BABASAHEB GAWDE INSTITUTE OF

MANAGEMENT STUDIES

PROJECT REPORT ON

CHANNEL DECISION

SUBMITTED BY

DARSHANA JANBANDHU 42

ASHISH KALAMBE 47

MASTER ASHISH KAMBLE 48

ALOK KAPADIA 49

Under the guidance of Prof. Ghanachari

TABLE OF CONTENTS
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SR. PARTICULARS PAGE
NO NO

1 EVALUATION OF DISTRIBUTION 1

2 DIFFERENT CHANNELS OF DISTRIBUTIONS 1

• Direct Selling

• Selling Through Intermediaries

3 PLANNING THE DISTRIBUTION CHANNEL 2

MIX

• Channel Selection

• Planning the Channel Mix

• Case Study on Placement Pvt. Ltd.

• Case Study on Bombay

Pharmaceutical Ltd.

4 DISTRIBUTION COST AND 8

TRANSPORTATION MODEL

• Problem

5 DISTRIBUTION COST MANAGEMENT 10

6 EVALUATION OF DISTRIBUTION 11
EFFECTIVENESS

7 CONCLUSION 13

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1. EVALUATION OF DISRTIBUTION

Peter Drucker has described distribution as: “industry’s Dark Continent”

implying thereby that the distribution system seldom receives the attention it
deserve and there are lots of things yet to be explored in this area. His is intriguing
when one considers the fact that distribution happens to be one of the first among
the functions initially identified in Marketing. Distribution function includes all the
activities in getting a product from the manufactures to the ultimate consumer.
Obviously there is a “gap” between manufacturer and consumer. It is the function of
distribution to fill in the gap.

Distribution function broadly covers:

i. Transport services for timely and safe physical movement of goods.

ii. Warehousing facilities that irons out the market fluctuations and make the
goods available to the customers when and where needed.
iii. Sorting and grading of goods thus facilitating customers’ choice in
selection of goods.

2. DIFFERENT CHANNELS OF DISTRIBUTION

The gap between manufacturer and ultimate consumer is the result of

economic set-up and therefore almost unavoidable. The manufacturer has to locate
marketing intermediaries or middlemen, performing essential functions, popularly
known as brokers, agents, wholesalers, retailers etc. They commonly called
distribution channels.

Direct Selling:

Manufacturer to ultimate customer e.g. manufacturer of machinery may directly

contact the user firms, a detergent manufacturer employ sales girls to sell on door-
to-door basis.

Selling through Intermediaries (middlemen):

A. Consumer products:

a) Manufacture – Broker or agent – Wholesaler – Retailer – Consumer

b) Manufacturer – Own stores – Consumer
c) Manufacturer – Mail order – Consumer
d) Manufacturer – Wholesaler – Retailer – Consumer
e) Manufacture – Own branches/Depots – Retailer – Consumer.

B. Industrial Products:

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 a) Manufacture – Broker or Agent – Distributor/Wholesaler- Industrial,
Institutional or commercial user
b) Manufacture – Distributor/Wholesaler- Industrial, Institutional or
commercial user
c) Manufacture – Own branches/Depots - Industrial, Institutional or
commercial user

A large organisation, or even a medium or small-sized organisation, engaged

in consumer or industrial marketing, will not have only one channel of distribution –
most probably it will have a number of channels i.e. channels- mix.

3. PLANNING THE DISTRIBUTION CHANNEL-MIX

Channel Selection:

In channel selection, the overriding consideration will be maximum contribution to

the profit performance and easy availability of company’s products to ultimate
users.

General factors influencing channel selection are summarized as under (following

closely Prof. Kotler):

a) Determining channel objectives and constraints – This involves clear

determination of target market and finding out the best channel to achieve
this target. In other words, by using appropriate channel, the marketers want
to maximize revenue for a given distribution cost.
b) Customer Characteristics – This refers to geographical distribution frequency
of purchase, average quantity of purchase and number of prospective
customers.
c) Product Characteristics – Such as perishability, bulk, colour, degree of
standardization, unit value etc. These have important bearings in channel
selection.
d) Middleman Characteristics – This involves certainly of availability, delivery
service, technical support, financial strength. Locations, size variation of
middlemen and their strengths and weaknesses in selected areas.
e) Competitive Characteristics- This involves collection of information regarding
channels competitors’ use, since as a matter of policy, the producer would
like to avoid the channel being used by the competitors.
f) Company Characteristics – These may include size, financial position, type of
products and past channel experiences, etc., and all these factors have
considerable impact on channel selection.
g) Environmental Characteristics – These include economic condition and the
existing laws re: appointment of sole-selling agents.
h) Channel Characteristics – This is the last but not least important criterion in
channel selection. This involves cost-benefit analysis, sometimes intricate in
nature, as discussed later in this chapter.

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Planning the channel-mix:

The need and importance of distribution channel-mix has been appreciated even by
small and medium-sized units engaged in the distribution of consumer and
industrial products. This is because of availability of various alternatives with
attendant advantages and disadvantages. The decision of channel selection also
accounts for major distribution cost. The decision channel-mix is generally guided
by the following broad factors:

a) Promptness and regularity in making the products available to the ultimate

users.
b) Cost of alternative models of distribution.
c) Extent of possible market segmentation and product differentiation, and
d) Changes needed in the organization e.g. setting up another Branch/ Sales
Depot.
The choice out of a few alternative distribution channels will involve a proper
comparative assessment of different levels of capital investment, advertising and
sales promotional expenses, working capital for inventory and forecast of sales and
expenses all over a future time-scale.

ILLUSTRATION:

Selection of Distribution Channel

ALTERNATIVES

(Rs./Lakhs)

I II III

Yea Sal Expens Net Sal Expens Net Sal Expens Net
r es es Marg es es Marg es es Margi
in in n

1 10 8 2 8 7 1 14 12 2

2 12 11 1 10 8 2 16 13 3

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 3 15 12 3 11 10 1 18 15 3

4 18 14 4 16 11 5 21 17 4

Note:

1) Sales expenses are estimated over the probable “Life” of the channels.
2) Expenses include deferred revenue items and variable expenses viz.
discount, commission and finance charges.

Analysis and Decision-Criterion:

Since the Net Margin is spread over future periods, all the estimated net margins
are to be brought down to their present values by using discount factors (i.e. using
discounted cash flow method). Then these have to be related to the present values
of respective capital investment, also to be separately estimated for each
alternative channel. The channel showing the maximum ratio or percentage of net
margin at present value to capital investment should be selected.

PLACEMENT PRIVATE LTD

(A Case Study on Changeover in Distribution System)

The company operates its own delivery vans to distribute its products in the
metropolitan city where the factory is located. It is considering a changeover to
agents who will collect the goods from the factory warehouse and deliver to the
retailers. They will be paid a commission of 5% from which they will pass on 1% to
the dealers. The company will raise invoices on the agents on 30 days credit.
Following are the other relevant data:

Particulars System Existing System Proposed

No. of vans 5

Original cost of the vans Rs. 2,00,000

Depreciation rate 20% of original cost

Drivers/ delivery workers 40

(No.)

Salaries/wages per month Rs.25, 000

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Maintenance & running exp. Rs. 2000
Per van per month

Other overheads per month Rs. 5000

Approx. Sales value of Rs. 20,00,000

deliveries per month

Dealers/agents commission Rs. 2% 5%

Terms Cash 30 Days credit

Sales may fluctuate + 20%

To arrive at the right choice, per month under the above situation from the financial
point of view, the following aspects have to be considered:

1. Total cost of operation per month under the existing system and the
proposed system and in each case, under three alternative sales forecasts,
viz., Rs. 20 Lakhs, Rs. 24 lakhs and Rs. 16 lakhs, should be worked out.
2. For the purpose of (1) above, deprecation is to be considered as an element
of cost in the existing system. Similarly, interest (at the marginal rate at
which the company will have to borrow money) on the working capital lock-
up, because of the 30 days credit to be allowed will have to be considered as
a cost, under the proposed system.
3. In case a changeover is to be made, the sunk cost, viz., unabsorbed
depreciation on the delivery vans, and also the time required to recover the
sunk cost after the changeover are to be worked out and considered while
taking the decision.

Quite often a company would like to open its own branches or sales deposits and
change over from selling through distributors to selling through its own distribution
set-up. While a similar financial evaluation on the lines suggested above would also
be necessary in such a case, there may be a number of marketing and strategic
considerations affecting such changeover. Here is an interesting real life case
history highlighting the interaction between financial considerations and strategic
factors in the decision-making process and implementation of a decision.

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 BOMBAY PHARMACEUTICAL LIMITED

(A Case History on Opening a Sales-Depot)

The company was selling its products in a particular semi-urban area through a
distributor against an overriding commission of 10 per cent on sales. The annual
set-up cost of a sales-depot in that area was estimated to be Rs.2 lakhs. And if the
distributor were to be estimated there would also be an additional variable cost of 6
per cent on sales (due to additional transport charges, interest on working capital
lock-up and other inventory carrying cost).

Based on these data the management accounts of the company made break-even
study and suggested to the management that the break-even sales to justify a
depot in the area was Rs.50 lakhs. This was arrived at as follows:

B.E. Sales value = Incremental Fixed cost = Rs. 2 lakh

Incremental C/s ratio (10-6) %

= Rs. 2 lakhs / 4%

= Rs. 50 lakhs

This assist the management in similar decisions the management accountant also
included in his report a simple table as follows:

Rate of overriding commission Break-even sales value (Rs.

Lakhs)

12% 33.33

11% 40.00

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 10% 50.00

9% 66.67

8% 100.00

7% 200.00

The above workings were based on the facts that:

1. the annual fixed set-up cost of a sales-depot in any semi-urban area in India
would be around the same Rs. 2 lakhs;
2. the variable cost of 6% would also remain unchanged; and
3. the overriding commission rates varied from place to place, ranging from 8%
to 12%.

On the basis of this analysis the top management came to the following
conclusions:

1. Based on the present turnover rate and immediate future growth in turnover,
the company should open new sales depots in four places in India and there
by eliminate distributorship in those areas.
2. The decision to open a depot in one place which had been taken recently was
wrong, since the turnover of that area was below the break-even sales value
to justify the setting up of a depot.

Accordingly, it was proposed by the top management to close down the depot
where it was not justified and open four new depots on the basis of financial
justification.

When the matter was referred to the marketing department, they raised a number
of marketing and strategic factors which would go against the proposed decisions
and their implementations. Some of these were:

1. Most of the distributors had been with the company for a long period, say
about 15 to 20 years, and they considered themselves very much a part of
the company and not just outside distributors. And the company also had
developed a good rapport with them. It would be unfair and unjust to sack
them overnight on financial grounds alone.
2. The distributor in the area in which the decision to open a depot was palpably
wrong was highly connected with hospitals and government authorities. The
company was, therefore, already on the verge of losing a big chunk of
hospital business in that area.
3. Similar marketing and strategic considerations, as in point 2, also applied to
other areas, chosen for the opening of new depots.
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 4. Simultaneous operation through depots as also distributors, suggested by
some for a few areas, was neither financially justifiable nor practicable from
the marketing angle.

Based on these considerations, the company took a decision: “Let us wait and
watch . . . . . . . . . Let us lie low in the matter . . . . . Let us not rush and rock the
boat . . . . . “. In fact, it was no decision – it was a commitment to a policy of drift.

4. DISTRIBUTION COST AND TRANSPORTATION MODEL

Problem of minimizing the cost of transportation of articles from several producing

centers to different selling depots may be solved by applying the transportation
model of linear programming. A problem of this type is quite common but its
solution may be rather baffling due to the intricate network of distribution channels
available to a company. The use of transportation technique reduces the whole
problem to set a group of clerks. (trained in basic arithmetic) or a computer,
depending on the volume of calculations involved. What is important for the use of
this technique is that the problem has to be formulated into a given pattern
amenable to solution by the application of this technique. Here is a typical example
which gives an idea of the nature of the problems capable of solution by
transportation technique.

Problem

There are three factories of X Limited situated in Calcutta, Bombay and Madras. The
produce of these factories can be marketed through its three distributors located at
Delhi, Hyderabad, and Ernakulam. The factories located at Calcutta, Bombay, and
Madras can produce 10 lakh, 12 lakh, and 8 lakh units, respectively. The maximum
quantities that can be handled by the distributors at Delhi, Hyderabad, and

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Ernakulam happen to be 15 lakhs, 10 lakhs, and 5 lakhs, respectively. The cost of
transportation from the factories to the distributors is as indicated in the table
below:

Factories Distribution Centers

Delhi Hyderabad Ernakulam

Calcutta Rs.10 per unit Rs.16 per unit Rs.20 per unit

Bombay Rs.11 per unit Rs.9 per unit Rs.17 per unit

Madras Rs.15 per unit Rs.7 per unit Rs.10 per unit

Required: Quantities to be supplied from each factory to different distribution

centers so as to minimize the total cost of transportation.

The problem must be arranged in the form of a table as shown below:

From / To Delhi Hyderabad Ernakulam Available

(Lakh Units)
Calcutta 10 10 16 10
20
Bombay 5 -11 7 -9 -17 12

Madras -15 3 -7 5 -10 8

Requirements 15 10 5 30 / 30
(Lakh Units)

The negative figures in the italics indicate the cost of transportation per unit from
the different factories to the distributors through whom articles can be marketed.
The positive figures other than italics represent the distributors following the North
West Corner Method. This method involves allocation of all the 10 lakh units
available from Calcutta factory to Delhi distributor in the first instance. The next
state is to allocate 5 lakh units available from Bombay factory to the Delhi

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distributor so that the capacity of this distributor is fully utilized. The third state is to
exhaust the remaining 7 lakh units available from Bombay factory by allocating
them to the Hyderabad distributor. That still leaves unutilized 3 lakh units of
marketing capacity of the Hyderabad distributor. This can be utilized by assigning 3
lakh units available from Madras factory to the Hyderabad distributors.

The balance of 5 Lakh units available from the Madras factory may be allocated to
the Ernakulam distributor to complete the allocation of the entire available product
among distributors. This happens to be the initial distribution and we start
improving upon this allocation by successively shifting units from the more costly
distribution channel to a less costly one, till we reach the optimum distribution
pattern.

5. DISTRIBUTION COST MANAGEMENT

Distribution cost begins with making the packed product available for
dispatch and ends either with making reconditioned returned empty package
available for re-use (where such system exists) or with the goods finally reaching
the ultimate consumer.

Distribution cost is influenced by several factors like, administrative costs (i.e.

running the distribution set-up), volume of transaction, order size, nature of
distribution channel and channel-mix and logistics of distribution (including mode of
transportation, etc.).

Distribution costs are rather difficult to measure and control for various reasons like:

a) Choices of bases of allocation of distribution costs are many e.g. customers,

territories, size of order, order value, salesman etc.

b) Because of (a) above the allocation of distribution cost is likely to be

arbitrary.

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 c) It is difficult to measure the effect on sales of a change in distribution cost
(e.g. effect on sales by changing mode of delivery).

The methodology of distribution cost analysis comprises:

State – 1 : Identifying the distribution expenses e.g. warehouse

expenses, delivery van expenses, salaries and wages general expenses.

Stage – 2 : Allocation of functional expenses to product wise, channel

wise, zone wise etc. on some suitable bases.

Stage-3 : Preparation of profit and loss statement channel-wise, zone-

wise, etc. These days’ computers are being increasingly used for the above
purpose.

The profit and loss statement is subject to two important limitations:

a) Allocation of common costs involve use of bases which are mostly arbitrary in
nature and

b) No corrective action can be taken without other types of pertinent

information and analysis.

While the increasing distribution costs have been worrying many marketing
executives and have also affected the consumer by way of increased prices,
systematic efforts towards containing these costs are practically absent, particularly
in India. One reason for this could be that the executives are not aware of the
interplay of the complex factors in the logistics of distribution and consequently
they are unable to manoeuvre or manipulate these factors.

We may refer in this context to what is called. “The Total Cost Approach to
Distribution” of R. Lakshman & J F Stolle. This has as many as ten important
components. There are warehousing inventory, carrying, inventory obsolescence,
transportation, communications and data processing, alternative facilities use and
customer service, these are the only areas where distribution are incurred. Some of
these costs are visible, other invisible – some are monetary and others opportunity
cost.

6. EVALUATION OF DISTRIBUTION EFFECTIVENESS

Distribution costs are bound to go up not only with increase in the volume of sales
but also with the efforts towards achieving higher market share through better
coverage and penetration into new markets. The problem is not, therefore, to
completely eliminate distribution costs, which is just not possible. The problem lies
actually in eliminating inefficiencies and consequently preventing cost escalation on
this score. Any measure of evaluation of distribution effectiveness should therefore
be directed towards two things, viz., (a) how far is the distribution channel-mix

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adequate to enable the company to improve upon its market share and (b) whether
the total cost of distribution is kept to the minimum. As regards the second aspect,
viz., minimizing the cost of distribution approaches discussed above would be useful
to marketers. Further, an inter-firm comparison between competing firms could be
made, if possible, to ensure how far this objective of minimizing distribution cost is
being fulfilled in reality. This comparison should be made regularly on a periodic
basis. Dr. Donald R.G. Cowan in his paper “Eleven Approaches to their problem of
Distribution Costs” has presented, in a systematic and comprehensive manner,
eleven tests for assessing distribution efficiency. These are briefly stated here:

1. The Product Approach :

Since how much can be sold for a firm’s distribution expenses, volume and
earnings by salesmen’s of efficiency, it is of prime importance to ensure that
the right product is being offered for sale.

2. The Product – Line Approach :

The distribution of a product-line rather than of a single product will

frequently reduce marketing costs, and then certain conditions are met.
Briefly, products suitable for a line should be sold in the same market, and
should be distributed through the same channels without involving different
methods and problems.

3. The Channels Approach :

Many alternative marketing channels are available, and the choice made will
greatly affect distribution costs and efficiency. Moreover, as a firm’s output
grows, it is necessary to reconsider what channels can provide more efficient
distribution and to revamp the structure of discounts and commissions.

4. The Engineering Approach :

Distribution involves many physical activities in the moving and storing of

goods to make them available at proper places and in proper quantities to
cater to the ultimate buyers. This involves both transportation and space
utilization between and within various establishments.

5. The Accounting Approach :

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 The accounting approach is more familiar to sales executives, but has not
been exploited fully in distribution. Typically, it involves the classification of a
firm’s distribution expenses volume and earning’s by salesman’s territories,
by a general line and special salesman, by departments and products, by
activities performed, and the like. The resulting comparisons of expenses,
volume and earnings are helpful in indicating the comparative profitability of
the classified segment of distribution. Some firms have profit and loss
statements for branches, many individual salesman, product departments for
branches, many individual salesmen, product departments, and sales
departments, and ask each responsible person to operate his unit as
profitably as possible.

6. The Operations Research Approach :

The operations research approach, recent and closely allied to engineering,

offers many possibilities. It affords opportunities for the comparison of
alternatives in minimizing efforts and costs in accomplishing a given end.

7. The Economic Approach :

The economic approach takes up where accounting levels off. It is concerned

with changing marketing conditions, sales forecasting, sales potential of
markets, areas and the application of selling, advertising and other such
efforts under conditions of diminishing returns to the point of marginal
balance between expenditure and income and further to the point of
maximum total profit or minimum loss.

8. The Personnel Approach :

The personnel approach to distribution efficiency is somewhat different from

those already described. In the long run, the ability of its distribution
employees is a powerful influence in aspects of distribution, especially the
customer selling function, cannot be reduced to the impersonal and uniform
activities of a machine. Hence, the selection, training and compensation of
distribution personnel; and the fitness of the employee to the task are
important long-run factors influencing distribution costs, yet the opportunities
for improvement are far from exhausted in a multitude of companies.

9. The Organisational Approach :

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 The organizational approach is much wider than the personal approach. To
bring about a dynamic organization there must be clear perception and
definition of the talks to be performed at each level of management, both line
and staff. Smooth working relationships and communication between these
tasks must be worked out, authority commensurate with responsibility must
be delegated, procedures and inducements for stimulating maximum efforts
must be applied and regular evaluation of performance must be undertaken
at all levels to eliminate ineffective personnel or unprofitable activities.

10. The Standardization Approach :

Distribution comprises a multitude of activities in which the human element

looms large and in which, therefore, there is much variation in performance.
The difficulties of bringing about standardization in the ease human activities
constitute the basic reason for lack of mechanization in many phases of
distribution, especially in buying and selling. Nevertheless, there are
important opportunities for increasing efficiently thorough standardization.

11. The Management Approach :

The management approach includes and employs all the other approaches
just outlines, but there is always that something extra, a priceless ingredient,
which makes its contribution distinctive. It is not only management’s
comprehension of the various avenues of efficient and economical
distribution, but also it’s of new methods under conditions of continual
changes in distribution. It must consider which alternative combinations of
machines, personnel efforts, advertising, channels, products and the like will
yield the highest distributive return in the future.

7. CONCLUDING OBSERVATIONS

To sum up and to underline a few other important aspects of management of

distribution, we will make some observations at the end.

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Distribution cost analysis is a fast growing and perhaps the most rewarding area in
marketing cost analysis. Various methods and techniques have been developed in
this area, ranging from the pure book-keeping approach of analyzing the different
heads of expenses, to the more sophisticated OR models. Adoption of any tool or
approach would depend upon the situation obtaining. However, attempts should
always be made first to attach the obvious and achieve tangible cost savings. More
sophisticated approaches may be adopted only after that.

A marketing organization should always be aware of and willing to introduce the

technological improvements as well as the modern management tools that would
contribute towards inefficiency at lower cost. Some of these are: material handling
equipment in warehouses, mechanized invoicing system inventory control methods
and use of computers for close monitoring of inventory movements as well as
greater efficiency and speed in managing over all distribution function.

Application of flexible budgeting concept for the purpose of distribution cost

analysis has been found to be useful in practice. Distribution costs, for this purpose,
may be classified as fixed (e.g. salaries and benefits of distribution staff, warehouse
rental and general charges, etc), and variable (e.g. packaging, insurance,
transportation, interest on inventories at selling points etc). Budgets and norms
should be established for each such major item of expense, under each category,
and actuals watched regularly, say on a monthly basis, to locate weak areas and
initiate control actions. Here again computers would be very useful.

The overall distribution systems should be subjected to a thorough and objective

review at an interval of two to three tears in case of consumer marketing and five
years in industrial marketing. This review may throw up areas of inefficiencies as
well as new ideas to reduce distribution costs in relation to volume, if not in
absolute terms.

Any significant change in the mode of distribution should be subjected to a detailed

financial evaluation of the benefit-cost-analysis type as suggested earlier, before
any decision is taken in this regard. It has been seen that such evaluation would
alter the distribution cost structure itself and in this case, the budgets and norms of
various expenses would have to be reset.

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Last but not the least, the strategic dimension of distribution management should
not be lost sight of in a passionate pursuit of cost cutting measures. Some examples
of strategic considerations are:

1. Penetration into rural market and its favorable fall-out in future.

2. Developing an efficient distribution network for current products would
immensely facilitate new additions or product range extension and also
ensure high cost-effectiveness.
3. Distribution can at times play the predominant role in the total marketing
strategy: for example, a leading brand of gent’s shirts and trousers has
deliberately been selling their products only through one outlet in Bombay,
but competing effectively with other premium brands all over the country.

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