MKTG 1058: DISTRIBUTION CHANNELS

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Distribution Channels MKTG 1058 LECTURE SEVEN Merchandise Buying & Handling
(Dunne Chapter Nine)
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Learning Objectives for Chapter 9 (Dunne):

Explain the differences between the four

methods of dollar merchandise planning used to determine the proper stock levels needed to begin a merchandise selling period.

Explain how retailers use dollar merchandise

control and describe how open-to-buy is used in the retail buying process.

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Learning Objectives for Chapter 9 (Dunne):

Describe how a retailer determines the makeup of its
inventory.

Describe how a retailer selects proper merchandise

sources.

Describe what is involved in the vendor-buyer

negotiation process and what terms of the contract can be negotiated.

Discuss the various methods of handling the

merchandise once it is received in the store in order to control shrinkage, including vendor collision and theft.

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Retailing Truism

If a retailer doesnt have the merchandise, there is nothing to promote and sell.

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Chapters 8 and 9 (compared):

The previous lecture was on merchandise budget This chapter covers the buying process and how to ensure there is a right mix Some exam questions may use the terms merchandise makeup sometimes known as mix Dont confuse the word makeup with mark-up Read the questions carefully!

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Dollar Merchandise Planning

Merchandise Management is the

analysis, planning, acquisition, handling, and control of the merchandise investments of a retail operation. right quantity of the right merchandise in the right place at the right time and meets the companys financial goals. (Levy)

Process by which a retailer offers the

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Dollar Merchandise Planning

Gross Margin Return on Inventory (GMROI) is gross

margin divided by average inventory at cost; alternatively it is the gross margin percent multiplied by (net sales divided by average inventory investment). GMROI can be comupted as follows: (Gross margin/Net sales) X (Net sales/Average inventory at cost) = (Gross margin/Average inventory at cost) A very important ratio to note- read the text carefully on this and the implications of a changing GMROI (note I is NOT investment but inventory)

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GMROI
Inventory Productivity Measures

GMROI = Gross Margin Percent x sales to stock ratio = gross margin net sales = x net sales avg inventory at cost

gross margin avg inventory at cost

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ROI and GMROI Asset Productivity Measures

Strategic Corporate Level Return on Assets = Net Profit Total Assets Merchandise Management Level GROI = Gross Margin Average Inventory

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Illustration of GMROI

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GMROI for Selected Department in Discount Stores

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Calculating Inventory Turnover

Inventory turnover = Inventory turnover = Net Sales Average inventory at retail Cost of goods sold Average inventory at cost Month1 + Month2 + Month 3 + Number of months

Average inventory =

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Inventory Turnover
Month Retail Value of Inventory EOM January $22,000 EOM February 33,000 EOM March 38,000 Total Inventory $93,000 Average inventory = $93,000 3 = $31,000

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Inventory Turnover and Stock-to-Sale Ratio

Inventory turnover = Net Sales Average inventory at retail Cost of goods sold Average inventory at cost Net Sales Average cost of

Inventory turnover =

Sock-to-Sales Ratio = inventory

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Advantages of Rapid Turnover

Increased sales volume Less risk of obsolescence and markdowns Improved salesperson morale More resources to take advantage of new buying opportunities

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Approaches for Improving Inventory Turnover Reduce number of categories Reduce number of SKUs within a category Reduce number of items in a SKU BUT if a customer cant find their size or color or brand, patronage and sales decrease! another approach
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another approach
To improve inventory turnover Buy merchandise more often Buy in smaller quantities which should reduce average inventory without reducing sales BUT by buying smaller quantities Buyers cant take advantage of quantity discounts so Gross margin decreases Operating expenses increase Buyers need to spend more time placing orders and monitoring deliveries
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Dollar Merchandise Planning

Basic Stock Method Weeks Supply Method

Percentage Variation Method Stock-toSale Method

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Dollar Merchandise Planning

Basic Stock Method (BSM) is a technique for

planning dollar inventory investments and allows for a base stock level plus a variable amount of inventory that will increase or decrease at the beginning of each sales period in the same dollar amount as the periods expected sales.

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Dollar Merchandise Planning

The BSM can be calculated as follows:

Average monthly sales for the season = Total planned

sales for the season/Number of months in the season

Average stock for the season = Total planned sales for

the season/Estimated inventory turnover rate for the season

Basic stock = Average stock for the season Average

monthly sales for the season

Beginning-of-Month (BOM) = Basic stock + Planned

monthly sales

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Dollar Merchandise Planning Percentage variation method (PVM): Is a technique for planning dollar inventory investments that assumes that the percentage fluctuations in monthly stock from average stock should be half as great as the percentage fluctuations in monthly sales from average sales.

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Dollar Merchandise Planning The (PVM) can be calculated as follows: BOM stock = Average stock for season X [1 + (Planned sales for the month/Average monthly sales)]

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Dollar Merchandise Planning Weeks supply method (WSM): Is a technique for planning dollar inventory investments that states that the inventory level should be set equal to a predetermined number of weeks supply, which is directly related to the desired rate of stock turnover.

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Dollar Merchandise Planning

The WSM can be calculated as follows:

Number of weeks to be stocked = Number of weeks in

the period/Stock turnover rate for the period

Average weekly sales = Estimated total sales for the

period/Number of weeks in the period

BOM stock = Average weekly sales X Number of weeks

to be stocked

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Dollar Merchandise Planning Stock-to-sales method (SSM): Is a technique for planning dollar inventory investments where the amount of inventory planned for the beginning of the month is a ratio (obtained from trade associations or the retailers historical records) of stock-to-sales.

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Dollar Merchandise Planning

The SSM can be computed as follows: Average BOM stock-to-sales ratio for the season = Number of months in the season/Desired inventory turnover rate

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Exercises from the Text (Merchandise Buying)

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Solutions to end of chapter questions

Chapter Nine: Merchandise Buying and Handling

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2. The Corner Hardware Store is attempting to develop a merchandise budget for the next 12 months. To assist in this process, the following data have been developed. The target inventory turnover is 4.8 and forecast sales are: Month Forecast Sales 1 $27,000 2 26,000 3 20,000 4 34,000 5 41,000 Total sales= $ 6 40,000 7 28,000 8 27,000 9 38,000 10 39,000 11 26,000 12 28,000 Develop a monthly merchandise budget using the basic stock method (BSM) and the percentage variation method (PVM).

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SOLUTION: Using the basic stock method we should plan the following inventory levels: Planned Inventory Month 1 $27,000 + [(374,000/4.8)-(374,000/12)] $27,000 + 46,750 = $73,750 2 $26,000 + 46,750 = $72,750 3 $20,000 + 46,750 = $66,750 4 $34,000 + 46,750 = $80,750 5 $41,000 + 46,750 = $128,750 6 $40,000 + 46,750 = $88,750 7 $28,000 + 46,750 = $74,750 8 $27,000 + 46,750 = $73,750 9 $38,000 + 46,750 = $84,750 10 $39,000 + 46,750 = $85,750 11 $26,000 + 46,750 = $72,750 12 $28,000 + 46,750 = $74,750

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Using the percentage variation method we should plan the following inventory levels: Month 1 2 3 4 5 6 7 8 9 10 11 12 Inventory Planned 1/2 (374,000/4.8)(1+27,000/(374,000/12)) .5(77,916.67)(1+.87) = $72,708 .5(77,916.67)(1+.83) = $71,458 .5(77,916.67)(1+.64) = $63,958 .5(77,916.67)(1+1.09) = $81,458 .5(77,916.67)(1+1.32) = $90,208 .5(77,916.67)(1+1.28) = $88,958 .5(77,916.67)(1+.90) = $73,958 .5(77,916.67)(1+.87) = $72,708 .5(77,916.67)(1+1.22) = $86,458 .5(77,916.67)(1+1.25) = $87,708 .5(77,916.67)(1+.83) = $71,458 .5(77,916.67)(1+.90) = $73,958

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Planning Your Own Retail Business: Alexia White is in the process of developing the merchandise budget for the gift shop she is opening next year. She has decided to use the basic stock method of merchandise budgeting. Planned sales for the first half of next year are $200,000, and this is divided as follows: February = 9 percent, March = 10 percent, April = 15 percent, May = 21 percent, June = 22 percent, and July = 23 percent. Planned total retail reductions are 9 percent for February and March, 4 percent for April and May, and 12 percent for June and July. The planned initial markup percentage is 48 percent. Alexia desires the rate of inventory turnover for the season to be two times. Also, she wants to begin the second half of the year with $90,000 in inventory at retail prices. Develop a six-month merchandise budget for Alexia.

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Suggested Answer: After determining planned sales for each month, the BOM inventory level for each month using the basic stock method is computed as follows: Average monthly sales for the season = Total planned sales/Number of months = $200,000/6 = $33,333 Total planned sales/Inventory turnover = $200,000/2 = $100,000 Basic stock = Average stock - Average monthly sale = $100,000 - $33,333 = $66,667

Average stock for the = season

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BOM @ retail (Feb.) = Basic stock + Planned monthly sales = $66,667 + $18,000 = $84,667 BOM @ retail (Mar.) = $66,667 + $20,000 = $86,667 This set of BOM @ retail (Apr.) = $66,667 + $30,000 = $96,667 figures will be inserted into BOM @ retail (May) = $66,667 + $42,000 = $108,667 Row #1 of the BOM @ retail (Jun.) = $66,667 + $44,000 = $110,667 Merchandise BOM @ retail (Jul.) = $66,667 + $46,000 = $112,667
Budget

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SIX-MONTH PROBLEM Six-Month Date: December 14 Merchandise Season: Summer Budget Spring/Summer 1.Planned BOM Stock 2.Planned Sales 3.Planned Retail Reductions 4.Planned EOM Stock Feb 84,667 18,000 1,620 March 86,667 20,000 1,800 April May June July 112,667 46,000 5,520 Seasonal Total 96,667 108,667 110,667 30,000 1,200 42,000 1,680 44,000 5,280 ______ 200,000 17,100

86,667

96,667 108,667 110,667 112,667

90,000

______

18,000= 200000 x 9% 1620 = 18000 x 9% (contd)

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5.Planned Purchases @ Retail 6.Planned Purchases @ Cost 7.Planned Initial Markup 8.Planned Gross Margin

21,620

31,800

43,200

45,680

51,280

28,853

222,433

11,242

16,536

22,264

23,754

26,666

15,004

115,666

10,378

15,264

20,736

21,926

24,614

13,849

106767

8,758

13,464

19,536

20,246

19,334

8,329

89,667

Refer back to Lecture Six to find out how to get these figures

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(Planned Sales for the Month ) + (Planned Retail Reductions for the Month) + (Planned EOM Stock for the Month) - (Planned BOM Stock for the Month) = (Planned Purchases at Retail for the Month)
(Planned Purchases at Retail for the Month )

X (100% Planned Initial Markup Percentage)

= (Planned Purchases at Cost for the Month)
(Planned Purchases at Retail for the Month ) X (Planned Initial Markup Percentage) = (Planned Initial Markup for the Month) OR (Planned Purchases at Retail for the Month) (Planned Purchases at Cost for the Month) = (Planned Initial Markup for the Month)

(Planned Initial Markup for the Month) (Planned retail Reductions for the Month) = (Planned Gross Margin for the Month)

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Dollar Merchandise Control

Open-to-buy (OTB) refers to the dollar amount that a buyer can currently spend on merchandise without exceeding the planned dollar stock. Computations for OTB are as follows: Planned sales for month + Planned reductions for month + End-of-Month (EOM) planned retail stock Beginning-of-Month (BOM) stock = Planned purchases at retail Planned purchases at retail Commitments at retail for current delivery = Open-to-Buy (OTB)

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Dollar Merchandise Control: Common Buying Errors

Buying merchandise that is either priced too high or too low for
the stores target market.

Buying the wrong type of merchandise (i.e., too many tops and no
skirts) or buying merchandise that is too trendy.

Having too much or too little basic stock on hand. Buying from too many vendors. Failing to identify the seasons hot items early enough in the
season.

Failing to let the vendor assist the buyer by adding new items
and/or new colors to the mix. (All too often, the original order is merely repeated, resulting in a limited selection.)

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Merchandise Planning
Merchandise planning is a dynamic process subject to many changes. Consider the implications that could arise in planning your stock levels as a result of:

sales for the previous month being lower or higher than planned reductions being either higher or lower than planned shipments of merchandise being delayed in transit. Understanding the consequences of each of these situations points out the interrelationship of merchandising activities with the merchandise budget.

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Dimensions of and Constraints on Optimal Merchandising Mix Exhibit 9.1

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Inventory Planning

Optimal Merchandise Mix Constraining Factors Managing the Inventory Conflicts in Unit Stock Planning

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Optimal Merchandise Mix

Merchandise Line is a group of products that

are closely related because they are intended for the same end use (all televisions); are sold to the same customer group (junior miss clothing); or fall within a given price range (budget womens wear).

Category Management refers to the

management of merchandise categories, or lines, rather than individual products, as strategic business unit.

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Optimal Merchandise Mix- 3 Dimensions

Variety refers to the number of different merchandise
lines that the retail stocks in the store.

Breadth (or assortment) is the number of merchandise

brands that are found in a merchandise line.

Battle of the Brands occurs when retailers have

their own products competing with the manufacturers products for shelf space and control over display location.

Depth is the average number of stock-keeping units

within each brand of the merchandise line.

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Battle of the Brands

Private branding in retailing is creating a situation in which many third-tier brands are beginning to be squeezed out of the market, thus leaving only the leading national brand and the retailers private label brand. Here Albertsons (the name of the supermarket) has strategically located its private brand to the right of the national brand (Kelloggs)

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Constraining Factors

Dollar Merchandise Constraints Space Constraints Merchandise Turnover Constrains Market Constraints

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Constraining Factors

Dollar merchandise constraint: There seldom will be enough dollars to emphasize all three dimensions of variety, breadth, and depth. Space constraint: If depth or breadth is wanted, space is needed. If variety is to be stressed, enough empty space is needed to separate the distinct merchandise lines. Merchandise turnover constraint: As the depth of the merchandise increases, more and more variations of the product must be stocked to serve smaller segments. Market constraints: The above three dimensions have a profound effect on how the market perceives the store, and consequently on the customers the store will attract.

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Question to Ponder

How can retailers overcome these constraints to provide greater value, especially in comparison to their competition, for the consumer?

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Next stage- Inventory Planning

After deciding the relative emphasis to be placed on the three dimensions of the merchandise mix, the retailer needs to decide when to order and reorder the desired merchandise line items. 1. Ideally, a retailer would receive the reordered merchandise just as it is needed. 2. When selling a seasonal item, the retailer would want to be completely sold out of the item at the planned out-of-stock date. 3. The retailer tries to achieve the optimization of its inventory dollars by closely monitoring its inventory using UPC or barcode data.

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The concept of tradeoff in inventory planning

Lost Sale Due to Stockout Cost of Carrying Inventory

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Managing the Inventory

Model Stock Plan is a unit stock plan that shows the precise items and quantities that should be on hand for each merchandise line.

Identify attributes Identify levels Allocate Dollars or Units

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Inventory Management for a Retailer Selling a Basic Stock Item Exhibit 9.2

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Staple Merchandise Planning

Staple merchandise planning systems provide information needed to assist buyers by performing three functions: Monitoring and measuring current sales for items at the SKU level Forecasting future SKU demand with allowances made for seasonal variations and changes in trend Developing ordering decision rules for optimum restocking
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Cycle and Backup Stock

150 Units Available

Order 96 Cycle Stock

100 Buffer Stock

50 -

01 2 Weeks 3 4

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Inventory Management for a Retailer Selling a Seasonal Item Exhibit 9.3

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Factors Determining Backup Stock

Level of backup depends on product availability retailer wishes to provide The greater the fluctuation in demand, the more backup stock is needed The amount of backup stock needed is also affected by the lead time from the vendor Fluctuations in lead time affect the amount of backup stock Vendors product availability affects retailers backup stock requirements
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Variations in the Category Life Cycle

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Conflicts in Stock Planning

Maintain a strong in-stock position on genuinely new

items while trying to avoid the 90 percent of new products that fail in the introductory stage. Maintain an adequate stock of the basic popular items while having sufficient inventory dollars to capitalize on unforeseen opportunities. Maintain high merchandise turnover while maintaining high margin goals. Maintain adequate selection for customers while not confusing them. Maintain space productivity and utilization while not congesting the store.
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Selection of Merchandising Sources

In selecting merchandising sources the following criteria should be considered:

Selling history Consumers perception of the manufacturers reputation Reliability of delivery Trade terms Projected markup Quality of Merchandise

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Selection of Merchandising Sources

Criteria (contd)

After sale service Transportation time Distribution center processing time Inventory carrying cost Country of Origin Fashionability Net-landed cost

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Retailers using private label brands

Retailers that use private label brands have found that private branding

increases as the perceived consequences of making a buying mistake decrease, increases when the different brands in the category are perceived to vary more in their quality, and decreases if the category benefits are deemed to require actual trial/experience instead of being assessable through search of package label information

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Selection of Merchandising Sources

Vendor Profitability Analysis Statement is a

tool used to evaluate vendors and shows all purchases made the prior year, the discount granted, the transportation charges paid, the original markup, markdowns, and finally the season-ending gross margin on that vendors merchandise.

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Two-Seasons Vendor Profitability Analysis

Exhibit 9.4

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Selection of Merchandising Sources

Confidential vendor analysis: Is identical to the vendor profitability analysis but also provides a three-year financial summary as well as the names, titles, and negotiating points of all the vendors sales staff.

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Confidential Vendor Analysis

Exhibit 9.5 - Sample

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Selection of Merchandising Sources

Based on the information gathered from the two reports, retailers can then categorize vendors as falling into the following categories: Class A Vendors are those from whom the retailer purchases
large and profitable amounts of merchandise. profits for the retailer.

Class B Vendors are those that generate satisfactory sales and Class C Vendors are those that carry outstanding merchandise
lines but do not currently sell to the retailer.

Class D Vendors are those from whom the retailer purchases

small quantities of goods on an irregular basis. unfavorable experience.

Class E Vendors are those with whom the retailer has had an

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Multi-attribute Method for Evaluating Vendors

The multiattribute method for evaluating vendors uses a weighted average score for each vendor. The score is based on the importance of various issues and the vendors performance on those issues.

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Multiattribute Method for Evaluating Vendors

Performance Evaluation of Individual Brands Across Issues
Importance Evaluation of Issues (I) (2) 9 8 6 5 5 6 7 3 4
j ij
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Issues

Brand A Brand B Brand C Brand D (Pa) (Pb) (Pc) (Pd) (3) 5 6 5 5 5 5 6 5 5 290 (4) 9 6 7 4 4 3 6 5 3 298 (5) 4 4 4 6 4 3 3 5 4 212 (6) 8 6 4 5 5 8 8 5 7 341

(1) Vendor reputation Service Meets delivery dates Merchandise quality Markup opportunity Country of origin Product fashionability Selling history Promotional assistance n Overall evaluation =
i 1

I *P

Evaluating a Vendor: A Weighted Average Approach

I j * P ij

= Sum of the expression

i1

Ij

= Importance weight assigned to the ith dimension = Performance evaluation for jth brand alternative on the jth issue = Not important

Pi
1 10

= Very important
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Evaluating Vendors
A buyer can evaluate vendors by using the following five steps: Develop a list of issues to consider in the evaluation (column 1) Importance weights for each issue in column 1 are determined by the buyer/planner in conjunction with the GMM (column 2) Make judgments about each individual brands performance on each issue (the remaining columns) Develop an overall score by multiplying the importance for each issue the performance for each brand or its vendor
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Selection of Merchandising Sources: Key Questions

Where does this product fit into the strategic

position that I have staked out for my department?

Will I have an exclusive with this product or

will I be in competition with nearby retailers?

What is the estimated demand for this product

in my target market?

What is my anticipated gross margin for this

product?
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Selection of Merchandising Sources: Key Questions

Will I be able to obtain reliable, speedy stock

replacement?

Can this product stand on its own, or is it

merely a me-too item?

What is my expected turnover rate with this

product?

Does this product complement the rest of my

inventory?

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Vendor Negotiations

Negotiation
is the process of finding mutually satisfying solutions when the retail buyer and vendor have conflicting objectives.

The retailer must negotiate price, delivery

dates, discounts, shipping terms, and return privileges.

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Vendor Negotiations- Price Factor

Trade Discount Quantity Discount Promotional Discount Seasonal Discount Cash Discount Delivery Terms
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Trade Discount
Trade Discount is also referred to as a functional

discount and is a form of compensation that the buyer may receive for performing certain wholesaling or retailing services for the manufacturer. Often expresses in a chain, or series, such as list less 40-20-10. The computations would look like this:
$1,000 - 400 600 - 120 480 - 48 $432

List price Less 40% Less 20% Less 10% Purchase price

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Quantity Discount

Quantity Discount is a price reduction offered

as an inducement to purchase large quantities of merchandise.

Non-Cumulative Quantity Discount is a

discount based on a single purchase.

Cumulative Quantity Discount is a discount

based on the total amount purchased over a period of time.

Free Merchandise is a discount whereby

merchandise is offered in lieu of price concessions.
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Quantity Discount
For an example of how a quantity discount works,
consider the following schedule: Order Quantity 1 to 999 1,000 to 9,999 10,000 to 24,999 25,000 to 49,999 Discount from List Price 0% 5% 8% 10%

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Promotional Discount

Promotional Discount is a discount

provided for the retailer performing an advertising or promotional service for the manufacturer.

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Seasonal Discount

Seasonal Discount is a discount

provided to retailers if they purchase and take delivery of merchandise in the off season.

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Cash Discount Cash Discount is a discount offered to the retailer for the prompt payment of bills.

End-of-Month (EOM) Dating allows the retailer

to take a cash discount and the full payment period to begin on the first day of the following month instead of on the invoice date.

Middle-of-Month (MOM) Dating allows the

retailer to take a cash discount and the full payment period to begin on the middle of the month.
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Cash Discount

Receipt of Goods (ROG) Dating allows the

retailer to take a cash discount and the full payment period to begin when the goods are received by the retailer.

Extra Dating (Ex) allows the retailer extra or

interest-free days before the period of payment begins.

Anticipation allows the retailer to pay the

invoice in advance of the end of the cash discount period and earn an extra discount.
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Delivery Terms
Free on Board (FOB) Factory is a method of charging
for transportation where the buyer assumes title to the goods at the factory and pays al transportation costs from the vendors factory.

Free on Board (FOB) Shipping Point is a method of

charging for transportation in which the vendor pays for transportation to a local shipping point where the buyer assumes title and then pays all further transportation costs.

Free on Board (FOB) Destination is a method of

charging for transportation in which the vendor pays for all transportation costs and the buyer takes title on delivery.
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In-Store Merchandise Handling

Shrinkage is the loss of merchandise due to theft, loss,
damage, or bookkeeping errors.

Vendor collusion occurs when an employee of one of

the retailers vendors steals merchandise as it is delivered to the retailer.

Employee theft occurs when employees of the retailer

steal merchandise where they work.

Customer theft is also know as shoplifting and occurs

when customers or individuals disguised as customers steal merchandise from the retailers store.

Hijacking theft of merchandise while in transit.

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5 of the 50 Tricks for Bartenders

Exhibit 9.6 - Sample

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Past Year Examination Questions

Note: in October 2008, the entire set of compulsory questions tested in Section B was on the topic of Merchandise Buying- Chapter 9. However in order to answer these questions, you also needed to fully understand the techniques of Merchandise Budget found in Chapter 8. This demonstrates why it is important to have wide coverage of reading and practice as exam questions can cover two or more chapters on a combined question.
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October 2008- Section B (12 marks for this question)

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October 2008- Section B (12 marks for this question)

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October 2008- Section B (12 marks for this question)

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October 2008- Section B (12 marks for this question)

Note: this question covers the topic from Chapter Eight

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