Channel 2.0

By many estimates, there are well in excess of 100,000 channel companies in North America. The top 1 percent comprise the VARBusiness 500, solution providers that generate between $20 million (No. 500: Pacific Rim Capital) and $47 billion (No. 1: IBM Global Services). The bulk of the channel is made up of small VARs--with less than $2 million in annual revenue--with a moderate band of middle-class solution providers between the two extremes.

While everyone today is trying to figure out how to effectively reach the midmarket, VARBusiness re-search confirmed that midsize solution providers have the best relationships with midsize customers. Nevertheless, some predict that pressure to operate efficiently will force solution providers to consolidate. In fact, some predict a period of hyperconsolidation over the next five years that will create two classes of solution providers--a handful of mega-VARs that operate on a national and international level and hundreds (not thousands) of smaller local and regional VARs.

"There will be 10 mega-VARs that own 75 percent of the space, with 25 percent of the market served by regional or specialty VARs," predicts Mike Cox, CEO of Logicalis (VARBusiness 500 No. 83).

Market pressures may not be the only consolidation driver. Solution-provider owners reaching retirement age is another significant factor. Some call them "lifestyle VARs," people who make a good living reselling products but have no real desire to grow their business beyond self-sustaining revenue. As they approach retirement age, they're looking for exit strategies. Selling their businesses to larger VARs will give them nice nest eggs.

Cox is seeing it with his own business. Logicalis made no acquisitions for two years. Then the company went on a buying spree because many small and midtier VARs started shopping around their businesses.

"Potentially, a lot of VARs in the $5 million to $10 million range are going to retire. They're going to retire or simply dry up and blow away," Cox says.

Hyperconsolidation isn't too far-fetched. Labor shortages and the need for deeper geographic reach will drive many larger VARs to either acquire local companies or subcontract to small VARs to reach small and midmarket customers.

"One trend I see is the increase in 'boutique services companies' focused on SMB as a result of the baby-boomer exit from corporate America," says Chris Forman, Oki Data's senior vice president of U.S. sales. "Labor will be scarce, and these mom-and-pop outfits are going to fill critical infrastructure consulting needs for companies. I also see existing service companies moving upstream as they continue to develop capabilities beyond their current core, and these existing organizations filling more subcontracting roles for the larger services organizations that support enterprise today. This, I believe, will leave a void in the SMB market, which will be filled by the baby boomers."

But the future of middle-class VARs may not be so bleak. The alternative may be an increasing amount of partnership between solution providers to increase their technical capabilities, marketing power and geographic strength. Over the past five years, according to the annual VARBusiness State of the Market reports, intersolution-provider partnerships and revenue from these partnerships have steadily increased.

Smaller VARs could retain their independence from acquisition by banding together, thus giving them a greater ability to act cooperatively to negotiate with vendors and compete against the mega-VARs.

NEXT: Evolving business models