Direct Examination

Kelly Moore works with U.S. promo suppliers on the vast majority of the orders she executes. But sometimes she sources product directly from manufacturers based in China.

A solo operating distributor who’s doing her best to compete in a crowded marketplace, the owner of St. Petersburg, FL-based Moore Promotions (asi/601617) says going overseas has been essential on a select handful of larger orders that involve the production of custom products. It’s allowed her to get the pricing she needs to win the business and turn a considerable profit. “I had one order of 30,000 pieces where my profit was almost triple what it would’ve been because I went direct,” says Moore.

That’s one example of the upside of sourcing direct: the potential for more cost-competitive pricing and greater profits. Even though it also comes with a plethora of risks and challenges, the practice among distributors appears to be increasing, and that’s causing consternation among some U.S. suppliers. Those firms say there’s an unfair double standard at play – a point with which even some distributors agree. If a domestic supplier sells direct to an end-buyer, they’re branded a villain and risk losing business from distributors, certain suppliers maintain. But if a distributor sources direct from overseas, suppliers aren’t supposed to bat an eye.

“I had an end-buyer come to me about a big order of outdoor umbrellas, and I didn’t take the business. I passed them along to a distributor client, who won the account and ordered through us,” says Jeffrey Nanus, president of Norwood, NJ-based AAA Innovations (asi/30023). “But when it was time to reorder, the distributor went around us and sourced from overseas. If I had gone around the distributor and sold to the end-buyer, the distributor would’ve been shouting from the top of the Empire State building about how horrible I am for selling direct and how no one should do business with me. Yet, as suppliers, we’re just supposed to be OK with a distributor going around us.”

For decades, the North American ad specialty industry was built upon an entrenched supply chain: suppliers sell to distributors, who in turn sell to end-buyers. Companies that went outside those bounds were outliers and outcasts. But the world has gotten small, and distributors can more readily find overseas factories, while end-buyers can easily locate products on a supplier’s website. It raises fundamental questions: Is the industry’s traditional distribution model under serious threat? Why is there such an ethical disparity between sourcing and selling direct? And is the long-held trust between suppliers and distributors starting to erode?

Risks & Rewards for Sourcing Direct

Distributors griping about suppliers selling direct has been occurring for decades. However, suppliers taking umbrage with distributors for sourcing direct is a more recent phenomenon, a practice that seems to have increased. Research from Counselor’s latest State of the Industry report indicates that 75% of distributors with more than $5 million in annual revenue sourced at least one order direct in 2018. Even 46% of the industry’s smallest firms – those with $100,000 or less in annual revenue – say they went directly abroad for products at least once that year. On average, 12% of all the products distributors sold in 2018 were sourced from overseas.

Thanks to 21st century communication, it’s easier today for U.S. distributors to connect with manufacturers in overseas production hotbeds, especially China. Some larger distributors have invested amply to build the necessary overseas networks for safe and efficient direct sourcing, while some smaller distributors have started relationships with foreign factories through meetings at trade shows. “I’ve been contacted directly by manufacturers in China,” says Moore, “and I’ve been able to develop connections with a few.”

“Distributors sourcing direct is just like a supplier selling direct. It upsets what for a long time has been a very clear, distinct channel of distribution in our industry.”Jeffrey Nanus, AAA Innovations

Like Moore, others have been drawn by the prospect of better pricing and the potential for stronger margins. “In certain product categories, for a select group of clients, the cost benefits of importing are an essential part of retaining the client,” says Terry McGuire, senior vice president of vendor relations for Sterling, IL-based HALO Branded Solutions (asi/356000), promo’s third largest distributor.

Even so, pricing and profit aren’t the only reasons distributors have increasingly sent dollars straight across the Pacific. “For us, direct sourcing isn’t so much about competitive advantage from a price perspective, but more so about being able to control the process of testing, manufacturing and QC for a select group of products we create that are completely custom in their design, materials and fabrication,” says Jay Deutsch, CEO of Woodinville, WA-based Top 40 distributor BDA (asi/137616). “It comes down to transparency, specialization and, in some cases, client-approved certifications.”

BAMKO, (asi/131431) a Top 40 distributor, has been sourcing overseas for 15 years. The Los Angeles-headquartered firm has teams on the ground in China, Vietnam, India and Bangladesh. “The benefits are numerous, not least of which come in the form of quality control, compliance and unparalleled visibility into how things get made,” says Joshua White, BAMKO’s general counsel and senior vice president of strategic partnerships. “For some of our bigger brands, that degree of visibility into and control over the manufacturing process is crucial.”

Despite the upsides, sourcing overseas can be perilous. Proper vetting of potential partners is paramount. Failure to do so has, in cases, resulted in horror stories. According to industry sources, some distributors have lost money on orders in which overseas swindlers representing themselves as manufacturers or brokers simply disappeared with their cash and never delivered a single item – an especially scary scenario given that some foreign factories require full payment up front. “The honesty of the people you’re dealing with can be an unknown,” says Gregg Emmer, vice president/chief marketing officer at Top 40 distributor Kaeser & Blair (asi/238600), which is based in Batavia, OH. “It’s strangers in faraway places asking for deposits and up-front lump sums.”

Quality control – and sufficient recourse when things go wrong – is another challenge. Even Moore, who’s sourced from abroad successfully, admits she had an issue with shoddy prints on mugs on a direct import job. As such, distributors must ensure they have mechanisms for enforcing quality and getting recompense if an order goes awry. Often, such mechanisms aren’t easy to come by without significant investment, some distributors say. “Direct sourcing can be opaque, risky, time-consuming and expensive,” says Deutsch.

Adjusting pricing to account for tariff impacts and dealing with problems that could arise at port when one is the importer of record are additional hurdles that distributors should consider. “We’d rather go through a supplier or broker so they’re the importer of record,” says Emmer. “If a mistake is made, it’s their mistake to fix. We had an instance where labeling on hand sanitizer being brought in for us from overseas through a broker didn’t meet U.S. labeling standards. It was up to the broker to make it right. He made us whole. We didn’t lose anything. If we’d been the importer of record, that would have been on us.”

Also, sourcing direct overseas presents the potential for dealing with fallout from supply chain disruption, as has been seen recently with the impact from 2019 novel coronavirus, which has hobbled Chinese factory production in early 2020. That’s affected direct-sourcing distributors. “We’re feeling the impact severely with new projects, as we’re unable to quote completely overseas,” says Joseph Sommer, owner of New York City-based distributorship Whitestone Branding. “For instance, if we’re making a tote bag, the canvas factory may be open, but the factory that produces the lining may still be closed. The whole situation is making our whole supply chain feel very unsettled.”

Suppliers Trying to Adapt

For all that, though, the hard numbers and anecdotal evidence testify that more distributors are importing directly. It’s a practice that chafes some suppliers. While many want to remain mum on the topic for fear of rankling distributor clients, Nanus articulated the simmering frustration. “Sourcing direct is just like a supplier selling direct. It upsets what for a long time has been a very clear, distinct channel of distribution in our industry,” he says.

Adds Nanus: “What’s happening more and more is that distributors are using suppliers for the everyday orders, but when they get a good order – a big one – more are now looking to do those overseas.”

Weathering that new dynamic, some suppliers have been attempting to adapt. They’re drawing on their sourcing expertise to act as agents/brokers for distributors on higher-volume, custom and challenging orders that require specific overseas production. Moore, for instance, notes that she’s collaborated on a number of such orders with Florida-based Top 40 supplier Hit Promotional Products (asi/61125). “Many domestic suppliers have really strong capabilities overseas that can yield certain benefits a distributor wouldn’t get if they go overseas on their own,” says Deutsch.

Nanus’ AAA Innovations is among the contingent of proactive suppliers. In addition to its business of importing product, stocking it and decorating the items on demand for distributors who’ve placed orders for end-buyers, AAA Innovations has another division that essentially acts as a sourcing agent in China. The New Jersey-headquartered firm has an office overseas to help match distributors with the right factories for the right products. “We’re experts in the field,” says Nanus. “The factories are inspected and accredited. Products are tested. Our own people are monitoring things. We operate on credit, not demanding payment up front as you’ll often get when going direct. If there’s a problem, we fix it.”

Distributors might also be surprised to learn that working with a domestic supplier as an agent can sometimes lead to the most competitive pricing of all. “We had an order for jacket pulls where we got different quotes and the factory direct was the highest,” says Emmer. Nanus tells a similar tale. He spoke recently with a distributor who went direct-to-factory on an order of 50,000 cosmetic bags. The distributor told Nanus that direct was a must, as he saved 50 cents per bag. But Nanus attests that the distributor could have saved even more by working with AAA. “Because of our sourcing abilities overseas,” says Nanus, “the bags would have been another 40 cents cheaper than what he paid, had he gone through us.”

Pressured Into Selling Direct?

Of course, not every supplier is prepared to act as a sourcing agent or otherwise overhaul their business model. And as direct sourcing increases as a practice – and as the perception that it might even be more widespread than it is takes hold – more suppliers may be tempted to commit the age-old industry taboo: Sell direct to end-users.

Such is a prognostication made by a range of suppliers, including John Bruellman, president/CEO of Sign-Zone, parent company of Brooklyn Center, MN-based supplier Showdown Displays (asi/87188), Counselor’s 2017 Supplier of the Year. To be clear, Showdown is adamantly against selling direct. The company just doesn’t do it, Bruellman says; it has even rejected small direct orders from family members, instead referring them to distributors. But given his knowledge of the marketplace and supplier thinking, Bruellman says, “I think there’s a degree of panic among some suppliers, to where they feel maybe the traditional industry model isn’t as relevant and they need to now try to control the end-buyer relationship. Because of that, I do think you’ll see more suppliers trying to sell direct.”

“Were any supplier to come into our lane, they’d be seen as a threat and dealt with accordingly. We are not in the business of helping our competitors.”Joshua White, BAMKO

Distributor direct sourcing wouldn’t be the sole catalyst for a potential rise in supplier direct selling. Industry-wide consolidation that’s empowered larger players to gain volume pricing advantages and market share, as well as pricing pressures from end-buyers and distributor-mandated rebates and fees, have also fueled a belief among some suppliers that they should at least consider selling direct. The growing investment in promo by private equity firms could also eventually accelerate direct selling. “Private equity will look for returns on investment, not necessarily status quo within an industry’s business model, so it seems the lines may blur a bit more,” says Alan Tabasky, vice president/general manager of Miami-based BEL USA, parent company of Top 40 distributor DiscountMugs.com (asi/181120) and supplier BEL Promo (asi/39552).

Currently, it’s difficult to pin down how many suppliers are selling direct. There’s no immediately available macro data, a consequence in part of the practice being frowned on and not often discussed on the record. Another complicating factor is the manner of selling can vary. Distributors and suppliers suggest a variety of avenues where selling direct could proliferate: actively courting direct sales in a certain vertical or category; throwing up a microsite online from which to sell products; taking an almost passive approach, processing what direct orders come in without actively soliciting business; or selling direct in cases where margins are so low they believe a distributor wouldn’t even want the business. “Certainly there are suppliers I’m familiar with that have some form of direct sales,” says Bruellman.

There is a sense among some industry executives that the practice, in any of its various manifestations, could grow. “My personal feeling is that the better suppliers aren’t doing it and won’t do it, but the ones that are not on as firm a footing, they could look to do it out of necessity,” says Emmer.

Adds Mike Wolfe, CEO of Chicago-based Top 40 distributor Zorch (asi/366078): “I think it’s ultimately inevitable that more suppliers will sell direct, but the timetable is uncertain. The obvious issue would be the negative perception, which would likely result in an immediate decrease in business, as distributors stop working with a supplier they now view as a competitor. One possible scenario would involve the merger of a supplier and a distributor, assuming the synergies would offset the initial loss of business.”

BAMKO’s White believes more direct selling is in the cards for the years ahead. “It’ll happen very slowly at first and then very quickly,” he predicts. “The natural progression will be for the American market to evolve to be more like Europe, where suppliers sell direct to consumers. One of the reasons is because so many distributors are falling down on the job. They’re not providing much value.”

Nonetheless, not everyone thinks supplier direct selling is poised to proliferate. Nanus, for instance, has no plans for his AAA Innovations to bypass distributors. Some Top 40 firms, such as West Jordan, UT-based SnugZ/USA (asi/88060), say they aren’t interested in frontline sales relationships with promo end-buyers either. “We just don’t have the bandwidth to manage that relationship,” says CEO/President Brandon Mackay. “The second you say ‘yes’ to sell them lip balm, then the next question is, ‘Can you get me shirts, hats, etc.?’ On our end-user inquiries, we provide them with a distributor in their local area that we know will respect the lead and close the deal.”

Certain industry executives are of the opinion that the difficulties of selling direct will dissuade suppliers from aggressively jumping in. “As any distributor will tell you, it’s difficult and expensive to stand out in a crowded promotional landscape,” says HALO’s McGuire. “Finding and retaining clients is a core competency many distributors have taken decades to fine-tune. Suppliers would quickly discover that success selling directly to end-buyers doesn’t happen overnight.”

For suppliers who do give it a go, there could be potential backlash from at least some distributors. “I will not work with a supplier that sells directly,” says Moore. “When they do that, they become my competition.”

Companies like BAMKO make an ethical distinction between distributors sourcing direct and suppliers selling direct. “Distributors going direct is an act of self-sufficiency, rather than an act that cannibalizes business from our customers,” White says. “Suppliers selling directly to end-buyers is different in that it’s cannibalizing a distributor’s client base, at the same time that the supplier wants us to be their customer. The unique nature of the supplier-distributor relationship demands a certain degree of trust and reliance, particularly as information we provide suppliers about our customers can make them a much bigger threat to our relationship with the client than another distributor could ever be. Given that trust and reliance, were any supplier to come into our lane, they’d be seen as a threat and dealt with accordingly. We’re not in the business of helping our competitors.”

The Traditional Model Persists

Despite angst over direct selling and direct sourcing, the cross-section of supplier and distributor executives Counselor spoke with say it’s important to keep in perspective that the traditional industry distribution model is the route through which the overwhelming majority of sales continue to travel in the $25.8 billion ad specialty space. (Counselor’s data backs up this belief; on average, 88% of the products distributors sold in 2018 were not sourced directly.)

Importantly, most believe the long-standing distribution model – supplier-to-distributor, distributor-to-end-buyer – will remain viable and dominant, even if more suppliers sell directly and more distributors engage in direct sourcing. “We’re not convinced the industry dynamic has shifted in a major way,” says McGuire. While HALO direct sources on some orders, “we are still transparent and loyal to our suppliers and they still recognize the benefits of working through us to satisfy promotional buyers. As long as distributors are transparent and loyal to suppliers, suppliers will not be tempted by the complexities of selling directly to end-buyers.”

“The traditional industry model remains highly relevant. It’s working for us and our distributor partners.”John Bruellman, Showdown Displays

“I don’t see a significant shift today that would suggest the traditional industry model is breaking down,” says David Nicholson, president of Top 40 supplier Polyconcept North America (PCNA, asi/78897). “Most suppliers continue to see value in selling through their existing distributor partners, given their reach and relationships with end-buyers. For distributors, there may be situations where the existing industry supply chain won’t meet their requirements for a particular client or opportunity, and they may have to source directly. Still, I don’t see that as an imminent threat to the vast majority of the industry’s business.”

The industry model continues to work, executives say, because on the whole it still provides the most benefit to suppliers and distributors. Take the hypothetical of a distributor that sources direct for everything, completely removing domestic vendors from the equation. Industry leaders say that distributor would have to make a massive investment in sourcing and production expertise just to come close to replicating the product variety and support services offered by the current spectrum of promo suppliers. Similarly, the investment in salespeople, customer service pros, new technology and advertising/marketing that many suppliers would have to make to compete at scale for end-buyer business makes the prospect unattractive for many.

“The traditional industry model remains highly relevant,” says Bruellman. “It’s working for us and our distributor partners. That’s why we’re 100% committed to it.”