Supply Chain Nightmare: The Baby Formula Shortage

Find out the real reasons for the baby formula shortage

Just as the world began to emerge from our COVID pandemic supply chain woes, it hit. What happened to all the baby formula? From mothers and infants crying on social media to live camera reports from aisles at Target and Walmart, Americans woke up to find a critical product missing from the valuable real estate of the baby section on store shelves.

Interviews with C-level supply chain experts, politicians and retailers all evince concern, shock, and worry, but the question is, was this truly unforeseeable?

Is this a supply chain problem?

Yes, but it is not completely supply chain in nature. Theoretically, supply chain management seems quite simple. Add on the complexities of U.S. trade and tariff policy, politics, and FDA regulations, however and there is a different story behind the story of the baby formula supply chain woes.

How Did This Happen?

Baby formula manufacturers initially faced a shortage of raw materials and production slowdowns due to the COVID pandemic. Additional supply chain disruptions did not help matters. Supply chain management challenges including the Ever Given obstructing the Suez Canal in March 2021 for over six days, the logjam of hundreds of container ships waiting to be unloaded at U.S. ports, the semi-conductor shortage, and a myriad of other disruptions had an impact on this and may other products along supply chain networks.

The out-of-stock rate of infant formula increased from around 5 percent in January 2021 to 43 percent in May 2022.

On February 17th, 2022, there was a voluntary recall by Abbott Nutrition, maker of Similac formula after 4 infants were admitted to the hospital with bacterial infections. Two babies died. The Sturgis factory, site of manufacturing of this formula was closed so that a thorough investigation could be undertaken. To date, there have been no new cases, but the FDA had not approved reopening the Sturgis facility so there has been no production since February.

This facility makes nearly half of the US supply of Abbott product and is also an essential supplier of specialized infant formula for babies with allergies and health conditions which mandate a specialized diet. No matter how resilient a supply chain is, closing down a manufacturing facility that produces half of America’s supply of baby formula and keeping it closed for months is bound to have a major impact.

More of the Back Story

Two companies, Abbott Nutrition and Reckitt Benckiser, which makes Enfamil are responsible for 80% of the production of infant formula for the U.S. market. The Gerber brand of infant formula made by Nestle makes up 10% of the total supply of infant formula sold in the United States.

These three manufacturers are the only manufacturers approved by the United States government to provide infant formula via WIC, the Special Supplemental Nutrition Program for Women, Infants and Children. Approximately 50 percent of all baby formula sold in the United States is paid for by the U.S. Department of Agriculture through its WIC program.

Did you know that the United States government is the single largest customer in the United States for baby formula?

The federal government funds WIC which provides grants to each state to fund programs which provide supplemental food assistance to lower income families. Each state then contracts on an exclusive basis with one of the three infant formula manufacturers, effectively creating a monopoly at the state level. This process enables the government to get a major discount on infant formula.

The U.S. Department of Agriculture has conducted research into this strategy and has determined that the company that wins the business of a respective state effectively controls that market. Because of the dominance of the manufacturer and large volume of sales due to the WIC program, retailers provide preferential shelf space to the WIC contract holder. Studies have shown that pediatricians tend to be more likely to recommend the brand of formula with the statewide WIC contract to their patients. These factors combine to present a powerful competitive advantage to the four primary manufacturers of a product that is often critical to the development and health of babies.

The sheer volume of sales and guaranteed market position puts a damper on competitors as the financial incentive to compete in that state is dramatically reduced.

Because of the large amount of funding provided through the WIC program to these three companies, it has been challenging for other companies to gain market share in the baby formula market. Adding to this, only a few manufacturing facilities have been approved to manufacture baby formula in the United States.

98% of infant formula sold in the U.S. is produced in the United States.

Tariffs, Global Trade Policies and Regulations

Although there are infant formula manufacturing facilities in other countries which do meet the nutrition standards established by the FDA including Chile, Mexico, the Netherlands and Ireland, the companies in these countries do not meet the label standards established by the FDA. This means that they are unable to export their baby formula into the United States. Although consumers have ordered infant online from outside the United States, it may be confiscated at the border.

Even for products that do meet FDA standards for nutrition and labeling, there are additional challenges to break into the U.S. baby formula market. Restrictions and regulations, taken together, make it overly complicated and time consulting to bring the product to the American market.

Did you know that imported infant formula is subject to a 17.5% tariff?

Once imported baby formula reaches the quota established for each exporter country, an extra tariff is imposed in addition to the 17.5% original tax.

Canadian infant formula producers are subsidized by their government. When the United States Mexico Canada Agreement took effect in 2020, the new law was written to make it more challenging for Canada and Mexico to export baby formula and includes a provision designed to protect American manufacturers.

Conclusion

This is not a problem of raw materials and finished product being stranded across the world in China. In this case, global supply chains do not play a major role in the shortage of infant formula.

Although the FDA has reached a tentative arrangement with Abbott Nutrition to reopen the Sturgis plant, there undoubtedly are production cycles, operations management issues, and logistics management issues to resolve before infant formula rolls out to the mothers of crying infants. Even the most responsive supply chains take a bit of time to restart after the product flow was pushed to a stopping point.

It will be weeks rather than days before baby formula from the Sturgis plant reaches distribution centers, not to mention retailers. In a written communication from Abbott Nutrition, the company notes that while the Sturgis plant could restart the production of infant formula at the Sturgis facility within two weeks of FDA approval, baby formula finished product would be unlikely to reach retailer store shelves for six to eight weeks after it was produced. Between the supply and demand issues, the lead time for baby formula to be produced and make it to retail store shelves may seem like years.

With some supply chain disruptions, we have seen that having cutting edge technologies like artificial intelligence, sophisticated data analytics, machine learning, and predictive supply chain models would have been helpful, this is not one of them.

As capital markets weigh in, this is not a problem for Wall Street but rather the social responsibility for this problem originates with government. As customer demands for baby formula seem to be on every newscast and across social media channels, the food supply for everyone, including the smallest of us, must be safe, affordable, and readily available.