11

Logistics Design for Distribution Channels: To Create Time and Space Utilities of Product to the Customer

After reading the chapter, the students should be able to understand:

• Structure of the distribution channel
• Logistical requirement of the distribution channel
• Role of logistics in the distribution channel
• Logistical program variants for different channel partners

The choice of channel structure is of critical importance as it has a deep impact on customer satisfaction and logistical cost. However, exploiting a new distribution channel typically requires significant flexibility in the logistical capability of supply chain to take care of the changing needs and problems of channel members in dynamic markets. Even the most carefully designed and managed marketing channel system must rely on logistics to create time and place utilities of the product for customer satisfaction.

“The channel structure primarily provides the place utility to the product. However, the logistics management takes care of the actual flow of the material and provides time utility to the product”

—Sam Walton

11.1 ROLE OF LOGISTICS IN DISTRIBUTION CHANNEL

Distribution channels help in creating time and place utilities of the product, which are important for customer satisfaction. The channel will help the firm to make the product available at the right place and channel efficiency and effectiveness is greatly dependent on the logistics operation of the firm to fulfil the demand. However, logistics will help in the movement of the product to make it available in the right quantity whenever the customer needs it. Hence, the logistics network needs to be integrated with the distribution channels of the firm. The distribution channel is the place of transaction for the firm’s products and it acts as an interface between the customer and the firm. However, the effectiveness of this interface is greatly dependent on the efficiency of the logistics operation to move products in the required quantity and variety with speed. In fact, logistics programs have to be tuned to the needs of channel members to reduce the loss of sales opportunity. The basic role of logistics in the distribution channel is to ensure smooth movement of products to make them available at distribution outlets as and when they are required by the customer. This is not an easy task, since it involves a great degree of planning for material availability and movement at the lowest cost and with speed (see Figure 11.1).

11.2 DISTRIBUTION CHANNEL STRUCTURE

The channel structure refers to the group of channel members to whom a set of distribution tasks has been allocated. The channel structure plays a vital role in the physical distribution of products. It primarily facilitates product flow from the manufacturer to the end consumer through a hierarchy of channel members. The typical distribution channel for the consumer goods company is a multilevel structure, while a company manufacturing capital goods may sell its products directly to the user without involving any channel member. Depending on the product and other marketing variables, the manufacturing company opts for or designs a particular structure that fits into its marketing philosophy and policy. But the major considerations are the cost of distribution, wider coverage and maximum market penetration. The most common channel structures being adopted by manufacturers are shown in Figure 11.2.

The consumer goods companies have a long and dense channel structure, because the end customers are very large in number and spread over a wide geographical area (Figure 11.3). Due to this the unit price of the product is low and the frequency of purchase is high. Under these circumstances, the manufacturer prefers to have more outlets for product distribution to meet customer needs.

The industrial machinery manufacturer prefers to deal directly with the customer because of product complexities, high unit price and both pre and after-sales service requirements. In such circumstances, the manufacturer may sometimes appoint an agent to strike a deal. In all the above cases, each channel member has been allocated certain distribution tasks (see Table 11.1) and has different roles to play. The width and depth of the risk at each level is different and depends on the financial involvement and control over the next lower level.

 

Table 11.1 Distribution Tasks

Exchange functions	Logistical functions	Facilitating functions
Buying	Storage	Credit financing
Selling	Transportation	Payment collection
Title transfer	Requirement scheduling	Promotion
Negotiation		Post-sales service
		Market information

 

The channel structure facilitates product flow from the manufacturer to the end customer. However, the physical movement of the product is taken care of by logistics. The addition of place and time utility to the product is not possible without the close coordination between channel tasks and logistics operations.

Information flow in the channel structure is two-directional. The manufacturer sends information on the order status, material availability, shipping dates, transportation mode, payments due and so on, while channel members send information on customer requirements, sale forecast, warranty claims, competition activities, requirements scheduling and so forth. For movement of goods from the manufacturer to the channel members, the logistics department acts as the traffic cop in the supply chain. Logistics activities such as order registration, order processing, inventory planning, order picking, packaging and transportation require a continuous flow of information to service channel members for making the ordered material available to them in the required quantity at the right time. In fact, the information flow in the channel structure is the basic input to logistics to activate the material flow from the manufacturer to the customer via channel members.

The channel structure facilitates the transfer of ownership of goods as these are passed from the manufacturer to the customers. Communication for advertising, sales promotion, exhibitions and personal selling is part of the information flow through the channel structure. The timely flow of funds from channel members to the manufacturer is important to keep the operation going.

11.3 LOGISTIC REQUIREMENTS OF CHANNEL MEMBERS

The role of a channel member is crucial in the distribution process. According to Alderson, the marketing channel takes care of the five gaps between production and manufacturing. First, the channel takes care of the time gap between the production activity and the purchase of products by the consumer at discreet intervals. Thus, the channel structure provides time utility of the product to the customer. Second, it deals with the space gap by providing place utility. The material is made available at the place of use. Third, the channel structure bridges the quantity gap. That is to say, the channel provides the required product to customers in relatively small quantities they need, although the manufacturer produces them in a large quantity. Fourth, the variety gap is filled by the channel structure. The manufacturer produces a limited variety of products, while the channel intermediary maintains product variety (from other manufacturers) to satisfy customer needs. Fifth, the channel members bridge the communication gap between the manufacturer and the consumer. The channel structure consists of various intermediaries who perform distribution services in anticipation of the returns on investment and effort they make. The degree of returns varies with the level of effort, variety of distribution tasks performed and the investments in the business.

11.4 CHANNEL MEMBERS

The marketing channel structure consists of a variety of intermediaries performing distribution tasks. These tasks differ in terms of financial involvement, relationship with manufacturer (place and time context) and the functions performed.

Wholesaler

Wholesalers are quite common in consumer goods industry. They operate as full-fledged marketing organizations, purchasing goods from the manufacturers in large quantities. Wholesalers have a network of marketing offices supported by their sales staff to market the products. These important functionaries also have a network of warehouses to store goods at different market locations. They collect orders from retailers and large customers (institutional) and are usually interested in volume sales only. These channel members are an important communication link providing useful market information to the manufacturer. They are a dominant source of supply for retailers of mass-distributed consumer products. Their logistical needs are large-quantity consignments at intervals conforming to their schedules. Wholesalers prefer freight consolidation for lower per-unit transportation charges and work on scale economics.

Retailer

This is the last but one link in the distribution network preceding the consumer. Retailers are commonly engaged in selling mass-distributed consumer products. They buy the material from wholesalers in small quantities and have very limited finances to invest in the business. Retailers normally purchase goods from the wholesalers either on credit or against cash, depending on their mutual relationship and the prevailing trends in the industry. The logistics requirement is frequent supplies in small quantities. Retailers cannot keep a large inventory because of their limited financial capacity.

Van Dealer

The van dealer is a totally different type of player in the distribution system. They are neither authorized dealers nor distributors of the manufacturer. They distribute different brands in the same product class. Van dealers often buy products from an authorized wholesaler of the company and sell them in their areas. They sometimes sell the products at a lower price than the company’s authorized dealers by manipulating the prices based on the discounts offered to them by wholesalers. Van dealers are quite common in the electrical industry in India. Their investment risk is distributed over the several brands they sell. Generally, they do not keep the inventory. These channel members buy on a daily basis on cash terms. The van dealer can reach remote places where the company’s authorized dealer finds it uneconomical to serve the customer.

Selling Agent

Selling agents are appointed on a contractual basis for selling a company’s products to clients in lieu of an elaborate sales organization. They are contracted not to sell the competitor’s products. However, they can sell complementary products. Selling agents are deployed for collecting outstanding payments from the clients. They extend services like organizing loans and offering credit facilities to their clients. They are compensated for their services by way of commission on sales. Sales agents are quite common in the textile industry.

Manufacturer’s Agent

These intermediaries are appointed on a contractual basis for selling industrial goods. They represent the manufacturer in creating awareness, technical discussion, commercial negotiation and liaison with clients. Manufacturing agents are usually ex-employees with a technical background and know the technical intricacies of the product. They are compensated on a case-to-case basis. These agents do not have any organization for marketing and are mostly involved in pre-sales activities and clinching sales deals.

Broker

The role of the broker is to facilitate a sales/purchase deal. Brokers do not permanently represent either the buyer or the seller. They are not involved in handling products. Their function is to organize negotiation meetings between two parties and facilitate a deal. Such facilitators do not provide services like financial assistance, payment collection or inspection. Their relations with buyers and sellers are limited to a particular transaction. For the broker’s services, both the parties have to pay the brokerage fee. Generally, services of brokers are quite common in stock markets, scrape selling/ purchasing and organizing auctions, and so on.

Dealer/Stockist

Dealers carry stocks of the company’s products on a consignment sales basis. The stocks are transferred (along with the time frame to sale) to the dealer/stockist. The payment for the goods has to be made to the manufacturer at the end of the agreed credit period. Dealers/stockists have a full-fledged marketing set-up with backup facilities of warehousing. When the manufacturer realizes the payment of the inventory from dealers/stockists on expiry of the stipulated credit period, the transaction is put down in the company’s account books. Exclusive dealers do not deal in products of competitors.

11.5 CHANNEL STRATEGY

The design of the logistical program to serve a given channel structure depends on the channel strategy of the enterprise. The channel strategy is based on the broad principles through which the firm expects to achieve its distribution objectives for the target market. Depending on the nature of the product, industry practices and market trends the enterprise may formulate the channel strategies to serve the end customers. The channel strategy decision can be examined in light of the following views:

Length of the Channel

This is more concerned with the levels of channel structure. The decision depends on whether the sales are directly made to the customer or use a large number of intermediaries to reach the final consumers. The decision is based on market reach, distribution cost and the degree of controls on the channel members. The firm may have its own channel outlets wherein there is a limitation on investment in infrastructure. However, there is full control on distribution activities in the distribution channels owned by the firm. Showrooms and retail chains are examples of captive distribution channels where the activities are under full control. Here, the programmed logistics can be preplanned and executed in close coordination with control channel inventory. The other option is the contractual system such as franchising, wherein a high degree of control can be exercised on channel activities and logistics programs organized to support those activities. In both the above systems, the firm is in direct contact with the end customers. The limitations of these two systems are the huge investment required in creating the infrastructure and limited coverage of the market. The third option is to employ independent intermediaries such as wholesalers, stockists, distributors, dealers, agents and retailers. The advantage here is that the firm gets ready-made infrastructure to operate from, without any investment. The intermediaries are widely spread and thus a wider market coverage is possible. Undoubtedly, they are easily accessible, but the disadvantage is that firms lose on the degree of control. The firm does not have a direct interface with customers in this system and will have to think of a system for information linkage with the customers. The degree of control on the channel inventory in this system is loose as compared to the previous two systems discussed above. The failure probability of the logistical programs designed for this distribution system is high because of the absence of cohesive linkages in the channel structure.

Channel Breadth

The decision on the breadth of channel depends on market coverage. Consumer goods, snack foods, newspapers, confectionary and garments are mass-consumed items that need a wider distribution channel for building market share. Profits are generated through volume sales, which are possible only if the product is available at the point of demand that has both time and place utility.

The decision on channel breadth depends on the product purchase frequency, the ease with which the customer would like to acquire it, market coverage to build market share and buyer behaviour. Logistics programs for a wider channel network require the support of a logistics network to coordinate activities such as order processing, warehousing, packaging, transportation, inventory management, and so forth. The control becomes more complex for mass-distributed consumer products covering national or global markets. Information technology (IT) and modern means of communication are playing a significant role in the efficient and effective control of these complex activities.

Marketing Strategy

This is another dimension to the channel selection, particularly the channel breadth selection. For building market share, a wider market coverage is required and hence intensive distribution will support the objective. However, to support the differentiation-based marketing strategies for focused customer group, distribution channel exclusivity will help the firm to exercise full control on the distribution task and logistical activities in order to achieve the objectives. Exclusivity will also assist in offering customized pre- and post-sales service to the focused customer group to build trust and confidence in the product and the firm. In the exclusive channel structure, there is a need and scope for customized logistics programs, as the firm’s marketing resources are deployed for the focused group of customers who bank on the service rather than the price.

The effectiveness of the channel depends on the following two factors:

1. Degree of control on intermediaries
2. Backup supply efficiency

The degree of control has a direct relationship with the compensation the channel members receive for the distribution task they perform for the firm. This is to be backed up with an efficient goods supply to make goods available in the desired quantity as and when required. So, frequent deliveries in small lots may have to be made. This could mean an increase in the transportation cost, but it will be more than offset by a significant reduction in the incidence of inventory-carrying cost on the system.

11.6 LOGISTICS SUPPORT TO THE DISTRIBUTION CHANNEL

The success of the distribution channel depends largely on the effectiveness and efficiency of logistic operations of the firm. Channel management is essentially involved in the control of product flow, information flow, promotional flow and ownership flow. However, the product flow and related information flow are taken care of by logistics management.

The channel cannot exist without an efficient flow of material across the channel structure so as to make available the right product at the right time and place. In a nutshell, channel management and the logistics management should go hand in hand for an efficient and effective physical distribution of products.

To achieve this goal, it is essential to tune logistic operations to the requirements of channel members, which can be systematically done through the following means.

Logistics Service-Level Requirement Planning

The channel members want good returns on the money they have invested and the effort they have put into the business. They are interested in the availability of goods at all times, without the risk of carrying inventory. They would want the risk element to be transferred to the manufacturer. On the other hand, the manufacturer does not want to bear the burden of inventory-carrying cost. The result is ‘pushing’ the inventory on the distribution channel. The logistics programs based on the ‘push’ philosophy do not give any benefits to channel members. They carry over stocks of the material that is not required by the customer. In turn, the firm’s cash flow is severely affected. To resolve this problem, the logistics manager should first study the requirements of channel members. Today, the requirement is frequent deliveries of small lots. While this will no doubt increase transportation cost, it will drastically cut inventory cost. The stockist or wholesaler, on the other hand, prefers freight economies through bulk supplies and less frequent consignments. The logistics manager, through survey feedbacks, should try to understand the requirements of the channel member and fix the service standard for each category of channel members. The basis for determining the standard will be (1) channel members’ requirements, (2) the firm’s available or proposed logistical network, and (3) the trade-off between cost and service level. Hindustan Lever, for example, works on different logistical standards for supply of material to retail chains (Food World, Defence Canteen Store), wholesalers and sub dealers. The cigarette giant ITC delivers material two times a day to its retailers against cash payment, while wholesale dealers are delivered materials by truckload twice a week. They have fixed the logistics service-level standard as per the actual requirements to avoid any inventory pile-up at various stages of distribution. Factory manufacturing programs are scheduled according to the requirements of the channel members, who forecast their demands with a 2 per cent plus/minus error margin, in close coordination with the logistics department.

Analyzing the Cost Benefits

The logistics program calls for proper deployment of the firm’s resources. For example, air transport may be used for faster delivery, but the transportation cost will be prohibitive in the case of low unit price products. The logistics manager has to take into consideration the implications of the proposed logistical program on the inventory levels to be maintained by the firm. A faster order-fulfilment cycle will have to be supplemented by a faster procurement, manufacturing and order processing and cash generation cycle. This may require additional resources to fine-tune the system to an optimum logistical program. Hence, logistical programs have to be designed and implemented in close coordination to reap maximum benefits with optimum cost. A firm wanting to introduce a new product may think of developing an elaborate logistical network only after ascertaining the growth in the order inflow and product acceptance by the consumers. Initially, it may have to rely on the service providers’ network on limited counts and may have to pay a little more until sales volumes are built. The logistical program involving the use of air transportation for distribution of fresh flowers in the European markets may be justified on the grounds of the higher unit price it is fetching and the short shelf life of the product.

Just-in-time (JIT) delivery system may not be possible to implement without the IT backup and related supporting environment for procurement, manufacturing and inventory management. JIT system involves investments in building the supporting infrastructure and the organization culture to run it efficiently and effectively.

Programs Implementation and Monitoring

The implementation of the logistical programs requires managerial skills. Material movement at the planned velocity across the supply chain requires the coordination of various logistical components such as warehousing, transportation, material handling, inventory control, packaging and information flow. The configuration of the subsystems should be such that it should facilitate the easy movement of goods rather than create bottlenecks. The best way is to outsource the logistical function to the service provider having core competence in this area of operation.

Close monitoring of the programme through a regular feedback on deviations in delivery cycle time, inventory turnover ratio, service level, cost and productivity is a must to remove the bottlenecks that might not be visualized at the time of planning. A leading chemical company, earlier operating on credit sales to its dealers, changed over to a no-credit system and offering to them a higher compensation (commission) for buy, stock and sell of the products, changed its logistics program to suit the pull system. In turn their cash flow improved and inventory levels (both at factory and in the channel) plummeted. Now the deliveries are frequent, but the lot size is small. Even though transportation cost has gone up, the inventory-carrying cost has reduced drastically, resulting in overall gains.

SUMMARY

The channel structure plays a vital role in the physical distribution of products. It primarily provides the outlets for product flow from the manufacturer to the end consumer through a hierarchy of channel members. It thus provides place utility to the product. However, the logistics management takes care of the actual flow of the material through the channel structure so as to help the material reach the right outlet, in the right quantity and at the right time. It thus provides time utility to the product. Channel efficiency and effectiveness is greatly dependent on the logistics operation. Hence, the logistics network needs to be integrated with the distribution channels of the firm. The basic role of logistics in the distribution channel is to ensure smooth movement of products to make them available at distribution outlets as and when they are required by the customer. It is not an easy task because it involves a great degree of planning for material availability and speedy material movement at the lowest cost.

The channel structure consists of wholesalers, dealers, agents, brokers and retailers. The specificity of the channel members depends on the product-industry characteristics. For example, the consumer goods industry will have a multilevel channel, while the capital goods buyer prefers to deal directly with the manufacturer. Channel members basically perform exchange, logistical and facilitating functions. They look for returns on investment and the effort they put into the business. The logistical requirement of channel members depends on the service standard decided by the manufacturer. In a nutshell, channel management and logistics management should go hand in hand for efficient and effective physical distribution of products.

In order to achieve the aforesaid objective, it is essential to tune logistic operations to the requirements of channel members and this can be systematically done by understanding their needs, designing the logistical programme per these needs, evaluating the programme for cost and benefits and implementing it. Evaluation of the logistical programme is required on a continuous basis for correcting any deviations and removing bottlenecks.

The complexity of logistic programs will depend on the length and breadth of the channel, which are ultimately based on the marketing policies and strategies of the firm. Information and communication technologies play a vital role in efficient and effective coordination of the channel and logistics management, so as to achieve the common objectives of customer satisfaction at the lowest possible cost.

REVIEW QUESTIONS

1. Describe the role of logistics in the distribution channel of the firm.
2. “The efficiency and effectiveness of the distribution channel is the function of a proper logistics program.” Explain.
3. As a logistics manager of the firm, how will you design a logistics network to suit the channel members?
4. Does the just-in-time inventory system have any affect on the firm’s logistics and channel management?
5. Discuss the role of IT in logistics and channel management.

INTERNET EXERCISES

1. Channel management decisions are consulting services in channel management. For studying decision approaches visit http://www.channelmarketing.com.au/
2. Visit http://www.aberdeen.com/channels/scm. asp for more information on logistics design for channel management

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