At the National Electronic Distributors Association annual conference last November, several speakers declared that the downturn that had ravaged the distribution industry for the past three years was over.

Speakers noted that unit shipments increased in the second half of 2003, pricing firmed and leadtimes stretched. Revenue for most distributors increased dramatically in the fourth quarter. While the news brightened the mood at the meeting, few distributors popped open champagne to celebrate. Many seemed to be shell-shocked by the long, painful downturn and were fearful that the recovery might be seasonal and short lived.

However, as the second quarter of 2004 begins, distributors are optimistic that the recovery is holding and will build through the year. Most forecast double-digit growth for distribution, which would be welcome news for the industry. In 2003, revenue of the Top 75 distributors decreased 7% despite the fourth quarter rebound. In 2002, revenue declined 22.4% and in 2001 sales dropped 24% for the Top 75.

A return to growth for distributors would be good news for electronics buyers. The downturn has resulted in consolidation in the industry, giving buyers fewer choices. Revenue growth would help stabilize the shrinking distributor base.

Most distributors agree that the current recovery began in September and took hold in the fourth quarter. 'We saw a strengthening in North America in September,' says Bill Mitchell, CEO of Arrow Electronics. 'We saw it across all segments. Wireless and wire-line communications, automotive, industrial controls, instrumentation, medical aerospace, medical and military all strengthened across the board in the fourth quarter,' he says.

He says Arrow's small- to medium-sized 'bread and butter' customers, which number about 40,000, came back strongly in the fourth quarter. 'In North America we had 31% fourth quarter over fourth quarter growth,' says Mitchell.

Digi-Key also had a strong quarter, which helped it grow sales 10% in 2003, one of the higher growth rates for distributors. Mark Larsen, Digi-Key president, says the momentum of late 2003 is carrying over to 2004.

'We have seen some real encouraging signs. In January we were up 25% over last January. February was up 30% over the previous February. I think it is looking positive, but I'm a little nervous. Given the last couple years you ask, 'How real is this?''

While Digi-Key had a decent year with double-digit sales growth, most distributors would say that 2003 could not be considered a healthy year.

'You cannot call 2003 a good year, but it was a year of recovery,' says Roy Vallee, CEO of Avnet, which maintained its number one ranking in North American distribution sales. Avnet sales growth was flat. Vallee says unit shipments increased, but prices declined in the first half, stabilized for a while, and then drifted slightly lower in the second half.

'Right after the middle of the year, we saw a return to growth in our components business and we saw a pickup in activity levels and slight pickup in revenue in our computer business,' Vallee says.

'If you look at the absolute data, we did not have much revenue growth in calendar 2003,' he adds. 'Most of the progress Avnet made in 2003 was due to cost reduction and debt reduction as opposed to growth.'

However, Vallee says 2004 will be different. He, like other distributors, says double-digit growth is likely in 2004. There is growing demand from such industries as communications, industrial control, medical equipment and automotive. In addition, corporate capital expenditures (capex) are rising. 'The economic cycle is the driver of end equipment and component demand,' says Vallee. 'I think volumes will be up this year because there is economic growth that is going to drive consumer spending as well as corporate capital expenditures.'

That should increase pricing and result in the rebuilding of inventory buffers.

So far, business in 2004 has been good for distributors, but not stellar. Many distributors are satisfied with their business activity levels in the first quarter although the first quarter is usually the slowest in the electronics industry.

'So far the signs are good, but the recovery is measured,' says Arrow's Mitchell. 'The number of units that we are selling has passed the peak of 2000. We are selling more than ever. Our book-to-bill ratios are positive and our backlog has been growing. Leadtimes have lengthened, but are in the normal range of 10-14 weeks. We don't see 20-, 24- or 32-week leadtimes. There aren't any widespread shortages,' he says.

Mitchell notes that Arrow's turns business, or the percentage of orders that are taken and shipped in the same quarter, is running at 50%. When times are booming that percentage increases to 67% and when business is slow it declines to 33%.

'There is still some caution out there,' says Mitchell. 'Buyers aren't ready to place long stocking orders and nail down prices over the long term. This upturn doesn't feel like the bubble of 2000 when business rocketed. This feels like people are still licking their wounds from 2001 and being careful about building inventory. It feels like a more measured approach,' he says.

Mitchell adds that, while unit shipments have increased, prices have not, after falling dramatically for three years. 'There is still capacity. Things haven't tightened to the point where price increases can get through end markets,' says Mitchell.

It remains to be seen if there will be widespread price increases in 2004. Prices for some parts such as flash memory may rise later in the year. However, distributors for the most part will try to boost revenue growth by serving more customers. In many cases, no customer will be too small for distributors.

Many distributors will reemphasize value-added services such as IC programming, kitting, cable and harness assembly among others to increase revenue. Distributors often use services as a way to drive more component sales. Some distributors will push their sophisticated supply chain management services. Some will unbundle those services from products.

Mitchell says Arrow will emphasize design, supply chain, logistics management and demand creation services because the services result in higher margins and closer relationships with customers.

'The services play particularly well with small- to medium-sized customers because they can't afford to invest in the internal infrastructure needed for those services so they look for partners,' he says.

Vallee says he expects original design manufacturers (ODMs) and electronics manufacturing services (EMS) providers to be big customers for Avnet's supply chain and design services.

'As we look at the value proposition that we have in the marketplace, one of them is our supply chain services capabilities,' he says. 'The largest users of those services are the ODM and EMS industries. We would expect that customer segment to be our fastest-growing customer segment.'

Avnet's Promiere group provides services that help companies with supply chain planning, forecasting, bill-of-material optimization and end-of-life issues, among others.

Avnet is unbundling services, selling the customer just the service not the parts if that's what the customer wants. 'We have engagements where we are being paid for services such as logic device programming, logistics management and demand aggregation without being a traditional distributor,' says Vallee. Unbundled services will be a growth area for Avnet.

It's not just large distributors that will emphasize value added and materials management services. Smaller distributors see growth in demand for such services.

Case-in-point: Catalog distributor Newark InOne. About 20% of Newark InOne's sales involved value added-services in 2003, according to Tom Walkowiak, senior vice president, operations for Newark InOne. That percentage is likely to grow in 2004.

'We offer stockroom management,' he says. 'We can give customers free software to manage the stockroom themselves or we can have someone manage it for them on a bread route,' says Walkowiak. With a bread route, someone from Newark InOne visits the customer weekly or biweekly and takes inventory and replenishes the stockroom.

'Or we will have a Newark InOne employee reside at the site and manage the inventory,' says Walkowiak. Newark InOne has that arrangement with about 20 customers. About 250 overall take advantage of the stockroom management program because it reduces total procurement costs, says Walkowiak.

'It costs a company $150 to place a purchase order, anything I can do to reduce that PO cost makes sense for the customer. If I manage their inventory, then the customer pays only once when the parts are pulled from the shelf. It saves time and takes cost off their books,' he adds.

Newark InOne also expects more demand for other value-added services such as kitting and wire and cable assembly.

Newark InOne isn't the only small distributor seeing growth in demand for value-added services. About 60% of Hammond Electronics' $42.6 million in revenues last year were from value-added service. Hammond is a Florida-based distributor that sells connectors, passives and electromechanical devices. 'Our value-added business grew fast last year,' says John Hammond, president. 'We sell wire harness cable assemblies. We take a relay or a switch or a fan and put a wire and a connector on it and create a unique part number. That portion of our business almost doubled last year,' he says.

Hammond also offers customers vendor managed inventory programs such as in plant stores and auto replenishment.

'We have had those programs as long as the global distributors have,' says Hammond. 'We have all the IT tools where we can go into a customer, find out what they need and put together a package.'

Hammond can barcode inventory and have it automatically replenished or service the customer with a 'bread man' program. Hammond will also manage an in-plant store for a customer.

Hammond says such programs reduce overhead costs for OEMS and contract manufacturers and help Hammond sell more parts to customers.

While distributors expect healthy growth in North America component and value-added sales, some have even greater expectations for business in Asia. With so much large volume manufacturing heading to China and other low-cost regions, it has created a lot of opportunity for distributors with global reach.

'The real growth engine continues to be Asia,' says Mitchell of Arrow. 'That's where the market is. It will grow in the low- to mid-20 percentage points. Our job is to outgrow the market, which we did last year.'

Vallee of Avnet says Asia has been 'on fire partly due to the transfer of manufacturing, but there are other reasons it has been so hot. On a global level, it has been consumer electronics that has been driving economic recovery, and consumer electronics has long been the purview of Asia,' he says. 'China, South Korea, India have been leading the world in GDP growth. It is all three of those things that have contributed to Asia's growth,' says Vallee.

Avnet is one distributor that has ridden that growth. 'Our electronics marketing business ended the calendar year with 24% of revenue coming out of Asia for the December quarter,' says Vallee. 'It has doubled over the last couple years as a percentage of Avnet's overall sales.' For the year, about 21% of Avnet's sales were from Asia in 2003. In 2001, only 6% of sales were from Asia.

That trend will continue because Asian growth is expected to continue to eclipse North American growth.

'North America revenue as a percentage of Avnet's overall revenue has declined in recent years and will continue to do so,' says Vallee. 'During calendar 2003, we hit an important milestone when more than half of our component revenue began coming from outside of America.'

The trend will continue unless growth in America exceeds growth for the rest of the world, says Vallee. 'I don't see that happening unless something very strange happens.'

Andy Bryant, president of Avnet electronics marketing, says the growth of Avnet's business in Asia will result in its business being more geographically balanced than it was in the past. He says America will represent the biggest piece of Avnet's business with about 45-50% of sales, while Europe and Asia will each account for about 25-30% of revenue.

The figures could be higher for Asia if new economic growth develops more quickly and if new OEMs emerge in China faster than expected. Right now, Asia handles a lot of consumer electronics and cell phone manufacturing.

'Most people feel the two big markets still to come to China are white goods and automotive, which will be big opportunities,' says Bryant.

Bryant adds that the EMS industry will continue to be a large opportunity for distribution.

While many large EMS providers buy most of their components directly from component manufacturers, there are 'thousands of contract manufacturers that do business with distribution almost exclusively,' he says. Many of those customers also rely on distributors for value-added services.

Bryant says big EMS companies use distribution more during an upcycle to drive the velocity they need to satisfy customer demand and to provide value to customers. 'Hedge inventory and new product introduction are two big areas where we assist large EMS companies,' he says.

In some cases, contract manufacturers apportion their spends among distributors and component manufacturers. Dan Pleshko, vice president of global commodity management for EMS provider Flextronics, says about 10-15% of Flextronics' spend is with distributors for parts for both new product introduction and volume builds.

'Where we have high mix, low volume business, distributors are advantageous,' he says. 'They help us through the whole order fulfillment process. It's more of a supply chain solution. We have relationships with distributors just like we do with strategic direct suppliers. We have scorecards and quarterly business reviews. We have the same level of strategic senior management interaction. It is key for us,' says Pleshko.

Bryant says distribution and EMS providers are partnering as much as they ever have. Relationships are often based on unique value propositions. Supply chain services often provide the value for EMS companies by helping to reduce overhead and inventory costs or speeding up time to market. Large OEMS can also get world-class pricing for components because they buy such large volumes. While they get a better piece prices by purchasing direct, distributors can help them reduce overall costs.

Avnet, Arrow and other distributors say supporting the EMS industry in the future will be challenging. However, it won't be nearly as challenging as surviving the last three years. Most distributors agree the last three years were the most difficult in the history of electronics distribution. Distributors who are still standing have reason to celebrate. They are still around to reap the benefits of the recovery. For them, now is a good time to pop open the champagne.

2003 North American Rankings
See the full top 75 list here...