In the past, manufacturers and their distributors have worked together closely, which helped ensure profitability up and down the supply chain. In the last few years, however, that relationship has changed, becoming strained as customers increasingly bypass distributors and go straight to the supplier for products. This action often leaves much of the burden of compensating distributors for their services on the supplier’s shoulders.
As a result, some distributors are focusing their efforts on product volume over product specialization in an attempt to stay profitable, which is helping lead to a decline in the services distributors are able to provide to both the customer and the supplier. That model is not sustainable, according to industry leaders.
To help study the changing relationship between customers, distributors, and suppliers, 20 distributors and suppliers came together to participate in a consortium through Texas A&M University’s Industrial Distribution Program. The hope is that the best practices developed during the recent Optimizing Channel Compensation Consortium will help distributors find new, innovative ways to serve their customers and distributors, helping ensure profitability far into the future.
Twenty distributors and suppliers participated in the recent Optimizing Channel Compensation Consortium, which aims to improve supply chain compensation by studying participants and using the information to develop industry best practices.
Since last spring, the 20 consortium participants have been working with researchers from the Texas A&M University’s Industrial Distribution Program, led by Dr. F. Barry Lawrence.
“We get the top minds from the industry and bring together best-practice partners to work with our research team to study a complex problem,” he explained. “Companies that are an operational train wreck don’t usually join the consortiums.”
The consortium’s goal, Lawrence said, is to observe current supplier-manufacturer relationships and formulate best practices that other firms can apply to their own business practices.
“What is it that the distributor is doing for the supplier, and what compensation is appropriate for that service?” Lawrence asked. “The idea was to establish a framework for best practices for how distributors get compensated. We looked at things like exclusivity and how rebate policies are being used, and in every case, we’re looking to see what the best practice is.”
The consortium also “looked at alliances where suppliers turn business over to the distributor” and examined best practices for taking new products to market. In order for distributors to remain profitable, Lawrence added, suppliers and distributors will have to work together much more closely than they currently are.
“We examined the fact that manufacturers used to collaborate quite closely with distributors to make sure both were financially successful, and we’ve observed in the past 10-15 years that it’s declined — the collaboration has declined,” he said. “Distributors earn less, or manufacturers don’t know how to compensate the distributors and get frustrated and give up.”
To participate in the Optimizing Channel Compensation Consortium, distributors and suppliers were required to pay a $25,000 fee — an investment that may have prevented some firms from participating, if it had not been for a sponsorship from HARDI.
“What the HARDI Foundation does is we pay Texas A&M to reserve spots, and then we allow our members to apply for the spots,” said Emily Saving, director of education and research foundation for HARDI. “They only pay $5,000 for it; we make it a lot easier to participate.”
HARDI, which has been involved in two other consortiums, normally sponsors three distributors to participate. “But this year, we doubled our payment to A&M to also allow three manufacturers to be involved,” Saving said.
Kevin Merritt, president of Superior Radiant Products Ltd., said they would not have been able to participate without HARDI’s help. “HARDI made the consortium participation financially feasible,” he said.
“That’s why our foundation exists — to provide these educational opportunities,” Saving said. “The foundation would like to see this come to fruition, and we’re excited to see the results.”
The results of the year-long study were revealed to consortium participants at a meeting in late August. As a result, “Some of the firms have already started negotiating with suppliers on new product introductions and building better rebate systems,” Lawrence said.
Merritt noted that Superior Radiant is “already having discussions with some key customers on mutually beneficial tailoring of pricing, terms, and shipping,” as a result of the consortium. “The concept of tailoring a pricing program according to a particular customer’s needs rather than standardized channel pricing was a bit of a revelation,” he said.
Merritt added that he is, “looking forward to having team members attend the presentations coming in the next months so they can further apply the concepts.”
Unless more supply chain participants take a cue from the participating consortium firms and learn to collaborate more closely to find innovative ways to fairly compensate both the distributor and the supplier, Lawrence said the future of many of the industry’s distributors may be in jeopardy.
“Right now, the vast majority of distributors are privately owned, and they’re getting a return on investments of less than what the investment community expects,” he explained. “Unless you can design value propositions and compensation methodology that compensates the distributors and manufacturers to the level reasonably expected by the investment community, at a risk level reasonable to the investment community, the company is not sustainable — they will ultimately fail.”
And if those companies are forced to sell, “the owners will sell for cheap,” Lawrence said.
“The investment firms will come in and tear that organization apart. There will be jobs lost. Customer relationships will be destroyed, and service levels will be brought down. It will lead to more consolidation in the industry. Overall, it’s an ugly thing.”
Lawrence hopes other distributors and suppliers will also take advantage of what was learned from the consortium and apply that information to their own business practices. A publication detailing the consortium’s findings and best practices will be published “a year or two after the consortium comes out,” Lawrence said.