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PRECTS|ON ELECTRONTCS CORPORATTON (pEC)

Manufacturers' Representatives versus Industrial Distributors

Background

heavily involved in marketing the relays by establishing


its own industrial marketing organization in the United

Seimitu Denki Kogyo Ltd. (SDK) Japan developed the


world's thinnest sealed polarized electromechanical relay
in the early 1970s. This represented a technological
breakthrough for at least three features of such relay de-

States.

vices: First,

it

was miniaturized, especially with regard

to height (for electronic devices, reducing the height of


components that are mounted on printed circuit boards
is critical). Second, it was resistant to adverse armospheric conditions due to its plastic enclosure construction filled with dry nitrogen gas. Third, it could be used
for memory functions and other logic circuits because of
its polarity.
SDK wanted to sell this new relay in the huge U.S.
market, but lacked its own industrial marketing organization. So instead of attempting to sell the relay as an
identified branded component part, SDK tried to market
the relays through two U.S. manufacturing firms under
their own OEM brands, but achieved little success doing

so. The first firm, a manufacturer of industrial equipment, lacked experience in the component business;
hence it was not able to reach the appropriate targer markets. The exclusive sales agreement SDK had negotiated
with the firm was therefore terminated within a year. The
second manufacturer, a famous maker of military and
aviation-related conrpoucrrt-s, r'clcgated SDI( relays to a
minor supplementary role in its product line rather than
that of a featured product that would receive intensive
sales effort, After two years of such neglect, sales were
much lower than had been projected.
Having attained little success marketing its new ielay
component through manufacturers that paid little attention to the product, SDK decided to become much more

Establishment of Precision
Electronics Corporation and tts
Distribution Goats
Precision Electronics Corporation was established in
Morristown, NewJersey, on October 1,1974, as a wholly
owned subsidiary of SDK Japan. PEC began its marketing activity for relays with seven employees consisring
of four Americans (executive \?, national sales manager, secretary, and clerk) and threeJapanese (planning
manager, accounting manager, and product control
supervisor).
PEC's distribution goal for the relays was to penetrate the U.S. market and attain a sales volume of $50 mitlion (a 10% market share) through its own distribution
network within ten years.

The Channel Decision


Management at both SDK and PEC discussed whether
thc distribution strlrcturc of thc rrerw ccrr.pofaf,i(tn shorrld
be composed entirely of its own salespeople or should
use outside sales forces such as manufacturers'
representatives.
To arrive at a decision, management made some basic calculations: First, PEC wanted to determine how
many of its own salespeople it could afford. To do this,
PEC decided to use qpical commission rates that would

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560

Case

Jf]
Precision Electronics Corporation

have to be paid to manufacturers' representatives to


achieve the sales goal as a benchmark and then work
backward from there, Thus, if a 5-percent commission
were paid on rhe projected $b0 million in sales, this
would amount to $2.5 million. Assuming each company
salesperson would be paid $75,000, PEC could employ 33
salespeople to match what it would be paying in commissions to manufacturers' representatives ($2,b00,000/
$75,000). Given the huge U.S. market, PEC had serious
doubts about whether 33 salespeople would be sufficient
to cover the market. And, of course, this calculation was
made based on achieving $10 million in sales, which was
not expected to occur until the tenrh year. Obviously, the
number of salespeople that PEC could afford in the earlier years would be much lower and hence even less sufficient to cover the giant U.S, market.
PEC decided to do some further calculations to determine the coverage that might be provided by manufacturers' representatives at the same level of the projected ten-year sales target of $50 million, After checking
with industry sources, PEC estimated that manufacturers'representatives could, on average, each provide market coverage equal to five company salespeople. If this
estimate is accurate, PEC could get sales coverage equivalent to 33 company salespeople by using only six or
seven manufacturers' representatives (33/5: 6.6). Further, by using 18 to 20 rnanufacturers' representatives,
PEC could get the equivalenr of between 90 and 100
companysalespeople (18 X 5:90; 20 X 5:100).
Yet management did not want to make such an important channel design decision based only on some
rough calculations of ten-year sales projections. They believed that other qualitative factors also needed to be
considered. It was decided that management should
hold a retreat to brainstorm about some of the issues involved in choosing an appropriate channel structure for
distributing the relay in the U.S. market.
At the retreat, which was helcl at a hotel in uearby New
Brunswick, NewJersey, a freewheeling discussion ensued
among the Executive Vice President (EVP) John Slager,
National Sales Manager Bob Weinburger, and Planning
Manager Tetsuo Yamaguchi. The EVP pointed out, for instance, that the manufacturer's own salespeople can be
very productive because tfiey are available anytime exclusively for the manufacturer and can devote themselves exclusively to its particular products and policies. But offsetting this advantage, argued Bob Weinburger, is the fact
that the manufacturer must pay its own salespeoptre regular compensation, which becomes avirtual fixed expense,
regardless of whether there is sufficient sales volume to
cover the compensation and provide a profit. In contrast,

by using manufacturers' representatives, a manufacturer


needs to pay commission, to the reps only when they produce sales so the costs are variable rather than fixed.

Therefore, he continued, reps can be the ideal sales channel for a company such as PEC that seeks to enter the national market in a short time span without making a huge
investment in setting up its own distribution network.
Tetsuo Yamaguchi finally entered the discussion by arguing that manufacturers' representatives often have good
technical knowledge and complementary product lines
that can be very helpful to the manufacturer. The debate
over the merits of the manufacturer's own sales force versus manufacturers' representatives continued for another
hour or so untilJohn Slager put his hand on his head in a
gesture suggestive of 'How can we all be so dumb?' 'Why
are we only debating the merits of our own salespeople
versus manufacturers' representatives?" he practically
screamed. 'INe are missing another very important and
possibly highly feasible alternative for distributing our relayin the U.S. market-industrial distributors." The other
executives in the room with noticeable embarrassment at
their apparent oversight, nodded their heads in agreement. The discussion then moved to include industrial
distributors. Tetsuo Yamaguchi who had experience
workingwith U.S. industrial distributois in a previousjob,
led off the discussion by pointing out some kel' ad','an
tages of using this type of intermediary: First, they offer
complete sales and distribution operations to the manufacturer by purchasing their stor:k in bulk quanrities, raking title from manufacturers, and reselling to many different kinds of customers because of their broad market
coverage. Also,

their external sales forces often

have

strong knowledge of local markets, which can be very


helpful to distant manufacturers. The full range of services provided by industrial distributors and their substantial markct knowledgc can also be invaluable for the
manufacturer seeking to increase its customer base and
pencllate tJre ruarket without being burdened by order
processing, credit checking, and other functions needed
to service many new and often small accounts. Of course
there are also disadvantages to using industrial distributors that were also pointed out by Yamaguchi. The most
serious drawback he referred to is the fact that mosr industrial distributors carry directly competitive products
so that PEC's products may nor get rhe full attention of
the distributors or may even get almost completely lost in
the shuffle, Furthermore, industrial distributors demand
high margins, often two or three times higher than reps,
and the quality of their salespeople, especiallywith regard
to their technical expertise, may not be as high as the reps
who focus on fewer types ofproducts.

DiscussionQuestions b61

versus Industrlal Distrlbutors

The discussion,/debate continued for about an hour


Slager suddenly began waving his arms to get
tlre group's attention, Wren all eyes were focused on the
E\?, he said in a polire but forceful manner: ,,I,ll tell you
what, I'm getting a little tired of this debate. Ir,s too unstructured so we are wasting a lot of time. What we need
is a more systematic comparison of alternatives. But let's
limit it to a comparison between manufacturers, repre_
sentatives and industrial distributors because it is now
pretty obvious to all of us th?!-l1qjge_-o_u_f gp.t
S4gg-_&"_f99.,
would be,"out 9*f lhg gl*:stion from the standpoint of
costs." The other executives again nodded in agreement
and it was decided to adjour.rr, return to the office, and
spend the next several weeks doing some research, talking with consultants, and reviewing the minutes of the retreat to develop a comparative analysis. John Stiger
agreed but with one stipulation: He did not want a long
report, Instead he askec] tbe exccrrtives to prepare a simple and succinct comparison chart that would focus on

untilJohn

key criteria znd rate manufacturers' representatives and


industrial distributors on those criteria. The results of the
group's efforts are shown in Exhibit 1.

Discussion Questions
1.

Do you agree withJohn Slager's sratement that ,,it


is now pretty obvious to all of us that using our
own sales force would be out of the question from
the standpoint of costs."

2,

Develop an argument for the use of manufacturers' representatives to distribute the relay.
Develop an argument for the use of industrial

distributors.

3.

Could a combination of manufactrrrers' represen" tatives ancl irrdustrial distributors be used in the
channel design? l-

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