Building a private label supply chain strategy

by Adam J. Fein

The growth of private label products marketed by wholesaler-distributors is a major trend in the new Facing the Forces of Change: Lead the Way in the Supply Chain report. Private label products — products branded by a wholesale distribution vendor — represent a break from the more traditional distribution approach of reselling a national manufacturer's branded products.

However, sourcing private labels raises new supply chain challenges. To take full advantage of this emerging opportunity, an industrial distributor will need a modern, scalable warehouse management, automated inventory control systems, and superior demand management capabilities.

Private label growth
Our new research study Facing the Forces of Change: Lead the Way in the Supply Chain found private label products are expanding rapidly in business-to-business supply chains. As in consumer markets, products are becoming increasingly commoditized as supply chain customers shop for the low-cost suppliers.

Industrial distributors have recognized the opportunity to provide alternative products and help customers with sourcing, instead of only providing a sales channel for branded manufacturers. Almost one-half of MRO supplies distributors and nearly two-thirds of OEM and production materials distributors currently offer private label products. OEM and production materials distributors are also more likely to source products from overseas than other distributors.

A diverse set of products were mentioned during our research by executives at MRO and OEM distributors, including bright copy paper, carbide round tools, mechanical wedge anchors, molded or extruded shapes, spray foam insulation, and floor care products, to name just a few. Products that provide superior performance and are not marketed by national brand manufacturers are particularly successful.

The lower costs and ready availability of overseas sourcing opportunities in Asia and South America are enabling wholesaler-distributors to get their own value-priced private label products manufactured. About 57 percent of wholesaler-distributors with private labels currently source their private label product from an overseas plant. By 2012, 81 percent of these wholesaler-distributors expect to be sourcing overseas.

Our interviews and surveys revealed that wholesaler-distributors are importing private labels from a wide range of countries, including China, Korea, Taiwan, India, (South) Chile, Canada, and Mexico. However, we heard most about China, which has emerged as an important source of imported products throughout the U.S. economy.

These results point to the new value proposition for intermediaries in industrial markets. As customers shop for the lowest price and highest value provider, many products are becoming commodities in the eyes of customers. Industrial distributors have an opportunity to provide alternative products and help customers with sourcing, instead of only providing a sales channel for branded manufacturers.

Private label products offer distributors the opportunity for increased profitability by capturing the branded margin that would otherwise flow to an upstream manufacturer. Since private label products are less expensive to purchase, a distributor can earn a higher margin even when the products are priced at a discount to national brand products.

One wholesale distribution vendor explained the benefit to his customers as follows: “Large manufacturers have relabeled generic accessory products for many years, thus capturing extraordinary gross margins from accessory sales. We sell what are, in essence, the exact same things more economically.”

The supply chain costs of margin
However, the margin benefits of private labels come with additional supply chain costs. Sourcing from China or other countries may offer lower product acquisition costs, but the length and complexity of these inbound supply chains can reduce or eliminate any potential margin improvement. Here are a few of the major obstacles facing distributors:

• More inventory. Geographic distance makes planning more difficult because lead times are much longer and more uncertain. Direct sourcing from an overseas contract manufacturer requires a wholesaler-distributor to purchase and warehouse larger quantities than typically ordered from a supplier with domestic logistics. Ironically, global sourcing strategies by wholesaler-distributors represent a trend opposed to the demand-driven channel trend described in the new Facing the Forces of Change report.

• Lack of visibility. International supply chains are less automated, so many of the technologies and processes available from domestic suppliers will not be available. However, one recent study found that best-practice companies were able to track activities throughout the global sourcing process using Internet-based technology.

• Unanticipated logistics costs. Global sourcing increases direct shipping and transportation costs. However, most companies without international experience lack internal benchmarks for understanding freight costs and managing discrepancies. For example, China’s logistics and transportation infrastructure is much less developed and highly fragmented.

Planning for success
Integrating supply (purchasing) and demand (sales) operations is essential for successful sourcing of private labels. This process is sometimes referred to as Sales and operations Planning (S&OP). Here are three strategic recommendations for wholesaler-distributors evaluating their ability to source private labels.

Reap the benefits of automation. Wholesaler-distributors with more automated warehouses are best positioned to efficiently source private label products. A warehouse management system (WMS) enables more accurate decisions about inventory levels and product storage, such as real-time stock information that eliminates manual inventory counting.

Create demand-driven customer relationships. Distributors can also reduce supply chain risks from private label sourcing by better measuring customer demand and building more accurate forecasts. For example, wholesaler-distributors and their customers can share point-of-sale and product movement information electronically through vendor-managed inventory
(VMI). VMI refers to the practice of making an upstream supplier responsible for determining order size and timing by a downstream customer. VMI relationships allow a wholesaler-distributor to gain visibility about a customer’s actual usage rather than just seeing a customer’s orders.

Choose appropriate products. Private label supply chain costs will be lowest for products with more predictable demand, relatively stable raw material input prices, and longer shelf-life. These are often MRO (Maintenance, Repair, and Operating) products that provide superior performance and are not marketed by national brands. Examples include bright copy paper, carbide round tools, mechanical wedge anchors, molded or extruded shapes, spray foam insulation, and floor care products, to name just a few.

Source from the right geography. Some recent supply chain studies recommend that companies with weaker inventory and technology systems should only consider sourcing private label products from local sources in North America. The reduced cost and process fluctuations in the inbound supply compensates for the fact that this strategy rarely yields production costs as low as Asian sourcing.

The growth of private label products reflects the new value proposition for wholesale distribution intermediaries in business-to-business markets. Wholesaler-distributors can best take advantage of this opportunity with modern S&OP processes.

This article originally appeared in the January/February 2008 issue of Progressive Distributor. Copyright 2008.

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