While designing a channel structure, the company must define the customer needs and illustrate channel objectives. Find out alternative channel options, determine the cost of the channel and evaluate the various alternatives to be used in an ideal channel system.
At the most basic level, the channel design should be such that it allows the customers to access and purchase the products from the company. However, it is a complex, time-consuming and expensive process for a marketer to reach the point where a customer can obtain a particular product. The steps in the process of channel design are as follows:
Process of Channel Design/ Distribution Channel Procedure
1) Defining the Customer Needs
The first and foremost step in designing the channel structure is to recognize the service output level based on the customers’ requirements. It is one of the step of process of channel design. Therefore, it is very important to capture the customer demands at the time of designing marketing channels. The channel generates the following service outputs:
i) Product Information
Customers seek more information on certain types of products. These products can be new, technically complex products or those products that have a fast-changing technological element.
ii) Product Customisation
Some products essentially require technical adjustment. Then it becomes crucial for the company to customize the product so as to meet the customers’ expectations. Even a standardized product may have to be customized to fulfill a specific target customer in size or variants.
iii) Product Quality Assurance
Product quality is the foremost priority of customers. The consequences related to a defective or low-quality product may affect the customer’s operations. Therefore, the company needs to emphasize more towards product integrity.
iv) Lot Size
The lot size indicates the number of units the channel normally sells to customers. A lot size determines the financial decision of the customer and also leads to the final purchase decision.
v) Product Variety/Assortment
The variety indicates the range of products available within the channel, termed the ‘assortment breadth. A greater assortment involves more choices, increasing the chances for the customer to get what they seek. Sometimes the customer may also need a broad range of products available in one place. For example, a customer who is an electrical contractor may require different electrical codes to find out the most suitable code for his project work.
vi) Spatial Convenience/Availability
Some customers require the channel to support high product availability. These types of customers have unpredictable product-usage rates or switch over products at a time when the specific product is unavailable. It is included in the process of channel design. The concepts of demand uncertainty and buffer inventory are closely linked with this situation.
vii) Waiting and Delivery Time
Waiting refers to the average time customers wait to deliver the goods. Mostly, customers prefer faster and quick delivery channels.
viii) After-Sales Service
The customers also require after-sales services such as installation, maintenance, and warranty. The quality and availability of after-sales services often influence the company’s initial sale. The nature of services varies with the type of industry. For example, in the computer industry, the availability of hardware and software upgrades often influence the customers’ purchase decision.
2) Defining Channel Objectives
The companies should also clearly define their channel objectives of the targeted service output levels. Based on competitive conditions, the companies should offer the desired level of service outputs at minimal total channel cost. It is the distribution channel procedure. Marketers can identify various market segments and their different service output levels. From several market segments, one segment is selected, and a suitable channel is decided to serve the same.
The channel objectives may differ depending on the product characteristics. Some of them are:
- For perishable products, direct marketing is the most preferable distribution mode.
- Bulky products like building materials require intermediaries with shorter shipping distances and low handling costs.
- The sale of non-standard products, such as custom-built machinery and specialized business forms, is held directly by the company’s sales representatives. heating
- The sales and maintenance of products requiring installation or maintenance services, such as cooling systems, are largely carried out by the company itself or franchised dealers.
- High-unit-value products like generators and turbines are sold by the company’s sales representatives instead of intermediaries.
A company’s channel objectives must be flexible to meet the changing trends of the market environment. At the time of economic depression, the company may have to use shorter channels so that the product’s final cost is not high. In the same way, the legal regulations also affect the channel design. In many countries, law disapproves of those channel structures that reduce competition and create a monopoly.
The channel design objectives can also be framed considering the customer service deliverables. The channel objectives should be such that the company is able to meet the expected service level outputs at the least possible cost. The company may have different service levels for the same product in different segments.
3) Channel Alternatives
There are various alternatives that a company may adopt to reach out to the final customers. These alternatives involve a sales force, sales agents, distributors, direct mail, telemarketing, Internet, etc. Different channel structures have their strengths and weaknesses. It is the third step in the process of channel design. A direct sales force can handle complex products and transactions but can be expensive to maintain. It is the process of distribution channel.
In contrast to other alternatives, the Internet is economical but may not handle complex products. Distributors can create high sales, but the company may need more direct contact with the customers. Whereas manufacturer’s representatives have direct contact with the customers at a very low cost, their selling power is less than the company’s sales representatives.
After deciding the channel’s target customers and customer service deliverables, the company focuses on selecting the various channel alternatives. While deciding on the alternatives, the company must look for the following points:
i) Types of Intermediaries
A company must identify the intermediaries accessible to perform the channel activities. An attempt must be made to find out the innovative marketing channels. It is the process of distribution channel. With the rapid growth in business activities over the years, various intermediaries and channel partners operate and can be used to market products. Some of these are as follows:
a) Distributors or Redistribution Stockists
This is the most common channel type available. They could already be working for some companies but are readily open to working for other firms that are not directly competing with the existing companies.
b) Carrying and Forwarding Agents
They perform the tasks like warehousing, breaking bulk, and transporting. Many transporters act as C&F agents. They also provide services of making the dispatches against the distributor orders and collecting the sales proceeds.
c) Logistics Service Providers
They are one step forward to C&F ages. They even bandle the distribution activities once the finished products are handed to them.
d) Manufacturers’ Agents, Stockists, and Guarantors
All these are businessmen who offer financial support to companies in selling their products in the market. They also offer credit support to companies unwilling to provide credit directly to their customers or distributors.
e) Financing Agencies
These are banks or institutions that provide finance to channel partners and customers. For example, they provide finance to car dealers & also give low-interest loans to car buyers.
The intermediaries discussed above all work under different companies on a contractual basis to earn commissions, discounts or mark-ups. Other intermediaries work independently; they are:
a) Wholesalers, Semi-Wholesalers
Wholesalers are traders who operate in the marketplace. They buy and sell various goods and services to retailers and customers. The company may extend credit to them, and they, in turn, forward the credit to retailers and customers.
They are the last mile in the channel structure. They directly trade with the ultimate consumers of the product. They do not work under any company.
c) Service Centres
They provide servicing facilities for consumer durables and equipment purchased by customers. They work as authorized service centers of the company as well as freelancers. Authorized service centers are widely common in the automobile sector.
ii) Number of Intermediaries
The companies must decide the utilization of several intermediaries at each channel level. The choices can be made between three major patterns of distribution, viz.,
a) Exclusive Distribution
b) Selective Distribution
c) Intensive Distribution
iii) Cost of the Channel System
The cost of distribution includes transportation costs, margin, order booking and execution costs, etc. All these costs are included in the price of the product or service the customer purchases. Therefore, balancing the distribution costs spent and the level of customer service offered by the company is the key responsibility of the sales manager. The cost elements of the channel network include the following:
- The margins of the channel partners,
- The transportation cost of goods between the company and the end user,
- The cost of order booking and execution,
- The cost related to returns of expired stocks from the market, and
- The cost of any reverse logistics required, e.g., getting empty bottles of soft drinks.
iv) Terms and Responsibilities of Channel Members
The channel members must be treated equally by the company and be given an opportunity to earn profits. The key elements of the “trade-relation mix” are as follows:
a) Price Policy
The company must form a price policy to establish a price list and a structure of discounts and commissions that is fair and profitable for intermediaries.
b) Conditions of Sale
Conditions of sale are defined as the company’s terms of payment and guarantees provided to the channel members. It is included in the process of channel design terms and responsibilities. Many manufacturers offer cash discounts to distributors and channel partners for early payments. Manufacturers also provide a guarantee against damaged and defective products or price fluctuations.
c) Distributors’ Territorial Rights
The territorial rights of distributors refer to the distributor’s territories and the conditions on which the manufacturer will choose between several distributors. The distributors are assumed to collect full credit for sales held in their territory, irrespective of whether the sales are made or not.
d) Mutual Services and Responsibilities
The mutual services and responsibilities in the channel partnership must be clearly stated, especially in the case of exclusive-agency and franchised channels. For example, McDonald’s offers franchisees promotional support, infrastructure, technical support, training, etc. In return, the franchisees are expected to adhere to the company’s policies by fulfilling the physical standards, cooperating with the promotional programs, providing the requested information, and buying materials from the recommended vendors.
4) Evaluation of Major Alternatives
While evaluating the alternatives, the company has to select the best channel by considering the factors affecting the channel decision through which the company’s long-term objectives can be achieved. It is the next step of process of distribution channel. Hence, each alternative is evaluated on the following criteria:
i) Economic Criteria
In evaluating the channel alternatives, the economic criteria are very significant because it helps the company to make profits. Here, three factors are most considerable:
a) What sales volume level will be achieved by each channel alternative? Will a particular channel structure increase the company’s sales volume? This can be assessed by conducting market research on the sales potential of each channel alternative.
b) The second factor to consider is each alternative’s sales and distribution costs. This can be done by evaluating whether the cost of each alternative is reasonable and within the company’s abilities because of its financial resources and sales volume.
c) The third criterion is to compare the sales and costs of various alternatives considering the firm’s net profit. The company should also decide whether to use its own sales force or outsource the sales force. While estimating the net profits of each alternative, the cost related to sales should also be analyzed. Here, the cost should be divided into fixed and variable costs.
The sales volume of smaller firms will be low, and larger firms operating in small territories will have larger selling and distribution costs. On the other hand, when the costs of smaller or larger firms operating in smaller markets reach the break-even level, they can use their own sales force.
ii) Control Criteria
The second main consideration in evaluating the channels is the control factor. In other words, how can a marketer control a specific distribution channel? The greater the control of the company, the better will be the channel of distribution. Here, the relationship between various distribution channels, their attitude and interests towards the company’s product, and conflicts between them must be considered. Other than this, the company should also consider the legal aspect of appointing a particular channel. It is a step in the process of distribution channel.
The contracted partners of the distribution network, such as C&F agents and distributors, are considered the extensions of the company that efficiently serves the customer. These channel partners must follow certain rules and regulations to join the company’s distribution network. Some of the key functioning rules decided by companies and followed by the channel partners are:
- The coverage area of the markets, i.e., width and depth,
- The frequency of coverage,
- Estimate of the calls made per day and the percentage of productive calls,
- Providing ready stocks in the market and not booking orders for deliveries later,
- The limit of extending the credit facilities in the market,
- Providing servicing support for automobiles, and
- Participating in exhibitions, fairs, melas, and events to promote the products.
iii) Adaptive Criteria
Another consideration in channel selection is to view the adaptability of the channel to changing market conditions. For this, every alternative should involve some level of commitment and stability. For example, an alternative involving long-term commitment can be considerable for economic and control criteria but unsuitable for adaptive criteria.
The channel structure must be able to increase sales volume other than handling the current sales. The channel structure should be such that it can handle changes under certain situations, such as:
- a) Increase or decrease in the number of products
- b) Additional service support required
- c) Coverage of new territories, e.g., rural markets for FMCG products, agricultural inputs, tractors, pump sets, seeds, and fertilizers
- d) New institutional business leads
- e) Price increases and adverse consumer reactions
- f) Controlling of stocks due to limited availability
It is, therefore, necessary to decide on these criteria before evaluating the alternatives.
5) Ideal Channel Structure
After evaluating various alternatives, the manufacturer must select the ideal channel structure in terms of costs associated and customer service delivery. It is the next step in the process of channel design. Some of the optimal channel designs and their characteristics are discussed below:
i) AC & F agent or wholesaler is considered an appropriate channel choice for breaking bulk, and if an intensive distribution is required, the company must hire many retailers.
ii) A company’s technically qualified sales force is an ideal choice for industrial and engineering goods for providing inventory and credit at finance.
From the above channel choices, it can be said that outsourcing distribution activities are more cost-effective for the company. At the same time, using channel partners is also a beneficial way of distributing products.
The ideal channel structure can be decided only after evaluating the benefits and associated costs of all the alternatives. Other factors to be considered besides the competitor’s channel design and distribution environment are revenues, market share, penetration, transaction costs, startup costs, etc. Channel cost is also influenced by the competitor’s behavior other than the extent of channel functions performed. Hence, the selection of channel structure must be done carefully to meet the goals and objectives of the company. It is the step of process of channel design.