Quantifying the Value

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Quantifying the Value of Authorized Distribution
SHDA Annual Industry Advancement Summit Ft.
Lauderdale, FL Robin B. Gray, Jr. Executive
Vice President National Electronic Distributors
Association
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• Presentation Overview
• Background
• About the Study
• About the Calculators
• Case Study
• Question Answer

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• Reasons for Study
• Response to threat of disintermediation
• Response to dot.coms
• Provide value to members
• Answer questions from members
• Debunk the MYTH

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Value Study Introduction Phase I ID Perceived
Value of Distribution Survey conducted in 2000
to identify the perceptions of the value that
distributors bring to the electronics industry
supply chain. Phase II Quantification of
Distribution Values To identify and measure the
value created by electronic distributors for
customers and suppliers Started June 2002
Completed May 2003
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• Phase I Survey Findings
• Manufacturer Perception of Distributor Value
• Sales Effort
• Inventory Management
• Extending Credit to Customers
• Technical Support
• Customer Perception of Distributor Value
• Inventory Management Local Presence
• On-time Delivery
• Multiple Product Lines
• Long-term Relationships

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• Phase I Survey Findings (cont.)
• Distributor Perception of Value to Manufacturers
• Sales Effort
• Inventory Management
• Product Knowledge Enhancement
• Distributor Perception of Value to Customers
• Local Inventory Inventory Management
• Customized Solutions
• Long-term Relationships
• Product Enhancements

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• Phase II Quantification of
• Distribution Values
• Objectives
• Identification of Value Provided by Distributors
• Empirical Quantification of the Value
• Cost Savings/Cost Avoidance to Customers
  Suppliers
• Study to focus on
• Customers
• Manufacturers/Suppliers
• Inputs/Suggestions from Distributors

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• Distribution Value Calculator
• Developed by Texas AM Research Team
• The value calculations are divided into Customer
• and Manufacturer calculators.

NEDA Value Calculator
Customer Value Calculator
Manufacturer Value Calculator
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Value Categories

• Inventory
• Common to all but measured differently.
• Convenience Costs
• Customer Focused
• Sales Effort
• Supplier Focused
• Credit for Small Customers
• Supplier Focused

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Holding Costs

• Opportunity Cost of Capital
• WACC
• 9-13 estimated by participants and financial
  community
• 12.5 used in study
• Gross Margins
• 15 40
• Hurdle Rates
• 40 60

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Holding Costs

• Storage Costs
• World Class Distribution (Low) 15
• Average 20
• High 25
• Obsolescence Costs
• 1 to 9 reported by participants
• Best in class participants
• Insurance and Taxes
• 1 to 4

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Relationship Between Inventory and Capacity
Planning

• Higher capacity utilization leaves the customer
  and supplier with less flexibility
• The customer requires high fill rates since
  stockouts will risk shutdowns.
• Suppliers will have less ability to changeover
  lines making flexibility in delivery sizes more
  expensive.
• In recent years, suppliers have faced an over
  abundance of capacity leading to poor decisions
  on going direct.
• Stems from an inability to understand the cost of
  distribution services as compared with capacity
  economies of scale.

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Inventory Types

• The calculator decomposes inventory into
• Regular Inventory Inventory that moves
  associated with order size.
• Demand During Lead Time Inventory
• Order Size
• Safety Stock Inventory that does not move
  associated with risk of stockout.
• Fill Rate
• Forecast Error
• Lead Time Variability

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Analysis Average Days of A/R

• Distributors handle many small customers at
  higher risk levels.
• Higher DSO than distributors.
• Calculator brings to picture the additional cost
  of administration and the difference in
  opportunity costs and accounts receivables.

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• Calculator Overview
• About the Calculator
• Web based on-line tool for Distributors,
  Suppliers and Customers
• Neutral, savings calculated on common baseline
  categories
• No information (input and results) is stored or
  shared
• Supplier Calculator
• Used by Suppliers and Distributors to evaluate
  the cost / benefit of serving a customer through
  distribution vs. direct
• Customer Calculator
• Used by Customers, Suppliers, and Distributors to
  evaluate the cost / benefit of purchasing from a
  Distributor vs. Supplier Direct

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Customer Calculator
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Customer Value Quantification Major
Categories Inventory Management Convenience
Cost Value Added Services Savings are
quantified as a reduction in inventory, cost
savings due to increase in convenience when using
a distributor Data is collected on different
variables such as purchase volumes, lot sizes,
fill rates, lead times and expediting costs,
transportation, negotiation switching cost
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Customer Categories
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Savings Categories
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Inventory Input Parameters
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Inventory Savings - I
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Inventory Savings - II
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Convenience Input Parameters
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Convenience Savings
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• Scenarios
• Several parameters affect the savings which leads
  to multiple scenarios. For different combination
  of variables the savings differ. Savings also
  differ by customer size and market segment
• Variables include
• Customers sales volume
• Lot size
• Lead times
• Fill rates
• Holding costs
• Transportation cost
• Negotiation switching cost
• Purchasing, planning, receiving and inspecting
  costs

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Example Scenario Customer Type Contract
Manufacturing Market Segment Billion Calculations pertain to single
distributor Variables Customer purchase volume
5 M 45 M from distributor Lot
sizes 600 3500 units Lead time with
distributor 2 weeks Lead time with supplier 8
weeks Lead time variability/distributor 1
day Lead time variability/supplier 8 days
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Example Scenario Customer Type Contract
Manufacturing Market Segment rates Customer expectation 98.50
99.99 Distributor fill rates 98.00
99.00 Supplier fill rates 70.00
95.00 Holding cost Cost of capital 20
40 Cost of warehousing 15 25
Obsolescence 1 - 5 Insurance Tax 1 -
4 Expressed as a of inventory cost
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Example Scenario Results Savings Inventory
Management 9.15 - 11.93 Convenience
Cost 6.78 - 13.72 Total 15.93 -
25.65 All savings are expressed as a of
Sales
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Excessive inventory
Increase in Safety stock
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Analysis Fill rates For different values of
fill rates at suppliers the inventory savings
differ. In this example, the distributor fill
rate is fixed at 95 and customer expectation is
set at 99.99
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Analysis Fill rates
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Analysis Safety stock For different values of
lead time variability at the supplier the safety
stock increases. In this example, the distributor
lead time is fixed at 8 days with a variability
of one day.
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Analysis Safety stock
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Analysis Stock out As the number of suppliers
increase, the probability of stock out increases.
In this example, the distributor and all
suppliers have 95 fill rate
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Analysis Stock out
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Example Customer Data

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All Savings are expressed as a of annual cost
of purchasing from distributors
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Customer Savings
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• Scenario Analysis
• Various scenarios of customers yield diff. total
  savings
• Savings depend on the size of the customer,
  purchasing methods, lot sizes, lead times,
  holding costs, etc.,
• Value added services savings are calculated as
  cost to outsource or cost to build in-house
  expertise
• By using distributor, customer savings range from
  15 - 50

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Analysis As customers move from distribution to
buying direct Inventory increases Holding cost
increases Turns decrease Expediting cost
increases Probability of line shut down
increases Convenience cost increases All the
above leads to distraction of the customer from
core competency of manufacturing into other
activities such as inventory management,
planning, etc.,
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• Conclusion
• There will be cases where direct business can be
  served profitably.
• However, according to the study
• Direct requires near perfect conditions
• Fill rate requirements no higher than already
  provided by suppliers.
• Low cost of capital, DSO comparable to
  distributor.
• Inventory management skills equal to distributor.
• Few items on an order.
• Lot-sizing comparable to distributor.
• Forecasting comparable to distributor.
• Lead times comparable to distributor.
• Few potential customers/suppliers.
• In all cases, direct business should have its
  cost structures well understood and documented.

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Supplier Calculator
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Supplier Value Quantification Major
Categories Sales Effort Inventory
Management Extending Credit Value Added
Services Savings are quantified as increase in
sales effort, increase in inventory and its
associated cost, increase in cost of managing
credit with large number of customers as opposed
to small number of distributors Data is
collected on different variables such as purchase
volumes, lot sizes, fill rates, lead times and
expediting costs
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Supplier Categories
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Sales Effort Savings
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Inventory Savings - I
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Inventory Savings - II
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Extended Credit Savings
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Example Supplier Data
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Scenarios Several parameters affect the savings
which leads to multiple scenarios. For different
combination of variables the savings differ.
Savings also differs by supplier type and market
segment Variables include Supplier sales
volume Gross margins Number of distributors and
customers Turns Holding costs Bad debt
(write-off) Cash cycle
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Example Scenario Suppliers Type
Broadline Market Segment Semiconductor Variabl
es Supplier sales volume 500 M 1 B Gross
margins 20 - 40 Turns 4 - 6 Holding
costs Cost of Capital 20 - 40 Warehousing
cost 15 - 25 Obsolescence 3 -
9 Insurance tax 3
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Example Scenario (cont.) Suppliers Type
Broadline Market Segment Semiconductor Variab
les Cost of outside sales rep 100 K Cost of
inside sales rep 50 K Write-off
Distributor 0.01 - 1 Write off Customer 1
- 6 Days outstanding - distributor 30 Days 45
days Days outstanding customer 45 days 60
Days
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Example Scenario Results Savings Sales
Effort 6.75 - 13.38 Inventory Management
Savings 8.60 - 15.30 Extending Credit 7.32 -
36.33 Total 22.67 - 64.01 All savings
are expressed as a of Sales
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Analysis Cost of Capital For different values
of Gross Margin Cost of capital
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Analysis Cost of Capital
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Accounts Per Sales Person versus Sales Effort
Savings
Accounts/Sales Person vs Sales Effort Savings
25
20
15
Sales Effort Savings
10
5
0
10
15
20
25
Number of Accounts
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Analysis Turns For different values of turns at
the supplier
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Analysis Turns
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Analysis Holding Costs For different values of
holding cost the inventory and credit savings
differ
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Analysis Holding Costs
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Analysis Average Days of A/R For different
values of days outstanding the credit savings
differ due to cost of capital and opportunity
cost (cash cycle)
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Analysis Average Days of A/R
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Supplier Savings
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• Scenario Analysis
• Various scenarios yield different total savings
  to the suppliers
• Savings depend on the size of the supplier,
  distribution methods, holding costs, number of
  customers etc.
• Value added services savings are calculated as
  cost to outsource or cost to build in-house
  expertise
• Distribution savings to suppliers ranges from 20
  - 70

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Analysis As the suppliers move from distribution
to customer direct Inventory increases Holding
cost increases Turns decrease Sales effort
increases Number of orders processed
increases Departmental cost of sales, accounting
and finance increases Days outstanding
increases Cash cycle increases And profits
decrease!!!
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Conclusions The value of authorized distributors
can be traced to the following elements Invento
ry Management Sales Efforts Information
Management Convenience Credit for Small
Customers Value Added Services The
quantification found that the savings from using
an authorized distributor (expressed as a
percentage of total volume) equaled 20 to 70
for suppliers 15 to 50 for customers
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• Value to Customers and Suppliers
• Provide a methodology for determining when to use
  distribution
• This tool can be used by distributors, customers
  and suppliers to understand different
  operational/transactional cost structures
• Determine the best case scenario of cost of
  holding inventory vs service levels to maximize
  customer service and profitability
• Determine the value of the services that
  distributors provide
• Properly assign roles in the supply chain.

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Case Study
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Case Study

• Introduction
• Channel Strategy
• NEDA Supplier/Customer Calculator
• Supplier Analysis
• Customer Impact
• Summary

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Direct vs. Distribution
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Qualified and Quantified Value of Demand
Creation, Capture, Fufillment -Sales/Marketing/R
each -Inventory
Mft /or Channel? -Cash Cycle
Division of Ownership
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Channel Strategy Customer Segmentation

Number of customers
Mft
Mft
Mft Channel
Major
Mft
Mft Channel
Mft Channel
100's-1000s
Targeted Emerging
10K's-100Ks
Channel
Channel
Channel
Pure Distribution
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Channel Strategy II Product Life Cycle
Emerging
Established/Base
Volume
Volume
Early
Market
Time
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Customers Products

Emerging
Established/Base
Volume
Volume
Early
Market
Factory / Marketing
Time
Sales/Marketing
Channel Strategy
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Customers Products

Emerging
Established/Base
Volume
Volume
Early
Market
Factory / Marketing
Time
Co-Development with Noika,Nortel
Commodity Business at 3COM/HP/IBM
Commodity Business at Large Customer
VCs Fund Start-Up Cisco may aquire
Robotic Customer, Inquires on WEB Announcements
College Student Buys a LED for Project
Transistor Sold to Wireless Garage Door Opener
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Change in Channel Strategy 2005

Emerging
Established/Base
Channel
Volume
Mft
Volume
Early
Market
Factory / Marketing
Time
Direct Channel
Third Party Channel
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Can we quantify change?

• Moving Roughly 500 Direct Customers and 4M to
  distribution
• Customers see no impact in price
• Can company quantify savings to financially
  rationalize the distributor margin?

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Supplier Calculator
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Sales Input Dedicated vs Shared Sales Resource
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GET CML VERSION
Inventory Input
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Extending Credit Input
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Sales Savings
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Warehousing Costs
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DISTRIBUTION AS A BANK
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Case 2

• One 500K Customer with various safety stock
  logistic Needs

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Customer Calculator
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Summary Results

• Value of Distribution Varies widely based on Mix
  of Customers/P/Ns
• Hi Mix Low Volume vs Hi Volume Low Mix
• Supplier Value 5-35 depending on scenarios
• Avoid Trap of exact information vs. OK
  approximation
• No one Accounting system have this much
  resolution
• Qualified Information is also valuable

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Summary Results

• Identify Changes to realize savings
• Warehouse consolidations
• New Sales Initiatives with same Head Count
• Lower Inventory
• Improved A/Rs/Cash cycles

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• For More information
• Mr. Robin B. Gray, Jr.
• Executive Vice President
• NEDA
• 678-393-9990
• E-mail rgray_at_nedassoc.org
• Dr. F. Barry Lawrence
• Program Director, Masters of Industrial
  Distribution
• Director, Supply Chain Systems Laboratory
• Texas AM University
• 979-845-1463
• lawrence_at_entc.tamu.edu