2. Competitors
Arrow’s closest competitor in 1996 was Avnet Inc., trailed it by more than 20% in sales. Of the next group of competitors the largest, which included foreign entrants Rabb Karcher and Future Electronics as well as longtime rivals Pioneer-Standard, Wyle, and Marshall Industries.
Analysis of Alternative Actions
Option one: accept the Express’s proposal and meet all the conditions of Express.
Advantages:
1. Express could quickly cross-reference equivalent parts from multiple manufacturers based either on part number or technical description and they have more than 50,000 customers market share in the US.
2. Because A/S have the stable suppliers, so they can easier control the costs than other competitors.
The product prices have more competitive in the Express system.
3. The Express provide the shipping services could reduce the costs of Arrow.
Disadvantages:
1. The fee for the Express is 6% of sales. It makes the distributors margin became lower. So the Arrow must increase the price of the products to keep the balance, however, to do so may lose some market share.
2. A/S’s current customers will get the lowest price from the Express system and use it as a starting point to bargain with A/S.
3. Maybe numbers of customers do not want to make a change to switch their purchases system.
Option two: not accept the Express’s proposal.
Advantages:
1. Arrow could easily control the price of their goods.
2. Arrow could use their own internet services, avoid the wasted of the development costs of the system before.
3. Arrow could consolidate the existing customer base.
Disadvantages：
1. Arrow will Lose a lot of opportunities to develop new customers.
2. Not have timely access competitor information.
3. Even though Arrow not use the Express system, the transactional customers also will know the Express, and when they find the lower price alternatives, they will switch their purchase to other distributor.
Recommended Course of Action
I will follow the option one, if I was the manager of Arrow. Express system will help us to get the additional business, even though we will lose some current customers. But I think the opportunities outweigh the risks for us. Because we have the mature management model, stable supplier and advanced technology, so we have advantages in cost control. So our prices will be very competitive and we also have the good services after the ordering. I believe that the customers will choose our products.
References and Appendix
References：Arrow Electronics, Inc. case, Harvard Business School
Appendix: By the Exhibit 7 we can know the following that:
The Market Segment,
CM 20%, OEM 56%, X86 11%, ICP 13%
The Value-Added Business,
CM 57%, OME 72%, X86 2%, ICP 80%
The BAS business,
CM 43%, OME 28%, X86 98%, ICP 20%
The Optimistic Cannibalization of BAS Business,
CM 30%, OME 25%, X86 50%, ICP 35%
The Pessimistic Cannibalization of BAS Business
CM 70%, OEM 60%, X86 80%, ICP 80%
When we think the BAS of business in optimistic, the cost margin is:
20% * 57% * 43% *30% + 56% * 72% * 28% * 25% + 11% * 2% * 98% * 50% + 13% * 80% * 20% *35% = 5.1% < 6% (the fee of Express)
When we think the BAS of business in Pessimistic, the cost margin is:
20% * 57% * 43% *70% + 56% * 72% * 28% * 60% + 11% * 2% * 98% * 80% + 13% * 80% * 20% *80% = 12.1% > 6%
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Arrow Electronics as a leading distributor of electronic parts faces new challenges and competitors with the advent of the information age. Profit margins had been steadily increasing through the 80fs and early 90fs with Arrowfs closest competitor trailing in sales by 20% as recently as 1996. However even at this point there was indication of stagnation as competitor Avnetfs sales had grown by 14% compared to Arrowfs 10% in that same year. At the same time Arrowfs largest group, Arrow/Schweber (A/S) had taken on new leadership under Jan Salsgiver who viewed technological innovation in product and inventory management as a way of improving the companyfs competitive advantage.
Express Parts, Inc. entered this increasingly competitive industry as an independent distributor offering an on-line service which would allow customers to compare prices among leading electronic manufacturers allowing customers to bargain hunt for the best price among rival companies. For a fee of 6% per each payment, Express would handle what had been a previously time and cost consuming process of receiving
and ordering transactional orders from customers. This process had proven problematic in the past for Arrowfs sales and marketing representatives as these orders tended to be of the Book and Ship variety and comprised 25% of the companyfs sales. Relationship customers usually dealing in Value Added requests have been more important to the company as this population represented more long-term and consistent orders as opposed to the more fickle transactional customers. Furthermore much of the companyfs focus on developing its core competency has been on improving its Value Added(VA) services as they comprised $1.443 billion of the Arrowfs $2.31 billion total services. With these considerations in mind Arrow has to decide whether to view Express as a potential competitor who could eventually cannibalize not only its transactional but also relationship customer base or as a business partner who could relieve Arrow of its transactional customers developing a collaborative network allowing the company to focus more on its core competencies of VA services.
Collaborating with Express would essentially require Arrow to generate 36% of new customer revenue due to the fee of using Express services decreasing the companyfs contribution margin by 6%. This led Salsgiver to request the development of two possible scenarios, one optimistic and the other pessimistic. The optimistic scenario envisioned all transactional customers switching to Express and thus yielding a gross margin of 15.5 as opposed to the current gross margin which was at 16.23%. The pessimistic scenario saw all transactional customers as well as up to 40% of all relationship customers moving over to express yielding a gross margin of 14.3%. With expenses currently at 11% and an already recent downward trend in margins it would initially appear that a partnership with Express would not be wise for the future or Arrowfs business. However, if one considers that this negative impact on margins would be felt similarly among Arrowfs rivals and would lead to a market correction the benefits of a partnership appear more attractive.
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Recommendation
Reject the proposal of Express. Prepare for the competition of Express by launching aggressive marketing campaign to match the price of Express in short run. Maintain and improve gross margin on BAS sales by leverage the strong relationship with supplier to get the lowest price. Continue improving the value added content, short delivery lead time and inventory management as main values of the company. Aggressively invest R&D to provide an on-line booking and ordering system to further improve customer’s time-to-market, facilitate the BAS sale order; provide the customer “efficient, low price, one-stop-shop” experience that will differentiate A/S from competitors. Focus on VA sales and improve the service, consistently grow sale volume of VA content.
Support
Values of Arrow/Schweber (A/S): Being as the subsidiary of the No.1 distributor of electronic parts company Arrow Electronic, A/S is able to provide customers low price electronic parts and add-value system design solution. A/S also creates demand and provides the inventory buffer for suppliers. The Customer benefits from A/S of low cost parts, technical support and short delivery lead time. And suppliers benefit from A/S of hassle-free sales. Internet trading service Express creates one more level to the existing value chain (Exhibit 1). Express allows A/S to have opportunity to sell product to potential customers. And customers can place order on different distributors. But whether this business model is valuable to the customer especially to small OEM and CM is questionable. Although transactional customers are price sensitive, time to market is also critical to them. They prefer to place entire order within one company to make sure the short delivery lead time. Under this circumstance, jumping into the Express boat is not a wise decision for A/S.
VA Business--Key Business for A/S: Among the overall business of A/S, the VA sales increases from 2% in 1977 to 62% in 1996, and it targets to grow to 80% in 2000. Although the VA gross margin is only 10-15%, it is the key business for A/S to create the demand. For example, one of suppliers, Altera, sells 80% of PLD to its two distributors because value-added programming required by individual customers. Suppliers rely on distributor to generate demand. In return, they offer A/S: Price protection & limited return privileges, warranties not available to others, and control prices by providing discounts. Because of the importance of VA business, it evolved from simple inventory buffer to alter components to meet customer needs by programming or kitting parts, to virtual organization, and to order cycle management. Because of this business nature, suppliers provide inventory at high book value and sale price usually below it. And VA business always helps to bring in BAS product because of the values provided by VA. If using the Express, A/S will either lose the sales of BAS that are brought by VA business or it still has to maintain internal BAS sales teams, which will double the sales expense.
Long-term Relationship is Extremely Important to A/S: There are two types of customers for A/S, transactional vs. relationship customers. Transactional customer, place request-for-quotes with a number of distributors simultaneously, negotiate for the price and get the lowest price. Relationship customer: use value-added products to build the relationship. Valued-added business helps to build the relationship but it is not a division having high profit premium. It helps A/S maintain profit by cross-selling BAS products. Helping customers in their times of need, getting customers to invest in the supply chain which provides value-added service are the strategies of A/S to build the long-term relationship. After that, the customer will tend to buy standardized products. Joining Express won’t help building A/S current customer channel and it is not aligned with A/S business model.
Gross Profit Margin: In 1996, about 35% of sales of Arrow Electronic come from A/S group. With the profit margin of 10-15% of VA and 20-25% of BAS, the total gross margin of A/S is around 16%. Considering 11% of expense, the A/S division can’t afford the gross margin dropping below 15%. After we understand the business model of A/S, we know even if A/S uses the Express as sales portal, they can’t reduce the sales cost by taking risk to cut the BAS sales team. Under this assumption, we conclude that if using Express with 6% of expense, under both scenarios, the gross profit margin will below 14%. But without Express, given the possibility of losing market share on BAS, A/S is still able to maintain the gross margin very close to 15% on both scenarios. (Exhibit 2)
Why should A/S build its own web-based system: Threaten by potential competitor, A/S need rethink its strategy on web-based booking and ordering system. Building its own on-line price checking and ordering system is aligned with A/S business model. First, it will facilitate the booking and ordering system and further reduce customer’s lead time. Second, it will reduce sales expense especially BAS sales expense. Third, it can help A/S differentiate itself from competitors by providing low price efficient “one-stop-shop”. Last, A/S already had completed inventory control system, on the top of the system, building an on-line ordering system should be cost efficient. Comparing to existing on-line based enfranchised distributor, A/S should be able to lead the trend.
Price Matching Strategy: It is not easy for A/S to lose relationship customers because of values provided by A/S. Most likely they will use Express as the negotiation tool. And for transactional customer, again because of the nature of this type of customer ---“small project and lead time sensitive”, A/S still has chance to win them back. So “Matching Price of Express” will be the best strategy to compete with Express. And combining with the strength of A/S, it is possible for A/S to have minimum impact from Express while it is building its own web-based booking and ordering system.
Conclusion: We think rejecting the proposal of Express is the wise decision for A/S based on the marketing analysis on A/S business. Although A/S will lose the sales in short run, it is able to maintain the gross margin. And A/S is able to create more demands on BAS and grow its sales on VA and BAS by focusing on VA sales. Later by providing similar web-based booking and ordering system, A/S can reduce its sales expenditure on BAS and be in better poison handing the transaction customer at electronic distributor markets.
