Toll manufacturers serve a changing market

Jan. 19, 2005
Custom chemical manufacturers anticipate increasing output this year but must contend with high domestic costs and rising imports.  Each type of chemical manufacturer has a different strategy for dealing with these issues.

This month’s Informex Show promises to be one of the biggest ever: the Synthetic Organic Chemicals Manufacturers Association., Washington, D.C., the organizer of the event, recently moved it to Las Vegas, and now expects upward of 500 exhibitors and 4,000 visitors. The show has evolved into the key forum for chemical companies involved in custom manufacturing, toll processing and outsourced chemical supplies.

Conversations with a cross-section of the show’s exhibitors give a picture of how this business is evolving. Historically, companies serving the pharmaceutical and specialty-chemical industries have dominated custom manufacturing. However, with the intense reshuffling of capacity, capital assets and product slates by major chemical companies in the past decade, the tolling business is seeing new opportunities in other types of markets, such as specialty plastics, performance materials and consumer goods. Nevertheless, it is still dominated by pharmaceuticals, where the outsourcing option has been a long-standing tradition.

Custom manufacturing, like all of the U.S. chemical industry, now is in a growth phase. According to the just-released Year-End 2004 Situation and Outlook from the American Chemistry Council (ACC), Alexandria, Va., the overall chemical industry finally achieved its long-expected upswing in production volumes and revenues during 2004, and the outlook for the next few years is strong (Table 1).

   2003  2004  2005  2006
 United States  0.2  5.5  3.4  2.9
 Western Europe  2.1  2.1  2.8  3.2
 Asia/Pacific  7.3  6.2  5.7  6.0
 Total World  3.4  4.7  4.1  4.1

ACC projects the value of 2004 U.S. chemical shipments (including imports and inventory adjustments) at $501 billion, a new record, with overall volume of U.S. plants up 5.5%. Output is projected to rise by slightly smaller amounts for each of the next two

Table 1. The table shows the percent change in chemical production volume from the preceding year for various industrial regions, actual and projected. Growth in Asia will dominate the U.S. and Europe.
Source: ACC

years. The “mañana” recovery, in which early positive signs did not pan out as time progressed, is over for the moment, says Kevin Swift, chief economist at ACC.

Within the specialty and pharmaceutical markets in which most custom manufacturers operate, the outlook according to ACC is even better. Growth in pharmaceutical output hit 6.6% in 2004. Perhaps more surprising, agricultural chemicals enjoyed an 8.8% uptick (Table 2).

   2003  2004  2005  2006
 All Chemicals  0.2  5.5  3.4  2.9
 Pharmaceuticals  0.6  6.3  4.9  5.1
 Agricultural Chemicals  0.7  8.8  1.1  0.5
 Specialties  1.9  5.1  2.4  1.2
 Coatings  5.1  3.5  1.8  1.5
 Other Specialties  1.3  6.0  2.7  1.1

SOCMA itself conducted a state-of-the-business survey last fall, and reports that the number of respondents saying that business is “good” has risen from 27% in 2003 to 56% in 2004. Members expect a 5% to 10% increase in sales during 2005.

Table 2. The table shows the percent change in chemical production volume from the preceding year for various industrial sectors, actual and projected. Growth in the pharmaceutical sector is projected to be very strong.
Source: ACC

Business models
According to Informex exhibitors, the overall business model for most of them is, “whatever works.” Being small, nimble and hungry, many of these companies will try to meet their customers’ needs however they can.

“Service is the key to succeeding in this business,” says George Austin, vice president and founder of ChemDesign Corp., Fitchburg, Mass. “You want a partnership where you act like an extension of your client’s business.”

Still, companies tend to operate under one of three general models:
True toll processors. They have a certain type of process equipment and can perform a specific unit operation efficiently and inexpensively. Examples are spray drying, milling and various types of filtration or purification.

Technology specialists. These firms have developed expertise in certain types of chemistries or reactions, either through experience or explicit company preference. They boast the necessary reactors and knowledge for processes like mammalian cell culturing, acetylation or Wittig reactions — and everything in between. Some of these companies are technology or product developers in their own right; they can be a development partner for, say, a pharmaceutical ingredient and then become a marketer of that product themselves.

Chemical supply “enablers.” A combination of distributor or importer and manufacturer, such companies, for example, might have manufacturing or R&D facilities in the U.S. that are backed up with relationships overseas, ranging from their own capacity to trading partners in China, India or elsewhere. The philosophy seems to be, “If we can’t make it, we’ll buy it for you.”

However, like chemical manufacturing as a whole, the field is changing as the ability to outsource production to China, India and other locations becomes more feasible. At the same time, many companies that have been major custom manufacturers in Europe have been increasing their operations here.

Hardware specialists
An example of a toll processor is American Custom Drying Co., Burlington, N.J. Paul McFarland, product development manager, says the company specializes in spray drying and the related activity of dry blending for a variety of clients in the fine chemicals, food processing and consumer goods markets. The company has two spray dryers, each with 5,000-lb/h evaporative capacity, along with mixing, blending and bagging equipment. “We have a long-standing partnership with GEA Niro [Columbia, Md.], a leading developer of spray drying equipment,” he says. “Our own expertise built up through years of specializing in this process, combined with the technical resources we can call on with Niro, allows us to be very flexible in what we can provide to clients.”

Most recently, the company has installed a new clean-in-place system to speed up turnarounds between production campaigns. Over the years, the firm has also built up a tank farm of storage silos that enables it to provide buffer capacity for customers who want to maintain an inventory of product.

Cleanliness is also the mantra at Pope Scientific, Saukville, Wis., a supplier of specialized distillation and laboratory equipment that has developed a toll-processing business along the way. The company, well known for its wiped-film evaporators and molecular distillation systems, will process temperature-sensitive materials for clients who either don’t have the ongoing demand to justify purchasing equipment, or who are investigating new products and need limited output before making the decision to install their own systems.

To ensure against cross-contamination, says Mark Talkington, vice president of distillation products, the company will completely disassemble its stills and condensers, “down to the valve fittings.” He says that the company is not approved by the U.S. Food and Drug Administration for FDA’s “good manufacturing practices” (GMP) for ongoing commercial production of pharmaceuticals, but offers “GMP-like” cleanliness.

Over the years, Pope has handled such high-value materials as elastomers used for heart valves and investigational pharmaceutical products. Toll processing is done in Saukville, and Talkington adds that the high value of some of the products allows materials to be shipped from abroad, processed and then returned overseas.

He characterizes Pope’s capacity as “tank wagon” rather than railcar scale. Its wiped-film stills run in continuous mode; so, production rate often depends upon how quickly the customer needs material turned around. Pope’s distillation systems range in capacity from 100 g/hr to more than 350 kg/hr.

Proprietary processes
ChemDesign focuses on a certain type of chemistry, says George Austin. The company, which is more than 20 years old, started as an independent, was acquired by Bayer in the mid-1990s, and then was sold off in 2001. “We used to do a lot of electronics chemicals work, but a lot of that demand has moved to the Far East,” he says. Current specialties are photographic and reprographic chemicals, hydroquinone derivatives and agricultural chemicals.

The firm customarily is involved in longer-term developmental projects. “It’s really a partnership,” he says. “We’ll work with the client’s technical people, solve process problems and scale-up the production. This is not a business for the faint of heart.” There is always a possibility that, after the developmental effort, a client might try to take the actual production work elsewhere. A big part of the business’s success, he says, is to do good work for a client and then get repeat business from that client.

Offering specialized technical know-how, along with developmental agreements, is a big part of the pharmaceutical custom-manufacturing business. Lonza, Basel, Switzerland, for example, has built a multi-billion-dollar business in part by providing its process expertise to pharmaceutical clients. Last summer, the company opened a new mammalian-cell culturing facility in Portsmouth, N.H., featuring three 20,000-L processing trains (Figure 2); it has just decided to add a fourth. “We view this as a continuing positive sign of the industry’s commitment to make use of contract manufacturers as a strategic tool to help manage manufacturing requirements,” the company said in a press statement. “The capacity expansion will further strengthen Lonza’s position as the leading contract manufacturer for the pharmaceutical industry.”

 However, the slowdown of new product introductions by the pharmaceutical industry in recent years has had an effect; Lonza has seen revenues go into the red in some of its business units, and is in the midst of a restructuring program that began in mid-2003. While it is expanding the Portsmouth facility, it divested a diketene business, Gulfport Chemical, last fall.

The China price
Even as it shuffles assets in the United States, Lonza is investing in China, where it has opened a new R&D facility in Gangzhou. It’s not alone: the Informex list of exhibitors is notable for how many companies coming from China, or doing business there, appear. As attendees walk the aisles Jan. 17-20, they may notice that more than half of the 55 Asian exhibitors are based in China, with India a distant second at nine. And many other firms will promote their Chinese ties and expertise.

Some of these companies are a picture of evolving U.S.-China trade. Apensia LLC, Edison, N.J., for example, has grown from being a trader of chemicals sourced in China to having part ownership of production capacity there, says Jason Chou, senior vice president. “Our management has working experience at companies like Henkel, PPG and Rohm and Haas,” he says. “We’ve been involved in setting up joint ventures in China and now we’re providing our familiarity with China to new clients.” Chou notes that the firm has grown by providing R&D expertise, based both here and in China, and by acting as an agent for companies that want to obtain manufacturing capacity in China but don’t have the sophistication needed to deal with that market. “Besides our own manufacturing capabilities, we have a network of about 80 Chinese companies that we can call on for outsourced production,” he says.

Although most companies look to China as a source of low-cost production, there is more to the equation than simply negotiating a good price. Apensia points to the role it can play in handling supply-chain issues in importing from China and in ensuring higher product quality.
Another company with a similar approach is ChemPacific, Baltimore. Jim Havlin, vice president of sales, says that it has laboratory and warehouse capabilities at its U.S. headquarters, which allow it to work with domestic customers on product development, arrange for the production in China, and then take delivery of imported product and keep an inventory on hand. When it started in 1995, the firm specialized in active pharmaceutical ingredients, but now that only represents about two-thirds of its business. Other markets, in printing inks and fine chemicals, now represent about a third. “There’s a real need with smaller chemical companies, who have a hard time dealing with the product quality and supply issues with production in China,” he says. “We can take delivery of the product, ensure its quality and basically take those headaches away from the chemical buyer.”

It has been widely noted how aggressively companies based in China, India and other parts of the world are attacking the U.S. market. Custom chemical manufacturers, despite their focus on very specific client needs, are only partially insulated from this. Taking the long view, ChemDesign’s Austin says, “We’ve seen this before with a country like Japan. There are immediate problems, like loss of proprietary technology, to deal with, and I think some companies are going to get burned. But, in the long run, we’re all competing on the basis of the relationships we build, the quality of technical support we provide, and the quality of our production.”

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