Week 10.2 Vertical Marketing Systems and Supply Chain Management

You have seen the traditional marketing channels and intermediaries involved in these channels. It is possible to make new channel arrangements to improve the efficiency of the functions of the channels, and to achieve better cooperation from channel members that would increase marketing effectiveness. Such channel arrangements are known as vertical marketing systems (VMS). 

Vertical marketing systems are professionally managed and centrally coordinated marketing channels, designed to achieve channel economies and maximum marketing impact.

There are three types of vertical marketing systems.

Diagram explained by caption.
Vertical marketing systems. Three vertical marketing systems include corporate, contractual, and administered.

corporate Corporate Vertical Marketing Systems

Corporate vertical marketing systems refers to the combination of successive stages of production and distribution under a single ownership.

Two types of corporate vertical systems are used:

  1. forward integration, and
  2. backward integration.
In the case of forward integration, the manufacturer/producer owns the intermediary at the next level down in the channel. 
Irving Oil logo.

Example: Irving Oil refines gasoline and also operates its own retail gasoline stations. In this case, the producer is Irving Oil and retail gas stations are the intermediary down in the channel.  

In the case of backward integration, a retailer might own a manufacturing operation. This is known as backward integration because the retailer is at the end of the channel and the owner or the producer/manufacturer is at the top of the channel.  

Tim Horton's coffee carafe and cup.

Example: Safeway supermarkets operate their own bakeries, and Tim Hortons operates its own coffee-roasting facilities.

Corporate vertical marketing systems are beneficial to the companies seeking to gain greater control over distribution. Forward and backward integration mean that there is single ownership in the marketing channel which provides the greatest control. However, corporate vertical marketing systems are very costly. It increases a company's capital investment and fixed costs. For this reason, some companies prefer contractual vertical marketing systems.

contractual Contractual Vertical Marketing Systems

Unlike corporate vertical systems, there is no single ownership in contractual vertical systems. It is based on independent production and the fact that distribution firms integrate their efforts on a contractual basis, in order to obtain greater marketing impact than they could achieve alone. Contractual systems are the most popular among the three types of vertical marketing systems.

Franchising is a contractual arrangement between a parent company (a franchisor) and an individual or firm (a franchisee). The franchisee operates the franchise under the established name of the parent company based on specific rules identified in a contract. 

McDonald's restaurant exterior.
Example: Franchising is popular among well-established brand names such as McDonald's and H&R Block tax services. 

administered Administered Vertical Marketing Systems

Administered vertical marketing systems achieve coordination in production and distribution, by the size and influence of one channel member rather than through ownership. For example, the size of the retailer might allow it to negotiate the best prices and support from the channel members. 

Walmart exterior.
Example: Walmart is one of the largest retailers in the world. Walmart can obtain cooperation from manufacturers in terms of price levels and promotional support due to its size and power. 

Concept Check Questions:

1. Kroger supermarkets operate manufacturing facilities that produce everything from aspirin to cottage cheese for sale under the Kroger label. This example shows that Kroger uses__________.


2. The three major types of vertical marketing systems are administered, contractual, and __________.


Logistics and Supply Chain Management 

Marketing channels rely on logistics in their functions. Logistics involves those activities that focus on getting the right amount of the right product to the right place at the right time at the lowest possible cost. 

Logistics management involves the practice of organizing the cost-effective flow of raw materials and finished goods from point of origin to point of consumption to satisfy customer requirements (order processing, inventory control, materials handling, etc.).

A supply chain is a sequence of firms that performs activities required to create and deliver a good or service to the consumer.

Stop and Think Question: How does a supply chain differ from a marketing channel? Review the definition of "marketing channel" before revealing the answer:

A supply chain differs from a marketing channel in terms of membership.

A supply chain includes suppliers who provide raw material inputs to a manufacturer as well as the wholesalers, retailers, and other intermediaries who deliver finished goods to the end users/customers. In the case of the marketing channel, only finished goods are moved from producer, through intermediaries, to the buyers.   


Supply chain management is the integration and organization of information and logistics activities across firms in a supply chain for the purpose of creating and delivering goods and services that provide value to consumers.

The figure below shows the marketing channel as a part of the supply chain management. Notice that the marketing channel is only on the flow of finished products between producer and consumers. Supply chain management includes the marketing channel as well as the supplier network. Note that the supply chain is larger than the marketing channel.   

Diagram explained by caption and surrounding text.
Relationship between logistics management and supply chain management. 

Example: The automotive supply chain. The diagram below shows the supply chain of sourcing, assembling, and delivering a new car. Notice that the supply chain includes both the supplier network, which delivers raw materials to the manufacturer, and the marketing channel, which delivers finished cars to the consumer.   


Diagram of supply chain explained by surrounding text.

Aligning a Supply Chain with Marketing Strategy

Companies follow different marketing strategies. They also have a choice in the type of supply chain they utilize. The marketing strategy determines the choice of the supply chain. The choice of the supply chain would be either more responsive or more efficient type. There are three steps in selecting the type of the supply chain. 

Step 1: Understand the customer. The preference of the customers between efficiency and responsiveness plays a big role in the choice of the supply chain. Efficiency means finding the most cost-efficient ways to make the products available to consumers. Responsiveness, on the other hand, requires making a large variety of product choices/configurations available to consumers without being too focused on the cost.   

Step 2: Understand the supply chain. The existent supply chain could be more focused on efficiency or responsiveness. Companies should understand the type of supply chain they have. Does their supply chain emphasize being responsive to customer demands or does it emphasize efficiency with a goal of supplying products at the lowest possible delivered cost?

Step 3: Harmonize the supply chain with the marketing strategy. The type of supply chain should match the goals of the marketing strategy, which is aligned with consumers’ expectations/needs/wants. If there is a mismatch, the company might choose to change the supply chain and make it a good fit to the marketing strategy or re-design the marketing strategy. 


Dell logo.

Example of a responsive supply chain: Dell Computer Corporation. Dell does not utilize an efficient supply chain for various reasons. If Dell were to use an efficient supply chain, it would:

  • use the most inexpensive transportation methods, which would lead to slower delivery and longer wait times for its customers;
  • emphasize economies of scale in its production process, which means reducing the variety of PC configurations offered; and
  • limit its assembly and inventory facilities to a single location, which would again increase the delivery time for some customers. 

Dell’s consumers desire rapid delivery and a wide variety of customizable PC/laptop configurations. If Dell were to switch to an efficient supply chain, it would be difficult to satisfy customer's needs/wants. That is why Dell uses a responsive supply chain. The transportation cost is higher due to express transportation from suppliers and fast delivery of finished products to customers but that is what is needed based on their marketing strategy in satisfying the needs of their customers. Dell provides large product variety and achieves manufacturing efficiency by using common components in product configurations. 

Walmart Canada logo.
Example of an efficient supply chain: Walmart, Inc. Walmart's supply chain is designed to provide the lowest possible cost to customers. Walmart operates a small number of distribution centres that service Walmart stores with its own fleet of trucks. There is almost no storing of inventory in the distribution centres as products are quickly sorted and distributed to stores in need. This approach improves efficiency in distribution.

In conclusion, there are three lessons to take away from the choice of the supply chain: 

  1. There is no one best supply chain that fits every company. Businesses are different and need to consider their specific characteristics.   
  2. The best supply chain is determined as a result of the three-step process identified above. The supply chain must address the needs of customers and also be aligned with the company’s marketing strategy.  
  3. Supply chain managers often make trade-offs between efficiency and responsiveness on various elements of a company's supply chain. Increasing efficiency would reduce responsiveness and vice versa.

Concept Check Questions:

1. Customers currently link to Cisco's website to configure, price, and order its networking equipment. Cisco then sends orders back out across the internet to producers and assemblers including Celestica, Flextronics, and Solectron. Products are built and tested to Cisco standards, sometimes with procedures run remotely by Cisco. Most are then drop-shipped to buyers, untouched by human hands on Cisco's payroll. The individuals who monitor these transactions and make sure each is performed in a cost-effective and timely fashion are engaged in __________.


2. Which of the following statements describes how a supply chain differs from a marketing channel?


3. What is the first step in choosing a supply chain?