The lawsuit between FPGA supplier Xilinx Inc. (NASDAQ:XLNX) and EMS Flextronics International (NASDAQ:FLEX) has brought to the surface several points of contention in the supply chain, including the resale of electronics components and the risk of counterfeit parts. Now, court documents related to the suit are pressing another hot button in the channel: the issue of authorized distribution. (See: The Multiple Dangers of Component Resale).
According to documents filed in the California Superior Court (Santa Clara), Ericsson, an OEM customer of Flextronics and Xilinx, had problems with Xilinx devices that were shipped by distributor Arrow Electronics Inc. (NYSE:ARW) The devices failed a quality test conducted by Flextronics. A subsequent investigation by Xilinx revealed Arrow had shipped the components that Ericsson had ordered; yet those were not the devices that were failing the quality test. Xilinx alleges that the defective devices were swapped in by Flextronics.
In this particular case, Xilinx authorized Arrow Electronics as a distributor. That’s an unusual move for Xilinx because Arrow is authorized for Xilinx’s chief rival in the FPGA market, Altera Corp. Traditionally, competitors such as Xilinx and Altera refuse to “share shelf”— that is, be sold by the same distributor. Therefore, Avnet Inc. (NYSE:AVT) is authorized by Xilinx and Arrow by Altera. In the past, if a distributor picked up a competing line, it would be dropped by the original supplier.
In cases such as Ericsson’s, however, a supplier such as Xilinx will authorize a distributor for one specific customer. According to court documents:
Arrow is a Xilinx approved distributor for Ericsson, a highly-valued Xilinx customer. This means if Ericsson wants a Xilinx device incorporated into a product, Ericsson tells Arrow what its need are, then Xilinx ships those needs into the Arrow facility. The Arrow facility then sells to Ericsson’s authorized CMs.
The distinction of authorization in the supply chain is significant. Authorized distributors pass on to customers all of the guarantees and warrantees a supplier grants to a direct customer. Parts are shipped to authorized distributors directly from supplier factories. In some cases, if a part is procured outside the authorized channel, suppliers won’t support that part. Authorized channels are viewed as the only way to protect customers from the risks of counterfeiting.
Authorized distributors also use the term to distinguish themselves from other distributors that buy and sell parts. Independent distributors, for example, sell components that may come from supplier factories; OEMs, EMS, or other distributors – sources referred to as the “open market.” In many cases, the devices are authentic. Without authorization, however, suppliers may not support a part that is procured in the open market.
The new wrinkle in the Xilinx-Flextronics suit is that Flextronics’ alleged actions render authorization meaningless. Authorization is a doubled-edged sword for suppliers and distributors: the agreements can be seen as restrictive. For example, it's possible Ericsson procures most of its bill-of-materials (BOM) from Arrow but can’t get a specific FPGA. Still, suppliers and distributors vehemently defend authorization as a means to protect both brands and business. If, as alleged, Flextronics swapped Xilinx devices as described in the lawsuit, it not only damaged the Flextronics brand – it damaged Xilinx.
Moreover, the ramifications now extend into the distribution channel. Xilinx authorized Arrow Electronics in this case because Ericsson was an important Xilinx customer. By doing so, Xilinx risked incurring the wrath of its other distributors and Arrow risked irritating Altera. Yet, the authorization designation was so important Xilinx took the leap. Authorization was put into place – in part -- to protect customers such as Flextronics and Ericsson from defective or counterfeit products. Flextronics’ alleged actions negated that fail-safe.
Authorized and non-authorized distributors have been battling for decades, accusing one another of less-than-honest practices. To date, few have suggested that OEMs and EMS are partly to blame for what plagues the industry. (See: Distribution: Some Policies No Longer Work). The Flextronics suit may just prove them right.