Merchandise Planning to Help Your Business “Win @ Retail”
After 23 years of observing retailers manage their business according to the Winning @ Retail merchandise plans, I am convinced that a store cannot optimize sales, market share, profit or cash without a viable and accurate plan. Guessing about inventory balance, timing, flow and management is no longer sufficient for success. There is no way you can or should believe me. You do owe it to yourself to become more knowledgeable about how merchandise planning can impact your business. In addition, you must be well versed in how to select the right source for your merchandise plans.
I have prepared this article to accomplish those two goals. There is a tremendous amount to know about gathering data, finding the trend locked in all the seemingly random purchases, preparing a meaningful report, analyzing the data, identifying the story the information is telling and then determining the correct action plan to seize the opportunities and conquer the problems. That is the job of the merchandise planner. Your job is to take the proper action! The Management One team members are proud of their process and the solutions they bring to clients. That is why I am willing to share these secrets of their success.
Many of you are great retail artists. You have a rare ability to go to a market crammed with merchandise and select the items that your customers will buy. Great pickers and great sellers are critical to retail success however, most do not have the love of budgeting, planning, controlling cash flow and managing inventory that Management One has and brings to clients. I hope that you benefit from this article and that it helps you to become a better retailer.
Retail success seems easy at first glance when you believe that all you need to do is buy items, double the price and sell them. What is easier than that? Too often new retailers fall into that trap as they go to market for the first time and buy too much of one item and too little of the next. When they are unable to predict the demand accurately, they have no way of knowing how much to buy to satisfy that demand. At the end of the season they have way too much excess inventory to mark down and they have lost business in key areas when they did not have enough of the right goods. Now go pay the bills! This is when the retailer learns about the importance of balance, merchandise flow and cash flow.
APPROACHES TO MERCHANDISE PLANNING
Hope Driven Planning (HDP)
There are three different approaches to inventory planning in which retail businesses can engage. The first is hope driven planning. In this scenario decisions are made at a high level and forced into the planning process. The planning starts with what the owner or executive is hoping revenue and profit will be for the next year or period. The larger the company the more common this approach will be. With 1000 stores a company can overcome mistakes by transfers and “A” stores producing sales that cover for losses at “C” stores. Companies do market surveys and try and forecast sales to justify the HOPE rather than develop the plan. With hope driven planning, forced increases or planned decreases are not necessarily driven by market conditions. Decisions are made at a high level where there may be significant distance between the decision maker and the customer. This method leads to markdowns, stock-outs and suboptimal performance.
Market Driven Planning
The second option for planning is market driven planning, which is dictated by how the customer votes with each and every one of his/her purchases. This analysis is more accurate since it measures what your customers actually do and what they can be expected to do in the future. Every time customers buy an item, they are offering a bit of information about what they demand. The POS captures all these bits of data. When you can find the signal in all that noise, you can accurately identify future demand. There are all levels of sophistication and accuracy found in the market driven method. It all depends on the methods used to find the right forecast.
Another component of great planning is interaction. Interaction imparts input from management, sales staff and buyers that are used to alter and modify the sales forecast. This input can affect the final plans so buying and merchandising decisions that contain all sources of input are based on the best plans possible. Management One combines the market – driven technology of statistics and mathematics with the interactive approach of listening to input from the field into a philosophy of planning we call “high tech- high touch.”
How interactive planning works at Management One
Management One has developed a very sophisticated approach to taking the data that retailers collect daily and turning that data into valuable information that leads retailers to make the right decisions. We strongly believe in the personal touch that our certified affiliate base brings to each client to assure those decisions become action. It is only that action that will improve the business.
The importance of an accurate merchandise plan right from the start is critical to success. The steps in making that happen are fairly simple but the technology can get complicated. I will outline the important steps in effective merchandise planning. The first step is correct classification structure.
A classification structure is crucial to gaining insight and balance in your store. Retail is a very dynamic business. It is always changing which poses obstacles to identifying trends and forecasts. Planning by classifications provides the consistency needed to gain knowledge from the past and insight from the future.
Another reason we always base planning on classifications is because you are really operating many different businesses within the confines of your store. Managing each of those businesses separately leads to balance in your inventory and the proper flow of merchandise. Let’s use a traditional men’s apparel store as an example.
Every season fashions change, vendors get hot and cold, and demand for items varies. By classifying merchandise or grouping the items into consistent demand classifications, you have the ability to track trends over the long term and get insights from across the market on where demand is going. For example, a typical classification is SUITS. Suits have been selling in menswear stores for 100 years and a retailer could build his suit business over many years. Leisure suits; Nehru collars, center vent, side vent, stripes and pleated are all fashion variations that could occur within SUITS. The ability to track history and forecast demand for suits is easy with the right POS technology. Predicting a fashion change within the classification is more difficult and much less accurate. You can get leading indicators for a classification’s demand so you can buy the right amount in that classification. When you try and to plan by item, you never really know how much to buy.
An additional reason to plan by classification is because every classification behaves differently. Key factors, like initial markup (IMU), are greater for some classifications than others. When a retailer uses one IMU factor for all merchandise, he is often adjusting all classifications down to the lowest IMU that will sell. That is a costly mistake. A good merchandise plan will identify the right IMU for each classification.
There is a concept in economics known as the elasticity of demand. In simple terms, it asks if I add 1% to the price I charge, what will happen to the revenue I generate from the classification? Finding the peak margin dollars is the key rather than peak sales! Some classifications are inelastic which means that if you raise the price 1%, sales will drop off a cliff and margin dollars will go down. Some classifications are elastic in the price range you are in and raising the price will not affect the quantity sold and margin dollars will climb. Only by addressing each classification separately in your merchandise plan, will you optimize your gross margin and cash.
Putting the right classification plan together takes experience and insights into the specific industry, volumes, vendor mix and many more variables. The successful classification structure will allow the retailer to grow each classification over the long term rather than trying to grow by items in the short term or approach the whole business as one complicated entity.
A key difference between a retail buyer and a retail shopper starts with the use and adherence to a good merchandise plan. Shoppers go to market and buy what they like and how much they “think” will sell. They even rely on the vendors to tell them how much to buy! Some just take a guess.
Looking into the future and getting an accurate forecast of demand is not a trivial matter. Many retailers start out with a merchandise plan but quickly see that it is not giving them the right insights so they abandon the plan. That is like a teenager not dating because the first date didn’t go too well. The problem is the plan is not right — not that the concept of using a plan is not right. Often the poor plan is due to a poor sales forecast.
An accurate sales forecast depends on at least three factors. Hint: last year’s sales is not one of them! Last year is over, and it is not coming back. The three factors we use at Management One are:
1. Statistical Trending analysis of actual data from the POS system. This is what we term high tech. Every time a customer pays you for an item, he is telling you something. Identifying the message in all the POS system entries takes sophisticated trending models and analysis. Analyzing that information to evaluate the trend leading to the future is important to arriving at the right sales or demand forecast for each classification.
2. Environmental dynamics surrounding the store. Every store has a different market and that market is affected in different ways by what is happening. There are many impacts on sales in each market. Examples might be the stock market, economy, unemployment, the local football team, tourism pre-bookings and many more. Upper end stores serve wealthy clients who have the money to spend but their confidence might be mirrored by the stock market. One of our client’s stores has a military base nearby and the owner’s future demand is affected by whether troops are deployed or at the base.
3. What is happening in the store and the gut reaction of the staff. This is what we term high touch. Independent specialty retailers are close to the market and what happens in the store. They know what events are happening. They know when they are implementing a motivational program for staff that should boost sales. They know when the road will be under construction in front of the store. The input from the retailer is a key to modifying the forecast for accuracy.
These three inputs to the right demand forecast in each classification leads to an accurate plan. Without an accurate demand forecast, the rest of the plan cannot be accurate except by random luck. The old programming mantra “Garbage In, Garbage Out” (GIGO) certainly applies to merchandise planning. Look at the source of your merchandise plan and see if it looks at all three critical aspects of forecasting. If not, what is that costing your business in revenue and cash flow? Just having an OTB number is not enough; it must be the right number.
Stock to Sales (S/S)
Once you know what the sales are likely to be, you must then accurately predict the right quantity of merchandise needed to reach those sales forecasts. Too little and you do not have adequate selection. Too much and you will give back your profit at the end of the season in markdowns to get rid of the excess. How much is right?
The best answer to that question is “it depends.” Retail is a very dynamic business, which means it changes all the time. We arrive at the right target inventory level through a ratio called the Stock to Sales ratio (S/S). Multiplying the target sales by the S/S ratio will give you the target inventory level. The S/S ratio depends on many factors:
* Every month during the season and every season during the year the right amount of inventory changes since more stock is needed early in the season when there is more time to sell it. By the last month in the season there should be less stock so you don’t have too much left over.
* Each classification has a different amount of inventory needed to support sales. This is influenced by sizes, styles, traffic, importance of the classification to the profitability of the store, lead time for fill in, turn rates, and much more.
* Strategy for the classification affects the S/S ratio. Cash flow and terms for the classification can affect the correct amount of inventory to carry for the classification
* IMU and margin might affect the S/S ratio. A greater margin might give slightly more leeway depending on the assortment needs in the class.
* Crossover of seasons when new goods are being received while old goods are being sold off affects the ratio.
The main lesson is to keep correcting the S/S ratio as the conditions change. Each market, each classification, each store and each month demand a different S/S in building your merchandise plan. If you have many stores the S/S ratio for a classification will likely be different depending on location and demographics of the store.
Choosing the right S/S ratio is difficult for many retailers to determine. Choosing an average and sticking to it is a costly accommodation. It is like standing with one foot in boiling water and the other in ice water; on the average you are very comfortable, but you can’t stand all that comfort.
Incoming inventory for the month might be new goods but, in a sense, any inventory carried over from the past month is incoming goods for the next month. Items that have not sold in the past 90 days have less chance of selling well in the next 90 days. Even though an item has a chance to sell, if it will not sell well, a savvy retailer will mark it down and move it out. The item destined to be a markdown is not as valuable as an item that is selling well. A good merchandise plan will reflect the true value of the merchandise rather than the original value.
Since you are always doing merchandise planning at retail pricing, knowing and using the reduced value (true value) of the merchandise for your plan is important. Always plan in monetary units (i.e. dollars, euro, etc.) and not merchandise units. Planning in dollars allows you to compare one period to the next and buy different items at different price points.
Another important input is the value of the goods you expect to receive during the month in that classification. The classification may contain many sub-classifications and each sub-classification contains many SKUs. Since you are planning in monetary units, you must know the total value of all the merchandise expected to arrive each month you are planning.
You are running an ongoing business so depending on lead time, you can be planning monthly for up to a year out. (We always do 12 months into the future.) That means your merchandise plan must flow month to month. The ending inventory for one month becomes the beginning inventory for the subsequent month.
The rest of the process to arrive at Open to Buy budgets is simply math. The hard parts and most critical are the classification structure; the demand forecast; the stock to sales ratio; and valuation of the existing merchandise all by classification.
Merchandise planning is an important part of retail success. Management One has planned billions of dollars of merchandise for thousands of clients. Our knowledge base spans 23 years and gives us insights that no single retailer could possibly have. Our 70+ certified affiliates are all professional retail experts who take a complicated plan and turn it into a simple action plan for clients each month.
Written by Evan Wise
Managing Director of Operations, Management One
About the Author:
Evan Wise is a founder and Managing Director of Management One. His background covers retail, engineering, production management and R&D. He manages the operations of Management One® and is responsible for recruiting new affiliates and overseeing their training and development as retail consultants. With over 70 retail experts delivering the Management One®merchandise plans, Management One® is the premier source for excellent merchandise planning for independent specialty retailers the world over since 1990.