Reading: Optimizing Channels

Introduction

Geico didn’t simply find itself owning the online, direct channel. It analyzed its customer needs and competitors’ positions and chose a strategy to accelerate sales growth: Geico defined and managed its channel strategy.

The Channel Management Process

The channel management process contains five steps.

1. Analyze the Consumer

We begin the process of channel management by answering two questions. First, to whom shall we sell this merchandise immediately? Second, who are our ultimate users and buyers? The immediate and ultimate customers may be identical or they may be quite separate. In both cases, certain basic questions apply: There is a need to know what the customer needs, where they buy, when they buy, why they buy from certain outlets, and how they buy.

It is best that we first identify the traits of the ultimate user since the results of that evaluation might determine the other channel institutions we would use to meet those needs. For example, the buying characteristics of the purchaser of a high-quality curved TV might be the following:

• purchased only from a well-established, reputable dealer
• purchased only after considerable research to compare prices and merchandise characteristics
• purchase may be postponed
• purchased only from a dealer equipped to provide prompt and reasonable product service

These buying specifications illustrate the kinds of requirements that the manufacturer must discover. In most cases, purchase specifications are fairly obvious and can be determined without great difficulty. In others, though, they can be difficult to determine. For example, some consumers will only dine at restaurants that serve menu items that meet particular dietary needs; others will only patronize supermarkets that demonstrate social responsibility in their sourcing and packaging. Still, through careful and imaginative research, most of the critical factors related to consumer buying specifications can be figured out.

Once the consumer’s buying specifications are known, the channel planner can decide on the type or types of wholesaler or retailer through which a product should be sold. This means that a manufacturer contemplating distribution through particular types of retailers must become intimately familiar with the precise location and performance characteristics of those he is considering.

In much the same way that buying specifications of ultimate users are determined, the manufacturers must also discover buying specifications for resellers. Of particular importance is the question “from whom do my retail outlets prefer to buy?” The answer to this question determines the types of wholesalers (if any) that the manufacturer should use. Although many retailers prefer to buy directly from the manufacturers, this is not always the case. Often, the exchange requirements of manufacturers (e.g., infrequent visit, large order requirements, and stringent credit terms) are the opposite of those desired by retailers. Such retailers would rather buy from local distributors who have lenient credit terms and offer a wide assortment of merchandise.

2. Establish the Channel Objectives

Once customer needs are specified, the marketer can decide what the channel must achieve, which can be captured in the channel objectives. Channel objectives are based on customer requirements, the marketing strategy, and the company strategy and objectives. However, in cases where a company is just getting started, or an older company is trying to carve out a new market niche, the channel objectives may be the dominant objectives. For example, a small manufacturer wants to expand outside the local market. An immediate obstacle is the limited shelf space available to this manufacturer. The addition of a new product to the shelves generally means that space previously assigned to competitive products must be obtained. Without this exposure, the product is doomed.

As one would expect, there is a wide diversity of channel objectives. The following areas encompass the major categories:

• Growth in sales by reaching new markets and/or increasing sales in existing markets.
• Maintenance or improvement of market share
• Achieve a pattern of distribution by a certain time, place, and form
• Reduce costs or increase profits by creating an efficient channel

3. Specify Distribution Tasks

After the distribution objectives are set, it is appropriate to determine the specific distribution tasks (functions) to be performed in that channel system. The channel manager must be very specific in describing the tasks and also detail how these tasks will change depending upon the situation. For example, a manufacturer might delineate the following tasks as necessary to profitably reach the target market:

• Provide delivery within 48 hours after order placement
• Offer adequate storage space
• Provide credit to other intermediaries
• Facilitate a product return network
• Provide readily available inventory (quantity and type)

4. Evaluate and Select Among Channel Alternatives

Determining the specific channel tasks is a prerequisite of the evaluation and selection process. There are four considerations for channel alternatives: number of levels, intensity at the various levels, types of intermediaries at each level, and application of selection criteria to channel alternatives. In addition, it is important to decide who will be in charge of the selected channels.

Number of Levels

Channels can range in levels from two to several (five is typical). The two-level channel (producer to consumer) is a direct channel. The number of levels in a particular industry might be the same for all the companies simply because of tradition. In other industries, this dimension is more flexible and subject to rapid change.

Intensity at Each Level

Once the number of levels has been decided, the channel manager needs to determine the actual number of channel components involved at each level. How many retailers in a particular market should be included in the distribution network? How many wholesalers?

The intensity decision is extremely critical because it is an important part of the firm’s overall marketing strategy. Companies such as Starbucks and Hershey’s have achieved high levels of success through their intensive distribution strategy.

Types of Intermediaries and Application of Selection Criteria

As we discussed, there are several types of intermediaries that operate in a particular channel system. The objective is to identify several possible alternative channel structures and evaluate these alternatives with respect to some set of criteria such as company factors, environmental trends, the reputation of the reseller, and the experience of the reseller.

Who Should Lead?

Regardless of the channel framework selected, channels usually perform better if someone is in charge, providing some level of leadership. Essentially, the purpose of this leadership is to coordinate the goals and efforts of channel institutions. The level of leadership can range from very passive to quite active—verging on dictatorial. The style may range from very negative, based on fear and punishment, to very positive, based on encouragement and reward. In a given situation, any of these leadership styles may prove effective.

Under which conditions should the manufacturers lead? The wholesaler? The retailer? While the answer is contingent upon many factors, in general, the manufacturer should lead if control of the product (merchandising, repair) is critical and if the design and redesign of the channel is best done by the manufacturer. The wholesaler should lead where the manufacturers and retailers have remained small in size, large in number, relatively scattered geographically, are financially weak, and lack marketing expertise. The retailer should lead when product development and demand stimulation are relatively unimportant and when personal attention to the customer is important.

5. Evaluating Channel Member Performance

The need to evaluate the performance level of the channel members is just as important as the evaluation of the other marketing functions. Clearly, the marketing mix is quite interdependent, and the failure of one component can cause the failure of the whole. There is one important difference, though: the channel member is dealing with independent business firms, rather than employees and activities under its control, these firms may be reluctant to change their practices.

Sales is the most popular performance criterion used in channel evaluation. Other possible performance criteria are maintenance of adequate inventory, selling capabilities, attitudes of channel intermediaries toward the product, competition from other intermediaries and from other product lines carried by the manufacturer’s own channel members.

Correcting or Modifying the Channel

As a result of the evaluation process, or because of other factors such as new competition, technology, or market potential, changes may need to be made in the channel structure. Because channel relationships tend to be long-term, and the channel decision has such a pervasive impact on the business, any change should be carefully evaluated. Later in this module, we will discuss service outputs and their role in measuring and modifying channel performance.

The Human Aspect of Distribution

By its very nature, a channel of distribution is made up of people. Ideally, a channel member should coordinate their efforts with other members in such a way that the performance of the total distribution system to which they belong to is enhanced. This is rarely the case, though. Part of this lack of cooperation is due to the organizational structure of many channels, which encourages a channel member to be concerned only with channel members immediately adjacent to them, from whom they buy and to whom they sell. A second reason is the tendency of channel members to exhibit their independence as separate business operations. It is difficult to gain cooperation under this arrangement. Four human dimensions have been incorporated into the study of channel behavior: roles, communication, conflict, and power. It is assumed that an understanding of these behavioral characteristics will increase the effectiveness of the channel.

Role

Most channel members participate in several channels. Establishing the role of a channel member means defining what the behavior of the channel member should be. For example, a basic role prescription of the manufacturer may be to maximize the sales of their particular brand of product. This suggests that the manufacturer is to actively compete for market share and aggressively promote its brand. The role prescriptions of independent wholesalers, however, are likely to be quite different. Since wholesalers may represent several competing manufacturers, their role would be to build sales with whatever brands are most heavily demanded by retailers. Therefore, a major issue in channel management is defining the role prescriptions of the various participants in order to achieve desired results. This is accomplished through a careful appraisal of the tasks to be performed by each channel member and clear communication of these roles to the members.

Communication

Channel communication is sending and receiving information that is relevant to the operation of the channel. It is critical for the channel member to foster an effective flow of information within the channel. Communication will take place only if the channel member is aware of the pitfalls that await. The channel manager should therefore try to detect any behavioral problems that inhibit the effective flow of information through the channel and try to solve these problems before the communication process in the channel becomes seriously distorted.

Conflict

Any time individuals or organizations must work together and rely on one another for personal success, conflict is inevitable. In a distribution channel, conflict usually arises in one of two forms: structural or behavioral.

Structural conflict occurs when the channel partners are expected to cooperate and compete. For example, imagine that you want to buy a new pair of Nike shoes and you have two choices. You can go to a local Foot Locker retailer and buy the shoes for $89, or you can go online to Nike.com and buy the shoes for $69. In effect, Nike is undercutting its retail channel while selling through a direct channel. It is likely that Foot Locker is unhappy about this. While a retailer expects to compete with other retailers who carry the same brands, it doesn’t expect that the manufacturer will sell through the direct channel at deep discounts. This type of structural conflict is often the cause of behavioral conflict.

All organizations expect to manage some level of behavioral conflict in the channel. They do this by:

• Establishing a mechanism for detecting conflict
• Evaluating the effects of the conflict
• Resolving the conflict

Given the distributed nature of the channel, it is often difficult to resolve conflict. Strategies such as the formation of a channel committee, joint goal setting, and bringing in arbitrators have all been used. In some cases, conflict becomes part of the ongoing channel dynamic—it’s difficult but manageable. Eric Schmidt, chairman and CEO of Google Inc., notes: “From my experience, the most successful companies are the ones where there is enormous conflict. Conflict does not mean killing one another but instead means there is a process by which there is a disagreement. It is okay to have different points of view and disagree because tolerance of multiple opinions and people often leads to the right decision through some kind of process.”

Power

Power is the capacity to use force in a relationship. It is often the means by which one party is able to control or influence the behavior of another party. In the channel mechanism, power refers to the capacity of a particular channel member to control or influence the behavior of another channel member. For instance, a large retailer may want the manufacturer to modify the design of the product or perhaps be required to carry less inventory. Both parties may attempt to exert their power in an attempt to influence the other’s behavior. The ability of either of the parties to achieve this outcome will depend on the amount of power that each can bring to bear.