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How is Gray Market business?


Diversion business looks to be an expanding business in the USA but still remains little known for most people. The way that these Companies operate have been very well designed to take advantage of premium prices or discounted prices by buying from manufacturers, mainly well-recognized brands for export purposes but most of the cargo remains or get returned to local market, in this case, the United States where the market is bigger and they can obtain more profit by selling under-priced items.

This is what it is commonly called "Gray Market", in which consumer goods are bought and sold in channels unauthorized by the manufacturer. Diversion is not necessarily illegal, but at least it is an unethical practice which attempts against free market rules and can be punished with prison if there is fraud involved. That was the case of Dana Weis-Reis case( Businessinsider.com,2011) which involved scammed multinational consumer products companies for over u$15 million a year.

When I was hired first time in Peru, as an Operations Manager for a Wholesale Company I realized first, that we do not actually work for one single Company rather for several companies at the same time which are related to the same owner and her family members. We conducted a business which the main market was in the US for 90% of the products, that was no weird on these globalization times to reduce overhead costs, US .instead of having all the team in the US. The company only keep in South Florida the warehouse team to receive and ship the products to our main customers which were usually middleman or distributors. Having IP phone service, a direct broadband fast speed internet and a decent IT platform(better on the cloud) are all that the company needed to run several offices located in four countries. We also managed bank accounts for more than 10 companies based in 5 different countries. Also, we had more than 90 domains but a none was the Company official website, none employee has business cards, and nobody was allowed to mention that we were working from South America when talking over the phone. However, the job was normal, management work and to help the owner on her business needs. For a business with more than 8 years running, there were still a lot of undefined and nonwritten procedures and usually, rules changed periodically according to upper management desire, nothing related to any kind of illicit activity but, I started wondering why it is worthy to be engaged in all this kind of complexity just to sell beauty, dental and medical products?

In this like other business you have suppliers and have clients but it was obvious that the most important part was the procurement of the products rather than the selling. This business does not focus on the product mix or the value of the service rather on buying the products at the cheapest price as possible in big quantities. Still, it is not clear why some big manufacturers are willing to sell their products for overseas markets with no strict procedures and allowing their brand products to be priced below the market value by these diversion companies when they returned to the US. , this it is a huge advantage on contrary to proper distributors and authorized retailers in this market. These well known and legal clients might even sue the Company for bad practices, so why get the risk to lose good clients for other who do not deserve any privilege?

Firms find profit in moving products to distribution channels for which they aren't intended.

According to an article from Fortune Magazine called “The Shadowy business of diversion”, billions are made on this business in the US. However, the way I know with my years working in logistics and projects with this Company which operates diversion business made me think that it cannot be ok when you create fictitious Companies overseas and buy from manufacturers for market in Mexico, Costa Rica, Panama or Peru and ended up never leaving the country or they return to the country after hitting a free trade zone like Belize to the US. That it was the case with the Company I used to work with, luckily I don't work there anymore, I never did or was asked to do nothing illegal but it was weird when the trucker arrived at the warehouse always asking for different Companies at the same location and the same person who was located overseas with 3 different names, I thought" this can not be right".

One of the reasons that this continues with no punishment is mainly that sometimes these diversion companies have the complicity of manufacturers with are eager to meet quotas or sell close to expiration products. That way these companies buy the products for a big discount price, and when they sell in the US they can have an even cheaper price that big distributor or anybody else, dropping market value of the brands. This can be seen that unfair competition for other distributors or retailers which did not diverse or lie regarding the intention of selling the product on that market.

The way the business operates is very particular and required a good knowledge of the market. Diverters usually opened several Companies in different countries overseas. Like the company I used to work with, we had a legal US based Company with affiliates or “sources” all over Latin America and even Israel. These "sources companies" make offers or bidding for products directly from the manufacturers to be sold for specifics, as I mentioned before these ones are commonly based overseas with their own bank accounts, but of course under same management and ownership that an American Company. Once products are bought they are delivered depending on the terms of the contract to the Port or rather to Company Warehouse, which is the same at the American based Company. When products are delivered to the Port they can even make the trips a trade zone like the ones located in Belize and Panama(with associated companies) and from there, containers are returned to the US to be sold at the American market with a discounted price.

When products are received many time labels must be removed from the cases and even products before they can be sold in the US which represents an extra cost. Also, there are other costs called transactions costs because of sending or transferring money from one account to another one for a third company and also taking care of the legal and taxable aspects of all companies involved in this transaction.

What it takes to get into the Diversion business?

I would say that there are some important points to consider:

  • To have cash available, usually under bidding offers and discounted price, products are sold to a buyer who can pay in full the product once is received at the warehouse or sent overseas.

  • People and offices overseas which can be contacted by the manufacturer as a scheme.

  • Warehouse located close to the ports.

  • Networking base and good contacts with consumer products executives and also middleman to buy the products.

Why big companies and well-known brands like Loreal, Vogue, Ecolab, Becton and many others allow this to happen and keep selling them? Sometimes they do not even realize true intentions of their client and others they know but managers and salespeople just do not care because they have quotas to cover, so by selling to this faked companies it does not matter that much. The question will be: Is this a good and profitable niche for someone with the resources to do it? Is this an illegal business or just an unethical way to make profits? I see there is an opportunity to help companies that want to remain their brands and prices status and sell rightfully to companies and distributors which are honest and will maintain brand positioning with customers. There are some ways to identify is a Company is presenting a proposal for diversion purposes or if they are really selling to overseas markets. I will appreciate your comments.