Distribution Trends: 2007 Year in Review

Believe it or not, it’s time for my final post for 2007. In the spirit of the season, I take a quick look back at this year’s posts to highlight the major themes of Distribution Trends.

As you may know, I started writing this blog to help people get the most out of Facing the Forces of Change®: Lead the Way in the Supply Chain, a research study sponsored by the NAW Institute for Distribution Excellence. Many posts have been organized around the four major trends identified in the report, although other themes – economic trends and consolidation activity – generated very high levels of readership, too.

Here is a brief rundown of the year’s posts.

Trend 1: Private Label Products – The impact of private labels on channel relationships turned out to be an especially controversial topic. As I discussed in Brand Killers, private labels will continue to grow in categories where the manufacturer's brand does not add enough value to the customer. The debate in the electrical industry was particularly open because Graybar took a public stance against private labels. (See Private Label Static from Electrical Products.) I still think that private label products can be a way to strengthen manufacturer-distributor relationships by enabling the creation of jointly developed products.

Many private label products come from Asia, a fact that hit home over the summer with the recall of Chinese toys. Personally, I believe that The Risks of Chinese Sourcing have been overblown for political reasons, although private labels offer both Opportunity and Risk to a wholesaler-distributor. Perhaps we will even see a counter-trend toward Near-Shoring Private Labels from Canada and Mexico.

Trend 2: Demand-Driven Channels – The trend toward more data sharing between channel partners challenges many preconceptions about the wholesale distribution industry. I highlighted examples on the blog in channels as diverse as construction equipment and beer distribution. (I do not recommend combining the products from those industries!) Nevertheless, I believe that wholesaler-distributors should only share point-of-sale data with supplier organizations that have rigorous internal security policies for data management. (See Trust and Channel Data Sharing.)

Trend 3: New Profit Models – As I point out in Chapter Three of Lead the Way, many wholesaler-distributors are now successfully selling fee-based services and positioning themselves as suppliers of products with related services instead of only reliably providing goods. I highlighted examples from electronics distribution and industrial distribution. The new profit models trend also refers to the fact channel compensation is becoming more data-based and performance-oriented, as examples from John Deere and Coca-Cola demonstrated. I was also impressed with pay-for-performance forecasting in the beer industry.

Trend 4: Connected Customers – This trend was perfect for a blog because it refers to the growing interconnectedness of manufacturers, customers, and distributors. I advised wholesaler-distributors to Be Found Online, pay attention to Online Customer Communities, and recognize the power of Leads Searching for You. The Future is Already Here was one of the top posts this year on Distribution Trends.

Other Trends – Loyal readers know that I’ve strayed beyond the confines of the four major trends to look at other major issues.

My most popular posts (based on number of web hits) were analyses of economic trends, especially 2008 Economic Growth and You and 2007 Growth and the 2008 Economic Outlook.

As always, consolidation was a hot topic, especially as we all watched the twists and turns of HD Supply this year in Is M&A Peaking? (June), The Fallout from HD Supply (September), and HD Supply Begins to Unroll-Up (December).

Two posts on strategic planning also had very high readership. In Why Strategy Matters, I reminded wholesale distribution executives to pay attention to long-term economic trends when building a long-term vision for your company. In Building Future Leaders, I described how one CEO uses Facing the Forces of Change®: Lead the Way in the Supply Chain as a leadership development tool for managers.

What’s ahead for 2008?

I'm grateful for the positive response to this blog and very much appreciate the many positive emails and comments that I have received since launching 8 months ago.

As I told you in my 2008 Wholesale Distribution Economic Outlook, many wholesaler-distributors will face the toughest economy in nearly five years. Therefore, I plan to cover broader macro-economic developments throughout 2008 while continuing to interpret the news for wholesale distribution executives and their suppliers. Please feel free to email me if you have suggestions for topics or articles.

I'll wrap-up the year with some homegrown supply chain humor, straight from the pages of The Wall Street Jovial:

Santa's Supply Chain Keeps Pace, Despite Changes

I will be back during the week of January 8. Until then, I wish you a healthly and happy new year!

All the best,
Adam

An Ice Cold Bottle of Pay-for-Performance Forecasting

Chapter Three in Facing the Forces of Change®: Lead the Way in the Supply Chain predicts that manufacturers will use pay-for-performance programs to get more from their distributors.

I just read a great story about how a planning manager at beer-maker Heineken created a pay-for-performance plan that could be readily adopted by other manufacturers.

The original article was published in the Journal of Forecasting, but is not online. Supply Chain Digest published a good summary called Using Incentives to Drive Forecast Collaboration.

Beer Goggles

Heineken’s European-made beer is shipped to the U.S. based on orders from either its own distribution centers or orders from independent distributors. Unfortunately, Heineken was getting inaccurate and incomplete forecasts from its distributors in the Southeast of the U.S. (No, distributors did not create their forecasts after sampling products from the warehouse!)

This supply chain is fairly typical in many lines of trade. The manufacturer only sees orders from distributors. Distributors, in turn, only sees orders from their customers. There is no real-time visibility into the actual purchase or usage rate of the product by consumers, so this structure can create inefficiencies for both manufacturers and distributors. (See pages 32-33 of Lead the Way. One solution is to create a more demand-driven supply chain by sharing point-of-sale information.

Beer Games

A creative planning manager at Heineken developed a competitive contest for the individual forecasters at each distributor who created the most accurate forecast. Prizes included $500 gift certificates for the best two and four month forecasts. The best annual forecast won a $2000 gift certificate.

Guess what? Overall monthly forecast accuracy improved by 10% in one year. Another interesting dynamic was some friendly competition among distributors, although, although some distributors turned out to be better at forecasting than others. In other words, this program exposed previously hidden performance differences between distributors.

The benefits of improved forecasting to Heineken are not discussed in the article, but I’d guess that Heineken saw improved costs from better production planning and more stable production runs. They subsequently expanded the program to include other information, such as inventory reporting. If Heineken used the improved forecasts, then the program probably paid for itself.

Based on this story, here are two questions for manufacturers and distributors to ponder:

• What incentives (intended or not) are manufacturers creating for distributors with current discount and rebate program?


• How could a manufacturers use discounts/rebates/fees/marketing funds/prizes to get the attention of wholesaler-distributors and reward results?

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On a related note, beer and scotch guru Michael Jackson (a.k.a The Beer Hunter) recently passed away. I had the privilege of meeting Mr. Jackson in May, discussing a memorable bottle of scotch with him (The Macallan Gran Reserva from 1982), and getting him to sign my copy of Complete Guide to Single Malt Scotch. Check out his books and then raise a glass to Mr. Jackson's unique legacy.

Creative Ways to Own the Customer

Mark Twain once said: “History doesn’t repeat itself, but it does rhyme.” Keep that quote in mind when thinking through the possible lessons from some recent acquisition activity in the health care space.

McKesson (MCK), one of the country’s biggest drug wholesalers, just announced a deal to buy Oncology Therapeutics Network (OTN) for $575 million. I don’t normally blog about specific transactions. However, this acquisition highlights a very interesting counter-trend for wholesaler-distributors concerned about disintermediation.

Here's the twist. OTN is a distributor that also owns Onmark, a large buying group for thousands of small accounts. Now, the buying group portion of the business will be under common ownership with McKesson, a major wholesaler-distributor.

Such forward integration makes it virtually impossible for a manufacture to bypass and sell directly to the customer -- because the distributor and the customer are the same company! Nevertheless, the customers of OTN/Onmark still operate as independent businesses. McKesson is not planning to operate physician offices or oncology clinics.

AmerisourceBergen (ABC), a competitor to McKesson, uses this strategy to great success. ION, the largest community oncology buying group, has a prime vendor distribution arrangement with Oncology Supply. Both organizations are part of AmerisourceBergen’s Specialty Group.

Learning from Other Industries

As I see it, the McKesson deal provides an intriguing opportunity to think about possibilities in your own line of trade. I know that customer buying groups exist in many wholesale distribution lines of trade. So I wonder: Are there any similar opportunities to establish a unique competitive advantage through forward integration?

There are interesting lessons and examples like this one all around the $4 trillion wholesale distribution industry. So I also want to tell you about an upcoming opportunity to learn about these examples -- the NAW Executive Summit.

I’ll be leading a panel discussion on customer focus featuring three wholesaler-distributors from three very different lines of trade. I hope that you can make the time to attend and get inspired by the creative strategies of wholesaler-distributors in other lines of trade.

Are you a profitable channel partner?

In Chapter Three of Facing the Forces of Change®: Lead the Way in the Supply Chain, I describe how channel compensation is becoming more fact-based and performance-oriented. Recent developments in two very different industries show how two large manufacturers are demanding greater accountability from distributors for business activities and financial results.

EXAMPLE #1: John Deere

Check out a Wall Street Journal cover story about John Deere (NYSE:DE) and its dealers called Why Deere Is Weeding Out Dealers Even as Farms Boom. The lead quote from Deere CEO Robert Lane sums up their new philosophy of channel management:

“For years we talked about Deere as a family. The fact is, we are not a family. What we are is a high-performance team....If someone is not pulling their weight, you're not on the high-performance team anymore."

Ooo, that's gotta hurt!

According to the article, the number of Deere dealer locations in the U.S. and Canada has dropped from 3,400 to 2,984 in the past ten years. The number of owners has shrunk at an even faster pace, as more owners take control of multiple locations.

EXAMPLE #2: Coca-Cola

Coca-Cola is planning to migrate distribution of Glaceau Vitaminwater (Classical music fan 50 Cent’s favorite drink!) from independent wholesaler-distributors to its own bottlers, as described in Coke Plan Riles Glaceau’s Old Network.

Coke bought Glaceau for $4.1 billion in June and now wants to sell the product through its primary distribution channel. Like many large consumer products companies, Coke faces powerful retailers who want national, integrated logistics.

But niche brands such as Glaceau are typically built by smaller, independent companies. In all likelihood, these distributors will find another niche brand to trumpet and the cycle will begin again.

On the other hand, I was reminded of the following comment from Steve Johnson, President and CEO of Tucker Rocky, in Modern Distribution Management: “We have never lost a brand we own … and we never will."

Where do you stand?

These are isolated but telling examples. Wholesale distribution executives should take a hard, objective look at their own company’s performance through the eyes of their supplier. On page 64 of Lead the Way, I describe how suppliers can use a activity-based costing methods to identify the true operating profit of working with each of its distributors.

Imagine a supplier asking the following two questions about your company:
(1) Does this distributor provide positive operating profits to us as a supplier?
(2) Does this distributor have the above-average growth potential?

If the answers to both questions are “yes” -- and you are being honest with yourself -- then you should encourage your suppliers to recognize your company’s contribution, especially if your company is not the largest wholesaler-distributor in the market.

If not, then ponder your future while re-reading the articles about Deere and Coke...

Reinventing Industrial Distribution

Industrial Distribution just released its 61st Annual Survey of Distributor Operations. I wrote the Overview again this year, which you can access for free. You’ll have to pay for the full report, but it’s a worthwhile investment if you want to really understand this sector of wholesale distribution.

In reviewing the survey data, I was once again struck by the ingenious ways in which many industrial distributors are evolving to stay relevant in a shifting marketplace. I cover the industrial market in Chapter 7 of Facing the Forces of Change®: Lead the Way in the Supply Chain, so it was interesting to see some themes from my NAW report appear in the more granular results from the 61st Survey.

• One out of four industrial distributors is currently private-labeling products manufactured outside of the U.S., including 18 percent of distributors with revenues below $10 million.


• Many—but not all—industrial distributors are charging fees for their services rather than merely giving away “value added” and hoping to recoup the costs with product margins. Notable fee-based services mentioned by survey respondents include accelerated delivery time, set-up/ installation, and fabrication.
  
• Smaller distributors are more aggressively using the Internet to level the playing field when competing for new sales opportunities with larger competitors.

There are many other important trends covered in this study. I found the report to be especially helpful in understanding detailed responses by major product category as well as distributor size.

Hmmm, 2007 minus 61 equals 1946. I guess the survey is now officially a Baby Boomer!

Growth Strategies Around the World

I want to let you know about a new report that I just completed called Growth Strategies in Wholesale Distribution.

This research project was graciously sponsored by Lawson Software, who is also making my new report available for free online here. (Full disclosure: you will have to register to download the report.)

The report compares how wholesale distribution executives in the U.S, Europe, and Australia/New Zealand plan to maintain growth at their companies. I was attracted to the project because there is almost no published research on global trends in our industry.

Here’s one surprising result: Distributors in European countries identify fee-based services as a much more important factor in their revenue growth plans than North American executives.

You heard me right. Believe it or not, European executives are more optimistic about their ability to charge customers for new services rather than giving away value-added services for free and hoping to recoup the costs with product margins. In contrast, U.S. executives are much more focused on increasing sales of their current product categories.

For example, I found that 7% of North American industrial distribution executives were expecting fee-based services to drive growth compared to 14% of European industrial distribution executives. (The results for other product sectors are in Exhibit 2 of the new global report.)

This new report demonstrates that wholesaler-distributors are innovating around the world, providing a global perspective on the New Profit Models trend described in Facing the Forces of Change®: Lead the Way in the Supply Chain. (For examples, see Exhibit 3-7 on page 62 or see Capturing New Profits from Services from last month.)

I hope this new research gives you fresh insights for benchmarking your own company’s growth strategy.

P.S. Be sure to check out Managing fee-based services by Ben Zoghi and Rafay Ishfaq, Texas A&M University. Great article! (It was the lead article in last Friday's NAW SmartBrief.)

Capturing New Profits from Services

William Gibson, the great sci-fi writer, once quipped: “The future is here, it's just not evenly distributed.”

Keep that quote in mind when you read Buyers look for value from electronics distributors from the 2/15/07 Purchasing magazine. I like to study distributors in the electronics industry because they provide early insight into the evolution of other distribution industries, even though the dynamics and products can be quite different.

Here are two representative quotes from the article:

• “Distributors who have survived have gotten away from competing on price and try to sell services … Those distributors that tried to compete just on price aren't around anymore.” – Robin Gray, executive vice president of the National Electronic Distributors Association
• “We have crossed the point where more than 50% of the business we do today is substantially more than just parts.” – Dave Bowers, president of distributor Nu Horizons Electronics

As I point out on page 63 of Lead the Way in the Supply Chain, management’s internal assumptions and beliefs are often the biggest barrier to capturing new profits from fee-based services. When asked about fee-based services, one executive from a hydraulic and pneumatic products wholesaler-distributor told me: “Culturally we always gave this away. It’s amazing what we can charge with no questions asked!" (There are four more eye-opening quotes on page 63.)

Do yourself and your company a favor by reviewing this article with your management team, and then discuss questions 5 & 6 on page 68 of Lead the Way. Ideally, this exercise will challenge any outdated preconceptions and open your eyes up to new profit models.