Private-Label Pachyderm vs. Generic Godzilla

Over the past year, we've written extensively regarding the advent of private labeling in the electrical industry. We've surveyed and interviewed distributors, manufacturers, manufacturer reps and customers in an effort to understand the impact that is being, or will be, felt within the industry. Throughout our research, as chronicled in a series of articles for Electrical Wholesaling, we have shared our research and tried to present others' opinions in a coherent fashion.

While some predict that private labeling will become a significant component of the electrical industry and that a plethora of distributors will undertake such initiatives, we've concluded that private labeling may not be the growth engine that many predict and fear it will be.

Yes, private labeling can provide distributors with opportunities to compete, enabling them to sell lower-cost products to gain market share and potentially generate significantly higher gross margins. And yes, there will be distributors who will develop their own brands, especially regional and national distributors. But it will not become a strategy of choice for a vast majority of distributors.

The challenge to private labeling is that to effectively develop a private label initiative requires:

• The ability to forecast product demand

• A willingness to manage potential product liability

• Enhancements in supply chain logistics

• Treating procurement as a strategic asset and seeking sourcing relationships.

• Development of brand identify for the product offering. This brand may differ from the distributor's name (i.e. Wal-Mart offers Great Values as one of its brand names). Some distributors are adroit marketers, others are “challenged” and would need to invest in people or outside resources.

• Potentially becoming involved in product development or, at a minimum, commiting to continuously identifying and sourcing product needs.

• A significant financial investment in product design, inventory and marketing.

  The private labeling topic has been masking three potentially more important issues:

• The desire to reduce procurement costs, especially in light of the fact that many manufacturers openly tout that they source products.

  Large distributors have the financial ability to purchase from the same or similar sources as name-brand manufacturers. Smaller distributors are seeking alternatives to remain competitive.

• Manufacturer brand equity is at an all time low. Our research confirmed that in many instances, customers are brand agnostic. In the words of Sara Lee CEO Brenda Barnes, in commenting about private labeling in the grocery industry in a recent Wall Street Journal article, “The challenge for a branded company like ours is that you have to be No. 1 or No. 2 in your category, because why would a retailer want to carry 10 products in a category?”

  If a manufacturer can not engender brand preference among influencers, contractors, end-users or consumers, their products are a commodity. Assuming comparable quality, price will win.

• Price, as a component of the buying decision, is more important than ever. Some of this is due to the fact that the buyer does not perceive significant product differences. Some is caused by over-capacity within distribution, where the purchasers know they can leverage one distributor against another to get a lower price. Another reason is a distributor's need to generate cash flow to keep their doors open. In essence, manufacturers and distributors seek ways to reduce prices to their customers, and the customers willingly take advantage of the opportunity.

While some predict that up to 33 percent of electrical distributors (about 1,000 distributors based on an estimated 3,200 full-line distributors in the industry) will offer private labeling by 2012, our contention is that no-name or unbranded products (generics) will become more of a threat to the industry than private-label products.

Consider that there are currently only 200 distributors with revenues greater than $25 million in the electrical industry. For the 33 percent prediction to come true, this would mean that 800 small distributors would develop their own brands.

Marketing groups represent approximately 1,000 electrical distributors. Unless the marketing groups become involved in private labeling, the odds of many of their members individually undertaking this initiative with its expense and liability is unrealistic.

The investment to develop and expand private labeling to represent a significant revenue stream within a distributor would be considerable, dissuading many. For private labeling to be effective, what percentage of a distributor's available business would need to carry their label?

There are indications that manufacturers' reps will react to the threat of lost income by redirecting business to more supportive distributors or by considering more drastic actions, such as beginning to represent private labeled and generic products.

Finally, the alternative to private labeling — purchasing generic products — requires a nominal investment. Frequently the cost is no more than changing or adding a supplier. Order size or duplicate inventory may be a consideration, but the distributor would avoid the costs and other risks of product development, sourcing, branding, supply chain management and liability costs typically incurred in a private-label program.

We do feel, however, that many of the national chains and some of the larger regionals will develop private-label lines as a point of differentiation and as a profit enhancer. A few do it today, but within five years we expect most to offer an array of self-branded products.

Recognizing that larger distributors will develop private-labeling strategies and that this will become a competitive issue, there are a number of strategies distributors and manufacturers can investigate to retain their market share and grow their business.

Distributors Who Don't Offer Private-Lable Products

To compete effectively in the future, distributors should consider converting their purchasing departments into strategic assets, enabling them to:

• Purchase more effectively

• Evaluate suppliers more critically

• Identify premium and value lines from which to purchase

• Ensure that correct costs are entered in the system

• More effectively manage inventory

• Identify new and complementary product growth opportunities.

  Distributors should charge their sales and marketing departments with identifying and developing cost-effective competitive differentiation along the following lines.

• Dispassionately consider your customer relationships. Why do they, or why don't they, buy from you? When was the last time you asked them? Do you integrate the voice of the customer into your company? If you don't integrate the voice of the customer, why don't you?

• Consider why a customer should purchase from you. How do you save them money? What differentiates you from other distributors in your market?

• How can you be the “distributor of choice” to your manufacturers and manufacturer sales personnel? Is it items in stock with a fair price? Or is it only price?

• What is your “brand” in the marketplace? What does your brand include? If customers are willing to pay a slight premium for brand-name products, and service is your product, don't you need a strong brand?

  Distributors should review their pricing strategies. Pricing includes the right procurement cost, the right cost in the system, and the right cost to every customer. Just because it has been done a certain way before doesn't mean that it is the best profitable strategy for the future. Have you updated your pricing matrices recently? Are accounts with significant potential treated like walk-ins? Do you model your pricing strategy? Have you considered progressive discounts and other rebate and incentive strategies to engender loyalty? How could your pricing strategy encourage customers to purchase additional product categories?

  The decision to develop a private label brand can be an astute decision for distributors who have a long-term horizon, are willing to invest in the infrastructure to replicate manufacturer core competencies, and recognize that private labeling is not solely a pricing and gross-margin strategy.

  Alternatively, from a manufacturer viewpoint, competing against private-label and generic products may cause you to reconsider your marketing and distribution models. Issues and opportunities to consider include:

• Are there ways you can create brand preference at the influencer level, the contractor level or end-user level? Why should someone want your product? This will require that your marketing team understand customer needs and communicate directly with customers.

• Should your distribution model be more selective, providing greater benefits to fewer distributors in a marketplace? How many distributors can your salespeople support? Would fewer, more committed, distributors provide greater focus?

• Consider strategies to be your distributors' preferred source by being easy to do business with and the company that helps them grow their business.

Manufacturers who provide private-label products and name-brand products will be challenged to explain how they are supporting any distributor. Yes it can be an effective, short-term financial play to boost revenue, but in the long term it dilutes the value of doing business with the manufacturer.

Over the longer term, we see distributors and manufacturers trying to “pair off” more effectively for specific geographic areas and market segments.

The Real Threat

The underlying challenge to the industry appears to be coming from generic product manufacturers, especially ones that receive and carry UL and/or CSA approval.

The key advantage of generic products is that they enable a distributor to achieve a customer's price point for an acceptable quality. Consider it a “quality product for a fair price” scenario, especially if no value-added services are desired. Some of these manufacturers may belong to marketing groups, so rebates are still earned.

Based on our findings, some distributors are using generic products to test the marketplace with a goal of establishing a lower price range for a future product offering. Once this range is established, the distributor may take the steps necessary to offer their own private-label products.

Especially in the residential market, the end-customers are not concerned about product brands. They are concerned with acceptable quality at a low price. As industrial specifications continue to add “or equal,” this trend will migrate to all market segments for many product categories.

Conclusions

Another potential threat from generic or contract manufacturers is that these companies may offer products to the end-customer, either through manufacturers' reps or direct.

Given the present market conditions and the continued tightening of the residential market, distributors will be pressed to continue to lower their pricing to maintain cash flow and market share while responding to contractor and end-user demands. Many will look at generic products as a way to satisfy their price needs, while others will take the plunge into the world of private-labeled products.

Of concern to some will be potential product liability issues from private label or generic products. Until a distributor becomes involved in a lawsuit over “their” product, the issue will only be a concern to be managed, not a financial reality.

Generic products will pose the greatest threat to manufacturers and distributors because of low unit prices, the availability of warranties for many products and the low cost of entry. With a noticeable change in end-user attitudes to “just so long as it is good for a year,” we predict that many distributors will soon offer more generic products in price-sensitive categories while continuing to offer name-brand products from companies that can show a clear brand preference in the marketplace.

While private labeling is an issue to be aware of, developing strategies to more competitively position your company to combat the commoditization of the industry is critical to long-term success. Only when manufacturers and distributors gain customer preference can the branded products in the warehouse move to job sites.

Allen Ray is principal of Allen Ray Associates, Kennedale, Texas, www.allenray.com. Allen Ray Associates helps companies improve profitability by proactively identifying changing market trends and issues. Executive briefings or in depth research helps a client to receive fresh and objective analyses. Allen can be reached at (817) 704-0068 or [email protected].

David Gordon is principal of Channel Marketing Group, Raleigh, N.C., www.channelmkt.com. Channel Marketing Group develops strategic plans and marketing strategies for manufacturers and distributors. He can be reached at (919) 488-8635 or [email protected].

To keep up with issues in the electrical industry and read more about private labeling and unbranded initiatives, visit www.electricaltrends.com.