PRODUCT DIVERSION
As requested by our readers!
At the request of many of our readers in the
Johnson vs. Supervalu litigation report, they requested more information about DIVERSION and how it effects business operations. The following details a variety of methods which impacts all industries and a “Case of Diversion”.
“DIVERSION” of manufactured products, whether pharmaceutical, grocery goods or even sneakers finds corporate entities struggling within their own organizations to deal with the penetration of the production grid. Product diversion not only impacts the corporate bottom line, but seriously damages the credibility of the product identity, leaving the corporation with the potential for liability exposure, alteration and adulteration of products and its impact on the reputation of the manufacturer.
Diverted products are guided through a maze of planned manipulations, alteration of business records, and conversion of transportation from its original destination to another recipient or illicit market distribution network.
Product diversion simply starts from within the manufacturers facilities. Depending on the point line in the system, the products at any given point, from manufacturer, on the product assembly line, shipping and packaging, trucking and transport or even labeling, packaging and or the creation of false shipping label documents are all points of weakness within the corporate system. Distribution weakness points in the system chain, affords the
diverters an opportunity to short the manufacturer of product, financial benefit and reputation.
What are the causes of Diversion?
Often companies maintain an internal policy that creates diverse geographical pricing and compensation programs. This contributes and triggers a diversion plan from a network of organized marketers, within or external from the corporation.
Protecting the company to reduce the level of diversion requires a need to mark the product. It also requires the company to track the product, integrate information including; production. packaging, shipping, transportation and receipt, of the products identity, computerized audit code, and even now RFD (Radio Frequency Device) marking the product from the start of the production to the finished authorized destination, protects the product in the distribution network.
With the creation of GPS tracking of containers, even individual products, creates an added expense, but will reduce diversion, or trigger information that the product has not reached its destination. Depending on the value and impact to the business, GPS tracking must be accompanied with internal controls and system wide audits.
Diversion’s impact on the business often leads to erosion of brand name, inadequate inventory levels in targeted market area, and lower revenues from high paid discounts, and higher cost of distribution due to slow sales. This has a greater impact on the financial growth of a company than counterfeited products. Supply chain partners and distributors exclusive territory rights are diluted, costs increase, brand value is eroded and profitability of all channel partners are affected.
Product
diverter’s, third party marketers undercuts the company’s price of goods while reaping high profits. Diversion often referred to as “Grey Market Goods” or “parallel distributors” greatly disrupts the distribution channel of the legitimate business operations. Products that are diverted are often the result of deception and fraud. Discount, and warehouse retailer, supermarket chains, independent grocery stores and at times drug stores become the retailing marketplace for the diverted product. This impacts the legitimate distribution network, manufacturers, distributors, retailers and the consumer.
The international distribution network based on tax incentives, different pricing and new market distribution outside the United States aids in creating the diversion network. Because of these tax incentives, variable product pricing affords the
diverters the opportunity to move products from its international destination and convert the product into the American marketplace at what appears to be a greatly discounted pricing from the legitimate distribution chain in America.
Hence, DIVERSION of goods from the directed international marketplace to the American retailer impacts the costs and value of the manufacturer.
In the Cigarette industry, product destined for the international market often finds their way into communities that are considered border communities. While the pack of cigarettes is marked for international sales only, they can be purchased in such cities as Miami, Arizona and Texas border towns. While legitimate business partners of the companies complain about the product availability, the goods are being diverted from the legitimate shipments to the American market.
They were sent with certain discount prices, have limited state tax restrictions and are sold on the open market through a chain of retailers with little disruption.
In the Medical Supply industry, price and volume incentives cause a dramatically lower price in the volume purchasing from distributors in different regions of the world. Thus allowing the distributors to take orders from “local trading companies”, which are then transferred to a shipping company with the manufacturer thinking the local industry is growing. However the shipping company is now sending the product to destinations where distribution prices are much higher. The Diversion of such goods creates a massive “Gray Market” for the parallel distribution line who can provide these products to stores or even manufacturers distributors at a lower price than the manufacturer would offer in that territory
Today, the pharmaceutical industry is exposed to “Parallel Importing” often seen as grey market importing is unauthorized, but not necessarily criminal, importation of patented drugs for resale via conventional distribution channels. Sourcing drugs for a free market economy from the United States to a country of price point fixed products below that found in the United States has legitimate incentives. In parallel importing cases, it robs the patent holders of legitimate profits and thus limits the incentive for pharmaceutical companies to invest in developing new drug solutions.
It is well known that
pharmaceutical products purchased for third world nations at a tax free discount from United States to aid foreign markets, is purchased at discounted pricing, then converted into parallel goods for redistribution in foreign countries that were not scheduled to receive the reduced pricing of the drugs. The middle-men are receiving discounts, increase product levels at no cost, sample products and off-market goods for specific countries. In turn, the middle-men of the distribution network, sell off the reduced priced goods at an inflated price, yet under the cost prices of the United States marketplace.
Supervalu/ Johnson Diversion Program:
In the Johnson v.
Supervalu litigation, in which Johnson won a $16 million dollar judgment against
Supervalu, it was disclosed and alleged that
Supervalu and Johnson participated in product diversion from manufacturers, causing Johnson’s grocery stores to be shorted of products, and not benefiting from the product rebates offered by the manufacturers.
In the complaint by Johnson in this matter Section 3. “Fraudulent Diverting Transactions, is detailed in the following;
“62. Diverting in its purest form is a process by which a person who can obtain a product at a discounted price resells that product to another who is not able to obtain a discounted price.”
“65. Nerveless, Johnson alleges that
Richford has an entire department dedicated to diverting. Johnson also alleges that
Richfood has a warehouse used for unpacking cases, removing stingers, and repacking products for resale.”
As a result of the diversion scheme, Johnson alleges that it cost his corporation more than 102,000 in
billbacks that he could not claim with the manufacturers, since the products were diverted and never received by Johnson’s stores. Johnson admits that his company “participated fully”, but was unaware there was no product movement in the illegal
Richfood scheme. Johnson’s company MPH’s diverting losses resulted from 35 product deals for which it was not able to obtain product movement data from
Richfood to support
billback invoices to manufacturers.
The world of diversion has become computer based, on-line and extremely sophisticated. Trails of today’s diversion may be very well hidden in the depth of computer generated information systems.
Supply chain professionals need to be in the front lines in the battle against diversion of manufactured goods. Manufacturers need to take charge of there supply chain to insure the integrity of the production line, the transportation and the end distributor or retailer has received the products that they sell to keep the market going. Any hiccup, hesitation, disruption or pattern of diversion should be immediately addressed, not just as a misstep, but rather as a scheme to defraud the manufacturer, its shareholders and the consumer public.
CASE STUDY WITH A POSITIVE END:
Some time ago a manufacturer of a “NEW” hygiene product, a depilatory hand-held shaver, made in Israel, was being manufactured in China and distributed around the world. The corporate owners wanted to enter the U.S. market and had been planning a major introductory advertising campaign. It was discovered, a surprise to the manufacturer that their product was already in the United States and being advertised in circulars of two of the largest retail chains in America. How did this happen?
Our investigation
(Ben Jacobson) identified the marketing agent within the United States, his business name, a legitimate authorized business enterprise. He was sitting on two containers of the product that had been DIVERTED from a European shipment to a Trans-Atlantic cargo shipment into the U.S. The marketer had a distribution chain of major retailers whom he had done business with for years. He was not the originator of the diversion, just a cog in the wheel of the diversion chain, the recipient and distributor. His associates were associated with the manufacturer in Israel and China had developed access from the manufacturing plant. They knew that the product was not yet available in the United States, but the company had a marketing plan, and an advertising explosion about to be put into place. The manufacturers had spent millions in development and creating the American market buzz, but had been beaten to the distribution point by
diverters. This was a very sophisticated diversion operation. The product did not have government restrictions, or was required to pass other than normal customs inspections. Like many shipping containers entering into the United States, less than 3 of ten containers are inspected. In this case, the containers would have not raised any issues.
The result of our investigation found the manufacturers with a dilemma, a decision of litigation or distribution. They had a product that was receiving tremendous positive reaction from the consuming public. The retailers had been marketing the product nationally with an advertising campaign and introductory offers.
A meeting with the marketing
diverter distributor was held. An agreement with the marketer was struck. The decision was to join with the
diverters that already had a distribution network in place within the United States. It
didn’t make business sense to engage the distributor in litigation, when the business decision decided to join forces with the distributor and reached a distribution agreement after reaching a settlement for the cost of the diverted goods previously sold.
What did this mean to the corporation? As a result of the agreement, the American distributor provided the contacts and resource names of businesses that were part of the diversion. The manufacturer closed the loop-holes by reaching this agreement with its Chinese partner on the accountability of manufacturing, quality control and stopping over-run productions. The business decision brought an end of the diversion of the product and created a product that reached into every retail community within the United States. The loss of millions from the diversion was converted to a profitable distribution point.
This is not to say that rewarding
diverters is suggested, but in this case, the corporation made a sound business decision to enter the American marketplace, with an already built distribution network. They got into bed with the
diverters. It saved time and money to reach their distribution and sales objectives.
What happens when diversion occurs? All manufacturers suffer from diversion of products. The real question is what percentage of diversion impacts the manufacturers business. Often, diversion has a greater impact on the company than counterfeit products.
Controlling diversion is not a simple task, but rather the constant diligence of the entire process. From beginning of the manufacturing to the destination of the product, audited movement is required. However, in the real world, the human factor impacts the method of diversion and its destination.
You Have the Questions, We Report!!!We look forward to you comments.
Labels: 2007, Diversion, IOS, Manufacturing, Supervalu
