The National Wholesale Hardware Association was, at one time, a certified monster in the world of distribution trade associations. So big, in fact, that it was able to take over the industry's largest hardware show at the time. Unfortunately, that time was short-lived, and today, a Google search of “NWHA” returns the National Walking Horse Association. Did the association fail to provide value to its members? Did hardware wholesalers suddenly forget how to run a business? How could such a powerful and influential industry and association disappear practically overnight?
In short, the market changed rapidly, most significantly with mass retailers driving out many independent hardware stores and, thus, their wholesale suppliers. In effect, external change in their market rendered this wholesale industry, including its association, virtually insignificant. In this example, the industry had few options to combat this external force, but they also failed to heed the writing that was on the wall well before the bottom fell out. There are still a handful of hardware wholesalers and independent hardware stores out there. Most of them are the ones who read that writing and acted quickly.
Another kind of writing is on the wall for all distributors in every industry. However, it has admittedly taken two or three graffiti-riddled rooms for me to recognize it. A single concerned call from an Illinois-based member introduced me to something called “Gross Receipts Taxes” (GRTs). Illinois Governor Rod Blagojevich has proposed to replace the current corporate income tax with a gross receipts tax. His administration touts it as a supposedly neutral, broad-based, low-rate business tax applied to all product or service sales at any level within the state and advertises it as a simplification of a loophole-ridden corporate tax code. While researching the topic, I learned that history has shown, in practice, the opposite is true. GRTs usually result in an equally confusing and hard-to-enforce tax code with rates only as low as a state's need for revenue. Finally, when determining taxable corporate income, GRTs are always anything but neutral as they make no distinction between gross revenues and net profit, thereby disproportionately burdening low-margin businesses.
For these reasons and more, most states that had implemented GRTs (also known as “turnover taxes”) during the Depression have long since repealed them to resuscitate stricken state economies (Indiana, New Jersey and Michigan being the most recent). However, the guise of equality, fairness and simplicity has caused GRTs to reappear most recently in Texas and Ohio. Further, there is reason to believe that more revenue-hungry states will consider similar measures, like Illinois is, which hit me like a ton of bricks once I read the following quote by John Due in Government Finance: An Economic Analysis referenced by The Tax Foundation:
“The fundamental objection to the turnover tax is its severe discrimination against nonintegrated production and distribution systems.”
Suddenly, the writing on the wall was becoming more like alarms and flashing lights, so I expanded my research. GRTs create what economists call a “pyramid” effect in which advertised GRT rates compound as products pass through production and distribution channels within the state. On average, advertised rates have ballooned 250 percent by final purchase. Yes, that's the average, so many times realized rates exceed 250 percent of the advertised rate! “Because gross receipts taxes result in tax pyramiding, companies have powerful incentives to cut the number of production stages for products by absorbing suppliers,” say economists Andrew Chamberlain and Patrick Fleenor with The Tax Foundation. They continue, “gross receipts taxes provide powerful financial incentives toward vertical integration, even when doing so is economically wasteful from the perspective of society as a whole.”
Needless to say, all HARDI members (and any distributor for that matter) should vigorously oppose GRTs — even when proposed as revenue-neutral in Ohio or when structured more like a European-style, “value-added tax” as it is in Texas. Incidentally, in Europe where GRT structures are more common, John L. Mikesell with the University of Indiana outlines how French and German distributors specifically, and their economies in general, have suffered from GRTs in Gross Receipts Taxes in State Government Finances: A Review of Their History and Performance.
Frequently, associations launch membership drives or phone campaigns to get or retain new members, and we've become accustomed to annual attrition due to “consolidation.” Additionally, distributor associations devote much time and energy to advocating, justifying and building the value distributors provide to their suppliers and customers alike. Commodity, transportation and labor costs all add to a myriad of reasons related to cost-cutting measures manufacturers have used to justify “going vertical” or “going direct,” and frankly, it's not hard to get the feeling that many manufacturers would gladly bypass distribution if they could just figure out how. So prevalent are these forces that they've earned a name: Disintermediation.
“Disintermediation” was probably born out of some lofty business school in a class to meet a future MBA's requirement on Supply Chain Logistics. It was probably taught as a trend built on case studies of companies that had reduced costs by a significant percentage in two years by going direct to consumers or purchasing their supply channel. It was most likely more prominent seven years ago when the Internet was going to be the great disintermediator. In all, though, these are arguments that distributors and their associations can win most of the time with strong data, education, training and effectiveness.
External forces pose the greatest threats. What distributors and their associations do not need is government involvement that actually DISCOURAGES traditional distribution. The past 12 months have been challenging for distributors in this regard. The government has considered changing the tax code to DISCOURAGE investment in inventory (distributors' greatest asset) and moved toward accommodating interest groups that have openly targeted distributor workforces, and now state governments are reviving a proven distribution-slaying tax monster.
If there is a true community of HVACR distributors invested in and committed to excellence in distribution, then this community must first and foremost ensure an environment in which distribution is possible. Distribution hasn't disappeared in Texas, Ohio or even the State of Washington, which is the only State to have never repealed its original GRT (though it has been modified so many times it is hardly recognizable), but Washington has seen some disintermediation and extra-state corporate strategies and structures based on avoidance of their GRT. There are still distributors in France and Germany, but how many of you would trade seats with them given their disadvantageous tax status?
This is what membership is about. Distributors in Arizona are concerned about threats posed to counterparts in Illinois. Members in nearby Indiana express outrage that politicians would consider such a distribution-unfriendly measure next door even though the measure could afford them short-term gains. In the long term, how does it help any member for a doubting manufacturer to see that one last reason (provided by the government, no doubt) to try a different way of going to market?
The next time the Membership Committee talks about member retention and recruitment, remember that they are recruiting and retaining members for the DISTRIBUTION COMMUNITY, a community whose very existence constantly needs to be justified and defended. It is when you are promoting and protecting the viability and value of distribution that you are doing the best recruitment and retention drive for HARDI and our community.
Talbot Gee is vice president of HARDI. Contact him at 614/488-1835 or [email protected].