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by Adam G. Southam, CEO May 2002 I made the following speech at a conference in San Francisco on Managing Channel Conflict in November 2000. Although some companies have revisited their strategies and made changes (for example Versace went from no website to an eCommerce website and now no longer sells online) the premises of the speech are more relevant today then ever before. Channel Conflict is no longer an unrecognizable buzz word used by a few emerging growth companies but a cornerstone issue which has a long term effect on profitability for a large number of companies. When reading this speech please note the time that has elapsed and consider the current circumstances then feel free to contact me with your insight. Additional Readings: Understanding Channel Conflict _________________________________________________________________ While you're undoubtedly already familiar with the stats and the stories I'm about to mention, they bear repeating. After all, it's not every day that a market so ripe for the picking comes along. Forrester predicts online transactions are estimated to reach $2.71 trillion by 2004. A large chunk of that will come from channel dependent companies particularly those who figure out how to work with-not against -their channel partners. According to the Gartner Group, more than 90% of manufacturers don't sell online. The main reason? Channel conflict. Distributors and retailers are totally, utterly, fiercely, and understandably protective of letting customers buy products elsewhere. Especially when that "elsewhere" is the manufacturer. That's why, if you go to Kawasaki.com, you can buy the likes of clothing and gear, wheels and windshields. But the bike itself? No go. That's the domain of the dealers. Home Depot made this same message loud and clear last year in a letter to their 5,000 vendors. They said "You can sell through whatever channels you like, but we have the right to be selective too. We might be hesitant to do business with our competitors." Manufacturers know better than to anger distributors. According to a recent Forrester survey, 66% of those surveyed cite channel conflict as the major obstacle to selling online. Even so, manufacturers are chomping at the bit to go online. In fact, the majority PLAN on being online within a few years. This isn't surprising the lure of the Internet is just too great. The Internet enables companies to cater to customers' desire for time savings, convenience, and accuracy. It holds the bright promise of new customers. At Alliant Foodsystems, it lowers purchasing costs from 107 to $30 and boosts the average order size over 30% If this doesn't spur everyone here to advocate manufacturers selling online, the following should. No one is better positioned to preserve value in a brand than the manufacturer. Why? No one understands it better. The November issue of Fast Company highlights this point in its editorial. I quote "A genuinely great company not only creates real economic value but stays true to its own core values." True to its core values.
That's brand. It's a company's lifeblood, its heart and soul. And if it's
harmed in any way, the damage can be irreparable. Or you can ask Calvin Klein, now in the throes of a lawsuit with Warnaco. Warnaco is the company that manufactures and sells Klein's designer jeans in mass merchandisers. Once upon a time, Warnaco was Klein's most important partner. Now Klein claims that Warnaco is altering his designs and skimping on quality. Not only is Klein upset about this for artistic reasons, it's alienating the very pipeline that made Klein so successful-upscale department stores. Not surprisingly, department stores hate the sight of Calvin's jeans stacked on wooden pallets at Costco for $23.99. The same jeans that department stores sell at 48. As Bloomingdale's CEO Michael Gould put it, "I'm concerned wherever there's an erosion of a brand. Once an upscale brand goes into mass-discount distribution, it's over". Bruce Merrifield, foremost expert on how electronic commerce is changing distribution channels, says this. "Every manufacturer that has a memorable brand name must be prepared for end users to go to brandname.com, hoping to find the most informative site for those goods. They will also expect to be able to order any pre- or post- sale materials or samples. Some end users may even discover products they didn't know existed and will want to buy them then and there. The manufacturer should meet these expectations to protect and improve the brand name's meaning for both end users and ALL channel partners that sell that line." The moral of these stories? It behooves channel partners and manufacturers to make online sales a reality in a way that protects what makes a product desirable in the first place. Brand. The five channel solutions currently available to manufacturers are briefly:
1. First, The Grenade Model complete channel destruction. Just throw the grenade in and see what happens. This is the approach Herman Miller took. They've gone online, telling channel partners that it's their way or the highway. How do channel partners feel about this? As an executive at Miller's second largest dealer says, "They've made their dealer community an essential business partner over the years. Now, they're saying let's fight them for this kind of business on the Internet." Contract suppliers and retailers are very unhappy about Miller selling online and see it as direct competition. One prominent retailer told me that "if a comparable product was available today and the manufacturer guaranteed not to compete with us on the Internet, we would drop Miller immediately." 2. Second, there's "The Do Nothing Model" . This is the one Versace was using they have a Web site, but only a single picture resides on it. It won't shock you to learn that this model is a lose-lose proposition for all. For customers, not being able to buy online is frustrating enough. But not even being able to find a retailer or get a phone number is quite another. Retailers lose the awareness that a Web site could provide and the business that results from it. Versace loses sales and something far more important brand satisfaction. 3. Third, there's "The Referral Model" that Ping Golf Clubs is using. At pinggolf.com, you can search for nearby retailers by city, state, zip or name. Ping gives 50 options in an attempt to even the playing field for competitive retailers and give consumers more choice. Unfortunately, by using this model, you may lose your customer to another brand-perhaps an online brand that can meet their needs then and there. And no matter how you look at it, you lose control of the branded experience that you've worked so hard to achieve. 4. Fourth is the "Share The Customer Model." Companies like InfoNow offer a partial solution by creating co-branded websites. Maytag is one of their clients. In this model, the consumer goes to Maytag.com, shops for a product, finds it, adds it to a shopping cart and selects a retailer in the area. Theoretically, the customer would then go to a co-branded website to complete the sale. However, at Maytag, when you go to buy the product, you end up at a retail locator and get a map not a co-branded site or even a link to a retailers site. Game over. If by chance you went to HomeDepot.com, which is not linked from Maytag, you can actually purchase the product online or choose General Electric. Amazingly, if you search for Maytag at HomeDepot.com, you end up pulling information from a co-branded site hosted by InfoNow. You know what Maytag's other partners like Best Buy think of this one! And the reason you can only access the co-branded Maytag/ HomeDepot site one way has everything to do with brand control. Here's an important note to remember. Unless ALL your channel partners are willing and able to pay for and promote co-branded sites, co-branding does not work if for no other reason than by excluding and biasing some of your important customers. 5. Finally, there's the "Channel Preservation Model." This is the model where a manufacturer retains total brand control and sells on the Internet directly to the consumer, while keeping all channel partners in the financial and logistical loop. The consumer gets the brand they want and chooses the channel partner they are accustomed to dealing with for service, support and returns. Your channel partners benefit from the profit, volume and relationship building-benefits being offered to consumers. This model benefits industries that have varying degrees of channel partner complexity. I'll illustrate how it's working in luggage, beauty and powersports verticals. The luggage industry consists only of manufacturers and retailers. 70% of all products are sold through specialty stores and 30% through department stores. Luggage is not purchased often and retailers rarely carry all of a given manufacturer's SKUs. Consumers are more loyal to the brand than the retailer, but want to physically see the product before purchasing. Retail purchases are made based upon features, color, available selection and store location. Manufacturers are accustomed to shipping single items of luggage to retailers and have the infrastructure to ship directly to consumers. A luggage manufacturer like Tumi can create an online branded shopping experience where the consumer can specify size, features and color. The consumer buys the product at tumi.com, entering name, address, and payment information. Based on zipcode, the consumer must select a retailer from a localized list. If the retailer is not listed, or the consumer is from out of town, a search engine is available to locate the appropriate retailer. The chosen retailer receives monetary credit for their portion of the profit and is expected to handle support, services and returns. Everyone in the channel is notified of the sale. This gives the retailer the opportunity to provide additional products and services. It also gives the manufacturer invaluable geo-demographic and marketing information. The beauty industry has a multi-tiered channel distribution chain. L'anza Research, an upscale hair care manufacturer, has a commissioned sales staff. They sell to distributors, who in turn have a commissioned sales staff. The distributors sell to salons that have stylists, who may receive a commission when they sell to consumers. Long story short, there are up to five intermediaries between manufacturer and consumer. What happens when you cut any of them out? Well, cut the stylist out, and that individual will recommend other products. Cut the salon out, and they'll stop selling the product line altogether. Cut the distributors out, and lose the salon and its customers. And so on. In the Channel Preservation model, here's how this gets solved. Customers-and by this I mean distributors, retailers, and end users-can buy products at different parts of L'anza's web site. Whether the consumer is purchasing at retail or the salon at wholesale, every one of the intermediaries is tagged to the sale and receives their respective profit from it, just like in the luggage industry. The powersports industry is extremely complicated as you will see from the following diagram. It's a prime example of how many supply chains can exist within one. However the Channel Preservation Model solves even the most complex scenarios. The example is difficult to follow but I'm sure you will get the point. Powersports is comprised of parts manufacturers, OEMs, distributors, dealers, and of course, the consumer. The parts manufacturers sell to OEMs, distributors and dealers. For example, Fox Racing, which manufactures shocks for automotive, powersports and mountain bike applications, sells private label parts to OEMs for use in snowmobiles. The OEM also resells Fox's shocks under the OEM's brand to its distributors and dealers. But Fox also sells Fox brand shocks to Parts Unlimited, a national distributor. They sell the identical shock to the same dealers. To add to the confusion, Fox will sell to the dealer directly if the volume is high enough. And to top it off, some parts manufacturers that sell across all of these channels will also sell directly to consumers. At first glance, this looks like a disintermediated channel. But that couldn't be further from the truth. For a manufacturer like Fox, about 1/3 of their businesses comes from OEMs, 1/3 from distributors, and 1/3 from dealers. The rules relating to who sells what to whom are very specific. If Fox circumvents distributors or dealers, it risks losing a major portion of its business. They only sell direct to dealers where distribution does not exist or where distributors do not carry the part. They only sell discontinued parts to consumers. And although they make less money selling private labeled parts to OEM's, the volume is very high. If Fox or any manufacturer like Fox steps out of line or allows any of its channel partners to do so, this delicate house of cards crumbles, and they're gone. The Channel Preservation Solution enables all of the buyside and sellside rules of this industry to be adhered to, while crediting every purchase to the correct channel partners. Anyone in the industry, including the consumer, will be able to purchase anything from a parts manufacturer, OEM or distributor without circumventing any of the channel partners. So, as you can see, no matter how complex your channel is, the Channel Preservation Model will solve your problems. It is customized to fulfil the needs of the individual verticals and each company within them. Just what does all of this mean? What's the bottom line of the Channel Preservation Model? Let's look at the verticals I just talked about and zero in on the answers. First, take a quick look at the haircuts around you, because what I'm about to say will shock you. 40% of all people in America have been in a salon or barber once in their lives. A mere 10% go back. This explains why so many people have bad hair days. More importantly, of those 10% who return to salons, only 40% buy professional beauty products. In other words, 4% of America is buying shampoo like L'anza and Aveda. Manufacturers within the beauty industry have been fighting for each other's market share for years without expanding its size. The ease of access for consumers to buy online will change all of this. A mere 0.1% increase in market size equals hundred of millions of dollars to the industry. In other words, market size is the prize. Being able to sell on the Internet while preserving channel agreements presents a gigantic opportunity for companies to increase the size of the pie. Only the Channel Preservation model allows for this. Another benefit is larger market share. Right now Tumi is losing sales to competitors because all their products are not available all the time in and where the consumer shops. If Tumi goes online and can manage to do so without harming brand or channel relationships, they can dramatically increased market share. Too many times, whether at department stores like Dayton's or specialty retailers, the size, color or features you want are not available. So you buy a competitive brand with larger representation. The Internet will provide Tumi with a sustainable competitive advantage. et another benefit of selling online is increased customer satisfaction and loyalty. Arctic Cat, a manufacturer of snowmobiles, is a prime example of this. They have over 60,000 SKUs, yet sell their products through authorized dealers that can barely carry 600. That's a problem for customers whose snowmobiles need repair. They have to hook up a trailer to the car, then drive- sometimes great distances-to their dealer for diagnosis. Half the time, the dealer has to order a part, which means keeping the sled or sending it back unrepaired. In either case, the customer has to return to the dealer again. Not only does this represent a loss of good sledding time, it's inconvenient for customers. When that happens, when customer satisfaction drops, there's the risk of losing the customer completely. You don't need to be a rocket scientist to know that the customer who spends hours driving back and forth is not the happiest customer. The dealer who can eliminate one or all trips wins. The prize is saving time, building customer loyalty and the Arctic Cat brand. This is a very critical point. As all of you know, the cost of losing a customer is high. A company's goal is and always should be zero defections-that is, keeping every customer you can profitably serve. That's hardly a small task considering that most businesses lose 15-20% of customers annually. As a customer's relationship with a company lengthens, profits rise-and not just a little. Although defection rates vary across industries, the bottom line is consistent and clear: Profits rise as defections fall. In some instances, reducing defections by 5% generates over 100% more profits. In the case of Arctic Cat, selling on the Internet means that customers can go to the manufacturer's site and walk through an interactive diagnostic program for their snowmobile. The program identifies the product needed, and if a mechanic is required for installation. The customer then purchases the part directly from the site, indicating the dealer they would normally buy from, who receives credit for the sale. If the part needs to be installed by a mechanic, it is shipped to the dealer, who notifies the customer when and schedules a service appointment. This system doesn't merely apply to repairs. It works for all products offered by the manufacturer, including accessories, clothing, performance enhancement items, and, yes, snowmobiles. 24 hours a day, 7 days a week. Customers aren't the only ones who benefit here. Being online allows dealers to reduce spare parts inventory, maximize service department productivity, and offer improved services. There's another benefit to selling online with the Channel Preservation model: the reduction of bad debt. Because online purchases occur through major credit cards, the percentage of bad debt will decrease as volume increases. Money is collected and distributed before the product leaves the door. The bottom line is this will affect your bottom line. I'd like to conclude by emphasizing something we all know to be true. The fact that you have channel conflict does not change the fact that the internet is here to stay. With the solutions available today, the adoption of an Internet strategy cannot be delayed. I urge you to do the following. Become informed on viable options. Work CLOSELY with your channel partners. Develop mutually beneficial strategies. Then, vigorously pursue the strategy that helps everyone in your channel succeed. The result will be increased profits, brand integrity and a sustainable competitive advantage. Additional Readings: Understanding Channel Conflict
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