Channel Management and differentiation strategies: A case study from the market for fresh produce

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Channel Management and differentiation
strategies A case study from the market for
fresh produce

• Valeria Sodano
• University of Naples
• Federico II Italy
• Martin Hingley
• Harper Adams University UK

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Presentation Outline

• Theoretical grounding incentives for
  differentiation strategies
• Channel structure and differentiation in food
  channels/ fresh produce (fruit, vegetable, salad)
  
• Fresh produce markets and distribution in the UK
  and Italy
• Empirical Vertical channel case study
• Conclusions/ Recommendations

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Theoretical grounding incentives for
differentiation strategies

• Achieving competitive advantage cost leadership
  or differentiation?
• Differentiation offers market power and avoids
  price competition
• Industrial economic literature focuses on effects
  of differentiation strategies on market
  structure, firms performances and welfare
  effects (Beath and Katsoulacos, 1991)
• Horizontal and vertical differentiation

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Summary of theoretical grounding

• Differentiation is always a source of market
  imperfection and welfare loss
• Horizontal differentiation these effects linked
  to inefficient scales of production or to the
  suboptimal product variety
• Vertical (or mixed) case the negative welfare
  effects linked to the oligopolistic structure
  emerging as market equilibrium
• When carrying out differentiation policies, firms
  will be earning supernormal profits

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Channel structure and differentiation in food
channels

• Horizontal (inter-brand)
• Vertical (supplier-retailer) competition
• Problems of channel coordination in a
  multi/manufacturer multi/retailer setting
  (typical for food industry) paid little
  attention
• But note work of Lee and Staelin, 1997 Choi,
  1996 Choi and Couglan, 2006 Avenel and Caprice,
  2006 Ellickson, 2004

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Channel structure and differentiation in food
channels (contd)

• E.g. Choi. Differentiation is used to mitigate
  price competition and that it tends to produce
  negative welfare effects
• Vertical power asymmetry pushes towards
  non-cooperative vertical forms of coordination
  (and retail leadership)

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Channel structure and differentiation in fresh
produce

• Vertical differentiation, more than horizontal,
  tends to be associated with high degree of
  industry concentration and market power
• Equilibria depend on a complex interplay between
  1) strategies carried out at horizontal and at
  vertical level 2) power asymmetries between
  upstream and downstream firms 3) governance
  structures along the channel

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Channel structure and differentiation in fresh
produce (contd)

• In fresh produce
• 1). Wide range of possibilities to increase
  product variety (determined by retailers) in
  horizontal competitive arena
• 2). No supplier branding, so retailers do not
  have to take into account strategic reactions by
  the upstream counterparties so more able to
  entirely appropriate the competitive advantage
  stemming from the differentiation
• 3). Retailers can appropriate the larger share
  of the channel profit lead suppliers to comply
  with retailers differentiating strategies
  without a real vertical contractual integration
  (?)

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Fresh produce markets and distribution in the UK

• Chain retailers dominate the market for fresh
  produce- 85 of sales. (4 chains accounting for
  75 of all grocery sales)
• Price most often determines purchase decisions
  retail pressure forcing price and margins down
• Retailers (directly and via their intermediaries)
  set both product and price agenda for rest of the
  supply chain

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Fresh produce markets and distribution in the UK
(contd)

• Interest in fresh produce source and origin from
  consumers
• Retailer segmented own brands with (for e.g.)
  value, standard and finest
• Branding and product differentiation to grow and
  add value to the market. E.g. environmental/
  regional/ country association-

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Fresh produce markets and distribution in the UK
(contd)

• Retailers directed vertical partnership supply
  via Super-Middlemen (Hingley, 2005)
• Category Management (CM)
• CM Reinforcing power and control rather than
  collaboration in vertical channels? (Dapiran and
  Hogarth-Scott, 2003)

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Fresh produce markets and distribution in Italy

• Loss of Italian leadership in the European market
  
• Weakness of production (small firms) and poor
  supply chain structures compared with traditional
  and new competitors
• Solution?
• Horizontal producer integration
• Quality improvement
• Better exploitation of Italian comparative
  advantages
• Better relationships with big retailers

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Fresh produce markets and distribution in Italy
(contd)

• Leading retailers have launched own-branded lines
  of high quality fresh produce e.g.Terre
  dItalia
• 55 of the Italian grocery market is covered by 5
  groups. Still 38 of fresh produce is via
  non-supermarket sector-

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Fresh Produce Retail Naples style
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Empirical Vertical channel case study

• Primary producer (Italy) engaged in vertical
  partner supply to a principal CM intermediary
  (UK) for UK retailers
• The principal areas for exploration
• -The impact of vertical competition on
  coordination
• -Competitive advantage through value-adding in
  vertical chains

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Empirical Vertical channel case study (contd)

• FP Grower. Southern-Italy based family grower.
  Turnover of 10 million euro
• Partner customer is FP Marketing. 60 of
  product to intermediaries 35 direct to
  retailers 5 to wholesale markets. 80 of FP
  Growers customers overseas
• FP Marketing. Central marketing organisation for
  own and associated growers produce based in the
  UK. Turnover of over 100 million euro
• CM supplier to UK retailers
• Consolidated and value-added (packaged) fresh
  produce under retailers own-label (90 of their
  business)
• Emphasis for this study on tomato production-

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Case findings Contracts

• Vertical channel arrangement offers FP Grower
  something that they do not have from other
  customer sources a contractual agreement
• .we have full exclusivity with them (FP
  Grower) in (for supply to) the UK. FP
  Marketing (DD)

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Case findings CM system

• FP Marketing benefits from more business, but
  must take on an enhanced role and associated
  responsibilities
• we have to provide services we have to provide
  more resources. That is our added value to the
  customer, we supply all that technical (input),
  the agronomists, the ideas, the trials, the NPD,
  all of this development. There is not a charge
  for that. FP Marketing (DD)

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Case findings CM system (contd)

• Control remains in the hands of retailer
  customers, whose name and identity value-adding
  services are conducted in
• ..supermarkets are very cute (clever), they
  outsource some of their work to us We do their
  work for them, whether it in inventory, in
  marketing, in procurement FP Marketing (DD)

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Case findings CM system (contd)

• But CM based supply does, in return provide
  security and results in
• .....more ownership of the business. FP
  Marketing (DD)

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Case findings Product differentiation

• Access to Southern-Italy allows differentiation
  by region/ variety/ climate e.g. vine ripened
  tomatoes
• FP Marketing add-value in order to avoid the
  commodity-trap of being in an unbranded
  business
• we work to try and put identity to
  productsand try to add value to it, ..our
  ideal aspiration is to be in special and
  finest (retail lines) because you can get a
  higher value for it. FP Marketing (DD)
• It is a way of promoting the grower, the
  variety, the techniques they are using and most
  importantly, the flavour. The flavours and
  varieties they are producing are market leaders.
  FP Marketing (CD)

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Case findings Vertical channel branding

• Sub-branding by country and regional identity
• I think (that) they (UK retailers) see
  (sourcing from) Italy as a way of adding value.
  ..It is all a way of trying to sub-brand down
  to the grower. FP Marketing (DD)
• We have now got customers (i.e. UK retailers)
  who are even putting growers names on the
  packs. FP Marketing (CD)

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Case findings Differentiation through quality

• Variations in different countries standards
  undermines FP Growers position
• .foreign competitors (growers in other
  countries) take advantage from different labour
  regulations and different pesticide/use
  regulations, without a real policy of price and
  quality transparency being carried out by
  retailers. Product from (named countries) with
  low food safety standards is arriving and sold
  in Italian supermarkets without clear information
  on its origin. FP Grower

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Case findings Differentiation through quality
(contd)

• In vertical arrangements retail chains will
  specify quality assurance using accredited
  sources e.g. EUREPGAP
• UK retailers development of their own standards
  allows further differentiation, but reinforces
  vertical control

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Conclusions

• Competitive structure of fresh produce gives
  strong incentives to differentiation strategies
• Degree and kind of differentiation depends on
  interplay of
• -competitive pressure at vertical and
  horizontal level
• -forms of vertical governance structures
• - power asymmetries between upstream and
  downstream firms
• Differentiation is likely to be associated with
  high degree of concentration and market power

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Conclusions (contd)

• Consistent with theory
• Differentiation strategy in fresh produce benefit
  retailers due to the absence of brand policies
• Product differentiation can add value to the
  channel value. Differentiation strategy is
  carried out under power asymmetry where retailers
  control the resources required to make the
  differentiation policy succeed
• Vertical governance is such as to give sufficient
  incentives to upstream channel partners to both
  invest and comply with the retailer
  differentiation policy and offset relationship
  disadvantages due to buying power

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Conclusions (contd)

• When retailers engage in product differentiation
  channel relationships shift from collaborative to
  competitive types with the power imbalance
  becoming the disciplinary means by which vertical
  coordination is achieved and maintained
• The relationship marketing idea that channel
  partners look for equitable collaborative
  relations, is contradicted by the view it may
  be wise for suppliers to accept some inequity as
  the cost of doing business (Corsten and Kumar,
  2005) and Hingley (2005) especially when
  retailers carry out successfully competitive
  strategies with positive spill-over effects on
  upstream firms
• How much is power imbalance allowed for without
  being threat of negative welfare/ anticompetitive
  effects?

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Recommendations

• Interview retailers in Italy and UK to complete
  full supply chain