4-1
Marketing Channel Strategy
Chapter 4
Make-or-Buy Channel Analysis
Marketing Channel Strategy © 2015 by Pearson Education
Agenda
4-2
Vertical Integration
Costs and Benefits of Make-or-Buy
Channels
Payment Options for Buying Market
Channels
Make-or-Buy Channel Options
Marketing Channel Strategy © 2015 by Pearson Education
Vertical Integration
4-3
Vertical integration is when one organization
does all the work (production, sales,
inventory, credit)
Forward or downstream – a manufacturer
integrates the distribution function
Backward or upstream – a distributor or retailer
produces it’s own branded source of product
Outsourcing is when an organization decides
to buy the services from a third party
Marketing Channel Strategy © 2015 by Pearson Education
Degrees of Vertical Integration
4-4
Buy Make
Classical Market Quasi-Vertical Vertical
Contracting Integration Integration
(Relational Governance)
Third Party Does it How does the You do it
(for a price) the work get done
Their people Your people
Their money The costs Your money
Their risk Your risk
Their responsibility Your responsibility
You and third party
share costs and
benefits
Their operation (control) The benefits Your operation (control)
Their gain or loss Your gain or loss
Marketing Channel Strategy © 2015 by Pearson Education
Continuum of Vertical Integration
4-5
“Buy” is endpoint of the continuum
Every function is outsourced
The manufacturer-distributor arrangement involve no
sharing, no distinctions, and no continuity
Relational governance or “quasi-vertical”
integration
Implies a compromise, in which the channels have
some properties of both owned (make) and
independent (buy) channels.
Close and committed relationship
Marketing Channel Strategy © 2015 by Pearson Education
Institutions Performing Channel
4-6
Functions
Classical Market Quasi-vertical Vertical
Function Contracting Integration Integration
1) Selling (only) Manufacturers’ “Captive” or Exclusive Producer Sales
Representatives Sales Agency * Force (direct
sales force)
2) Wholesale Independent Distribution Distribution
Distribution Wholesaler Joint Venture Arm of Producer
3) Retail Independent Franchise Company
Distribution (3rd party) Store Store
* Operationally, a sales agency deriving more than 50% of its revenues from one principal
Marketing Channel Strategy © 2015 by Pearson Education
Agenda
4-7
Vertical Integration
Costs and Benefits of Make-or-Buy
Channels
Payment Options for Buying Market
Channels
Make-or-Buy Channel Options
Marketing Channel Strategy © 2015 by Pearson Education
Costs and Benefits of Make-or-
Buy Channels
4-8
Costs
Manufacturer assumes all the distribution
costs
Often the costs and risks are underestimated
Benefits
Control which is beneficial if the firm’s
managers exploit it to improve their desire to
control the operation
Opportunity
Marketing Channel Strategy © 2015 by Pearson
Education
Manufacturers Moving to
Downstream Operations
4-9
IBM and General Electric: two well known
capital equipment manufacturers have both
moved into downstream operations
Diminishing appeal of manufacturing as a business
opportunity
Tough competitive demands
Capital equipment earns most profits not though sales
but in maintenance
By integrating downstream, they tap into a
steady stream of maintenance contracts for the
the products they manufacture
Marketing Channel Strategy © 2015 by Pearson Education
Examples of Vertical Integration
Forward: Harder Than It Looks
4-10
Allianz, a German insurance company acquired
Dresdner, a prominent investment bank.
Allianz had no knowledge investment banking
Investment banking fundamentally does not fit with
insurance
Manoukian, a French manufacturer of knitwear
for women developed an ambitious growth
strategy to transform itself into a full-line clothing
maker, but customers failed to appreciate the
distinctions of the product lines and just wanted
the least expensive products
Marketing Channel Strategy © 2015 by Pearson Education
Agenda
4-11
Vertical Integration
Costs and Benefits of Make-or-Buy
Channels
Payment Options for Buying Market
Channels
Make-or-Buy Channel Options
Marketing Channel Strategy © 2015 by Pearson Education
Payment Options for “Buying”
Market Channels
4-12
Three most common
Margin
Commission
Royalty
Other variations
Lump sum or flat fee
Functional discount
Future consideration
Marketing Channel Strategy © 2015 by Pearson Education
Agenda
4-13
Vertical Integration
Costs and Benefits of Make-or-Buy
Channels
Payment Options for Buying Market
Channels
Make-or-Buy Channel Options
Marketing Channel Strategy © 2015 by Pearson Education
Make-or-Buy Channel Options
4-14
The buying perspective
Return on Investment is the primary criteria
Revenues – Direct Costs = Net Effectiveness =
Efficiency
Overhead Overhead
Two situations which might bar vertical
integration regardless of of ROI
Firm lacks and can’t obtain the resources
Firm has other priorities which contribute more to ROI
and exhausts its capabilities
Marketing Channel Strategy © 2015 by Pearson Education
Six Reasons to Outsource
4-15
Distribution
Motivation: both positive (profit) and negative (fear of loss)
provide incentives for good performance
Specialization: all they do, no distractions
Survival of the economic fittest: failure will result if they fail to
perform their functions better than competition
Economies of scale: pooling demands from several
manufacturers to provide marketing channel functions
Heavier market coverage: an external third party can call on
many, smaller customers more frequently
Independence from any single manufacturer: diversified
outside providers can provide impartial advice
Marketing Channel Strategy © 2015 by Pearson Education
Two Categories of Distribution
Capabilities
4-16
Customer Idiosyncratic
Physical Knowledge
Facilities
Tangible Intangible
Capabilities Capabilities
Customized
Site Dedicated Physical Relationships
Specificity Capacity Facilities
Marketing Channel Strategy © 2015 by Pearson Education
Intangible Capabilities
4-17
Idiosyncratic knowledge: can not be readily redeployed
to another principal
Relationships
Connections between distributor personnel and the
personnel of the manufacturer’s customers
Implies an ability to get things down quickly, correctly and
effectively
Brand equity: manufacturer’s brand name
Private-labels used by supermarkets in North American &
Europe
Loblaw: a Canadian grocery store chain maintains
research and development so that they can design
new products for their customers. (ie Decadent
cookies)
Marketing Channel Strategy © 2015 by Pearson Education
Tangible Capabilities
4-18
Customized physical facilities
An important transaction-specific asset can be the actual
physical facilities.
Ex. Amazon
Dedicated capacity: when distribution capability
(e.g., warehousing, transportation, selling, billing)
has been created to serve a particular manufacturer
Site specificity: a manufacturer may need marketing
channel functions at a specific location, which may
be less suited to the needs of other manufacturers
Marketing Channel Strategy © 2015 by Pearson Education
Environmental Uncertainty Affects
Vertical Integration
4-19
Highly Volatile Market
Low Specificity High Specificity
Outsource Distribution Highly Promising Less Promising
to Retain Flexibility Market Market
Until Uncertainty Is
Reduced
Vertically Integrate Do Not Enter
to Gain Control Over
Employees And Avoid
Small-Numbers Bargaining
In Changing Circumstances
Marketing Channel Strategy © 2015 by Pearson Education
Other Reasons for Vertical
4-20
Integration
To reduce performance ambiguity
Relates to the failure of information
The manufacturer cannot discern the level of
performance it is receiving
To learn from customers
Operations in another part of the value chain provide
a window into the market, therefore a way for the
manufacturer to learn
Luxottica purchased Lens Crafters to gain knowledge
Marketing Channel Strategy © 2015 by Pearson Education
Retailer Often Lose Focus by
Integrating Backward
4-21
Intermarche is a large French grocery retailer,
organized as an association of independent
grocery store owners
It was one of the first French grocers to
integrate backward into food production
Intermarche’s vertical integration backwards
consumed management attention at at time
when the core business, retailing, clamored for
a return to the basics
Marketing Channel Strategy © 2015 by Pearson Education
Takeaways
4-22
Creating a relationship is a way to compromise
between making and buying
Integrating forward or backward is difficult and
key questions need to be answered
Outsourcing is the right point to benefit from the
six fundamental advantages of an outside
specialist
If conditions exist that prevent the firm from
benefiting from these six advantages, vertical
integration (or a close relationship) is called for
Marketing Channel Strategy © 2015 by Pearson Education
