Manufacturers Create their own Grey Markets

All too often, manufacturers create their own grey markets. The following is a real situation with the names changed to protect the innocent.

Statewide Distribution, the southern region distributor, came to the manufacturer for another quote on the same product.  While the price of the product had not changed over the last 3 years, Statewide requested 3 quotes for the same product during a single month; a product that was readily available and in stock at the time.

The manufacturer’s Channel Account Manager recognized the pattern and contacted Statewide’s supply chain manager to better understand their inquiry. The response:

“Don’t worry, we found the item we needed.”  Said the channel partner.

“What? Where?” asked the CAM.

“From Northside Distribution. They had too many in stock and offered it to us 10% below your distributor net price. Not only did we save a few dollars, we helped a neighboring distributor with a little cash flow. Sounds like a win-win solution”

“Not for us!” thought the CAM.

Statewide just made a purchase from the “Grey Market”. 

While you are likely familiar with the “Black Market,” an illegal purchase or a purchase against policy with the distribution agreement, the “Grey Market” refers to the practice of legally filling demand by sources uncontrolled by the manufacturer.  This transaction between distributors or other channel partners fills needs that can not be satisfied by the manufacturer or fills the need at more favorable terms.

The CAM followed up with Northside by sending an unsolicited quote for replacement of the inventory sold to Statewide.  The response:

“No thanks” said the CEO of Northside, “You pushed too much inventory on us over the last couple years and these have been sitting more than a year. Selling a few to Statewide at a discount was better for us than letting them sit longer collecting dust.”

The manufacturer is proud of their sales team.  They work hard selling to their channel partners ensuring the maximum product coverage is available in every distributor’s warehouse.  Products with high turns are easy to sell to distributors but those items with low turns require additional push.  Channel Account Managers twist arms, cajole, and even apply high pressure sales tactics on their partners for large stocking orders.

Many of these low turn products are expensive to produce. When it’s time to manufacture a batch, the manufacturer builds them in volume expecting distributors to move them into their inventory as soon as production is complete.

But distributors don’t want these low turn products. Low turn products tie up cash and fill shelves that could be used for higher turn products.  Imagine placing a stack of $100 bills on the self. A year later they are still worth $100 each while you could have invested the cash earning a higher return. The same is true of low turn products.  Distributors do not want products that do not grow in value. If today’s line of credit cost 6%, inventory that sits on the shelf could be worth 6% less in current dollars a year from now using simple math.

This leads to an imbalance in the market resulting in too much or incompatible inventory on the shelves of distributors with low turns. This leads to Channel partners shopping for products amongst themselves thus creating the Grey Market.

Additionally, sell-out (market prices) to consumers declines (based on the discounted Grey Market prices), production planning for manufacturing becomes inconsistent, forecasting sales becomes impossible, and the component costs begin to rise.

This can be prevented with a few strategies.

Shift focus from sell-in to sell-out efforts to create market demand and awareness.  Many channel partners are focused on a region, and many may be small to medium size businesses.  The manufacturer’s efforts to market globally, drive loyalty, and build awareness on a larger scale result in increased volume pulled through your channel partners.  This is a “pull” sales strategy in comparison to a “push” sales strategy.

Recognize the pain in stocking slow moving inventory.  While channel partners agree the slow-moving inventory is valuable, tying up cash in this inventory is likely counter to their business strategies.  Small businesses manage cashflow differently than large manufacturing organizations.  Their time horizons are shorter and lower in scale.  Recognize this difference and offer solutions that drive the behaviors needed – stock this inventory.  To do so, manufacturers might offer:

Stock buy-back or stock trade-in programs help channel partners return slow moving or poorly chosen inventory in exchange for high-turn inventory or inventory better suited for their markets. Partners are often willing to return this inventory to the manufacturer at a discounted rate as opposed to allowing the inventory to sit without growing in value.

Extended payment terms also help channel partners weather the long cycles required to move the inventory. While a supplier might not offer these extended terms on fast moving inventory, the slow-moving inventory is a cash burden to channel partners with long waits before their payoff of the investments.

Align the business goals between the supplier and the channel partner.  As a manufacturer, the goal is selling as much product as possible at the highest margins possible.  Realize however the channel partner does not have a goal of buying as much product as possible at the highest possible price.  The business goals of a channel partner are unique to that partner.  Suppliers and partners should have open dialogue about their goals so long-term investment plans can be aligned and executed.

Manufacturers are typically the root cause of most channel execution challenges.  While certainly not intentional, blindness to the effects of their own business objectives on the behaviors of their channel partner practices is common among manufacturers.  Grey Markets are organically created between channel partners and typically only benefit the partners.  Over time, if not addressed, these behaviors will have a lasting impact on the relationships between channel partners and manufacturer as well as the performance results of the manufacturer’s business.

Take advantage of aligning your channel strategy with the best practices identified in the Channel ACE model.  Take a quick 10-minute survey to assess the performance of your channel strategy against best practices found in top performing channel selling organizations.

Navigant Associates is a global training, consulting, and research firm specializing in channel sales strategies utilizing 3rd party sales and service partners. We help sales teams design and transform channel sales strategies resulting in higher earnings and customer value.

We help clients recognize performance gaps, leverage best-in-class practices and build strategies that improve partner relationships, execution skills, ultimately satisfy more customers.