Lecture 22 Channel Conflict and Solutions 1

Why Use Channel Intermediaries? Wholesaler or Retailer With Intermediaries Milk P1Bread P2ShampooP3Soap P4 C1C2C3 P1P2P3P4 C1C2C3 Without Intermediaries Reducing Transaction Costs 2

Why Channel Intermediaries? Customers buy baskets or “assortments” of goods. Economizes on the time cost of shopping Retail Service is most efficiently provided by an intermediary product demonstration, after-sales service Inventory carrying Intermediaries provide inventory buffer. Hedge against demand fluctuations for the manufacturers. Financing Examples _________ or ___________ 3

Coordinating channels is critical for efficient behavior of retailers. Channel decisions go hand in hand with the other elements of the marketing mix. Channel decisions have greatest the most long- term impact and are the hardest among all marketing strategy to change. 4

Types of Channel Intermediaries Goodyear’s Distribution IndustryGoodyear Garages60 W. House clubs60 Mass Merchandisers120 Manufacturer Owned927 Independent6358 (50 indp. 8 franchises) Other415 What does this imply? 5

Goodyear’s Distribution Goodyear penetration 4400 outlets vs. Michelin 7000 outlets. What are the pros and cons of Goodyear's selective distribution. What does Goodyear gain from its focus on the independent dealer channel? What is the role of Goodyear’s company-owned outlets? 6

Should Goodyear Expand distribution to Mass Merchandisers? 7

Managing Retail Intermediaries Channel Conflict When each member of the channel is an independent business, retailers might not behave according to the manufacturer desires This is called Channel Conflict Key problems with independent channels = Channel Conflict. Each member has her own private interests or profits in mind. Retail perspective may be more short term short-term profits than the manufacturer. National vs. Local perspective 8

Solution to Channel Conflict: Channel Coordination General Principle Manufacturers must find ways to maximize total channel profits. Why? The incremental profits can be used in two ways: Absorbed by the manufacturer leaving the retailer or other down stream channel member no worse than before. Shared with the channel members to reward them for providing better service. The challenge is to get the retailers to “behave” in a conventional channel with independent retailers 9

Channel Conflict and Coordination Double Marginalization Manufacturer Goodyear Manufacturer Goodyear Retailer (Independent Dealer) Retailer (Independent Dealer) Market C = 10 W P PD D(P) Demand for Goodyear Tiempo at your dealership First stage Second stage 10

Double Marginalization PDRet_ProfitMfg_ProfitTotal_Profit *10 = *6 = *2 = W = *10 = *6 = 12010*6 = *2 = 6010*2 = XXX *2=2030*2=6080 W = 20 W = *6 = 6020*6 = *2=40 80 W = 30 11

Double Marginalization Problem What wholesale price will the manufacturer charge? Manufacturer wants high W, But this forces retailer to charge high retail prices with too little demand Can the manufacturer do better? 12

Solution to Double Marginalization Two-Part Tariff: McDonalds charges Upfront Franchise Fees from its franchise and a variable royalty…Why? Two part tariff = F + w*Q Suppose the manufacturer asks the retailer for an upfront Franchise Fee (F = $195) and in return charges w = c = 10… What happens? Manufacturer Profits = 195, Retailer Profits = 5 Retail price = low at 30 Demand = high at 10. Upfront Franchise fees helps in solving channel conflict because it helps the manufacturer to lower wholesale price without sacrificing profits. 13

Channel Conflict and Coordination Horizontal Conflict Horizontal Retailer “Free-Riding”: Services provided by one retailer helps other competing retailers McDonald’s franchisees in a region. Free riding of pre-sale informational services. Goodyear selling to discounters and mass merchandisers. Solutions Exclusive territories: Retailer is guaranteed all consumers in a territory? What are the benefits? Saturn dealerships Prevents free-riding of retail services. 14

Vertical Retailer Free-Riding Retailer may use the manufacturer’s brand to draw customers into the store and then sell other higher margin brands (Bait-and-Switch) Possible problem with Goodyear dealers as the market matures and becomes more competitive. Solution Provides incentives to retailers to invest in service to build up the product and therefore the manufacturer to invest in advertising and brand building. 15

Channel Conflict and Coordination Manufacturer Free-Riding Manufacturer may not provide the promised advertising support for the retailers local market. Manufacturers may open supply to competing retailers after a retailer has invested in developing the manufacturer’s product. Solution Why are automobiles often sold through exclusive dealerships in exclusive territories…. 16

Next Class Project Day I will be available for individual meetings Preference for appointments