PUC/FBA/MKG/Logistics & Supply Mgt.

Retail Logistics, 2012

CHANNELS OF DISTRIBUTION

Introduction

Physical distribution channel is the term used to describe the method and means by which a
product or a group of products are physically transferred, or distributed, from their point of
production to the point at which they are made available to the final customer. In general, this end
point is a retail outlet, shop or factory, but it may also be the customer’s house, because some
channels bypass the shop and go direct to the consumer.

In addition to the physical distribution channel, another type of channel exists. This is known as
the trading or transaction channel. The trading channel is also concerned with the product, and
with the fact that it is being transferred from the point of production to the point of consumption.
The trading channel, however, is concerned with the non-physical aspect of this transfer. These
aspects concern the sequence of negotiation, the buying and selling of the product and the
ownership of the good as they are transferred through the various distribution systems.

One of the more fundamental issues of distribution planning is regarding the choice and selection
of these channels. The question that arises for both physical and trading channels is whether the
producer should transfer the product directly to the consumer, or whether intermediaries should be
used. These intermediaries are, at the final stage, very likely to be retailers, but for some of the
other links in the supply chain it is now very usual to consider a third-party operator to undertake
the operation.

Channel Types and Structure

There are several alternative channels of distribution that can be used, and a combination of these
may be incorporated within a channel structure. The diagram in Figure 1 indicates the main
alternative channels for a single consumer product being transferred from a manufacture’s
production point to a retail store or shop. Channels from industrial suppliers to industrial
customers are, of course, equally important. Many of the alternatives described here are relevant
for movements such as these.
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retail
retail
retail

Parcels carrier Retail ware house

broker

collect Cash & carry retail

retail Production
facility direct

Wholesale
warehouse Distribution Manufacturer’s
service warehouse

retail
retail
retail

Figure 1 Alternative distribution channels for consumer products

The alternative channels are described below:

Manufacturer Direct To Retail Store

The manufacturer or supplier delivers direct form the production point to the retail store. As a
general rule, this channel is only used when full vehicle loads are being delivered.

Manufacturer via manufacturer’s distribution operation to retail store

This was one of the classic physical distribution channels and the most common channel for many
years. Here, the manufacturer of supplier holds units products either in a finished goods
warehouse, a central depot or a series of regional depots. The products are trunked in large
vehicles to the depots, where they are stored and then broken down into individual orders that are
delivered to retail stores on the supplier’s retail delivery vehicles. The use of this type of physical
distribution channels has decreased in importance in recent years due to a number of
developments in alternative channels of physical distribution. This type of channels is still
commonly used by the brewery industry.

Manufacturer via retailer depot to retail store

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This channel consists of manufacturers supplying their products to national distribution centers
(NDCs) or regional distribution centers (RDCs), which are depots run by the retail organizations.
These centers act as consolidation depots, as goods from the various manufacturers and suppliers
are consolidated at the depot i.e. creating bulk the retailers then use their own delivery vehicles to
deliver full vehicle loads of all the different manufactures’ product (i.e. breaking bulk) to their
own stores. This type of distribution channel grew in importance during the 1970s as a direct
result of the growth of the large multiple retail organizations that are now a feature of the high
street and of the large retail parks. Many retailers now use third parties to run these final delivery
operations.

Manufacturer to wholesaler to retail shop

Wholesalers have acted as the intermediaries in distribution chains for many years, providing the
link between the manufacturer and the small retailer’s shops. However, this physical distribution
channel has been altered in recent years with the development of wholesale organizations or
voluntary chains. These wholesaler organizations are known as ‘symbol’ groups in the grocery
trade. They generally began on the basis of securing the price advantage of buying in bulk from
manufacturers or suppliers. One consequence of this has been the development of an important
physical distribution channel because the wholesalers use their own depots and vehicle fleets.

Manufacturer to cash-and-carry wholesaler to retail shop

Another important development in wholesaling has been the introduction of cash-and-carry
businesses. These are usually built around the wholesale organization and consist of small
independent shops collecting their orders from regional wholesalers, rather than having them
delivered. This increase in cash-and-carry facilities has arisen because many suppliers will not
deliver direct to small shops because the order quantities are very small.

Manufacturer via third-party distribution to retail shop

Third-party distribution or the distribution service industry has grown very rapidly indeed in
recent years as a result specialization. The industry has grown for a number of reasons, the main
ones being the extensive rise in distribution costs and the constantly changing of more restrictive
contribution legislation that has occurred. Thus, a number of companies have developed a
particular expertise in warehousing and distribution. These companies consist of those offering
general distribution services as well as those that concentrate on providing a ‘specialist’ service
for one type of product (e.g. china and glass, hanging garments), or for one client company.

Manufacturer via small parcels carrier to retail shop

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Very similar to the previous physical distribution channel, these companies provide a ‘specialist’
distribution service where the ‘product’ is a small parcel. There has been an explosion of small
parcels companies, specializing particularly in on-time delivery. The competition generated by
these companies has been quite fierce.

Mail order
The use of mail order or catalogue shopping has become very popular. Goods are ordered by
catalogue, and delivered to the home by post or parcels carrier. The physical distribution channel
is thus from manufacturer to mail order house as a conventional trunking operation, and then to
the consumer’s home by post or parcels carrier, bypassing the retail store.

Factory direct to home

The direct factory-to-home channel is a relatively rare alternative. It can occur by direct selling
methods often as a result of newspaper advertising. It is also commonly used for ‘one-off’ special
products that are specially made and do not need to be stocked in a warehouse to provide a
particular level of service to the customer.

Internet and shopping from home

There is now an important development in shopping via the Internet. Initial physical distribution
channels were similar to those used by mail order operations – by post and parcels carrier. The
move to Internet shopping for grocery products has led to the introduction of specialist home
delivery distribution operations. These are run either by the retailers themselves or by third-party
companies. In addition, it is now possible to distribute some products, such as music, software and
films, directly, computer to computer.

Factory to factory
The factory-to-factory channel is an extremely important one, as it includes all of the movement
of industrial products. This may cover raw materials, components, part-assembled products, etc.
options vary according to the type and size of product and order, and may range from full loads to
small parcels.

It can be seen from the list of alternative channels that the channel structures can differ from one
company to another. The main differences are:
 The type of intermediaries
 The number of levels of intermediaries (how many companies handle the product); and
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 The intensity of distribution at each level (i.e. are all or just selective intermediaries used at
the different levels?).
An individual company may have many different products and many different types of customers.
Such a company will therefore use a number of different channels within its distribution
operation. This, together with the large number of variable factors and elements possible within a
channel structure, makes it difficult to summarize effectively. The diagram (Figure 2) below,
however, gives a fair representation of a typical single-channel structure. Note the different
physical and trading channels.

Physical channel Trading channel

Production warehouse Central sales

Manufacture’s trunk vehicle

Distribution centre Regional/

District sales

Third-party carrier

Regional depot
Wholesaler
Local delivery
Shop/store Retailer

Consumer

Figure 2: Typical channel of distribution, showing the different physical and trading routes to the
consumer.

Channel objectives will necessarily differ from one company to another, but it is possible to
define a number of general points that are likely to be relevant. These should normally be
considered by a company in the course of its distribution planning process to ensure that the most
appropriate channel structure is developed. The main points that need to be addressed are as
follows:
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 To make the product readily available to the market consumers at which it is aimed.
Perhaps the most important factor here is to ensure that the product is represented in the
right type of outlet or retail store. Having identified the correct market-place for the goods,
the company must make certain that the appropriate physical distribution channel is
selected to achieve this objective.
 To enhance the prospect of sales being made. This can be achieved in a number of ways.
The most appropriate factors for each product or type of retail store will be reflected in the
choice of channel. The general aims are to get good positions and displays in the store, and
to gain the active support of the retail salesperson, if necessary. The product should be
‘visible’ accessible and attractively displayed in the shop’.

 To achieve co-operation with regard to any relevant distribution factors. These factors
may be from the supplier’s or the receiver’s point of view and include minimum order
sizes, product handling characteristics, materials handling aids, delivery access (e.g.
vehicle size) and delivery time constraints, etc.

 To achieve a given level of service. Once again, form both the supplier’s and the
customer’s viewpoints, a specified level of service should be established, measured and
maintained. The customer normally sees this as crucial and relative performance in
achieving service level requirements is often used to compare suppliers and may be the
basis for subsequent buying decisions.

 To minimize logistics and total costs. Clearly, costs are very important, as they are
reflected in the final price of the product. The selected channel will reflect a certain cost
and this cost must be assessed in relation to the type of product offered and the level of
service required.

 To receive fast and accurate feedback of information. A good flow of relevant information
is essential for the provision and maintenance of an efficient distribution service. It will
include sales trends, inventory levels, damage reports, service levels, cost monitoring, etc.
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Factors Affecting Channel Selection in a Distribution System

Market Characteristics
The important consideration here is to use the channels and types of outlet most appropriate for
the eventual end user. The size and spread of the market is also important. If a market is a very
large one that is widely spread form a geographic point view, then it is usual to use ‘long’
channels. A long channel is one where there are several different storage points and a number of
different movements for the product as it go from production to the final customer. Where a
market has only a very few buyers in a limited geographical area, then ‘short’ channels are used.

Examples of these channels are illustrated in figure 3.

Long channel
Manufacturer’s warehouseManufacturer’s depot Third-party central depot

Retail Retailer’s regional depot

Third-party regional depots
Stores

Short channel

Manufacturer’s warehouse Buyer’s factory warehouse

Figure 3 ‘Long’ and ‘short’ distribution channels

Production characteristics
The importance of the product itself when determining channel choice should not be
underestimated. This is because the product may well impose constraints on the number of
channels that can be considered. For example:

 High-priced items are more likely to be sold direct via a short channel, because the high
gross profit margins can more easily cover the higher sales and distribution costs that are
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usual from short channels. In addition, the security aspects of highly priced items (e.g.
jewelry, watches, CDs, etc.) makes a short channel much more attractive because there is
less opportunity for loss and theft than with a long channel.

 Complex products often require direct selling because any intermediary may not be able to
explain the product (i.e. how it works) to potential customers.

 New products may have to be marketed directly or by mail order because traditional outlets
may be reluctant to stock the product.

 Products with a time constraint need a ‘fast’ channel, for obvious reasons, e.g. bread,
cakes, newspapers, etc.

 Products with a handling constraint may require a specialist physical distribution channel,
e.g. frozen food, china and glass, hanging garments.

Channel Characteristics
As well as taking account of market and products characteristics, another aspect to be considered
concerns the characteristics of the channel itself. There are two different factors that are
important.
 Firstly, does the channel being considered serve or supply the customer in the way
required? A simple example might be new grocery product that needs to be demonstrated
or tested in the shop. There would be no point in distributing this product through a call
self-service store where no facilities can be provided for a demonstration.
 Secondly, how efficient is the channel being considered? Efficiency ay include a number
of different features related to sales or distribution. These might include the sales potential
in the outlet served, the size of orders placed, the frequency of delivery required, etc.

Competitive characteristics
Competitive characteristics that need to be considered concern the activities of any competitors
selling a similar product. Typical decisions are whether to sell the product alongside these similar
products, or whether to try for different, exclusive outlets for the product to avoid the competition.
It may well be that the consumer preference for a wide choice necessitates the same outlets being
supplied. Good examples include confectionery and most grocery items.

Also of very real significance is the service level being offered by the competition. It is essential
that channel selection is undertaken with a view to ensuring that the level of service that can be
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offered is as good as, or better than, that which is being provided by key competitors. This may
well be the main area of competitive advantage, especially for those products where it is very
difficult to differentiate in quality and price.

Company resources
In the final analysis, it is often the size and the financial strength of the company that is most
important in determining channel strategy. Only a fairly large and cash-rich company can afford
to set up a distribution structure that includes all of its own warehousing and transport facilities.
With these, the company has more control and can provide the service it thinks its customers
require. Smaller and less financially secure companies may have to use intermediaries or third-
party organizations to perform their distribution function. In these instances, it may be less easy to
ensure provision of the service they feel their customers would like.

Third-party or own-account distribution and logistics

The most common channel decision for those operating in physical distribution is whether to use a
third-party distribution service, or whether to run an own-account (in-house) distribution
operation

Figure 4 designing a channel structure - a formalized approach.

Set and co-ordinate distribution objectives

Specify the distribution tasks

Developing alternative channel structure

Evaluate the relevant variables

Choose the best channel structure

Select channel members

 Dedicated (or exclusive) distribution operation. This is where a complete distribution

operation is provided by a third-party company. The third party undertakes to provide the
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customer with all its distribution requirements, exclusively on a national or regional basis.
The resources used will include warehouse, depots, transport fleets, mangers, etc. these are
obviously confined to very large companies.

 Multi-user (or shared-user) distribution operation. Multi-user distribution operations are

similar to dedicated operations, the principal difference being that a small group of client
companies is catered for, rather than just a single client. One of the characteristics of this
type of service is that ideally the clients are all manufactures or suppliers of goods and their
products are all delivered to the same or similar customers, for example grocery products to
grocery stores, supermarkets, catering establishments, etc. These are also known as shared-
user operations. The advantage of this approach is that expensive distribution costs are
shared between the clients so all parties enjoy the benefits.

 Special distribution operation. These distribution operations are used for the storage and
movement of products that require special facilities or services, and the distribution
operation run by the third-party company is especially tailored to suit these needs. An
example is the frozen-food distribution service.

 Transit operation. These are operations where the operator is not involved in the storage of
any products for a manufacturer, but is only providing a collect, break bulk and delivery
service thus, no unordered stocks are held, although some minor stock-holding may occur
for a limited number of product lines.

 Joint venture. A limited number of operations have been set up whereby a third-party
operator and a client company form a separate distribution company called a joint venture.
This may occur where a company with its own distribution operation has some
underutilized resources. It will then link up with a third-party operator and offer the service
on a wider basis. This has occurred in the hanging goods and the high-tech sectors.

 Occasional use. Many companies use third-party service on an occasional basis or as an aid
to support their own-account operations. There are a number of reasons why company
might do this: to cover seasonal peaks in demand; to cover weekly demand peaks; for non-
standard products that don’t fit easily into their own operation (very small or very large
products); to deliver to peripheral geographic areas where there is only limited demand for
their products; for non-standard operations (returns, collections, etc)
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 Assembly: the computer industry offers a number of examples where basic products, such
as PC monitors or processing units are initially distributed to the relevant market before
being finally made ready for the final customer. This is likely to include the ‘badging’ of
the equipment with the appropriate name and the installation of the final language
software. This is often undertaken by the third-party distributor.

 Packaging Returns: again linked to environmental legislation, there is a need to collect

packaging for reuse or disposal. A number of third-party operators have set up reverse
logistics operations for the large grocery multiples. Examples include the development of
recycling centers for the disposal of waste and the repair and washing of reusable
containers.

Key Drives for Third-Party Distribution There are a large number of advantages and
disadvantages claimed for and against both third-party and own-account distribution. Some of
these can be objectively assessed. Others are subjective, relating more to historical convention and
personal preference than to anything else. The major drivers for and against the use of a third
party can be split into three broad categories covering cost, organizational and physical factors.

The choice between own-account and third-party distribution needs to be carefully quantified and
analyzed.