Pricing Issues in

Channel Management
 .
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Anatomy of Channel Pricing Strategy 
• Participants at the various levels in the channel want a part of the total price sufficient to 
cover their costs and provide a desired level of profit. 
• The  “golden  rule”  of  channel  pricing  when  developing  a  pricing  strategy  is  stated  as 
follows: 
“It  is  not  enough  to  base  pricing  decisions  solely  on  the  market,  internal  cost 
considerations,  and  competitive  factors.  Rather,  for  those  firms  using  independent 
channel  members,  explicit  considerations  of  how  pricing  decisions  affect  channel 
member behavior is an important part of pricing strategy.” 
• Pricing  decisions  can  have  a  substantial  impact  on  channel  member  performance.  If 
channel  members  perceive  the  manufacturer’s  pricing  strategy  as  congruent  with  their 
own interests, then a higher level of cooperation can be expected. 
Therefore, the major challenge facing the channel manager in the area of pricing is to help 
foster  pricing  strategies  that  promote  channel  member  cooperation  and  minimize 
conflict. 
• An  evaluation  of  how  the  manufacturer’s  existing  or  proposed  pricing  strategies 
influence  channel  member  behavior  included  general  evaluation  of  channel  member 
needs and problems identified. 
• Whenever  possible,  the  channel  manager  should  attempt  to  have  channel  members’ 
viewpoints  on  pricing  issues  included  as  an  integral  part  of  the  manufacturer’s  price­
making process. 
 .
Channel Manager’s Role

Major areas of consideration in a

manufacturer’s pricing decision

Internal Target Competitive Channel

cost market considerations considerations
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on the channel considerations
and work to incorporate them
into the firm’s pricing decisions
Guidelines for Developing Effective Channel 
Pricing Strategies 
Oxenfeldt offers a set of eight classic guidelines for developing pricing 
strategies that incorporate channel considerations. While not 
comprehensive, they do provide a basic framework and benchmark 
for pricing decisions that incorporate channel considerations. These 
are: 
1) Each efficient reseller must obtain unit profit margins in excess of unit 
operating costs. 
2) Each class of reseller margins should vary in rough proportion to the 
cost of the functions the reseller performs. 
3) At all points in the vertical chain (channel levels), prices charged must 
be in line with those charged for comparable rival brands. 
4) Special distribution arrangements–variations in functions performed 
or departures from the usual flow of merchandise–should be 
accompanied by corresponding variations in financial arrangements. 
5) Margins allowed to any type of reseller must conform to the 
conventional percentage norms unless a very strong case can be made 
for departing from the norms. 
6) Variations in margins on individual models and styles of a line are 
permissible and expected. They must, however, vary around the 
conventional margin for the trade. 
7) A price structure should contain offerings at the chief price points, 
where such price points exist. 
8) A manufacturer’s price structure must reflect variations in the 
attractiveness of individual product offerings. 
1) Profit Margins 
Channel members need margins that are more than adequate to cover the 
costs associated with handling a particular product. 
Channel members generally will not carry, let alone enthusiastically 
support, products whose margins are inadequate to cover their costs 
and provide room for profit. 
Over time, those channel members who feel that the manufacturer is not 
allowing them sufficient margins are likely to seek out other suppliers 
or establish and promote their own private brands. 
Thus, the channel manager should be involved in a continuous review of 
channel member margin structures to determine if they are adequate 
and pay particular attention to changes in the competitive 
environment that is likely to influence channel member perceptions of 
the existing margin structures. 
members 
2) Different Classes of Resellers 
Ideally, the channel manager would like to set margins so that they would vary in direct 
proportion to the functions performed by different classes of channel members. In 
reality, however, margins at the wholesale and retail levels are typically governed by 
strong traditions that permeate the industry. 
Nevertheless, periodic reviews of the margin structures available to different classes of 
channel members should be made, with a view toward making gradual changes if 
warranted. 
Oxenfeldt suggests that the following questions be posed in this review: Pricing Issues in 
Channel Management 
a. Do channel members hold inventories? 
b. Do they make purchases in large or small quantities? 
c. Do they provide repair services? 
d. Do they extend credit to customers? 
e. Do they deliver? 
f. Do they help train the customers’ sale force? 

The main point of periodically reviewing channel member services in relation to the 
margins granted them, is to find out whether there are any major inequities that are 
creating problems in the ranks of particular classes of channel
3) Rival Brands 
Differentials in the margins available to channel members carrying 
competitive brands should be kept within tolerable limits. 
The practical question facing the channel manager attempting to apply this 
guideline is: What levels of margin differentials are within tolerable 
limits? 
Unfortunately, there is no straightforward answer to this question. 
Channel managers, then, should attempt to weight any margin differentials 
between their own and competitive brands in terms of what kind of 
support their firms offer and what level of support they expect from 
channel members. If this relationship is found to differ significantly 
from the competition, differentials in margins should be examined in 
terms of these differences. 
4) Special Arrangements 
If the usual allocation of distribution tasks between the manufacturer and 
the channel members changes, the margin structure should reflect these 
changes.
5) Conventional Norms in Margins 
Oxenfeldt points to the almost universal tendency of channel members to 
expect margins to meet generally accepted norms. 
This strong commitment among channel members to what they consider 
to be normal, fair or proper margin makes it very difficult for the 
manufacturer to deviate from the conventional margin structures. 
Thus it is the job of the channel manager to attempt to explain to the 
channel members any margin changes that deviate downward from 
the norm. While this might not guarantee that the channel members 
will support this change, at least it will convey the reasons for taking 
this action.
6) Margin Variation on Models 
Variations in margins on individual models and styles in a product line 
are common. Traffic builders (often referred to as promotional 
products) are usually the lowest priced in the line and yield relatively 
low margins for both the manufacturer and channel members. 
Fortunately, channel members are often amenable to accepting the 
lower margins associated with these products so long as they are 
convinced of the promotional value of the product in building 
patronage. 
Margins on products in the line that are significantly below the norm and 
that are not intended as promotional products are much more difficult 
to justify in the eyes of the channel members. 
The channel manager should attempt to influence product line pricing to 
use low­margin products for promotional purposes whenever possible.
7) Price Points 
Key Term and Definition 
 Price points: Specific prices, usually at the retail level, to which 
consumers have become accustomed. 
In other words, consumers come to expect certain products to be 
available at customary prices. While most price points rise, sometimes 
price points can actually move down, as in the case for the under­
$1,000 personal computer. 
8) Product Variations 

When a manufacturer attaches prices to the various models within a 
given product line, it should be careful to associate price differences 
in product features. If the price differences are not closely associated 
with visible or identified product features, the channel members will 
have a more difficult selling job to the consumer. 
Other Issues in Channel Pricing 
The channel manager is faced with other channel pricing issues that 
require more specific and detailed attention. Five of the most 
important are discussed in this section. 
1) Exercising Control in Channel Pricing 

As stated earlier, the manufacturer’s pricing strategies often require 
channel member support and cooperation if they are to be 
implemented effectively. 
Of all of the elements of the marketing mix, channel members view 
pricing as the area that is most in their domain. As soon as the 
manufacturer seeks to exercise some control 
over channel members’ pricing strategies, channel members may feel that 
the manufacturer has stepped out of its proper boundary. 
Yet, from the manufacturer’s point of view, some of the most important 
pricing strategies may call for having some degree of control over the 
channel members’ pricing policies. In attempting to influence some 
control, the manufacturer is faced with the difficult and delicate task of 
enforcing pricing policies without alienating channel members. 
Although there is no surefire way to avoid the problem, several guidelines 
can be offered. These are: 
a. Any type of coercive approaches to controlling channel member pricing 
policies should be ruled out. 
b. Encroachment by the manufacturer into the domain of channel member 
pricing policies should be undertaken only if the manufacturer believes 
that it is in his or her vital long­term strategic interests to do so. 
c. If the manufacturer does feel that it is necessary to exercise some 
control over channel member pricing policies, an attempt should be 
made to do so through what might be called “friendly persuasion”. 
2) Changing Price Policies 
Another  important  channel  pricing  issue  that  the  manufacturer  is  almost  sure  to 
face at one time or another is dealing with channel member reactions to major 
changes in the manufacturer’s pricing policies and related terms of sale. 
Major  changes  in  the  manufacturer’s  pricing  policies  are  bound  to  affect  channel 
members.  Typically,  channel  members  become  very  uneasy  when  they  hear 
about  significant  changes  in  manufacturer  pricing  policies  or  terms  of  sale. 
Indeed,  channel  members’  own  pricing  strategies  may  be  closely  tied  to  the 
existing policies of the manufacturer. 
Hence, a significant amount of communication and research into the  problems and 
issues  of  channel  members  is  needed  to  prevent  channel  conflicts  from 
developing. 
3) Passing Price Increases through the Channel 
So long as each channel member is able to pass along manufacturer­initiated price 
increases to the next channel member, and ultimately to the final user, the price 
increase issue is not too worrisome. 
But,  when  the  increased  prices  cannot  be  totally  passed  through  the  channel,  and 
hence  channel  members  have  to  begin  absorbing  some  or  all  of  the  price 
increases by cutting into their margins, price increases become a critical issue. 
Added to the direct monetary difficulties arising from such nontransferable price 
increases is the ill will that they can create as each channel member blames the 
next for the price increase. 
Unfortunately, such price increases are too simply passed along in rote fashion by 
the manufacturer (and other channel members) before other alternatives or 
strategies that could help mitigate the effects of the price increase are given 
adequate consideration. 
Such alternatives and strategies include the following: 
a. More thought to the long­ and short­term implications of going through with 
the price increase versus attempting to hold the line on prices should be 
considered. 
b. If passing on the price increase is unavoidable, the manufacturer should do 
whatever possible to mitigate the negative effects of the increase on channel 
members. Examples include: additional financial assistance, more liberal 
payment terms, special deals, or other price­related strategies. 
c. The manufacturer could change its strategies in the other areas of the 
marketing mix, particularly product strategy, to help offset the effects of price 
increases. For example, the product could be “improved” or the product could 
be “downgraded” to maintain a price point. 
4) Using Price Incentives in the Channel 
Pricing strategy is frequently used by manufacturers as a promotional tool. A 
wide range of pricing devices is used to carry out such pricing strategy, 
including special deals, seasonal discounts, rebates, price reductions, 
coupons, two for the price of one, and a variety of others. 
Such enthusiasm for promotional pricing strategies shown by consumers is not 
always shared by channel members. 
Part of the problem can be solved merely by making pricing promotions as 
simple and straightforward as possible, so that channel members can 
participate with a minimum of time and effort. 
The more significant problem underlying some price promotions, however, 
stems from the differing price elasticities of consumers versus retailers (and 
wholesalers). That is, consumers’ responses to price reductions may differ 
significantly from those of retailers and wholesalers. The corresponding 
price incentives offered to retailers for participating in the price promotion 
(to consumers) may not be sufficient to stimulate their desire to be fully 
involved in the deal. Many retailers as well as wholesalers will take 
advantage of manufacturers’ promotions by engaging in forward buying . 
 Forward buying: Channel members load up on the discounted 
products featured in the promotion by passing on the lower price to 
the consumer for just a portion of time. 
The rest of the product is held in inventory by the wholesaler or retailer 
for sale at the regular price after the promotional period has ended. 
The solution to the problem of getting better mileage out of 
manufacturer­initiated price promotions begins with the recognition 
on the part of the manufacturer of the differing price elasticities 
between consumers and retailers. 
Price promotion strategies should be designed to be at least as 
attractive to retailers as they are to consumers. 
Retailers and wholesalers often take advantage of price promotions so 
as to maximize their profit potential whether or not it helps the 
manufacturer or the final consumer. 
5) Dealing with the Gray Market and Free Riding 
Two  of  the  most  troublesome  developments  affecting  the  pricing  policies  and 
strategies of many manufacturers of branded products are the gray market and the 
related phenomenon of free riding. 
Key Terms and Definitions 
  Gray market: Refers to the sale, usually at very low prices, of brand­name products 
by unauthorized distributors or dealers. 
  Free  riding:  A  term  used to  describe  the  behavior of  distributors and  dealers who 
offer extremely low prices but little if any service to customers. 
The discounters get a “free ride” from the services provided by the higher­priced full­
service distributors and dealers when the consumer uses the full­service distributors 
and/or dealers for product information, and then buy from the lower­priced vendor. 
Gray  markets  and  free  riding  can  both  be  of  serious concern  to  the  manufacturers  of 
the  products  involved  if  these  practices  are  widespread  enough  to  disrupt  the 
manufacturers’ ability to manage their marketing channels. 
Channel design decisions that result in more closely controlled channels and selective 
distribution as well as changing buyer preferences may help to limit the growth of 
the gray market and free riding. 
 .
Profit Margins

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Gross margin
• Difference between 
cost and selling price
• Refers to the amount 
of mark­up
• The amount the 
channel member is 
paid to perform 
distribution tasks
 Calculations of Price are Based 
on the List Price
• List  price ­ suggested retail price
• Established by the manufacturer
• The basis of negotiation
 Calculation of Channel Pricing 
(Manufacturer)
• Manufacturer’s dollar gross margin = selling 
price minus cost to produce
• Manufacturer’s percent of gross margin on 
selling price = dollar gross margin divided by 
selling price
• Manufacturer’s percent of gross margin on 
cost = dollar gross margin divided by cost to 
produce
 Calculation of Channel Pricing 
(Wholesaler)
• Wholesaler's dollar gross margin = selling 
price minus wholesaler's cost
• Wholesaler’s percent of gross margin on 
selling price = dollar gross margin divided by 
the selling price (to the retailer)
• Wholesaler’s percent of gross margin on cost 
= dollar gross margin divided by the 
wholesaler's cost
 Calculation of Channel Pricing 
(Retailer)
• Retailer’s dollar gross margin = selling price 
minus retailer's cost
• Retailer’s gross margin percent on selling 
price = dollar gross margin divided by the 
selling price (to the customer)
• Retailer’s gross margin percent on cost = 
dollar gross margin divided by the retailer’s 
cost
 How are the costs and selling 
prices determined?
• Trade discounts ­ a percentage off of the list 
price
• Each level typically has a different trade 
discount
• The amount of discount corresponds to the 
tasks performed by the member
 Example of Channel Pricing 
Calculation
• Assume trade discounts of 66% for the 
wholesaler and 50% for the retailer
• Assume a list price of $10
• Cost to wholesaler = list ­ (discount x list)
• Cost to wholesaler = 10 ­ (.66 x 10) = $3.40
• Cost to retailer = list ­ (discount x list)
• Cost to retailer = 10 ­ (.50 x 10) = $5.00
 Example of Channel Pricing 
Calculation (continued)
• Mfg. Dollar gross margin = $3.40 ­ $2.50 
= .90 (assumes a cost to produce of $2.50)
• Mfg. G.M. % on selling price = .90/$3.40 = 
26.5%
• Mfg. G.M.% on cost = .90/$2.50 = 36%
 Example of Pricing Calculation 
(continued)
• Wholesaler’s dollar gross margin = 
– $5.00 ­ $3.40 = $1.60
• Wholesaler’s G.M. % on selling price = 
$1.60/$5.00 = 32%
• Wholesaler’s G.M. % on cost =
–  $1.60/$3.40 = 47%
 Example of Price Calculation 
(continued)
• Assume the retailer priced the product at 25% 
off of list
• Retailer’s dollar gross margin =
– $7.50 ­ $5.00 = $2.50
• Retailer’s G.M. % on selling price =
– $2.50/$7.50 = 33%
• Retailer’s G.M. % on cost =
– $2.50/$5.00 = 50%
If we know list and we know the 
wholesaler’s trade discount…..
• What is the wholesaler’s cost?
– List minus (list x trade discount)
– $10.00 ­ ($10.00 x .66)
– $10.00 ­ ($6.60) = $3.40
If we know the cost and we know 
the list price…….
• What is the trade discount?
– (List ­ cost)/List
– ($10.00 ­ $3.40)/$10.00 = 66%
 .
Different Classes of Resellers

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 .
Rival Brands

Guideline
Guideline#3:
#3: AtAtall
allpoints
pointsin
inthe
thevertical
verticalchain
chain
(channel
(channellevels),
levels),prices
pricescharged
chargedmust
mustbe
beininline
linewith
with
those
thosecharged
chargedfor
forcomparable
comparablerival
rivalbrands.
brands.

Channel
Channel managers
managers should
should attempt
attempt toto weigh
weigh any
any
margin
margin differentials
differentials between
between their
their own
own and
and
competitive
competitive brands
brands in
in terms
terms of
of what
what kind
kind of
of
support
support their
their firms
firms offer
offer and
and what
what level
level of
of support
support
they
they expect
expect from
from channel
channel members.
members.
 .
Special Arrangements

Guideline
Guideline#4:
#4: Special
Specialdistribution
distributionarrangements—
arrangements—
variations
variationsin
infunctions
functionsperformed
performedor ordepartures
departures
from
fromthe
theusual
usualflow
flowof
ofmerchandise—should
merchandise—shouldbe be
accompanied
accompaniedby bycorresponding
correspondingvariations
variationsin
in
financial
financialarrangements.
arrangements.

The
The margin
margin structure
structure should
should reflect
reflect any
any changes
changes in
in
the
the usual
usual allocation
allocation of
of distribution
distribution tasks
tasks
between
between the
the manufacturer
manufacturer andand the
the channel
channel
members.
members.
 .
Conventional Norms in Margins

Guideline
Guideline#5:#5: Margins
Marginsallowed
allowedto toany
anytype
typeof
of
reseller
resellermust
mustconform
conformto
tothe
theconventional
conventional
percentage
percentagenorms
normsunless
unlessaavery
verystrong
strongcase
casecan
canbebe
made
madeforfordeparting
departingfrom
fromthe
thenorms.
norms.

Exceptions
Exceptions are are possible
possible ifif they
they can
can be
be justified
justified in
in
the
the eyes
eyes of
of the
the channel
channel members.
members. However,
However, itit isis
the
the job
job of
of the
the channel
channel manager
manager to to attempt
attempt to to
explain
explain toto the
the channel
channel members
members any
any margin
margin
changes
changes thatthat deviate
deviate downward
downward from from the
the norm.
norm.
 .
Margin Variation on Models

Guideline
Guideline#6:
#6: Variations
Variationsininmargins
marginsononindividual
individual
models
modelsand
andstyles
stylesof
ofaaline
lineare
arepermissible
permissibleand
and
expected.
expected.However,
However,they
theymust
mustvary
varyaround
aroundthe
the
conventional
conventionalmargin
marginforforthe
thetrade.
trade.

Channel
Channel members
members are are often
often amenable
amenable to to accepting
accepting
the
the lower
lower margins
margins associated
associated with
with promotional
promotional
products
products so
so long
long as
as they
they are
are convinced
convinced of of the
the
promotional
promotional value
value of
of the
the product
product in
in building
building
patronage.
patronage.
 .
Price Points

Guideline
Guideline#7:
#7: AAprice
pricestructure
structureshould
shouldcontain
contain
offerings
offeringsat
atthe
thechief
chiefprice
pricepoints,
points,where
wheresuch
such
price
pricepoints
pointsexist.
exist.

Price
Price points
points are
are specific
specific prices,
prices, usually
usually atat the
the retail
retail
level,
level, to
to which
which consumers
consumers have have become
become
accustomed.
accustomed. FailureFailure to
to recognize
recognize retail
retail price
price
points
points can
can create
create problems
problems for for the
the manufacturer
manufacturer
as
as well
well as
as its
its channel
channel members
members ifif consumers
consumers
expect
expect toto find
find products
products at at particular
particular price
price points
points
and
and such
such products
products are are not
not offered.
offered.
 .
Product Variations

Guideline
Guideline#8:#8: AAmanufacturer’s
manufacturer’sprice
pricestructure
structure
must
mustreflect
reflectvariations
variationsin
inthe
theattractiveness
attractivenessofof
individual
individualproduct
productofferings.
offerings.

IfIf the
the price
price differences
differences are
are not
not closely
closely associated
associated
with
with visible
visible or
or identified
identified product
product features,
features, the
the
channel
channel members
members will
will have
have aa more
more difficult
difficult
selling
selling job.
job.
 .
Guideline Caveat

There is no
Guarantee

Particular circumstances and situations exist

in which these guidelines will not apply or
will be irrelevant.
 .
Other Channel Pricing Issues

Exercising control in channel pricing

Changing price policies

Passing price increases through the channel

Using price incentives in the channel

Dealing with the gray market & with free riding

 .
Exercising Control in Pricing
Because channel members typically view pricing
as the area over which they have total control. . .

First: Rule out any type of coercive approaches

to controlling channel member pricing policies.

Second: The manufacturer should encroach on the

domain of channel member pricing policies only if
the manufacturer believes that it is in his or her
vital long-term strategic interest to do so.

Finally: If the manufacturer believes that it is necessary to

exercise some control over member pricing, he or she
should do so through “friendly persuasion.”
 .
Changing Price Policies

Changes in
manufacturer pricing policies
or related terms of sale cause
reactions among
channel members.

Channel members fear such changes because they have

become accustomed to the strategy, or their own pricing
strategies may be closely tied to those of the manufacturer.
 Passing Price Increases Through the .
Channel
Strategies for channel members to use in order
to avoid simply passing along price increases
through the channel:

First: Manufacturers should consider the long- and the

short-term implications of such increases versus
maintaining the current prices.

Second: Manufacturers should do whatever possible if

passing on the price increase is unavoidable.

Finally: Manufacturers could change their strategies in

other areas of the marketing mix to help offset
the effects of such increases.
 .
Using Price Incentives in the Channel

Manufacturers face difficulties gaining strong

retailer acceptance and follow-through on
pricing promotions.

Possible Solutions:

• Make pricing promotions as simple and

straightforward as possible.

• Design price-promotion strategies to be at least as

attractive to retailers as they are to consumers.
 .
Gray Market & Free Riding

Gray Market Free Riding

The sale of brand- Describes the behavior of
name products at distributors & dealers
very low prices by who offer extremely low
unauthorized prices but little service to
distributors or customers
dealers

Channel design decisions that result in closely controlled

channels and selective distribution as well as changing
buyer preferences may help limit the growth of the gray
market and free riding.