Distribution Daze

"We're a $10 million, 52-person firm. I was concerned we wouldn't cast a big enough shadow," says Ruggeri, vice president of corporate solutions for Total Computer Systems, a Melville, N.Y.-based solution provider.

But thanks to his primary distributor partner, Tech Data D2, Ruggeri could, in fact, cast a larger shadow, and he closed the deal. "[The finance firm wasn't doing business with [just Total Computer," he explains. "It was doing business with Total Computer as a business with a $20 billion strategic partner, a national warehouse network, and the logistics capability of delivering thousands of PCs and peripherals across the nation with a day or two lead time."

The moral: Despite the dreary economy, don't count distribution out. The pendulum is actually swinging back toward indirect channels, insists Dan Schwab, vice president of marketing for Harrisburg, Pa.-based D&H Distributing D13, a full-line distributor specializing in the SMB market. "Compared with two or three years ago when they were all growing 20 to 30 to 40 percent a year, vendors' businesses are down, and many are realizing they're world-class technology manufacturers, but they're not so good at logistics," he says. "The role of the distributor hasn't changed. It's to provide just-in-time delivery, knowledge of a broad range of products rather than just one vendor's, and dissemination of those products to thousands and thousands of ship-tos."

Distributors survive because of innovative finance programs and reseller relationships, despite the perennial specter of Michael Dell, who keeps inspiring manufacturers to con-

sider the direct model. "The direct model makes sense with very large, technologically advanced customers, but we've seen more and more vendors ship more back through distribution," Schwab says. "Most of the vendors are back to shipping through distribution because they realize we can do it cheaper and better."

The Top 25

Although the days of earth-shaking market consolidation, which saw giants such as Merisel and Pinacor bite the dust, are over, the distribution market continues to change: The Distribution 25 list has 11 newcomers. "Mergers and acquisitions have decelerated, but we're still seeing some reshuffling," says Bob Anastasi, senior analyst at Raymond James and Associates. "This is

driven not so much out of financial need as out of strategy."

Synnex Information Technologies D5, a full-line privately held distributor based in Fremont, Calif., recently announced its intent to purchase Gates/Arrow Distributing, the full-line arm of Arrow Electronics, cementing Synnex's position as the third-largest full-line distributor. The company also recently acquired the assets of License Online, the leading provider of Web-based software-licensing technology, thus expanding its software offerings. Sale of the Gates/Arrow operation will allow Melville, N.Y.-based Arrow "to focus even more tightly on midrange distribution," Anastasi says.

Whether they're full-line, midrange or specialty distributors, they've all been fighting a weak economy and an especially soft IT market. In fact, the Distribution 25 listing of FY 2001 revenue in many cases paints a rosier picture than this year's quarterly results reflecting the post Sept. 11 economic downturn.

In the full-line world, for example, industry leader Ingram Micro D1, Santa Ana, Calif., posted first-quarter losses this year of $265.4 million ($1.74 a share), compared with year-earlier net income of $26.4 million. Ingram attributed its losses to new accounting rules, but its revenue for the quarter dropped 22 percent to $5.62 billion from $7.19 billion for the same quarter a year ago. Ingram has also warned that its second-quarter results could fall short of estimates because of continued weak demand.

Despite Ingram's recent financials, Mike Grainger, Ingram's president and COO, is fully confident in the future of the channel. "We're blessed with being in an industry that has large numbers of manufacturers with millions of products that have to be sold through millions of resellers to hundreds of millions of end users," he says. "I can't imagine a better value proposition than being a distribution company in IT where you have those large populations on either side."

The industry's other giant, Tech Data, Clearwater, Fla., also saw a sharp drop in first-quarter sales, with worldwide revenue sinking 16 percent to $3.92 billion from $4.68 billion a year earlier, and U.S. sales dropping 22 percent in that period. But Tech Data managed to squeeze out a profit despite the revenue decline, reporting net income of $35.1 million (60 cents a share) for the quarter ended April 30, compared with $31.8 million, or 57 cents a share, a year earlier. "At this juncture, you have to argue Tech Data is more efficient," Anastasi says. Raymond James recently upgraded the stock of the distributor from a "buy" to a "strong buy."

While publicly held giants Ingram and Tech Data saw revenue drop in the past year, privately held D&H and Synnex posted increases, according to company executives. Synnex says its wholesale revenue went up from $2.2 billion in 2000 to $2.46 billion in 2001, while the much smaller D&H also saw healthy growth, from $700 million in 2000 to $875 million in 2001.

"As total distribution has contracted in the last few years, our business has grown 25 percent a year," says D&H's Schwab, who attributes his company's growth to its focus on the SMB market. "Arthur Andersen or Ford may not be buying 1,000 notebook computers or LCD projectors, but when a law office hires a new person, it has to buy a new computer and a new networking card," Schwab says. "Business is also strong because a lot of other distributors have fallen by the wayside chasing revenue...We're a privately run company, and we run it for the long term. We don't even have quarters. We achieve steady growth by staying focused on servicing the vendors and the customers."

Synnex is also profiting from the departure of weaker competitors. "I'd like to say it was superior sales management, but the demise of a number of companies didn't hurt us any," says Mike Thomson, Synnex senior vice president of sales, East. "Also, we've been very fortunate in picking the right products, turning our products very quickly and keeping our inventory costs down. We don't have much old inventory at all. That's taboo in our company, as it should be in all companies."

And Thomson says that Synnex's net margins grew in addition to its sales: The company moved from seventh to fifth in the Distribution 25 list.

Margin In Mystery

Like the full-line distributors, midrange distributors are also fighting tough economic times. Phoenix-based Avnet Computer Marketing D3 said its two-tier computer distribution sales dropped to $.89 billion in the quarter ended March 29 from $1.06 billion in the same quarter a year ago. The numbers reflect the general sales trends of manufacturers in the midrange market, says Steve Tepedino, president of Avnet Hall-Mark North America, the midrange distribution arm of Avnet Computer Marketing.

Although Ingram and Tech Data have eyed the midrange market, value-added distribution is a different business model from the full-line world, says Rick Hamada, president of Avnet Computer Marketing. "That would be like saying Wal-Mart and Nordstrom are both retailers," he says. "The volume model has more than 1,000 supplier relationships and does business with 30,000 to 40,000 customers a year. That's a different model from an entity that does 80 or 90 percent of its business with five or six vendor partners and less than 1,000 resellers."

Arrow Electronics D4 reported a 40 percent decrease in consolidated sales for the first quarter of this year vs. a year ago, but sales in its North American Computer Products group, its midrange computer distribution business based in Englewood, Colo., were only off 8 percent, compared with one year ago. As indicated by the sale of Gates/Arrow, the company's computer products businesses are focusing less on sales volume and more on margin. Sales of computer products declined when compared with the first quarter of 2001, but operating income increased by 62 percent, according to Arrow's most recent quarterly report.

"Where there's mystery, there's margin," says Joe Burke, Arrow's vice president and general manager of enterprise computing solutions. "We're engineering ourselves to support resellers in providing complex solutions."

Although corporate squeezes on IT spending are hurting midrange distributors and their solution-provider partners, the distributor still plays a key role. "I could source directly from IBM if I wanted to," says Harvey Najim, president and CEO of Sirius Computer Solutions, a San Antonio, Texas-based solution provider. "But it's cost-effective for us to source through Avnet, because it helps offset some of our back-office costs, and we have a line of credit with Avnet."

Specialty Distribution

While full-line distributors suffer the slings and arrows of the entire IT marketplace and midrange distributors depend on corporate budgets, the fortunes of specialty distributors depend on their particular market segments. Networking specialist Westcon Group D9, Tarrytown, N.Y., a division of Datatec Limited, headquartered in Johannesburg, South Africa, saw its sales drop to $1.69

billion in the fiscal year ended in February, compared with annual revenue of $2.07 billion a year ago. Westcon comprises three individual operations: Cisco-focused Comstor, Avaya-focused Voda One and Nortel-focused Westcon.

Despite the drop in growth revenue, Alan Marc Smith, president and CEO of Westcon Group, says the past year has been the "finest in the history of the company. Our revenue was off, but less than in our peer group. We outperformed our vendor portfolio, and,most important,our balance sheet is spectacular." Increased demand for such product areas as security and voice-over-IP will continue to strengthen Westcon's position, Smith says.

Revenue for San Jose, Calif.-based Bell Microproducts D6 was down slightly in the first quarter of this year vs. the same quarter a year ago, from $536 million to $523 million, but income for the same period rose from $126,000 to $384,000. The company's relatively healthy balance sheet is due to the storage-centric nature of its business, says Eli Sayegh, Bell's director of investor relations. Even in a slow economy, demand for storage continues to grow, as does the complexity of storage solutions.

One distributor continuing to increase both sales and income is supplies specialist Daisytek D11, Allen, Texas. There, revenue for the fiscal year ended March 31 rose to $1.2 billion, an 18 percent increase from $1 billion in the prior year. Earnings rose to $17.8 million, excluding special charges, a 13 percent increase from $15.8 million for the prior year. Businesses may be delaying purchases of new computers, points out Daisytek CFO Ralph Mitchell, but they have to keep buying supplies: "I can log on; therefore, I print," has become a pervasive mantra, Mitchell says.

Many distributors would envy Daisytek's financials. But things are looking up: Sales of software through the indirect channel will grow from 40.6 percent of the total software market in 2000 to 43.2 percent in 2005, according to IDC research. And vendors will continue to ship a majority of complex hardware products through indirect channels, IDC says. So, even if its revenue were flat or down in the short term, distribution will be an essential part of the IT food chain for the future. n