A prominent news item in this trend was the announcement by supplement manufacturing giant NBTY in a recent earnings call with analysts that it is extricating itself from its contract manufacturing activities. Contract manufacturing as a sector has always tended toward secrecy, with companies wanting to keep raw material sources and client lists private insofar as possible. A number of industry observers have speculated that NBTY’s move had to do with the actions of New York Attorney General Eric Schneiderman, whose high profile investigations of the dietary supplement industry (including one just this week that involved NBTY directly) have increased potential liability for all manufacturers. NBTY has declined to comment further on its contract manufacturing decision.
While not discounting those pressures, competitors in the contract manufacturing game said that action could also be seen as part of the company’s longer term strategy.
“I think when they were acquired by Carlyle Group a few years back (the deal closed in 2010) they announced significant plans to promote their own brands,” Mark LeDoux, CEO of contract manufacturer Natural Alternatives International told NutraIngredients-USA. “Their new president comes form the consumer products arena, and they have some brands that have substantial position in the marketplace.”
Cal Bewecke, CEO of Ethical Naturals Inc., said that the contract manufacturing game has become increasingly competitive for a variety of reasons, making the decision to continue with a lower-margin end of the business (as opposed to concentrating on boosting the demand for higher-margin in-house brands) harder to support.
“There are several levels of contract manufacturing, the highest volume is at the mass market level, in which large companies like NBTY are very involved. This sector of the business has become increasingly competitive in recent years with techniques such as reverse auctions inviting cut-throat competition and shaving profitability to a minimum. Now, another factor has entered the picture: a number of mass market chains are manufacturing their tablets and capsules in China, bringing them to the US for bottling only, and to earn a ‘Made in the USA’ label on the bottle,” Bewecke said.
“Combine these trends with ever increasing quality assurance requirements, some of them due no doubt to the NY AG event, and a large volume contract manufacturer may indeed see that the liability has grown, while profitability has decreased, to where it no longer makes sense. Focusing on a company’s own brand changes this balance of liability and profitability,” he said.
Better to let the line lie idle?
LeDoux said it has been a common thought in the dietary supplement manufacturing sphere that doing some contract manufacturing on the side can be a way to keep a manufacturing plant built to make a company’s own brands operating at full bore as the demand for those in-house brands grows to match that capacity. It makes sense at first glance, he said. But contract manufacturing is a whole different ball game, he said, and trying to manage your own brands while simultaneously fulfilling the expectations of other brand holders can be a complicated dance. Some companies might look back and think that allowing manufacturing lines to sit idle from time to time might have been the wiser choice.
“I think it’s totally logical and that’s the way things used to be,” LeDoux said. “But I think this mindset of ‘build the plant and they will come,’ I don’t think that works anymore. Contract manufacturing is really a different discipline. It’s a different mindset, a different cost and benefit stream.”
Nevertheless, a number of prominent dietary supplement brands that make much of their own product line also successfully manage contract manufacturing side operations. The key to that success can often be found in the ownership structure of the parent company and that of its contract manufacturing clients, said Utah-based consultant Bruce Remund.
Private ownership eases relationship
Remund has experience in the contract manufacturing game having been CEO for several years of VMI Nutrition until being bought out by a partner (the company now goes by the name of Genisys). Remund said managing all of the moving pieces of a humming contract manufacturing business—the overlapping and perhaps conflicting demands of customers and the large number of raw material suppliers involved—is vastly simpler if the contract manufacturer is privately held and its clients are, too.
“We loved to do business with suppliers as well as brands that were privately held because we could develop relationships with the people who could make decisions. We had a specific program of strategic partnering where with certain partners we had a view that we’re in this together, sharing financials and formula information,” Remund said.
Having a cadre of reliable privately-held clients can provide the bedrock on which a successful contract manufacturing operation can be built, Remund said. Those contracts function almost like bonds in an investment portfolio. Not very sexy, and unlikely to make you rich quickly, but always there to help keep the lights turned on.
“I had a $50,000 client, and I had zero risk on that contract. They always paid on time, and they used existing ingredients from our stock. Those kind of contracts really help in the management of raw materials,” Remund said.
Big contracts, especially those from publicly-traded companies, carry more risk, Remund said, especially if the formulas call for unique raw materials.
“You might have a CFO who has never been out on the manufacturing floor and they are getting pressure on margins and they are trying to meet short term goals. The demand for the product spikes and they get mad because you can’t instantly get in 20,000 kilos of some raw material that you’ve never needed more than 5,000 kilos of in a year before,” Remund said.