Rising Costs, Sector Weaknesses Lead To Distribution Strategy Changes
While business conditions have declined for U.S. wholesale-distributors due to weakness in related sectors such as the building materials and automotive industries as well as fluctuating energy costs, the industry has altered its growth and operational strategies to help to overcome these obstacles, according to a new survery released from RSM McGladrey, a leading professional services firm providing accounting, tax and business consulting. However, there may also be overlooked opportunities for companies to solidify their standing in today’s unstable global economy.
RSM McGladrey’s Distribution Industry Report was extracted from the results of the firm’s 2008 RSM McGladrey Manufacturing and Wholesale Distribution National Survey conducted earlier this year. More than 960 industry executives, including 303 distribution executives from 284 companies responded to the survey pertaining to critical industry issues such as cost structure, profitability, technology initiatives, operations and globalization.
As stated in the survey, business conditions for many distribution companies have declined. Thirty-eight percent of those surveyed described their companies as “thriving and growing,” a decline of 21 percent from RSM McGladrey’s 2006 survey. However, many executives retain some measure of optimism, as 45 percent reported their company as “holding their own.”
Multiple factors lead to drop in confidenceA significant reason for executives’ drop in overall confidence is weakness in several key sectors that have consequently taken a toll on the distribution industry. Economic struggles in housing and real estate have affected the building materials industry while automotive and retail difficulties have also carried over to many distribution companies.
Another significant obstacle for companies is escalating costs – primarily due to energy and personnel. The cost most respondents see rising is energy, with 86 percent forecasting an increase of six percent or more in the coming year. More than 80 percent also project increases in the costs of operating labor, freight, benefits and raw materials.
“Distribution companies have taken several measures to account for rising energy costs,” commented Robert Jirsa, RSM McGladrey managing director. “Through actions such as better routing, modifications to credit and collections procedures, changes to charge structure for special orders and amending frequency of deliveries, many companies have effectively countered surging expenses.”
Instability causes re-evaluation of growth plansEconomic concerns have caused many distribution companies to alter their growth strategies for the upcoming year. Increasing brand recognition is the most popular growth tactic cited, increasing from 44 percent in 2007 to 49 percent this year. Strategies that suffered a sharp decline include vertical integration, creating private label products and growing with large retailers.
Mergers and acquisitions have also been a prominent growth strategy in the past, but executives that plan on engaging in such activity dropped from 48 percent in 2007 to just 18 percent in 2008. This is most likely due to the tightened credit markets in the United States, as well as lower valuations.
IT reliance increases; risk management a concernDistribution companies, inherently dependent on logistics and billing, have increased their spending and reliance on information technology (IT). Eighty percent of distributors report that IT is increasingly critical to their business, while 75 percent plan on expanding the use and functionality of existing systems. More than half of respondents indicated that their companies plan to align their IT strategy with their business plan (66 percent), implement new technologies (55 percent) and train employees to use their current systems more effectively (53 percent).
Despite the importance of IT to the distribution industry, the survey indicates that many companies have significant weaknesses pertaining to risk management. Almost 25 percent of executives surveyed do not have effective disaster recovery systems, test their network security at least once a year or expect to increase their spending on information security.
Tax incentive opportunities missedA multitude of tax management strategies may be available to distribution companies, but sometimes go under-utilized due to a lack of awareness or perceived difficulty in implementation. While 86 percent of executives report that they use a pass-through strategy to manage their tax liability, other incentives such as last-in, first-out inventory valuation (LIFO), property tax reviews, sales and use tax reviews, apportionment planning, R&D tax credits and other federal credits are largely overlooked.
Companies of all sizes exploring insurance alternativesA growing number of distribution companies are also considering self-insurance options. While no respondents of companies with more than $500 million in annual revenue reported that they were exploring the strategy, 9 percent of companies from $100-500 million in revenue and 8 percent of companies from $25-99.9 million in revenue are employing this tactic.
“Larger companies have utilized self-insurance for years as an approach to manage costs associated with plan administration,” said Jirsa. “In the past, until a company reached 200 employees, it was a difficult strategy to implement due to economies of scale and risk. Smaller companies are now evaluating this opportunity.”
Wellness programs adopted to combat healthcare costsDouble-digit increases in costs related to health care are also a concern to United States distribution companies. Some distributors are utilizing wellness programs to help manage the increase in costs. Over 60 percent of companies with more than $500 million in annual revenues report that they employ a wellness program, while only 18 percent of companies with less than $25 million in revenue implement such a strategy. Disease management programs are also similarly utilized.
Distribution industry becomes greenerMany distribution companies are embracing green initiatives, which can be increasingly beneficial in today’s environment. Almost half of the largest distributors, as well as many smaller companies are being asked by their customers to become more environmentally friendly. But many companies have also taken such steps on their own, with 38 percent of executives reporting a reduction in non-recyclable waste and 23 percent eliminating the use of certain chemicals.
Research MethodologyIn the spring of 2008, RSM McGladrey distributed its third annual manufacturing and wholesale distribution survey to industry executives across the U.S. This survey was designed to assess the current state of the industry and to ascertain what steps CEOs, CFOs and other executives are taking to grow their business and stay competitive. More than 960 surveys were completed, providing a strong, statistically representative sample of responses.
Click on the link below to access the complete RSM McGladrey 2008 Distribution Industry Report.
RSM McGladrey is a leading professional services firm providing accounting, tax and business consulting. RSM McGladrey operates in an alternative practice structure with McGladrey & Pullen LLP, a partner-owned CPA firm that delivers audit and attest services. Through separate and independent legal entities, they work together to serve clients’ business needs.