On this episode of At The Speed of Lighthouse we’re talking about the importance of actually determining what a price is and what factors influence the economics of a device that’s under consideration for inception.
We will get a sense of what considerations go into determining the cost factors and price points for clients, as well as when to pick that up in the process of conception to commercialization. We’re joined by the CEO of Lighthouse Imaging, Robert Austring.
Q – Justin Starbird: Tell me a little bit about your overarching thoughts on how you start to help a client identify those different processes?
A – Robert Austring: The bottom line is, fundamentally many clients, even companies, whether that’s startups, Fortune 500, Fortune 100s, don’t take the economics into consideration early enough in the conceptualization of a device. It’s extremely important that you consider the economics before you even put pen to paper, relative to designs.
I can tell you I have experienced personally a number of situations, and I have worked with clients that have experienced the same thing, where we design a product that is fantastic relative to its importance, it’s a beautiful device, but at the end of the day, it doesn’t meet the economic targets. In other words, they can’t sell it profitably. That’s a big mistake. I can tell you, firsthand.
Now, there’s a Fortune 100 company that spent three and a half years developing a product, invested over $4 million in the development of that product, and came to the point where they were considering its launch, and came to the realization that it wouldn’t meet the economic targets, and they had to shelve the product. That’s a travesty. It’s really important that clients, that companies consider the economic side of the equation from inception, from the very beginning when you’re considering the development of a device.
Q: Let’s take a step back for just a moment then because those are really good points, I want to ask how do you get to that point, how do you understand what the economics are before you get started if you don’t have a product? Before we get into some of those questions, how do you help a client define that targeted acquisition price, if you will, or the factors that could potentially influence the price? Let’s go at it from that perspective, for us to understand how Lighthouse helps their clients define those things.
A: When we are evaluating a prospect, we go through a discovery process to make sure that there’s alignment between the two companies, to make sure that both companies’ objectives are going to be met. Fundamentally, Lighthouse is a contract manufacturing firm that designs and develops the products that we take into manufacturing for our clients. The very first meetings that we have with our clients, I ask them what their targeted acquisition price, and targeted acquisition price being defined as the price they’re prepared to acquire that device from a contract manufacturer. How much do they want to pay?
It’s interesting, in many cases, they haven’t considered that number yet, which is not a good place to be. What we’ll do with them is we’ll walk them through that process. They have to sit back and they have to go out and determine what is the selling price that the market will bear, what are the reimbursements that Medicare, Medicaid, insurance companies provide for that device. Then they have to back out of that, the margins that they intend to realize on their sales, and that’s going to leave a number.
That number really, theoretically, is an acquisition price. What we want to do is make sure that number’s realistic. By having those conversations, we can bring that out on the table very early on to make sure that, one, it’s thought through, and two, we have a realistic number.
Q: To be clear, a lot of times, a client will know what they’re potentially selling the product for, or eventually going to sell the products for, but then they haven’t really considered what the actual acquisition price from the contract manufacturer would be, and that’s where you guys help walk them through, backing those costs out from end price to actually going back to manufacturing, does that occur often?
A: Probably 50% of the time, maybe a little more.
Q: That 50% of the time that you guys help them with that, does that end up changing the end price in the market for them, so that they make room for the contract manufacturers?
A: Not typically. In many cases, we might shelve the program because it’s not realistic. This is an ongoing process. It becomes a specification at concept. One of the first phases that Lighthouse engages in is the planning phase. We know, going into that planning phase, what that targeted price is. Product development is a dynamic process. Decision points occur along the way as you pursue the development of this device.
In some cases, they impact performance. In some cases, they impact schedule. In some cases, they impact budget. In some cases, they impact acquisition price. We’re continually talking, collaborating with our clients around these decision points and balancing the decisions that are being made, pros, cons, et cetera, and the impact on those four factors, of which acquisition price is one of those. It’s very important that it’s in the conscious stream of thinking as we work through the development process, and not, “Oh my goodness,” at the end of the development process.
Q: Once you’ve defined that at the outset, that certainly helps to bring the final product to commercialization, and if 50% of the time they haven’t thought through that– how often would you say that you help them shelve a project, versus, they end up having enough margin in there to keep the acquisition costs of the project?
A: Well, ideally, we never shelve the program. If in that additional discovery process where we’re determining if there’s a fit– Lighthouse has a pretty strong understanding, a pretty well-developed understanding of what the project is going to take to develop, so what that budget looks like based on the requirements. We’ve also developed a pretty good feel for what that’s going to take to produce that product, what that acquisition price is. If they come into that discovery call and they’re unrealistic, many times we’re not going to pursue that program because we know that we can’t accomplish their objectives, and that’s a no-win for both companies.
It’s a no-win for our clients because what we don’t want to do is take money that doesn’t result in a commercially viable product. For Lighthouse, we want to invest our resources, our product development resources into developing a product that’s going to achieve manufacturing state. In the case where that target isn’t realistic, we’re probably going to try and step away from that program or continue dialogue to see if they want to adjust their margin or adjust the expectation for the market, or tweak the requirements for the product. Maybe step back and eliminate some of the features in order to accomplish that target.
With that said, as we work through the development process, there are trade-offs that have to be made, and there are implications, as I said before, on schedule, budget, but also on product cost. We have to have those discussions. Do we want to descale this? Do we want to de-feature this in order to continue to achieve your target, or can you absorb some additional cost because you want to add some bells and whistles that are going to impact that acquisition price? It’s an ongoing dialogue. The further down that development process we get, the more expensive it is for both parties to realize we can’t get there from here. We really want to avoid that.
Q: The whole idea is bringing them to commercialization. Let’s talk a little bit about some of the projects that you can talk about, and hear a practical example of that.
A: Well, every project is different relative to the device and the price it will bear. As we have talked about before, in many cases, our devices are complementary to the primary device so the economics can get complicated. We’ve worked on products that are capital or capex, durable products that are reusable over time, and those typically have a little more latitude, and how you can manage the acquisition price, how you can manage the sales price in the market. Is it consigned, are you doing a per use case? Are you selling it outright? There’s a little more latitude in the durable goods than there is, say, in the disposable goods.
The disposable side, it’s a single-use, you’re paying for it right then and there. That’s probably one of the more challenging type of products to accomplish the targets around pricing, because obviously the clients knowing it’s a single-use device, have to make that device attractive to the market to purchase. Which compresses everyone’s margins, and invariably, they’re always trying to compress your CM margin. Those are a bit more challenging. I can’t get into specific projects, but I can talk to you generally about the variety of projects that we engage with that have some implications around that.
For disposables, is then a further example, maybe we try and limit how much of it’s disposable. We would make part of the device reusable and part of the device disposable. If we can do that, we can then limit the amount that’s disposed of after its single use, and limit the number of materials and the labor that goes into that because it’s only one small factor of the overall device. We might try and approach the design of that by segmenting that device. That’s what’s important is you have to approach the design to accomplish the client’s targeted acquisition price.
Q: When you come into a potential discussion on that approach. How does Lighthouse evaluate each side? Do you come at the disposable versus the renewable the same, or you come at them differently?
A: I think we have to come at them to some degree differently, but there are three primary factors that have to be considered in the acquisition price. They have to do with material, they have to do with labor, and then they have to do with margin, and that would be the Lighthouse margin. Obviously, we’re in a business to make a margin, so we have to balance those three factors. If we talk about materials for a minute, and you think about disposability, you want to limit the materials that are resident in that disposable device, because the more materials you have, just logically, there’s going to be higher costs.
Each material has a cost, and it’s additive. If you had 10 materials at five bucks a piece, there’s 50 bucks, if you had three materials at five bucks a piece, there’s 15 bucks. You have to be considering the design from the materials that are integrated into the device, whether it’s reusable or disposable. The other factor and frankly, materials can be managed based on some procurement strategies. So you have some more levers to pull as you’re trying to define and absorb cost around material. You can go out and do an annual buying, so that you leverage economies of scale, you can go out and do a three year buy.
This is where volumes become important in the procurement strategy, and this is why it’s important that we work with the client to understand their projected volumes at year one, two and three. At year one, everybody’s going to suffer some margin, the costs are going to be higher because you have such low volume, but you don’t want to invest a lot into, say, automation because you don’t know what the demand is going to be. So materials have some opportunity to leverage procurement strategies. The other factor being labor, labor is typically the largest contributor to cost in our industry, in these devices.
We have to develop from the onset, a labor strategy. We have to design this for manufacturability, and what we’re trying to do is mitigate the amount of labor that’s applied into the device. You sit back and say, “Hell, let’s just automate this thing and eliminate all the labor.”
Q: Get some robots in there.
A: Yes. Well, here’s the problem with that, that’s a big investment, that’s seven-figure investment, that may be a million dollars or more depending on the complexity of the process. Well, who’s going to invest a million dollars before you have a product, before you have an understood market adoption and acceptance? Nobody, very few people are going to. You have to approach this thinking about how do we develop a platform for manufacturability, and then build upon that platform year over year? We refer to that as a step strategy.
Year one, more intensive labor. Year two, you reduce the labor. Year three, you reduce the labor. Year five, maybe you’re fully automated and you’re pumping out one hundred thousand a month, but those things, those factors for manufacturability have to be considered from concept. You have to design that device to be manufactured, leveraging materials and leveraging labor.
Q: Today, where the labor market is a little bit of a challenge just to find qualified folks to do different projects, how does Lighthouse make sure that they compete, and what’s been your approach to keeping those people, and keeping the quality for your clients?
A: Well, we have to have an extensive training program here because of the type of assembly that’s engaged here at Lighthouse. It’s very precise, and it requires strong manual dexterity and some unique skills. Those aren’t necessarily things you’re going to just find when you go out and post that you’re ready to hire manufacturing associates. We have to invest time in training our associates, and assessing their skill sets. Not everybody can do this, I’ll tell you right now. I could not get out there and assemble one of these devices.
I just don’t have the mindset for it. I don’t have the dexterity for it. It really is a special skill set. So we have to go out and bring those people in here that have that potential, and it’s almost impossible to interview for it, you really don’t know until you get them under a microscope and handling very small parts. A lot of the stuff we do, or everything we do is sub one inch. In many cases, it’s about a quarter of an inch, an eighth of an inch, just very, very small stuff. It takes time, it’s an investment on our part to educate, train these people and bring them on board, so they’re a very valued asset for us.
Q: Absolutely, I would say that would be one of your assets there is the people that you have working, for sure. At the risk of being obvious, let’s talk a little bit about some of the consequences that a company would have if they ignore the feedback and the approach that Lighthouse takes. What are some of the biggest pitfalls that occur when companies don’t heed your advice?
A: Well, the most catastrophic is obviously, they don’t have a product to take to the market, because the economics just don’t work, but there are iterations of that. Generally speaking, once we get through development and we’re at the end where we’ve done a design verification, which essentially says that we’ve met the specifications that were agreed to between ourselves and our clients, then they’ve gone out and done a design validation. Which essentially is utilizing the device in the real world, actually using it on patients, and doing a design verification. Of course you have to lead up to that, but by that point pricing is clean.
Pricing is understood and in fact, we’re typically engaging into manufacturing contracts at that point in time, because we understand what the price is, what the volume impacts are on pricing and the client is very comfortable with that. When we get to that point it’s well understood and we’re ready to go to commercialization. It’s leading to that point where all the challenges occur. I can tell you there have been on occasion where we’ve had to shelve a program once we got through the planning concept phase, because it was apparent that we couldn’t achieve pricing.
The sooner that we understand that, and the sooner that our client understands that, the better for both parties. You don’t want to create ill will. The client may need to go back to the drawing board and reconfigure what they’re thinking about for the device. If we can figure that out in a concept phase, they’ve invested very little dollars and now they can go back before they invest hundreds of thousands, or millions of dollars. It’s important that you address that, and get some agreements very early in this process.
Q: Those are obviously great examples of ways to avoid that. Do you ever run into issues where you’re picking up a project that was started by a design only type of firm, or a company that doesn’t have the full capabilities of manufacturing as well, built into their structure?
A: I’m glad you brought this up. This is a real challenge and I don’t believe clients are always educated to the downsides of engaging design only firms or NRE firms. These are firms that specialize in designing products and devices. I will tell you that I used these firms in some instances where there’s some industrial design maybe that I need to leverage, and they have that expertise. Or where there’s some special component level products that I need, that I want to integrate into a device. The problem with using design firms is fundamentally, they’re not designing it for manufacturing. They’re designing it to meet clients’ expectations.
They’re designing it to meet client performance. In many cases, they don’t have the manufacturing experience to be able to approach this from a manufacturability perspective. They will tell you they do that. They will tell you that they have CMs they work with routinely, but unless you’re out on the floor day in and day out, you’re just not that educated to understand the pitfalls and where the problems can lie, relative to producing this product and meeting those cost targets.
It’s important in that if anyone listening to this, takes something away from this, it’s that, please challenge the firms that you’re talking to about designing your product or even challenge your own internal resource to make sure they’re addressing manufacturability and cost at inception.
Q: What type of questions would they be asking those folks to come back beforehand? Are there specific questions that they would be asking them, say, to determine their depth of knowledge for contract manufacturing or for manufacturing in general?
A: Well, the first and most obvious question is how do you address cost in your design? The second thing and delving deeper is helping understand what your development process looks like. How do you handle your design control process and where does manufacturability come into that process? There are many systems, and I’ll tell you, people are getting better at this today, but there are systems that don’t begin to address manufacturability. They’re into the third or fourth phase depending on how their design control process is playing out, and I’m telling you that’s too late.
Q: Right, well because they set unreal expectations, because you have this very pretty object that they see on the screen but it doesn’t actually have real life functionality or the cost of materials that they’re projecting to use don’t fit the price point at the end of the day. Is that accurate?
A: Yes, that’s exactly right.
Q: I think there are a lot of the things that make the company that you run, Lighthouse Imaging, so unique, is that you see it from conception all the way to manufacturing and beyond. I feel like that’s something that’s continued to separate you and put you in a different class. That’s really exciting to hear about more of your approach and how you do that. Do you have any final parting shots, if you will?
A: I do. The thing that I’m most proud of, and the approach, the business model that I’ve put together here is that we’re in partnership with our clients. To expand on that just a minute, what that means is we both desire to get this product into the market as quickly as possible. We both desire to generate revenue from manufacturing, from sales of this device. We share that objective. Many of our competitors are design only firms, and their objective is to design the product on the clock for the client, meet the client’s expectations, but their revenue generation occurs as a function of the design work.
Sorry guys, but their motivation isn’t nearly to the level that mine is, and mine is, “Let’s manufacture this product.” They want to design the product. Well, they’ll tell you that they are your partner, in reality, it really doesn’t service them to get you to manufacturing as rapidly as possible. That’s the Lighthouse model. That’s our partnership value proposition. Guys, I have yet to meet a client that wants to continue to spend dollars on product development.
They don’t want to do that. They want to get that product to market and that’s what we help them do. We help them consider all those factors, such that we drive this through an efficient design process, looking out for those pitfalls early on in the process, to ensure that we can compress schedules, and deliver product as it says, the speed of light.