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A straight line, conventional wisdom says, is the shortest distance between two points. As a result, conventional wisdom also suggests that the most efficient way to deliver products to customers is to cut out the middleman. But conventional wisdom isn't always right. A direct path from information technology (IT) vendors to end users, for example, is not necessarily the most efficient or effective way to reach customers, something scores of vendors have already discovered.
In fact, two-thirds of all computer and peripheral sales go through indirect distribution channels, according to Raymond James & Associates. While IT vendors have often tested the direct-selling waters, many have discovered that the channel (Understanding The Channel) allows them to concentrate on their core competencies, such as research and design, brand management and demand creation, while distributors handle tasks like logistics and credit, and resellers configure complex multivendor solutions and manage intimate end-customer relationships.
Apple, IBM and Toshiba are good examples of vendors that know the value of the channel and, according to recent figures from The NPD Group, a research firm that tracks sales through distribution, are vendors whose recent channel sales have shown significant increases (Dec. 02 over Dec. 01). Even vendors that emphasize direct sales for personal computer products have continued to rely on the channel to get peripherals, enterprise products and networking gear to their customers.
Why take an indirect path to market? Surprisingly, the most obvious reason is cost. Cutting out the middlemen sounds like a good idea, in theory. But few technology products stand on their own; most require services like integration, inventory supply, financing, accounting, IT support and training. Distributors and the reselling channel are all about reducing the costs associated with providing these services. While people generally think middlemen generate more costs than a direct supply chain, the opposite is usually true.
The ABCs Of Channel Sales
One way to get to the true cost of direct vs. indirect sales is to do an "activity based costing" (ABC) analysis [Steve Raymund Perspective]. When vendors use an ABC analysis to do a thorough and detailed examination of the specific costs of the many different activities associated with selling a product, they often discover that direct sales cost them as much or significantly more than channel sales. Direct sales are full of unrealized and sometimes hidden expenses, from the salaries and overhead of maintaining a sales force to the costs of the systems needed to deliver products with the accuracy and efficiency contemporary customers have come to expect.
Vendors have nothing to lose and everything to gain with an ABC analysis. Establishing a detailed set of metrics that capture every conceivable cost, internal and external, gives vendors a true profit picture. In the words of a recent CFO magazine article: "ABC can help companies figure out ways to raise profits without raising prices."
Hybrid Models: The Best Of Both Worlds?
An ABC analysis of the actual cost of what it takes to get specific products to specific customers can reveal that it's cost-effective to reach some customers directly but others via the channel, all within the same vendor's go-to-market strategy.
BM's Personal Computer Division, for example, has implemented such a hybrid distribution strategy to allow customers a choice. Many customers want different channels according to particular products and situations: The key for IBM is to manage each route to market - whether direct or indirect - for profitability. In its own analysis of channel vs. direct strategies, IBM has discovered that direct sales may offer higher gross margins, but those margins are typically offset by the many expenses required to support the direct sales effort.
HP has one of the most talked-about - and most often misunderstood - hybrid strategies in the IT arena today. When HP launched its Hard Deck program in 2001, and later its Partner One sales program in November 2002, the media treated the announcements as if HP were abandoning the channel community entirely. With Partner One, even though the program had other attributes besides a direct-selling option, HP's channel partners feared the computer giant would shift a significant amount of its products from indirect to direct channels.
In reality, these hybrid strategies have had a limited effect on direct sales. Under the more recent Partner One, for example, the percentage of HP's U.S. direct commercial sales rose only a single point in the first quarter of FY 2003, and the Palo Alto, Calif., technology giant continues to drive a significant portion of its worldwide sales through its partners. "Two-thirds of our business comes as a direct result of our partnership and our collaboration with you," said Carly Fiorina, HP chairman and CEO, to a gathering of channel partners at the HP Americas Partnership conference in February 2003. In some product categories, HP is especially dependent on the channel - more than 95 percent of its printer sales, for example, go through channel partners.
Managing Relationships
Although there are times when it may make sense for vendors to work directly with a handful of major end-user customers, managing relationships with the thousands of other businesses and consumers who use their products is an almost impossible challenge. One of the biggest values distributors offer is that they save vendors from the headaches of thousands upon thousands of individual relationships, transactions, electronic linkages and telephone calls they would otherwise have to handle on their own.
Thanks to distributors, vendors only need to manage a handful of relationships to move their wares to end-user businesses and consumers worldwide. Distribution lets them run lean and mean, eliminating many of the resources they would otherwise need in place to reach and manage those many thousands of annual sales transactions on their own.
New Products, Models And Markets
Another reason mega-vendors like HP and IBM continue to depend on the channel is that it allows them to reach into small business markets with new products and technologies. Each small-to-medium business (SMB) customer has individual needs that have to be addressed, making it virtually impossible for IT vendors to achieve economies of scale servicing these customers, especially when the customers need solutions, not just boxes.
For most, the only smart way to reach into the SMB market - with its requirement for multivendor IT solutions - is to partner with the channel, using its thousands of value-added resellers as an extension of the vendors' own sales forces. And the best way to reach those thousands of resellers is through the distributors that serve them, supplying them with the multitude of products they need to create varied and individual multivendor solutions for their clients and providing them the financing vehicles and support they need to get the job done.
The same holds true in the mid-market space. Most mid-market solutions consist of complex, multivendor designs. While one configuration may work, two or three other configurations, platforms or combinations of products may work better, and it often takes the expertise of a vendor-neutral, multivendor-experienced distributor to assist resellers in choosing the right course and the right combination of products for their end customers.
Today, for the same reasons many traditional vendors have used the channel to take products and services to market, vendors such as Sprint and T-mobile are embracing distribution and the channel to drive greater sales in completely new technology markets. Vendors use distributors to pass sales strategies and positioning tips to their resellers, who in turn match the developing technologies to the specific needs of their individual customers.
And vendors - traditional or otherwise - can use the channel to develop brand-new go-to-market strategies with existing partners. For example, under its Open Value program, Microsoft uses distribution to manage transactions for software licenses. With distributors tracking the licensing sales, resellers get commissions without the associated reporting headaches, leaving the resellers free to manage their long-term end-user relationships. Cisco Systems is another beacon of creativity, having developed a similar channel delivery mechanism for its warranty programs.
The End User's IT Department
Few businesses in the SMB space can afford the luxury of a dedicated IT department. But they want the ease-of-use and on-site support of an in-house IT staff.
With its teams of distributors and VARs who understand the technology needs of their SMB customers, the channel is the only practical way to reach those customers that need the capabilities of an IT department without the cost. These customers don't have time to put their businesses on hold while they listen to a direct-seller's elevator music on a 1-800 technical support line.
In the mid-market arena, where end customers may have their own in-house IT staff, the channel still plays an important role. Distributors and VARs work together to plan implementations, troubleshoot problems and design future upgrades that will allow the end customer to grow uninterrupted.
Service and support where you need it, when you need it, and how you need it is a significant reason the channel has evolved and flourished as a technology delivery system that addresses real-world problems with multivendor solutions, overcoming obstacles that fall back on the vendors' shoulders in a strictly direct-selling model.
The Shortest Distance?
So, in addition to being the most effective way to reach many customers, the channel in many cases is also the most efficient.
As it has evolved through the decades, the channel has trained customers to expect world-class logistics support via experienced distribution powerhouses with national and international warehouse networks capable of handling significant daily orders from major customers and scores of individual orders from smaller customers. It's a system that's difficult, if not impossible, for individual vendors to cost-effectively duplicate. As a result, vendors have discovered that, for many customer relationships, the channel really is the shortest distance between two points.
Do What You Do Best And Let The Channel Do The Rest
| CORE COMPETENCIES | ||
| VENDOR | DISTRIBUTOR | RESELLER |
| R&D | Product breadth | Consulting |
| Design | Logistics | Solution selling |
| Sales and marketing | Inventory management and returns | Integration |
| Brand management | System configuration, including multivendor configuration | End-user relationships |
| Demand creation | Credit | Maintenance |
| Technical services | Channel marketing and reach | |
| Repair depot | Reseller account management | |
| Training/certification | ||
| Multivendor tech support | ||