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Let’s Cut Out Cutting Out the Middleman

 

Now that’s some coal anyone would love to find in their stocking

This morning I was listening to the radio on the way to work instead of listening to a podcast, which has been my habit of late. Commercials came on, and as they always do they skirted the edge of the truth, and as they always do they made me angry. I’m not sure how or when I became aware of the manipulative tactics in commercials. But as I’ve grown older I’ve gotten more and more angry when I hear them, and the more likely I believe they are to work, the angrier they make me. I’m pretty sure I could do an entire series on the lack of truth in commercials, but today I want to focus on just one thing. I want to examine the idea of the middleman.

What is a middleman? Simply, a middleman is someone who is not at the beginning or the end of the process that gets you your goods and services. This is a really broad definition, but I believe it’s an accurate one, especially when so many different commercials in so many different industries claim to save you money by cutting out the aforementioned middleman. So, in one sense, everyone between you and your Cheerios that’s not a farmer is a middleman. Everyone that’s not swinging a pick in a diamond mine that gets a piece of your two months salary is a middleman. And I don’t know about Kellogg’s or Walmart but companies like “The Shane Company” claim to cut out these middlemen and bring their diamonds directly to you. Don’t read this as a screed against The Shane Company or even the diamond industry (although it seems highly corrupt, and stupid). This could just as easily apply to mattresses, vitamins, or computers.

Ok, so in the diamond industry, someone has to dig up the diamonds. (Working backwards from there we could look at equipment manufacturers, mining supplies, logistics companies and so on, but we’ll just begin, for simplicity’s sake at the digging in the dirt.) Ok, now the diamond is dug up. It must be cleaned off, graded, sorted, sold to someone who have it cut and shaped into what we think of as a diamond, and put into a setting. Once all that is done you need to be made aware that this lump of coal, for which you’re about to strike one and possibly two horrible bargains, exists. Then the bargain must be struck and the glittering symbol of your eternal love must be delivered unto your trembling fingers, which fortunately thanks to the rather severe lightening of your wallet, you’ll have no trouble carrying around for another two months while you wait for the ‘perfect moment’ in which to give it away. But I digress, back to the story at hand. Which part of that, exactly, can we do without? If it doesn’t get dug up, nothing else happens. The same with each step in the process.Someone has to cut it. Someone has to decide how much it’s worth. It must find its way to wherever you are. It must be available for inspection and purchase. It must be set in a ring. You must, must, be made aware that it exists, and that it is right and proper that you should ever so briefly own it so that you may use it as a magpie uses a bright bauble, to attract a mate to your nest.

The point is, that no link in this chain is unnecessary. No one can be ‘cut out.’ Why would you want to anyway? Well, the reason, at least the way it’s presented in commercial land, is cost. “We cut out the middleman to save you money.” Ok. without going deeply into how products are priced, and a TON of issues surrounding that, how could cutting out the middleman possibly save money? Every job that was done before still needs to be done. (Try buying your Cheerios from the farmer. Let me know how that works for you.) Presumably, in the modern world we’re going to pay people for each of those jobs, we’re going to have capital outlay for the tools, equipment, locations, and management associated with those jobs. We’re going to want to make a profit for our owners or shareholders on each part of the process, because after all, each part requires an investment of time, talent, and treasure, and those are the things that profit pays for.

So when we say we ‘cut out’ the middleman, that’s not really what we mean at all. What we really mean is that we internalize the middleman. If the job needs to be done, and it’s not done by an outside company (middleman) we must be doing it ourselves. Whether personally or hiring employees, someone is doing that job. We’re responsible for their salary, benefits & our share of their taxes. We’re providing a workplace & their equipment. Assuming our investments are just as important as other people’s we’re likely to pay ourselves a reasonable return on that investment. So all we’ve done is become the middleman ourselves. We’ve eliminated nothing.

That’s ok, and there are some savings to be squeezed out of this idea. It’s called vertical integration. The idea behind it is that if you control more of the process, from start to finish, you can capture more value from whatever it is and pass a portion of those savings on to your customers. (Of course you do this not to be nice, but because by passing some savings on you may increase the total spend of the customer and maximize your own profits, but that’s a topic for another day.) Think about your car for a minute. The company that makes it, no matter what company makes it does some things themselves, but has outside companies that do some things as well. Almost all companies do their own final assembly. Some may build their own airbags but most, as you can probably figure out from news about product recalls, buy them from a couple companies that specialize in building airbags. They either make or buy every component in the car because that is the decision that maximizes their profit. And that’s good. It makes for a very efficient process. It just doesn’t make for a good commercial. Or maybe it does. The savings here come from vertical integration AND the fact that it was a high markup business with pretty severe barriers to entry. But that is a story for another day.


1 Comment

  1. Thomas, your increased anger can be partially attributed to age…. yes? no?

    My definition of middlemen are those people who add no value to the value chain. The guy who buys cut, graded diamonds, then resells those same diamonds is a middleman I would love to eliminate. They increase cost by 30+%, but have not added any value. The economy is eliminating these thanks to models like Amazon. Amazon for diamonds anyone?

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