Ten Ways for Manufacturers to Improve Distribution Management Kenneth G. Hardy and Allan J. Magrath Le Kenneth G. Hardy is a professor of busi- ness administtion at the University of Westem Ontario, London. Allan J. Mar ath is director of marketing seriges for fhe Canadian headquarters of a Fortine 500 multinational company, also in Lone don. The two co-authored “Aveiding the Pitas in Managing, Distbution Chan nel," in the September-October 1557 Is- Sue of Busines Florio. Manufacturers lean more on channels of distribution to make their products avail- able in today’s broadening and maturing markets. “Walking a mile in the channel partner’s shoes” may be the first place to start in building a smooth and profitable relationship between manufacturer and re- seller. Ihe key to building market share? Strong management of distribution channel networks has brought success to many manu- facturers. Hallmark reigns over the greeting card market in large part be- ‘cause of its finesse in leveraging card sales via thousands of retail outlets; Steelcase’s strong dealer network is envied by its competitors in the office- furniture business; and most makers of personal computers desire the sta- bility and strength of IBM's. Value Added Reseller (VAR) network. Such distribution systems provide cost-effective and responsive market coverage and serve as excellent pipe- lines for the rapid launching of new products. Because of Kodak’s proven ‘merchandising clout, retailers of small batteries readily accepted its new lith- ium battery line. Frito-Lay can launch anew snack food entry and gain pre- rium shelf space because ofits strong, track record in channel management. More and more firms consider their Copyright © 2001 All Rights Reserved ‘marketing channels to be strategic as- sels that can provide a sustainable edge over competitors who copy their product designs, duplicate their qual- ity, and undersell them on price. This recognition of the key strategic role played by resellers is occurring at a time of changing relationships in many channels, Specialized retailers such as the Limited, Nordstroms, Toys R Us, Southland, and others are gaining in strength and joining the ranks of the Kmarts and Sears. New channels of distribution are emerg- ing—wholesale clubs, factory outlets, electronic shopping channels, fran- chises of all sorts, direct marketing ‘operations, and hybrid channels such as the Sears Financial Network. At the wholesaler/middleman level, na- tional distributors such as Avnet, Bearings Inc., W. W. Grainger, and MeKesson are also growing into For- tune 500-scale corporations. The as- tute manufacturer must learn to operate in the midst of changingBBasiness Horizons / November December 1988 “I the primary task of the reseller is to arrange sales, not to inventory products or to bill and ship to customers, then an agent or broker is a more logical choice than a full- function distributor with a warehouse.” power relationships that demand in- novative methods of market cover age, CHANNEL MANAGEMENT PRACTICE Greer practices concern strategies based on an understanding of chan- rel dynamics and the willingness to keep channel policies and tactics rel- evant over time. ood channel managers share 1. Set definite marketing objec- tives and clearly communicate mar- keting strategy to all channel ‘members. In 1983, IBM executives de- cided they would have to use indirect channels rather than their own sales force to establish their personal com- puters in multiple markets. To reach such distinct vertical markets, they directed various resellers to target dif- ferent end users, from professionals such as doctors and lawyers to banks, insurance businesses, and hospitals. They also limited their total resellers to a fixed upper limit (2,500 in the USS, to keep strong the ability of dealers to develop and grow with their line of PCs. IBM's strategy and tactics reflected its goal of obtaining market coverage in a developing mass mar- ket at a reasonable cost with some measure of channel control. The com- pany has been quite successful; large customers can buy direct, while smaller, more dispersed customers buy from distribution channels. Large customers get low prices but must in turn buy large quantities to qualify for direct sale. Smaller customers buy at higher prices but receive ready local availability and no minimum pur chase criteria. For medium-sized ac- counts, IBM has had to fine-tune its strategy to balance direct and indirect sale in ways that encourage fair com- petition between its own sales force and its resellers. Wang, another PC manufacturer, has not enjoyed IBM’s success with distribution; its lackluster dealer re- lations and minimal dealer network strength directly result from its vac- illating market positioning, It pur- sued the reseller channels ater than its competitors and expressed its commitment to dealers in empty words rather than consistent actions. For example, Wang stated its desire to move its indirect business from 12 percent of sales to 50 percent. Yet, in 1985 it lowered the sales commission rates of its sales force for sales made jointly with its dealers—rates below that for sales made directly by the sales force. Naturally, in an organization with 88 percent of sales in a direct channel, Wang's own sales reps be- gan to compete with, rather than co- operate with, their resellers. Some Wang dealers even filed lawsuits be- cause of this policy. Itis now difficult for Wang to rebuild its channel rela- tionships by offering its dealers pro- grams to target specific markets (as, IBM has done), because a residue of dealer ill-will still exists towards its direct sales operation. Obviously, any firm that wishes to enlist channel sup- port must communicate its marketing Copyright © 2001 All Rights Reserved vision consistently, in words and in behavior. 2. Base channel arrangements and policies on a thorough market anal- ysis and understanding of key trade~ offs, such as coverage versus costs. Estée Lauder, the cosmetics manu- facturer, knows that in order to ex- ercise control over its product-line image, it must follow a policy of ex: clusive distribution in a limited chan- nel (department stores). It also leases space from the stores in an arrange- ment that provides for maximum in- store display and presentation of its cosmetics lines. Estée Lauder recog- nizes the somewhat specialized na- ture of its products and the fact that its target customers will shop for its cosmetics only as long as its products are distinctively positioned. The mass, distribution of competitors such as Noxell (Cover Giel) would be inap- propriate for Estée Lauder. ‘After a thorough market analysis, some firms opt for a mixed channel strategy. Goodyear uses a wide va- riety of different channels for its tires, each with its own cost versus cover- age trade-off. One distribution arm is, its own retail stores, a high-cost and limited-coverage channel, Italso mar- kets tires via franchises—in Goodyear Go Centers. This channel provides broader coverage (more outlets) than its own stores and costs less to sup- port and nourish. Goodyear’s least costly channel is its network of in- dependent tire dealers who sell its tires as well as those of many of its competitors. This low-cost channelprovides mass coverage because thousands of such outlets exist, but Goodyear has little control over such independents. Clearly this mixed channel strategy is based upon Good- year’s desire to cover all segments with varying tire and servicing needs across America. Successful firms such as Goodyear and Estée Lauder have taken a hard look at their channel arrangement trade-offs, fitting channel plans to their chosen customer targets and preferred marketing image. 3. Determine the division of tasks between supplier and middleman. A manufacturer should separate its own distributive tasks from those that it will share or delegate to its channels, of distribution. Having a clearly de- fined task set for distribution allows a firm to utilize either limited-func- tion or full-function middlemen. If the primary task of the reseller is to ar- range sales, not toinventory products or to bill and ship to customers, then an agent or broker is a more logical choice than a full-function distributor with a warehouse. If after-sales ser- vice support by the middleman is crit- ical, only channels that provide installation, repair, and operator- training services make sense. Task definition is also critical be- cause it provides the basis for a review of the middleman’s per formance. Reviews allow the manu- facturer and reseller to set up support systems that mutually reinforce ex- cellent performance of both distribu- tive functions. Building synergistic distribution programs can only occur, however, ifthe manufacturer and dis tributoriretailer agree on who's sup- posed to do what in the marketplace. Only then does the manufacturer's marketing and selling actually sup- plement and leverage the efforts ofits distributors. For example, Fansteel \VR/Wesson Metalworking, a manu- facturer of milling cutters, endmills, toolholders, and inserts, was con- cemed that its industrial distributors ‘were not as technically proficient at selling its products to machinists in small-and medium-sized accounts as, these tool shops required. Distributor reps provided excellent order turna- round, delivery, and sales advice on ‘Ten Ways for Manufacturers ‘standard items but lacked the confi- dence necessary to handle the ma- chinists’ needs on complex, technical products. Fansteel did not have the sales resources to handle both its large accounts and the multitude of small and medium accounts; accordingly, it structured a coordinated program with its distributors to improve the reps’ comfort level on complex prod- ucts. The program consisted of self study training courses custom-de- signed for distributors; joint-call blitzes on machine shops with Fan- steel reps accompanying, distributor reps; newsletters reporting success stories circulated among distributors’ reps; and redesigned, more easily ref- erenced technical catalogs. Fanstee!’s marketing manager summed up the process this way: Welearned ... that the program has to build on the strength of both the distributors and the company, making each respon- sible for the things they are best equipped to perform. That may sound obvious, but too many times it’s easy to pay lip-service to the obvious, without actually implementing it Clearly, defining channel tasks is a crucial step in settling on priority tac- tics that will help ensure task effi ciency. 4, Understand the partner's view of the world and its profit-making formula. Appeal to the channel part ner's self-interest to accomplish your own goals. A distributor or retailer makes money by astute gross-margin ‘management, optimization of inven- tory ttims, and disciplined expense controls. With distributors, expenses ‘may be incurred by field or inside sales forces, warehousing, delivery, and credit extension to customers. Retail- ets’ costs often relate to investments in space for key locations, retail de- cor, stock, and information systems. ‘Any manufacturer that can improve the profit formula of its resellers on margins, turns, or expenses will find its influence over resellers markedly higher than ifits programs are totally self-centered. In some retail businesses, new in- Copyright © 2001 All Rights Reserved Improve Distribution Management formation systems improve profitfor- mulas and require retailers to form closer partnerships with suppliers. Firms such as Levi Strauss, Haggar Apparel, and Arrow Shirt have worked hand-in-hand with retailers like Montgomery Ward, J.C. Penney, and Kmart to develop computerized order processing-inventory manage- ment systems that link retailer and supplier. Such systems have helped retailers generate faster reorders on best-selling lines and allowed them to accept shipments on a just-in-time ba- sis, improving cash flow and reduc- ing net inventory investment per dollar of sales. The ability of in-store ‘cash registers to instantly feed back sales data to suppliers also improves the retailer's sales-forecasting relia- bility, reducing merchandise margin erosion caused by markdowns. “Walking, a mile in the channel part- ner’s shoes” can be a very creative way of generating innovative channel strategies. 5. Examine the actual balance of power among channel members and pursue realistic options. The balance of power often shifts within market- ing channels, both between manufac- turers and resellers and between types of resellers. Large retailers can strongly affect a manufacturer's abil- ity to direct its sales through certain middlemen. Independent -manufac- turer's agents (also termed manufac- turer's reps) have lost clout in many markets because retailers are bypass- ing them and forcing manufacturers to deal directly with retailers. Reps have been cut out of the channel pic- ture by Wal-Mart, Cataloger-Finger- hut, Kmart’s Builders Square, and other chains. ‘A manufacturer that blindly sets policies, ignoring the power dimen- sion, often lives to regret it. Kroy In- corporated, makers of lettering machines, in 1982 attempted to drop its network of 1,000 dealers and sell machines directly from company- ‘owned sales branches with its own sales force. Its former dealers quickly signed with competitors and worked successfully against Kroy. As Kroy’s sales growth slowed, its high-cost, rect sales organization became a se- vere drag on profits. Kroy eventually 768 Business Horizons / November-December 1988 “Manufacturers who anticipate channel problems can alter their tactics and train their field selling organization to keep conflict from getting out of hand.” had to close more than 50 percent of, its sales branches and lay off over one- third ofits sales reps. This expensive lesson on the balance of power could have been avoided if Kroy had objec- tively assessed the hold its independ- ent dealers had in their respective local markets. Kroy has re-enlisted many of its former dealers and is now spending as much time as possible repairing its severely damaged rela- tion: 6, Ensure that margins and other supports equitably reward partners for performing distributive func- tions. If the costs to a reseller of carrying a producer's inventory, dis- playing, promoting, assorting, sell- ing, delivering, and handling accounts, receivable amount to 24 percent of the selling price for an item, then a sup- plier offering the reseller only a 20 percent margin will not be a favored supplier for very long! In fact, in all likelihood the reseller will begin to cut back its stocking levels and number of lines to shift inventory-holding, costs back to its manufacturing sup- pliers. This typical response toa mar- gin squeeze tends either to push producers into selling exclusively di- rect or further cutting the reseller’s margin. Inequitable margin struc- tures can spark a sequence of nega- tive moves and countermoves. Manufacturers should make objec- tive assessments of the functions per- formed by resellers on their behalf and the likely costs incurred. If a reseller is truly failing to perform agreed-upon functions, the manufacturer should then consider channel sanctions or al ternative arrangements. Ina majorsurvey of office furniture dealers, a common complaint was that manufacturers assigned costly dealer functions without providing ade- quate compensation. Sometimes manufacturers assist dealers in low- ering their costs of holding inventory through quick-ship programs, or shipping in knock-down form to lower freight costs. In a case where a man- ufacturer feels that a reseller is not earning its margins, one solution is to build a ladder of discounts based upon the distributor's proficiency in some key aspect of its functional perform- ance. For example, the distributor might receive 110 percent of the nor- mal discount if its personnel have passed proficiency tests in selling or servicing the producer's equipment, It is critical that the manufacturer forthrightly assess the pattern of mar- gin and function sharing with its appointed resellers and redress in- adequate margin-splitting by insist- ing on higher performance standards or by working with resellers to lower their costs. 7. Predict and contain conflict within channels. Since 1980, Rubber- ‘maid has increased distribution for its products from 60,000 outlets to 100,000. Such an increase in distri- bution can generate conflict between resellers because more middlemen gain access to a given brand. Know- ing this, Rubbermaid improved its co- op advertising plans and increased its retailers’ margins to motivate the new Copyright © 2001 All Rights Reserved channels to add its brands even though the market was mature and competition in housewares was in- tense. Its decision to almost double distribution intensity to gain market share was not out of the ordinary; many companies follow the same strategy. What was commendable was Rubbermaid’s sensitivity to. the heightened conflict that it created and its thoughtful response, ensuring that all its retailers continued to list and promote its brands. This positive re- sponse has helped double sales and triple after-tax profits since 1980. A variety of conflict-mitigating tac- tics exist for any manufacturer who is constructing plans for distribution; one is to provide competing resellers with different brands, Hallmark, for example, sells its Hallmark card line in upscale department stores and its ‘Ambassador card line in discount stores. To minimize conflict between different dealers selling identical products on the same street, Audio Products International has success- fully sold more than 10 different brand-name speakers in America over a 12-year period. Other methods of managing conflict include partition- ing markets between resellers; delin- cating direct sales policies to clarify potential conflict over large accounts; negotiating territorial issues between regional distributors; and providing, recognition to certain resellers (mas- ter distributors) for the importance of their role in redistributing to others. Manufacturers who anticipate chan- ‘nel problems can alter their tactics and train their field selling organization tokeep conflict from getting out of hand. 8, Help sales reps develop skills in working with middlemen. The successful execution of a marketing program often depends on a sales force's credibility with dealers, dis- tributors, or retailers. In a study of 216 sales promotions, one key success factor was the ability ofthe sales force to sell the retail buyers on the pro- ‘motion’s merits and then to follow up solidly in execution, Manufacturers’ sales forces play a variety of roles for their resellers. Salespeople must be teachers about markets and products; reviewers of the reseller’s performance to quotas; ambassadors selling the dis- tributor on company policies and support programs; ombudsmen straightening out the inevitable mix- ups that occur between themselves and their resellers; and working part- ners making joint sales calls with dealer reps to key customers. Sales reps should be trained for each of these roles One of the best ways that manu- facturers can train their new reps to deal with middlemen is to insist that their “rookies” learn from an old pro by serving an apprenticeship in a vet- ‘eran sales rep’s territory. Sales force synergy between resellers and sup- pliers isa powerful leverin improving, overall channel performance. 9. Audit channels to ensure that they remain viable and robust path- ways to markets. PepsiCo has altered its distribution channels to stay in tune with the growth channel for soft drinks. As more and more meals are consumed away from home, Pepsi cannot depend solely on mainstream bottled product distribution, such as food or convenience stores. So Pepsi bought a number of fast food out- lets—Taco Bell, Pizza Hut, and Ken- tucky Fried Chicken—whose food sales are natural complements to Pepsi fountain sales. Bausch and Lomb, a leader in the sales of contact lens ‘Ten Ways for Manufacturers to Improve Distribution Management leaning solutions, has aggressively pursued food stores in addition to tra- ditional drug store channels, because widespread use of contact lenses has necessitated mass distribution of s0- lutions. Not only must a supplier jump across to new channels as markets ‘mature and customers look for wider product availability, but it must also bbe wary of channels that lose distri- bution vitality. New channels emerge constantly; others decline. For ex: ample, wholesale clubs are a new thriving channel in America, but cat alog showroom stores are declining. ‘The manufacturer that knows when to jump across to new channels and de-emphasize dectining ones will out- perforin its rivals who lack such dis- tribution smarts. Movie studios in Hollywood have shown distribution moxie when faced with decreasing demand for their films in theaters (due to attendance drops). They have jumped into movie production for three new distribution paths—prime- time television, pay television, and videocassette sales and rentals. 10, Treat channels of distribution as strategic assets and constantly seek ways to utilize them in creating a sus- tainable competitive edge. Interstate Bakeries markets Dolly Madison pas- tries and regional brands such as Mill- brook and Butternut bread. After losing over $4 million on $708 million in sales in 1984, by mid-1987 the com- pany was making a $13 million profit on $729 million in sales. Much of its tumaround was directly attributable to its recognition of how it could ex: ploit its 3,050-mile truck route dis- tribution system. Via license and ac- quisitions interstate Bakeries began to acquire other brands that fit its cur- rent delivery systems. It added higher- margin products such as pecan rolls, cookies, cakes, and pudding pies into its distribution system and turned around its static growth and declining profitability Copyright © 2001 All Rights Reserved Federal Mogul, a manufacturer of beatings, pistons, and sealers, views its distributor network as a strategic sales asset. Through electronic links between manufacturer and reseller, Federal Mogul distributors can scan the supply stock status of Federal’s 16,000 parts in its 43 U.S. branches. This information system linkage is a big boost to both Federal and its dis- tributors. Distributors’ access to stock status data allows them to make bet- ter decisions about whether to switch customers to equivalent substitutes when parts demanded are not in stock, Federal gains by being better able to allocate slow-moving inven- tories between its various branch lo- ations. Restructuring channels of distri- bution is also possible through buy- ing groups. Groups of either retailers or wholesalers band together to ex- ercise both greater buying clout with suppliers and greater merchandising clout with consumers. Groups such as Cotter and Company (parent of True Value Hardware) are creating dramatic changes in distribution of hardware, drugs, food, and appli- ances. In many markets these buying groups have given a needed shot in the arm to independents, who by joining the groups acquire profes- sional marketing and purchasing help and lower merchandise cost. jrms that understand and ex- ploit distribution channels for the pursuit of new customers or efficiencies have great power in to- day’s marketplace. Managing mar- kketing distribution systems often calls, for the wisdom of Solomon and the guile of Machiavelli. Mastering and understanding the ten principles dis- cussed here is the first step toward improving the always challenging de- cision process in distribution channel management. 1 6