GWW’s scale and inventory assortment are also advantages, especially in the large customer market. As the largest player in North America, GWW has somewhat better purchasing power than local or regional distributors. This allows it to offer very competitive pricing for its products, which are generally undifferentiated from one distributor to the next.
Importantly, GWW’s size also enables it to afford an extremely broad selection of merchandise, making it a one-stop shop for large accounts that are constantly looking to save money by consolidating suppliers. GWW’s U.S. catalog offering has grown more than seven-fold from 82,000 SKUs in 2005 to more than 592,000 SKUs in the 2014 edition. Impressively, the time a product is in stock has remained at nearly 100% even while increasing the product line substantially. With thousands of suppliers, this is no small feat. Grainger.com in the U.S. also offers access to 1.5 million SKUs.
On the topic of e-commerce, many investors are surprised when they learn that GWW was recognized as the 13th largest e-retailer in North America by Internet Retailer. It started the industry’s first e-commerce operations in 1996, and 36% of its sales last year were from this higher-margin channel (online orders require less data entry work, are primarily shipped from distribution centers to bypass the branch network, and have a higher average order size).
By investing significantly in technology, GWW is better positioned than many other distributors as more sales are made online and through multiple channels. E-commerce sales were only 15% of GWW’s total revenue in 2009 and are expected to reach over 50% of total sales longer term.
Technology investments also help strengthen GWW’s supply chain and customer service. More than 1,200 of GWW’s employees are on-site at customer locations providing services such as inventory management to help them lower their costs and automate inventory orders from GWW when their supplies get low. This creates switching costs and builds up customer loyalty.
Going forward, GWW’s strategy is to increase its presence with small and mid-sized businesses, which together account for more than 65% of the market. GWW has done very well serving large, complex customers, but its presence with smaller customers has been more limited.
The business seems to have the products, distribution, and e-commerce capabilities to more effectively serve these customers, but it needs to execute. If GWW is successful and the macro environment cooperates, management expects the business to report at least mid-single digit organic sales growth and consistent operating margin expansion each year, driven by operating leverage and continuous productivity improvements.
Key Risks
GWW’s business is sensitive to the industrial economy, which has really been struggling. From low oil prices to slower growth in China to the strong U.S. dollar, numerous headwinds are impacting ordering trends and resulting in modest pricing pressure at GWW’s customers. When growth is low, price competition can become fiercer between distributors as they look to protect market share and take out costs.
Longer-term, we think GWW’s greater breadth of products, strong reputation, gradually expanding distribution network, and future acquisitions should help it continue growing. The overall health of the economy will dictate the pace and timing of growth, but GWW’s large markets seem to offer plenty of opportunities.
Regarding competitive threats, Amazon should be mentioned given the increasing importance of online sales in the industry. GWW noted during a recent conference call that Amazon has been in its business for about 15 years. Management sees Amazon mostly in its small customer business, which represents a much lower proportion of GWW’s overall sales. For now, large customers’ needs are generally more complex than what Amazon or other pure-play e-commerce players can provide, but it’s something worth monitoring.
Beyond Amazon, other non-traditional players that have distribution and a broad selection of inventory are stores like Home Depot and Lowe’s. However, we are not aware of any threats from that front today. Regardless, the large, fragmented nature of GWW’s markets seems to mitigate many of these competitive risks. Perhaps the bigger risk is whether or not GWW can get profitable growth going with small and mid-sized customers, which it has historically been less effective at targeting.
