In Queue, In Quandary

A few days back, I had posted a small Facebook write-up - a set of three Q&A on vaccine pricing with a hope that it would answer queries of those genuinely interested in seeking answers while demonstrating either the ignorance or the malice of the other kind, aka Left Liberal educated intellectuals. Today, I am going to present a write-up offering perspectives on the process which preceded vaccine pricing, i.e. its supply chain. This blog is an outcome of my wife's insistence for presentation on this topic as she is totally peeved with unreasonable charges being thrown across the table ignoring the supply chain management concepts of queuing, run-rates, inventory, cash conversion cycle and capex (or capital investment). Letting her stay peeved is not in my best interests - physically as well as emotionally, hence - In Queue, In Quandary. Using basic daily life examples and avoiding complication of the financial terms mentioned in the previous sentence, I'll present a simple food-for-thought perspective on this topic. By the end of the write-up, I am hoping I would have unboxed few of the answers to some of the questions swirling around, such as the following:

1. Why the Centre doesn't procure vaccines for all its people unlike some western nations?

2. Is there a vaccine shortage and production deficiency? If so, why not ramp-up?

3. Why have we not halted vaccine exports and rather, why are we not importing additional vaccines?

Imagine an urban DINK (Double Income No Kinds) couple occupied in their jobs throughout the day only having their weekends free. Such a couple might prefer purchasing their vegetables once a week. Another retired couple, say their individual sets of parents, might prefer purchasing vegetables once in two/three days and another couple, possibly the most finicky and freshness freaks might prefer a daily or even twice-a-day routine to buy their vegetables. Each couple has different preferences to storing their quota of vegetables based on certain limitations such as availability of time, preference to vegetable freshness, choice of vendor etc. However, neither couple would go for purchasing the entire month's stock of vegetables at the start of the month for the simple reason of vegetable wastage. Just as vegetables have a shelf life, so do vaccines. Unlike vegetables, the COVID vaccine is in a stage of rapid development - we have more and more vaccines hitting the market (which might translate into better pricing), we have newer efficacy trial data being released (which might mean better vaccine output at the same price paid) and we have more data on a vaccine's ability to defend against virus mutations. In such a scenario, does it make sense to procure all the vegetables at the start of the month? Sorry, vaccines, not vegetables!

Today, most of the optimal data/calling packs are designed to be unlimited plans but maybe ten-twenty years back, we had a wider range of limited talktime/data packs. To a frugal hostel going teenager, managing the pre-paid packs based on exact outgoing calls done was a rewarding exercise. So, if I was consuming only 1 GB a month (yes, it was possible in those days to survive on 1 GB a month!), paying for 10 GB a month pack would make no sense at all, does it? Our country is consuming 1.46 million vaccination doses per day (~14.98cr doses across 103 days) while the production stands at 2.5 million vaccination doses per day. So, even if the ongoing ramp-up is kept aside for the time being, on an average day, 1.04 million doses are produced in excess which are not consumed domestically. Unlike the data packs, I am aware the shelf life for these doses is upwards of six months but storage means costs especially if the vaccines need temperature control of 2-8 degrees C. What this clearly shows is that there is no vaccine shortage but it is a delivery/consumption limitation at work due to a host of possible reasons such as logistics provisions, storage limitations, medical resource & infrastructure crunch etc. As a side reading, the history of AIIMS in India (when were a majority of them announced/established) and a meagre 0.62 doctor per thousand population ratio (vs. WHO prescribed 1.0) might offer insights into the resource aspect of the earlier statement. Coming back to production, any further production ramp-up without parallel consumption ramp-up is simply going to cause greater stockpiling and more management costs. Assume an individual has a lush garden at home with a nice attractive lemon tree that produces 1500 lemons a year; let us assume he is able to consume half of those within his family. In spite of a balance of 750 lemons, would he plant another tree so that three years later its produce simply goes to waste? Does a simple planting of a tree not need additional expenses of seeds, garden space, water etc? Let us take one more example at a higher scale, i.e. of a school having 40 kids per classroom. If the school is designed to service 40 new admissions per year but suddenly in one year witnesses 100 requests, would it invest or make capital expenditures such as purchasing land, more sets of computers, additional benches, books, uniforms etc and hiring more teachers based on this single spike in admissions' demand? Or would it gauge the new requests, check out the sustainability of such excess admissions year over year for the near/mid term future, the capability to service such admissions and then the costs if the decision of expansion is taken? If decisions on lemon trees and school expansions need decent thought, wouldn't vaccine manufacturers need a significantly higher & careful thought before engaging in any form of capex for production ramp-up? Even if we argue that vaccines are public goods which demand tweaking in economic laws, can we ignore the overarching governing laws altogether? Thus, can anyone guarantee vaccine manufacturers the consumption for the next one or two years or whatever time it takes for them to recover the capex made today? If that guarantee can't be made, isn't any form of ramp-up in isolation without paying due attention to parallel consumption nothing but a commercial hara-kiri doomed to turn the enterprise into a loss making one and eventually, go bust? Any queue builds up when off-take (vaccine consumption) is lower than intake (vaccine production & delivery) - isn't that fundamental to Mathematics & Statistics? A higher queue means greater costs whether that is a queue of vaccines (i.e. storage & logistics costs) or of people outside vaccine delivery centres (the time, effort, the exhaustion of waiting, the opportunity cost due to a better utilization of the time & effort spent) - isn't that fundamental to Economics? If we as a nation are to increase vaccine dose consumption run-rate, few possible solutions can be:

1. Diversified bulk consumption which corporations, co-op societies, clubs etc can hope to provide.

2. Faster production licensing if that is feasible given the tricky nature of patenting

3. Better adherence by the public to all safety protocols (masks, isolation, turmeric intake etc), avoiding crowding hospitals for asymptomatic and non-serious cases etc - this would free up medical resources & infrastructure for faster vaccine delivery.

However, the solutions is a separate topic and out of the scope of this blog hence I'll return to the supply chain management.

I'll revisit the example of the lemon tree of the earlier paragraph and look at the other aspect of it - what would the tree owner do with the balance 750 lemons - possibly sell them to someone, i.e. export to other consumers outside the borders of his home! Excess production needs to find a channel of alternate consumption; if not, the produce goes to waste or result in a sudden drop in domestic prices which might turn the production unprofitable. Additionally, global trade & commerce means certain commercial agreements. AstraZeneca has a production agreement with Serum Institute of India and the latter can't refuse vaccine exports - that is the global supply chain at work! If India hopes to import vaccine raw materials but later refuse the final product delivery, do you think India can sustain that way on the global stage? (there is a nice short video of Dr. S. Jaishankar on this) Yes, had our daily vaccine dose consumption been say, 5 million per day, which would imply a production shortage of 2.5 million per day, then the argument of prioritizing our own people over exports made any sense. Then the question of importing vaccines too would have made sense. As long as domestic daily vaccine consumption rate is lower than the vaccine production rate (excluding foreign commercial contract commitments), there is no economic rationale in complaining against the existing export-import policy on COVID vaccines. Furthermore, to provide a perspective on vaccine imports, it is vital to look at the key numbers/facts involved. Any imported vaccine costs 3x-5x the vaccines produced in India. To add to that, foreign vaccines need a lower temperature cold storage such as that of Pfizer's at -70 deg. C. This implies incremental cold storage costs which are extremely high. Even when the conditions are normal but especially in times of fiscal stress and economic deceleration, it is simply not feasible for any government (central or state) to bear such high costs.

Th primary aim of any business is profits, within the scope of the law. A multitude of profitable businesses is what makes up the economy and every citizen's existence. For any business (a vaccine production one, in this example) to be profitable, the enterprise has to earn more on its goods/services (revenues) than it spends in manufacturing/providing them (expenses). Thus, profitability can be achieved by either increasing what an enterprise earns from its produce or lowering expenses. The former can be achieved by either selling more quantity of the product or increasing the price of the product. Both these sub-components of revenues are quite market dependent - the factors of customer demand and competition have a significant role to play. The more the market has evolved over the past few decades, the more realization of this simple fact has dawned which has started pushing companies to look at the other arm of profitability, i.e. expenses. The basic production costs incurred in vaccine production have a lower degree of company control as compared to other costs such as logistics & storage discussed above or funding costs such as interest on debt. Naturally, what distinguishes good firms from better ones is how these logistics & storage and interest costs are managed - these costs can be represented through the cash conversion cycle or the time (generally in days) between two points - the point at which payment is made to raw material suppliers to the point revenues are paid to the company by its customers. Following image might be helpful:

Legend: Inventory is purchased (A), cash payment to suppliers (B), inventory sold to customers (C) and Cash is paid by customers (D)

Now it can be logically observed that the shorter is an enterprise's cash conversion cycle (i.e. len. BD), the faster is it realizing its revenues from the moment of paying for its raw materials. Faster realization means a company's cash resources are, more often than not, available to the company for utilization instead of being locked inside the wallets of its customers where those resources neither offer any returns to the company nor can be deployed in the business. Thus the ready availability implies better choices for the management and better choices mean better profits. We have already seen that when vaccine production is much higher than its consumption by consumers, it leads to inventory stockpiling which increases the len. AC or DOH; if DOH increases, it lengthens the cash conversion cycle which means that company has, on an average, lesser cash available at hand to utilize, on any given day of operation. Lesser cash translates into delay in full payments to its suppliers. This delay will impact future business in different ways such as - suppliers refusing to supply on credit or lowering the credit period available to the company or worst, refusing to do business with the company altogether. Lowering credit period or disallowing raw material purchase on credit means a smaller or zero len. AB which in turn implies a longer cash conversion cycle once again. If payment terms to the suppliers have to be maintained, the company might need to raise short term working capital debt which would result into the company paying additional interest costs on the debt raised. Thus, in all the cases above, profitability of the company is affected either due to inefficient cash utilization or higher interest costs. In short, imagine a private bank demanding a high minimum account balance on your savings account which earns you hardly 3-3.5% per annum as against you being free to keep a zero balance account and investing this surplus into a long-term fixed deposit which might give 6% returns or a nice equity share which gives you 10%+ returns or go for a handy purchase of a mobile phone or a dine-out experience which you would have had to delay by one more month till the next salary would have been credited to your account. The lengthier the cash conversion cycle, the lesser are the optimal options and freedom of utilization.

I have taken the example of the cash conversion cycle to present a snapshot as to what impact does production ramp-up, halting of exports etc causes to the company, to the business fraternity, to the citizens, to the government and eventually to the nation. How is the supply chain affected is nicely represented through the understanding of the cash conversion cycle. There is much more that can be presented on the topic of supply chain management and queuing but the blog does have its limitations. Therefore, I'll encourage those interested to explore on the topic further.

Finally, I am aware that these are very tough times. COVID and the death it brings has reached into our homes and that of people we know, including mine. It is but natural to feel pained and angry. Especially in times like these, it is critical that we acknowledge that every system operates under certain limitations and unless we understand that and adjust for it, we'll end up making the wrong conclusions and thereby taking the wrong decisions. There is a nice organizational psychology concept for this called The Ladder of Inference. May the reader enjoy it as much as I do!

On a parting note:

Shouldn't man take decisions driven by emotions, rather than by being emotional!

Jai Hind!