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THE McKINSEY QUARTERLY 1997 NUMBER 3 37

Channelconflict:When is itdangerous?

MANUFACTURERS TODAY selltheir products through adizzying array of channels,

from Wal-Mart to the World WideWeb and everywhere in between. Sincemost manufacturers sell through severalchannels simultaneously, channelssometimes find themselves competingto reach the same set of customers.When this happens, channel conflictis virtually guaranteed. Such conflictalmost invariably finds its way back tothe manufacturer.

Conflict comes in many forms. Someis innocuous merely the necessaryfriction of a competitive businessenvironment. Some is actually positivefor the manufacturer, forcing out-of-dateor uneconomic players to adapt or

Separating complaints from economic reality

When there is a conflict, there are efective options

Dont overreact, but dont get paralyzed either

The authors would like to thank Tanuja Randery

and Nina Eigerman for their contributions tothis article.


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perish. But some is truly dangerous, capable of undermining the economicsof even the best product.

Dangerous conflict generally occurs when one channel targets customer seg-ments already served by an existing channel. This leads to such a deterio-ration of channel economics that the threatened channel either retaliatesagainst the manufacturer or simply stops selling its product. In either case, themanufacturer sufers.

The stakes can be high. Consider a few examples from the United States.Hills Science Diet pet food lost a great deal of support in pet shops and feedstores as a result of the companys experiments with a store within a storepet shop concept in the competing grocery channel. In the auto market, ATK,the dominant seller of replacement engines for Japanese cars, lost its virtual

monopoly when it attempted to undercutdistributors and sell direct to individualmechanics and installers.

Quaker Oats recent $1.4 billion writeof fromthe divestiture of its Snapple business wascaused in part by channel conflict. Quaker

had planned to consolidate its highly eficient grocery channel supportingthe Gatorade brand with Snapples channels for reaching convenience stores.Snapple distributors were supposed to focus on delivering small quantitiesof both brands to convenience store accounts while Gatorades warehousedelivery channel handled larger orders to grocery chains and major accounts,leveraging Quakers established strength in this area.

However, the strategy backfired. As Quaker suggested moving larger Snappleaccounts to Gatorades delivery system, Snapples distributors revolted. Theysaw the value of their Snapple business as an exclusive geographic franchisethat the split channel strategy would undermine. Several Snapple distributorstook legal action against Quaker. The company ultimately backed down, butthe dispute had created a considerable distraction at a time when competitionfrom Arizona and Nantucket Nectars was intensifying.

Identifying a threat

While it is clear that some channel conflict can be devastating, many manu-facturers have a hard time figuring out exactly which conflicts will pose athreat. We believe the key to spotting dangers ahead lies in answering foursimple questions:

First,arethechannelsreallyattemptingtoservethesameendusers?Whatmay look like a conflict issometimes anopportunityfor growth asa new channel

CHANNEL CONFLICT: WHEN IS IT DANGEROUS?


Many manufacturers have

a hard time figuring outexactly which conflicts

will pose a threat


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reaches a market that was previously unserved. When Coca-Cola installed itsfirst vending machines in Japan, for instance, retailers objected. However, thecompany succeeded in showing that while the vending machines did indeedserve the same customers, they did so on diferent occasions and ofered dif-ferent value propositions. It was able tocounter theretailers noisy complaintswith economic realities. In a similar way, companies like Charles Schwab areusing online channels to satisfylatent consumer demand fornew approaches topersonalfinancial services, such aslow prices combined withabundant, readilyaccessible information for thedo-it-yourself customer segment.

Second, do channels mistakenly believe they are competing when in fact

they are benefiting from each others actions? New channels sometimesappear to be in conflict with existing ones when in reality they are expandingproduct usage or building brand support. Nike, for instance, has forward-integrated into NikeTown flagship stores that have enhanced brand aware-ness and prestige and given the company more control over brand image.Though competing athletics stores balked at first, the new store is thought tohave boosted sales across all channels.

The collaboration of publishers with new Internet bookseller Amazon.com toenable books to be sold on line and reduce return rates has forced categorykillers like Borders and Barnes & Noble to enter the online arena. Althoughit is still too early to tell, this strategy may expand the market for books asconsumers enjoy easier access to the product and use tools such as EYES,Amazons browser, to obtain additional information on new titles.

In insurance, Progressive Auto Insurance has successfully introduced directtelephone sales alongside its agency channel. Auto-Pro provides a 24-hourreferral service to agents as part of the service. Avon appears to be followinga similar strategy in cosmetics: its soon to be launched Internet site willpermit both direct transactions and referrals to Avon sales representatives. Webelieve that eforts like these will actually enhance sales in other channels,not cannibalize them.

Third, is the deteriorating profitability of a griping player genuinely the

result of another channels encroachment? Poor operations, not conflict,may be the cause of a decline in a channels competitiveness. When a weakoperator is the only voice complaining about conflict, manufacturers shouldassess the likelihood that its business will fail and estimate how much revenuethey would lose if it did. They should then decide whether to support theplayer more actively or develop a migration strategy to replace lost profitsby using other, more viable intermediaries within the channel.

Selecting the right partner within a channel is oten as important a strategicdecision as determining which channels to use. To avoid becoming dependent




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on unsuitable partners, manufacturers should monitor the operations ofchannel partners and work to develop their skills and capabilities. They mayalso find it helpful to switch partners from time to time.

Fourth,will a channelsdecline necessarily harma manufacturersprofits?

Channels sometimes deteriorate because of economic shits and changes inconsumer preferences. A case in point is the decline of uneconomic medium-sized cigarette distributors and jobbers in the United States during the 1970sand 1980s. These companies were relics of an era of highly fragmented salesand distribution. Cigarette brand leaders refused to prop them up, puttingtheir might behind larger, more economic players instead.

More recently, large pharmaceutical companies and their distributors haverefused to reduce their profit margins to support independent pharmacists.Instead, they have chosen to favor HMOs and mail-order pharmacies withcheaper prices for bulk orders so as to develop relationships with these newand increasingly important channels. Independent drugstores demandingequal treatmentlauncheda federalcourtantitrust suit that is yet tobe resolved.

If a channel is declining because of the emergence of a competing channelthat consumers prefer, the manufacturers strategic priority must be to alignwith the new channel. The trick is to do so without provoking the wrath of thedeclining channel, especially if it continues to carry significant volume. Inthe United States, specialty pet food producers are actively aligning withtwo emerging category killers, PETsMART and Petco, while simultaneouslysupporting the economics of small pet shops. These latter players are clearlyin decline, but still represent 60 percent of specialty pet food volume.Similarly, when Goodyear entered mass merchant channels, it kept inde-pendent dealers happy by introducing specially designed programs to driveshare growth in the tire replacement market.

When to act

Answering these four ques-tions gives manufacturers abetterunderstanding ofwhichchannel conflicts are trulydangerous. If a conflict isdestructive and a substantialamount of current or futurevolume passes through theofended channel, manufac-turers must act to alleviatethe situation (Exhibit 1). In

making a judgment, manu-facturers should compare the



Exhibit 1

Decision-making framework

Prospect ofdestructiveconflict

Importance of threatened channel in terms ofcurrent or potential volume or profitability

High(fire)

Low(smoke)

High Low

Act to avert oraddress conflict

Allow threatenedchannel to decline

Look foropportunities toreassure threatenedchannel andleverage your power

Do nothing


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cost of preserving the volume and related profits of the existing channel withthe economic benefit of entering a new channel, taking into account thelikelihood of retaliation and the costs it might involve.

Scenario planning or game theory can be used to predict channel responsesand to estimate the cost of taking no action. However, as a general rule, achannel in distress that is not in decline and carries more than 10 to 15 percentof volume and/or profit needs attention.

Averting channel disaster

If a manufacturer determines that channel conflict is potentially dangerous,the next question is exactly what to do about it. Exhibit 2 outlines a variety ofways to tackle channel conflict at different stages in its development. Ifconflict has recently arisen between channels focused on the same segments,a supplier might respond by introducing separate products or brands tailoredto each channel.

Black & Decker, for instance, ofers three diferent ranges via three diferentchannels. For casual do-it-yourselfers, it markets the Black & Decker rangethrough K-Mart and similar outlets. The needs of serious enthusiasts are metby the Quantum brand, introduced in 1993 and stocked by The Home Depot.Finally, DeWalt products, launched back in 1991, are designed for theprofessional contractor or builder who purchases from trade dealers.

Similarly, Kendall-Jackson now ofers wine sales on the Internet in 13 of the 50

American states. The wines sold on line, such as Artisans & Estates, are rarely

carried by K-Js retail channels, which stock more popular brands such as

Vintners Reserve and Grand Reserve. The company also prices its Internet



Exhibit 2

Ten ways to manage channel conflict

Two or morechannels target

the same customersegments

1. Differentiate channeloffer

2. Define exclusiveterritories

3. Enhance or changethe channels valueproposition (eg, bybuilding skills invalue chain)

Channel economicsdeteriorate

4. Change the channels economic formula: Grant rebates if an intermediary fulfills

certain program requirements

Adjust margins between products to supportdifferent channel economics

Treat channels fairly to create level playingfield

5. Create segment-specific programs (eg, certainservices not available via direct channels)

6. Complement value proposition of the existingchannel by introducing a new channel

7. Foster consolidation among intermediaries ina declining channel

Threatened channelstops performing or

retaliates againstthe supplier

8. Leverage power(eg, a strong brand)against the channel

to prevent retaliation

9. Migrate volume towinning channel (eg,to warehouse clubsfor packaged goods)

10. Back off


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oferings at the highendofstreet prices toavoid channel conflict,and addsvalue

byproviding guidance forprospective buyers. ItsWebsiteincludes over150pages

of information targetedatnovice, intermediate, and advanced wine lovers.

Another company using a diferentiated brand strategy to serve multiplesegments simultaneously is Levi Strauss. It targets Britannia jeans and Levibranded casual wear to moderate-income families via discount chains suchas Wal-Mart and Target, while aiming Dockers and Silver Tab clothing atfashion-conscious young adults who shop in department stores and specialtyretailers. Young professionals in search of business casual wear are catered forby Slates, on sale in Macys, Bloomingdales, and other upmarket departmentstores, while at the opposite end of the scale, bargain hunters can find over-stocks and seasonal, discontinued, or damaged merchandise from all rangesby shopping in Levis own outlets.

Alternatively, a manufacturer can create the illusion of diferentiation byusing diferent names and numbers for the same items and introducing minorproduct modifications. In the mattress industry, for example, major suppliersofer similar or identical products through diferent channels under diferentnames. Customers are confused by what appear to be hundreds of diferentmodels so much so, in fact, that savvy retailers compile lists of comparableproducts as sales tools.

Similarly, consumer electronics companies sometimes allocate diferent modelnumbers to the same product in diferent channels. However, this approachmay now be losing ground. Rather than relying on model numbers, consumersare increasingly using buying guides (many of them available on the Internet)to make objective comparisons of features and prices.

Another approach manufacturers might adopt is to divide channel roles sothat individual channels are confined to performing specific functions in thevalue delivery chain. That could mean allocating exclusive territories, orsimply improving the definition and enforcement of roles and terms within achannel, as copier manufacturers such as Kodak did to settle the war betweenvalue-added suppliers and brokers.

Manufacturers could also consider improving the economics of a decliningchannel, which oten improves its performance at the same time. They might,for instance, ofer rebates if an intermediary satisfies certain requirementsfor value-added service, or adjust margins between products to reflect theservices ofered by distributors.

In 1992, GEs appliance division strengthened its dealer network and retail

business by introducing extensive support programs to help dealers andbuilders remain competitive. It adopted a two-tier approach. On the one




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