Gray Market: Definition, Characteristics and Prevention

By Indeed Editorial Team

Published January 3, 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

Though brands try their best to sell products through a strict distribution system, some unauthorized businesses might still find ways to sell those products in their own stores. When this happens, it can create a gray market, which can cause a lot of challenges and problems for the brand. It's helpful to understand how these markets can occur and how to avoid them. In this article, we discuss what a gray market is, the characteristics that make up a gray market and the best strategies to prevent it.

What is a gray market?

A gray market is a trade that legally sells new products outside of a company's authorized distribution channels. This can include more expensive products, such as software, cars and pharmaceuticals, as well as retail goods, like shoes, clothing and electronics. One common way this type of market can form is when distributors resell brand-name products to unauthorized businesses.

These businesses, outside of the brand's distribution, can price the products any way they want and offer unapproved discounts. By not working with the brand, these unauthorized businesses also can't offer any assurances or protections covered by the manufacturer, including product warranties or regulatory standards.

Related: Guide to Distribution Channels: Definition, Types and How To Choose One

Characteristics of a gray market

Here are some characteristics of a gray market:

Too much competition

Brands often sell their products to two or more distributors that compete with one another. When this happens, some distributors try to find the best price for the products to face their competitors. If distributors price their products too low, they reduce their profit per product sold. They might even sell the products at such a low cost that unauthorized distributors might buy them and gain a profit by selling the products elsewhere.

Related: What Is a Competitive Market and How Does It Work?

Too little competition

When authorized distributors sell a brand's goods, they often work within the brand's pricing policies. Some brands even ask distributors to sign a minimum advertised pricing (MAP) policy, which stops them from pricing the products lower than their competitors. Because there's a lack of pricing competition, unauthorized businesses have the opportunity to acquire and sell these products for a lower price than other retailers.

Rejected distribution

It's possible that some manufacturers and brands might block distributors or retailers from selling their products. When this occurs, these businesses might still want to sell the products to meet their customer demand. Because of this, they might look for alternative methods of buying and selling the product. Most often, this allows unauthorized distributors to gain the products at a reduced price and sell them at a lower price as well.

International markets

When companies sell their products in multiple countries, the prices of the products may vary. For example, the price of a camera in Italy might be $500, but the price of that same camera in the United States might be $800. When this occurs, distributors might buy the cameras in Italy, bring them to the U.S. and sell them for a higher price.

High sales targets

Some manufacturers might expect some of their employees to meet high sales targets. When this happens, the employees might feel pressured to offer distributors discounts or promotions on the inventory that they buy. This means that salespeople might sell the products cheaper to some distributors than others. They might even sell products to distributors the brand hasn't authorized.

Why is it important to prevent gray market goods?

There are a few reasons that it's important to prevent goods from entering the gray marketing, including:

Improved brand reputation

When a brand stops unauthorized distributors from selling its products, it can oversee every step of the selling process. This means the company can offer a warranty to all customers that purchase its products. It also means that each of the products goes through a quality assurance check and comes with the right components and instruction manuals. This can help increase customer satisfaction and improve the brand's reputation.

Related: Effective Reputation Management

Better distributor relationships

Preventing unauthorized goods can stop some distributors from selling products for less money than authorized brands. This can help create better relationships between distributors and brands because they're not losing customers and sales to unauthorized businesses. Improved relationships can help brands sell even more inventory to retailers and improve their own sales and revenue as well.

Fulfilling regulatory requirements

When unauthorized distributors sell a brand's products and services, people might buy products that don't meet their country's regulatory requirements. If brands prevent this selling, they can ensure that their company meets all regulatory requirements and follows the laws of the countries in which they operate. This can create strong relationships with local governments and prevent any unnecessary legal risks.

Strategies for protection

Here are some helpful strategies to protect companies from the gray market:

Educate customers

If customers know that buying from unauthorized distributors could hurt the brands that they love, they might be more willing to purchase products at a slightly higher price. It's also helpful to inform customers that buying products from unauthorized distributors comes with risks, including lack of warranty and missing product components, like chargers. If they're buying from an online distributor, it's also possible that the product's instruction manual might come in an unfamiliar language.

Track stock and inventory

Sometimes, when distributors have an excess of stock, they might sell it at a reduced cost to unauthorized businesses. When manufacturers track the stock and inventory of their distributors, they can prevent this from happening. That's because they can compare the distributor's level of inventory with their sales. If the two numbers don't match, the manufacturer can inquire about the inconsistency and it can stop selling to that distributor.

Set realistic goals for employees

When manufacturers set realistic sales goals for their employees, the employees might not feel as pressured to meet their sales targets. This can help prevent them from selling goods to unauthorized distributors or selling them at a reduced cost. It can also allow manufacturers to create incentives that motivate employees to sell over their targets, increasing overall revenue.

Read more: How To Set Realistic Goals

Increase distribution channels

If manufacturers sell to more distributors, they leave fewer businesses outside of their distribution channel. That means most businesses the manufacturer sells to will fall under their pricing policies and guidelines. The more distributors required to follow their pricing policies, the less likely unauthorized businesses are to sell their products for less. They can also improve distributor relations by offering their products to businesses that want to meet their customer demand.

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