Steering customers to the right channels Migrating customers to a new channel can be a pain—for them, the company, and its channel partners. But the rewards can make the effort worthwhile.

Joseph B. Myers, Andrew D. Pickersgill, and Evan S. Van Metre

The McKinsey Quarterly, 2004 Number 4

A single channel used to be all that companies needed to deliver products or services to their customers. But now companies, responding to customer demand for ever more channel choice, reachout through many routes. Multichannel customers spend 20 to 30 percent more money, on average, than single-channel ones do, and channels such as the Internet and overseas call centers promise big cost savings.

Yet multichannel marketing is harder than it might appear. Too often, companies multiply their channels only to face a host of unintended consequences that actually raise costs or cut revenues. In retail banking, for example, less expensive channelssuch as ATMs and the Internet have helped reduce average transaction costs over the past 15 years by nearly 15 percent. During the same period, however, transaction volumes more than doubled, since customers check their balances and make withdrawals more often than they did in the days when they had towait in line at a branch. The result has been an increase in the overall cost of serving each customer. Similarly, serving customers over the Internet has saved airlines roughly $10 to $15per booking. Nonetheless, Web-based channels facilitate the pricetransparency that, at some airlines, makes the average online fare an estimated $50 to $100 lower than that of a ticket purchased through other channels. Meanwhile, companies in some industries have seen their competitors mimic their expensive new channel approaches very quickly.

These are not isolated examples. As a result of proliferating channels, sales and marketing executives in a wide range of industries have lost control of their customers, with damaging financial consequences. The problems won't be easy to solve. Companies can't go "back to the future" by reducing the number ofchannels, because customers have grown accustomed to—and indeed are increasingly demanding—a broad range of options and might well defect if companies discontinued them. What's more, common tools1 for improving the efficiency of channels, such as changingdistributors, tweaking incentives, and upgrading the sales force,often fail to close the gaps between the desires of customers andthe realities of channel economics.

To gain control of multichannel interactions, companies must begin to constrain the channel options of customers by guiding them subtly

To gain control of multichannel interactions, companies must begin to constrain the channels customers use by subtly guiding them through the sales and service process, from awareness of theproduct through purchase and postsales support. This "rerouting" allows companies to shape when and where they interact with the people who buy their products and services. By encouraging the use of different channels at distinct stages of the sales process, leading companies balance the preferences of their customers with the economics of their channels. The rewards can be substantial. They include reducing the cost to serve customersby as much as 10 to 15 percent, increasing revenue per customer (through higher retention rates or an enhanced mix of products and services) by as much as 15 to 20 percent, and gaining the chance to penetrate previously underserved segments. Moreover, carefully tailored "routes to market" can become powerful sourcesof sustainable differentiation because they are difficult to imitate and often become linked in the customer's mind with actual product or service offerings.

Trailblazing companies in industries from mobile telephony to high-tech manufacturing to transportation equipment are beginningto enjoy the benefits of migrating their customers to new channels in this way. Many more, though, seem afraid to start—

understandably, since channel migration is risky business. A company can easily make poor strategic decisions about whether orwhere to migrate its customers, and a botched transition can derail even the best strategy. To mitigate these risks, the company must understand its channel economics, use incentives to guide its customers to the right channels at the right times, provide a safety net to control any backlash by customers and channel partners, and develop a communication program that inspires its internal and external constituencies. Armed with such tools, it should at long last be ready to fulfill the promise of multichannel marketing.

Setting strategy

Customers may always be right, but allowing them to follow their own preferences often increases a company's costs while leaving untapped opportunities to boost revenues. Instead, customers mustbe guided to the right mix of channels for each product or service. How can a company determine this optimal mix? When should it dispatch salespeople to close deals face-to-face or useoutbound telesales channels to generate leads? In what circumstances does it make sense to reach out to customers through the Internet? Which service inquiries from high-value customers merit the attention of sales representatives rather than a lower-cost interactive voice-response system? Companies can find answers to these thorny questions by rethinking the economics and customer channel preferences that together shape their channel architecture and by examining the incentives they employ to influence the behavior of both customers and sales personnel.

The art and science of channel architecture

Most companies have some understanding of the volumes and marginsof their channels. Few, however, truly know the cost of serving customers in each of them or a channel's associated customer "quality"—that is, the value to the company of the products or services purchased through a particular channel. Even fewer graspthe economics of specific sales and service activities, such as the cost incurred to generate a lead, or which channels customers

prefer. It is little wonder, then, that many corporations are unable to readily establish a channel architecture that retains customers (Exhibit 1), much less one that routes them effectively.

Economics. Developing a true picture of channel economics starts with understanding the cost of serving similar customers (or of providing similar products) across channels. It's vital to consider often-overlooked cost categories such as freight and returns; seemingly attractive channels may turn out to be less than desirable or vice versa (Exhibit 2).2 Building such an understanding can also reveal opportunities to reduce costs in some channels.

Once a company makes its "apples-to-apples" comparison of the cost of serving similar customers across various channels, it should take into account differences in the quality of the customers drawn to them. The experience of the US wireless industry shows why such differences matter. Wireless operators once focused on a simple metric to compare the effectiveness of their channels: the cost per gross add (CPGA), which represents the typical expense of acquiring a new customer. Many channels with similar CPGAs had wildly different customer profiles, however. Only after wireless operators examined their margin per customer and the churn associated with different channels did they realize that some channels, such as company-owned retail stores, helped them acquire and retain a disproportionate share of their highly attractive customers. Not surprisingly, the carriers—which as the industry matures are looking more and more closely at such distinctions—have opened more retail stores.

An accurate view of aggregate channel profits isn't enough, though. Since customers jump between channels as they move through the purchase process, companies can guide them effectively only by understanding the economics of each channel at every stage of sales and service. It is necessary, for

example, to know how much time telesales people spend generating leads as opposed to providing customer service, to say nothing ofthe return on that time. To learn all this, companies must have transaction-level cost and revenue figures or, if data are hard to find, estimates.3

Preferences. If economics is the science of channel architecture,customer preferences are the art. Customers, of course, frequently prefer some channels to others for certain transactions, and specific channel combinations often engender loyalty or create cross-selling opportunities. Research on customers and statistical analysis (such as the kind that marketers use to build brands) can help identify the preferred channel combinations.4

Marrying insights into channel economics and customer preferencescan be very worthwhile. A major industrial distributor, for example, compared the real costs and benefits of serving customers that placed large orders infrequently, on the one hand,and those placing smaller orders more often, on the other. It became clear that the company's channel strategy placed too much emphasis on the latter. Knowing the preferences of different segments, in turn, enabled the distributor to determine which of them could be served by face-to-face salespeople or by telesales personnel and other remote channels. When it acted on these insights, it raised its margins by 15 percent. Similarly, a high-tech company is on course to cut its service costs by 20 percent and to raise its sales by 10 percent because a clear understanding of channel preferences, revenues, and costs is helping it realign its channel resources toward the most valuablecustomer segments.

Both examples highlight an alignment between channel economics and what customers want. Large customers, for example, may place a high value on face-to-face contact when they decide which products to buy but may have less need for it during postsales service. The obvious choice: focus the face-to-face sales force on presales activities and move postsales interactions to a lower-cost channel, such as an inside team that offers customers telephone support. What if they want more personalized sales and

service than the company can provide economically? In these all-too-common situations, the key is to provide incentives that quickly guide customers to the right place.

Incentives

Incentives frequently combine a "carrot" and a "stick." The carrot is something (typically, discounts or improved service) that customers value highly and receive only when they use the preferred channel. The stick might be fees or reduced service, both of which work best when they are reasonably opaque and switching costs are embedded in the product or service. Many airlines introducing self-service check-in, for example, installed large numbers of kiosks to offer customers the carrot of extremely short wait times for automated service. But they also employed a stick: longer wait times for service at counters (as a result of reducing personnel levels there).

Charles Schwab has taken its use of the carrot-and-stick approachto the next level by guiding different customer segments to different channels. Schwab's investors open roughly 70 percent ofall new accounts in branches. The company encourages affluent customers and those who want advice (and are often amenable to cross-selling) to go on using the branches by making it easy for these people to schedule appointments there.

But for most customers who look after their own investments, the value to the company of subsequent branch interactions is low andthe cost of providing them high. Schwab takes several steps to increase the likelihood that such investors will execute transactions via the Web or a call center. For starters, when customers open their accounts in a branch, they learn how to trade on the Schwab Web site. This training continues when they phone a call center for brokerage transactions: if they are willing, sales reps walk them through the transactions on the Web. Finally, while branches continue to be an engine for acquiring customers, efforts are made to avoid reintroducing the installed base into this higher-cost service channel: investor education seminars, for example, often convene at third-party locations. By guiding customers through the sales and service

process, Schwab has succeeded in offering them the benefits of a multichannel model while containing the cost of providing it.

Few sales reps object to a channel change that frees them to focus on their highest-potential customers—if their compensation doesn't dip

Customers are not alone in requiring incentives. A company's sales force must receive them as well. Few salespeople object to a channel change that frees them to focus on their highest-potential customers and leaves service and the generation of leads to lower-cost alternatives—as long as their compensation doesn't dip.

Finally, the thoughtful use of incentives can help companies manage the response of their channel partners. Even when the threat, perceived or real, of channel conflict is acute, "win-win" arrangements can eliminate many problems. A leading home-equipment manufacturer, for example, began selling products to big-box home-improvement centers despite the potential for conflict with its core channel, a dealer network. Before enteringthe home center channel, the manufacturer made sure that its dealers had strong financial incentives to continue pushing its products. First, it gave dealers a revenue stake in the new approach by ensuring that they handled postsales inspection and service on items purchased in home centers. Second, it gave dealers exclusive rights to certain product lines. In the end, the dealers significantly increased their revenues from its products and services, since they captured incremental service revenues from a new customer segment and overall awareness of thebrand increased. Meanwhile, the manufacturer made double-digit gains in market share.

Of course, "win-win" incentives don't always exist. In these cases, companies should estimate the true magnitude of the backlash risk by taking a hard look at the realistic alternativesavailable to each partner. Sometimes they will conclude that theymust refrain from tinkering with channels, but often they will decide that the risk is worth taking—particularly when a good transition plan is available to mitigate it.

Managing the transition

No matter how good a company's channel migration strategy may be,it can founder if customers think that service is deteriorating or if problems with channel partners and employees emerge. The secret to managing the transition is getting the timing right, providing safety nets that help everyone involved deal with the change, and developing a communication approach that builds momentum for it.

Getting the timing right

It is easier to open up new channels if supplies are tight, demand is strong, or competitors are in decline, because these conditions reduce the likelihood that customers or channel partners will defect. When a particular class of chemicals was inshort supply, for example, one leading manufacturer migrated its transactionally oriented customers, representing more than 20 percent of its accounts and 10 percent of its volume, to telesales. That freed up face-to-face salespeople to focus on newprospects that were promising but time-consuming to develop, as product demonstrations were required. To make the migration easier, the company placed experienced salespeople in the telesales role—a tactic that helped customers to accept the lack of face-to-face contact and to preserve preexisting relationships—even when supplies were no longer short.

Providing safety nets

Once the migration starts, its participants need different forms of support, such as specialized training, pilots to introduce thenew approach, and realigned commission structures.

Customers, for example, often require access to the touchpoints of both the old and the new channels, as well as hands-on training in the new one. W. W. Grainger, a large US supplier of maintenance, repair, and operations (MRO) parts, provided for these needs when it migrated customers from its personal sales staff to the Internet (to cut its costs) without making them lesssatisfied with its service. The company's 1,200-strong face-to-

face sales force visited customers to show them how to order parts using the new Web-based system. Grainger made sure that itssalespeople would invest enough energy in these training activities by adjusting its compensation system to give them credit for all sales in their territories, regardless of channel.5 Today the sales reps spend much of their time on higher-value activities, such as finding new prospects and building customer loyalty, while the company has raised its e-commerce sales from less than $100 million in 1999 to nearly $500million in 2003. Grainger has not only become the largest supplier of MRO parts through the Internet but also profoundly differentiated itself from its competitors, many of which now find themselves burdened with outmoded sales forces and underusedWeb sites.

Channel partners also need support. Many of them are wary, even when the migration of customers to different channels seems likely to create new after-sales service opportunities or to enhance the brand in ways that would benefit them. Companies can give dealers some comfort by guaranteeing that they will continueto receive sales support or by arranging for special commissions during the transition. We have seen companies give channel partners—for six months or more—up to half of the commissions they would have earned on sales that moved to a new channel.

Finally, companies that migrate their customers must have the safety net of a carefully sequenced rollout that can debug problems before they get big. An office supplies distributor, forinstance, moved its small accounts to telesales in four phases. To improve the odds for success, the company began with a single division, whose strong leadership was committed to improving its performance substantially. Next the rollout moved to four midsizedivisions—one a weak performer, two mediocre, and one fairly strong—in four different markets. Only after learning a diverse set of specific lessons from each of these divisions was the company ready for a more extensive rollout that put the results of four of its largest business units on the line. When the shiftto telesales succeeded there, the same approach was applied to the remaining 70 or so divisions. A two- to four-week break

followed each phase of the rollout. During this time, pilot teamsreassembled to share their experiences and, along with managers from the groups in the next phase of the rollout, to plan future improvements.

Creating a buzz

Customers and employees migrate to new channels more quickly when a company creates a compelling story line around their advantages

Customers and employees are quicker to migrate to new channels when a company creates a compelling story around the advantages of the new approach and identifies advocates who will champion itand perhaps even make it more widely known through the mass media. Delta Air Lines, for example, has been especially effective in selling its airport-lobby self-service model to customers. Delta began building interest through advertisements in national newspapers and on television and radio. Then each of the major cities where Delta revamped its airport lobby got a media blitz of customer testimonials through articles in local newspapers and interviews on television news shows. The testimonials eventually began to spread organically to the kiosksthemselves as frequent travelers helped less-experienced ones usethem. (Delta personnel initially played this role, but customers assumed it when they realized that by doing so they speeded up check-in for everyone.) During 2003 the buzz Delta created helpedraise the number of self-service check-ins by several million, made the airline more productive, and cut its costs by tens of millions of dollars.

Internal communication is vital as well. Often, the migration of customers to new channels forces companies to redeploy personnel,redefine roles, and realign incentives. Since each of these movescan be uncomfortable for employees, it's important to develop andrepeat a consistent story that emphasizes the benefits of the newapproach. A travel services company, for example, began communicating very early to its telesales people the strategic importance of a new initiative that required them to develop cold-calling skills. Instead of providing service to customers

who phoned in of their own accord, the agents would replace face-to-face personnel in identifying attractive corporate leads. Early communication created excitement about the shift and the training it required, and the efforts of the telesales reps helped the company to grow more rapidly.

Although customers want access to many channels, companies need not provide it solely on the customers' terms. With the right strategy and transition plan, companies can migrate their customers to different channels while still keeping the customershappy.

About the Authors

Joe Myers is an associate principal and Evan Van Metre is a principal in McKinsey's Atlanta office; Andrew Pickersgill is a principal in the San Francisco office.

The authors wish to thank Jennifer Stanley for her contributions to this article.

Notes

1 For a broader summary of channel options, see John M. Abele, William K. Caesar, and Roland H. John, "Rechanneling sales," The McKinsey Quarterly, 2003 Number 3, pp. 64–75.

2 A powerful tool for conducting such an analysis is the pocket margin waterfall. Using it involves subtracting direct product costs and costs incurred specifically to serve an individual account from the price paid by the end customer. See Michael V. Marn, Eric V. Roegner, and Craig C. Zawada, "The power of pricing," The McKinsey Quarterly, 2003 Number 1, pp. 26–39; and John M. Abele, William K. Caesar, and Roland H. John, "Rechanneling sales," The McKinsey Quarterly, 2003 Number 3, pp. 64–75.

3 Calculating transaction-level cost and revenue figures typically involves extracting order-quantity, price, and manufacturing-cost data from internal systems (for instance, enterprise-resource-planning and electronic-data-interchange systems) and then conducting activity-based analyses of each

channel's contribution to different kinds of transactions. See Timothy E. Lukes and Jennifer E. Stanley, "Bringing science to sales," The McKinsey Quarterly, 2004 Number 3, p. 16.

4 For details on branding tools, see Nora A. Aufreiter, David Elzinga, and Jonathan W. Gordon, "Better branding," The McKinsey Quarterly, 2003 Number 4, pp. 28–39.

5 This approach also helps ensure that salespeople who support the Web channel pass on good leads to face-to-face sales personnel. General Electric undertook similar efforts when migrating customers to its Polymerland Web site.

Copyright © 1992-2005 McKinsey & Company, Inc.

Channel conflict: When is it dangerous?Separating complaints from economic reality. When there is a conflict, there are effective options. Don’t overreact, but don’t get paralyzed either.

CHRISTINE B. BUCKLIN,

The McKinsey Quarterly, 1997 Number 3

Manufacturers today sell their products through a dizzying array of channels, from Wal-Mart to the World Wide Web and everywhere in between. Since most manufacturers sell through several channels simultaneously, channels sometimes find themselves competing to reach the same set of customers. When this happens, channel conflict is virtually guaranteed. Such conflict almost invariably finds its way back to the manufacturer.

Conflict comes in many forms. Some is innocuous—merely the necessary friction of a competitive business environment. Some isactually positive for the manufacturer, forcing out-of-date or uneconomic players to adapt or perish. But some is truly dangerous, capable of undermining the economics of even the best product.

Dangerous conflict generally occurs when one channel targets customer segments already served by an existing channel. This leads to such a deterioration of channel economics that the threatened channel either retaliates against the manufacturer or simply stops selling its product. In either case, the manufacturer suffers.

The stakes can be high. Consider a few examples from the United States. Hill’s Science Diet pet food lost a great deal of supportin pet shops and feed stores as a result of the company’s experiments with a "store within a store" pet shop concept in thecompeting grocery channel. In the auto market, ATK, the dominant

seller of replacement engines for Japanese cars, lost its virtualmonopoly when it attempted to undercut distributors and sell direct to individual mechanics and installers.

Quaker Oats’ recent $1.4 billion writeoff from the divestiture ofits Snapple business was caused in part by channel conflict. Quaker had planned to consolidate its highly efficient grocery channel supporting the Gatorade brand with Snapple’s channels forreaching convenience stores. Snapple distributors were supposed to focus on delivering small quantities of both brands to convenience store accounts while Gatorade’s warehouse delivery channel handled larger orders to grocery chains and major accounts, leveraging Quaker’s established strength in this area.

However, the strategy backfired. As Quaker suggested moving larger Snapple accounts to Gatorade’s delivery system, Snapple’s distributors revolted. They saw the value of their Snapple business as an exclusive geographic franchise that the split channel strategy would undermine. Several Snapple distributors took legal action against Quaker. The company ultimately backed down, but the dispute had created a considerable distraction at atime when competition from Arizona and Nantucket Nectars was intensifying.

Identifying a threat

Many manufacturers have a hard time figuring out exactly which conflicts will pose a threat

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

First, are the channels really attempting to serve the same end users? What may look like a conflict is sometimes an opportunity for growth as a new channel reaches a market that was previously unserved. When Coca-Cola installed its first vending machines in Japan, for instance, retailers objected. However, the company succeeded in showing that while the vending machines did indeed

serve the same customers, they did so on different occasions and offered different value propositions. It was able to counter the retailers’ noisy complaints with economic realities. In a similarway, companies like Charles Schwab are using online channels to satisfy latent consumer demand for new approaches to personal financial services, such as low prices combined with abundant, readily accessible information for the "do-it-yourself" customer segment.

Second, do channels mistakenly believe they are competing when infact they are benefiting from each other’s actions? New channels sometimes appear to be in conflict with existing ones when in reality they are expanding product usage or building brand support. Nike, for instance, has forward-integrated into NikeTownflagship stores that have enhanced brand awareness and prestige and given the company more control over brand image. Though competing athletics stores balked at first, the new store is thought to have boosted sales across all channels.

The collaboration of publishers with new Internet bookseller Amazon.com to enable books to be sold on line and reduce return rates has forced category killers like Borders and Barnes & Nobleto enter the online arena. Although it is still too early to tell, this strategy may expand the market for books as consumers enjoy easier access to the product and use tools such as EYES, Amazon’s browser, to obtain additional information on new titles.

In insurance, Progressive Auto Insurance has successfully introduced direct telephone sales alongside its agency channel. Auto-Pro provides a 24-hour referral service to agents as part ofthe service. Avon appears to be following a similar strategy in cosmetics: its soon to be launched Internet site will permit bothdirect transactions and referrals to Avon sales representatives. We believe that efforts like these will actually enhance sales inother channels, not cannibalize them.

Third, is the deteriorating profitability of a griping player genuinely the result of another channel’s encroachment? Poor operations, not conflict, may be the cause of a decline in a channel’s competitiveness. When a weak operator is the only voice

complaining about conflict, manufacturers should assess the likelihood that its business will fail and estimate how much revenue they would lose if it did. They should then decide whether to support the player more actively or develop a migration strategy to replace lost profits by using other, more viable intermediaries within the channel.

Selecting the right partner within a channel is often as important a strategic decision as determining which channels to use. To avoid becoming dependent on unsuitable partners, manufacturers should monitor the operations of channel partners and work to develop their skills and capabilities. They may also find it helpful to switch partners from time to time.

Fourth, will a channel’s decline necessarily harm a manufacturer’s profits? Channels sometimes deteriorate because ofeconomic shifts and changes in consumer preferences. A case in point is the decline of uneconomic medium-sized cigarette distributors and jobbers in the United States during the 1970s and 1980s. These companies were relics of an era of highly fragmented sales and distribution. Cigarette brand leaders refused to prop them up, putting their might behind larger, more economic players instead.

More recently, large pharmaceutical companies and their distributors have refused to reduce their profit margins to support independent pharmacists. Instead, they have chosen to favor HMOs and mail-order pharmacies with cheaper prices for bulkorders so as to develop relationships with these new and increasingly important channels. Independent drugstores demandingequal treatment launched a federal court antitrust suit that is yet to be resolved.

If a channel is declining because of the emergence of a competingchannel that consumers prefer, the manufacturer’s strategic priority must be to align with the new channel. The trick is to do so without provoking the wrath of the declining channel, especially if it continues to carry significant volume. In the United States, specialty pet food producers are actively aligningwith two emerging category killers, PETsMART and Petco, while

simultaneously supporting the economics of small pet shops. Theselatter players are clearly in decline, but still represent 60 percent of specialty pet food volume. Similarly, when Goodyear entered mass merchant channels, it kept independent dealers happyby introducing specially designed programs to drive share growth in the tire replacement market.

When to act

Answering these four questions gives manufacturers a better understanding of which channel conflicts are truly dangerous. If a conflict is destructive and a substantial amount of current or future volume passes through the offended channel, manufacturers must act to alleviate the situation (Exhibit 1). In making a judgment, manufacturers should compare the cost of preserving thevolume and related profits of the existing channel with the economic benefit of entering a new channel, taking into account the likelihood of retaliation and the costs it might involve.

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

Averting channel disaster

If a manufacturer determines that channel conflict is potentiallydangerous, the next question is exactly what to do about it.

Exhibit 2 outlines a variety of ways to tackle channel conflict at different stages in its development. If conflict 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, offers three different ranges via three different channels. For casual do-it-yourselfers, it markets the Black & Decker range through K-Mart and similar outlets. The needs of serious enthusiasts are met by the Quantum brand, introduced in 1993 and stocked by The Home Depot. Finally,DeWalt products, launched back in 1991, are designed for the professional contractor or builder who purchases from trade dealers.

Similarly, Kendall-Jackson now offers 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-J’s retail channels, which stock more popular brands such as Vintner’s Reserve and Grand Reserve. The company also prices its Internet offerings at the high end of street prices to avoid channel conflict, and addsvalue by providing guidance for prospective buyers. Its Web site includes over 150 pages of information targeted at novice, intermediate, and advanced wine lovers.

Another company using a differentiated brand strategy to serve multiple segments simultaneously is Levi Strauss. It targets

Britannia jeans and Levi branded casual wear to moderate-income families via discount chains such as Wal-Mart and Target, while aiming Dockers and Silver Tab clothing at fashion-conscious youngadults who shop in department stores and specialty retailers. Young professionals in search of business casual wear are cateredfor by Slates, on sale in Macy’s, Bloomingdale’s, and other upmarket department stores, while at the opposite end of the scale, bargain hunters can find overstocks and seasonal, discontinued, or damaged merchandise from all ranges by shopping in Levi’s own outlets.

Alternatively, a manufacturer can create the illusion of differentiation by using different names and numbers for the sameitems and introducing minor product modifications. In the mattress industry, for example, major suppliers offer similar or identical products through different channels under different names. Customers are confused by what appear to be hundreds of different models—so much so, in fact, that savvy retailers compile lists of comparable products as sales tools.

Similarly, consumer electronics companies sometimes allocate different model numbers to the same product in different channels. However, this approach may now be losing ground. Ratherthan relying on model numbers, consumers are 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 so that individual channels are confined to performing specific functions in the value delivery chain. That could mean allocating exclusive territories, or simply improving the definition and enforcement of roles and terms within a channel, as copier manufacturers such as Kodak did to settle the war between value-added suppliers and brokers.

Manufacturers could also consider improving the economics of a declining channel, which often improves its performance at the same time. They might, for instance, offer rebates if an intermediary satisfies certain requirements for value-added

service, or adjust margins between products to reflect the services offered by distributors.

In 1992, GE’s appliance division strengthened its dealer network and retail business by introducing extensive support programs to help dealers and builders remain competitive. It adopted a two-tier approach. On the one hand, it offered its dealers similar purchase discounts to those received by large retailers, coupled with financial advice and inventory system support. On the other,it provided capital in the form of favorable loan programs to help dealers finance the remodeling of their stores. As a result,the GE division expanded its market share from 27 percent in 1992to 30 percent in 1996, despite intense competition. In a similar vein, Sears offers appliance dealers in rural areas financing, systems support, and help in managing accounting and inventory.

If overlap and falling channel profits are unavoidable, manufacturers must assess whether they can withstand the retaliation of their channel. Often, though, a channel will be reluctant to retaliate because retaliation would hurt it more than the conflict does. This is usually the case when it is the manufacturer rather than the channel that really owns the customer. Leading consumer goods companies may also be able to leverage their powerful brands against a channel to prevent retaliation, as Procter & Gamble did when the new club channel emerged and took volume from grocery stores.

Alternatively, a supplier can accept that a channel will react, but limit the consequences by accelerating the migration of volume to a competing channel. Airlines have pursued this approach by encouraging a shift in sales volume from costly agency networks to direct channels and ticketless travel options.

In a few contentious cases, manufacturers have had no choice but to back down. IBM’s PC group took this path when its attempts to sell direct were met with vehement objections from its distributor network. The problem of how to go direct remains unresolved, but the hemorrhaging of IBM’s sales and market share has been slowed.

When Bass Ale piloted a home delivery service in the United Kingdom in November 1995, cash-and-carry warehouses and convenience stores protested, fearing they would lose business. Nurdin & Peacock, a leading cash-and-carry operator selling to independent retailers, withdrew ten Bass beers from its shelves and encouraged its customers to avoid Bass products. Bass abandoned the pilot.

Channel conflict is inevitable, but not all conflicts are equallydangerous. Understanding a conflict’s source and its true gravitylies at the core of good channel management. Genuinely destructive conflict is rarer than most companies suppose. The best manufacturers recognize destructive channel conflict quickly, rethink their channel strategies, and nip conflict in the bud. Less sophisticated players either overreact to minor conflict or, fearful of destabilizing their channel relationships, become paralyzed and fail to act at all.

About the Authors

Christine Bucklin and Pamela Thomas-Graham are principals in McKinsey’s Los Angeles and New York offices, respectively. Liz Webster is a consultant in the Chicago office.

The authors would like to thank Tanuja Randery and Nina Eigerman for their contributions to this article.

Copyright © 1992-2005 McKinsey & Company, Inc.