Optimizing Inventory with XpertMart^TM

Centralize Purchasing for Greater Accuracy

A common mistake we find among retailers is to on optimizing distribution among stores once the inventory has already been received from the vendor. In the worst of cases, the philosophy of these retailers seems to be: “Get the merchandise in the stores as quickly as possible and then we’ll figure it out.” Unfortunately, by the time you are ready to start moving inventory between your stores, it may be too late. Transfers are like an autopsy: the patient is already dead. In this case, the retailer may be trying to accommodate inventory that differs sharply from demand, i.e. he is moving merchandise around that customers do not want. Purchasing, on the other hand, is more like preventive medicine as the retailer uses Minimums & Maximums to only order merchandise he knows is in demand. In fact, we believe that the number of inter-store transfers is indicative of the effectiveness of a retailer’s purchasing and initial distribution. A high volume of transfers suggests the right merchandise was not ordered or distributed to stores initially. While some transfers are not only inevitable but also smart business (more on this below), a lower volume of transfers is a sign of a healthy distribution system. Transfers between stores are relatively expensive since they usually involve moving small amounts of merchandise in a hurry.

Centralizing your purchasing will give you greater accuracy and flexibility in your distribution. A general rule of statistics is that they are more accurate the more aggregated they are. Thus, when the census tells us that the average American family has 2.2 children, we know this to be true for the country as a whole, but do not expect our neighbors to have fractions of children living with them. The same logic applies to a retailer’s sales statistics. Suppose a certain item, the black size 6½ Marilyn woman’s dress sandal we referred to earlier, sold on average 2.2 pairs in each store during the last month and the retailer wants to restock. Now if every one of the 40 stores is sending individual purchase orders to a vendor, they risk ordering too many (120 pairs if they each buy 3) or too few (80 pairs if they each buy 2). However, if the retailer orders 88 pairs for his 40 stores, then has the flexibility, for example, to ship one pair to most stores, 2 pairs to certain stores, and hold some 20-30 pairs in reserve to fill in where they sell fast or in unexpected amounts.

The benefits of centralized purchasing are even more apparent when your vendor gives you no choice but to buy prepacks which are, after all, a way of getting retailers to buy more merchandise than they need. To use a very simple example, suppose the vendor of Marilyn sandals insists on a minimum purchase of 6 pairs per size. In this case, the 40 stores purchasing individually would buy 240 pairs, over 150 more than they need! However, if all of the purchasing is centralized then the retailer can buy 15 sets of 6 pairs instead of 40. The example is a simple one, but the principle applies in more complex cases. Centralized purchasing allows the retailer to find efficiencies that can only be seen at the aggregate level. One store may be ordering a lot of small sizes for a given style while another store may be ordering a lot of larger sizes, depending on the demographics of a store’s region. (As strange as it may sound, there are cases where customers of one store or region on average have bigger feet than customers at another store!) Combining the orders of these two stores could reduce the total number of prepacks that have to be purchased.

Having a knack for fashion and choosing the right styles is an art, but reordering the same styles to restock stores is most definitely a science—and a very precise one at that! The beauty of Minimums & Maximums is that there is no opinion involved—just hard data. Often the best selling styles in the store are not the styles you would expect to be popular. If you purchase merchandise according to your Minimums & Maximums, you are purchasing merchandise you know will sell; you have the evidence to back you up. If you don’t use Minimums & Maximums, you are purchasing merchandise you think might sell well.

There are some retailers which allow each store to manage its own purchasing, but we believe this is inefficient. Purchasing, as we have suggested, is one of the most critical functions in any retail operation. Do it right, and other functions such as transfers and markdowns become less important. It is unreasonable to expect to have a purchasing expert in each one of your stores. Is the store manager up to the task of making 12,000 supply policy decisions every three months and 12,000 supply stocking actions each week while managing the store staff and hopefully doing some sales himself? Doubtful. On the other hand, it is possible, and highly recommended, to have one or two purchasing experts in your central offices whose only job is to analyze sales statistics, set Minimums & Maximums and create the necessary purchase orders. They will undoubtedly do a much better job than the store manager for whom purchasing is just one of many other responsibilities. Note that it is not necessary that all merchandise be received centrally (though there are advantages to having a central warehouse which we will see below) but only that all orders be placed centrally. Many retailers prefer to have orders shipped directly to stores, particularly if they are buying on 30 days credit and hope to sell out the shipment before payment is up.

Optimizing Inventory with XpertMartTM

Centralize Purchasing for Greater Accuracy

Optimizing Inventory with XpertMart^TM