Channels:The Design and Management of

Supply and Distribution Channels

Starbucks vs. McDonalds

Starbucks stores are company owned

McDonalds stores are often franchised

Both chains worry about consistency

Both chains worry about each store’s performance

Why the difference?

Chevron

Researchers are difficult to monitor:– Hard to monitor how hard someone is thinking– Ideas do not affect demand for a long time– Impact depends upon other factors.

How can Chevron motivate its employees to work hard?

May Company 1

May Co. is one of the largest department store conglomerates in the country with annual sales exceeding $10 billion.

Different departments use different language to describe products, sales, profit margins, and prices

How can corporate managers work out what is going on?

May Company 2

Almost all of the clothing May Company sells is manufactured in low wage Asian countries.

Some of these clothes are sourced by May Company itself and others are purchased from US intermediaries.

The clothes purchased from intermediaries tend to be more fashionable - varying more from year to year.

Why does May Company not source more fashionable clothing itself?

Continental Airlines

If Continental outsources its airport operations to another airline it must share information about reservations and plane operations

– The information is proprietary– Continental’s information systems uses different hardware– Agents have to be trained to use Continental’s information systems

Does Continental outsource its airport operations?

SAP

SAP designs software that lets all of a company’s departments share the same information system.

The benefit: it is easier to share information between departments.

Why don’t all firms adopt this type of standardized software?

State Farm

Insurance brokers collect information from clients and provide it to State Farm

This is a task that that the web is almost ideally suited to perform

Why has State Farm been slow to market its products over the Internet?

Which insurance companies are more likely to use the Internet?

Burger King 1

If Burger King makes local advertising decisions itself it can ensure that the advertising occurs.

– Franchisees may be reluctant to advertise: they pay all of the costs and only get a share of the benefits

However the franchisees are better placed to evaluate whether local advertising is needed.

What is the solution?

Burger King 2

At Burger King customers form 1 line; one employee takes the order another employee gets the food.

At McDonalds customers line up behind different registers and the same employee takes the order and gets the food.

McDonalds process is faster and customers like it more.

Why doesn’t Burger King change?

Sloan

At Sloan the marketing faculty are all located in E56 across the car park from the rest of the school

At Chicago the marketing faculty’s offices are spread throughout the school

Is this difference important?

1980 Acquisition of Houston Oil and Minerals Corp. by Tenneco

Houston Oil was a very successful oil exploration company.

Houston’s success was largely due to its bonus-driven, aggressive, entrepreneurial work force.

Tenneco at the time was the largest US conglomerate which included oil distribution activities.

Why did the acquisition fail?

Reebok vs. Nike

The companies compete for the same customers

Nike:– No product is made by a single supplier– No single supplier represents a large proportion of its business– Regularly changes suppliers

Reebok:– 50% of its products are made by a single supplier

Reebok vs. Nike

Advantages of a single supplier– they are more willing to invest in resources– enjoy benefits of economies of scale– fewer decision makers/inputs– more repeated interactions

Disadvantages of a single supplier– exclusivity gives market power (are incentives aligned)– risk not diversified: technical failures, disputes

Coordination and Incentive Issues

Coordination Issues– The optimal performance of one task may depend upon

the performance of other tasks– Coordination problems arise within and between firms

Incentive Issues– Firms and employees may have different goals– Incentive issues arise within and between firms

Coordination: When is it difficult?

Too many inputs (American Airlines)

Decision makers too far from information (centralized decision making)

Too many decision makers (decentralized decision making)

Specialization: – different languages (May Co.)– different information systems (Continental)

Incentive problems (Continental)

How Does Outsourcing Affect Coordination?

Coordination is difficult at large firms– Decision makers too far apart (decentralized)– Decision makers too far from information (centralized)– Hard to measure the impact of actions (Chevron)

Coordination is difficult between firms– Procurement: need to negotiate price and terms (Knez and Simester)– More decision makers (Burger King)– Incentive issues: proprietary information (Continental)– Harder to implement standardization (Continental)– Harder to implement other coordination mechanisms (co-location)

Incentives: When do problems arise?

Goals not congruent

– Within firms: vacations

– Between firms: wholesale price

Implications:

– Adverse Selection: distort information

– Moral Hazard: distort actions and decisions

Note relationship between incentive and coordination issues

How Does Outsourcing Affect Incentives?

Owners not employees at the division level– Helps if goals are consistent: manage employees

– Hinders if goals are inconsistent: Burger King ordering process

Aligning Incentives Using Contracts

Enforcing contracts:– Input measures (accountants)– Output measures (sales people)

Complexities:– Multiple tasks– Group performance– Uncertainty

Intermediate Solutions

Outsourcing is not the only option

Vertically integrated Chicago TribuneFranchising Pizza HutLicensing Tiger WoodsCooperatives Ace HardwareJoint Venture PowerPCStrategic Alliances Coke and McDonaldsOutsourced Nike

Different channels for different segments May create coordination and incentive problems (State Farm)

Bose: JIT Program

CoordinationStandardize (information systems)

Co-location

Not negotiating prices and terms

IncentivesOwners watch over suppliers’ employees (good)

Give suppliers market power (bad)