Margin Makers

Components trading is as volatile as any stock market in the world. So how do the Middle East’s components distributors manage their market, and still manage to leave margins for their resellers, and themselves?

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By  Mark Sutton Published  June 9, 2002

Market instability|~||~||~|The international components business is no place for the faint-hearted. With price changes that can cut the value of stock in half in days, near-constant boom and bust markets, fickle customers and a host of competitors, not all of whom play by the rules, the business can be every bit as risky as trying to play the global stock markets. But all the while these essential elements of the PC business are needed, there will be those looking to make money out of supply and demand. But, in the interests of stable pricing, fairer competition and more reliable supply, can the components market be brought to some sort of long term stability—and would the market want that?

There are a huge number of reasons why the components market is so unstable. Global supply and demand, grey marketing, black marketing, tax imbalances, logistics imbalances, two tier pricing, concentration of production facilities, international currency fluctuations—as many, if not more factors that affect any global commodity. There is not even much consistency between product lines. Memory has suffered terrible problems in the past year or so; hard drives are showing some signs of stability and maybe even maturity in the market; CPUs are dominated by one vendor, but still prices change almost daily. The different conditions in the various markets illustrate well some of the problems faced in components trading.

In the memory market, the problem is primarily one of over supply—there are simply too many manufacturers going after too few consumers, especially given the slump in PC demand. Prices have been depressed for nearly eighteen months. Given the size and simplicity of modules it is easy to ship them to anywhere in the world without having to worry about damage in transit, creating a global glut. “Margins are just not acceptable, it is a joke,” said Nima Firoozbakhsh, international sales manager for SimpleTech.

Although the memory market is expected to begin its recovery by Q3, from a predicted $16 billion this year to $28 billion by 2005, there is still uncertainty in the market. The failure of Micron, the second largest memory manufacturer in the world to seal a deal to buy the ailing Hynix, the third largest manufacturer, was unfortunate, said Houssam Mobied, general manager of MTC, a specialist memory distributor. “We would have liked the deal between Hynix and Micron to have gone through, we would like more co-operation between semiconductor manufacturers so we have a more stable market, but I am not sure that is do-able,” Mobied said.

There are signs of recovery among telecom hardware vendors, and the switch from SDRAM to DDR will help, but until the Hynix situation is resolved, recovery could prove difficult.

||**||beating grey; handling turnover|~||~||~|The hard drive market has enjoyed considerable stability of late, mainly due to the reduced number of vendors in the market. The market in the Middle East is now dominated by three vendors that have 85-90% of the market, according to Dhruv Srivastava, business unit manager, PC components, Tech Data. These vendors have managed the transition from 20GB to 40GB capacity drives without any major effect on pricing, Srivastava said, which suggests that the reduced number of players has helped create stability. Distributors such as Tech Data have also been able to work more closely with manufacturers to introduce things like serial number tracking, which helps control the grey market.

The grey market however, is still a problem with hard drives, and especially with CPUs. “There is only one reason why grey happens—vendors of hard drives and CPUs manufacture products for OEM, and for distribution,” Srivastava explained. “The OEM price is much lower that the distribution price, so sometimes the OEM decides to dump their stock in the market, and distribution is left with nothing.

“Vendors take a lot of time to react to it, because, anyhow, both products are theirs anyway,” he continued. “We don’t buy anything which is unauthorised, no grey sources, but some importers and distributors will. There was an Intel grey problem for the last two months. One of their CPUs started coming in from the Far East, then Amsterdam, everywhere. An ethical distributor like us is totally dependent on the vendor. It got better in April, but [until then] we couldn’t do anything about it, we were just sitting and watching.”

Intel’s ambivalence to the grey market poses problems for the distribution channel. Intel EMEA’s director of reseller channel organisation, Amanda McGonigle, said that the company tries to educate the channel to buy from authorised sources, but that there would always be discrepancies. “We try and show our resellers the benefits of working with us, that it is not worth just every now and then buying on the spot market, but I think there is always going to be an element, it is just natural market dynamics.”

The channel mostly accepts this, but the differential between OEM and distributor price is always going to be a problem. “They have to sell to OEMs, and if the OEM decides to dump, what can they do? If you have got OEMs that are taking vast quantities, and the market turns on them, they need to move that stock. It is a competitive business. I really can’t think of a way that Intel could have [made the market more stable],” said Parvez Ahmed, sales and marketing manager of Almasa Distribution.

So if components are simply commodities, exposed to market dynamics, how can the distributors and assemblers protect themselves from the pain of price fluctuations? One of the most immediate answers is logistics. If you can cut the time it takes to get the product from the manufacturer to the customer, then you can cut the length of time you are exposed to an uncertain market. Most distributors are reliant on airfreight for the bulk of their needs, with sea making up the rest, although a good number are resorting to courier services to get the fastest delivery possible on smaller quantities.

As all of the distributors have access to the same commercial logistics services however, it is difficult to use logistics to differentiate between suppliers. Equally as important to how fast they can get product is how rapidly they can turn it around. “It all boils down to the amount of times you can rotate your inventory and your working capital,” said Ahmed. “Because the margin on such transactions is market driven, you can never add the type of value where you will get a big premium. In the memory game, however well you do, you will lose a few rotations. The only way you can reduce the loss is through probability. If you rotate twenty times in a month, you might lose three times, but the rest of the time you make money.”

The financial strength of the distributor is key to survival in such a capital-intensive business, according to Mobied. “We have to take a hit in the memory business, everybody does. We are financially extremely strong, so this does not really affect us, but some of the smaller companies, they have a small investment, and when they have to take a hit, they go down.”

||**||How vendors can help|~||~||~|While the distributors have to take the risk on prices, they would still like to see more assistance from the manufacturers in bringing some stability to the market. Most of the distributors will admit off the record that they get some form of assistance on pricing from their vendors, which they pass on to their best customers where possible, although this is confined to the best relationships.

Sukant Mishra, product manager for components at Aptec Distribution explains that rather than price protection, distributors are often given quantity protection to ensure a stable amount of product in the market. He believes that the manufacturers need to do more though. “Manufacturers have to take a step ahead, to control pricing and educate the market. It should be their prime responsibility,” he said.

The way forward for most of the distributors is in building value around the brands, to try and move the market away from purchasing purely on price. It is important, said Mishra, that manufacturers either invest in the market directly or choose the right partners to promote their products, rather than flooding the market with product. Ahmed agrees: “The major complaint I have with vendors in general is that they don’t take pains to go and visit the market. When they visit they just visit their distributor in Dubai, which is not a true perception of the business here. There is a big perception gap, vendors open a lot of channels, and then over distribution [of their product] kills it. Good brands have died here because of this mistake.”

Investment in the Middle East, be it through local offices or distribution, is essential. MTC was able to work closely with SpecTek when fake memory modules were found to have proliferated across the market. The company used local knowledge, alongside investment from SpecTek to educate the local market in the difference between the fake and genuine products. Mobied said that although there are still counterfeit products in the market, the campaign has been able to kill the margin on fakes as buyers now recognise them as such.

Improved presence in the market also helps brands to sell on value and not just price. FIC has established a strong presence in the Middle East, with both a Dubai logistics and support centre and local offices in Iran, Saudi Arabia and Egypt. “Competition is becoming bigger every day, but we have added value to differentiate from other major competitors in this market,” explained Hassan Ashi, managing director of Middle East operations FIC.

“We are one of the very few motherboard manufacturers worldwide that has set up in the Middle East, to offer local logistics, local support, local service and a local sales force to support our channel, and in a short period of time we have achieved very good results,” he added.

The alternative for components distributors that don’t want to be subject to the uncertainties of global brands is to create their own. Almasa has its own ART brand of memory modules, fax modems, monitors and VGA cards that was created in part due to pricing problems in the memory market. Ahmed explained: “We lost money on memory, so we said ‘OK, let’s slow this down’. We did a strategic tie up with a manufacturer, a major OEM, we buy from him, and sell it under our ART brand. The advantage is if I am doing brand X memory, I bring it in, make it popular and then these guys [grey importers] go and bring it in from Singapore. At least now, if ART becomes popular, no one else can bring it in.”

In spite of all the checks and balances that distributors have in place to try and control the market, none of them expect to see any real change to stability anytime soon. Mobied explained: “I have been in this business for more than ten years, and I have never seen the memory business anything but volatile, there is always unstable pricing. But because of the information we get, and the because of the risks we take, we make money. This is our business.”||**||

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