Electronics Distributors Ripe for Disruption
A growing challenge I see in the greater electronics industry sector is the stranglehold by an antiquated business model. It was just a few years ago distributors were dragged into the current century through no means of their own.
E-commerce was already a trillion-dollar segment yet the ‘Sears catalog’ distributors were stagnant, barely using technology to deliver ‘advanced electronics’ components.
Adding insult to injury, distributors invested minimal amounts just to try to stay current. Its no surprise today they are still trying to move away from the past and re-invent, while seeing erosion to their market share and distribution model.
Looking at 2017/2018 electronics book-to-bill (projections) and backlog, you would notice a down trend as per tracking OEM growth and the electronics supply. This trend shows a nonlinear downtick in revenue tracked (erosion) next to contract electronics manufacturing services (EMS) and even OEM demand.
Yet today there exists large components demand.
So how much of the component flow is already bypassing distributors and going directly to semiconductor firms?
Accompany this with recent ad/marketing spend from the semiconductor industry and you see an offensive push to get their names out from under the shrouds placed by OEM NDAs.
How difficult would it be for semiconductor firms to outsource logistics solved today by distributors, to someone else, who then drop ships directly to EMS providers, or OEMs?
How will the supply chain look if OEMs apply pressure to purchase direct from semiconductor firms? What would the supply chain look like if semiconductor firms want more brand recognition?
SEE ALSO: How semiconductor chipset vendors get OEM AVL approval, How semi vendors win OEM/EMS POs, and Electronics distributors lose control: pressure to innovate increases
These two forces have already begun with the use of reverse engineering firms and whether its covert, or not, the primary way semiconductor firms often achieve recognition is post, reverse engineering when a third party publicly releases the electronics product tear-down.
Things get more interesting when you take into consideration the largest, original teardown analysis firm (iSuppli) was purchased by IHS, and IHs does not publicly release this often-useful information.
See the connection?
Distributor life
For perspective let’s look at IKEA. Ingvar Kamprad started IKEA selling matches, fish, pens and lamps. He did this by finding buyers at point B then he sourced the goods they wanted from point A. Kamprad did this first on foot, then by bicycle, and then train.
He solved the needs of clients. They no longer needed to go to point A to buy.
Fast-forward 15 years. His catalog firm grew, yet he knew he did not have a defensible position because he created nothing. So he began building his own products thus creating more profit margins. Now he owned something he created, and he made it even better.
A value-added reseller offers third-party items to the end user at a markup, plus some combination of procurement consulting, configuration, and customization services.
By comparison, look at the initial distribution networks in the technology sector. They buy from point A, mark it up, and sell it to point B.
This was suitable in the early days because distributors solved a sales and education problem. Distribution licenses were on floppy disk, sales people negotiated licensing deals with semiconductor firms, and distributor-after-distributor was born.
The more sales people a distributor had, the more semiconductor doors they could knock on, the more licensing deals they could sign, and the more often they could play the role of intermediary.
Industry realized diversification was needed and the value-added reseller (VAR) was invented. VARs rolled up anything near the value chain and started reselling it.
This solved an important need, at the time, which was drop shipping and leasing or credit solutions hardware OEMs did now want to facilitate.
But when digital economy took hold, and semiconductor firms began hiring/expanding their own sales teams with engineers, and anyone could solve these three points, the value proposition of distribution networks became dismantled.
Today, distributors are doing the same. Finding more and more things to place into a catalog so they can hold revenue targets and grow.
But this cannot continue because they do not do anything especially well with this model. They simply take things from point A to point B. Some distributors are fighting the tide, trying to re-invent.
So, in 2015 Arrow acquired the United Technical Publishing Division of Hearst Business Media. Hearst had earlier acquired a controlling interest in EEWeb. In 2016 Arrow acquired more domains from UBM focused on technology and electronic design, including EE Times, EDN, ESM, Embedded, EBN, TechOnline, and Datasheets.com.
Avnet then acquired an interest in Hackster.io, a maker community platform. Arrow teamed up with Indiegogo. And the race was on.
Writing on the wall
Today, distributors are grabbing up miscellaneous product lines, even trying to acquire services and consulting to help position themselves in the market in a more modern light. Distributors are even going into the IT VAR space reselling server products and other items.
But behind the curtain you still find a lot of people passing items from point A to point B, repacking or white labeling to provide some value and marked up. But for what reason?
What happens when Amazon decides to help? Distributors already have large numbers of component SKUs on Amazon. Do semiconductor firms need distributors for this?
Amazon has everything semiconductor firms need. Do distributors have a shipping company with airlines and trucks?
Distributors claim they protect supply chains against counterfeits in the marketplace but this argument is a low-cost process that will soon be automated.
Amazon already has warehouses, plus the Whole Foods network, and soon maybe even a larger network. Larger than any distributor could dream of having.
How would distributors define disruption? What about semiconductor firms partnering with UPS or DHL or FedEx. Perhaps more OEMs purchase direct from Amazon.
Movement of tectonic plates
Semiconductor firms need brand recognition. The smaller semiconductor firms do not have the power to say not to OEM NDAs so they rely on the success of OEMs, with distributors pushing their components above ‘preferred’ partners.
Semiconductor firms can also leverage third party reverse engineering services, or tear down and get that information public to release them from the NDA
SEE ALSO: White paper: Electronics NPI Checklist for OEMs in EMS and White paper: OEM Handbook of EMS Multi-National Pricing Drivers
OEMs want rock bottom pricing and need to cut out the EMS provider's influence on component pricing, and distributors altogether, and they’re doing a portion of this today to some degree, and they would do more if they did not feel some loss of hidden insurance, or some value add they feel they might be receiving.
The components cost to OEMs to get semiconductor pricing is rolled into the costs of dealing with distributors.
Also in the middle of this are the EMS providers trying to do what’s required per the OEM’s BOM and AVL. Plus, the majority of EMS providers must fight among the scraps left behind by the Tier-1 EMS providers who have 75% of the buying power.
This points to the distribution model supported by low, or no real value, could experience disruption at any moment.
As distributors work to diversify, some senior executives are being reshuffled, and others are being released or, some executives without large, vested interests are jumping ship to EMS providers.
In grasping hold to retain any power they can find, distributors will claim they protect the supply chain against counterfeits in the marketplace but this argument is a low-cost process that will soon be automated. Distributors are on the lowest level on the hierarchy of the electronics supply chain:
- Semiconductor firms design and innovate
- OEM hardware firms design and innovate
- EMS providers create and execute operations
- Distributors connect parties and move parts around
Distributors are already offering design, engineering and some module/assembly/test services. Last year Arrow went further, acquiring eInfochips a service engineering firm employing more than 1,500 people. Avnet acquired Dragon Innovation to expand its portfolio to offer customers similar as their needs move from design to prototype to volume production.
Watch distributors in the coming three to six months create more service arms (or marketing) to help them lock in EMS providers.
Small design houses, engineering prototype companies, and even sub-tier EMS provider shops have also been on the menu for some time.
These are only a fraction of the deals distributors have been closing as they move to find more sure footing on their unstable ground. We may even see a distributor acquire a vertically integrated EMS providers to help them give more value to shareholders.
How far into the value chain will distributors go before facing the inevitable?