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Distribution Channel Management

Supply Side Channel Analysis:Channel Flows and Efficiency Analysis

Chapter 3

Chapter 3 Outlines

• Be able to define the eight generic channel flows that characterized costly and value-added channel activities.• Understand how the efficiency template helps codify channel flow performance by channel and channel participant.• Understand the role of channel flow allocation in designing a zero-based channel.• Understand how channel flow performance leads to appropriate allocation of channel profits among channel members using the equity principle.• Be able to place the channel flow analysis in the overall channel audit process.• Know how to use the efficiency template with little available information.

Learning Objectives

Channel FlowsThe meaning of Channel Flows“The activities or functions that produce the service outputs demanded by end-users”

Eight Generic Channel Flows

FIGURE 3-1: MARKETING FLOWS IN CHANNELSFIGURE 3-1: MARKETING FLOWS IN CHANNELS

The arrows above show flows of activity in the channel (e.g. physical possession flows from producers to wholesalers to retailers to consumers).

Channel FlowsEvery flow not only contributes to the production of valued

service outputs but also carries an associated costs.

Marketing Flow Cost RepresentedPhysical possession Storage and delivery costsOwnership Inventory carrying costsPromotion Personal selling, advertising, sales promotion,

publicity, public relations costs, trade show costsNegotiation Time and legal costsFinancing Credit terms, terms and conditions of sale Risking Price guarantees, returns allowances, warranties,

insurance, repair, and after-sale service costsOrdering Order-processing costs

Payment Collections, bad debt costs

TABLE 3-1: CDW’S PARTICIPATION IN VARIOUS CHANNEL FLOWS

Channel Flow CDW’s Investment in Flow

Physical possession

(a) CDW has a 400,000 sq. ft. warehouse.(b) CDW ships 99 percent of orders the day they are received.(c) For CDW’s gov’t buyers, CDW has instituted an “asset tagging” system that lets buyer track what product is going where; product is scanned into both buyer and CDW databases, for later ease in tracking products (e.g. for service calls)(d) CDW buys product in large volumes from mfgrs., taking in approximately eight trailer-loads of product from various suppliers every day. Loads are received in bulk, with few added services.

Promotion (a) CDW devotes a salesperson to every account (even small, new ones!), so that an end-user can talk to a real person about technology needs, system configurations, post-sale service, etc. (b) Salespeople go through 6½ weeks of basic training, then 6 months of on-the-job coaching, then a year of monthly training sessions.(c) New hires are assigned to small-business accounts to get more opportunities to close sales.(d) Salespeople contact clients not through in-person sales calls (too expensive), but through phone/e-mail.(e) CDW has longer-tenured salespeople than its competitors.

Negotiation (a) CDW-G started a small-business consortium in 2003 to help small firms compete more effectively for federal IT contracts. What CDW-G gives the small biz partner: lower prices on computers than they could otherwise get; business leads; and access to CDW’s help desk and product tools; CDW also handles shipping and billing, reducing the small biz partner’s channel flow burden. What the small biz partner provides: access to contracts CDW could not otherwise get.

Financing (a) CDW collects receivables in just 32 days;CDW turns its inventories 2x per month;CDW has no debt.

Risking (a) “We’re a kind of chief technical officer for many smaller firms”: (b) In April 2004, CDW was authorized as a Cisco Systems Premier (CSP) partner, in serving the commercial customer market.

Inventories are stocks of goods or the components used to make final goods.

Inventories exist for several reasons:• Demand surges outstrip production capacity• Economies of scale exist in production or in transportation• Transportation between points of production and points of consumption takes time• Supply and demand are uncertain

Channel Flows

TABLE 3-2: PRODUCT RETURNS: A LARGE-SCALE PROBLEM

Product Returns: A Large-Scale ProblemThe value of returned goods is close to $60-100 billion annually in the U.S.Web returns alone had value between $1.8 and $2.5 billion in 2002Estimates are that the cost of processing those Web returns is twice as high as the merchandise value itself!U.S. companies are estimated to spend $35 billion to more than $40 billion per year on reverse logisticsThe average company takes 30-70 days to move a returned product back into the marketThe estimated number of packages returned in 2004 is 500 million

Returns are very significant in many industries. In a survey of over 300 reverse logistics managers in 1998, researchers found the following ranges for return percentages:

TABLE 3-3: PRODUCT RETURNS: PERCENTAGE RANGES

Industry Return % RangesMagazine Publishing 50%

Catalog Retailers 18-35%

Book Publishers 20-30%

Greeting Cards 20-30%

CD-ROMs 18-25%

Computer Manufacturers 10-20%

Book Distributors 10-20%

Mass Merchandisers 4-15%

Electronic Distributors 10-12%

Printers 4-8%

Auto Industry (Parts) 4-6%

Consumer Electronics 4-5%

Mail Order Computer Manufacturers 2-5%

Household Chemicals 2-3%

FIGURE 3-2: POSSIBLE PATHWAYS FOR RETURNED PRODUCT

Manufacturer

Retailer

Consumer

Charity

Third-Party Returns/Reverse Logistics Firm

Manufacturer-runReturn/SortingFacility

Repair/RefurbishmentFacility

Secondary Market,Broker, Jobber

Poor quality product, ships as spare parts to manufacturer

Return for sale

Inspect, gradeReturn for credit

Return for refund

Repairable product

Repairable product

High-quality product

Inspect, grade

Inspect, grade

Manufacturer

Retailer

Consumer

Charity

Third-Party Returns/Reverse Logistics Firm

Manufacturer-runReturn/SortingFacility

Repair/RefurbishmentFacility

Secondary Market,Broker, Jobber

Poor quality product, ships as spare parts to manufacturer

Return for sale

Inspect, gradeReturn for credit

Return for refund

Repairable product

Repairable product

High-quality product

Inspect, grade

Inspect, grade

Key: solid lines denote product to be salvaged for subsequent revenue. Dotted lines denote non-revenue-producing product flows.

TABLE 3-4: DIFFERENCES BETWEEN FORWARD AND REVERSE LOGISTICS

Factor Difference Between Forward and Reverse LogisticsVolume forecasting

More difficult for returns than for original sales of new product

Transportation Forward: ship in bulk (many of one SKU), with economies of scale. Reverse: ship many disparate SKUs in one pallet, no economies of scale.

Product quality Forward: uniform product quality. Reverse: variable product quality, requiring costly evaluation of every returned unit.

Product packaging

Forward: uniform packaging. Reverse: packaging varies with some like-new, some damaged – no economies of scale in handling.

Ultimate destination

Forward: clear destination – to retailer or industrial distributor. Reverse: many options for ultimate disposition of product, necessitating separate decisions.

Accounting cost transparency

Forward: high. Reverse: low, because activities are not consistently tracked on a unified basis.

The efficiency template is a tool to measure the costs borne and the value added by each channel member in its performance of channel flows.The efficiency template is used to describe:

• The types and amount of work done by each channel member• The importance of each channel flow• The resulting share of to channel profits

The Efficiency Template

FIGURE 3-3: THE EFFICIENCY TEMPLATE

WEIGHTS FOR FLOWS: PROPORTIONAL FLOW PERFORMANCE OF CHANNEL MEMBER:

COSTS* BENEFIT POTENTIAL (High, Medium,

or Low)

FINAL WEIGHT*

1 2 3 4(end-user)

TOTAL

PHYSICAL POSSESSION**

100

OWNERSHIP 100

PROMOTION 100

NEGOTIATION 100

FINANCING 100

RISKING 100

ORDERING 100

PAYMENT 100

TOTAL 100 N/A 100 N/A N/A N/A N/A N/A

NORMATIVE PROFIT SHARE***

N/A N/A N/A 100

* Entries in column must add up to 100 points.** Entries across row (sum of proportional flow performance of channel members 1 through 4) for each channel member must add up to 100 points.*** Normative profit share of channel member i is calculated as: (final weight, physical possession)*(channel member i's proportional flow performance of physical possession) + … + (final weight, payment)*(channel member i's proportional flow performance of payment). Entries across row (sum of normative profit shares for channel members 1 through 4) must add up to 100 points.

A zero-base channel is an optimal channel being designed from scratch.A zero-base channel design is one that a) meets the target market segment’s demand for service outputs,b) At minimum cost of performing the necessary channel flows that produce those service outputs.

Using Channel Flow Concepts to design A Zero-Based Channel

FIGURE 3-4: THE BULLWHIP EFFECT

Consumption Customer Retailers Wholesalers Manufacturers Suppliers

Source: Based on the lecture notes of Enver Yücesan at INSEAD.

The efficiency template is a tool to measure the costs borne and the value added by each channel member in its performance of channel flows.The efficiency template is used to describe:

• The types and amount of work done by each channel member• The importance of each channel flow• The resulting share of to channel profits

The Efficiency Template

TABLE 3.APP3A-1 BUILDING MATERIALS COMPANY EFFICIENCY TEMPLATE FOR CHANNEL SERVING END-USERS THROUGH RETAILIERS: UNDISGUISED DATA

WEIGHTS FOR FLOWS: PROPORTIONAL FLOW PERFORMANCE OF

CHANNEL MEMBER:

COSTS BENEFIT POTENTIAL (High, Medium,

or Low)

FINAL WEIGHT

Mfgr. Retailer End-user TOTAL

PHYSICAL POSSESSION

30 High 35 30 30 40 100

OWNERSHIP 12 Medium 15 30 40 30 100

PROMOTION 10 Low 8 20 80 0 100

NEGOTIATION 5 Low/Medium 4 20 60 20 100

FINANCING 25 Medium 29 30 30 40 100

RISKING 5 Low 2 30 50 20 100

ORDERING 6 Low 3 20 60 20 100

PAYMENT 7 Low 4 20 60 20 100

TOTAL 100 N/A 100 N/A N/A N/A N/A

NORMATIVE PROFIT SHARE

N/A N/A N/A 28% 39% 33% 100

TABLE 3.APP3A-2 BUILDING MATERIALS COMPANY EFFICIENCY TEMPLATE FOR CHANNEL SERVING END-USERS THROUGH RETAILERS: RANK-ORDER DATA

WEIGHTS FOR FLOWS: PROPORTIONAL FLOW PERFORMANCE OF

CHANNEL MEMBER:

COSTS BENEFIT POTENTIAL (High, Medium,

or Low)

FINAL WEIGHT

Mfgr. Retailer End-user TOTAL

PHYSICAL POSSESSION

30 High 35 2 2 2 100

OWNERSHIP 12 Medium 15 2 2 2 100

PROMOTION 10 Low 8 1 3 0 100

NEGOTIATION 5 Low/Medium 4 1 2 1 100

FINANCING 25 Medium 29 2 2 2 100

RISKING 5 Low 2 2 2 1 100

ORDERING 6 Low 3 1 2 1 100

PAYMENT 7 Low 4 1 2 1 100

TOTAL 100 N/A 100 N/A N/A N/A N/A

NORMATIVE PROFIT SHARE

N/A N/A N/A ? ? ? 100

TABLE 3.APP3A-3 BUILDING MATERIALS COMPANY EFFICIENCY TEMPLATE FOR CHANNEL SERVING END-USERS THROUGH RETAILERS : TRANSFORMED RANK-ORDER DATA

WEIGHTS FOR FLOWS: PROPORTIONAL FLOW PERFORMANCE OF

CHANNEL MEMBER:

COSTS BENEFIT POTENTIAL

(High, Medium, or Low)

FINAL WEIGHT

Mfgr. Retailer End-user TOTAL

PHYSICAL POSSESSION

30 High 35 33 33 33 100

OWNERSHIP 12 Medium 15 33 33 33 100

PROMOTION 10 Low 8 25 75 0 100

NEGOTIATION 5 Low/Medium 4 25 50 25 100

FINANCING 25 Medium 29 33 33 33 100

RISKING 5 Low 2 40 40 20 100

ORDERING 6 Low 3 25 50 25 100

PAYMENT 7 Low 4 25 50 25 100

TOTAL 100 N/A 100 N/A N/A N/A N/A

NORMATIVE PROFIT SHARE

N/A N/A N/A 32% 38% 29% 100