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Behind the Electrograph Liquidation

Electrograph Systems Inc., one the country's leading national distributors of AV gear to the professional, commercial, and high-end consumer markets, announced late Friday that it will be "moving forward with a liquidation process." This news followed weeks of speculation in the industry about the fate of Electrograph

Electrograph Systems Inc., one the country’s leading national distributors of AV gear to the professional, commercial, and high-end consumer markets, announced late Friday that it will be “moving forward with a liquidation process.” This news followed weeks of speculation in the industry about the fate of Electrograph, and months of activity that saw venture capital companies and at least one major Electrograph competitor jockeying to purchase the company.

“After being with Electrograph for 22 years, I am deeply saddened by the result of this situation,” said outgoing president Sam Taylor. “We would like to thank our resellers for their business over the past 25 years, our vendor partners, and other friends in the industry for their support. Above all, we thank our loyal employees for their hard work and dedication.” Taylor, along with all the senior management at Electrograph, has left the company.

On Saturday I learned that the most senior-level employee remaining at the company is John Riley — working out of Electrograph’s Hauppauge, New York offices. Riley was, until Friday, the vice president for eastern region sales, but it is now charged with leading all sales efforts as the company liquidates.

Electrograph still has inventory to sell, and I was told that over the next several months, customers could still buy equipment at what is expected to be discounted prices. The press release said that, “During the wind-down period, a group of 60 employees will be staying and the four warehouses in City of Industry, CA; Grove City, OH; Hauppauge, NY; and Middletown, NY will remain open and shipping product.” The rest of Electrograph’s 75 employees were laid off.”

A look behind the headlines of the Electrograph news reveals some interesting developments. The demise of the company, which played out in the context of a recession, is not strictly a result of “the economy.” In this economy, companies in deeper short-term financial straits than Electrograph have weathered the storm. But the AV industry as a whole is still characterized by a large number of small-to-medium-sized, privately held companies. It’s essentially an industry of entrepreneurial players, with all the associated risk involved in shallower capital pools, lackadaisical government interest in providing favorable credit or tax incentives, and generally less predictable growth paths than what is seen in other larger or even similar-sized U.S. industries.

“Unfortunately, Electrograph faced the perfect storm of a difficult credit environment, a weakened economy, and pressure on sales,” Taylor stated. “And while companies the size of GM and Chrysler make headlines in this economy, even greater pressures exist for companies smaller than those that lack the kind of access to credit, or crisis financing available in larger industry sectors. Electrograph pursued a sales process, but for a variety of reasons it was unsuccessful, and liquidation is what the board decided.”

Although a private company is not required by law to post its numbers, Electrograph generated around $400 million in annual sales at its peak in 2007. Taylor, as well as other top industry players whom I’ve spoken to over the past week, firmly believes that Electrograph’s business model was a great one, and does not see any pressing need to realign the distribution model in the AV industry. Taylor cited recent trends to support this notion. “Our market share was holding its own through the first quarter. And it is important to note that, for most of our customers, we were a one-stop shop. Conversely, many AV dealers who were big enough to have a direct-buy facility with major manufacturers also bought from us as a second source, because we could deliver product faster in many cases, when and where they needed it to complete the job.”

Alan Brawn, principal of Brawn Consulting, and a major player on several sides of the fence (manufacturer, systems integrator, consultant, educator) over the past several decades, stated that, despite what happened to Electrograph, the AV industry still needs distributors between the manufacturers and dealers. “The cost of having direct dealers for a manufacturer is becoming too expensive to consider in terms of cost of goods sold,” he said. “As prices decline, they have to sell more volume to make up for the lost dollars in price reductions. This puts a good deal of pressure on the relationships between the manufacturer and the direct dealer. The distributor, on the other hand, can service hundreds or, in some cases, thousands of dealers, and the manufacturers then works in a ‘run rate’ environment instead of the project environment that has characterized our industry.”

It is then incumbent on the distributor, Brawn stressed, to find ways to replace the value to their resellers that manufacturers once provided for their direct accounts. Electrograph understood this and was trying to fill in those voids as a weaker economy and tight credit overcame it.

Electrograph acquired ActiveLight Inc. and CineLight Inc. from the Powder Hill Group in February 2006. Before the acquisition, Electrograph was a $160 million company. The acquisition was Electrograph’s first since it was acquired in August 2005 by Caxton-Iseman Capital Inc., a New York-based private equity firm that started it on its growth phase, and set in motion a series of ambitious goals. The acquisition of ActiveLight was a geographical play and allowed Electrograph to cover the U.S. with greater efficiency. Herb Myers and Brad Gleeson had built ActiveLight into a formidable competitor to Electrograph, and the acquisition was a great move.

But in June of 2006, when Electrograph was an approximately $240 million company after the ActiveLight acquisition, it acquired International Computer Graphics (ICG), a $275 million display distributor. The move doubled Electrograph’s revenue and made it the nation’s largest distributor of display products. The plan was to add efficiencies of shipping and inventory management through additional warehouses and supply chains, and to improve margins by enhancing Electrograph’s buying power with vendors.

But ICG was a relatively low-margin operation, and the self-fulfilling momentum of that could not be so easily turned around. Electrograph was put in a position of competing more on margin — in some vertical markets — in an attempt to build volume and service its sizable debt. ICG was a company that had been focusing on small-format displays, selling those products to big national accounts — a model different than Electrograph’s focus on selling higher margin larger displays, projectors, and other gear to the commercial AV channel.

Brad Gleeson, who led ActiveLight at the time of its acquisition by Electrograph in 2006, and who is now managing partner of TargetPath LLC, a business development and management consultancy specializing in advanced display and digital media, said that leading up to the announcement Friday, “Samsung had cut off Electrograph’s line of credit. But beyond the day-to-day developments, their sales had dropped to about $25 million/month, which represented a slight decline this year. And at this level it was below capitalization levels. They could not cut cost fast enough to rebalance the equation.”

Referring to the past two years, when Electrograph was on the rise, Gleeson commented, “A rising tide lifts all boats, but when the tide recedes, the rocks appear.”

Gleeson adds that, when economic conditions — macro not micro — are exerting external pressure, “commodity products don’t require three-tier distribution or added-value distribution, and Electrograph was caught in a harsh spotlight where, for a critical period of time, their business model did not align with the market as the clock ran out on tweaking the model to move into less commoditized areas or ride out the temporary macro and credit environments.” As credit tightened and margins thinned with new entrants fighting for market share, the very promising digital signage market and the Stimulus package-stoked education market were not able to kick in fast enough to allow Electrograph to accomplish a smooth transition in a changing landscape.

That being said, this same time frame has seen the rise of distribution companies such as Stampede, Visual Solutions, Ingram Micro, Tech Data, and Synnex. Some of these companies were winning sales if not major market share by setting up their own good dealer programs, creating unique financing programs, and establishing demo rooms where gear could be seen (helping to ameliorate the “box seller” syndrome). And some had gone further, by making significant MDF (market development funds) available to dealers or by devising freight billing programs that took some of the risk out of the vagaries of shipping schedules and changing fees as fuel costs spiked.

That’s not to say Electrograph was not doing that, too — and maybe even better with some programs. But in addition to the dynamic described above, there was also something of a “Dell” effect here. In the PC industry, Dell pioneered the ideas of “just-in-time manufacturing” and selling direct to customers and eliminating unnecessary layers of middlemen. But eventually others adopted similar models, addressing demanding markets where value add was necessary, and yet other competitors went straight for low-margin/high-volume sales, leaving Dell caught in the middle, playing a margin game in some verticals while inevitably losing some of their unique brand magic. The difference is that a large public company like Dell can raise capital in the stock market, and has easy access to much deeper financing instruments generally, and can ride out a storm indefinitely.

Which really brings this story back to the where most stories in this industry begin and end: this industry is characterized by a large number of small-to-medium-sized, privately held companies. Even on the product side, apart from the Asian and a few European large, publicly funded manufacturers, it’s really an industry of entrepreneurial players. So when a company grows rapidly and sets out an ambitious agenda, it’s a more fragile equation than what drives companies in most U.S. industries. The risk is greater, and there are few safety nets.

But rewards are great too, and it’s important to remember that the market as a whole is still growing, not shrinking, and more competition (and, we have to grudgingly admit, lower margins) mean better deals for the customers and more sales in the long run. So while this Electrograph news may rattle the company’s customers and vendors, if not the industry as a whole, this news should not be construed as an ominous indicator of the health of the AV industry in general. Friday’s news was not good, but on balance the market is robust, still on sum growing, and a new group of players is making it harder for one or two companies to dominate in a landscape where market growth is enticing new entrants to aggressively go after the leaders.

Let’s just hope that one or more of the new players on the landscape can forge the same kind of value-added service for the industry that Sam Taylor and his team were able to provide for years running. As Alan Brawn stated, “Electrograph dedicated themselves to adding value to their customers. Their senior sales team were CTS certified and they were constantly training their staff to provide value beyond mere products to their customers. We will miss the people and the value they added to the industry.”