Wholesale Distribution — Back in the Chain Game
Wholesale distributors were sidelined for a while, but they have a chance to regain their vital position in the 21st century "Supply Network."
by Rich Sherman
Traditional wholesale distributors stand at the dawn of a new opportunity. Regarded by some as an endangered species, the advent of the Internet has created a significant opportunity to recapture lost volume and regain a pre-eminent position at the heart of the supply chain.
Let’s start with some history. Cast your mind back 15 years or so and you’ll find the physical distribution supply chain made up of suppliers shipping to manufacturers, manufacturers shipping to perhaps 500 or so large wholesale distributors, and these distributors shipping to myriad retailers (more than a million retail outlets in the U.S. alone). Each participant took title and accepted inventory risk and then passed it on to the next level in the channel. And then something happened.
In an effort to reduce the costs and risk associated with these buyer-seller relationships, each participant sought to optimize his own position in the supply chain. Right or wrong, the perception arose that the wholesale distributor was little more than a middleman, adding little value but taking precious margin from both the manufacturer and the retailer. Because most wholesale distributors were primarily focused on "buying smart and selling sharp," they never really established a value-added service relationship with either the retailer or the manufacturer. The resulting buyer-seller relationship, often adversarial, that was perpetuated was a big mistake — to all participants in the channel.
In an effort to reduce cost and recapture margin, many manufacturers and retailers took on the challenge of distribution themselves, disintermediating the wholesale distributor in the process. What a challenge it has turned out to be. As time compression increased, the manufacturer was forced to deploy inventory closer to the customer. Instead of shipping to 500 or so wholesalers, the typical manufacturer is now shipping to 5,000 or more "ship to" locations and it’s proliferating with direct to consumer and globalization. Both the retailer and manufacturer found themselves holding title to the inventory longer.
Erosion of inventory turn due to removing the wholesale position has resulted in the push-pull inventory tug of war waged between manufacturers and retailers over the past eight years, a.k.a. ECR, JIT, etc. (to the delight of the consulting industry). Simply put, the industry moved the inventory buffers and risk once provided by the wholesaler into their own or third-party warehouses and assumed the once "price fixed" value-added services provided by the wholesaler as an "a la carte" cost.
For the wholesale distributor, this has resulted in a decline in volume and an erosion of their position at the heart of the physical distribution supply chain. For manufacturers and retailers, the quantity of product that can be ordered and shipped from a single location has been reduced dramatically as inventory has been deployed across multiple locations to better serve the proliferation of distribution points with faster response time. As this need for product velocity through the channel increases, order volume increases, order quantity decreases, transportation capacity is underutilized, and service windows shrink. The result: fewer inventory turns, increased transportation and distribution costs, an erosion of gross margin and poor return on investment.
The reason for this is clear. The strategic services that the wholesale distributor used to provide — volume and transportation consolidation, breaking bulk, repackaging, material handling, assumption of inventory risk, etc. — now have to be performed by the manufacturer or retailer (and the push is generally back on the manufacturer). Without the ability to consolidate volume among competing manufacturers and retailers, the economies of scale (stock inventory and transportation especially) that the traditional wholesale distributor brought to the channel have been lost. So in an effort to capture higher margins, both retailers and manufacturers have in fact absorbed more costs and risk, shrinking their precious margins. What was an inherently simple business became complicated by people who didn’t understand it — logistics, that is.
With the emergence of the Internet and e-commerce, wholesale distributors have a unique opportunity to recapture lost volume and reintermediate themselves with both manufacturers and retailers. Because more marketing, sales and merchandising activities are going to occur using this new channel, there will be strong demand to implement consolidation and postponement strategies across a global supply network. And that plays to the traditional strength of the wholesale distributor. Moreover, the current environment of Internet-enabled collaborative information exchange puts the wholesale distributor in a better position than ever for reintermediation.
To make the most of this opportunity, however, wholesale distributors are going to have to learn a lesson from their third-party logistics (3PL) counterparts and take on an expanded role to offer and sell new, value-added services while still maintaining their competitive advantage of assuming inventory risk. The wholesaler, as the 3PL industry is learning (Hello, 3PL: pay attention to your new competition), must move from being a middleman to becoming an outsourced logistics or business process outsourcer (BPO) that assumes inventory risk. Yes, by the way, several 3PLs are purchasing and taking title to inventory on behalf of their customers ... they have convinced the customer of the value that assumption of inventory risk holds ... what a wicked WEB we weave ...
Business process management
As experts in managing the business process of physical distribution, today’s wholesale distributors, and 3PLs (perhaps the generation "d" wholesaler), need to promote innovative value-added services both upward and downward as new, Internet-enabled channels emerge. The promise of the "new economy" has been temporarily stalled as the industry purges itself of the "get rich quick" logistically illiterate in favor of the technologically and operationally astute. In essence, wholesalers and 3PLs need to provide outsourced business process management and take on the inventory risk associated with picking product in volume from the manufacturing plant and delivering it an item at a time to the retail store and/or consumer. And they have to hone their ability to facilitate collaboration among retailers and manufacturers to achieve optimal consolidation and identify postponement opportunities.
The combination of collaboration, network management and value-added services will firmly place the BPO, formerly wholesale distributor or 3PL, at the heart of the supply chain once again. Why heart? The heart controls the flow of blood fueling the efficient operation of the network of cells comprising the human system. The BPO will provide the services and process management to control the flow of goods that fuels the efficient operation of the nodes (warehouses) comprising the supply network.
As an example, let’s look at a potential value-added service that a BPO could offer manufacturers and retailers. One of the biggest challenges today is the variability across product facing and shelf quantity requirements. Typically, case sizes are standardized for simplicity and stores have to make do. But a BPO could manage the packaging process by adding a packaging line to its warehouse(s) and provide comprehensive event packaging capabilities. After each retail store ascertains its shelf planogram and facing needs, case size requirements would be sent to the BPO via the Internet.
For example, 40 stores may require a case of 12 items and 50 stores may require a case of 48 items. Because of the close proximity to the retailer, the BPO can personalize case sizes to match the exact facing and quantity requirements of each individual store, shelf-ready packaging. The immediate visibility to store needs and the value of individualized service facilitates the flow-through of product at less cost with reduced inventory risk and at higher velocity than a retailer could achieve by itself. Furthermore, the retailer does not have to absorb the risk of carrying either less or more than shelf quantity cases across the chain.
The BPO can, in turn, also provide highly valued services to manufacturers. By outsourcing outer pack requirements, manufacturers are able to reduce the costs associated with packaging material, labor and equipment. Because the BPO is purchasing material for multiple manufacturers, each can take advantage of packaging postponement and economies of scale. In addition, by applying custom, biodegradable labeling from a demand printer, the need to preprint outer packaging is eliminated and the reduction in reclamation costs associated with new waste management compliance is minimized.
More importantly, with the BPO taking title to each shipment, inventory turns will rise and the overall forward-deployed inventory owned by the manufacturer can be reduced. In addition, the collaborative planning process (e.g., CPFR) can be implemented more quickly as many of the information-sharing issues between retailer and manufacturer can be eliminated. The wholesaler can provide back to the manufacturer aggregated retail plans while maintaining the anonymity of the individual retailer’s information. The BPOs can clearly facilitate a "win-win-win" collaborative supply network.
Of course, it takes more than just adding packaging capabilities to add value and regain a central position in the collaborative supply network. To efficiently manage the physical distribution and execution process requires a powerful warehouse management system. In addition to supporting assembly, production, kitting and other value-added services — as well as managing a production/packaging component — an advanced warehouse management system also has the capability to track the cost of each activity. Through activity-based costing, the wholesale distributor can accurately attribute value-added service costs to each customer or order and incorporate them into a "cost to serve" model to offer a menu of prices based on the actual requirements of each retailer and customer eliminating several economic issues causing inefficiency in today’s "bracket pricing" environment.
By developing a value-added service strategy, wholesale distributors will enhance their position in the channel and reintermediate themselves with manufacturers and retailers. Their greatest value lies in the ability to postpone many of the activities and costs associated with responding to highly volatile consumer demand. Along with the ability to achieve economies of scale and consolidate volume, wholesale distributors offer tremendous economic value to the self-distributing retailer, the independent retailer and the manufacturer. Furthermore, by enabling retailers to evolve to a higher-velocity, flow-through environment, the value-added wholesale distributor can help reduce the inefficient quantities of inventory now being deployed at more distribution points than ever before — a direct result of industry consolidation and their displacement several years ago. SCF
About the author
Richard J. Sherman is an internationally recognized writer, researcher and speaker on logistics, supply chain management, efficient consumer response (ECR), marketing and organizational change. He is a principal with Gold & Domas, a visioneering company in Westborough, Massachusetts. He can be reached at (508) 366-8022, or contact the Council of Communications and Technology Advisors, www.thecouncils.com.