Disty Debate: The Best--Or Worst--of Times?

Distribution appears to be in a Dickensian predicament these days. On one hand, the industry's top IT distributors haven't grown their sales and expanded their empires like this since before the dot-com economy burst. But some say pricing pressures and competition, especially in North America, are as intense as they have ever seen them. The best of times? The worst of times? Perhaps both.

"We're in one of the most competitive marketplaces around today," says Tom Dolan, CEO of networking distributor Westcon Group. "Competition is lively and extreme."

Specifically, Dolan says distributors across the board, including Westcon Group, are vying for more sales in the small and midsize (SMB) business market because vendors have aggressively moved downstream. That, of course, has led to many different distributors' wooing SMB resellers, causing some overlap between enterprise, broadline and specialty distributors. In addition, it seems as if every distributor is branching out into a new technology market, such as security, wireless, Voice over IP (VoIP) and point-of-sales products. So, even the higher-margin technologies are seeing fierce tugs-of-war between different distributors.

"Pricing pressures are still very intense in North America," says Steve Raymund, chairman and CEO of Tech Data. "It's a fact of life instead of just a freak occurrence. We're still making money, but every product in every geographic region is being contested."

Even though Tech Data saw its sales in the Americas increase more than 13 percent in its most recent quarter, it suffered nearly $60 million in losses because of declining gross margins and a weak economy in Europe.

So, what product segments are being hit the hardest? No surprise, servers and PCs are at the top of the list. But some compelling statistics show just how tough the margins are for systems. According to research from the Global Technology Distribution Council, hardware sales through distributors grew nearly 10 percent in June and July this year, with computers jumping 19.8 percent.

Margins, however, are a different story. IT research firm Gartner predicts 2005 overall worldwide PC shipments, for example, will grow 12.7 percent this year, but the revenue from those sales will improve just 0.5 percent. In other words, distributors may be selling more units, but they are making less money on those products.

Other technology areas are feeling the pricing pressure, too.

Scott Zahl, vice president of marketing and vendor alliances at Access Distribution, says pricing pressures are a factor even at the enterprise end of the market. "We're seeing continued pricing pressures," Zahl says. "I'm not sure that it has gotten any worse lately, but it continues to be a factor. It's having a bigger impact on storage than on servers right now."

Dan Schwab, vice president of marketing at D&H Distributing, says his company has been generating organic growth by avoiding systems prone to pricing pressures and, instead, concentrating more on software, peripherals, components, networking and storage. "We're not quite in the same spot as the broadlines since we're not selling a lot of iron in high volume," he says. "We don't want to buy revenue with low-margin systems. Companies have gone out of business that way."

More distributors are turning to higher-margin, value-add product segments, but growing technologies like VoIP have already attracted heavy investments from enterprise, broadline and specialty distributors. While some fear that will lead to more competition between the different types of distributors--hurting margins even more--Pete Jensen, senior vice president of marketing at Agilysys, says he isn't as concerned.

"Certainly, there are a lot of competitors out there," he says. "We're in the value business, and there are some value products that have moved down from the enterprise market and are becoming commoditized, which changes things. But what we do is still very different than what the volume distributors do."

Arrow president Mike Long agrees. "There's still a huge gap between volume and value distributors," he says. "We offer a lot of the same products, but the way we offer them is a different business than the volume distributors."

No doubt, distributors will do their best to emphasize those differences while trying to increase their value propositions for prospective reseller customers. But if the intensity of pricing pressures continues, it may prove fatal for some distributors.

"The lines between broadline, specialty and enterprise are blurring already," Raymund says. "These technology areas are growing fast for a reason, so they'll offer opportunity for a lot of companies. But that will change over time as the growth slows, and there will be a shakeout."