Three years ago, W.W. Grainger embarked on a multi-year market expansion program designed to increase its coverage in 25 key markets throughout the United States. The plan is to increase Grainger's local presence in those markets by adding or expanding branches and adding salespeople—with the ultimate goal of acquiring more customers. The company plans to spend about $200 million on the program before it's finished, and is already reaping the benefits. Through the third quarter of 2006, the market expansion plan had contributed 2 percent to Grainger's sales growth, and sales have grown in the double-digits in the markets where they've already expanded—Atlanta, Denver, Seattle, Southern California, Houston,

Tampa and St. Louis, to name a few. Grainger expects the program to add more than $1 billion in sales by 2013.

Grainger is also reaping the rewards of an improved infrastructure, the result of recent investments in logistics and IT systems to support its more than 2 million customers. In 2005, the company completed the reconfiguration of its U.S. distribution centers, going from a series of national, regional and zone centers to nine strategically located distribution centers that directly support its 427 locations across the country. And a year ago, Grainger implemented a new Enterprise Resource Planning system for its U.S. branch-based business. To date, all U.S. branches are running on the same SAP platform, and the company is in the process of rolling it out to branches in Canada and Mexico, as well as to its distribution centers.

Grainger president Jim Ryan told Industrial Distribution recently that improving customer service is at the heart of these initiatives.

“Grainger, even through a down economy, has been very much focused on building an infrastructure that [can support our customers],” Ryan said. “We've built an integrated supply chain that provides same-day service on a very broad, high-quality product offering. We've built an IT infrastructure that can bring information to the front line and help customers find what they're not normally used to looking for. We've doubled our sales force in the last four years.

“We're now focused on … putting people in front of our customers that have more knowledge than anyone else in our industry. This is a very exciting time in our business.”

Indeed, it is. Grainger announced its largest product line expansion ever last year, adding 30,000 fasteners and 10,000 other items in the electrical, cleaning, materials handling, plumbing and ventilation categories. And in September, Grainger opened its first branch overseas. The 120,000 square-foot master branch is located just outside Shanghai and serves mainly small to medium-sized Chinese customers. The company also published a Chinese-language catalog and opened a will-call center on Shanghai's Beijing Road, which is home to the bulk of the area's industrial base.

Ryan says Grainger is using the same customer-driven philosophy it uses here as it expands in China.

“The industrial distribution business is very much a local business. To compete, you've got to have a local presence and develop relationships,” he says. “This will always be a relationship and a local business. We don't see that changing.”

Ryan adds that start-up, joint venture or acquisition are all possible strategies for expanding outside of North America, but emphasizes that this year, the focus is on learning the Chinese market.

“In 2007 we're going to learn that market,” he says. “And once we've got confidence that we know how to grow, we will go after further expansion.”

The measured approach is good news to members of the investment community.

“We're encouraged that they're going after these opportunities selectively and at a slower pace,” says Dave Manthey, a financial analyst with R.W. Baird who covers Grainger. “They're cognizant of one- to three-year results as well as 10-plus year results.”

Across the board, Grainger is doing the right things to drive a growing, higher- margin business, Manthey says, pointing to the success of the market expansion program and the return Grainger is seeing on its investments in IT, infrastructure and human resources. Grainger has posted strong sales and earnings gains in the last few years. Earnings were up 21 percent in 2005 and were expected to rise another 8 percent to 12 percent last year.

The company's strong performance has led to industry speculation that it may be an attractive acquisition candidate for Home Depot's HD Supply division, which isn't shy about its plans to become a larger player in the facilities maintenance/MRO market. HD Supply, which sells to the professional contractor and industrial market, has said it wants to get to $25 billion by 2010 (current sales are about $12 billion); acquiring a powerhouse like Grainger would go a long way towards meeting that goal.

For his part, Ryan says Grainger is focused on customer service, not industry rumors. When asked about a possible HD Supply acquisition, he deferred to Home Depot, emphasizing instead Grainger's focus on improving service.

“You will have to ask Home Depot about their acquisition plans,” Ryan says. “We intend to use our expertise in this market to set new standards for service, and do nothing to dilute that focus.”

Of course, Grainger is not without its challenges. Manthey points to the slowing industrial economy as a concern for all distributors, and adds that Grainger has room to improve its Canadian business. The company named Court Carruthers president of Acklands-Grainger, its Canadian division, in November, citing the opportunity to improve branch and supply chain networks and enhance customer service.

Despite the challenges, Manthey and others say Grainger is on the right track.

“The strategy is right, and they're executing very well in the near term,” he says.

Industrial Distribution talked to Jim Ryan in late November about some of Grainger's 2006 milestones and his expectations for the coming year. Here are some excerpts from that conversation:

Industrial Distribution: What has been customer and supplier reaction to Grainger's huge product line expansion in 2006? Will the company be making similar additions in the future? If so, in what product groups?

Jim Ryan: The short answer is that the response has been very positive, and it's exceeded our expectations. … This was the biggest product line expansion in the history of the company, and the response has been very positive. We were able to do this as a result of the investment we've been making over the last several years in our distribution centers. We had a DC expansion program that concluded about a year-and-a-half ago, and we added over a million square feet to our distribution center capacity.

We are going to continue this aggressive product line expansion. The trend in this industry is that customers are looking to take cost out of their process for acquiring facilities maintenance products, and one of the techniques they're using is supplier consolidation. … So, we are on the front end of a very aggressive product expansion program that's going to take place over the next three years. … In 2007, we expect to increase the number of SKUs by another 20 percent.

ID: Industry consolidation is rampant today, yet Grainger has been relatively quiet on this front. Is acquisition a part of Grainger's growth strategy, perhaps for geographic expansion overseas?

Ryan: Acquisition is very much part of our strategy in Lab Safety Supply [Grainger's direct marketing business in the United States]. … We announced another acquisition [in November: Professional Inspection Equipment Inc. and Construction Book Express Inc., both of Hauppage, N.Y.] and we are going to continue to be active on the acquisition front in the Lab Safety business.

Beyond that, we're very much interested in growth in all of the markets we participate in. Our primary focus in North America has been through organic growth—our product line expansion and market expansion programs have exceeded our expectations. … Outside North America, it will depend on the market. We have two business models that we bring outside North America—our branch-based model and our direct marketing, Lab Safety model. … Depending on the country, an organic startup, joint venture or acquisition are alternatives we'd consider in other parts of the world.

ID: There's been some speculation in the financial community that Grainger is an attractive acquisition candidate for Home Depot's HD Supply division, which has stated its desire to get a bigger piece of the facilities maintenance/MRO market. Is this a scenario you can envision for Grainger?

Ryan: You will have to ask Home Depot about their acquisition plans. Our focus is customer service. We are singularly focused on helping businesses drive down costs associated with acquiring and managing MRO products. We have an infrastructure and a product line that is built for the MRO market. We intend to use our expertise in this market to set new standards for service, and do nothing to dilute that focus.

ID: What is the status of Grainger's U.S. market expansion plan begun a few years ago, and what effect has it had on the company's bottom line to date?

Ryan: We're really excited about the results of this program. This is very much an organic growth program. It's contributed two percentage points to top-line sales growth, and we're growing in double-digits in the markets where we've expanded our presence. We've increased the pace of our expansion a couple of times in the last few years, and this program is very much exceeding our expectations.

ID: Grainger recently opened a branch in China. What's the strategy behind this move, and how much business do you expect to do in China in 2007?

Ryan: We've opened a facility right outside of Shanghai—it's a [120,000 sq. ft] combined distribution center and branch. We also have a presence on Beijing Road [which is] where most of the [area's] industrial supply base sits; we have a will call facility there. Our plan for China for 2007 is to validate our business model. We built in China what we know how to build. … We're very excited about the facilities we've put in place [and] the team that we've put in place there.

In 2007 we're going to learn that market. … And once we've got confidence that we know how to grow, we will go after further expansion.

ID: How do you approach such a big strategic move?

Ryan: The reason that we're in China is because manufacturing is moving outside the [United States].

Manufacturing companies, regardless of where they are, all suffer from the same problem: It's very difficult to find, buy and manage MRO products. We've got over 80 years of experience helping companies solve that problem.

There is a very large and growing manufacturing base in China, and that's why we're there. As manufacturing goes to other parts of the world, we'll follow [it]. Our plan in China is to get in, get in the market, establish a presence there and learn it as fast as we can.

ID: What other countries is Grainger targeting for global expansion?

Ryan: Our focus outside the [United States] is Canada and Mexico, and then outside of North America is China. …And we continue to research other countries that have either large or growing manufacturing-based economies.

ID: In your view, what's the role of the small distributor in today's marketplace?

Ryan: I think there is absolutely a place in the market for large, broad-line distributors as well as small, specialized distributors. We see a lot of smaller independent distributors that are focused around a particular product offering or a particular customer group that provide a wide range of technical and support services that are very valuable to their customers and will continue to be very valuable to their customers. What we're also seeing is a definite trend of regional and national distributors trying to build a nationwide IT network, a supply chain network and expanding their product lines. … We see room in the market for both kinds of companies.

ID: Finally, what do you see as the greatest challenge facing industrial distributors today?

Ryan: I think the biggest challenge for all of us in this industry is educating customers on how to drive cost out of procuring MRO [supplies]. The tools and techniques we know to be most effective aren't necessarily intuitive to many of the customers we talk to.

For example, one of the techniques that most of our customers have used … is to consolidate their purchases around vertical product categories, like tools, lighting, electrical and Jan/San. Consolidating suppliers is a very effective way to drive down acquisition costs for MRO, but consolidating suppliers around vertical product categories isn't always easy … because of the random demand [for MRO supplies]. Consolidating unplanned purchases is a very effective way [to drive down costs].

As an example, I was with a customer not too long ago that had an accident on their loading dock. They had a forklift that knocked out a dock light and also did some damage to a motor that opens and closes their dock door. Buying a dock door motor or light isn't something they do every day, but they needed them. … I happened to be talking to the purchasing agent, who was frustrated that he couldn't find someone who carried both items and had them both in stock. … Fortunately for us, we had both products in stock and could get it to them that day.

There's a lot of time, and a lot of cost, wrapped up in finding a supplier that carries it, has it in stock and can get [you] up and running fast. That's what Grainger's all about. We have a broad product line, logistics [network], and the information systems infrastructure that can help you find the right product, and walk out with what you need to solve your problem.