Demand Creation is a distributor’s most important contribution to the supply chain.
A fundamental shift in industry has been occurring over the past 100 years. Industry strategists often perceive programs like Just in Time (JIT), Total Quality Management (TQM) and Supply Chain Management as events that transform manufacturing and distribution. While this is true, it misses the real underlying change agent: the shift from the highly engineered products to commodities.
The word “commodity” brings to mind products we are no longer interested in manufacturing. No one mourns the loss of many cheap trinkets to the U.S. manufacturing base. The commodity concept goes far beyond this narrow definition, however. A commodity is simply anything that has multiple competent suppliers with efficient processes. The winner is the low-price leader. Price wars are not attractive to many manufacturers, and so we seek ways to create new products and try to defend them against the inevitable product life cycle that takes them to commodity status.
Processes can become commodities, too. Consider hairstyling. In the 1970s, men started getting their hair styled, paying upwards of $25 for a haircut. In time, more firms offered hairstyling, more hairstylists were licensed, and eventually a salon was on every corner. Prices plummeted to $8 to $12 in the 1990s. The hairstyling process had been commoditized.
Effects on the Supply Chain
The supply chain consists of a series of processes, as depicted in the accompanying illustration. Depending on your approach, the chain proceeds in a “push” fashion where the design engineer creates the product, manufacturing produces it, transportation firms move it, distributors store it, and the distribution sales force sells it. In the new supply chain model, called the “pull” model, the distributor’s sales force sells it, manufacturing produces it, and transportation moves it. The model used will be situation-dependent, but the processes are not. Most manufacturers and distributors have decided that inbound (supplier to distributor) transportation is a commodity (easily accessed, many providers) and have long since outsourced it.
For some time, the United States has been experiencing a decline in its manufacturing base. Manufacturers have been moving plants to South and Central America and the Pacific Rim in pursuit of labor savings. The process is often called “island hopping,” since, in its earlier stages, firms would build and operate plants in Taiwan until labor rates rose, then move to Malaysia, then on to the next island. The island hopping process can best be illustrated by what happened to Guadalajara, Mexico. When NAFTA started, electronics manufacturers relocated to Guadalajara from the United States. The first firms found a capable workforce at a wage rate well below that of the United States. The next group found fewer qualified workers and had to invest in training. As the workforce depleted, training costs continued to rise until it became more cost efficient to hire people away from competitors. The bidding wars eventually led to equalization between U.S. and Mexican wage rates and the logistics cost of shipping from Mexico.
Then China came on line with wage rates well below Mexico. Guadalajara experienced greater losses in manufacturing than the United States. Adding to the process, contract manufacturers had come into existence, making products as an outsource for the original equipment manufacturers (OEMs). OEMs found it less expensive to pay someone to make their products than to open and operate their own operations. This situation led, especially in electronics, to the original design manufacturer (ODM) concept. An ODM designed the product and paid contract manufacturers to produce it. The manufacturing process could now be outsourced to inexpensive sources. The competition among countries and emergence of contract manufacturers indicated that manufacturing processes were rapidly becoming commodities.
This environment underscored the importance of the design engineer. For an ODM firm, all competitive advantage had to come from its engineers. These engineers, however, were in a battle with shortening product lifecycles. To avoid their products becoming commodities, manufacturers had to look to their distributor partners for help. Distribution services wrapped around a manufacturer’s product could slow the commodity process. On-time delivery, Just in Time programs, Vendor Managed Inventory, etc., were used by distributors to cement customer relationships, and manufacturers sought alliances with distributors to protect their products, give them advanced notice of the customer’s needs (for new product design) and sell new designs to large customers. The latter two methods are called “Demand Creation” and are regarded as the most important contribution distributors can make to their supply chain.
Distributors Are Not Immune
In the near term, distributor logistics processes (warehousing and private fleets) will be necessary, since third party logistics firms (3PLs) do not have the capacity to take over so much of the supply chain. Eventually this will change. Distributors will automate their warehouses, and, as they do, 3PLs will reach further and further into the distributor’s operations. Soon 3PLs will assist in staging materials; then, even picking may be outsourced. The warehouse will be run by the information system and picks will be coordinated with 3PL pickups. Automation equipment will reduce the number of pickers. 3PLs have already started offering third-party warehousing to distributors. The number of suppliers and cost of operations will turn the distributor’s logistics processes into commodities as well.
This may sound like bad news for the distribution community, but actually it frees the distributor and the manufacturer from commodity activities and allows them to focus on high value-add activities: design for manufacturers and demand creation for the distributors. (Both carry higher margins as well.)
How Does This Affect the Rest of Us?
The process is good news for MHEDA members in the long run, but not so good for the short term. Many distribution companies, especially industrial ones, have not automated their warehouses. Forklifts are 20 to 30 years old, shelving is antiquated, picking processes are manual, etc. The problem will be in the transition. Manufacturers have been more proactive in automating their processes, and their exit from the U.S. may happen faster than distributors automate their warehouses. MHEDA members will need to frame the argument for distributors and develop models for selling to firms that do not understand the value of warehouse automation.
Educational institutions are challenged as well. Industrial Engineering programs have long focused on manufacturing processes. Industrial Distribution (ID) programs offer curricula that support distribution sales capabilities (demand creation), distributor profitability, distributor logistics and supply chain management, but are much fewer in number. In the past five years, ID programs have gone from a traditional sales focus to more emphasis on information and supply chain management.
In general, as manufacturing goes overseas, distributors will benefit since a longer supply chain needs more distribution services. The main disruptions will be felt in maintenance, repair and operations channels when the plants they supply leave. Most distributors are regional and the potential impact has many concerned. Others believe that the rush to China will slow quickly as logistics costs explode and offset the labor savings.
The increased emphasis on demand creation as the distributor’s key role will continue to underscore the importance of distributor information management. The sales force will need to make better use of information technology in tracking sales, managing quotes, analyzing customer needs, identifying opportunities and sharing critical information with suppliers.
Where Does It all Lead?
These mammoth forces did not begin yesterday. Government interference can slow them but not stop them. Distributors and manufacturers will have to embrace their greatest contribution points (design and demand creation) and collaborate to be successful. Manufacturers who do not integrate with distributors (directly through information technology and indirectly through alliances) will not have the advance customer knowledge necessary to be successful at design. Distributors who do not support demand creation (stronger IT tools for the sales force and effective information exchange strategies) for their best suppliers will soon lose them and only have commodities to sell.
Information technology will continue to grow and increasingly will be focused on the sales force’s activity. IT firms will be pushed to develop sales force automation that has meaningful market analysis ability and standardized approaches for distributors to share information with their suppliers.
Automation technology will shift from a manufacturing focus to a warehouse focus in the United States. MHEDA firms will need to provide strong value arguments, however, to convince slow-moving distributorships how critical the automated warehouse will be to their supply chain. Automation manufacturers will also need to extend their technology to environments (building materials, for example) that have been unable to find solutions due to product limitations.
Universities, especially engineering schools, will have to refocus curriculum on design (new technology) and demand creation (customer relationships and information technology). With all the changes that have occurred in practice and academia, however, we still have much to learn, understand and implement in the supply chain. The news is good, but only if we are proactive.
|Meet the Author
F. Barry Lawrence, Ph.D., is Harvey Hubbell Professor in Industrial Distribution, director of the Supply Chain Systems Laboratory, and associate professor in the Department of Engineering Technology and Industrial Distribution at Texas A&M University in College Station, Texas.