2.1 Distribution intensity
Distribution intensity strategy is referred to as the degree to which a manufacturer limits the number of intermediaries, which ranges from a single distributor (exclusive distribution) to an unrestricted number of distributors (intensive distribution) operating within a specific trade area (Fein and Anderson, 1997).distribution intensity has been commonly defined as the number of intermediaries used by a manufacturer within its trade areas (Bonoma and Kosnik, 1990; Corey, Cespedes, and Rangan, 1989; Coughlan, Anderson, Stern, and El-Ansary, 2001). In particular, Frazier and Lassar (1996) defined it as the extent to which a manufacturer relied on numerous retailers in each trade area to carry its brand.
To let the product be accessible and available, companies have to decide the ideal number of their intermediaries. Alternatives include exclusive distribution, selective distribution, and intensive distribution (Kotler and Keller, 2009).
The traditional channel distribution theory links product class and consumer buying behavior to distribution intensity. That is, different products should use different distribution intensity strategies depending on the characteristics of the product class and consumers appreciate diversity in their consumption. Optimal distribution intensity could supply a suitable amount of products available to target customers without exceeding their needs. In contrast, over-saturated status of distribution intensity would still increase cost, which may be worse than unmet need for lower distribution intensity.
In comparison with mature markets, emerging markets may provide global marketers with more attractive market opportunities; yet it will expose global
marketers to high risks associated with uncertainties (Johansson, 2000). Entry into new environments requires substantial investments, including customer education, distribution channel establishment, and product adaptation (Coughlan, Anderson, Stern, and El-Ansary, 2001). At this point, a large amount of financial investments is required to cover establishment of channel marketing infrastructures and development of market-specific knowledge (Porter, 1990). In other words, investors have to be more careful in emerging markets (Czinkota and Ronkainen, 2001). The fact that China market is growing fast does not mean that investors will be allowed to share the spoils.
Li (2003) claimed the propositions in emerging market that the faster the market grew, the more likely that exporting manufactures preferred high distribution intensity.
In contrast, the larger the gap is between distributors in terms of distinctive and sustainable capabilities, the more likely it is that exporting manufactures will accept lower distribution intensity. Although Li (2003) also claimed that the more transaction-specific investments are required from distributors, the more likely that exporting manufacturers will accept low channel intensity, we have different approach to these kinds of investments in next section.
2.2 Concentration and Sunk Cost Investments in Channel
Access to distribution channels is often blocked by incumbents in emerging markets that are either first mover or early market entrants (Robertson and Gatignon, 1991). Barriers to entry also make China 3C market environment uncertain for foreign enterprises, and lead to concentrated channel structures that result in reducing competition and raising profits for incumbents. Alternatively, the concept of sunk costs interprets the potential barrier entrants face when entering in an industry if they
must incur costs that incumbents can somehow avoid (Stigler, 1968). Similar to the advertising being treated as sunk cost (Sutton, 1991) in the US markets; we contend sunk cost theory (Sutton, 1991) could be applied to the supplement explanation of distribution intensity rates among cities.
As in Sutton (1991), advertising consists of a fixed and sunk investment. The theory predicts a competitive escalation in advertising levels in larger markets and economics of scale in advertising matter, which limits the extent of entry, and hence bounds the level of concentration away from zero. Sutton (1991) differentiates between endogenous sunk cost (ESC) and exogenous sunk cost. The ESC are costs coming from variables that imply a choice from firms, such as advertising and research and development (R&D), whereas the latter are costs that must be incurred by all entrants, like the sunk costs from scale economies. Using a database spanning 31 industries and the 50 largest US metropolitan markets, Bronnenberg, Dhar and Dube (2005) follow the ESC theory to generate predictions regarding industrial market structure and the roles of brand advertising in consumer package goods (CPG) industries. The evidence predicts that in advertising-intensive CPG categories, market concentration levels should be bounded away from zero irrespective of market size.
Industries in which there are endogenous sunk costs (ESC) incurred will have a concentrated structure even if there is a great deal of demand (Sutton, 1991). In Sutton’s (1991; 1998) empirical study, ESC refers to the expenditures undertaken by sellers to improve their products for users, including advertising, R&D, and other brand-enhancing expenditures in consumer goods industries. Expenditures can be considered as ESC only if they meet four assumptions: (1) ESC must be sunk (irreversible); (2) a single firm spending more on ESC raises buyers’ valuation of only that firm’s products; (3) there must be no practical bound to the size of the ESC at any level of expenditures. It is possible to spend more to attract customers; and (4) a large
fraction of potential customers must respond to the ESC. Sutton argues that in the presence of ESC, markets will only sustain at most a few firms in equilibrium since a firm can invest in ESC to draw many customers to it and accordingly leave other firms to be reduced to secondary market positions.
Based on the ESC theory, build-up of a new distributor requires big sunk costs, such as inventory, warehousing, logistics, IT networking, financial capital, HRM, and etc. in order for the new distributor to be productive. In channel market, the market growth will be accompanied by a competitive escalation in distributors’ features, so the number of distributors delivered in the specific cities for some brands may increase dramatically. Investment in 3C channel may constitute an important part as essential as sunk cost for generating brand sales, and thus a probable prediction for brand level is: distribution intensity for different brands could be accompanied by an escalation in distributors’ features as the market grows. In addition, as distribution-intensive brands, their channel market concentration levels should be bounded away from zero.
2.3 Market Concentration Structure and Market Entry Strategy
In economics, market structure describes the competition state of a market, from monopoly to perfect competition. Thus, the main criterion from which one can distinguish between different market structures is to observe the number of manufacturers in the market. In order to have a subtle insight into channel market structures, much more relevant information is not only from the absolute number of manufacturers and their intermediaries within the market, but also from the relative distribution across the markets.
Penetration and concentration are more useful criteria to describe relative distribution. A search of the literature about concentration and penetration shows a few articles that have quantitatively addressed in customer purchases (Schmittlein, Cooper, and Morrison, 1993; Anschuetz, 1997; Rungie, Laurent and Habel, 2002).
Market penetration typically occurs when a company enters or penetrates a market with current products. On the other hand, market concentration is a function of the number of firms and their respective market shares of the total production (alternatively, total capacity or total reserves) in a market. As strategic implication considered in Schmittlein et al. (1993), the advocators claimed that in low-penetration, low-concentration market, the need to increase awareness and trial is obvious; in low-penetration, high-concentration market, firms must ask if they are purposefully pursuing a niche strategy or approaching a mass market. On the other hand, in high-penetration, low-concentration market, firms may require extensive distribution.
Finally, in high-penetration, high-concentration market, firms often battle over the loyalty of the heavy users and market shares.
With application to modeling distribution intensity, market entry strategies should be referred to as geographic penetration and channel market concentration as geographic allocation for market dominance made by channel decisions that impact all channel market structure. As far as the penetration of brand levels is concerned, we do not focus on whether the extent of a large portion of the unit sales volume is created by a small portion of channels. On the contrary, we propose that the concentration of distribution intensity involved in a product category is to measure whether the magnitude of the high distribution intensity becomes distributed-clustering in a small number of specific sites.