The interest in e-commerce as a means of organic growth is prescient. Wholesalers are waking up to find that outside entities, including new models of distribution and manufacturer direct shipments, are taking share. This will continue as online B2B sales grow at a 7 percent CAGR, and some 3x greater than traditional analog business. Online models use efficiency to drive out costs and take the advantage to market.
The penetration of online sales, depending on the sector, is typically 10 to 15 percent of the distributor’s potential market. This relatively low share is often overlooked or rationalized as the economy is running strong. However, at current growth rates, one in four products will be online by 2024/25 and 40 percent of sales will be online by 2028. Wholesalers who don’t have their online mojo together in five or so years will definitely feel the pinch. And those who rationalize beyond this point could lose the battle online.
To date, much of the online research, literature and industry talk has been about technology. It takes a technology suite of off-the-shelf transaction software, PIM, punch-out, quotation software, and faceted search for a competitive technology platform. All these software elements must be integrated into the ERP system, which is, hopefully, current. We find that 10+ percent of distributors end up replacing their ERP system when developing their online efforts; their outdated system can’t handle the demands of modern day e-commerce. While competitive and current software is a prerequisite, there are a number of valid vendors vying for your software dollar. We suggest using Forrester Wave rankings for best picks on possible candidates for your e-commerce platform. Today’s competitive battle is being waged outside of software and involves cultural and structural elements of the full-service distributor. It is an area where long-held and cherished beliefs of the full-service culture will be challenged by very different models of business that, so far, are slicing apart distributor markets with a low cost/low price platform and good to great technology. Full service distributors will need to consider how they will compete with these new entrants. Their response will mean success or loss in tomorrow’s online markets.
Where you come from is where you sit
One of the impediments to distributor online success is the carry-over of their cultural experience from analog business to the digital age. Distribution, heretofore, has been a successful business platform for over three generations, but it has significant constraints in this budding age of digital commerce. The historical perspective of wholesale distribution is as a business model that aggregated parts from varying vendors, close to end customers, to solve an application issue. The original need for distribution was reduction of downtime in process and product industries. As the North American civilian population grew, distributors emerged to support housing including emergence of PHCP firms.
To accomplish delivery and product needs of yesteryear, distributors provided local product knowledge, place and credit functions, while having strong relationships with primary vendors. This took local branches, sellers, purchasing specialists and financial management. Over time, with computerization, the industry moved much of the financial management and purchasing to the home office but the local branch with inventory, inside and outside sellers remained.
Our review of New Age models of distribution is that most don’t have a significant number of outside and inside sales positions and only a handful of branches. They are geared to helping the customer self-serve and, their perspective of how to approach traditional wholesaler served markets is strikingly different than the multiple branch and sales intensive business. From our March ’18 issue on New Age distribution models, these competitors take a slice out of the value chain and often aren’t seen as legitimate competitors. However, their barriers of entry are relatively low, and their large numbers means lots of “value slices” come out of traditional wholesale markets. In Exhibit 1, we’ve listed the difference in the market view of a traditional distributor vs a new age competitor.
For the full-service distributor, the local market focus replete with branches, sellers and local inventory is historic; it’s where they sit. For the new age competitor, the lack of geographic focus is deliberate. They see the battle for customer as, largely, geographic agnostic with limited need for sales support; their proving ground is cyberspace. If they win the battle online, they get the sale. Of course, the full-service model has advantages of the local inventory, product-knowledge, and personal touch but it’s expensive, and we are beginning to believe that geographic branch coverage is way overdone. For instance, we found 69 branches of one large wholesaler in a state with 100 counties or 11 branches in a 25-mile radius of a mid-tier metropolitan area and the firm delivers to the job site; often free of charge. But, if the customer knows what they want to buy and doesn’t need a city counter, they can get the product for often 10 percent or so less from a new age distributor.
The full cost advantage of new age models comes into view in Exhibit 2. In the Exhibit, we’ve listed three parameters of a commodity product including: increasing sku sales lines, number of accepted substitutes and sku usage across diverse customer types. We find where commodities represent some 40 to 70 percent of all product sales. Hence, a customer annually purchasing $1MM from full-service distributors, could potentially save $50,000 if 50 percent of their spend was on commodities. The upside growth for new age distributors is real; Grainger’s Zoro Tool grew to $300MM in sales by the end of 2015 from inception in 2011. We don’t know Zoro’s sales in the present day, but Grainger has a handful of single channel models, including Zoro, whose 2019 sales are estimated at $2B. Grainger recently announced Zoro would be introduced to the UK market, so the potential is substantial.
Full service distributors should expect that new age distributors will become more prominent and customers will move purchases to their platform. Existing distributors will need a response, and this often requires a change in culture and business structure. We’ll cover these in our upcoming installments.