August 24, 2017
Avoid Inventory Catastrophe: Know How Much to Buy and When
The Retailer’s Dilema
When it comes to body shape, we are what we eat. Similarly, the health of your retail business is a function of what and how much you buy.
Selecting what to buy is the glamour part of the job. Choosing the actual order quantities, ship dates and cancel dates are the behind-the-scenes, vital decisions that will ultimately define one’s profits or losses for the merchandise in question.
Working Towards Profit Maximization
Generally, I think that gun and accessory buyers do a good job in making stocking decisions. The problem lies in the fact that the selection of order quantities and specific ship and cancel dates collectively impact sales, cost of goods sold, inventory turn rates, cash flow and ultimate profits. Simply stated, profit maximization happens when what to buy, how much to buy and when to own it are all in sync.
How much to buy is governed by both the art and science components of the equation. For example, quantitatively, how much to buy is simply driven by a sales forecast and a turn rate objective. For example, if you sold 1,000 units last year and forecast a 20-percent increase to 1,200 (1,000 X 1.20 = 1,200) this year and want a four-times turn rate, then you need to own an average of 300 units (1,200 / 4 = 300) at any given time.
But qualitatively, your instincts may tell you that a certain item will be “hot” or that availability will be tight or that an item will phase out because of changing market conditions. These “art-form” influences must be considered in the order quantity decision.
Cancellation Dates Improves Your Control
Using purchase order cancellation dates is very important. Failure to do so gives the vendor implied permission to ship the merchandise when it is convenient for him to do so. The dealer’s failure to clearly specify the shipping window can negatively affect sales, margins and inventory carrying costs.
There is an appropriate time for goods to be on the shelf and a similar time to be out or low of that same product. If you do not specify a shipping window, then the vendor will first address all those orders that do demand a shipping and cancellation schedule and deal with the “open date” orders last.
Four Buying Decisions to Make
For each buying decision, there are four primary buying decisions to be made: What should be purchased, how much, when should it arrive and when the inventory should reach zero.
The “what to buy” is the easy part. “How much to order” is answered by both math and instinct, but mostly math. Here’s the formula:
- Project annual sales by month based upon historical data and external factors
- Select a target turn rate, for example, four inventory turns for the year (three months of supply)
- The monthly target ending inventory is equal to the next three months of planned sales, for example, the ending inventory for March will be the sum of the sales plan for April, May and June.
- For any given item, then, one can buy a quantity equal to:
- Your beginning inventory
- Plus what has already been received, if any, for the month
- Plus any goods scheduled to arrive for that month
- Minus any goods sold thus far in the month
- Minus forecasted sales for the balance of the month (monthly forecast – MTD sales)
- Minus your targeted ending inventory for the end of the month
- Equals how much you should order for any given item at any given time. Note, if this value is a negative number, you’re overbought by that amount.
This is classic open-to-buy (OTB) and can be computed in both units or dollars, and by SKU, class or department. Now factor in some of the less-mathematical factors such as vendor policies, their ability to deliver, merchandise scarcity, market trends and vendor advertising schedules.
Note that I did not mention the use of dating terms , as this applies only to the question of when inventory is paid for, not when it is received.
The open-to-buy math used to calculate order quantities (for both initial orders and reorders), once used consistently, will become second nature and easy to apply. If you follow these disciplines, you will achieve your turnover and margin objectives.
The “when” question is mostly common sense. A good rule of thumb is to take first deliveries no sooner than 45 days ahead of the start of the season. Schedule advanced deliveries per your OTB so that the inventory flows in versus arriving all at once, as with dating orders. This inventory flow, over the course of the season, provides the dealer with maximum flexibility and buying options.
The “when to be out” is also fairly simple. If the item is extremely seasonal and has little or no after-season appeal, then be out earlier rather than later. Items that sell all year, should, therefore, be stocked all year, but with on-hand quantities adjusted for the slower selling period.
The “what, when and how much” are all crucial elements of profitable buying. Be an informed and effective buyer; it’s good for the bottom line.
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About the Author
Robbie Brown has an extensive background in retailing, wholesaling, distribution service industries and consulting. He has been CEO of numerous companies in the shooting sports industry, including several retail chains and distribution companies. Brown consults for businesses of all sizes in both the merchandise and service industries, as well as for a variety of corporations, industry groups and trade associations. He is a frequent round-table moderator and speaker before industry trade shows, conventions and other corporate groups, and he has published more than 300 business-related articles in various trade magazines, delivered hundreds of speeches and served as a business advisor to many CEOs both inside and outside of the firearms industry.