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Compensation Issues Challenge Demand Creation Programs

02.19.2014 // Barbara Jorgensen // Supply Chain

Few individuals will work without the expectation of pay; yet a parallel to this scene plays out in the supply chain every day. The allocation – and cost − of resources attached to demand creation programs is spurring some frank conversation between distributors and their suppliers.

Demand creation programs – also called design wins – are intended to reward distributors that get a supplier’s component designed into an OEM’s end-product. Distributors hire engineers to promote their suppliers’ technology and gain a competitive edge in the market. But problems occur when the distributor’s cost to maintain an engineering staff isn’t offset by component sales. "Many distributors have invested heavily in teams of application engineers who work with their sales teams to design supplier products into their customers," explains Michael Knight, senior vice president, Americas, for specialty distributor TTI Inc. “This is a big expense for which capturing design win compensation is an offset. But the compensation is tied to getting the order. Miss the order and it is an expense with no ROI."

Suppliers agree that distributors should be compensated for their efforts, but the economics of demand creation incentive programs can be a challenge, explains Knight. The design, which might be done in the U.S., often moves overseas for production. "Just because a distributor does the work in engineering, doesn’t mean they will get the order when it moves into production," Knight says. "The business could go direct, to another distributor, or move to an EMS where it disappears from view entirely. In fact, this is the norm."

The supply chain has practices in place that improve distributors’ chance of securing an order. When a distributor gets a design win, it registers that win with the supplier. Registration is intended to give that distributor an advantage when the end product moves into production. Distributors may receive a preferential price from the supplier; a commission on the production sale or a few extra margin points. However, if a customer buys elsewhere, the distributor that did the design work is left out in the cold.

When components move through multiple geographies and partners before reaching end-production, suppliers can lose sight of which partner added value during the process. Suppliers such as Molex Inc. periodically tweak their programs to make them more effective. "Our program has been in place for five years and was revamped two years ago to better compensate the distributor, which has led to better tracking data," says Fred Bell, vice president global distribution for Molex.

But protecting an order is particularly difficult in the interconnect, passive and electromechanical (IP&E) industry. IP&E product portfolios are largely made up of commodity parts with numerous, form, fit and function alternatives, explains Knight. Semiconductors, on the other hand, can be more narrowly sourced and even proprietary. “It is extremely difficult and expensive to run demand creation programs for [IP&E] parts due to the fact they are so ubiquitous and substitutable,” adds Knight. “Even if a distributor is able to demonstrate that they have done the work, it is difficult to track and separate that effort from all of the other requirements for the part.

"Business moving between regions of the world is difficult to track as the same IP&E parts are sold to multiple customers – most parts are common not custom," Bell concurs. "Communication between the regions as well as between the distributor and supplier are key to the success of these [demand creation] program movements. There are four ‘people’ working this issue – supplier and distributor sales engineers (SE) at the design site and the supplier and distributor SEs at the manufacturing site,” says Bell.

But even successful demand creation programs are being re-evaluated within the channel. Margin erosion, competition and outdated compensation practices add complexity and even cost to the program. "There are a few significant issues that have some component manufacturers contemplating the elimination of their design in incentive programs,” says Knight. “The first is the growing practice of distributors marketing these programs to the end customers. Many times the distributor with the design win will promote that to the customer and in effect, tell the customer that when the parts come up for a buy, the distributor will pass some or all of the incentive along to the customer, in effect giving the customer a lower piece price than the other distributors can offer. Great for the customer but the distributor is undermining the basic math that enables them to make the investment in demand creation."

From a supplier’s point of view, the capture rate on these programs can be negligible. "Lots of work goes into reviewing, approving and tracking design wins, with negligible results," explains Knight. "In other words, not enough ROI. And maybe even a more fundamental problem is that it can be very difficult to determine who actually did the work (or even if any real work was involved at all) – a distributor, a rep, or the supplier. Often times, a distributor will design in several different suppliers for a single part in an effort to block another distributor from creating a competitive situation for the suppliers."

Still, suppliers and distributors both benefit from design win programs. For a supplier, a design win could mean their product is used for years. Distributors can often sell complementary products around a design win, then manage ongoing logistics for the end-customer. However, the stark reality of ROI means engineering resources must be deployed profitably. Molex has recognized this: "We originally created our design win program for this reason," says Bell. "We do monitor our competitors’ efforts to ensure we are ahead of their program as best we can."

Distributors and suppliers have worked together to improve the practice over the years. During a recent industry forum, supply chain executives suggested it may be time to take another look at compensation. For example, distributors could be compensated for their design efforts even if an order is placed elsewhere. “Many suppliers already have systems to track and compensate for design work done – the split commission programs they run for their reps,” says Knight. “There is a way in this to make the math and motivation work for the distributor, the rep and the component supplier, but this is a big change and not one that I have seen a supplier in our space tackle."

The bottom line, partners say, is there is real cost associated with getting parts designed in at a customer. Today’s design win incentive programs, even with their flaws, are essential to motivating and compensating distributors for making these investments.

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Statements of fact and or opinions expressed in MarketEYE by its contributors are the responsibility of the authors alone and do not imply an opinion of the officers or the representatives of TTI, Inc.

Featured Contributor:
Barbara Jorgensen

Barbara Jorgensen

Barbara Jorgensen has more than 20 years experience as a business journalist, working for leading electronics industry publication such as Electronic Business, Electronic Buyers’ News and EDN. Most recently Jorgensen was Community Editor for supply chain community EBN for its relaunch in 2010. Prior to rejoining EBN, Jorgensen was a senior editor at Electronic Business, the pre-eminent management magazine for the electronics industry, featuring world-class manufacturing companies such as Dell, Hewlett-Packard, Cisco and Flextronics International. Jorgensen spent six years with Electronic Buyers’ News print as managing editor, distribution, winning several awards for coverage of the distribution beat.

A graduate of the University of Binghamton (formerly the State University of New York (SUNY) Binghamton), Jorgensen began her journalism career with the Gannett newspaper chain. She has worked for a number of local newspapers in the Greater Boston area and trade journal publishers Reed Business Information and CMP. She spends her spare time trying to find out the nature of the teenager and plans to write a book if she succeeds.

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