Increasing Pressure and Competition in the Industrial MRO Market

Grainger and WESCO are typically good industry benchmarks to get a sense of the industrial MRO market.  Grainger also sometimes provides insights into the institutional market, so let\’s look at their end of year / quarterly reports where they also shed 2016 guidance.
Grainger

• While their January headline was good \”up 4% for the month\”, this included 4% for a UK acquisition and -2% for foreign currency.  For the US they were up only 1%.  So, flat market in January.  And Canada is a \”challenging\” market as Grainger was down 23% with 9% being currency issues.)

• Every year Grainger runs a tradeshow for its customers. Yes, suppliers end up paying but over 700 exhibited (and if you look closely, on the faux branch the first words are Electric Motors.) The show is held annually in Orlando and brings together suppliers, Grainger associates and those associates bring customers!

A couple of years ago we know that over 4,000 customers attended.

There are many pictures / postings at #graingershow and click here to see some videos

A number of distributors periodically run local tradeshows and manufacturers like Rockwell (AutomationFair) and ABB (Automation and Power World) run major events designed to attract customers / end-users to learn more.  Shows worked well (by salespeople) can be strong relationship builders and revenue drivers.  Kudos to Grainger for investing in this type of event. Don\’t know too many other large distributors or marketing groups that conduct such an event.

• Grainger announced that it will \”continue to adjust\” and close 55 branches in 2016. (Oh, and they closed 47 locations in Q4).  In response to a post on LinkedIn sharing this information, one industrial buyer commented \” A power house like Grainger is having reduced sales and profits… Could be that their Customers are buying differently. With UPS, Fed Ex and courier companies offering cheap (relative term) AND fast service, Customers are buying on-line and expecting the product to show up promptly. And, Amazon is providing same day service, (Who ever heard of that??). Customers do not need to go to stores and distributors do not need so many distribution centers. Things are changing.\”  This begs the question to distributors … are you seeing MRO business transition from you to alternate channels / delivery services? Or is this business going online to companies using these services? And, if you have eCommerce capabilities, have your eSales increased as a % of your overall sales?

Q4

• In Q4, oil represented a 1.5% \”drag on sales in the U.S.\”, 1.1% for the year
• Q4 sales were down 1.3% and profit was down 2.4%.  So, if oil / gas is down 1.5% and the company is down 1.3%, essentially the remainder of the company for the quarter was flat although some locations had to be up to make up for revenue from the closed 47 locations. The company still has 667 branch locations in the US and Canada.

2015 Full Year Results

• Sales were essentially flat, profit down 4% (some attributed to foreign currency) and they closed 49 US branches, 16 Canadian ones and 16 in Europe.)  US sales are 74% of revenue, which were down 3%
  • Retail – up mid single digits
  • Government – up low single digits
  • Light manufacturing – flat
  • Contractor / Commercial – down mid-single digits
  • Natural resources (hence oil / gas, mining, etc) down low 20\’s.

So, indicative of what those in the industrial MRO market have seen, comparable for institutional market, for the contractor market it\’s questionable the importance of this market to Grainger.

Additional from their analyst call

• 2016 guidance: -1 to 7% sales performance (pretty broad range, probably due to foreign currency uncertainty and uncertainty in the oil / gas market!)
• Expect GP% to decline 50-70 basis points, primarily due to foreign currency issues.
• Seeing pricing pressure as 1 percentage point of their decline was from price.
• Q4 gross profit margins decreased 160 basis points.  Grainger says \”price deflation\”.  Could it also be marketplace pressure?

WESCO
WESCO historically has been another bellweather in the industrial space.  They\’ve had some \”challenges\” over the past year and some have questioned if they have a go-forward strategy that includes diversification (recent acquisitions perhaps give a hint … contractor and keeping local names … a la the Sonepar strategy).  Here\’s some info:
Q4 Performance

• Q4 results down 7% with organic sales down 8% (they expected down 5-8%, hence can promote \”met expectations\” because only down 7%!)
• Industrial performance down 17% driven by oil / gas, metals, mining and OEM customers. with US down 11% and Canada down 22%
  • • Oil and gas down 25% (it sounds like oil and gas is a larger portion of the business than they described early last year … now they say ol & gas is only 7% of their total business)
    • Mention that industrial customers asking for supply chain process improvements, cost reductions and supplier consolidation,. (cost reductions can then infer margin pressure or WESCO willingness to substitute brands to reduce customer costs and maintain / improve margins.)
  • Construction down 13% with US down 7%. Part is due to weakness in contractors serving the industrial segment (which shows their weakness in the construction market, which many competitors will attest to.  Entry into this market will mean \”buying business\” – literally and through margin reduction, hence hurting all distributors and suppliers.  Will suppliers have any restraint?))
  • Utility up 4% in the US
  • Commercial / Institutional / Government down 7% in the US.  WESCO benefited from an energy efficiency and safety focus.
    • Seeing success in the datacom / data center market.
• continuing to \”reduce structural cost\” (sounds like a euphemism for branch closing / consolidation, headcount \”restraint\” (our term) and probably reducing operational budgets for corporate activities. Doesn\’t sounds like much investment going on; more \”hunkering down\”)
• Seeking acquisitions to drive growth
• Hill Country and Needham acquisitions added 3% to sales (so what does that say about the remainder of the business?)
• Backlog down 6% Q4 v Q3
• Gross margin declined to 19.5%, 30 basis points sequentially (margin / pricing pressure?)
• Outlook
  • Q1 to be -1 to -4% on a reported basis. Adjusted expect -4 to -7% based upon common workday
  • January is 9% lower than 2015, reported and organically vs 10% growth in 2015
  • Expecting full year sales of 0 to -5%
  • Utilized key account planning to develop outlook
  • Are implementing pricing and procurement initiatives (must mean suppliers are going to be asked to drop pricing nationally, provide more SPAs and contribute more in rebate!)
  • Focused on supporting smaller projects in oil / gas to retain some foothold. Seeking greater share of MRO spend (hence increased margin pressure for Grainger and others?)
  • Already have contingency plans in place to \”take out costs, close and consolidate additional branches, look at headcount in certain locations\” if topline does not improve according to plan.
  • \”CapEx is going to be tremendously challenged for industrials in 2016\” – John Engel
• WESCO looks at RFPs as an indicator of activity and outlook, which has been improving.  The challenge is that many distributors tell us that the same projects get repeatedly rebid hence, could this be a flawed metric? Hopefully they are looking at their close rate and have historically tracked that.  If they are bidding more and closing less …
• They are actively looking for construction contractor-oriented distributor acquisitions in the US with a preference to Square D distributors (Hill Country\’s 2015 growth was high single digits and NESCO was double digits).

So, a tough year behind, a tough year ahead, hoping to earn some MRO business as it is rebid and looking for construction acquisitions.  Is WESCO this year\’s Rexel from a couple of years ago or indicative of all industrial distribution?  How competitive are they in year market? Are they maintaining in the industrial segment? Gaining traction in the construction segment?
MSC

And then an interesting tidbit from MSC and Square D.  Square D is still seeking opportunities to become more relevant in the industrial MRO space.  This month they signed on MSC for 50,000 or so MRO related SKUs.  From MSC\’s point, can only help their industrial electrical offering. From Square D\’s viewpoint, obviously they don\’t think someone / their channel is getting them enough visibility and share in the industrial space (or perhaps their existing channel is losing share to online ordering or consolidation of purchasing).  Grainger, Graybar, Kaman and many independents must be disappointed.

Observation

So, more competition, declining industrial CapEx market, reduced demand for MRO, requoting of projects and blankets / MRO requests, operational savings (people, branches), etc… That\’s what Grainger, WESCO and MSC tell us.  Independents may have a nimbleness / entrepreneurial advantage enabling them to react to customer needs or an ability to differentiate themselves as specialists. Manufacturers will be more than challenged in this segment with extensive pressure on price. This year may be a turning point on the issue of brand preference as industrial buyers focus on products that meet performance specifications and with allowing purchasing to make decisions rather than maintenance and engineering staff.
And it was interesting that neither Grainger or WESCO mentioned energy saving initiatives, lighting or LEDs on their calls as growth opportunities.  Either they are being successful and think it is a competitive advantage not to mention it or, perhaps, they are not as successful as they could be (and yes, we\’re confident that they are selling some LEDs but, how much – according to some, it is a challenge to get many WESCO salespeople to sell more than industrial projects / MRO materials and don\’t ask them to spell small / medium contractors unless they happen to need Eaton material.)
If price wins, many manufacturers lose and distributors are viewed as transactional entities, which enables larger distributors / online sources to win. Distributors need to utilize purchasing and pricing analytics, solution selling, SPAs and expanded relationships to win.
What are you seeing from Grainger and/or WESCO? What do you think of Square D\’s expanded distribution play to MSC?