Everything you need to know about the channels of distribution in marketing!
1. Meaning of Channels of Distribution:
According to Stanton, “A distribution channel consists of the set of people and firms involved in the transfer of title to a product as the product moves from producer to ultimate consumer or business users”. It includes both the producer and the final user of the product as well as mercantile agents and merchant middlemen engaged in the transfer of title of goods and services.
Channels of distribution are also called the trade channels. They refer to the paths through which the ownership of a product passes during the course of its journey from the producer or manufacturer to the ultimate consumer or industrial user. In other words, at one extreme of the ‘channel’ there is producer or manufacturer and at the other extreme there is ultimate consumer as shown in Fig. 8.1.
In between, there are intermediaries or middlemen who help the product in reaching the ultimate consumer or industrial user. When there is a direct contact between the producer and the consumer, it is called Direct Marketing or Channel. On the other hand, when middlemen are used for distribution of goods, it is called Indirect Channel.
Direct Channels or Direct Marketing:
This is the ‘zero level channel’. It implies direct sale of goods and services by the producer to the consumers. There is no middleman in between the producers and the consumers. The producer creates a link with the consumer’s directly through door to door salesmen, direct mail or through his own retail shops.
The important methods of direct marketing include the following:
(i) Retail stores as by Liberty, Nike and Bata.
(ii) Door to door selling as by Eureka Forbes.
(iii) Mail order selling, e.g., sale of books, medicines, etc.
(iv) Selling through the internet, e.g., sale of electronic products and health products.
(v) Selling through TV channels or sky shops.
Direct selling has gained popularity because of high costs of distributing the goods and services through middlemen. Direct selling is generally employed to sell industrial goods of high value to the industrial users and to sell consumer goods such as cloth, cosmetics, hosiery products and shoes. Small producers and producers of perishable commodities also sell directly to the local consumers.
Big firms (e.g., Eureka Forbes) adopt direct selling in order to cut distribution costs and because they have sufficient facilities to sell directly to the consumer. Under direct selling, all the marketing activities are performed by the producer or the manufacturer himself.
Under indirect channel, a producer sells his products indirectly to the consumers through middlemen.
A producer may use the services of any or all of the agents, wholesalers and retailers as discussed below:
(i) One Level Channel – Producer, Retailer and Consumer:
This is one stage distribution channel having one middleman i.e., retailer. Under this, the manufacturer sells to the retailers who in turn sell to the ultimate consumers. This channel of distribution is very popular these days because of the emergence of departmental stores, super markets and other big retail stores. The retailers purchase in large quantities from the manufacturer and perform certain marketing activities in order to sell the product to the ultimate consumer.
(ii) Two Level Channel – Producer, Wholesaler, Retailer and Consumer:
This is a ‘traditional’ two stage channel of distribution for the sale of consumer goods. There are two middlemen in this channel, namely, wholesaler and retailer. This channel is most suitable for the products with widely scattered market.
(iii) Three Level Channel – Producer, Wholesaler, Agent, Retailer and Consumer:
This is three stage channel of distribution under which a mercantile agent establishes a link between the wholesaler and the retailer. This channel is used where the wholesaler is not able to keep contacts with a large number of retailers.
Distribution Channels for Industrial Products:
The channels of distribution for consumer products are generally long, while channels for industrial products are short as retailers are not needed. Direct channel (i.e., zero stage) is very popular for selling of industrial products since industrial users place orders with the manufacturers of industrial products directly. Direct marketing of industrial products is generally followed in local markets and in cases the producers have facilities to dispatch the products to industrial users directly.
Big producers of industrial retailers make use of the services of mercantile agents and even wholesalers to distribute their products to the industrial users. They do because they want to concentrate on production and keep themselves fully free from the problems of distribution, or they do not have facilities for the distribution of their products.
2. Functions of Distribution Channels
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Channels of distribution help in the flow of goods from producers to consumers by creating possession, place and time utilities.
The channels or middlemen perform the following functions:
(i) Procurement and Sorting:
The wholesalers procure supplies of goods from a number of sources and the goods are often not of the same quality, nature, and size. For example, a wholesaler of cashew nuts may procure a large quantity from different cashew nut producing areas, which would contain nuts of varied quality and sizes. He will sort the nuts into homogeneous groups on the basis of the size and quality and pack them on the basis of quality specifications.
(ii) Accumulation:
The middlemen undertake accumulation of goods into larger homogeneous stock. This helps in maintaining continuous flow of supply.
(iii) Allocation and Packing in Convenient Lots:
Generally middlemen buy the goods in bulk and then they repack them in small lots. For example, wholesaler buys bags of 100 kg rice and then repacks it in convenient packs of 1 kg, 2 kg, 5 kg and 10 kg.
(iv) Assortment:
There is usually a difference between the products made by manufacturers and the assortment or combinations desired by the users. For example, a hockey player may need a hockey, a ball, gloves, helmet, sport-wear, and a pair of shoes. Perhaps no manufacturer produces all these products in desired combinations. Middlemen procure variety of goods from different sources and deliver them in combinations desired by the customers.
(v) Risk-Taking:
The merchant middlemen buy goods and thereby assume risks on account of price and demand fluctuations, spoilage, change of fashion, theft, etc.
(vi) Promotion:
Although promotion (advertising, sales promotion, etc.) of goods and services is done by the producers, middlemen also undertake some promotional activities like window display, demonstration, distribution of gifts, etc. to induce buying by the customers.
(vii) Price Negotiation:
Middlemen deal with manufacturers on the one hand and customers on the other. Arriving at deals that satisfy both the parties is another important function of the middlemen. They negotiate product price, quality, guarantee and other related matters with customers so as to win sales.
3. Intensity of Distribution:
The determination of number of middlemen to be employed or the intensity of distribution is an important problem after the choice of the channels of distribution.
In this respect, a manufacturer may use any of the three alternatives, namely:
(i) Intensive distribution;
(ii) Selective distribution; and
(iii) Exclusive distribution.
A manufacturer following the policy of intensive distribution tries to get maximum exposure for his product by having it sold in every outlet where final customers might possibly look for it. The policy of intensive selling is ordinarily adopted for the marketing of convenience goods such as tooth paste, soap, cosmetics and food products.
In other words, the products that the ultimate consumers wish to purchase at the most convenient location are distributed by intensive selling. In the field of industrial products, intensive distribution is generally limited to spare parts and other items of supply like small tools and lubricants. Intensive distribution is more successful if it is associated with large scale advertising by the manufacturer.
Selective distribution may be carried on both at the wholesale and retail levels. A manufacturer following selective distribution policy will choose only a few middlemen to handle his products. He will select only such middlemen who are likely to sell his products in large quantities. This policy can be more successfully adopted in case of speciality goods and accessories, for which most customers have a brand preference.
Selective selling increases the prestige of the product of the producer. It lowers the distribution cost and reduces credit risks. The manufacturer can achieve a good deal of control over the distribution of his products. He may require the dealers to display his products more prominently and to promote them aggressively than if the distribution were intensive.
Exclusive distribution refers to an agreement between the manufacturer and a middleman under which the manufacturer grants exclusive right to sell his product in the territory specified in the agreement to the particular middleman. The middleman acting as the exclusive dealer or agent does not handle the competitive goods.
Exclusive distribution policy leads to a restriction on the number of middlemen to a greater degree used in case of marketing of products which are speciality products, require installation or considerable investment in stocks and/or show rooms. For instance, automobile manufacturers appoint area-wise distributors to promote their sale and to keep the channel under control.
From the above, it can be concluded that intensive distribution is most suitable for maximum product exposure. If the manufacturer wants to deal with a limited number of middlemen in a given geographic region, he will opt for selective distribution. Exclusive distribution leads to a further restriction on the number of middlemen. There is only one dealer in a particular geographic region.
Selection of Middlemen or Intermediaries:
After having decided the number of middlemen or dealers to be appointed, a marketer has to select particular middlemen through whom he will distribute his products.
While selecting a particular wholesaler or retailer, the following factors should be taken into consideration:
(a) Location of the middleman’s premises;
(b) Financial position of the middlemen;
(c) Knowledge and experience of the middleman;
(d) Capacity of the middleman to promote sale;
(e) Ability of the middleman to render after-sale service;
(f) Willingness of the middleman to deal in the products of the manufacturer.
4. Strategic Relationship and Partnership
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The conventional marketing channel comprises independent producers, wholesalers and retailers. Each member of the channel has a separate identity and seeks to maximise its own profits. No channel member has complete or substantial control over the other members. When the effort of one channel member to maximize profits comes at the expense of other members, conflicts can arise leading to reduction in profits for the entire channel.
With the changing dynamics of the market, the pattern of distribution channel has undergone some important changes. All the channel members affect each other. Manufacturers don’t rein the marketing regime anymore.
Retailers have emerged as very strong players and are in a position to exert significant pressure on the manufacturers.
So there has been a shift toward more unified and integrated systems including “Vertical marketing system” and “Horizontal marketing system” which are discussed below:
(1) Vertical Marketing System (VMS):
A vertical marketing system is the result of failure of traditional marketing channels where each of the manufacturer, wholesaler, retailer is independent with separate identity seeking to achieve its own objectives – producer (maximize market share), wholesaler (to maximize sale), and retailer (to maximize profits with customer satisfaction).
Thus, conventional marketing system is a highly fragmented network of business persons who are loosely connected with each other. For example, retailer might wish to retain every substitute available on his shelf so that customer does not turn away out of his store. This might limit the shelf space available for a particular manufacturer whose purpose is to maximize market share of his product.
A vertical marketing system is a kind of integrated distribution system in which producer, wholesaler(s) and retailer(s) act as a unified system. They all cooperate with each other. The channel can be dominated by any of the three members of the system.
This system came into effect after the strong channel members’ attempt to control channel behaviour and eliminate the conflicts that result when independent channel members pursue their own objectives. It has become the dominant mode of distribution in the consumer marketplace in the USA.
There are three types of vertical marketing systems, namely:
(i) Corporate VMS;
(ii) Administered VMS; and
(iii) Contractual VMS.
These are discussed below:
This integrated system calls for combining the successive stages of production and distribution under single ownership. Although they are owned jointly, each member company in the chain continues to perform separate functions, i.e., production, wholesaling and retailing.
On the basis of the direction in which integration takes place, a VMS can be of forward integration type or backward integration type. Forward integration takes place when a producer or manufacturer takes the control of a wholesaler or a wholesaler takes the control of a retailer. Backward integration is a situation in which a wholesaler acquires the producer or a retailer acquires a wholesaler.
For example, an auto parts manufacturer might practice forward integration by purchasing a retail outlet to sell his products. Similarly, the auto parts supplier might practice backward integration by purchasing a steel plant to have control over the raw materials needed to manufacture its products. Bata and Woodland own their retail stores all over the country, Raymond owns both textile producing plans and the retail outlets. Other examples include Sears, Banana Republic. The Gap, etc.
In an administered VMS, one member of the channel is large and powerful enough to coordinate the activities of the other members without an ownership stake. For example, the producers of many leading brands are able to secure strong trade cooperation from the other channel partners (or members) in terms of shelf space, display and other support activities.
Under this system, various channel members cooperate through the size and power of one of the members. For instance, Amul, Parle, Dabur, P&G, Hindustan Unilever, etc. command highest cooperation from distributors and retailers regarding shelf space, displays, promotion, etc. Similarly, large retailers like Big Bazar and Wal-Mart can exert strong influence on the producers that supply them the products they sell.
Under this system, one channel member enters into contract with other channel members that ensures the smooth running and coordinated distribution system. In this system, one can find wholesaler-sponsored voluntary chains, retailer cooperatives, and franchise organisations.
Wholesaler-Sponsored Voluntary Chain:
Wholesaler sponsored voluntary chain is a group of retailers organised by the wholesaler. The wholesaler enters into a formal agreement with the retailers to use a common name and standardized facilities and to sell the wholesaler’s products. The wholesaler may even develop a line of private brands to be stocked by the retailers.
Single advertisement promotes all the retailers who will save on the advertisement costs. Independent Grocer Alliance (IGA) food store is a good example of wholesaler sponsored voluntary chain. True Value hardware stores also represent this type of arrangement. It has around 300 members across Canada.
Independent Grocers Alliance:
The Independent Grocers Alliance (IGA) was founded in 1926 when a group of 100 independent retailers in Poughkeepsie, New York, and Sharon, Connecticut, organized themselves into a single marketing system. This group quickly expanded and by the end of the year there were more than 150 IGA retailers.
The IGA operates as a franchise through stores that are owned separately from the title brand. The company uses the “Hometown Proud Supermarket” slogan. Today, many IGA grocery stores are located in smaller cities and towns throughout the United States.
IGA has expanding across the globe. Its Hometown Proud stores can be found all around the world. It has expanded into the world’s largest voluntary supermarket chain with more than 5,000 member stores.
The members of the retailer cooperative are member-owned businesses. In this type of contract, a group of retailers establishes a shared wholesaling cooperative organisation to help them compete with other retail chains. Retailers purchase ownership stake in the wholesaling entity and agree to buy a minimum percentage of their inventory from this entity.
The members typically adopt a common store name and develop common private brands. They share purchases, storage, shopping facilities, advertising planning and other functions. The individual retailers retain their independence, but agree on broad common policies.
Amul – The Unusual Saga of Retail Cooperative Movement:
The seeds of this unusual saga were sown about 65 years ago in Anand, a small town in the state of Gujrat in western India. The exploitative trade practices followed by the local trade lobby sparked off the cooperative movement. Angered farmers decided to get rid of middlemen and form their own co-operative, which would have procurement, processing and marketing under their control.
They formed their own cooperative in 1946. This co-operative, the Kaira District Cooperative Milk Producers Union Ltd. began with just two village dairy co-operative societies and 247 litre of milk and is today better known as Amul Dairy. The success of Amul could be attributed to four important factors.
The farmers owned the dairy, their elected representatives managed the village societies and the district union, they employed professionals to operate the dairy and manage its business. Most importantly, the co-operatives were sensitive to the needs of the farmers.
The then Prime Minister of India, Lai Bahadur Shastri decided that the same approach should become the basis of the National Dairy Development policy and in 1965 the National Dairy Development Board was set up with the basic objective of replicating the Amul model.
The Amul Model:
The Amul Model of dairy development is a three tiered structure with the dairy cooperative societies at the village level federated under a milk union at the district level and a federation of member unions at the state level. The Amul model has helped India to emerge as the largest milk producer in the world.
More than 13 million milk producers pour their milk in 1,28,799 dairy cooperative societies across the country. The milk is processed in 176 District Co-operative Unions and marketed by 22 State Marketing Federations, ensuring a better life for millions.
This is a type of contractual VMS in which a producer known as franchiser gives license to a wholesaler or retailer to distribute its products. The common contractual forms are manufacturer sponsored retailer franchise system (e.g., Ford) and manufacturer sponsored wholesaler franchise system (e.g., Coca Cola). The emerging form now a days is service firm sponsored retailer franchise system (e.g., McDonalds, Pizza Hut and Nirulas, Holiday Inn).
(2) Horizontal Marketing System (HMS):
Joining of two or more corporations normally dealing in unrelated or non-competing products on the same level for the purposes of pursuing a new marketing opportunity is known as horizontal marketing system.
Products from each member can be marketed and/or distributed together allowing the two companies to combine their marketing resources and accomplish much more than either one might accomplish alone. Corporations in a horizontal marketing system also have the option of combining their capital and production capabilities. Horizontal marketing system is also known as symbiotic marketing system.
Under Horizontal Marketing System, two or more businesses, which are otherwise unrelated, put together their efforts to exploit an emerging marketing opportunity. Thus, a customer can buy Wagon R from a Maruti Suzuki dealer and get it financed by HDFC Bank. The important point to be noted is that Maruti Suzuki manufactures cars. Car financing is not their business. But, Maruti Suzuki has joined hands with a financial institution which gives loans to the buyers.
Apple’s Tie Up With Starbucks:
Apple’s tie up with Starbucks can be cited as an example of HMS. Apple and Starbucks announced music partnership in 2007. The purpose of this partnership was to allow Starbucks customers to wirelessly browse, search for, preview, buy, and download music from iTunes Music Store onto their i-Pod touch, i-Phone, or PC or Mac running iTunes. Apple’s leadership in digital music together with the unique Starbucks experience synergized a partnership to offer customers a world class digital music experience.
Apple benefits from this partnership with higher iTunes sales because Starbucks has a lot of loyal customers who have time to visit, relax and enjoy the unique Starbucks experience. When Apple first introduced its iTunes Music Store, it hoped to sell one million songs in six months, but to the surprise of everyone, Apple sold one million songs within six days of the launch of iTunes Music Store.
With such loyal online music customers, Starbucks benefits from increase in market share and stronger customer loyalty. This example demonstrates how two unrelated companies can join forces to exploit a new market opportunity.
A vertical marketing system, by contrast, comprises the producer, wholesaler and retailer acting as a unified system. One channel member owns the others or franchises them (for example, Coca-Cola company gives licenses and controls the operations through supply of ready-made formula mixes), or has so much power that they all cooperate (For example, Bata, Liberty, BPL Gallery, Onida Arcade, Philips dealers).
In this case, the producer outsources the delivery of goods to a company which specialises in the delivery of goods. Thus, the manufacturer does away with investment in logistics and concentrates on the other functions. For example, Godrej locks manufactured in Vikhroli (Mumbai) are delivered through ACE, the door-to-door cargo division of the courier company, Airfreight Ltd.
Multi-Channel Marketing System (MMS):
The origin of MMS can be traced to the need of the manufacturer to satisfy customers and earn profits. This can be achieved directly (by direct selling) or indirectly (through channel members). Thus, Raymond sells its products at its chain stores as well as its factory premises. But, Philips does not sell directly to the customers. Even if a customer goes to the company, it redirects the customer to purchase its products from the authorised dealers.
The MMS has several advantages:
(i) Increased Market Coverage:
The products can reach a place where channels don’t exist. For example, Bata may not be able to open its showrooms in rural areas because of cost consideration. If its shoes are available even there, then customer has the choice to buy Bata. Thus, not only through showrooms or authorised dealers, the product can be made available through retailers who keep various brands.
(ii) Lowest channel cost is involved in distribution.
(iii) More customised selling because the company directly deals with the customer and therefore product can be made available as per customer-specific requirements. At the same time, the manufacturer sells through different authorised dealers, showrooms/wholesalers the standardised products which need no specific modification.
5. Distribution Channel Conflict:
Every organization wants to control the distribution channels for the successful delivery of products. However, the control over the distribution channel is not possible due to limited resources, such as human resource and capital available with each channel member.
Distribution channel conflicts are of three types – vertical, horizontal and multichannel.
These conflicts are discussed in the following points:
i. Vertical Channel Conflicts –Arises when two or more channel members compete for the same market share and operate at different levels of distribution.
ii. Horizontal Channel Conflict- Arises between the channel members at the same level of distribution channel. They compete in the same market.
iii. Multichannel Conflict – Exists when a manufacturer takes the help of two or more channels to reach the customers. For example, a manufacturer sets up a showroom as well as factory outlets.
There are various causes of distribution channel conflicts, which are as follows:
a. Arises due to the incompatibility of objectives and goals of different channels
b. Arises due to ambiguity in the roles and responsibilities of different members of the channel
c. Arises when the market is same for the manufacturer and channel members.
Conflicts are not always harmful for the distribution channel members. They can be managed at a moderate level by taking corrective measures.
Following are the ways to manage distribution channel conflicts:
i. Negotiation – Refers to a discussion between the conflicting parties on issues related to the distribution of products.
ii. Persuasive Mechanism – Refers to taking advice from the third party to resolve conflict. The third party can be an individual or an organization.
iii. Legalistic Strategy – Refers to the legal actions that can be taken to resolve the conflict.
iv. Cooperation and Coordination – Refer to assistance and support among the distribution channel members to achieve the goals of distribution channels.
6. Distribution – Channel Strategy:
The following are the factors that influence the choice of distribution channel by a business:
1. Market Factors – Nature and Extent of Market:
Selection of distribution channels depends of various market variables like number of customers, volume of goods purchased by customer, size of market and income level of customers. When demand is in bulk, customer directly purchases it from manufacture. Intermediaries are often best placed to provide servicing rather than the original producer like in industries companies’ supplies their products directly. Another important factor is intermediary cost. Intermediaries typically charge a commission for participating in the channel.
2. Producer Factors:
Channel selection also depends on objectives of producers if they want better control over market they should go for direct distribution, for market expansion objective they would require extensive distribution. Producers may also feel that they do not possess the customer-based skills to distribute their products. Many channel intermediaries focus heavily on the customer interface as a way of creating competitive advantage.
Another factor is the extent to which producers want to maintain control over how, to whom and at what price a product is sold. If a manufacturer sells via a retailer, they effectively lose control over the final consumer price, since the retailer sets the price and any relevant discounts or promotional offers.
3. Product Factors:
Nature of product also determines the selection of channel. FMCG require extensive flow whereas luxury car require exclusive distribution channel selective. Most of heavy machinery and industrial product are directly supplied by producers. Whereas perishable products like milk, bread, vegetables require relatively short distribution channels.
4. Cost of Distribution:
It is an important consideration, the longer the channel of distribution greater is its cost, to have own sales force is more economical and involve less financial commitment when prospect customers are less. A manufacturer has to provide a margin to distributor which will either reduce profit of producer or increase the cost to the buyer.
7. Members of Distribution Channel:
The organizational activities, such as order taking, product delivery, and customer service are carried out by distribution channel members. The marketers conduct the value analysis of channel members to select the best one.
The marketers should measure the benefits received from channel members and the cost incurred for using the services, such as carrying and delivering.
The distribution channel consists of various members, which are as follows:
i. Agents/Brokers:
They buy products from manufacturers and break the lot size according to the requirements of wholesalers. The agents and brokers are very important intermediaries for international marketing and export. In some cases, they directly reach the end users to sell products and services. For example, placement consultancies and online matrimonial sites are the agents/brokers.
ii. Wholesalers:
They buy the products either from manufacturers or agents and sell them to retailers. The wholesalers purchase products in bulk. They play a very important role in making the products available in the market. The wholesalers can follow unethical practices, such as hoarding.
iii. Retailers:
They buy the products from the wholesalers, agents, or manufacturers and sell them to end users. They directly interact with the end users. In some cases, they add value to the products and resell them. There are several retail chains that are owned by the manufacturers themselves. India has the maximum number of retailers in the world.
8. Significance of Channel Decisions
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The choice of channels, through which the product will be distributed, is an important area of decision-making in marketing management. Channel decisions refer to the managerial decision on the selection of the very suitable channel for distribution of goods from the producers to the users.
The important reasons which place channel decisions in the area of policy decisions area are as follows:
(i) Influence as Other Marketing-Mix Variables:
The channels selected for the firm’s product affect every other marketing decision like pricing, promotion, physical distribution, etc.
(ii) Part of Price:
The cost involved in the use of trade channels enters the price of the product that the ultimate consumer has to pay. If the costs of trade channels are very high, the firm may draw public criticism.
(iii) Long-Term Implications:
The channels chosen involve the firm in long-term commitments to other firms or middlemen. The relations between the manufacturer and the middlemen depend mainly on the choice of appropriate channels of distribution. Therefore, it is necessary that channel decisions are taken with great care.
(iv) Degree of Channel Control:
If the choice of channels is proper, fluctuations in production may be reduced. The manufacturer can obtain data regarding sales and stock of the middlemen and exercise control wherever he feels necessary. The stability of production will help to ensure steady employment and proper budgetary control.