by John McIntyre
That giant sucking sound you hear in the imaging supplies channel is $450M in HP printer supplies being sucked out of the distribution pipeline as HP re-engineers its supplies marketing strategy in an update to its printer sales model” announced on June 21 (read Part 1 of this series here). By a rough estimate, HP reduced supplies channel inventories by about 25 percent, an unprecedented move in the history of the imaging supplies channel to our knowledge. Yes, this is a big deal, and its effects will ripple through the rest of the industry and the other OEMs for some time. The 25 percent reduction in channel inventories will bring HP’s pipeline from an average of 6- 8 weeks to 4-6 weeks, or roughly a one month supplies inventory ballast. There are numerous possible facets driving this tectonic shift, and we will have to speculate about many of them.
As we wrote previously, the power in the toner-ink marketing model has irreversibly shifted to buyers and away from all sellers, including the OEMs. When overall market demand for your products is shrinking and is forecast to continue on that path, basic supply and demand laws dictate that the size/extent of your distribution supply needs to follow (or even lead) overall demand. For HP, it appears that their sales outlook for supplies, while trending downward for a while, wasn’t contracting as fast as true end user demand for genuine HP supplies. A possible secondary influencing factor is the quantity of HP supplies that the company is providing to its direct MPS customers – that product does not flow through distribution at all. As direct MPS revenues increase, those revenues come at the expense of product sold through open distribution, shrinking the overall “open” demand pie. It is also not clear in HP revenue reporting if supplies sold through direct OEM MPS services are accounted as “supplies” revenues or merged into “services” revenues.
The supply-demand lesson for the overall printing supplies sector is that the sales/inventory/pipeline model metrics that have remained largely unchanged for several decades have to adjust to the “new normal” as HP calls it – which includes declining usage and an increase in direct supplies sales.
HP is not shy about touting the success of its Instant Ink program – an auto replenishment, direct-to-the-end-user delivery scheme offering discounts on supplies when users sign up for an auto re-purchase program. The company talks up the growth and success of Instant Ink at almost every opportunity. Let’s all remember something – every direct Instant Ink customer isn’t buying ink cartridges through the channel. Ooops … more direct supplies sales. If Instant Ink is as successful as HP is perpetually saying it is, and continues to grow as HP says it is, then you do the math: it means they need a smaller overall channel for ink sales. Period.
Like it or not, every supplies direct selling motion by an OEM, HP or any other, leads to channel contraction in scope, breadth, and inventory ballast.
One less obvious factor in the inventory adjustment may be the differences in shelf life between ink and toner. Practically speaking, toner cartridges have an extremely long shelf life – many years. Ink cartridges, not so much; maybe 18-24 months or thereabouts (often less). Did the HP buyback include a slew of ink cartridges that HP encouraged distribution to load up on several years ago, and then the sell-through failed to materialize? A tightening of the overall pipeline for inkjet supplies is one means to avoid losses related to expiring inkjet cartridge inventory takebacks or write-downs.
Another factor may be simply the recognition that the traditional guideline of 6-8 weeks of supplies inventory in the distribution pipeline is a legacy concept that fails to recognize the sophistication of current-day OEM-to-distribution live inventory monitoring and predictive software capabilities. An effort to tighten up this overall pipeline benefits the OEMs as well as the distribution system at several levels.
Supply Chain Models
Traditional 6-8 week inventory guidelines for supplies distribution were largely established when inventory was carried across the various distribution channels and at several levels – national wholesalers, regional wholesalers, centralized chain/aggregators, and locally stocking dealers. The 6-8 week inventory ballast allowed one or more supply-chain actors to flub their inventory management forecasts and the system still had enough inventory “slop” to overcome most routine shifts in demand without dreaded “stock outs.” But other than wholesalers and the central warehouses of chains such as Staples, does anybody carry meaningful inventory of supplies these days? Not really – the widespread adoption of wholesaler drop-ship to the end-user programs, ubiquitous and relatively low-cost overnight delivery capabilities, and lean dealer/reseller management principles means the system doesn’t need as much slop as it used to. And there is always an easy alternative: anyone (user or dealer/reseller) in dire need of a printer cartridge can get one overnight from Amazon or by driving to Staples: that eliminates the viability of local sellers who once had a strong market position by being an immediate supplies source for users in need. This vanishing replenishment need applies to home consumers in particular – but we all know there are far fewer of those then there were a decade ago.
Profit Margin Realities
Another related factor could be recognizing wholesale supplies profit margins as incredibly thin (or often non-existent) for HP SKUs, and that one way to boost net distributor margins is increasing the number of inventory turns by reducing overall stocking levels. Traditional 6 to 8 week inventory guidelines translates to 6.5-8.7 times inventory turns annually while a new standard of 4-6 week inventory guideline translates to 8.7-13 times inventory turns annually. In the wholesale biz, that is a big change in business dynamics and possible bottom-line profit – especially if it is for one of your largest-selling product lines (such as HP supplies?). This turns-to-profit principle applies to HP itself as well: if overall margins, even at the OEM level, are shrinking, then HP is strategically challenged to tighten its overall supply chain metrics for its largest product line – supplies – to maintain profits from that sector.
Average age of the installed base and supporting supplies inventory metrics – can anyone reading this guess how many multiples of supplies SKUs (combined ink and toner) exist today to be inventoried by distribution compared to a decade ago? Three times more? Five times more? I am not going into the wayback machine to do detailed analysis of this metric – suffice it to say there are many times more SKUs to be inventoried by distribution in 2016 than in 2006. What else do we know? B2B printer replacement cycles are lengthening – businesses are holding onto their printers longer, refreshing their fleets far less often. What does that mean? That distribution is charged with continuing to inventory more SKUs for older models, SKUs with declining demand curves and slower and slower turns ratios – which drags overall turns metrics for any wholesaler. Does anybody think businesses are all of a sudden going to make a turnaround and decide to refresh their printer fleets a lot more often? Ain’t happening folks – this trend is only likely to get worse and not better in the future. Unless OEMs plan to abandon whole fleets of aging installed base models to the aftermarket, they will hold on to supplying those fleets as long as possible – and distribution has to play a part of that strategy.
HP has been the market leader in printing for as long as most people reading this piece can remember – the leader in market share, technology, ease-of-use, print quality, performance, and brand recognition to name a few. When you are the market leader, all the other OEM competitors have to benchmark themselves against whatever HP is doing – whether that is in the product arena or in their channel programs and measurement metrics. With this update to its printer sales model, HP has now reset a slew of expectations between an OEM and its distribution channel with regards to supplies inventory metrics and leaner supplies operations management principles. Just as with a new HP product entry, the reverberations of the firm’s update to its printer sales model will ripple through the rest of the OEM printer/supplies community – and every OEM should expect its distribution partners to begin to ask them about their plans for more sophisticated supplies supply-chain management strategies that will improve the business bottom line for its distribution partners. HP may not have made this tectonic shift because it wanted to – our guess is it had to make major changes to cope with all the moving parts and shifting sands in the market-wide ecosystem for printer supplies, of which it represented the biggest share. When the market winds blow and change, if you have the dominant share, you will get blown around the most by those shifting currents – one of the “benefits” of market share leadership. If you don’t bend with the breezes, we all know what will eventually happen. HP is bending.
John McIntyre serves as a senior analyst for BPO Media. With more than 40 years of experience in the printing industry as an analyst, product developer, strategist, marketer, and researcher, he has covered the printing and supplies sectors for prominent market research firms such as Lyra Research, InfoTrends, and BIS Strategic Decisions, and served with major OEMs such as Samsung, NEC, and Diablo Systems/Xerox. McIntyre is the former managing editor of Lyra’s Hard Copy Supplies Journal and has conducted research and consulting engagements examining issues such as market and business strategies, product positioning, distribution channels, supplies marketing, and the impact of emerging technologies. Follow John on Twitter @John2001S.