It all comes down to price
How buyers react to price pressure colors their view of supplier performance.
By Susan Avery -- Purchasing, 5/4/2006 2:00:00 AM
How purchasers rate distributor performance for 2005 depends largely on how they handled pricing pressure last year.
Buyers who typically place orders with suppliers based on lowest price are less likely to give distributor suppliers good grades for performance in the past 12 months. Those who negotiate competitive prices and consider total cost when entering into an agreement with a distributor may view the suppliers in a different light.
On the whole, buyers responding to Purchasing's annual survey on distributor performance are satisfied with the way their suppliers did their jobs in 2005. Twenty percent say distributor performance was 'excellent.' Another 74% give the suppliers a 'good' grade for their efforts. What's more, 54% of buyers are purchasing more items—both MRO and production—through distribution than they were five years ago.
Buyers base these scores on a number of different elements. Taking a close look at the survey results finds that price as a measure of performance, particularly for MRO goods, took on new importance in 2005. The survey asks buyers to rank price and other elements as a measure of performance based on a scale of 1-10, with 10 the highest rating. For MRO goods, buyers rank price 6.9 on the scale. A year ago, in a less inflationary environment, price was not as important (5.8) in the minds of buyers as they rated distributor performance.
While total cost as a measure of distributor performance for MRO goods has taken on more importance in the recent past, it still plays less of a role than price. On the scale of 1-10, buyers rate total cost a 5.9. A year ago, this figure was 4.4. Going back another year, it was 3.8 in 2004.
Technical assistance, another measure of performance, is less important to buyers today than it was a year ago. Those responding to the survey say it rates a 1.9 on a scale of 1-10. Last year, they gave technical assistance a 3.9.
These findings dovetail nicely with recent experience of Tim Underhill, president of Underhill & Associates in Tulsa, Okla. As a consultant, Underhill works with both purchasing operations and distributor management on such issues as total cost of ownership, strategic sourcing and supply chain management.
Underhill sees a split in terms of companies that just want a low price from distributor suppliers and those that realize there's more than price. He places the companies into two camps: One that's embraced strategic sourcing and supply chain management; the other remains mainly tactical in its purchasing activities. 'There's huge pressure on price right now,' he says. 'But a number of companies are telling me that they can't get any more on price. They worked really hard and they're asking, what's next? What's next is total cost.'
It stands to reason then that if buyers are not getting what they perceive to be the lowest price from their distributors that they may find the suppliers lacking and give them a fair or poor rating. But what also happens to buyers who purchase on price is that they may witness a decline in other areas, such as technical assistance and innovation.
Buyers answering Purchasing's survey lavish praise on their distributor suppliers for their responsiveness. They also like their distributors' geographic range of service and their e-commerce capability. Asked to pinpoint their biggest problems, they say the suppliers fall short in their product knowledge and technical expertise.
But it may not be distribution's fault. One challenge for distributors is that customer expectations have increased dramatically thanks to the Internet, says Adam Fein, president of Pembroke Consulting in Philadelphia, and author of the 2006 Wholesale Distribution Economic Report. Distribution's customers are trying to do more in less time and are using online sources to become better informed about new products and technology, he says. 'I don't think the performance of distributors has necessarily gone down. Expectations of customers have gone up, and the perceived value of distribution educating buyers is being eroded.'
Still, buyers who choose suppliers based upon lowest price often lose that technical expertise—and probably a whole lot more. Buyers who look beyond price in their negotiations with suppliers find that distributors are willing to work with them, spending time onsite at a plant location, demonstrating new product applications and offering other ways to reduce costs.
Underhill tells of an energy company that asked a pipe, valve and fitting distributor to survey one of its refineries. The supplier determined that if the company spent an additional $250,000 on upgrades it would reduce energy costs by $2 million. 'That's a good return on investment,' he says. 'Distributors that provide technical services are gaining attention from cutting edge companies.'
Understanding needs
But do distributors have a true understanding of their customers' needs?
'Half do; the others have no clue,' says Glenn Barcia, purchasing manager at Maney Aircraft in Ontario, Calif., a respondent to Purchasing's survey. 'We've done business with some distributors for a long time and they don't seem to have a high turnover of associates. I can pick up the phone and they know exactly what I need when I need it and they just take care of it. There's never any issue. For the others, I don't know if it's a lack of training or the quality of folks or maybe it all flows from the top down.'
In that distributors sell to their customers every day, yes, to some extent they do understand their customers, says Fein. But because of such day-to-day servicing they may not easily recognize new behaviors or be aware of a customer's changing profit model.
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What buyers like about distributors (Order of responses)
Source: Purchasing survey |
It all goes back to communication. In his work with distributors, Fein recommends asking tough questions about a customer's business. 'Buyers, for their part, should be explicit about what's changing in their business and make sure that the distributor understands that,' he says. 'Just like everything else, there are some distributors that are great and others that are less than great.'
Those that are less than great may be simply order takers, and have little understanding of a customer's needs. In his work with distributors, Underhill suggests they segment customers into categories. Some customers will always be price buyers. Others are willing to pay a little more for services. Still others are in between. The customers that understand total cost and are willing to pay more for services will always get more out of the relationship, he says. Their suppliers are going to better understand their needs.
In order to pay more attention to these buyers, some distributors have gone so far as to say that their competition can have the customers that are looking solely for the lowest price. 'There's a growing trend among distributors to go that route,' says Underhill. 'They are capturing market share and they are getting paid for it.'
For many of the distributors that are in between and may be hurting because they are giving away too much for free, Underhill says that they have to figure out how to price their services in a way that's advantageous to the customer, but also keeps them in business. This has long been a matter of contention between distributors and purchasing operations. 'Buyers will pay for services, he says. 'If it's not pie in the sky stuff.'
Innovation
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Buyers' biggest problems with distributors (Order of responses)
Source: Purchasing survey |
In fact, purchasing operations want their distributor suppliers to be more than providers of products. According to Industrial Distribution magazine's 59th Annual Survey of Distributor Operations (published in August 2005), distributors say buyers are looking for more innovative ways to do business with them.
And some have more success than others. One buyer responding to Purchasing's survey is unhappy that his distributors are not willing to go the extra mile. 'If I try to do something out of the box, it's like the world has come crashing down,' he says. 'It can't be done. If it's not canned, they can't think. It's kind of sad.'
There are distributors that are thinking of ways to do that and about creating new pricing models. 'Innovative distributors describe themselves in terms of ways they help their customers to succeed, not in terms of their line cards or the size of their buildings,' says Fein. 'The ones that are most successful think in terms of how their customer's business works.'
In the end it all comes down to the way purchasing performance is measured. A company that's embraced strategic sourcing and supply chain management measures performance of its purchasing operation on how well it manages cost. A purchasing operation that's still mainly tactical evaluates buyers on whether they can get the lowest price possible from their distributors, and perhaps delivery.
The five largest categories of goods purchased through distribution
Source: Purchasing survey |
'More sophisticated buyers understand the concept of total cost, and hopefully their companies are rewarding them for that,' says Fein. 'When we move to a piece price environment, service and quality suffer.'
No matter what, Underhill says, 'purchasing wants to do the best job it can.'
Looking ahead, one purchasing agent in the Midwest responding to the Purchasing survey says that his company's relationships with its distributors will not change if the suppliers remain strong and competitive in the marketplace. 'But if they dumb down staff, they will suffer.' Others say they may bypass the distribution channel altogether in favor of purchasing more directly from the manufacturer.
Still, battles over price loom. Distributors are being hit with higher prices by their manufacturer suppliers while their customers are being hit with higher operating costs. 'They're getting squeezed,' Underhill says. 'But for those purchasers willing to look outside the box for solutions to problems that are advantageous for the entire organization—and if the organization is willing to give them credit for it—then their relationships with distributors are only going to get better.'
What MRO buyers want from distributors
The following get top priority (on a scale of 1-10, with 10 the highest):
| 2006 | 2005 | |
| Source: Purchasing survey |
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| Quality | 7.8 | 7.2 |
| Price | 6.9 | 5.8 |
| Availability | 6.5 | 4.6 |
| Total cost | 5.9 | 4.4 |
| Service | 5.2 | 5.7 |
| Ease of doing business | 3.3 | NA |
| Brands carried | 3.0 | NA |
| Inventory assistance | 2.1 | 3.6 |
| E-commerce capability | 2.1 | NA |
| Technical assistance | 1.9 | 3.7 |
| Emergency assistance | 1.3 | NA |
When buying for OEM needs, the following get top priority
(on a scale of 1-10, with 10 the highest):
| 2006 | 2005 | |
| Quality | 8.3 | 7.8 |
| Availability | 6.8 | 5.7 |
| Price | 6.4 | 6.8 |
| Total cost | 6.2 | 5.8 |
| Service | 4.4 | 5.1 |
| Technical assistance | 2.4 | 3.1 |
| Reputation | 1.9 | 2.2 |
| Inventory carried | 1.8 | 3.6 |
| Source: Purchasing survey | ||
Industrial distributor trend data
| Value | % change vs. previous period | |
| Revenue | ||
| (Dec. 04-Nov.05) | $316.1 billion | 15.5% |
| Employment | ||
| (Nov. 05) | 671,300 | 1.8% |
| Source: 2006 Wholesale Distribution Economic Report | ||
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