Recession? What recession?

Though Big 50 distributors tied to the construction market are hurting, those serving manufacturing, energy and other sectors report solid growth in 2007 and a steady outlook for 2008

By Jack Keough, Editor -- Industrial Distribution, 6/1/2008 6:00:00 AM

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INDUSTRIAL DISTRIBUTION's Big 50 distributorships took various paths to increased sales in 2007 and, except for those primarily serving the construction market, most said the economic downturn hasn't severely affected their businesses.

“We're just not seeing the softness that everyone keeps talking about,” says Steve Cloud, president of IBT, No. 41 on our Big 50 list.

Cloud isn't alone in his assessment of the economy. Jim Timble, chairman of Bearing Headquarters (No. 49), is even more blunt.

“I think all this recession talk is more election-oriented than anything,” he says. “We don't think the downturn will affect the industrial sector.”

Other executives used terms such as “solid year” and “very satisfied” when asked to assess 2007 and the start of 2008. Russ Frazee, COO at FCx Performance (No. 42), which sells instrumentation, gauges, fittings and related products, says 2007 was a “very strong year” and that 2008 is shaping up even better. He says he sees no signs of a recession, at least in the market sectors FCx sells into, which include the chemical, refining and pharmaceutical industries.

“Business is there,” he says. “You've just got to go get it. The businesses we serve are up and down every year, but if you pay attention and you know where the business is growing, then you can focus your efforts on those areas.”

Adds Ron Mager, president and CEO of Machinery Systems (No. 45), a machine tool distributor based in Illinois, “Anybody involved in manufacturing that's not in housing or automotive is not in a recession. There's the weak dollar, which is driving our exports, and there are certain segments of the manufacturing industry that are going to remain solid for a long time.”

Distributors servicing the construction market are not so upbeat. Big 50 companies such as HD Supply, Wolseley, Carlson Holdings and WinWholesale are hoping for a turnaround in the construction sector. Most of these companies, as well as many others, saw substantial layoffs, a drop-off in sales expectations and a sharp decline in homebuilding. And no one seems to know where it will all end.

“This is the worst I've ever seen it,” according to one executive who's been in the industry for many years. “And I don't think we've seen the bottom yet.”

Driving sales

So how did the Big 50 companies grow their bottom line? Many expanded internationally. Others acquired competitors, opened branches, expanded geographically or added product lines.

Airgas (No. 5) took the acquisition route. The Pennsylvania-based company completed 18 acquisitions in 2008, adding nearly $510 million in revenues.

“While all of these acquisitions were in North America, we continue to evaluate international opportunities that fit our business model,” says Mike Molinini, executive vice president and COO.

Lewis-Goetz (No. 28) was purchased by the Boston-based private equity firm Audax Group last year and wasted no time making an acquisition, buying Samson Industrial, a distributor and fabricator of specialty industrial supplies.

“We're going to expand through acquisitions and look at geographic and industry-based holes we have to fill,” said company president and CEO Jeffrey Crane.

In recent years, there has been a noticeable change in acquisition strategy by some Big 50 distributors. Many specializing in power transmission components, for example, have branched into complementary fields such as fluid power or industrial automation.

Hydradyne Hydraulics, a hydraulics/pneumatics distributor in Louisiana (No. 40), is about to purchase a multi-branch electrical supplies distributor. The company is also looking at two other companies that serve “complementary markets,” says vice president Gale Helton.

Hydradyne primarily serves the oil field sectors in several states, but Helton cautions against having all your eggs in one basket.

Jack Cahill, president of Kaman Industrial Technologies (No. 15), is upbeat about Kaman's purchase three months ago of Industrial Supply Corp.

“That's a very nice acquisition; six branches, $55 million in sales and a new product line,” says Cahill. “We're opening a new distribution center in the Southeast (Savannah, Ga.); that's more commitment to that marketplace. We believe that market is one of the growth areas in the U.S.”

Last year, Kaman also took advantage of expanding geographically through new branches.

“We opened nine new branches last year and we'll open more this year in markets that are appealing and when we win a major new account that pulls us into a certain market,” Cahill adds.

Many companies added locations domestically, or in some cases in Mexico and Canada, but some said much of their growth is being spurred by sales overseas.

“If you looked at our company four years ago, it was all North American-based,” says Daniel O'Leary, president and CEO of Edgen Murray (No. 14). “Now that's 60 percent. We've grown the business and a lot of that has been done by our emphasis on international growth.”

Sales at Edgen Murray break out this way: 60 percent North American and 40 percent international.

“That's a very pleasant way for us to grow in terms of our staffing and our skill and our people,” O'Leary says.

BDI (No. 20) also intends to take the international route to growth.

“We have been in the process of consolidating our European companies located in each country under a BDI holding company in order to streamline operations, treasury and certain overhead,” says company president Carl James.

In addition to opening three locations in the United States and Canada last year, BDI expanded with branches in India, Belgium, the Netherlands and China. The company also plans to grow horizontally into fluid power, automation and industrial supplies with BDI's Smart/MRO vendor managed inventory program.

Several distributors pointed to Europe as a growth area. MSC Industrial Direct (No. 12) is looking to its purchase of J&L Industrial Supply as a springboard into the United Kingdom, for example.

“We really view the U.K. as a great growth opportunity and one that's going to be significant over time as we see international expansion as an important part of our long-term growth strategy,” says president and CEO David Sandler.

Edward Allen, president of North America for Bossard (No. 21), says the company's European division drove its 7.4 percent global sales increase in 2007. In his division, operating profit was up 40 percent and costs were down 29 percent as Bossard shuttered two-thirds of its U.S. locations.

“We've been adding locations around the world, but not in the U.S. In the U.S., we've been restructuring and consolidating,” Allen says.

The bad news

You can't over-emphasize the devastating effects being felt by construction distributors. Wolseley, HD Supply, Carlson Holdings and others were forced to lay off a substantial number of employees due to the sub-prime mortgage mess, tight credit market and overbuilding of housing units.

In a prepared statement, Wolseley (No. 1) said, “We expect business conditions in a number of Wolseley's markets to become more challenging over the next few months. In the U.S., the housing market is likely to deteriorate further and put additional pressure on the market. The commercial and industrial market is likely to remain stable for the next few months, but soften thereafter.”

The company says it will continue to undergo “rigorous cost management” strategies. Translation: more layoffs may be coming. Wolseley's Ferguson Enterprises and Stock Building Supply divisions have felt the brunt of the housing downturn.

Steve Edwards, director of communications at WinWholesale (No. 8), says sales at the Dayton, Ohio-based company dropped 7.6 percent last year, mainly due to the residential construction market. Edwards says the company's business on the commercial side helped offset some of those losses.

“We expect the markets to continue to be tough in 2008,” Edwards says. “Particularly residential markets. We'll continue to work hard on commercial construction markets—they're still growing, but we're watching them closely.”

Don Carlson, chairman of Carlson Holdings (No. 34), says he was taken aback by the speed of the construction downturn.

“Fortunately, we're very diversified because of our size. We're very active in the industrial area as well as in construction,” he says.

Sales in some regions, such as the Midwest, have remained solid, but in areas such as Florida and Arizona, business has dropped off markedly.

“We've had to cut back in certain job areas,” Carlson says, declining to say how many positions have been eliminated, but emphasizing that he's done what makes the best business sense for his company.

Despite the chaos in the market, Carlson, a veteran of the industry, says he's optimistic.

“I've been there and done that,” he says, noting the many ups and downs of the construction business over the years. “We'll recover. We have plenty of innovative products and many customers.”

The Internet as a growth tool

When asked about the Internet, many distributors say they view it differently than they did just a few years ago. Several are planning to establish online stores, for example, while others say technological changes in the last decade, such as greater bandwidth and faster processing speeds, have been remarkable.

“In 1999, most of our customers considered online ordering something that was more of a novelty than a future staple of our retail and wholesale industries,” said Peter Provenzano, president and CEO of SupplyCore Inc. (No. 36). “The greater availability of high speed access, remote and mobile access—and higher expectations of customers—will continue to drive this technology forward.”

Online orders represent a small percentage of sales at Harrington Industrial Plastics (No. 35), but CEO James Swanson says that will change in the years ahead.

“You have to get involved [in online sales] if you're a global entity. We see more people wanting to purchase online. We have about 50,000 SKUs, and to develop that and do it right you're looking at an expenditure of [more than $250,000],” he says. “We have not budgeted for that this year but we are actively involving ourselves. In fact, I have a meeting later today to look at the costs of an online store.”

Lawrence Wolfe, president of Production Tool Supply (No. 27), is even more bullish about online sales.

“It is now about 20 percent of our business,” he says. “It has grown enormously.

“I think that's one of the reasons why our business continues to improve. We enhanced our Web site. I really believe that e-commerce is the wave of the present. We continually upgrade our Web site and link that to our vendors, so the customers can get as much information as necessary for them to make a decision about what they want to purchase.”

But Wolfe added that the end user, “the guy in the shop,” still likes the personal touch. That view is echoed by Bob McCollum, president and CEO of R.S. Hughes (No. 31).

“The industrial world still likes relationships,” McCollum says. “And when you're using the Web in the manufacturing world, those people know us. They like to see someone and talk to someone, instead of just plugging away on the computer.”

The challenges ahead

The top officers at these companies identified a number of challenges facing the industry in the years ahead. Many of them are not new, but they're becoming more intense and could make it difficult for distributors in the years ahead.

On the economy, distributors say they're worried about the downturn in housing spreading to the manufacturing sector.

“We're doing fine, but there are slower parts of the economy. It's really about what happens if this trickles over and affects our customers,” says Will Oberton, president of Fastenal (No. 9).

Ben Mondics, president of Applied Industrial Technologies (No. 11), says Applied saw 6 percent growth last year, but noted that 2008 is “presenting more of a challenge as the economy has slowed, particularly in housing and related industries, as well as automotive. We think the industrial economy will continue to be sluggish through the year.”

The cost of fuel is also an issue. Applied, for example, is addressing this from several angles, including using alternative fuels, evaluating delivery routes and finding more effective ways to save energy in its facilities.

Dillon Supply (No. 38) delivers steel and steel-related products as part of its services, says Eric Dillon, vice president of operations.

“It's a little humbling when your monthly statement, just for gas, is in excess of $3,000,” he says. “And with diesel prices in excess of $4 a gallon, it's incredible.

“It's definitely a challenge. We're paying around $40,000 to $50,000 more in fuel per month over when diesel was about $1.80 a gallon.”

Some distributors have added surcharges to deliveries or are outsourcing delivery more than they had in the past.

Phil Derrow, president of Ohio Transmission & Pump (No. 44), says his company runs a fleet of 60 trucks and another 100 vehicles are used by salespeople, meaning a large increase in fuel costs.

“Interestingly, I think the rising costs are very powerful incentives to improve or rather reduce the amount of fuel we use relative to the amount of business we do,” he explains.“We're looking for ways to be more efficient—for ways of doing our scheduling so that we are more efficient. I look at all these things as opportunities to improve customer service.

“It's funny, those who have a principally environmental concern fail to realize how powerful an incentive [rising costs] are. Until it costs more, there's no reason to find ways to use less of it.”

Other problems mentioned by distributors include inflation, the surging cost of steel and, of course, finding qualified people.

“The biggest issue is getting people,” says McCollum of R.S. Hughes. “As a result of what's going on in the economy, younger people are re-evaluating how they look at their jobs.

“It's a continuous problem. But if we can keep them for three years, we tend to keep them [for the long term].”

In order to attract new talent, Dillon Supply is evaluating its entire benefits package.

“We're taking a good, hard look to make sure we can be competitive, not just with our industry but with other industries,” says president Dean Wagoner.

Despite all these concerns, distributors are cautiously optimistic about 2008. Time will tell if those assessments are correct.

This article is based on interviews conducted by INDUSTRIAL DISTRIBUTION editors Victoria Fraza Kickham, Alison Lutes, Joe Nowlan, Brad Perriello and Jack Keough.