Market Developments: The Systems Supplier

I've got the size but I don't know what to do with it! (The systems supplier's lament?)

What are the  implications of industry maturity for the systems suppliers?

It cannot have gone unnoticed that systems suppliers have had a hard time recently, raw material price rises and falls of up to 40% that were not passed on to fabricators, fabricators becoming more adept at purchasing (with the inevitable threats of 'going to another systems supplier') and general sluggish market conditions. WHS was absorbed by Bowater to give WHS/Halo, GKN Scope was bought by Anglian and then closed entirely, Heywood Williams once had 4 separate companies serving different markets and now has one company (HW Systems) that contains the remnants of the 4 previous 'brands' (National Profiles, Fios, Gloplas and Vinylex) and has even mopped up Spectus but is keeping it as a distinct brand (as they did for the others until it suited them to fold them all together into HW Systems).

Is this the start of a fall out of the systems companies or simply the normal movement of companies as they rise and fall in a complex marketplace?

With systems suppliers the 'critical mass' is seen as important because in a maturing (and consolidating) market the company with the largest market share will (theoretically) tend to make the most profits and grow even bigger. The theory is that as the industry matures the number of players will decrease and there will be a move towards consolidation with some dominant companies and the 'rest' following in size and profitability. As with fabricators this doesn't seem to be happening or is happening rather more slowly than predicted, despite the predictions having been made for a good few years now. Some systems suppliers are continually rumoured to be in trouble but the most are still there after a long time and there is little concrete evidence of a move towards consolidation.

The systems supply side of the industry may also maturing into a stable yet fragmented state. Systems suppliers as well as fabricators may also be capable of profitably surviving or even profitably growing in a fragmented industry provided they understand what is happening and why.

The mature fragmented industry may be caused by many factors but it needs only one of these factors to be present to block the consolidation of an industry. The factors which are blocking consolidation for the systems supply industry are:

Low entry barriers

The systems suppliers' entry to the market has been either from the window sector (where they had a guaranteed fabricator) or from the materials processing sector (where they had the processing expertise). The entry cost for the production of PVC-U window profiles is at least an order of magnitude higher than that of window fabrication but it is not prohibitive. Extrusion technology is not unique, exclusive or even hard to obtain and all stages of production use conventional technology. Some of the largest systems suppliers are really extruders who regard window products as simply another market to be in. They have the technology, it is currently profitable and windows are neither the first nor last product of these companies. 

The low entry and exit barriers are demonstrated by the continued entry (and exit) of systems companies to the market. Machinery suppliers, trade extruders or systems companies continue to sell technology and spare production capacity to third party customers (such as large fabricators) to further fragment and depress the market.

In any case a high proportion of the entry costs are not in production but in the finding of a market and the provision of the support services that are regarded as basic to the industry. 

In the systems end of the market the relatively low entry barriers (compared to other industries) contribute to the fragmented nature of the market. No end to this is seen as capacity still far outstrips demand and will continue to do so for the foreseeable future.

Economies of scale. 

Economies of scale will drive a fragmented industry towards consolidation and the typical fragmented industry often shows no economies of scale or experience curve. There are real economies of scale in extrusion and systems supply related to the following factors:

• Production runs - the time required for extruder set-up gives an Economic Batch Quantity of production. This can be drastically reduced by improved production methods but little work appears to have been done on this. Large system suppliers can support long runs and this gives reduced costs. Small systems suppliers need to learn the techniques of batch size reduction.
• Purchasing - the cost of raw materials is an important factor for window products and makes up about 50% of the cost of the product. Savings in material prices are immediately reflected in the margin and good negotiation can give an advantage in the scale of purchases.
• Support Services - the typical fabricator demands a high degree of support services and these can be expensive. Large system suppliers can support the higher overheads to provide superior support. Small systems suppliers need to have services available on a contract basis to give variable costs.
• Product lines - a large fabricator base means that niche products such as vertical sliders can be produced.

There are other costs that are not subject to any scale advantage but overall there can be significant advantages to large systems companies via scale.

Negative economies of scale

These are areas where scale actually introduces disadvantages and include:

• High inventory costs or erratic sales fluctuations - the larger company carries higher inventory, especially if Economic Batch Quantity runs production and inflates the costs out of proportion to the sales.
• Overhead growth - larger companies can support larger overheads but there is a danger that overhead growth will exceed sales growth. Growth leads to the introduction of managers and the corporate warriors displace the entrepreneurs. It is wrong to assume that your competitors have the same overhead structure as you. 
• Lack of focus - diverse product lines and conflicting customer demands can lead to a lack of focus on what is really important to the business.
• Rapid product changes - a larger inventory represents investment in materials and tooling and can slow down the introduction of new products.

Product differentiation based on image.

Larger systems suppliers can support higher overheads in marketing and develop a brand image, but fabricators are less influenced by image than by price and services and overheads can run out of control

Transport costs.

• Transport costs represent about 3% of the costs so this is not a vital factor. Most major systems suppliers operate across the UK and a large supplier can reduce the costs by groupage of deliveries.

Certification costs.

The cost of certification to Kitemark or BBA is significant for all suppliers but a larger base makes this an easier burden to support.

These are some of the factors which are blocking consolidation of the industry but these are not as strong as those present in the fabrication sector. As the industry moves further into maturity there is no strong reason for continued fragmentation but it is still not certain that the industry ever will consolidate into a small group of totally dominant systems suppliers. 

The fact that there is no apparent dominant company at this stage of the market development is perhaps due to the absence of any company that is either willing or able to become dominant through a lack of skills, imagination or finance. The emergence or growth of such a company could rapidly restructure the industry in a fundamental way and result in severe casualties amongst the unprepared.

 

Last edited: 29/03/04

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