Winds of Change

Times demand it. Simply put, there are small, midsize and large VARs, each with their own cost structures, customer-perceived advantages and competitive arenas. Sometimes their agendas overlap, but frequently they don't. What they share, however, is that each must cope with a slowly awakening economy and nervous-Nellie executive suits warily eyeing every IT expenditure.

The beauty of it all is that our industry somehow finds room for all players--as long as they handle themselves adroitly and proactively. If they know which way the wind is going to blow, then they can prepare for it. Our 2004 State of the Market survey provides the hard evidence for that, as it takes a look at the strategies of more than 1,000 solution providers with revenue of less than $1 million (defined as small VARs), $1 million to less than $10 million (midsize VARs) and more than $10 million (large VARs). We asked you to weigh in on issues as diverse as partnering, the growing importance of influencing, cost-obsessed customers and the economy. We found that, more than ever, the size of an integrator's business dictates its decisions. That the channel's heterogeneity allows for diverse paths to profit. And that regardless of a VAR's size, it can't be all things to all people.

It follows, then, that our research findings indicate industry movement toward specialization, with roughly half of all solution providers telling us they've increased profitability during the past 24 months by specializing in a specific technology. Moreover, we also found that integrators who have hewed to a specialist role intend to stay that course as the economy picks up. In fact, almost two-thirds of large VARs (64 percent), three-fifths of midsize providers (58 percent) and fully one-half of small VARs (50 percent) intend to remain specialized in their vertical markets when the economy recovers, our research findings reveal. Specifically, large solution providers are more optimistic than small and midsize solution providers on the growth opportunities for banking/

finance (37 percent), federal government (33 percent) and communications (19 percent) in the next three years.

"Those of us who have survived the economic shakedown have realized that finding your niche and then focusing on that solution is what makes a good VAR great," says Rory Sanchez, CEO at SLPowers, a West Palm Beach, Fla.-based provider of IT professional services, network security and managed IT services.

In Search of Clientele
State of the Market findings show that VARs are increasingly devoted to finding new customers for their services. Most notably, small VARs expect to derive more of their revenue from new customers compared with a year ago--with an anticipated rise to 38 percent in 2004 from 30 percent in 2003-and are going after new customers more so than midsize or large VARs.

"New clients generate more profit," says Howard Mayers, president, CEO and founder of Montreal-based Maysys Consulting. "In an economy that is having difficulties, it is sometimes easier to sell to someone just starting up than to the company downsizing its people. Our company has customers that are expanding, so our ratio is not changing, although we believe that we will have to get new clients to expand."

Dan Fondell, owner of TAC Computers, a Dawson, Minn.-based solution provider, also says his firm is trying to win new customers.

"We are busier than ever, generating more new customers as we build our services business due to little or no profit in most hardware sales and to price competition among the industry's leading manufacturers and online retailers," he says.

Furthermore, small (78 percent) and midsize (73 percent) firms are more likely than large (62 percent) companies to generate new business themselves, rather than to obtain it from other sources, such as vendors or distributors.

"We are looking for the economy to pick up and for a resulting increase in new business start-ups," says Jim Brown, president of E-Shingle, a small Web-site development firm based in Rochester, Mich. "With new activity, the economy should create a lot of opportunity for our firm as we have positioned ourselves directly at business start-ups."

Which is not to say that repeat business isn't critical. In fact, it's the bread and butter of the industry. VARBusiness' State of the Market research indicates that more than 60 percent of solution providers' total revenue will have come from existing customers in 2003. As one would expect, the larger the firm, the larger the median annual revenue from a typical customer, with stats as follows--small: $10K; midsize: $35K; and large: $200K.

"Although new customers are very important, servicing your old ones is more important," believes Seth Horen, president of Hi-Tech Consultants, a Milford, Conn.-based VAR specializing in networks for small businesses. "I find my percentages haven't changed much, and as Simon and Garfunkel said, 'Keeping the customer satisfied' is what it's all about.'"

Regardless of whether it's a new or existing customer, the length of sales cycles for midsize and large firms is on the rise, our study reveals. Consistent with the amount of overall revenue, the larger the solution provider, the longer it takes to close a sale. Well more than one-third of small VARs report an average sales cycle of less than two months, while less than one-third of midsize and a scant 15 percent of large providers nail the deal in the same time frame. Further, midsize and large firms are more likely than small firms to report their sales cycles have increased in the past 12 to 18 months, with more than one-third of both midsize and large firms noting a rise.

"Sales cycles are still inordinately long, but we are starting to see some recovery," says Mitchell Weisberg, managing director at Lumen, a Westen, Mass.-based midsize management consulting firm. "We are starting to see more action in the marketplace...as well as some signs of increased business optimism in our clients, which I expect at some point will trickle down to releasing the tight reins on technology spending."

Influencing Products And Services
Eager to leverage revenue opportunities wherever and however possible, the channel is developing a fervent interest in building a specifying/influencing business. It's a smaller cut of the pie than selling, and it goes against a winner-take-all instinct, but, hey, it's a way to get in on the action. Our State of the Market findings reveal that the larger the solution provider, the more apt it is to influence product and service sales: Midsize (68 percent) and large VARs (66 percent) are more likely than small VARs (57 percent) to specify or influence professional services. Midsize firms (59 percent) are also more likely than small firms (47 percent) to specify or influence technical services, according to the research.

Those findings aren't surprising. Small VARs have fewer resources and less authority, and are least likely to take part in those types of tag-team deals.

Randy Collins, president of The Strategies Group, a Norcross, Ga.-based solution provider, says the larger the VAR, the more it will be motivated to influence in order to survive.

"Midsize VARs generally have more overhead than small VARs and must be able to support this overhead," Collins says. "The more realistic sales perspective is that larger VARs may better understand the implementation and training cycle required to fully implement a product sale."

In line with the development of rewards programs to benefit solution providers that generate demand channels, participation in agent programs is also on the rise across all company sizes. Large firms (47 percent) are more likely than small firms (36 percent) to rate agent-program revenue important in the next 12 months. Likewise, large firms are more likely than small firms to expect to participate in professional-services agent programs within the coming year (46 percent vs. 33 percent).

"Larger VARs generally have higher-level relationships with their customers, i.e., the CxO personnel. I believe that midsize and large VARs are involved in projects that are larger in size and broader in scope," Lumen's Weisberg adds. "Hence, they touch more of the business operations and are more likely to encounter business opportunities that are to be solved with professional services in addition to technology products alone. Smaller VARs tend to be more technical in their skill sets, and they probably don't encounter as many opportunities where professional services might be of value," he says.

Solid Vendor Partnerships
Part of earning a reputation as a key IT influencer is the ability to build and maintain efficient communications with select vendors. You told us through our study that, essentially, you're satisfied with what vendors tell you--and when. While it is the rare provider who said some vendors contacted them too frequently, only about one-third of respondents were dissatisfied with the infrequency of contact. Not surprisingly, smaller companies are slightly more forgiving of vendors that give them short lead times (less than four weeks) to introduce new products than are midsize and large firms (S/M/L: 30 percent/21 percent/20 percent). Large firms are more likely than small and midsize firms to require more than 12 weeks' lead time (S/M/L: 15 percent/20 percent/27 percent).

Perhaps smaller VARs are more forgiving of shorter lead times because they don't deal with as many vendors or product lines, and certainly not as many new ones. Our State of the Market study reveals that the smaller the VAR, the less likely it intends to do business with a new vendor in 2004. Conversely, our study found that in 2003, the largest firms were more likely to add vendor and product lines, with an average of two, three and five vendor lines added for small, midsize and large companies, respectively; three, five and seven product lines were added for the small, midsize and large firms. A similar trend is expected next year, with some 17 product lines on average expected to be added by large companies in 2004.

Our study also found that midsize and large VARs are more likely than small VARs to drop or de-emphasize vendors because of channel conflict. As expected, the larger the firm, the more vendor lines and product lines that were dropped or de-emphasized this year, with large firms eliminating/reducing focus on at least twice as many lines dropped by small firms. And in 2004, more than one-third of large VARs (34 percent) expect to drop vendors compared with small (18 percent) and midsize (28 percent) VARs.

"We sell accounting software for Microsoft in California," says Larry Schneider, director of marketing at Torrance, Calif.-based SCAS, a midsize software consulting and accounting systems VAR. "Adding new products would depend on new customers, and we don't see a lot of new businesses starting. Some of our customers are enthusiastic about a rebound, but I don't see it. California is always the last to go into a recession and the last to come out."

Come Together
The State of the Market findings are codifying a trend we're all coming to terms with: VARs are more inclined to partner with other solution providers that once may have been viewed as competitors. Across the board and regardless of size, the proportion of revenue from partnering on average increased over the previous year's level. Among small firms, the proportion of partnering is up from last year's 67 percent to 72 percent this year. Increases are also dominant among midsize firms, with a rise to 85 percent from 76 percent last year, while large firms maintained a high percentage but remained virtually unchanged--from 87 percent to 86 percent today.

"Competition is tough out there, and while some are reluctant to do it, we've had great success by embracing peer-to-peer partnering," says Bob Ballard, president at Logisoft, a Rochester, N.Y.-based e-business developer. "We're involved in initiatives with other solution providers because the size of our organization does not always lend itself to being able to do everything for everyone. For example, if we can find another solution provider to partner with where we go in and sell the expertise on licensing the software, and we let the other company do the implementation, then there's a good fit there."

Adds Hi-Tech's Horen: "One of the axioms of life is that you can't be all things to all people. Partnering builds better relationships with customers and costs less than trying to become educated in everything."

Not surprisingly, smaller VARs pair up with like-size firms. According to our study, small and midsize firms are more likely than large firms to partner with other small solution providers--with 90 percent of small and 81 percent of midsize firms confirming existing partnerships, vs. only 68 percent of large firms affirming such a link.

"We're always looking for partners to increase our knowledge and skills base," says SCAS' Schneider. "Often, small and midsize VARs do not have the ability to handle overloads. When the direction of the implementation takes us in a direction we don't have skills in, rather than try to acquire them, we try to find a partner."

Partnering or not, integrators are searching out services revenue. Indeed, our research finds that small firms lead the services-centric pack with 56 percent of 2003 revenue based on services sales compared with 46 percent and 44 percent for midsize and large firms, respectively. This marks a rise from 2002 services revenue of 46 percent, 42 percent and 38 percent, respectively. What's more, small firms predict that nearly 63 percent of this year's gross profits will come from services-related sales. And services account for about half of both revenue and profit in midsize and large VAR categories.

"Most VARs would be lucky to make 6 percent to 8 percent on hardware or software sales, while 100 percent gross profit is still possible when selling services," SLPowers' Sanchez says. SLPowers' strategy is to sell its customers service contracts that extend the life of their legacy networks.

"We can get customers to buy prepaid blocks of time for our services," he adds. "That's money upfront...The alternative is for us to tie up credit lines on hardware to make 6 percent and then wait to get paid."

It bears repeating: Integrators are pretty damn resourceful. Despite myriad challenges they've grappled with this past year, most told our study they've experienced sales growth within the past six months.

Although small firms are somewhat less likely to have benefited from any early signs of an economic recovery (with a still-respectable 54 percent of representatives of this group noting improvement), almost two-thirds of midsize and large VARs--some 65 percent--have noticed an upswing, according to our research. Looking ahead, more than one in three solution providers expect to hire more staff in 2004, and about two in three are optimistic about their revenue increasing in the first half of 2004.

"We live in a country of optimists; we see that light at the end of the tunnel," Lumen's Weisberg sums up. "Overall, the future is going to be bright for solution providers that demonstrate an ability to adapt to an ever-changing market."

Amy Ryan, senior analyst at Answers Research, contributed to this article.