How to Reduce API Procurement Costs Without Compromising Quality

There are very real challenges related to your savings targets, and you’re right to feel the weight of them.

Prices for finished goods are dropping; boards are instructing procurement to improve margins.

API frequently ranks as the largest line item between a competitive bid and a successful one. You are right to pursue that goal.

The target, in this case, is not the problem, as it is the number that most teams optimize.

It’s very easy to measure and report the purchase price per kilogram (PPKG), and therefore, it is frequently used as the scorecard.

However, it is not very informative, as it does not reflect the supplier’s full cost to the buyer.

This guide will help you identify actual savings in API procurement costs and help you hedge against the finance team with data (also known as savings) and substantiate that the lowest price bid was not the best value.

The Cost Pressure Is Real and It Is Not Going Away

For generic products, active pharmaceutical ingredient (API) costs usually take the biggest hit.

Price erosion of finished products will be passed along the supply chain to both API buyers and suppliers.

Active ingredients usually make up the majority of the total cost of goods of pharmaceuticals in the generics market.

Because of this, API sourcing is the most significant factor that impacts gross margin, and API procurement cost is at the heart of all cost-reduction efforts within the generics space.

Finished product prices are unstable. According to various market analyses, the generic-drug price deflation from 2017 to 2018 averaged between 10% and 15% per year^[1] before deflation slowed and averaged between 5% and 10% for 2021.

One 2024 analysis noted that in the last year, the active acquisition costs for generic oral solids deflated by 25%.

This is not a cyclical dip. This is structural. It moves straight upstream:

Because of this situation, procurement teams are negotiating in an environment where suppliers have to reduce profit margins, and further reductions in price will happen in areas that are not associated with the suppliers.

This is the paradox most API procurement programs are facing: the mandate for savings is unquestionable, but most procurement programs are facing the greatest downstream risk with the least room available for price reductions.

Having established why the pressure for API procurement costs is structural, not cyclical, we will examine the metric at the heart of why the majority of cost-reduction initiatives are unsuccessful.

The Metric That Misleads You

Purchase price variance incentivizes low invoice pricing, regardless of what occurs downstream.

Total cost of ownership provides the complete economic context, and the two can indicate opposite choices.

Purchase price variance (PPV) is the difference between the negotiated/standard price and the price paid at the invoice level.

It is the number that most procurement scorecards still lead with, as it is the easiest, most auditable, and most immediate. PPV has a blind spot.

It incentivizes the buyer and rewards the buyer if a lower quote is signed in the respective quarter, regardless of whether that supplier is going to result in costs to the rest of the business.

A supplier offering an API at 15% under the market^[2] that also requires frequent retesting of batches and uses a high-risk logistics corridor is, in fact, not cheaper.

It is, in many instances, going to be more expensive than the supplier that is in the business.

Total Cost of Ownership (TCO) is the most important number: what every cost of a supplier, and the ensuing relationship, from invoice to release, is, in the end, going to be quantified at a level of usable material of a kilogram.

What Purchase Price Variance Looks Like

​What Total Cost of Ownership Looks Like

Source: TCO cost categories adapted from.^[3]

Here is a noteworthy point for the next savings review: a ‘saving’ that incurs a greater cost elsewhere is not a saving.

It is a shift of cost from procurement’s scorecard and into manufacturing, quality, and regulatory.

We now understand why PPV and TCO might not align.

Let’s consider the consequences of an entire market optimizing for the former.

What Price-Only Procurement Actually Costs

Problems with the directly documented failure mode are huge enough that a cost-of-quality calculation would be beyond the limits of a standard price negotiation.

Furthermore, there is a cost embedded in regulation for switching suppliers of an approved product.

The regulator’s own finding

This position is validated here by the facts rather than the opinions.

Evaluating decade-long Drug shortages, the FDA-led Drug Shortage Task Force identified one case among three where the market neither recognizes nor rewards manufacturers for mature quality.

It implies that suppliers with continuous improvements and proactive supply-chain issues show no commercial incentive.

This is a real problem, demonstrated in the shortage data.

According to the FDA’s 2019 report, quality issues were most prominent, causing 62% of drug shortages^[4] for this sample.

Additionally, years of decreasing sales and prices were reported for more than half of drugs that went into shortage.

This statement does not undermine pricing competition.

It is proof that, when pricing competition is the only metric identified by the market, and there is no reward for reliable pricing competition, the market is going to cause the failures and disruptions most customers seek to avoid.

The arithmetic of failure costs

It is estimated that the cost of poor quality is 5-35% of total sales across the manufacturing industry.

In the context of the internal failure costs of pharmaceutical GMP manufacturing, these are estimated to fall within the 15-20% range of total sales.^[5]

While these numbers can be used as ranges, they should not be viewed as hard and fast numbers, as they will differ by product, maturity of the manufacturing and quality processes, and the point of detection.

The point of detection will impact the costs significantly:

While the costs associated with a single defect may be in the millions of dollars, these costs can be easily justified in the context of a 2-3% cost savings achieved.

The switching-cost trap

In the United States, changing or adding a new API supplier to an approved product is more than a purchasing decision.

It often requires the filing and review of a Prior Approval Supplement or similar regulatory filing. Other jurisdictions have similar change-control procedures.

Typically, there is an expectation of comparability testing, data on the API’s dissolution and stability, and a new regulatory filing for every jurisdiction in which the product is approved.

The review timeframe can range from a few months to over a year.

What does this mean for a purchasing decision for an already approved product?

It means that, to garner net savings from switching suppliers, the new supplier must charge a significantly lower price that offsets the cost of the regulatory filing.

The analysis and stability testing, and the qualification and submission costs for every jurisdiction in which the product is approved.

​Now that we have determined the cost of price-only procurement, let’s explore areas where real cost savings can be achieved without risk.

Seven Levers That Cut Cost Without Touching Quality

There are specific types of savings that can be realized when procuring APIs (Active Pharmaceutical Ingredients) other than savings that come from unit price costs.

These savings can be achieved through seven procurement levers and can be ordered from the fastest and lowest risk to the most structurally deep.

Achieving these savings does not require a reduction in quality.

Lever 1: Start with indirect and logistics spend, where there is no quality exposure

Freight, warehousing, laboratory services, and facility-related expenditures are completely outside the quality system.

Since these expenditures don’t require regulatory filing or change-control activities, this spend renegotiation or consolidation can be performed without any of these activities.

One advisory analysis of a life-sciences company brought to light only direct-spend optimization and identified about €10M indirect spend optimization improvement.^[6]

Lever 2: Consolidate volume with fewer, already-qualified suppliers

Consolidate demand across sites and business units for suppliers that have already been qualified.

Reduce costs by decreasing the pool of active suppliers.

Increase negotiating power by committing to greater volumes with each supplier.

Work within the existing qualified supplier base to avoid incurring costs for new qualifications and audits.

Be mindful of concentration risk; do not create a single point of failure by consolidating too much.

Lever 3: Buy direct from the manufacturer rather than through intermediaries

Where a direct API manufacturing relationship is available in the market, removing a trading layer removes that layer’s margin.

Greater access to batch documentation, manufacturing information, and change notifications is likely to occur, which also reduces the buyer’s cost of oversight.

Not all intermediaries add unnecessary cost (some do add genuine logistical, regulatory, or market-access cost), but where it is possible, a direct manufacturing relationship is likely to be the more transparent choice.

Lever 4: Trade commitment for price through longer agreements

Committing to product volumes over several years, and especially the associated multi-year contracts, sometimes gives more favorable pricing and ensures better supply.

Match the term to the product:

Avoid long-term (multi-year agreements) commitments for products that have structural rapid price erosion. (Especially when the contracts do not have flexible pricing.)

Lever 5: Move from transactional buying to collaborative supplier management

By giving suppliers access to production estimates and quality information, suppliers can better plan the scheduling of batches, raw materials, procurement, and capacity.

Some of this capability can be returned as a price.

One described industry example found a 5 – 15% API cost reduction accomplished over a 3-year partnership.

Treat this as a described example, not an assured outcome for all partnerships.

Lever 6: Improve forecast accuracy and order economics

Inaccurate forecasting incurs costs that don’t factor into price discussions.

These include rushed air freight costs, partial container shipments, emergency premiums, and excess safety stock.

Improvements in demand signals and production planning, and making full container shipments when possible, all lower the landed costs without making any changes to the product specifications.

Lever 7: Attack failure costs, the largest hidden pool

Because internal failure costs are often cited as being between 15-20% of revenue for pharmaceutical manufacturing, decreasing the rejection and retest rates by one point will, in most cases, provide more financial benefit than negotiating the unit price by one point.

This is an example of a very general cost-escalation logic. It is inexpensive to avoid a defect; it is more expensive to find (and fix) a defect during an appraisal, and it will cost much more if a defect is found after the product is released.

Lever	Common Effects	Quality Risk
Optimization of Indirect Spend & Logistics	Immediate impact since no regulatory filings are required	None because it is outside the quality system
Volume Consolidation to Qualified Suppliers	Improves price and reduces transaction cost	None if suppliers are already qualified
Purchasing Directly from the Manufacturer	Eliminates the middleman’s margin	May lower risk due to increased provenance
Long-Term Contracts & Price Locks	Stable pricing and guaranteed supply	None because it is a commercial decision
Supplier Partnerships	Claimed to be 5-15% over a period of three years	None because it is a data-sharing improvement
Order the Correct Volume & Order Economics	Lowers landed cost and cost of carrying	None because it is a logistics improvement
Failure-Cost Reduction	Quality typically improves and is one of the largest savings pools	Negative risk

​Looking across all seven levers, the main point to derive here is that API cost reduction relies on eliminating waste and friction and removing unnecessary intermediaries.

It does not depend on a decreased quality of the APIs. Now that we have identified the opportunities for cost savings, we will describe the measures that appear to yield savings, but in fact do not.

The False Economies to Refuse

Some cuts save money this quarter, but create greater costs later. Understanding this enables procurement to resist the pressures that create these cuts.

Tender rules, finance targets, or quarterly savings mandates push procurement professionals into cost cuts and, often, cuts for the sake of cuts.

The aim of a TCO model is to provide a persuasive reason for procurement to contest these goals when the math confirms these goals.

The Savings on Paper	Actual Costs
Supplier qualification and audit process shortcuts	Weaker supplier controls can cause loss of supply-chain continuity and compliance. The purchasing party may take responsibility for the supplied materials.
Shortening identity verification and quality checks	Quality issues may remain undetected due to a lack of independent verification of supplied materials.
Using a cheaper approved source	Potential costs for PAS or variations, comparability and stability studies, and other regulatory requirements in every country where the product is registered.
Single-sourcing at the cheapest cost	Supply-chain disruption and a lack of robust resilience to dependence on a single source.
Buying from third parties with obscure supply sources	Poor supply-chain visibility and a lack of adequate audit and oversight controls.
Pushing suppliers below costs to sustain quality	Market failure to supply quality products; the FDA has cited quality problems as a primary cause of drug shortages. Quality may also be compromised.

Source: Regulatory and switching-cost points per.^[7]

None of this goes against negotiating toughly. This goes towards negotiating using the number that represents the true cost of the decision.

That’s exactly what Section 6 is designed to do.

Now that we’ve identified the cuts to be rejected, let’s develop a model that allows procurement to argue this with quantitative data.

Build the TCO Model That Wins the Internal Argument

An effective TCO model can exist outside the constructs of a consulting framework.

With five steps and eight cost categories, the focus of your internal discussions can meaningfully shift from “who has the lower price” to “who actually has the lower cost.”

Cost Category	What to Include
Acquisition	What is the unit cost? What will payment terms look like? What will the currency exposure be?
Landed Cost	What are the freight, insurance, duty, and clearance costs? What is the cost of handling?
Quality & Release	What is the cost of incoming tests? What about retests? How long is the release cycle?
Qualification	What is the cost of an audit and test samples? What is the cost of sample testing and qualification? What is the amortized cost?
Regulatory	What are the variation and change-control costs for each regulated market?
Inventory	What is the carrying cost? What costs relate to safety stock? What is the cost of a safety-stock shelf-life write-off?
Failure	What is the rejection rate? What is the cost of OOS investigations? What are the costs of lost production slots?
Reliability	What is the cost of expedited freight? What is the stockout and downtime exposure?

The most important figure in this exercise is the cost per kilogram of released usable material, not the cost per kilogram purchased. Typically, that small adjustment flips the decision.

​We now have a way to compare suppliers based on total cost. Let’s examine a supply relationship based on that logic.

What a Cost-Efficient, Quality-Assured Supply Relationship Looks Like

There are different ways to describe supplier attributes that diminish total cost.

Supplier attributes related to cost containment and supplier attributes associated with quality assurance are, in essence, the same supplier characteristics, described from different perspectives.

A relationship that lowers total cost generally includes a direct API manufacturer relationship (i.e., no intervening trading companies), WHO-GMP API supplier credentials that can be verified, and operational stability sufficient to support multi-year commercial contracts.

Consistent batch documentation that minimizes the time required for routine testing and batch release, and the courtesy of advanced notification for expected changes that avoid regulatory compliance issues.

The cost of doing business in this model is a straight line. Documenting quality systems eliminates the cost of testing and investigation.

Stable quality systems eliminate the cost of failures. Change control systems mitigate the cost of responding to regulatory changes.

A stable supply eliminates the cost of unplanned procurement and expedited freight.

Other longer-term commercial relationships built on similar foundations offer cost certainty for longer periods.

This is the model on which Actiza Pharma is built. If your team wants to see if our model holds for a particular molecule, provide us with the molecule, a quotation from your current supplier, and pertinent logistical assumptions.

A landed cost comparison will be done on a TCO basis. Cost savings cannot be guaranteed, but we assume the true value is in actually seeing the cost.

Frequently Asked Questions

Conclusion

The pressure to lower API procurement costs is valid, and although the savings are not likely to be in the places cost reduction programs search, the savings are there.

They can be found in spending on logistics and indirect costs, in volume consolidated on qualified suppliers, in the margin of intermediaries eliminated by direct purchasing.

In long-term commitments exchanged for favorable prices and forecast greater accuracy, in joint relationships with suppliers, and in cost of failure, which far exceeds the cost of any one-off, small, unit-price reduction.

There is little to no evidence that buying the cheapest kilogram and then ceasing any further analysis works. Section 3 shows the regulatory evidence.

Buying the cheapest kilogram leads to suppliers who are not investing, quality systems that are not rewarded, and the market having to periodically adjust itself with shortages and disruptions.

The simple way to measure the costs to break the paradox is to measure the cost per kilogram of usable, released, and ready-to-use material, instead of the cost per kilogram purchased. In most cases, this provides clear guidance on the sourcing decisions.

If your team wants to make the comparison on an actual molecule, Actiza can provide you with the landed cost and TCO of your current supplier.

Just bring your assumptions, and we will provide you with the answers.