How Does Wholesale Distribution Work?

by Annie Sisk - Updated September 07, 2018
Good organization in warehouse

Wholesale distribution is one of the oldest business models in history. From the earliest days of traders selling goods from faraway lands – brought to another country by ship or caravan – manufacturers of products have required the services of skilled sales professionals to get their goods to a willing market with money to spend. Wholesale distribution has taken place throughout history in many countries and cultures. In the U.S., wholesale distribution is a big industry, and most of the companies in the industry are small businesses, not large corporations. The distributors who make up the industry, however large or small, all follow a more-or-less uniform process in playing their part in getting goods to their end users. There are a few different variations in wholesale distribution regarding how the distributor passes on ownership of the goods they sell, and the manner in which those goods wind up in the hands of the end user.

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  • Wholesale distributors buy products and goods from their manufacturers then sell those goods to retailers, who then sell them to the end user.

Wholesale Distribution and the Wholesale Process

The process of wholesale distribution fills a crucial function in modern retail commerce and manufacturing industries for both consumer and business markets. The businesses that create and produce goods for sale must rely on other businesses to move those goods into the stream of commerce, where the end purchasers can ultimately buy them for personal or business use.

Take the example of a Christmas-tree ornament maker. If this maker is an individual artisan crafting only a few hundred ornaments a year, the best distribution model will involve a direct approach to local retail and specialty stores. The stores purchase the ornaments, then sell them to individual purchasers who then display the ornaments on their Christmas trees. The individual purchasers in this scenario are the end users, and they buy directly from the retail establishment. This method may work well for the ornament maker at this small level of production.

However, if that same ornament maker then ramps up production methods putting out thousands of ornaments each year, this distribution method will not work. For one thing, the ornament maker will no longer have time to oversee the process of selling and delivering the ornaments to retail stores. Also, the retail stores currently selling the ornaments will not be able to handle such a drastic increase in inventory. More retail stores will need to be persuaded to carry the ornaments. That’s where a skilled wholesale distributor comes in.

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A wholesale distributor will typically have strong sales skills and expertise in the industry. He will contact new retailers, form relationships with them and sell more ornaments to them for resale at a higher price to the end users, which in this case are consumers.

However, the wholesale distributor does not work for the manufacturer, or for the retailer. The distribution company is its own separate business. It purchases the ornaments directly from the manufacturer at a reduced price, stores the inventory in its storage facilities – usually one or more warehouses that the distributor either rents or owns – and then sells the products at an increased price to other businesses that then sell the items to the end users.

Thus, the wholesale distribution industry provides the conduit between the makers of goods and the shops who sell them to the end users. On occasion, that pathway moves from the manufacturer directly to the end user. These types of wholesale distributors typically operate reduced-price outlets or retail stores. In either case, the wholesale distribution company purchases the products from the manufacturer, takes possession of the products, stores them as inventory and then sells them to the retailer.

The Impact of Wholesale Distribution on the Economy

Wholesale distribution is responsible for a large chunk of the national economy. Over 300,000 distributors do $3.2 trillion worth of business in the U.S. every year.

Statistics from the U.S. Census Bureau for August 2018 indicate that the wholesale distribution trade is responsible for about $500 billion in sales of goods worth about $600 billion.

Moving Goods to Market

The secret to the wholesale distribution model’s success is simple; purchase high-quality products that people want at prices that are low enough you can sell them to someone else and make a profit. Wholesale distributors typically buy in bulk in order to secure sufficient inventory at low prices. Then they turn around and sell that inventory to others at higher prices. These resales also generally take place in bulk, so that the retail company can also make a profit on the final purchase.

Three types of distribution channels are available to a producer of goods. Each of these channels involves some combination of a manufacturer or producer, the wholesaler, the retailer and the end user. The shortest of these chains of commerce run directly from the producer of the goods to the end user. Another model uses a single intermediary. The producer sells to a retailer, who then sells to the end user.

The longest chain of commerce in wholesale distribution involves all four channels. The producer sells to the wholesale distributor, who sells to the retailer, who then sells to the end user. For example, after Prohibition in the U.S., vineyards produced wine, but they could not legally sell directly to the consumer across state lines. That led the wine producers to turn to wholesalers who sold to retail spirits-or-wine shops. Those retailers could then sell bottles of wine directly to the consumer. This restriction no longer applies to a large extent, although the sale of wine and spirits is still extensively regulated.

What Are the Three Types of Wholesalers?

There are several methods of classification that could be applied to wholesalers in general. One of the most common classification schemes is the one developed by the Census of Wholesale Trade, which breaks down wholesalers into three main categories:

  1. Merchant wholesalers
  2. Agents, brokers and commission merchants
  3. Manufacturer sales branches and offices

Merchant wholesalers are known by many different names such as a wholesaler, distributor, supply house, importer/exporter and jobber. These are the classic wholesale distributors who buy products in bulk from the producer, then resell those products to retailers or other businesses. This type of wholesaler is the most commonly encountered, and responsible for the vast majority of wholesale companies and sales. They often specialize in specific kinds of products. Other wholesalers deal in a broad variety of product types. Some may even specialize in services, such as warranties and the like.

Agents, brokers and commission merchants differ from merchant wholesalers in that they don’t typically take legal title to the goods they sell. They are, however, active participants in the chain of commerce who help negotiate the purchase of goods. This type of wholesaler is most commonly found in agricultural products, representing specific clients and earning their fee on a commission basis.

Manufacturers' sales branches and offices are a way for manufacturers to deal directly with the sale of their products. Usually, they operate from different physical facilities than the factories or plants that produce the goods and the stores are used for wholesaling the company’s products. These facilities may be connected to the warehouse for large inventory, or they may be a small office where sales are negotiated and formalized.

How Do I Start a Wholesale Business?

New wholesale distributors can launch their businesses from scratch, or they can decide to buy a business from an existing distributor who is willing to sell that business outright. Buying a business may be preferable to those new to the wholesale business or first-time business owners since it reduces the risks of creating a new business from scratch. The seller of such a business may make it even more attractive by offering assistance and advice, or valuable data such as client and vendor lists.

Distributors may sell a wide variety of products or specialize in niches. Of course, a wider variety of products in a distributor’s inventory requires larger warehousing and storage needs.

Requirements for a Wholesale Distribution Business

To launch any new business, an entrepreneur must be proficient in basic business skills such as bookkeeping, budgeting and accounting. New distributors will also require strong sales skills since wholesale distribution involves the sale of products on a much larger scale than a consumer-oriented retail business.

Ideally, a new wholesale distributor should have some level of experience in the product industry. Product knowledge is essential for the distributor to promote and sell his inventory.

Physical requirements for wholesale distribution include sufficient storage space for adequate inventory levels. In some cases, a new distributor may be able to launch a new business out of her home. A basement or garage may be sufficient to store small items, at least in the beginning. However, if you are engaged in selling large items or a wide assortment of products, you will most likely require warehouse space. Wholesale distributors also need office space, computers and furnishings.

Finally, a new wholesale distributor will need to obtain the licenses or permits that are required by all levels of government. Municipalities may require a business license for companies doing business within the city boundaries. These licenses are fairly easy to obtain, requiring only a straightforward written application and payment of a fee. The fee may be based on anticipated business revenues. States may require wholesale licenses to purchase goods from manufacturers for resale exempting them from paying sales tax on the initial purchase. And certain types of goods or products may require federal licenses to purchase or sell in bulk.

Risks of Wholesale Distribution Business Model

While the wholesale distribution business model is advantageous, even to brand-new entrepreneurs, it also carries some risk. For example, the cost of shipping and storing the goods between the manufacturer and the retail store usually falls on the wholesale distributor. That means that the volatility in pricing for transportation, fuel and associated costs can make budgeting and cash flow a tricky line to navigate, especially for inexperienced distributors.

Moreover, space to store inventory can come with a hefty price tag or rental cost, depending on the commercial real estate market in the distributor’s geographic area. With limited storage space, wholesalers need to move product quickly, which means maintaining a constant and rapid turnover. Any slowdown in the chain of commerce between manufacturer and distributor, or between distributor and retailer, can radically upset this efficient flow of goods. If retail prices rise dramatically, or public relations crises result in a sudden drop in demand for the products, the wholesale distributor may be stuck with goods they cannot move. This can radically eat into the distributor’s profit margins and keep capital tied up beyond a product’s viable lifespan. This is even more of a risk for distributors of goods that are subject to spoilage, such as food products and other consumables_._

About the Author

Annie Sisk is a freelance writer who lives in upstate New York. She holds a B.A. in Speech from Catawba College and a J.D. from USC. She has written extensively for publications and websites in the business, management and legal fields.

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