Optimizing Inventory with XpertMartTM

The Retail Supply System

A retailer’s purchasing and distribution system should be set up to bring supply as close as possible to demand, thereby dramatically reducing unnecessary inventory and minimizing lost sales. Carrying unnecessary inventory creates financing costs and forces a retailer to sell at markdowns, eroding margins in both cases. The flip side is not having the correct item in stock and therefore failing to satisfy a customer. This unsatisfied customer is not one of the millions of potential customers somewhere out there, but one of the select and valuable few who made it into your store, liked one of the styles you have, was willing to pay the price you ask, but then… you didn’t have the correct color and size. To use a baseball analogy, this is like striking out with the bases loaded and two outs.

Those retailers whose distribution systems are set up to understand and respond to their demand will be the winners in the marketplace. The way to read demand is through Minimums, which set a minimum stock level for each item, in each store, based on actual historic sales. The Minimum serves as an equilibrium point: stock levels above the Minimum mean you are overstocked and keeping capital unnecessarily tied up in inventory that will not sell; stock levels below the Minimum mean that you are understocked and risk losing sales. So a retailer’s supply system must be calibrated to keep the stock levels (item by item) as close to this equilibrium level as possible. Just to keep things interesting, this equilibrium level is a moving target as customer’s tastes are constantly changing.

In an ideal distribution system, Minimums should be used to control distribution of merchandise from a central warehouse to the stores. Therefore, the actual Minimum depends on the time it takes to move an item from a warehouse to a given store. Maximums, on the other hand, should be used to control the purchasing of merchandise from vendors and its shipment to the central warehouse (see figure above).

Suppose it takes one week for your warehouse to process a transfer order and send an item out to a store. To keep the example simple, we would want our Minimum to be the amount of items sold during that seven day period. Now suppose that for this particular style, our vendors need four weeks to re-supply our warehouse in which case, we would want our Minimum to be equal to the amount of items sold during that seven day period multiplied by four (or even better, the amount of items we have sold in the last 28 days). 

 To continue with our example, let’s suppose you last week a certain store sold three white, size 4 “Tommy” sneakers. This store would order 3 more white, size 4 Tommys from the central warehouse. At the same time, the warehouse would order 21 white, size 4 Tommys from the vendor. If the following week the same store sold 4 white, size 4 Tommys, it would order 4 more pairs from the warehouse, which would, in turn, order 28 pairs from the vendor. We can imagine a line of imaginary trucks full of Tommy sneakers each week waiting their turn to deliver the shoes to our hypothetical store. 

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