5 26.1 17.5 2Q 17.5 1Q0Q 17.5 17.5 3Q 4Q repaid repaid * $26.1M needed only if mechanism does not borrow externally. Mechanism could cover its $8.75M in quarterly lending with $10 - $17M in capital, depending on repayment reliability, and could borrow additional $10M to get through first year if uptake occurred as expected. Source: Team Analysis Reproductive Health Supplies Coalition April 2006 45 Appendix B: Interviewees, sources reviewed and key analyses List of interviewees Experts/ Donors Institution Interviewee name JSI Carolyn Hart Mimi Whitehouse USAID Alan Bornbusch Mark Riling UNFPA Joe Abraham Nana Essah Ben Light David Smith Jagdish Upadhyay KfW Wolfgang Bichmann Johns Hopkins University Duff Gillespie IPPF Lester Chinery Crown Agent Hilary Vaughn Reproductive Health Supplies Coalition April 2006 46 Manufacturers Manufacturer Interviewee name UNIDUS Bong Sam Lee Famycare Venkatesh Iyer Schering Africa Mario Kossmann Organon Enrico Liggeri Pfizer Frans van Birgelen Wyeth Eli Alaluf Country reps Institution Interviewee name JSI/ Deliver – Zimbabwe David Alt UNFPA – Zimbabwe Bruce Campbell UNFPA – Angola Andre Mayouya UNFPA – Mexico Arie Hoekman UNFPA – Ghana M. Kane UNFPA – Yemen Alexander Ilyin Ministry of Health – Ethiopia Tessanesh Belay Tessaye Berhanu Population Secretariat – Uganda Angela Ankol Ministry of Finance – Uganda Rogers Enyaku Deliver – Nigeria Chuck Lerman Ministry of Health – Kenya Josephine Kibaru JSI – Bangladesh, Nepal, and Pakistan Shyam Lama Ministry of Health – Malawi Jane Namasasu Reproductive Health Supplies Coalition April 2006 47 Reproductive Health Supplies Coalition April 2006 48 Appendix C: Assumptions In Exhibits 1 and 2, the major assumptions used for both the pledge and minimum volume guarantee services are outlined. Updt-U-Temp-2000 4 W orking D raft -Last M odified 6/30/2004 2:37:36 P M 1) Donors will agree to sign an MOU with specific terms of repayment 2) After a pledge, a donor will directly repay the mechanism from country-earmarked funds 3) Donor disbursements to UNFPA are reliable enough that creating a pledge guarantee to back them is sustainable 4) ~10% of public sector funding would be addressed by a guarantee mechanism Assumptions Suggested next steps for further validation • After validation of overall objectives/services with broader SSWG and RHSC groups, test both needs for critical mass of participants and key assumptions by sending out a letter to confirm (non-binding) interest to participate • Letter to include: – Confirmation of interest to participate in mechanism – Ability to sign MOU – Ability to allow countries to use mechanism funding for products – Agreement to repay – Willingness to pay fees or interest (specifics enclosed in letter or a maximum indicated ) • Reconfirm that USAID and PSI would not benefit from mechanism, and that assuming less than 40% of delays are due to funding variability is reasonable KEY ASSUMPTIONS – PLEDGE GUARANTEE Exhibit 1 Updt-U-Temp-2000 5 W orking D raft -Last M odified 6/30/2004 2:37:36 P M 1) Forecasting from different agencies is accurate enough to facilitate minimum volume guarantee (e.g., UNFPA; countries/regional initiatives; procurement agencies; NGOs; other) 2) Based on interviews and analysis of UNFPA database, manufacturers are willing to offer price discounts (up to 16%) at volumes identified; similar discounts would be realized by non-UNFPA orders 3) Country with small orders for unique brands will still be able to benefit from guarantee because individual manufacturers cover multiple brands and are willing to accept aggregate level volume guarantees 4) Products manufactured through minimum volume guarantee would still meet shelf life requirements 5) Countries using IDA funds will be able to use contracts established through minimum volume guarantee Assumptions Suggested next steps for further validation • Work with SSWG to get forecast data and measure error for all potential applicants. Verify current level of forecast accuracy and set minimum bar appropriately (start low) • Note: Mechanism business case currently assumes up to 30% forecast error, but design is flexible to adjust to increased error • WAHO research indicated greater discount from pooling non-UNFPA orders (average 28%); conduct country visits / survey to confirm current prices paid and potential discount • To further validate manufacturer discounts and volumes, send initial letter of terms and solicit intent to participate from manufacturers • Include in specifications/terms: – Brands expected – Volumes expected – Order times / cycles expected – Potential for product to remain unused for 9-12 months – Request for most current rate cards, and any shelf life concerns • Confirm minimum volume guarantee will meet ICB / World Bank guidelines KEY ASSUMPTIONS – MINIMUM VOLUME GUARANTEE Exhibit 2 Reproductive Health Supplies Coalition April 2006 49 Appendix D: Minimum volume mechanism estimates for UNFPA only Target clients Example Value proposition: Reduces product cost and total lead times by backing UNFPA procurement with a minimum volume guarantee Core functions: Works with UNFPA forecasting to assess suitable, risk appropriate level of demand to guarantee. Does not develop pre- negotiated contracts or work closely with manufacturers; simply guarantees volumes on behalf of UNFPA to select manufacturers Text Mechanism works with UNFPA to estimate annual volume to be purchased UNFPA secures subsequent discounts from manufacturers UNFPA negotiates with Long Term Agreement (LTA) suppliers 1 2 3 4 6 UNFPA manages end of year unused volume w/suppliers Mechanism establishes appropriate level of guarantee to provide Mechanism coordinates storage of unused portion with mfrs and UNFPA 7 5 UNFPA , countries, mfrs, coordinate procurement as per normal • Self-procuring countries : Not applicable • UNFPA uses mechanism as a volume guarantee for its annual purchases, reducing prices, but not assuming risk • Procurement agents: Not applicable • NGOs: Not applicable • Regional consortium: Not applicable MINIMUM VOLUME GUARANTEE OVERVIEW – UNFPA ONLY * Mechanism should negotiate with UNFPA to waive or reduce current 5% procurement charge on central contract orders Source: Interviews; team analysis Exhibit 1 MINIMUM VOLUME GUARANTEE FOR UNFPA – BASE CASE UPTAKE ESTIMATE: $41 MILLION Range of uptake Percent 100 High 75 Base 50 Low • Assumed initial 75% uptake as per prior minimum volume guarantee example • Uptake could increase quickly in this example since mechanism is solely backing UNFPA Uptake assumed in base case 30 11 90 UNFPA • Total $41 million • 60% of UNFPA funding and third party procurement ($65 million + $25 million) adjusted by ~75% base case factor; 40% excluded due to portion of vendors that do not provide per order volume- based discount* • Total $41 million • 60% of UNFPA funding and third party procurement ($65 million + $25 million) adjusted by ~75% base case factor; 40% excluded due to portion of vendors that do not provide per order volume- based discount* 65 25 * See Appendix Exhibit 11 and 12 Source: Interviews; team analysis 39 15 90 UNFPA 65 (direct) 25 (3rd party) Total addressable spend Base case uptake Exhibit 2 Reproductive Health Supplies Coalition April 2006 50 MINIMUM VOLUME GUARANTEE WITH UNFPA – IMPACT ESTIMATE: $1.0-4.1 MILLION * See Appendix Exhibit 16 and 17 ** For rationale of why minimum volume guarantee can work in a multiple brand sector, see Appendix Exhibit 3 Source: Team analysis Impact rationale • Based on interviews and analysis of UNFPA purchases, we estimated that of total purchases, 60% suboptimal, 20% subscale – 20% of $90M = $18M subscale (assumed captured by mechanism as part of 75% uptake) and maintains 6-11% discount – 60% of $90M = $54M sub-optimal (of which only $41M is part of base case uptake- $11M 3rd party, $30M direct). Therefore $41M open to 0-5% discount Direct impact* Amount $ Millions Discount Percent Total $ Millions Subscale volume** 18 6-11 1.0-2.0 Sub-optimal volume 41 0-5 0-2.0 Total – UNFPA only 1.0-4.1 • Reduced product cost • Reduced lead times Direct impact • More product readily available for acute situations as needed • Has proportionally higher impact on Group I Indirect impact Base case uptake 30 11 90 UNFPA 65 25 Uptake assumed in base case Exhibit 3 MINIMUM VOLUME GUARANTEE WITH UNFPA – CAPITAL AND COST * See Appendix Exhibits 17 and 18 for more details Source: Team analysis Uptake assumed in base case Capital rationale* • Mechanism would guarantee ~80% of the expected volume; 5~10% of guaranteed order expected to be purchased by the mechanism due to non use • 10~30% of that purchased amount would not be resold and wasted • Base case Administration costs cover forecasting assistance, financing, and program management Capital Amount $ Millions Percent Total $ Millions Product purchased 41 x 80%= 33 5-10 1.6-3.2 Cost rationale* • Manage risk by not guaranteeing 100% of expected volume (~80%) • Some of the contract volume will not be used and will have to be purchased, rough assumption allowing up to ~30% lower than expected level volume used for safety net (~80% guarantee, 5~10% potential purchase most of which can be used in following year) Cost Amount $ Millions Percent Total $ Millions Waste* 41 x 80% = 33 10-30 0.3-1.0 Admin Costs 0.6 0.6 Total 0.9-1.6 Base case uptake 30 11 90 UNFPA 65 25 Exhibit 4 Reproductive Health Supplies Coalition April 2006 51 Incremental impact reduced by 1.0-2.0 M to avoid double counting the 3-6% in commodity savings Savings of $1.0M by combining staff (default risk remains) 2.6- 8.2 Minimum volume guarantee central contract 1.2- 3.4 Pledge guarantee (incremental) 3.8- 11.6Combined MINIMUM VOLUME GUARANTEE AND PLEDGE GUARANTEE – UPTAKE, IMPACT, COST, AND CAPITAL ESTIMATE Target uptake assumptions Impact Annual cost Initial capital expenditure 2.1- 3.9 1.7- 3.5 3.8- 7.4 2.5-5.0 21.1- 23.6 26.1* Pledge guarantee Min Vol Guarantee Total funding amount $ Millions PSI 48 USAID 71 Base case uptake Percent ($ Millions) Country government 15% (30.0)200 10% (20.0) 15% (2.7)Other bilateral/ social marketing 18 10% (1.8) 45% (29.3)UNFPA funding 65 20% (13.0) 402 (62.0) (34.8) * Assumes start-up capital for pledge guarantee will cover capital for minimum volume guarantee (only needed by end of year 1 / year 2 at earliest) Source: Team analysis Exhibit 5 Appendix E: Expanding the pool of supplier from non-OECD countries As part of the research for the guarantee mechanisms, we identified that substantial savings were feasible by increasing the number of non-OECD reproductive health commodity suppliers. The primary benefits are a reduction in commodity costs, up to 50% depending on current practices. A major hurdle to increasing the number of non – OECD suppliers appears to be the scarcity of capital and technical support to become pre qualified which is exacerbated by the lack of a guarantee that their products will be sold once a manufacturer makes the investment to become pre- qualified. While expanding the supplier pool was outside the scope of this project, it is relevant because the minimum volume guarantee provides an excellent vehicle to expand the supply base to include non-OECD manufacturers (where qualified) and could highlight where value may be gained by assisting suppliers to overcome quality and other technical hurdles. As a foundation for further research in this area, we have outlined the potential impact of expanding the supplier pool below. Reproductive Health Supplies Coalition April 2006 52 NON-OECD SUPPLIER EXPANSION – TOTAL SIZE OF OPPORTUNITY: $199 MILLION Expressed low interest Public RH commodity spend $ Millions * Total country government and direct bilateral and NGO spend estimates derived from multiple sources (see Appendix Exhibit 5 for detailed estimate); Country government includes portion provided by donors through budget support Source: PSI; USAID; UNFPA; Interviews; Team analysis Addressable by expanding non- OECD manufacturers 199 140 46 203 60 1948 PSI 71 USAID 65 UNFPA 513 18 Direct bilateral and NGO* 200 Country government* 402 Total spend 70%Percentage potentially generic Source All volume excluding condoms and IUDs (30% of total) which are already non- OECD (Based on interviews and UNFPA database) 70% 70% 27% This section estimates the percentage of the $402 million total public RH commodity spend addressable by non-OECD supplier expansion Market opportunity =.7 * (65+18+200) = $199M PRELIMINARY ESTIMATES Exhibit 1 5 (7%) 1 (7%) 20 (7%) 14 (7%) 14 (21%) 4 (21%) 14 (7%) 32 (8%) 23 (35%) 6 (35%) 70 (35%) 99 (35%) UNFPA Direct bilateral and NGO Country government* Total spend Scenario Assumptions High uptake 50% of addressable spend Base uptake 10-30% of addressable spend Low uptake 10% of addressable spend Public RH commodity spend; $ Millions Chosen scenario Percent of total annual commodity expenditure for segment ( ) * Low uptake based on fragmentation and lack of coordinating mechanism to channel spend and pre-qualified vendors Source: Interviews; Team analysis • Interviews and analysis indicate 10-50% uptake is reasonable • 50% is too aggressive given patent restrictions and current supply systems • Manufacturer interviews indicate 10-30% uptake is reasonable NON-OECD SUPPLIER EXPANSION – BASE CASE UPTAKE ESTIMATE: $32 MILLION PRELIMINARY ESTIMATES Exhibit 2 Reproductive Health Supplies Coalition April 2006 53 Base case uptake UNFPA Direct bilateral and NGO Country government Total spend Scenario Assumptions 30% addressable spend Rationale • Of potential $32 million uptake, 20-30% discount* can be achieved by switching to generics ($32 Million * 20-30% = $6-9 Million) NON-OECD SUPPLIER EXPANSION – IMPACT ESTIMATE: $6-9 MILLION Percent of total annual commodity expenditure for segment ( ) 14 (30%) 4 (30%) 14 (7%) 32 (8%) * See Appendix Exhibit 19 for details on price discount from switching to generics Source: Interviews; Team analysis PRELIMINARY ESTIMATES Exhibit 3 Appendix F: Application of pledge mechanism to client groups PLEDGE GUARANTEE MECHANISM SERVICES MULTIPLE CLIENT TYPES Source: Team analysis Country A indicates need of $4 million in condoms and orals and/or obtains proof of pledge from Donor X; NGOs can use in similar manner (SWAps discussed separately)⇒ Donor X confirms expected country needs/qualifications and expected time to repay funds ⇒ Country orders product; mechanism pays manufacturer (procurer selected by country or donor as per normal procedure) ⇒ Country receives and distributes products in installments based on urgency and forecasting reliability⇒ Mechanism repaid by Donor X per MOU; donor or country may repay mechanism per donor arrangement Donor dependent countries/NGOs: A country (with budget support) indicates pending funds ⇒ Donor X confirms pending pledge, agrees to portion spend on RH commodities as per country request ⇒ Country orders product and pays MFR (procurer selected by country or donor as per normal procedure) ⇒ Country receives and distributes products ⇒ Mechanism repaid by Donor X per MOU Indirect (SWAp / Budget support) UNFPA in beginning of year needs to ship $10 million in the first quarter; mechanism provides money for product using historic pledge levels (mechanism has flexibility to support unsecured amounts with UNFPA)⇒ Mechanism provides up to X% of previous years pledges; negotiates with UNFPA which assumes no debt on accounting books⇒ Earmarked bilateral support can also use mechanism, but in this case the donor provides a pledge⇒ As donor pledges funds get remitted, mechanism gets replenished⇒ If UNFPA donor pledges do not meet X% goal, then mechanism caps guarantee and recalibrates for following year UNFPA exampleDirect RH pledge Exhibit 1 Reproductive Health Supplies Coalition April 2006 54 Appendix G: Application of minimum volume guarantee mechanism to client groups MINIMUM VOLUME GUARANTEE COULD PROVIDE SERVICES TO SMALL, SELF PROCURING COUNTRIES, NGOs, AND UNFPA . . . Mechanism works with the target countries and develops annual estimates and guarantees minimum volumes to manufacturers* ⇒ Countries use pre-negiotated contracts based on minimum volume guarantees; NGOs can use as well ⇒ ⇒ Mechanism or country works with procurement agents to complete ordering ⇒ Countries pay manufacturers directly, mechanism tracks orders against guarantee to re-allocate as needed Self-procuring countries/NGOs Mechanism works with UNFPA and its manufacturers to guarantee minimum volumes (can be yearly or spread over multiple years to account for variance) ⇒ Manufacturers are able to start production earlier/have confidence in volume, and so provide greater discount to UNFPA on price ⇒ UNFPA places orders as usual ⇒ Mechanism covers unused volumes or carries to subsequent years UNFPA example ⇒ If product remains unpurchased at end of year, mech. Assumes cost and stock is rolled over and stored with manufacturer (agreement to store % of contract should be agreed with manufacturer) * Multiple manufacturers used; manufacturer’s ability to produce across brands enables guarantee to work without constraining brand choice. See Appendix Exhibit 3 for further details Source: Interviews; team analysis Exhibit 1 . . . AS WELL AS REGIONAL PROCUREMENT GROUPS OR LARGE DECENTRALIZED COUNTRIES Mechanism lends to Mexico, in the form of RH commodities, without a proof of donor pledge. Extends 180 day credit to MOF Decentralized / self-funded country Source: Country rep / MOH Interviews; team analysis Country’s central MOH (eg. Mexico) contacts mechanism to request product, as cash is not available to states to buy product due to internal budgeting delays. MOF approves request⇒ ⇒ If minimum volume guarantee service is also in operation, mechanism requests that states must use mechanism price for all products for which that price is available, aggregating state buying for lower price ⇒ States order directly and receive products; avoiding stockouts, and if using minimum volume contract, increasing the amount of RH commodity they are able to buy ⇒ Once budget is allocated, MOH repays mechanism (before funds are sent to states) within 180 days, failure to do so prohibits further use of the mechanism Mechanism can work with other existing groups (WAHO, East, Central, and Southern African Health Community, Crown Agents) and guarantee aggregated volumes to develop lower costs ⇒ Countries in regions contract directly with selected pre-qualified manufacturers to place orders Assumes country is also using pledge guarantee ⇒ Mechanism covers unused volumes or carries to subsequent years Other pre-arranged procurement Groups (Regions, Crown Agents) Exhibit 2 Reproductive Health Supplies Coalition April 2006 55 Contacts Questions on the content of this report can be directed to the Advisory Board or analytic advisors (Michael Conway, michael_conway@mckinsey.com; Stephen Linaweaver, stephen_linaweaver@mckinsey.com). Reproductive Health Supplies Coalition April 2006 56

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