Reshoring/Nearshoring Impacts for Industrial Distribution

James Dorn joins Tom Gale on The MDM Podcast to discuss ‘shoring’ opportunities and strategic implications for distributors. We’re moving from digital defining seamless service to a broader supply-chain transformation that mitigates risk for customers by creating better transparency and deeper engagement.

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James Dorn is a regular guest on The MDM Podcast. Listen on your favorite podcast platform. 

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Podcast Transcript:

Tom Gale: Welcome to this edition of MDM’s Quick Take. My guest today is James Dorn, president and CEO of the Dorn Group, a 40-year strategic growth advisory firm that supports manufacturing and distribution leaders. James, welcome.

James Dorn: Hey, thank you, Tom, and thank you for having me. It’s a pleasure to be here with you and speaking with the MDM community here.

TG: We’ve been looking at some longer term trends starting to shape opportunities for distributors in the future, electrification, infrastructure investment, energy transition. Today, I’d like to talk with you a little bit about reshoring, nearshoring, and onshoring of manufacturing to North America, specifically dive a little bit into why it’s important for distributors to start thinking about today, some of the key drivers that’s fueling this trend, and takeaways on the impacts and opportunities for distributors ahead.

I think a lot of people look at the pandemic as the fuse that lit the shoring movement. It seems though, really several years prior when we entered into a period of tariffs in the trade war with China. What’s your take on that, James?

JD: Yeah, Tom, I think you’re right. I think this started quite a few years ago with a lot of the tariffs and some of the idea of bringing more back to America from a manufacturing standpoint. I think this is just a continuation of that. But as you said, it’s really been accelerated through all of the supply chain issues that we faced through the pandemic.

TG: And even that oversimplifies it a little bit, because if you even go back farther, I think, as cost in China started to rise, there were a lot of manufacturers that started to go to other countries with lower costs. That just continued until we started to get into these tariff wars, and then it started to ultimately put more pressure on manufacturers that we’re bringing in. There’s a combination here, I think, around both branded as well as private label products.

JD: I think that some of the things beyond just what will be mentioned here that’s driving some of this is manufacturers don’t really want to rely on different breaks along their supply chain. They’ve learned a lot through this process of either you’re sourcing finished goods globally, or you’re sourcing components or parts of your inventory to produce your products here in the States. But either way, I think there’s just an appetite for manufacturers to mitigate the risk in their supply chain.

They’re doing that by trying to make investments here either onshore or nearshore in Canada or Mexico, to where they can actually control their supply chain end-to-end and they have more visibility and more control around how they actually do things. The big things that we see changing really comes down to CapEx investments.

Manufacturers are either expanding their facilities or they’re creating net new facilities to where they feel bullish about a lot of the market factors that are going to fuel their growth, but they also want more control to where they’re confident enough into investing in the large CapEx investments with new facilities and new talent to support those facilities and even new systems within them like automation and whatnot. From what we’re seeing, at least when we talk to manufacturers, is they are very confident that the market factors are in their favor and they’re willing to invest a lot of capital investment into these facilities and whatnot.

Now, what’s interesting, Tom, when you use that as the first step within this new wave of change, if you start to think that through from a distributor’s perspective, you say, “Okay, how does that impact what distributors are doing today? And more importantly, where should they make their investments into understanding where there could be some new opportunities and expanded opportunities?” If you just look at two markets for distributors let’s just say commercial construction, if you’re a distributor that’s serving the commercial construction market, it’s a really good time for you because there’s a lot of new facilities that are being started up right now.

And then even beyond that, when these new facilities are created, there’s an expansion of infrastructure around those facilities to where you could benefit from a lot of new construction and infrastructure support. I think the second type of distributor that could really benefit here, Tom, is really the industrial MRO distributor. Because as these new facilities are created or expanded, they’re going to need a lot of ongoing support from an MRO standpoint. It’s a really good time to be in either one of those areas of distribution, even electrical supply for that matter.

I think when you look at the trends, what’s causing it, and more importantly, how this impacts a distributor’s strategic plan and investment, I think it’s a really good time to put your branch locations around where some of these new facilities are going to be started and expanded, if you will.

TG: It’s also transitioning into different types of needs from an MRO basis.

JD: Down at the product level, a lot of things are changing. Totally agree with you there, Tom. There’s a lot of really good examples of even Milwaukee Tool and Stanley Black & Decker, they’re opening up new facilities and expanding. I think those examples are giving manufacturers more encouragement to say, “Hey, this is the right move. This is going to be persistent, and it’s not just a short-term fad that’s going to change in the next two to three years.” This is definitely something that you’re looking into the next decade from an investment in a return standpoint.

One thing that I think gets overlooked too, Tom, is as these new facilities are being stood up, there’s a ripple effect within those communities. Because what tends to happen, and you could look back to Detroit in the early days of OEM automotive and whatnot, there’s a huge epicenter of local companies that were formed to support those OEM manufacturers. The term that I like that I recently heard from a similar conference that you were at, Tom, was instead of nearshoring, it’s called near-sourcing. These manufacturers, these multinationals opening up new facilities, they want local sourcing for some of the parts that they’re going to need to create their ultimate finished good.

They tend to source products locally and it creates this ecosystem or epicenter in a hyper-localized fashion. What tends to happen is these areas are just going to get more and more developed. It becomes easier for companies to make investments into these regions, so Texas, Nashville or Tennessee, just in general, all these areas are going to be expanding. Even back to Michigan, there’s a huge amount of investments. We were talking with a PE firm recently and they just created a $100 million fund just to source new companies or fund new companies specifically within the Michigan area.

I think you’re going to see more and more of this proliferate. But back to how this benefits a distributor business model is I think this is obviously beneficial for the big distributors out there who are doing MRO and commercial construction, but I think it also benefits the mid and the small size distributor who their whole value prop is built around this local hyper-personalized model to service some of these larger facilities and really cater to their specific needs.

If you’re one of those distributors, this is a really good time to identify where these new facilities are starting and how you can partner with your manufacturing suppliers to go into those facilities and offer a broader, more personalized local value proposition to really service their needs moving forward, because it’s only going to grow from here from what we’re seeing.

TG: We’ve talked a lot about this sales channel transformation that’s taking place. But as you describe, as these new ecosystems, communities come online of multi-tier suppliers where there is maybe one very large plant that’s driving that or multiple large plants in a metro area, for example, at one level, the core value added capabilities of these small and medium sized distributors, that equation won’t change.

JD: Yes.

TG: But it feels like the manner in which you can engage with these new types of customers coming on board has to be a little bit different than traditionally.

JD: Absolutely. I mean, market development for these distributors, and they’ve historically have been able to adjust quicker too, right? Much more agile, especially knowing their local market a lot better than some of the multinationals and whatnot. The more intelligence you have, the quicker you have it. The quicker you can react, I think the better, because there will be a lot of upside potential there if you can capture some of these new facilities that are opening up or even expanding for that matter. I think, Tom, it’s important to mention what some of the other aspects or benefits to distributors could be here.

When you look at the simple fact that MRO and commercial construction, I mean, those two factors are going to be growing, their market sectors are going to be growing just because of these overarching trends of this nearshoring and reshoring, if you look at it from a distributor’s standpoint, there’s going to be another benefit I think from a profitability standpoint. With more US made products that are going to be infused into the market, you’re going to have a higher price point for those products. If a distributor can maintain their gross margin on those US products, their overall profitability should increase from a net income standpoint.

And even beyond that, if they’re able to reduce some of their local inventory, that will further free up a lot of their working capital. It should make them much more profitable, but much more nimble as well. I think that’s just going to be one of the most inherent benefits to a distributor business model. It’s going to come with the territory. If you can align yourself with some of these new manufacturers and suppliers where they are sourcing more locally here, that will benefit your overall profitability.

TG: To me, the equation is there’s already manufacturers who have run the numbers and based on the supply chain instability, the cost of transportation, all of the factors impacting what the ultimate cost to the end user delivered, clearly that’s what’s driving a lot of this. My take is the inflationary environment and potential down cycle of the economy, of course, that’s going to slow some of this down, but this is much longer term CapEx investment and commitments. How do you see this really starting to translate in terms of the impacts for distributors and for manufacturers and how that transitioned here over the next couple of years?

JD: I would ground it with follow the money, and you hit on this of manufacturers have already done their diligence and are continuing to do it to say, “What is the right move for us strategically moving forward?” They’re putting their money into local investments here in new facilities, into new plant automation, into creating new jobs. You’re seeing this revival of American manufacturing, which, side note to me, Tom, is exciting because you’re going to start to see these American communities be redeveloped, right? I mean, there’s so many rural areas out there that just were devastated decades ago when manufacturing went overseas.

You’re going to see a revival of that. There’s going to be a lot of, I would say, tailwinds that a lot of other businesses and communities can benefit from. That investment will create more jobs, it will create more opportunities for distributors to actually become a part of that process. I mean, they’re a critical role within the overall supply chain here. If manufacturers are trying to focus more on products and making sure that their supply chain is not disrupted, I think distributors can play a large part in that last mile aspect of being able to really get the products to the end customer at the right time to where they’re working hand-in-hand with the end customer and the manufacturer.

I would follow the money. This is not something, like I said, that’s going to be a short-term trend. It’s going to be persistent, just because there’s so many ripple effects from it of these new communities forming, these new regions of manufacturing forming, these new regions of commerce and infrastructure that support them. The other part that I think is important to note, Tom, in the confidence from a manufacturing level is you look at the government spending with projects, the infrastructure bill, there’s a lot of things that are going to be supported from numerous areas. I think that also creates this tailwind for both reshoring and for some of the distributor benefits there moving forward.

TG: We’re not starting from scratch here in the ability to accelerate or support this. The US economy is so powerful because of the power of distribution channels and credible flex and mold quickly to economic conditions, just market to market competitive landscape conditions as well to really serve customers the way they need to be served. As we enter into this era here over the next several years, over the next decade, we really are in such a strong position to adapt quickly to these conditions. Everybody has to deal with the same economic conditions and what the cycle presents.

At the same time, there’s really a lot of opportunity, I think, across the entire spectrum of distributor value propositions to support this kind of a transition in ways that I don’t think were possible maybe 10 years ago or so. Just so many things have transitioned here with the types of longer term tailwinds that we’ve been talking as well.

JD: I would agree with that, Tom, wholeheartedly. I think some of these trends that are occurring that we’re identifying here, I think the earlier distributors can be aware of the ripple effect and how they can play a larger role in what’s going to be changing over the next decade, I think they can have line of sight a little bit sooner where they can pivot into more of a…

Instead of a reactionary mode of just trying to do what they need to do to service a customer, I see these next moves for a distributor as being more strategic in nature to where they’re making major investments, whether it might be new branch locations that are located closely to these facilities that are developing or in new systems to actually help these manufacturers and these end customers eliminate risk within the overall supply chain, so getting more visibility and trying to make sure that there’s no disruption within supply chain.

I think distributors can play a vital strategic role in this entire ecosystem, and now is the best time to do that because there are so many clear depictions of what the macro trends are in place here. This is probably, I would say, the earliest point in which distributors can say, “All right, we’re done reacting. Let’s start making some larger strategic investments into the value we’re going to provide to both manufacturers and to end customers moving forward.” It’s a very exciting time, I think, for all parties involved, and it’s a really important time for distributors to figure out where they can play a larger role in some of these ecosystems.

TG: That’s a great point, James. If I step back one step, we’re moving from where digital has driven so much in terms of strategy and investment and trying to create this seamless experience with customers and keep them engaged. It feels like we’re moving into a broader supply chain transformation where the need for better transparency that has components of technology, logistics, analytics comes into play, the labor equation, all of the above in terms of what everybody’s been wrestling with, particularly from ports into in interior markets in the United States.

JD: I think you’re spot on with that observation, Tom. The supply chain disruption that we’ve had is leading to this need to understand more about supply chain transparency and knowing where everything is at any given point in time. Going back to what I said earlier, follow the money. When you look at what private equity is doing every time they buy out a manufacturer, they’re putting a huge level of emphasis on the manufacturer’s supply chain. Understanding what risk exists and how well off that manufacturer is able in delivering orders and whatnot.

If you take that as an indicator and then you couple that just with the amount of companies that are forming today to establish supply chain transparency, you’re going to see supply chain look and behave very differently moving forward. What a great time for distributors to become part of that, because they play a critical role in bringing all that together. Wholeheartedly agree on that one.

TG: James, I’m sure this is not the last time we’ll be talking about this. Thanks so much for your time. Enjoyed the conversation and look forward to our next one.

JD: Hey, you’re welcome, Tom. It’s been a lot of fun and happy to participate here.