Gambling On Gray-Market Products

By Michael Barbella — March 21, 2007

Last fall, Microsoft filed 20 lawsuits against resellers for allegedly distributing counterfeit software. The lawsuits, filed in nine states, sent a stern warning to alleged black market sellers and counterfeiters: "Microsoft is determined to protect its intellectual property."

Microsoft's lawsuits also part of an effort to stem the flow of gray market and counterfeit goods, and the company is one of 18 comprising the Alliance for Gray Market and Counterfeit Abatement (AGMA), a non-profit group formed in 2001 to address the problem of gray market issues and counterfeiting.

Like counterfeiters, resellers of gray market products have been around for years. But these resellers didn't really pose much of a threat to the computer industry until the dot-com bubble burst and enterprises began looking for cheaper alternatives for hard drives and software. Because gray market items are generally sold by unauthorized dealers, enterprises that purchase these products are taking a gamble, says AGMA Treasurer Peter Hlavnicka.

"A lot of these unauthorized resellers are just in the business of making a quick buck. They just want to make a sale," Hlavnicka said. "Unless [the vendor] can look at the product and test it, and unless it's in perfect shape, they will not support it or guarantee it."

AGMA members met in San Diego earlier this year to discuss ways to educate the public about counterfeit and gray market products, and the dangers of purchasing them. Hlavnick defined gray market goods as new products (still in their original packaging) that are sold by unauthorized resellers. Black market products are those that have been either stolen or fraudulently obtained, while counterfeit products are take-offs on genuine items.

"Everybody understands what counterfeiting is. But with today's technology, you can make products that are better than new and resell them," Hlavnicka notes. "That can be defined as fraud. Today, there's quite a different understanding of what can be considered counterfeit."

A 2003 study published by KPMG and the AGMA estimated that IT manufacturers lose up to $5 billion in profits annually from the sale of gray market goods. And while the sale of gray market goods affects various industries, the study confirmed that computers and related products are among the industry sectors most affected by gray market activity.

"The gray market is hurting legitimate players in the computer manufacturing and distribution network, as well as customers and investors," the study states. "The threat looms for OEMs (original equipment manufacturers) as well as consumers who may think they are buying legitimate products."

Hlavnicka agrees that gray market traffic poses risks to the buyer, but believes the industry has taken steps to combat the problem since the study was published. He said the AGMA and KPMG are considering conducting another study to obtain more updated information on the gray market.

"The gray market is always going to be there," he said. "There are always going to be opportunities to sell equipment that sits in inventory and has never been used. Vendors don't like to see it, but that's going to happen. But the problem is getting smaller because of a lot of initiatives put into effect by vendors."

Some of the initiatives include better tracking of equipment and a more concerted effort among vendors to hold counterfeiters and unauthorized gray market resellers accountable for their actions. Last spring, HP settled a gray market case with P & E Distributing of Kentucky. HP hoped to recover more than $8.6 million in pricing discounts for computer equipment that a former Tennessee reseller, Capital City Micro, purchased based on "misrepresentations" that the equipment would be resold to P & E Distributing. Capital City Micro was an authorized reseller of HP and Compaq (now part of HP) products and made unauthorized sales in 2001 and 2001, the lawsuit alleged.

Cisco fought back against gray market resellers by creating the Cisco Authorized Refurbished Equipment (CARE) program in 2000. The company uses this program to authorize resellers to distribute Cisco equipment.

"We're making sure that we authorize new resellers that comply with our policies," says Hlavnicka. "Vendors are doing investigative work on where the [products] go and they investigate what is out there on the gray market. They see what is shipped and take corrective action if they find out that someone has released this product in violation of their contract. The market is definitely getting smaller

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