What Do The Definitions of Wholesaler and Manufacturer Really Mean?

February 8, 2010
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The definitions of Wholesaler and Manufacturer have, in the minds of most industry veterans, distinct meaning. Manufacturers turn raw material into products and wholesalers take title to the products while providing a variety of services to the established trade(s). In most instances, wholesalers, combine products and services for an order that is large enough, in margin dollars, to cover its processing costs. However, the definitions of Wholesaler and Manufacturer are becoming blurred and, as they change, so will the value propositions of these businesses. Because of the change in value, there will be a need to re-evaluate and rework the basic understanding of how to maximize profits and the key variables that need to be engaged to do so.  

Global Supply Chain and Instant Information

Manufacturing is now global and likely to stay that way. China has been the dominant manufacturing center getting 410 billion in direct US investment and running a trade surplus of 251 billion.[i] However, there are a number of countries that are becoming havens of manufacturing for the HVAC/Plumbing industry and products are found across the globe including Thailand, Taiwan, Japan, Philippines, India, Eastern Europe and Brazil. Wherever one looks, there is seemingly a new vendor sourcing from a new country.

Accompanying the expansion of global manufacturing is the easy access to price and availability both from the manufacturer and the distributor. Distributors can access any number of sites and find out the global price and availability of products as evidenced by the China business manufacturer’s site www.Alibaba.com. Accordingly, distributor customers can find price and availability from any number of distributors’ sites replete with substantial product content. 

The upshot of instant and readily available information is that it is very difficult to maintain a price premium in the market unless it can be justified by demonstrably better products or services. In essence, the products or services must save the user costs though a lower first price, more efficient services, services that save money, products with better lifecycle costs or those that visibly save labor and warranty costs. Today, with the availability of information, distributors and manufacturers will need to be much more in touch with their value propositions and their demonstrable savings than they were in the recent past.

[i] US Trade Statistics, Latest Information, http://www.ustr.gov/countries-regions/china/

For Manufacturers it's About Supply Chain Services and Their Costs

In a recent address to an industry association of both manufacturers and distributors, I made an informal survey of the number of manufacturing firms who operated full or partial import models versus ownership of plant, property and equipment. The figure was approximately half of the manufacturers represented had changed their mode of business from owning the fixed assets to having part, or all of their business as an import model. The strategic change implied in an import model business is that the fundamental behavior of costs moves from a contribution model of leveraging fixed costs with unit volume to an aggressive step cost business where the strategic costs are service based and less product based. 

In the past, manufacturers that made their products had much of their costs in the cost of goods in the way of direct labor, direct overhead and direct material. Today, however, with import business models, the strategic costs, the ones that have to be managed for profitability, are those of supply chain services and these costs are located in the operating expense(s) of the income statement. In addition, the import business model moves from individual products as a means of profitability to transactions as the primary unit of profit. Unless the transaction is large enough, in margin dollars, to cover its costs, the import model loses money. And, to understand transaction costs, the import based manufacturer has a need for better and more sophisticated accounting systems that allocate supply chain costs to customers, transaction types, and market segments.  

The failure of manufacturers in understanding the changes when moving from a fixed cost structure to an aggressive step cost structure are real. Several months ago, I was invited to visit a well-know company in the PHCP industry. The company was, from a product standpoint, best in class. However, over the years, their position as an industry leader had been supplanted by a supply chain/import based competitor. The competitor expanded the product line with imports that complemented manufactured product. The expanded product line was attractive to wholesalers because it provided better inventory turns, inventory balancing, pricing gains from consolidation, and brought down purchasing and payables costs. The issue, for the company who stayed as a manufacturer, is that they did not understand the advantages of reducing supply chain costs for their distribution as their focus on value was product and technology based and not supply chain based. I had little good news for the firm as it appeared that they were far behind in developing a supply chain model and their sight was fixed on developing new and better products; the value proposition from times past.

In summation, for manufacturers who develop import-based models, it is crucial that these firms move away from practices and policies based on a fixed cost structure and the knowledge and practices that flow from that. Import business models are aggressive step cost structures and accounting systems must develop allocations that give these firms insights into what is profitable and what is not. Our work in cost allocations for import-based businesses finds that many transactions, customers, and markets are not profitable and, if the firm had known this before they were engaged, they would have questioned pursuing these revenue streams. To date, there has been little research into the issues involved in manufacturers going from a fixed cost to step cost structure. However, initial work in the area finds that significant profits await manufacturers who investigate and better understand their supply chain costs.[ii]

[ii] See “Leveraging the Supply Chain, How Manufacturers can Improve Profits, Deloitte-Touche, 2005 at http://www.assemblymag.com/Articles/Web_Exclusive/7ee6022c106c9010VgnVCM100000f932a8c0

The Wholesaler Conundrum: Direct Source, Importer, Alliances or Domestic Brand

As global manufacturing explodes, costs come down rapidly in most products as low cost countries begin to compete for orders in established economies. Depending on the product and country of manufacture, our research has found that imports, on average, offer a 30% cost advantage over domestic brands, regardless of where those brands are manufactured. Furthermore, at a 30% saturation rate of imports to domestic brands, it becomes almost financially impossible for distributors to compete if they remain 100% loyal to domestic brands. With the movement of manufacturing offshore, wholesalers sit in an enviable, albeit risky, position in the supply chain.

The big strategic question facing wholesalers is how to remain competitive in a global environment where best in cost and service can change, seemingly, overnight. Wholesalers literally can’t afford to blindly cement vendor relationships with domestic brands that may lose their standing, rather quickly, to lower cost products produced offshore. Some domestic manufacturers can compete quite well with offshore products with limited brand recognition, but there are less of these companies around as time progresses.

The movement of the value in the channel toward supply chain services has many opportunities and pitfalls for today’s wholesaler. They must decide who their strategic vendors are and this requires constant monitoring. In our research, offshore products are an increasing part of the wholesaler’s inventory. And, this inventory, can come from distinct sources including importers, alliances with other wholesalers, direct sourcing from the foreign manufacturer, or domestic brands. Wholesalers who understand this and develop their global supply chains have significant advantage over those who don’t. The desire to monitor and source globally the best combination of product and price must be made, individually, by each wholesale firm. Simply because one is part of a buying group or alliance does not automatically spell success in developing a low cost supply chain. The discipline takes work and much change in the purchasing and vendor interaction processes must take place. The firm may have to develop a product management function where vendor planning includes supply chain metrics and information sharing-events that are seldom engaged by the purchasing function. 

In recent press, it has been common to cite that wholesalers have more channel power because of the movement of value from production to supply chain service provision. This statement, while partially true, needs clarification. In my perspective, the shift in value favors the wholesaler since wholesalers are, primarily, providers of supply chain services. To say any one wholesaler’s power in the channel is enhanced is only true as it relates to that company’s desire to develop a competitive global supply chain.

New Definitions and New Disciplines

Because of the globalization of manufacturing, instant information from the Internet, and the shift of industrial channels from production to supply chain services, manufacturing and wholesaling are different businesses than they were a decade ago. Manufacturers and wholesalers are now supply chain service providers. Where they fit and how they add value in the chain is dependent on the services they identify and provide.

It is also important to note that supply chains are becoming more efficient at an increasing rate and misidentifying one’s service value or taking it for granted can cause quick pain in lost business and profits. New disciplines will be needed for supply chain providers including better understanding of service costs for manufacturers and wholesalers and a more comprehensive and robust discipline of managing, planning with, and evaluating vendors than is currently available in most wholesaler purchasing functions. Those who understand how the disciplines have changed, the new definitions, and what to do about them, will be the leaders of tomorrow. 

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