STRATEGY: Managing channel conflicts

STRATEGY: Managing channel conflicts

(Double) Crossing the channel

By Brad Howarth.

For years, MIT's Duncan Simester has watched suppliers struggle to develop new and better ways to reach end-customers. Now the Internet offers them a powerful means, but the ramifications can be unpredictable.

If you spend enough time in the IT industry, you begin to think it's the only place where channel conflict exists. While this conflict is clearly one of the industry's most contentious issues -remember the hysteria created by now-failed Compaq Connect strategy? - its occurrence spreads far beyond the realm of IT.

The arrival of the Internet as a reality for retailing in the late 1990s threw all sorts of manufacturers into a spin, sweeping many traditional retailers with them. The World Wide Web was a Pandora's box. While the Web was full of opportunities to grow closer to customers, taking advantage of them would seriously jeopardise relationships with the sales channels that had been servicing those customers in the first place.

Nothing new

Duncan Simester, associate professor of management at the Massachusetts Institute of Technology's Sloan School of Management, has been studying the impact of channel conflict for 10 years. He says these issues aren't specific to the Internet - rarely can a business open a new distribution channel without upsetting someone.

"You don't introduce a new distribution channel very often, and you don't have a lot of experience with the problems that arise when you do," says Simester. "It's a fairly rare thing to do, but everyone's done it at the same time and are experiencing a similar set of problems. Typically there's no solution that will make everybody happy. In these situations you're often forced to take a trade off - targeting one market is often going to hurt your relationship in another market because of these relationships."

According to Simester, there are very few instances of introducing a new sales channel, especially on the Internet, that ever go forward without some degree of conflict. The companies best positioned to go to the Web are usually those that lack a successful track record in the traditional channels. An example is air conditioner manufacturer Carrier, which had moved out of selling inthe US residential market due to low margins.

"Then the Internet came along, and they had the option of distributing that way. They were much better positioned than a lot of their competitors because they weren't restricted in their ability to enter and compete and price through that distribution channel."

Unexpected results

The permutations of channel conflict can be bizarre, and the same factors that work to a company's advantage one day can turn against it on another.

Simester cites Compaq as an example, a company which in its early days struggled to compete with the strong direct sales force of IBM. However, IBM was trying to expand its coverage through relationships with resellers - none of whom were keen to also be competing against its direct sales force.

"So Compaq came along and said it wouldn't have a direct sales force; it would just sell through dealers, and it developed wonderful relationships," Simester says. "Now Dell's come along and they're selling direct. So Compaq's got this problem of whether it sells direct as well because there's a large customer segment that wants to buy direct. The reason Compaq was successful against IBM was that IBM found itself constrained in what it could do by the channel conflict problem. Now Compaq's ability to compete with Dell is constrained with the same channel conflict."

Sometimes, however, compromises can be reached. Take, for example, the US guitar manufacturer Gibson. Its decision to sell guitars online greatly angered its traditional retailers, to the point where they forced it to stop the practice. Nevertheless, Gibson continued selling guitar accessories on the site, such as strings, pedals and plectrums - products with much lower margin than the guitars themselves, and difficult for a retailer to keepcomprehensive stocks because of their variety.

"The traditional channel is really happy about it because the guitars are more valuable to customers when they have access to all the accessories.

[The channel] can't stock all the accessories," Simester says.

Power in the channel

Like conventional warfare, a key factor in determining the outcome of channel conflict is the balance of power. Exactly how much power a channel has comes down to the strength of the relationship between the reseller and the customer, as well as the competitive market they play in.

"If [channel partners] can threaten to walk and take their customers with them, then they have a lot of power," Simester says. "But if they're in a situation where there are a lot of substitutes, such as with travel agents, and in particular where the Internet is a good alternative, such as buying airline tickets, then the travel agents aren't in very good shape."

He says the basic equation for companies that want to compete with their channel over the Internet involves determining where the most customers will be. Until 18 months ago, companies were rushing to the Net to prevent being undermined by new born-on-the-Web competitors. US bookseller Barnes & Noble's response to the perceived threat from was a classic example: the retailer created its own online bookseller (even though this competed against its own physical shops). When industries discovered that the perceived threat was more bark than bite, they began stepping back and taking a more analytical approach to their Web activities.

"If it's the case that most of the customers are going to be on the nternet in the future, and you have market power to extract some margin there, then you should look at the Internet," Simester says. "If on the other hand the Internet is going to be a niche business, then you've got to be careful about upsetting your traditional retailers."

Long-term value

Many channel groups have been successful in the past at delaying or weakening their suppliers' positions on direct selling. Dropping inventory, cessation of promotions and withholding information about customers are all effective weapons when guerrilla warfare breaks out between a supplier and a reseller - but only when the Internet has yet to prove itself as a lucrative alternative. And rightly so in many cases, as retailers often find themselves unwittingly giving a promotional free ride to their supplier's Web site. For channel resellers in areas that can be better serviced directly over the Internet, Simester says the key to survival will be demonstrating their long-term value.

"Digging your heels in and refusing to promote, or threatening to terminate the relationship, is a short-term issue, and most of these [supplier] companies are thinking beyond the short term. They're willing to generate some short-term pain in order to generate some long-term value," Simester says. "They are clearly willing to lose; the question is how much.

"A lot of [channel companies] should be thinking about what niche in particular they can be effective in. Every time you introduce a new distribution channel, you're introducing a better way to target different customer segments. As a retailer or a reseller, you've got to think about which customer segments you are going to be particularly effective with, and recognise that you're going to lose some segments. And if it seems clear that some of these customer segments are better served by the Internet, in the long run they will be on the Internet."

The Internet is not going to go away any time soon. As long as it presents an alternative sales channel, Simester says manufacturers are going to continue to seek ways to exploit it. And as more and more customers become accustomed to buying online, retailers that remain stubborn will slowly find their strength eroded. And that's one hell of a career-limiting move.\New channel game according to Simester- Traditional channel and online channel do not necessarily compete.

- Channel power lies in the strength of their customer relationships.

- Partnerships depend on the channel's ability to demonstrate its long-term value to vendors.

- Ignoring the Internet will erode the channel's strength.

Channelling change

By Gerard Norsa.

Mike Dubrall has spent two decades working with technology vendors and their channels around the world. He predicts where America has gone, so will Australia follow.

Based in Pleasanton, California, channel consultant Mike Dubrall likes to get away upstate into the high Sierras for rest and recreation. Although this rugged mountain wilderness is not far to the north-east, its challenging terrain allows him to get a million miles away from the hustle, bustle and pretension of Silicon Valley.

Kitting himself out with the necessary provisions and implements, Dubrall periodically disappears into the mountains - often for days at a time, and even in the dead of winter. Hetallies his hiking at "three weeks and/or 100 miles a year of backpacking" with lots of push-bike riding in between.

"It's not for the inexperienced," Dubrall says about snow hiking and camping. "But there is something special about finding a good bank of snow, digging a snow cave and camping out in it. You can sit out any sort of storm in a properly excavated snow cave.

"I do a lot of thinking out there."

With his mother born and raised in Sydney, Dubrall claims genuine links to Australia despite being Los Angeles-born and raised. He completed his tertiary education in San Jose before the Silicon Valley region -- where he works and lives with his wife and threechildren - really took off.

When the channel switched on

More than 20 years in the IT industry, Dubrall has spent just about all that time working with vendors to develop and maintain successful partnering models. He now keeps busy as the principal of a channel consulting business called Technology Channels Group (TCG).

That's the beauty of a macro economy such as that of the US. There is room for all sorts of niche specialisation, including a company dedicated to being a channel educator, auditor and troubleshooter for vendors. And it has always been so.

"Back in the 1970s, I delivered a business plan that helped introduce Unix to the marketplace using partners," he says of his channel passion origins.

"Unix was really the first channel

product and I have been working with channels ever since."

Make no bones about it. Dubrall knows channel management. From the time he graduated from San Jose State University with an MBA (he hassubsequently completed a Bachelor of Science at the same school), Dubrall has worked with companies on partnering strategies.

He has enhanced channel strategies for vendors such as BEA, IBM, NCR, Remedy, StorageTek, Sybase, Informix, Oracle, Hewlett-Packard and SCO, to name but a few. As well as channelmanagement strategies, TCG conducts channel research and has developed automation products for key processes identified as essential to the successful management of channels.

Changing times globally

Though very much an American patriot, Dubrall is no newcomer to these shores. Sydney rates as one of his all-time favourite cities - in addition to the aforementioned parental connection, he has been to Australia 26 times on business.

Dubrall believes channel dynamics have changed dramatically in North America over the last five years withdisintegration of margins, a shift to services and the introduction of new types of partners. He also believes Australia has yet to see most of it, but will do so in due course.

"There has been a real strong trend in the US over the last five years for channel companies not to be resellers but to become channel partners," he says. "They collaborate rather than deal with vendors and there is a variety of new economic relationships developing. It is forcing vendors to be veryflexible and almost every relationship is now negotiated separately."

There are many lessons that can be learned by Australian technology channel companies by observing what has already happened in North America, according to Dubrall. Unfortunately, if you thought margins were tough now, he feels they are only going to get worse.

"The resellers here are much more dependent on margins than in North America or Europe. It is not rocket science that product margins are going to continue to decline," he says. "[Resellers] would be lucky to get 2 or 3 per cent on a box in the US these days. In five years time you cannot have a viable business selling products with two or three points of margin.

"Generally speaking, the Australian reseller appears not to have moved as quickly towards a services-based model, but pretty soon the economics are going to catch up with them. That means the number of people in the channel will decline."

Add value when losing margin

Interestingly, Dubrall believes that disappearing margins are not the end of the earth for resellers but they do have to develop new ways to add value to their vendor partnerships. "Resellers are pretty good business people most of the time. They react very quickly to what they perceive they can make money at. If they are not making money, they are usually very quick to react. So if they are not making money on hardware, they are going to try something else, in this case, services.

"It would be my guess that this is the same in every country," he says.

So just what sort of services have channel companies in the US successfully adopted to replace "defunct" box-shifting dependencies? "They have observed and followed what the big accounting firms have done," Dubrall says.

"Implementation, integration and training - they are the obvious ones. But the trick is in how to get thecustomer to pay for it.

"A lot of smaller partners have been supplying these for free in the past.

They are also going to have to start competing with vendors that are supplying these sorts of services. It is a whole new ball game, but they will have to deal with it if they are going to prosper."

Resellers should not hold their breath, expecting vendors to help guide them in their metamorphoses into services-centric organisations, he says. Vendors are "not smart enough to do that. [Resellers] have to figure this out on their own and tell the vendors exactly what they want - resellers are smart enough to do this. Their customers will support them; they just need to change the mentality of their business, move it in that direction and not try to block it."

Dubrall also sees a big role for non-traditional IT partners in the future of technology rollout and channel distribution.

He points out that "carriers" are having another go at hardware distribution with handheld devices, while some of the survivors from the dot-com boom - or newcomers altogether - are yet to make their full impact.

"It was interesting to sit on the sidelines [of the dot-com boom]," Dubrall says. "They went up and they went down, but they did discover a lot of things along the way. They did discover how to do some things very well, and that knowledge is ultimately going to be brought back into mainstream products.

"There was a level of creativity in that boom that is going to profoundly impact how we buy and sell products in the future. One of the great things is this whole new range of collaborative software that is coming out of Web development projects. Vendors are collaborating with partners now to close business online. They are setting up Web sites just to do business together.

That is changing things in a big way."

Partnering and parenting

During his workshops Dubrall likes to draw an analogy between partnering and parenting. "Managing channels is like managing teenage children," he says.

"You have to set clear rules and enforce them. You have to keep them busy and constantly find new ways to amuse them. You have to praise them when they do a good job and you have to kick them out when the time comes."

Dubrall is hoping to spend more time in Australia following the forging of a relationship between his company, TCG, and local consultancy firm Channel Enablers. The two organisations are working together to develop local channel audit services and workshops for vendors including the Australian subsidiaries of his North America-based clients.

We can't offer much in the way of alpine wilderness for a challenging hiking experience, but there is plenty of desert and rainforest to test Dubrall's mettle.

New channel game according to Dubrall

- Collaborate rather than deal with vendors.

- Work on individual partner deals with your suppliers.

- Find new ways to make money on implementation, integration, training and other services - product margins will keep declining.

- Collaborate with vendors and other partners online.

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