The worldwide cleanroom market is undergoing some significant changes. The traditional role of the distributor is being remodelled as third party logistic providers, manufacturers and customers alike aim for improved efficiencies and direct cost savings.
Standard distribution model The standard model of distribution is to provide to the customer that which the manufacturer cannot economically provide. This requires a very intimate knowledge of the customers and their needs. Traditionally the manufacturers have been glad to take advantage of a network of distributors that provide instant access to a very diverse customer base that is spread both geographically as well as across many markets. The distributor is able to be more cost effective than a manufacturer by carrying multiple lines of equal attraction to its customer base. The key functions of a distributor and the relationship between the manufacturer, distributor and customers can be described in the following model, Fig. 1. The model also indicates the relative level of activity and the relative level of business risk required for each step. Anticipation and generation consume the greater amount of activity and resources and risks. Finding the products and the customers to match them requires an in-depth understanding of the market and its needs. It is also a continuous process that requires constant levels of resourcing. Relatively speaking, the actual resources needed to deliver the product after the contract has been placed and the products sourced and matched to clients needs is smaller as it is a more focused and pinpointed activity. The business risk in the fulfilment stage is naturally lower than in the more speculative first and second steps. This standard model allows the distributor to get paid (in gross margin) for the wide range of activities and services they provide, and also allows for less profitable services to be funded by the more profitable elements. In most organisations the sales and marketing activities are very profitable but the logistical elements are not. High inventory costs, poor inventory management (customer's and distributor's), variable lead times from the factory and unforecast changes in customer's volumes are some of the causes of this but are subsidised by the gross margin related sales and marketing element as part of one package to both the customer and the manufacturer.
The unbundled model We have seen a trend to utilise third party logistics providers who take over the customers' function of inventory control. Although the main purpose of this is to "outsource" only what the customer does on his own site this has lead to some companies trying to separate the three main activities of the traditional distribution model. The term "unbundled" has been used to describe the process of trying to separate each part of the main activities that are required to get the product from the manufacturer to the end user. This has led in some areas to separate the sales and marketing and technical support activity away from the distributor and onto the manufacturer. The manufacturer does perform these functions but only at the very high volume users. Generally only larger, "key accounts" have tried to utilise third party logistics providers as there is an element of economy of scale required. The manufacturer does not carry out all of the activities of a distributor in the market, rather they are in addition to those the distributor still performs in his own business according to his usual model. The distributor is still active in the market place as before. The logistic provider also duplicates some the distributor's activities in holding inventory and delivery/on site services to the customer but is only active in some areas of the market where their activity is paid for by the larger users. The logistics provider takes over the customers' inventory so is removing some of the customers' activity rather than that of the distributor. As Fig. 2 shows, the manufacturer, the logistics providers and the distributor are now performing parallel and overlapping activities that previously were performed by the distributor alone in the market place. The distributor does not cease to be active in the market as he still has a position to fulfil for the manufacturer and other customers who have not employed logistics providers. The logistics providers take over some of the customers' activity and part of the fulfilment role of the distributor. Theoretically, the addition of a logistics provider into the loop still allows distributors to get paid for each function they perform if all parties acknowledge that all three parts of the process are still needed. However, it is sometimes difficult for all parties to understand the actual cost of each part of the service. It is sometimes a case that the cost of the sum of the parts is more than the whole. If those services were broken down and costed separately it (theoretically) becomes possible for the distributor to pick and choose what he will not provide, i.e. separate those services that they are less efficient at and simply stop doing them. In reality the customer still wants and often needs all those services, including those he does not visibly see he gets, but is rarely willing to pay their true, separated cost. Reality bites. In practice the distributor, in an effort to stay in the picture, (where they feel they are being squeezed out of it) usually ends up still providing the high levels of service but does not get the full "fee" i.e. gross margin, he used to. The distributor finds it difficult to provide reduced levels of activity where he does not get paid for it at the higher volume customer, while still running a traditional model for medium and smaller sized customers. Saying "no" to a long established customer goes against the whole ethos and pattern of his previous business practice.
Confusion of functions It is possible to get confused over what the third party logistics provider is actually doing. They can be perceived as replacing the distributor and therefore customers want access to what was the distributor buying price direct from the manufacturer. The customer may just assume that the third party logistics provider and manufacturer between them will in effect cover all the activity of the old distributor. Fig. 3 shows that, while the logistics provider may provide fulfilment services, both the manufacturer and the customers miss out on all the other supporting activity of a distributor. In reality the logistics provider is only replacing the customer's stores and on site logistics and gets paid an uplift percentage of the product price for doing so. This is appropriate since, by replacing the customer's high costs of inventory, he is performing a service that he can provide at lower cost than the customer can. It has been argued that in removing inventory and management costs from the customer to a logistics provider has produced cost savings in excess of 20%. Many provider's charge an uplift in the region of 10 - 15% so this creates a decided cost saving for the end user. However, both the customer and the third party logistics providers still heavily rely on the distributor to perform his old function as all that has actually happened is that the inventory has moved location and responsibility from the customer to the outsourced provider. There is no obvious reduction in cost for the distributor and the essential sales and marketing and technical support activity, and that of growing and sustaining new business is not done at all by the logistics provider. If the manufacturer allows distributor pricing to the logistics provider then they effectively have removed the distributor from the model and therefore the manufacturer also has to incur the additional cost burden of all supporting activity that the distributor previously performed. It can be argued that at "mature" accounts the essential sales and marketing activity was performed long ago and has already been "paid" to the distributor in previous years' gross margins. When an existing user therefore transfers over to a logistics provider it can be said that the distributor no longer has much "value added" left to provide. This describes a very static and unchanging market. The surplus net margin from mature accounts has traditionally been used to fund new sales activity and achieve sales growth or other market sustaining activity for the manufacturer. For the customer the distributor continues to provide resources for developing new services and sourcing new products that they would not have time or resources to pursue. A third party logistics provider usually has little interest in defending a competitive challenge for the manufacturer, and could potentially be courted by the competition with promises of higher margins. In this case the manufacturer would incur increased costs of defending the business (either as reduced pricing or increased activity or both). The customer may be bombarded with demands to accept frequent product changes or worse still get product substitutions that he is not aware of.
Efficiency Some distributors are not 100% efficient at all parts of their activities and the reduction of some high volume business can create a sudden increase in costs when they lose some economies of scale. Removing the ability to share costs across different activities can create an extremely unbalanced economic model. This in turn may get passed on to the distributors remaining customer base, i.e. the medium and smaller volume accounts who end up having to pay more to sustain the distributor's increased costs. Reducing or completely removing the benefit of high volume business from the distributor can therefore lead to a reduction in sales for the manufacturer, as the first activity to be reduced by the distributor is often sales and marketing personnel who have a high profile in their financial reports. The customer becomes more and more "price" fixated rather than cost/benefit orientated and the manufacturer has increased costs of supporting and defending business, costs they never had to assume before. In reality the cost of sales and marketing personnel are pretty much the same whether it's provided by the distributor or the manufacturer. Shifting the responsibility for sales and marketing and technical support only reduces the margins for the manufacturer unless they can achieve higher levels of Sales Price. If the manufacturer is not able to increase their margins to pay for increased activity they can very easily withdraw from a market which may not be their core activity (which the distributor is less liable to do). This may be a more real concern that at first glance as more and more large corporations are dominating the manufacturing end of the cleanroom supplies market. In addition the burden of anticipation and fulfilment switches to the manufacturer with often variable results. These are not core activity for the manufacturer who has an incredibly steep learning curve to follow and become customer intimate in a very short period of time. The manufacturer is also in danger of being forced into becoming the main inventory holder instead of the distributor. Both these activities add more cost to the manufacturer. The generation side of the equation as performed by the distributor may become entirely focused on medium and low volumes users with reduced growth potential for the manufacturer. The distributor may view it that he must defend his business not just from the other competing distributors but now also from the manufacturer, his previous ally. The reduction in loyalty to the manufacturer can lead further to increased competitive battles as the distributor seeks new alliances with what they feel may be more loyal manufacturers.
New opportunities, a feed based structure In theory there is no reason why the distributor cannot also become the logistics provider and charge the customer and manufacturer separate fees for each part of the function they provide. The manufacturer can still pay for his required services by allowing gross margins for the distributor and the customer should logically pay similar percentage uplift costs as they would to any third party logistics provider. Fig. 4 shows a more logical approach to the solution, where the distributor now does both the traditional model but also provides the logistic services. This can be a more efficient model. The distributor continues to provide the standard model to those who require it while also being able to provide logistical services. This can only work if the distributor has the ability to handle the increased responsibilities and understand the true commitment required. Taking over the full logistic requirements of a customer is a far cry from their normal "ship to order" routine. Many distributors will not be capable of assuming this more responsible role due to lack of experience or even simply size of resources. Many distributors run their businesses on a reactive or "me-too" basis and only improve or increase their level of service when forced by market pressure to do so. Taking a pro-active approach, adding additional resources and building up a skill set ahead of customers' needs may not be their standard pattern. In selecting a distributor then for the logistics role it makes sense only to consider those with a proven track record of logistical services. The benefit of a third party logistics provider is that they have a wealth of experience in that discipline. They only lack a more intimate knowledge of the products and customers' exact needs and applications. If we are to consider a distributor as having more relevance due to their experience with our business, then we must also apply the same standard to their logistics capabilities. Selecting a distributor who cannot prove their logistics experience would require a very significant learning curve and run quite a high business risk. One other problem is that this can only happen if the customer accepts that the distributor is now acting in the same role as his third party logistics provider, and this requires a significant shift in the relationship. The customer may take the view that the distributor should provide the increased level of services, as a logistics provider, without additional reward even though the customer would willingly pay a third party provider for his services separately (and in addition to the existing product price structure). A further problem is more emotional. The distributor acting as logistics provider is now "inside" the customer's organisation and has access to information that the customer is often loathe to allow to "an old adversary". In this case a totally new third party provider has the benefit of being seen as independent of the traditional customer/distributor relationship. Logically if the distributor does become the logistics provider then what has changed? Most certainly the level of intimacy required is a challenge to both the distributor and the customer. If this can be overcome then the distributor, with his more intimate knowledge of the products, the applications, the history of the customers' needs and relationships with manufacturers has the opportunity to become a better service provider than a less knowledgeable third party provider. The distributor will need to learn new skills that go beyond merely "shipping to order" and this will present challenges to many smaller and more traditional distributors. Will the customer be able to accept that the distributor now offers his "menu" of services for individual fees, like the third party providers, and not expect the whole wide range of services for an all encompassing product "price"? Will the distributor be allowed, in this model, to stop doing some activities they are not cost effective at ? The opportunity for distributors in these kinds of models may be either to increase the abilities on all sides to become expert at all or to reduce his cost structure and focus on core sales activity. The decision may be to either invest in increased quality of services or see a reduced revenue/turnover from a purely "sales" function. Most distributors are more focused on the gross sales value of their business rather than net profitability. Switching to a service based, fee related model which will greatly reduce the overall turnover of the company may not be an easy mental adaptation. So, pity the poor distributor? Not at all. All businesses must change to meet the changing needs of the market. Many distributors forget that they only came into existence when the market conditions required them. The rules of evolution apply just as much to business practices as they do to the dinosaur.
Future change Business, like life, is about change or we would all still be driving black Fords and hitting them with buggy whips to go faster. Distributors may need to establish what business they are truly in today and what business they want to be in future, and accept continued change as part of their continued existence. The opportunity exists for them to be more pro-active and increase their value to customers and manufacturers alike. Manufacturers also may need to assess what they consider core activity and whether it is efficient to their individual business models to incur the cost and change of strategy that is required to support markets that request unbundled support models without traditional distributors. Customers will develop models based on their experiences of moving inventory management outside the wall to a logistics provider where they are able to see benefits to that process. Medium and small users may be in danger of having channel decisions forced upon them with a reduction in choice about the services they receive, from what sources they get them and perhaps increased costs associated with those choices. The market for cleanroom products is changing but in general terms the needs of the most important element, the customer, has not. The mechanism by which they obtain Fulfilment will continue to change as technology, the business environment and their own manufacturing processes and business models change. Like most things in the 21st century manufacturers, distributors and logistic providers, or distributors as logistic providers will need to cope with the fast and increasing rate of change.
Russ Bird is Managing Director of Basan UK Ltd, part of the Basan group, the largest cleanroom distributor in Europe. He has 21 years of experience in the cleanroom industry building cleanroom distribution businesses in Europe, Asia and the USA.
Tel +44(0) 1256 345610
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