Progressive Distributor

Does size matter?

How small, specialty distributors compete with distribution giants.

by Richard Vurva

Small specialty distributors cant help but be nervous when megadistributors swoop into their territory and begin stealing business.

The giant companies focus their attention first on regional plants with familiar names, like Hershey, Tenneco, Miller Brewing Co. and other national (and sometimes international) companies with multiple locations. But soon, their hunger for more sales to feed their burgeoning infrastructure begins to grow, and they start to look at smaller customer segments within the region.

Whats a tiny independent rubber specialist to do? Can small, specialty distributors maintain their independence and effectively compete against megadistributors? Can a small distributor maintain the proper mix of product knowledge, technical expertise, technological know-how and capital required to offer customers what they require in the future? Or will customer requirements for best-in-class service, inventory availability, systems solutions all at a low price become so demanding that only the biggest distributors with the deepest pockets can compete for their business?

How distributors answer those questions will likely determine their viability in the next few years. If their answers are wrong, they may be sounding their own death knell.

Sound too ominous? Listen to this opinion about the future of the small, regional distributor from one of the giants theyre competing against, Jack Dannemiller, chairman and chief executive officer of Applied Industrial Technologies.

Its going to be very hard to defend a regional position, he says. There are more national agreements taking place. When those come down, regional guys who are supplying regional plants are cut out. When those things happen, regional players dont have a place to fall back on. They can redefine their business. They can narrow their focus. They may focus on a customer set, or in an industry in which they have expertise. But their ability to compete for the large customers will be very difficult.

Says Michael Marks of Indian River Consulting Group, a Melbourne, Fla., distribution consultant: As large distributors start to gain economies of scale, margin in the industry will decline. Most of the gains thus far from the giants have been muscling suppliers for extra purchase discounts.

Distributors know all too well that one of the first casualties of doing war with a megadistributor is margins.

We went through a number of years where we had very little competition, says one hose distributor. As a result, we enjoyed very nice gross profit margins. But we kind of fell asleep at the switch and started losing an awful lot of business because of price competition that we were not responding to.

Change your focus
One option, of course, is for small distributors to write off the largest customers and focus instead on small- to medium-sized customer segments.

Some manufacturers already view that as the strategy for small distributors to follow.

Ron George of Federal Hose Manufacturing, Painesville, Ohio, says his company relies on small distributors for specialty business.

They have a specific application and need a specific type of product, he says. I believe the small distributor is going to survive on that niche, providing hands-on service with a special customer or in special applications, he says.

Says Dave Hoffman, sales manager for American Couplings Co., Westmont, Ill.: The small distributors will have to be more focused due to the demands on resources and capital that massive product lines require. Perhaps that focus will be directed toward value-added services and programs rather than just products. We see an increase in product stocking responsibility and service being transferred upstream to the manufacturer.

Jack Romain, Goodyears manager of distribution relations, says he once believed that integrated supply and national contracts might account for 40 percent to 45 percent of the market.

Im not sure that its going to get that strong, he says. Even if most of these multi-plant companies went to integrated supply, theres still going to be a substantial market at least 50 percent thats going to have a need for the smaller, more specialty type distributor.

Not bigger, but better
When a major customer signs a national contract, it doesnt necessarily mean that a local distributor has to be cut out. Sure, many hose and accessory distributors have lost sales when customers sign integrated supply contracts with distributors that have direct relationships with hose and accessory manufacturers. But some hose specialists have actually picked up business when general line distributors win large accounts in their geographic region.

John Mork of Gooding Rubber Company, La Grange, Ill., knows that large customers often are tempted to take the hose business away from a rubber specialist.

When you try to compete with a bearing house and youre at a contract where they may do $7 million or $8 million worth of bearings and only $200,000 to $300,000 worth of hose its very easy for the bearings house to say, Why dont you just throw that on the contract. We can do that too. Thats where the smaller distributor gets squeezed, Mork says.

His job is to alert the customer to the risk involved in that decision. He makes sure the customer understands that specialty distributors provide much more than product availability. They also bring to the table a wealth of product knowledge, applications expertise and problem-solving capabilities.

We try to stress with our sales guys that they have to make the customer aware of our value, Mork says. Besides supplying product, weve got to be the innovator that solves customer problems. Were looking for cost reductions for them and doing that type of thing. If we dont, we really dont have much value.

Says Romain: When an integrator takes on a contract, they have to find a way to service that customer as good as that customer had been serviced in the past. In those situations, the integrator has to find a local distributor to handle the service requirement.

No margin for error
A recent study, The Changing Role of Small Industrial Distributors, by W.R. McCleave & Associates of Cornelius, N.C., identified key product characteristics that small specialty distributors will likely require in the future. The study determined that such distributors will have:

   Smaller, more focused product sets
   More specialty products
   More technical products
   Single lines
   Emerging technologies

Traits that customers admire in specialty distributors are their loyalty and willingness to be flexible in order to meet changing customer requirements. Those traits are often lacking in large distributors, according to customers in the McCleave study.

But a strong desire to please the customer can also be a detriment if a specialty distributor isnt careful. Distributors can hurt themselves by promising to take on too many product lines to satisfy a customer.

Theres no question that customers would rather have complete product sets with complete technical expertise and support. But thats very difficult for anybody to pull off, McCleave says.

Thats exactly what Brent Howell, sales manager for Texas Rubber Supply in Dallas, discovered.

At one time, as our major customers tried to go to fewer and fewer sources, we tried to add more and more product lines, he says. We ended up with a lot of product lines with which we had very little expertise that were commodity items and extremely price-sensitive.

He says small specialty distributors need to be more selective in choosing product lines in the future.

If we had the opportunity to take on a new product line, I would look at how many part numbers are in that product line and how many sales dollars it can bring us, he says. If its 300 or 400 different part numbers and its going to generate $10,000 in sales a year, Im not going to mess with it.

Theres a logical reason why successful specialty distributors will focus on smaller product sets in the future, says McCleave. To do otherwise would tie up too much money.

Consider all the areas for which a distributor needs capital. It costs money to pay technically competent people. It takes money to keep them educated. It takes money to provide product training, customer support, maintain adequate inventory levels, support information systems and so on.

Sooner or later, unless a distributor has very good net margins, he runs out of cash, McCleave says. So the narrower product sets allow him not to have such broad inventory. Its one thing to have broad inventory, but some customers require deep inventory. He cant do broad and deep most of the time.

Fewer suppliers
There are ways for distributors to broaden their product offerings without adding suppliers and inventory.

Were asking our major sources of supply to diversify their line a little bit more, says Tom Slater of Rubber Supply Company, Morrisville, Pa. Instead of having to issue a purchase order to both a rubber house and a plastic house, lets issue one purchase order to a company that can handle both. I see some of the manufacturers starting to branch out that way. That will allow us to cut down on the number of suppliers we had in the past.

Another solution is to ask key suppliers to do more drop- shipping to customers or to find alternative sources of supply.

Part of our traditional value-added to our customers is that we are an extension of their procurement office, says Mike Summers of Summers Rubber Co., Cleveland. Were the go-to guys for all the oddball stuff. We know how to source it. I think thats still going to be a valuable tool. Part of our strategic objective is to dramatically improve our procurement capacity so we can do some of the unusual specialty buys more quickly.

That doesnt necessarily mean becoming a stocking distributor for those lines, however. Progressive distributors will likely come up with innovative new ways to service customers.

The ability to react quickly with a responsive and short supply chain will be decisive, Marks says. Winning strategies may include outsourcing warehouses; outsourcing receivables to Visa, MasterCard or American Express; playing with extranet auction sourcing methods; and highly tailored services to individual customers.

Our world has turned from sales-oriented to a lowest delivered cost business, says Lee Helfer of Specialty Hose Corp., North Canton, Ohio. You have to control your costs. Youre either going to have to defray them or eliminate them.

Being nimble is critical. Were continually trying to define new niches, says Helfer.

But as soon as his company starts to focus on a new niche, theyre frequently forced to apply resources to other areas.

By the time we get back to the new opportunity, we missed it, he says. Its very hard to play the game in the niche market because you have to be focused on many fronts at the same time.

Says McCleave: In the future, it isnt going to be good enough to be as good as, youre going to have to be better than.

Technology: Curse or blessing?
One of the biggest concerns of small distributors is whether they can continue to invest in information systems and logistics technologies.

Its very difficult for us to stay on the leading edge, to get into such areas as e-commerce and EDI, especially when youre dealing with major customers, says Helfer. Theyre forcing you to get into the technology race in order to help them defray costs. It puts more downward pressure on our profits.

Yet, technology can also be the great equalizer. Its one of three key areas that McCleave says are critical for specialty distributors.

According to the McCleave study, small distributors who can successfully blend components from three critical business determinants (technical superiority, technological systems equality and asset accessibility) will position their companies to compete in the future.

Information technology for a small distributor is our friend, says Summers. We just developed a digitized catalog thats going to be available to all of our customers. The next step, which is the trickiest, is to have the diagnostic phase, which is the true value-added of hose people, where we decide which product will work for the customer. If we could figure a way to make that happen, then you could sell to someone way out of your normal geographic boundary.

Whats the bottom line?

Things arent getting worse, they are just changing, says Marks. Change continues to create both pain and opportunity. This is still a zero-sum game and every loser creates a new winner.

This article originally appeared in the March/April '99 issue of Progressive Distributor. Copyright 1999.

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