Distribution Channels & Cost Analysis in Business
Channels of Distribution
Overview
Distribution channels are organized networks of businesses and individuals (middlemen) that facilitate the movement of products from manufacturers to end users. These channels evolve over time due to changing consumer preferences, new selling methods, and advancements in transportation.
Channel Members
- Manufacturers: Create the products.
- Middlemen: Facilitate the distribution process (e.g., wholesalers, retailers).
- Customers: Purchase and use the products.
Functions of Middlemen
- Contact potential customers
- Reduce transportation costs
- Stimulate demand
- Maintain inventory
- Relay market information
Importance of Middlemen
Middlemen benefit both consumers and manufacturers. Consumers gain access to the right products at the right time and place, while manufacturers avoid the costs of maintaining their own distribution channels.
Types of Middlemen
Wholesalers
Wholesalers purchase products from manufacturers and sell them to other businesses, typically retailers, for resale to final consumers. They do not directly interact with end users.
Retailers
Retailers sell products directly to consumers. Different types of retailers include:
- Department Stores: Offer a wide variety of products across different categories.
- Supermarkets: Primarily focus on food and beverages but may also offer other household items.
- Warehouse Retailers: Operate in low-rent locations and offer bulk discounts.
- Specialty Retailers: Focus on specific industries or products, providing expert knowledge and service.
- E-tailers: Sell products online through websites or apps.
- Convenience Retailers: Offer a limited selection of products at premium prices for convenience.
- Discount Retailers: Sell a variety of products at discounted prices, often including end-of-line or returned items.
Market Coverage Strategies
- Intensive Distribution: Aims to make products available in as many outlets as possible.
- Selective Distribution: Uses a limited number of outlets in specific locations.
- Exclusive Distribution: Grants exclusive selling rights to a single outlet in a particular area.
Physical Distribution
Physical distribution involves the transportation and storage of products. The choice of transportation mode (e.g., air, truck, rail, water) depends on factors such as delivery time and cost.
Cost-Volume-Profit Analysis
Overview
Cost-volume-profit (CVP) analysis examines the relationship between costs, volume, and profit. It helps managers plan and control operations across various sectors, including manufacturing, wholesaling, retailing, and service industries.
Break-Even Point
The break-even point is the level of activity at which total revenues equal total costs, resulting in zero profit.
Assumptions
- Revenue: Total revenue changes proportionally with output, and revenue per unit remains constant.
- Variable Costs: Total variable costs change proportionally with activity level, and variable costs per unit remain constant. Examples include direct materials, direct labor, and variable overhead.
- Fixed Costs: Remain constant within the relevant range, such as fixed factory overhead and fixed selling and administrative expenses.
- Mixed Costs: Must be separated into their variable and fixed components.
Contribution Margin
Contribution margin (CM) is the difference between selling price per unit and variable costs per unit. It indicates the amount of revenue available to cover fixed costs and contribute to profit.
- Contribution Margin per Unit: CM = Price – Variable Costs
- Total Contribution Margin: TCM = Total Revenue – Total Variable Costs
Contribution Margin Ratio
The contribution margin ratio represents the percentage of each sales dollar that contributes to covering fixed costs and generating profit. It is calculated as (Price – Variable Costs) / Price.
Margin of Safety
The margin of safety measures the difference between actual sales and break-even sales, indicating the cushion a company has before it starts incurring losses.
Cost Terminology
Understanding cost terminology is crucial for effective cost analysis.
- Cost: The amount paid or value exchanged to achieve an objective.
- Unexpired Costs (Assets): Costs that have not yet been used or consumed, reported on the balance sheet.
- Expired Costs (Expenses): Costs that have been used or consumed, reported on the income statement. Examples include cost of goods sold (COGS) and selling, general, and administrative (SG&A) expenses.
- Losses: Costs incurred due to unexpected events, such as fire, flood, or abnormal production waste.
- Product Costs: Costs associated with making or acquiring inventory, including direct materials, direct labor, and overhead.
- Period Costs: Costs not directly related to production or inventory, such as selling and administrative expenses.