10.6: Organizing the channel
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Either through a planned process or through a natural evolution, channels of distribution reflect an observable organization structure. Three types are most common: conventional channels, vertical marketing systems, and horizontal channel systems.
The conventional channel of distribution could be described as a group of independent businesses, each motivated by profit, and having little concern about any other member of the distribution sequence. There are no all-inclusive goals, and in many instances, the assignment of tasks and the evaluation process are totally informal. Consequently, channel frameworks might be working against one another, tasks may go undone, and ineffective channel member relationships may last for years. Despite these deficiencies, this type of channel structure remains most common, and there are numerous examples of such networks working.
Vertical marketing systems
Vertical marketing systems have emerged as a solution to the problems of conventional networks. A vertical marketing system (VMS) comes about when a member of the distribution channel (usually the manufacturer) assumes a leadership role and attempts to coordinate the efforts of the channel so that mutually beneficial goals can be attained. Three forms of vertical integration are now common.
The administered VMS is very close to the conventional network, but differs in that it is informally guided by goals and programs developed by one or a limited number of firms in the existing channel. This framework is the source of the concept of a channel captain, in that administrative skills and the power of one individual may be the driving force of the channel. Often the dominant brands, as in the case of Xerox or Procter & Gamble, are able to manifest this cooperation.
Through the recognition of a channel leader, the distribution networks function better, sales and profits are higher, product exposure improves, inventory management systems are initiated, and the coordination of promotional activities becomes a reality. An administered system is not without its problems. Often, this effort is placed on the shoulders of a single individual. Another drawback is the tendency of polarizing channel members. Businesses either become part of the VMS or remain strongly independent. Eventually these independents may find themselves at a tremendous competitive disadvantage, and may even be deprived of certain channel benefits.
There are instances when channel members wish to formalize their relationship by employing a contractual agreement, known as a contractual VMS. This provides additional control, and either explicitly or implicitly spells out the marketing functions to be performed by all the members of the channel. This is the most popular form of vertical marketing arrangement.
When channel members on different levels are owned and operated by one organization, a corporate vertical marketing system is said to exist. Such integration can be forward or backward. A manufacturer who owns the various intermediaries in its channel network has engaged in forward integration. A retailer who takes over the wholesaling and manufacturing tasks is backward integrating. This process can entail either the organization's purchasing the institutions, or establishing its own facilities. Although partial forward or backward integration is most common, total integration is becoming more popular. Manufacturers who have recently integrated through to the retail level are Dannon Yogurt, Blue Bell Ice Cream, and Pepperidge Farms. Sears and Safeway stores are two retailers that have successfully integrated backward. American Hospital Supply Corporation is an example of a wholesaler that has integrated both backward and forward.
Horizontal channel systems
There are instances where two or more companies are unable to acquire the capital, or do not have the technical or production know-how, to effectively market their products alone. In such cases, these companies may establish a temporary or quasi-permanent relationship in order to work with each other, and create the channel mechanism required to reach their target markets. This arrangement has been labeled a horizontal channel system. For example, two small manufacturers might combine their shipments to common markets in order to gain full carload transportation rates that each could not obtain separately. Another common scenario is for a large retailer to buyout several competing small retailers in order to gain entry into certain markets or with certain customers.