In the first part of “The 5-Ton Elephant,” (EW — Jan., p. 28), we shared some results of our distributor survey on private labeling. This month we'll share additional distributor observations from that survey and add some context on how electrical distributors use private-labeled products to offer alternatives to their customers.

The current industry obsession with private labeling is being driven by a desire to build distributor brands, an increased focus on creating market share, decreasing gross margins and brand apathy.

At its most basic level, private labeling is a strategy to earn the business of those customers who don't value the brand of established products and are primarily interested in buying electrical products at the lowest possible cost.

Despite the current interest, most electrical distributors will never offer their own brands of products. Yet they face the same pressures as those who do. While they may not privately label products, they might demand access to “value” brands from their existing manufacturers or seek alternative sources of supply.

A thirst for more market share

The electrical wholesaling industry has long been a market-share game, and the strategies to increase share really haven't changed much over the years. To increase market share and grow, electrical distributors must outsell competitors, pursue multiple market segments, open new locations, buy into new market areas or acquire low-price competitors to eliminate competition.

An alternative strategy is emerging: using low prices to take market share. To meet customer demands and maintain or improve their margins, electrical distributors want lower product-acquisition costs. A percentage of this cost savings can then be passed to customers, enabling the distributor to capture a greater share of the customer's wallet. Distributors see manufacturers lowering their production costs by sourcing products in countries with low costs of production, and they want to employ a similar strategy.

The pursuit of price

Part of this fixation on low prices seems to be a reflection of the “as long as it lasts a year” mentality reportedly common with many residentially oriented electrical contractors. This mentality drives distributors to consider private labeling, the gray market, brokers, offshore brands and lesser-known suppliers. According to one electrical distributor who responded to our survey, “Contractors are mainly interested in low-price products, especially in the housing market. Distributors should be able to offer a low-price option to compete with big-box suppliers. It's up to our manufacturers to create the market preference for their products.”

Electrical distributors recognize that private labeling and this low-price mentality disrupts their manufacturer relationships but many are more concerned with their profitability. In addition, some national chains have started private labeling products because they believe their company brands are stronger than their vendors' brands.

The economics of private labeling

While distributors reported their highest net profit in years in 2006, gross margins continue to be tight. The differential occurred due to the convergence of a good economy, the benefit of passing through price increases related to skyrocketing materials costs, using technology to streamline operations, and tight management of overhead expenses. Since most distributors cannot grow their margins through service fees or by selling strictly on value (the marketplace does not allow it), the options to grow margins are tweaking pricing with price matrices, changing product mix, pursuing more lucrative market segments or buying better. Private labeling is another strategy to grow margins, but it only works if distributors can use lower prices to profitably grow share.

In considering the margin benefits that private-labeled products may offer, distributors should first consider the loaded costs that come with this strategy:

  • An investment in research, procurement and product management/marketing;

  • Increased inventory due to overseas minimums (and possibly warehousing and personnel needs);

  • Product liability insurance;

  • Replacement costs (for returns);

  • Loss of manufacturer in-field sales and marketing support, rebates and marketing funds.

One wholesaler said if an electrical distributor with a private-labeling strategy doesn't earn the enhanced gross margins that private-labeled products reportedly produce, “all this process does is push manufacturing off-shore, lower the overall price point in the marketplace, lower the quality of the product itself and lower the profitability of the distributor.”

Privately labeled products and regional pricing

Related to private labeling is the practice of regional pricing, where manufacturers vary their wholesale prices by region in response to local competitive pressures, market activities, transportation, warehousing and handling costs. Several manufacturers told us that the national distributors now aggressively pursuing private labeling are seeking “Florida level” pricing from their vendors when they buy products from them. Florida is considered one of the most price-sensitive markets in the country, with significant discounts compared to pricing in other geographic markets. If a regional price became a national price in a product category for one of these national distributors, another national distributor that is not private labeling said, “If manufacturers offer much more than a 10 percent price differential to one distributor versus another, then distributors may decide to choose up sides.”

Brand apathy

Over the past 20 years, electrical distributors have increasingly invested in their brands to build customer allegiance. While relationships were, and remain, the foundation for customer loyalty, successful distributors have actively developed services and communicated their points of differentiation to their customers. This investment is paying dividends and has enabled the distributor to exert more influence in the channel, enabling them to influence which manufacturers' products are sold in a given marketplace. In fact, contractor research conducted for clients by Allen Ray Associates and Channel Marketing Group has repeatedly shown that where customers buy is more important than which brands they buy.

For example, to build its corporate brand, Graybar Electric Co., St. Louis, has changed its advertising from a product-orientation to more a customer-focused orientation that de-emphasizes the brand of the manufacturer's product. This has enabled the company to more effectively influence the customer's product purchase decision. Graybar's experience supports the findings of an NAED research study from a few years ago that showed that 74 percent of purchase decisions could be influenced by the distributor.

While smart distributors were investing in their brands in recent years, at the same time many manufacturers reduced their product development and brand building efforts. This created an environment for brand apathy to take root. On the flip side, manufacturers that continued to invest in their brands have successfully grown their markets and revenues and are valued by distributors. The manufacturers that decreased their branding efforts focused instead on funding rebates and operational issues. This brand apathy contributes to private labeling and product substitution, as the customer is more concerned about where to buy versus whom to buy from.

In addition, many industry observers believe most manufacturer salespeople are focused on individual customer transactions and don't understand the value of building the manufacturer's brand in the marketplace. Their focus is on feature/benefit selling, not building customer loyalty. Moving forward, manufacturers should focus on influencing customer decisions and partnering with distributors that actively support them beyond just selling their products.

Interestingly, the grocery industry experienced the power of branding when generics (remember black-and-white packaging?) entered the industry. Initially, generics represented a small percentage of supermarket revenues. But once retailers converted to store brands and actively marketed them, sales exploded. According to John Stanley Associates, Clearwater, Fla., grocery store brands now represent 25 percent of the market and private-label products represent up to 40 percent of Wal-Mart's sales.

The apparel industry is similar. Retailers have developed relationships with designers and are private labeling production. Companies such as Target, Gap, Abercrombie & Fitch, DKNY (Donna Karan) have had success with their own store brands. In some industries this is considered “slick labeling,” where a product is manufactured to a specification and the distributor/retailer's label is placed on the packaging. In this example, private labeling is not just about price, but a tool to build a brand.

Distributors in the industrial distribution and home remodeling markets are familiar with private labeling, too. According to Adam Fein, Pembroke Consulting, Philadelphia, W.W. Grainger Inc., Lincolnshire, Ill., currently has more than 9,000 privately labeled stock-keeping units (SKUs). These SKUs account for $400 million in sales — 7 percent of the company's total sales (See “Lead the Way With Private Labels,” p. 44).

Home Depot, Atlanta, recently announced its OrangeWorks line, with a new fire extinguisher manufactured by Kidde, and already has the country's largest ceiling fan company — Hampton Bay.

Private labeling is common in the global electrical industry. Several years ago, Rexel SA, Paris, created a “competing” distributor in France, called Coaxel. This company carries name brands, as well as its own brands. According to a recent Rexel press release, “The Coaxel network has been instrumental in supporting sales growth in the residential end-market, helping the company achieve a 10.4 percent sales increase in a market that was mainly led by the small contractor segment.”

Supporting Name Brands

Alternatively, electrical distributors who choose not to offer private-labeled products may want to explore the following strategies:

  • Negotiating competitive pricing from existing suppliers;

  • Gaining access to existing manufacturers' value lines;

  • Developing relationships with “price lines”;

  • Identifying manufacturers willing to “partner” to create (move) business and support the distributor.

Are low prices really worth the hassle?

Ultimately, private labeling comes down to product cost, and the jury is still undecided about the long-term value of the rock-bottom pricing that privately labeled product may offer. Electrical distributors that private-label products may gain price advantages, but they must consider whether potentially losing relationships with traditional manufacturers is worth the risk.

When asked about negotiating lower prices, Bob Woolf, a noted sports agent, said in an Inc. magazine article that the short-term gain a customer gets with a lower price may not be worth the long-term damage to the relationship. “It's possible to push price so far and create such antagonism that the extra 10 percent isn't really worth it,” he said. “If someone feels you held them up, they're going to take it out on your business. Obviously, a negotiation isn't only about money. You have to give the other people a profit margin and let them live. You want them to thrive and grow. It's only practical. If they go out of business, it doesn't help you any. As they grow, maybe you'll participate in the growth.”


Allen Ray is principal of Allen Ray Associates, www.allenray.com. Allen Ray Associates helps companies improve profitability through effective pricing strategies and streamlining business processes through effective e-business utilization. Ray can be reached at (817) 704-0068 or allen@allenray.com.

David Gordon is a principal of Channel Marketing Group. Channel Marketing Group develops growth strategies for manufacturers and distributors. He can be reached at (919) 488-8635 or dgordon@channelmkt.com. Register for monthly newsletter at www.channelmkt.com.

Planning for the Future

As private labeling becomes more widespread, here are some questions to ask:

  • Why do customers do business with you?
  • Whether you are a manufacturer or a distributor, how do you differentiate yourself in the market?
  • What do your customers think about the value of the brands you manufacture or stock?
  • What is your business strategy? What are your channels to go to market?
  • How are you positioning yourself?
  • Is your private-labeling strategy a procurement strategy, a brand-building strategy or a market share and margin generator?
  • What is your (distributor and customer) tolerance for supporting product liability issues and as a manufacturer, do you want to add them to your insurance?
  • How does private labeling affect a distributor's relationship with manufacturers' sales organizations?
  • Do you need multiple price point lines?
  • As a manufacturer, should you embrace private labeling and make it a growth aspect of your business?
  • What are the costs of private labeling?
  • As a distributor, which manufacturer services and support are you willing to forego for a lower price? Does this change by the type of product?
  • Is private labeling an industry fad or a fundamental change?
  • Should you “keep up with Jones” or pursue a different path?

What Distributors are Saying about Private Labeling

Electrical distributors who responded to the Allen Ray Associates/Channel Marketing Group survey on product liability didn't hold back when commenting on this controversial issue. Following is a sampling of their comments.

“Manufacturers are obviously upset over the topic, but the fact is that most are not manufacturing much of their own products either.”

“Liability is, and should be, of primary concern.”

“Private labeling should be used only on a very few product lines, and where brand names do not matter.”

“Manufacturers need to stop milking the old products so hard and price more proactively and defensively.”

“Name-brand manufacturers are producing products for national chains.”

Private Labeling…What is It?

For many, private labeling is defined as a manufacturer — either a name-brand manufacturer or a less-familiar company — that produces products for others to place their name/brand on. Products sometimes may be viewed as generics, known primarily by their function. Other times, the product may have a company name or the retailer/distributor develops their own brand. Other variations on private labeling include:

  • Distributor establishes a UPC or item number and description (regardless of manufacturer part number or description). This numbering system is then provided via commercial database loads for contractor estimating and purchasing systems.
  • Distributor provides an electronic and/or paper catalog with its own catalog numbers and no manufacturer reference.
  • Distributor promotes its price and catalog number in market offerings. The manufacturer name is subverted to the distributor's numbering system.
  • Distributor provides cross-reference tables to its own product numbers.
  • Distributor invoicing system prints its numbering system and product/ manufacturer selection is left to distributor personnel.
  • Distributor provides contractors with branded bins for its warehouse/trucks and stocks these bins for the contractor with manufacturer products, without providing any information regarding the manufacturer.