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Owens & Minor: A Focus On Operating Productivity
Thomas P. Gale & William R. McCleave, Jr.
This article is the first in a series of company profiles that examine how a distribution company can build a core competency in a specific part of its business to gain competitive advantage.
Executive summary: This medical/surgical supplies distributor focused on improving its logistics productivity in an extremely competitive and fast-changing marketplace. Its strategy to unbundle services and provide supply chain management tools to customers and suppliers has some important lessons for all distribution companies.
“Distribution is a pennies business, and improving productivity is bread and butter to everything we do,” says the letter to shareholders in the Owens & Minor 2000 annual report. “We measure most everything, especially in the warehouse.” That sums up how this medical and surgical supplies distributor has carved a strong competitive niche in an industry undergoing intense consolidation and competitive cost pressures. It’s also a preview of a not-too-distant future where high-performance distributors leverage their operational assets to create new business as third-party logistics providers.
The vision at O&M is clear: Provide high service levels while cutting costs to the bone and making the entire supply chain leaner. Easy to say, hard to do. The bottom line has been a laser focus on improving productivity internally and taking costs out of the supply chain by using process improvement and technology tools. That effort has gone well beyond its four walls to innovative supply chain management programs with customers and suppliers.
That’s not to ignore some solid growth that saw top-line revenues up by 10% last year. But arguably, the foundation O&M is using to differentiate in the market and position for growth has been an ability to churn some pretty impressive operational numbers.
While at first glance the numbers might suggest this is a prototypical national box-mover that doesn’t know what localized service looks like, that’s not the case. The company maintains a decentralized approach with clear employee incentives to provide high levels of local sales and service support. Example: Its delivery drivers, with an average 12-15 years of experience, provide a critical inside sales presence; there are bonus incentives for service levels and customer satisfaction levels that are carefully measured.
Company history/creating change
Founded in 1882 as a wholesale drug company, Owens & Minor sold its drug division in 1992 to concentrate on medical/surgical distribution, which today is a $22-billion market; $12 billion goes through distribution and $10 billion is manufacturer-direct.
Customers include hospitals, integrated healthcare systems and group purchasing associations. O&M has 45 distribution centers to serve customers in 50 states and the District of Columbia. Its shares are traded on the New York Stock Exchange. The medical/surgical supply distribution industry has consolidated to three major players, including O&M, as well as smaller national distributors and a shrinking number of regional and local distributors.
As the company grew into a national medical/surgical supplier with some key acquisitions in the late 1980s, it maintained an independent network approach that provided high levels of local customer service. However, the 1990s also saw intense industry cost pressures that made it difficult to grow sales and control costs across a relatively independent network.
From that environment, the company made some strategic decisions about improving productivity – primarily its operational and logistics capabilities to drive costs down. It created customer programs to unbundle traditional value-added services, which historically had been included in a cost-plus product pricing model. And the company also looked at ways it could work externally with suppliers and customers to lower overall supply chain costs.
Process improvement
One of the first areas the company focused on was logistics improvement. Owens & Minor created an intensive focus on warehouse efficiency, using technology tools for forecasting as well as radio frequency devices to drive productivity. Warehouse design and layout has been optimized, with a “hot zone” where 65% of the most picked items are located. It measures a range of warehouse performance indicators.
The company also addressed key warehouse employee productivity issues to reduce turnover and the number of temporary employees, while holding total employee count static. And it built in-house training programs and incentive programs to back up the company’s commitment to quality and productivity improvement.
The result was that in the past two years the company has increased its employee pick rate from 10 to 14.3 lines per hour, with a goal set for 20 lines per hour. Its warehouses now generate $1,000 in sales per square foot with benchmarks to improve that number.
Additionally, the company has set goal levels for reducing overall credits and picking errors to less than one-half per thousand. It continues an ongoing program of product standardization. It has shrunk its 170,000 SKUs by about 10% to date, with a goal to get to 100,000.
Unbundling services
The surgical products distribution industry has seen the traditional role of distribution evolve to one of assisting customers in managing the entire supply chain with specific value-added programs. It’s one thing to say that, but O&M has done something that goes against the grain of traditional distribution. It proactively went to customers with information tools to help them buy smarter and manage their spend – specifically information about contract compliance and product standardization that helps reduce spot buys and can significantly lower total procurement costs. O&M’s programs include:
CostTrack. O&M created an activity-based management program it calls CostTrack that now accounts for 26% of its sales. The program helps customers identify and track the cost drivers in their distribution activities, providing information to help them drive workflow efficiencies, raise employee productivity and cut costs. Instead of the traditional cost-plus pricing, program participants pay for specific O&M services they choose. The company provides them with 200 financial indicators that help identify where they can improve operations.
WISDOM. One-third of O&M customers are using WISDOM, a Web-based reporting system that provides a range of reports for product category management. The password-protected system gives customers online access to O&M’s data warehouse. Reports include purchase history, contract compliance, product usage and other data. Customers can use the information to standardize product lines and consolidate suppliers, as well as consolidate purchasing data across various computer systems in a healthcare network.
PANDAC Wound Closure Program. This information-based program gives customers an evaluation of their current and historical wound closure inventories and usage levels. O&M guarantees customers a minimum five percent savings in total wound closure inventory expenditures during the first year on the program.
Focus on Consolidation, Utilization & Standardization. Finally, O&M created a supplier partner program to drive product standardization and consolidation, increasing the volume of purchases from the most efficient suppliers. O&M requires FOCUS partners to be market share leaders and to meet strict certification standards, such as exceeding minimum fill rates, offering a flexible returned goods policy and using EDI.
More than technology
In addition to these technology tools that give customers management tools for their spend, the company established bonus incentives for employees based on service levels and customer satisfaction. It also developed cross-functional teams to work with its top 25 suppliers to address operational issues and drive further supply chain cost reductions. A supplier scorecard measures and evaluates performance.
In short, Owens and Minor built relationships with customers and suppliers using a core competency in logistics and metrics as a basis for reaching mutual cost reduction goals and targets for service levels. Customers can build a customized set of services to match their unique needs and pay for exactly what they need.
A growth platform
The manner in which O&M has segmented its offerings allows it to profitably serve a diverse customer base – from the high-service needs of individual hospital systems, to the low-cost and volume focus of group purchasing organizations. O&M has also begun to successfully sell its core logistics competencies to manufacturers who sell direct, nearly half the market size. O&M has the technology platform and logistics capabilities in place to provide third-party logistics services for its manufacturers. It has also worked with e-commerce companies to provide the logistics capabilities for these new channels.
The focus for the next three to five years for O&M is to further reduce supply chain costs – more automation, better order management tools, and better warehouse efficiencies. As the industry moves more to strategic purchasing, the supply chain management approach and tools O&M provides match perfectly. Customers are responding by closing their own warehouses and outsourcing distribution activities to O&M, and relying on the company’s technology to provide the management and reporting control they need.
Owens & Minor has the platform in place to build its future. It’s an incremental approach, but one that O&M President Craig Smith feels is critical to the company’s future. “I believe we have to move from being the best to being truly great at what we do,” Smith says of the challenges ahead. “We have done a great job at cutting costs and improving our productivity, but the industry will continue to put pressure on us to continually get better.”
Owens & Minor by the numbers
| Annual sales | $3.5 billion |
| Gross margin | 10.7% of net sales |
| Operating margin | 2.4% of sales |
| SG&A expenses | 7.7% of net sales |
| Return on equity | 16.5% |
| Inventory turns | 9.5x-11x |
| Days sales outstanding | 33.3 days |
About the Authors
Thomas P. Gale is editor of MDM. Bill McCleave is president of William R. McCleave & Associates, a consulting firm specializing in relationship management for distributors, manufacturers and customers.
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