4-1

Marketing Channel Strategy

Chapter 4
Make-or-Buy Channel Analysis

Marketing Channel Strategy © 2015 by Pearson Education

 Agenda
4-2

 Vertical Integration
 Costs and Benefits of Make-or-Buy
Channels
 Payment Options for Buying Market
Channels
 Make-or-Buy Channel Options

Marketing Channel Strategy © 2015 by Pearson Education

 Vertical Integration
4-3

 Vertical integration is when one organization

does all the work (production, sales,
inventory, credit)
 Forward or downstream – a manufacturer
integrates the distribution function
 Backward or upstream – a distributor or retailer
produces it’s own branded source of product
 Outsourcing is when an organization decides
to buy the services from a third party

Marketing Channel Strategy © 2015 by Pearson Education

 Degrees of Vertical Integration
4-4
Buy Make
Classical Market Quasi-Vertical Vertical
Contracting Integration Integration
(Relational Governance)

Third Party Does it How does the You do it

(for a price) the work get done

Their people Your people

Their money The costs Your money
Their risk Your risk
Their responsibility Your responsibility
You and third party
share costs and
benefits

Their operation (control) The benefits Your operation (control)

Their gain or loss Your gain or loss

Marketing Channel Strategy © 2015 by Pearson Education

 Continuum of Vertical Integration
4-5

 “Buy” is endpoint of the continuum

 Every function is outsourced
 The manufacturer-distributor arrangement involve no
sharing, no distinctions, and no continuity
 Relational governance or “quasi-vertical”
integration
 Implies a compromise, in which the channels have
some properties of both owned (make) and
independent (buy) channels.
 Close and committed relationship

Marketing Channel Strategy © 2015 by Pearson Education

 Institutions Performing Channel
4-6
Functions
Classical Market Quasi-vertical Vertical
Function Contracting Integration Integration

1) Selling (only) Manufacturers’ “Captive” or Exclusive Producer Sales

Representatives Sales Agency * Force (direct
sales force)

2) Wholesale Independent Distribution Distribution

Distribution Wholesaler Joint Venture Arm of Producer

3) Retail Independent Franchise Company

Distribution (3rd party) Store Store

* Operationally, a sales agency deriving more than 50% of its revenues from one principal

Marketing Channel Strategy © 2015 by Pearson Education

 Agenda
4-7

 Vertical Integration
 Costs and Benefits of Make-or-Buy
Channels
 Payment Options for Buying Market
Channels
 Make-or-Buy Channel Options

Marketing Channel Strategy © 2015 by Pearson Education

 Costs and Benefits of Make-or-
Buy Channels
4-8

 Costs
 Manufacturer assumes all the distribution
costs
 Often the costs and risks are underestimated

 Benefits
 Control which is beneficial if the firm’s
managers exploit it to improve their desire to
control the operation
 Opportunity
Marketing Channel Strategy © 2015 by Pearson
Education
 Manufacturers Moving to
Downstream Operations
4-9

 IBM and General Electric: two well known

capital equipment manufacturers have both
moved into downstream operations
 Diminishing appeal of manufacturing as a business
opportunity
 Tough competitive demands
 Capital equipment earns most profits not though sales
but in maintenance
 By integrating downstream, they tap into a
steady stream of maintenance contracts for the
the products they manufacture
Marketing Channel Strategy © 2015 by Pearson Education
 Examples of Vertical Integration
Forward: Harder Than It Looks
4-10

 Allianz, a German insurance company acquired

Dresdner, a prominent investment bank.
 Allianz had no knowledge investment banking
 Investment banking fundamentally does not fit with
insurance
 Manoukian, a French manufacturer of knitwear
for women developed an ambitious growth
strategy to transform itself into a full-line clothing
maker, but customers failed to appreciate the
distinctions of the product lines and just wanted
the least expensive products
Marketing Channel Strategy © 2015 by Pearson Education
 Agenda
4-11

 Vertical Integration
 Costs and Benefits of Make-or-Buy
Channels
 Payment Options for Buying Market
Channels
 Make-or-Buy Channel Options

Marketing Channel Strategy © 2015 by Pearson Education

 Payment Options for “Buying”
Market Channels
4-12

 Three most common

 Margin
 Commission

 Royalty

 Other variations
 Lump sum or flat fee
 Functional discount

 Future consideration

Marketing Channel Strategy © 2015 by Pearson Education

 Agenda
4-13

 Vertical Integration
 Costs and Benefits of Make-or-Buy
Channels
 Payment Options for Buying Market
Channels
 Make-or-Buy Channel Options

Marketing Channel Strategy © 2015 by Pearson Education

 Make-or-Buy Channel Options
4-14

 The buying perspective

 Return on Investment is the primary criteria
 Revenues – Direct Costs = Net Effectiveness =
Efficiency
Overhead Overhead
 Two situations which might bar vertical
integration regardless of of ROI
 Firm lacks and can’t obtain the resources
 Firm has other priorities which contribute more to ROI
and exhausts its capabilities

Marketing Channel Strategy © 2015 by Pearson Education

 Six Reasons to Outsource
4-15
Distribution
 Motivation: both positive (profit) and negative (fear of loss)
provide incentives for good performance
 Specialization: all they do, no distractions
 Survival of the economic fittest: failure will result if they fail to
perform their functions better than competition
 Economies of scale: pooling demands from several
manufacturers to provide marketing channel functions
 Heavier market coverage: an external third party can call on
many, smaller customers more frequently
 Independence from any single manufacturer: diversified
outside providers can provide impartial advice

Marketing Channel Strategy © 2015 by Pearson Education

 Two Categories of Distribution
Capabilities
4-16

Customer Idiosyncratic
Physical Knowledge
Facilities

Tangible Intangible
Capabilities Capabilities

Customized
Site Dedicated Physical Relationships
Specificity Capacity Facilities

Marketing Channel Strategy © 2015 by Pearson Education

 Intangible Capabilities
4-17

 Idiosyncratic knowledge: can not be readily redeployed

to another principal
 Relationships
 Connections between distributor personnel and the
personnel of the manufacturer’s customers
 Implies an ability to get things down quickly, correctly and
effectively
 Brand equity: manufacturer’s brand name
 Private-labels used by supermarkets in North American &
Europe
 Loblaw: a Canadian grocery store chain maintains
research and development so that they can design
new products for their customers. (ie Decadent
cookies)
Marketing Channel Strategy © 2015 by Pearson Education
 Tangible Capabilities
4-18

 Customized physical facilities

 An important transaction-specific asset can be the actual
physical facilities.
 Ex. Amazon

 Dedicated capacity: when distribution capability

(e.g., warehousing, transportation, selling, billing)
has been created to serve a particular manufacturer
 Site specificity: a manufacturer may need marketing
channel functions at a specific location, which may
be less suited to the needs of other manufacturers

Marketing Channel Strategy © 2015 by Pearson Education

 Environmental Uncertainty Affects
Vertical Integration
4-19

Highly Volatile Market

Low Specificity High Specificity

Outsource Distribution Highly Promising Less Promising

to Retain Flexibility Market Market
Until Uncertainty Is
Reduced

Vertically Integrate Do Not Enter

to Gain Control Over
Employees And Avoid
Small-Numbers Bargaining
In Changing Circumstances

Marketing Channel Strategy © 2015 by Pearson Education

 Other Reasons for Vertical
4-20
Integration
 To reduce performance ambiguity
 Relates to the failure of information
 The manufacturer cannot discern the level of
performance it is receiving
 To learn from customers
 Operations in another part of the value chain provide
a window into the market, therefore a way for the
manufacturer to learn
 Luxottica purchased Lens Crafters to gain knowledge

Marketing Channel Strategy © 2015 by Pearson Education

 Retailer Often Lose Focus by
Integrating Backward
4-21

 Intermarche is a large French grocery retailer,

organized as an association of independent
grocery store owners
 It was one of the first French grocers to
integrate backward into food production
 Intermarche’s vertical integration backwards
consumed management attention at at time
when the core business, retailing, clamored for
a return to the basics

Marketing Channel Strategy © 2015 by Pearson Education

 Takeaways
4-22

 Creating a relationship is a way to compromise

between making and buying
 Integrating forward or backward is difficult and
key questions need to be answered
 Outsourcing is the right point to benefit from the
six fundamental advantages of an outside
specialist
 If conditions exist that prevent the firm from
benefiting from these six advantages, vertical
integration (or a close relationship) is called for

Marketing Channel Strategy © 2015 by Pearson Education