RESTRUCTURING WHOLESALE CHANNELS: THREE CASES
Conservative forecasts project that Asian imports to the US will grow at 15% compounded annually for the next 10 years tripling today’s current volume. Every surviving US manufacturer will have, by then, redesigned their whole goods distribution channels in order to blend imported goods with residual domestic production into a lowest-total-cost, best-service-value, full-line offering aimed at different niches of US end-users. Because the Asian factories will often sell the same products to whomever, the most successful US manufacturers will have to be the best at continually redesigning, reselling and refreshing their brand names for both their products and their total distribution channel service value. Whether distributors choose to sell private label and/or traditional supplier brand goods, the quality of their service value brand will also determine their level of profitability.
How have channels, to date, been changing or not in response to the Asian import pressures? Three different, channel change stories follow.
THE CHINA, WOODEN-BEDROOM, FURNITURE CHANNEL DISASTER
In the mid-‘90’s, some US furniture manufacturers helped to start the Chinese bedroom furniture industry by first outsourcing the production of labor intensive components, then whole goods to new Chinese factories. The early-moving US manufacturers proceeded to make huge profits on their imported "production" until large US furniture retail chains discovered and started buying from the same plants. The retailers typically bought an even broader array of whole goods much of which they private labeled and priced below the same goods with US manufacturers’ brand names. US consumers ultimately benefited as the initially lush margins on new Chinese products were quickly competed away in the marketplace.
As more retailers then raced to source even more products from China, an unholy alliance of 26 manufacturers petitioned the US Commerce Department and the International Trade Commission to slap duties of up to 440% on the Chinese manufacturers exports for unfair "dumping". This petition process - that is still underway as of mid-August ’04 - is really a tactical, supply-chain, war move.
The opportunistic-26 represent only about 25% of the furniture industry production, and they are a blend of companies that got substantially cut out of the importer mark-up action and those that were late to outsourcing from China. All 26 are currently racing to create new production capacity in other Asian countries, notably Vietnam, which will not be affected by any dumping duties that will be finally determined and assessed in December ‘04. The 26 may also get a percent of the final duty tax on the Chinese producers as "injured parties" under the "Byrd Amendment" of the unfair trade law that is being applied.
The Furniture Retailers Association (FRA) is fighting the petition as "an unnecessary tax on the American consumer". But, any duties levied will also make the FRA’s members’ store-brand goods and one-off supply chains from China over priced in comparison to the next generation of knock-offs coming from other Asian countries. With little, to no brand loyalty for the price-promoted store brands, the retailers will have to either:
- Re-source their products from other countries
- Buy again from their former supplier "partners" that are suing their current sources.
- Or, invent yet another alternative, because the second choice is too emotionally distasteful.
Within this tale of woe, there is, however, another manufacturer’s strategy worth examining. Furniture Brands International (FNB) is a publicly traded, industry consolidator that controls six premium brands and that did not choose to join the "unfair trade" 26. From what I can determine, FBN has:
- Smoothly and steadily shifted production to Asia
- Allocated their import savings into: 1) A better-service distribution capability for retailers of all stripes; 2) brand maintenance promotion; 3) sufficiently competitive pricing against the clones; and 4) good enough profitability to have their stock outperform both the industry and S&P 500 average over the past 5 years.
Will FBN’s more balanced, less opportunistic approach for blending increasing imports with shrinking domestic production provide better, long-term results for all channel parties
What might we conclude for now from this unfolding story?
- Manufacturers: Outsource production to Asia as quickly and smoothly as possible, but don’t try to milk big savings for quick profits allowing large downstream players to buy from the same sources direct and then sell private label knock offs for less. This type of by-pass will also weaken traditional brand name values.
- Manufacturers: Consider being like FBN. Its product designers are continuously refreshing and improving the products that are made so that the brand name stories can continue to be retold and resold. And, they are continuing to try to lower supply-chain/master distribution center costs while improving one-stop-shop, high-fill-rate, quick delivery, service value. If they can gain more volume throughput because of more lines sold to more total dealers buying, this will be a huge, brand-able, service barrier to entry
- Distributors: If you choose to source your own goods in Asia and to create your own supply chain solution, how will it compete against a bigger total volume MDC like: FBN’s; an independent, MDC operator which already exist in some channels; or, a manufacturing consortium facility that may emerge (like CoLinx below)? Would it be wiser to "outsource" master distribution activity instead of creating redundant capacity in the channel?
- Distributors: After all competitors have sold private label clones for less to the point of losing money, will you be ready to make product (re) design and brand building a long-term core competency?
THE ELECTRICAL CHANNEL’S "INDUSTRY DATA WAREHOUSE" (IDW)
With the noble intention of reducing the transactional costs between manufacturers and distributors, electrical channel leaders started talking about creating an electronic commerce (EC) exchange with a central IDW in ’96. A formal joint venture for a non-profit, EC service provider owned by the associations of both the manufacturers and distributors was incorporated in March ’98.
Since then, there have been several business model changes and funding rounds in excess of $7.5MM to get to a current, stable, economic breakeven+ status. The original usage goals for the exchange have still not been achieved, but an "industry retail database" (IRD) was launched in Nov. ’03 to allow channel members to meet requirements for doing business with big retail chains. The IRD is generating some positive cash flow while progress towards the original objectives continues to creep along.
What do I conclude from the IDW’s story?
- When IT people are put in charge of making an industry exchange work while most CEO’s and sales/marketing chiefs get glazed eyes whenever the subject is raised, things typically move very slowly.
- Improving informational and paperwork costs is nice, but all of the traditional piles of inventory in the supply chain will still remain in the same place and perform the same. Paving over old cow paths is not as compelling as building an entire new interstate that completely by-passes many old business models and locations. If the IDW were re-applied towards enabling a channel-interstate redesign, then all honchos would be engaged either desperately resisting or ambitiously pursuing the breakthrough solution. EC technology is an "enabling tool" or the cart; an interstate redesign is the strategy or horse.
- IDW’s progress is typical of channel initiatives that don’t have a powerful channel leader that can dictate or create a new interstate along with enabling EC tools and standards. A lot more hype, money and leadership have gone, for example, into Covisint (auto) and Rosettanet (electronics) with not much more results than the IDW’s.
SUPPLY CHAIN BREAKTHROUGH ECONOMICS WITH COLINX
Out of all of the visionary hype of the dotcom era, a unique, as far as I can tell, a new corporate model emerged within the bearings/power transmission industry; its a manufacturers’ consortium dubbed CoLinx (www.CoLinx.com). Four founding manufacturers of "premium brand" goods started CoLinx LLC in 2001. The big idea was to share costs associated with warehousing, LTL shipping activity, and certain information technology services. Product coming to North America from all global manufacturing locations comes into one central facility in Crossville, TN.
The main CoLinx warehouse is an extension of the Knoxville Foreign Trade Zone, so that every week many containers of imported goods can be received via direct delivery with no delay in customs, stored duty free, and blended for outbound shipment with domestically produced goods. Over 2000 distributor locations in the US can, in turn, buy the majority of their purchase volumes from this one location on a weekly or daily replenishment basis with 1 to 2-day delivery time.
CoLinx LLC manages, in parallel, a no-fee, web mall for manufacturers at PTplace.com. At this site, there is little to see without a distributor password. But, each manufacturer represented there is offering its own set of services – order entry, order status, inventory visibility – from all locations in North America whether they are part of and integrated into the CoLinx logistics business or not. Because CoLinx does provide common web utility services to all of the PTplace.com manufacturers, the average cost of order entry for all mall participants has dropped due to shared economies of scale from over $5 per line to less than $.30.
Visitors to both sites will only see the tip of the brand-value preservation efforts that are threaded through all of the services that CoLinx provides. Other facts about CoLinx’s new, breakthrough, economics platform or business model that may not be on their web site are:
- The four founders/investors have had terrific returns on their original investments for creating the consortium by reducing hard, measurable distribution, transportation and order entry costs. But, the returns on soft service improvement factors for their distributors are significant too.
- One small, independent distributor that I interviewed reported inventory investment reductions of 25% with significant increases in fill rates, because stock inventory can be replenished and re-tuned weekly.
- The higher fill rates have in turn increased average order size economics and customer service satisfaction and retention.
- Dramatic improvements in the lead times for special orders has saved old business and won new orders. Some special orders are freight free when they are added to weekly outbound stock shipments at the last minute. Overall inbound freight costs have also dropped significantly.
- In contrast to the low usage of the electrical IDW, the PT distributors that I interviewed used PTplace.com as much as possible to maximize all of the benefits above. They wished that all other manufacturers that were not part of PTplace.com and CoLinx logistics would still hook up to PTplace. The benefits of the logistics consolidation have, again, been the horse, the EC exchange is the cart.
Has anyone seen another new model that has achieved CoLinx type improvements in both cost and service? And, has the benefit stream from the CoLinx platform just started? Using Wal-Mart’s "quick response" platform as an analogy, it was a killer at 3+ years old in 1988, but Wal-Mart has continued to find waves of new applications for their replenishment system ever since.
SUMMARY THOUGHTS ON THE THREE STORIES
Most of my conclusions are after each of the three stories. To rephrase the big, general one: as Asia becomes the world’s factory floor, manufacturers and distributors in high cost countries like the US must all consider how they will be part of a sustainable solution for re-engineering domestic supply chains and create sustainable brand values. The opportunistic, sourcing-and-selling of Asian clones under new brand labels can be a quick, profit fix that will burn out quickly in the race to lowest cost/price bottom as some furniture channel players may be discovering.
These are interesting times that require out of the box strategic thinking and conversations about how to reinvent our profitable growth potential. Selling commodities with gradually deflating landed costs for price will not work long term for most channel players. If any readers would like further information, advice or references about either CoLinx type consortia or how to reinvent better brand value goods or services, please feel free to contact us.
Merrifield Consulting Group, Inc., Article 2.25
D. Bruce Merrifield, Jr.