If you are working hard at your store(s) and wondering “When am I finally going to get some decent cash out of this business?” then this article is for you. On the other hand, if you are reading this in the back of your limousine on your way to your vacation home in the south of France, then you probably don’t need to read this. (I bet there are a lot of cool ads and pictures in this issue, so you might want to check those out instead. Or, just look outside! You’re in the south of France!)
I am going to describe to you a process by which your retail store(s) can make money. Not just money that shows up on your income statements, but the money that shows up in your bank account. Good, hard, spendable cash. Sounds like fun, doesn’t it? I hope so. After all, retail is supposed to fun, remember?
This is not some obscure economic theory that can be used only by Brainiac scientists in white lab coats. My goal is to make it far simpler than that and make it something you can use immediately. The process I am about to describe is actively in use at every major chain store, department store and larger specialty store chain. Yet the concepts are completely applicable to independent retailers. In fact, many specialty stores and boutiques use this to ensure cash flow and profitability for their stores. You can do it, too.
It’s called Merchandise Planning/Open to buy. Now before you roll your eyes and think to yourself “I’ve heard it all before, it’s just budgets,” let me clarify a something. Merchandise Planning, when properly implemented and executed is not just a budget. When done well, it creates an integrated buying and merchandising system that ties together your marketing, customer service, point of sale (Counterpoint works nicely in a Merchandise Planning system), accounting, and operations and focuses all of them on one thing: great cash flow. Merchandise Planning is the process of developing a great sales forecast and combining it with a sales and inventory plan to create cash flow. Let’s break that down into its components so you can really understand and apply it to your business.
Merchandise Planning starts with a great sales forecast that breaks your business down into mini-businesses that each has its own demand curve. For example, the rate of sale blouses is way different than the rate of sale of t-shirts, tank tops, shirting, or denim. Counterpoint helps you break your business down into these mini-businesses, and each one deserves and requires its own forecast. Further, if you have multiple locations, each location should have its own forecast for each classification of merchandise.
Too often we hear about bad forecasting techniques. Lots of specialty retail stores plan their business by “buying what we sold last year” or “we expect to be up 6%.” These are not forecasts; they are stabbing in the dark and lead to lost sales, missed opportunities, and excess inventory. Great forecasts also are built from the bottom up, not from the top down. If you find yourself forecasting your business by saying, “we will be up 5% from last year” then you will make the mistake of generalizing all your mini-businesses into one number. That means you’ll miss sales in the classes that could grow, and you’ll have too much inventory in the classes that are declining. Both of those consume cash flow like an army of college kids at a pizza-eating contest. Over the top, but you get the idea.
Your business’s forecast should be broken out monthly and should be adjusted for seasonality. Your forecast should accurately represent the sales of winter clothing but should also identify when winter clothing stops selling and spring clothing takes over. Great forecasting does take into account what you sold last year, but that is not the most important factor. Forecasting must also take into account current trends, both inside your business and outside your business. Your Merchandise Planning forecasts should react properly when new trends emerge and enable you to take advantage of those trends by buying into them (or getting out of them if they are trending down) and squeezing out as much cash as you can.
We spend a great deal of time enhancing and focusing our sales forecasts. Good Merchandise Planning systems do that, because it is an important part of planning your inventory, and recently we have implemented lots of that Artificial Intelligence technology that you’re reading about. Bigger retailers have very expensive systems (read: they cost more than a million dollars) that do this for them. Independent retailers often hire companies that bring that technology to their stores, but those companies must invest in and deliver that technology to the specialty retail market. If your merchandise planner arrives with an Ouija board and a Magic 8 Ball, you might want to look for someone new.
Once you have a great forecast in place, it should be easy to buy, right? If I know I’ll sell $1,000 of shoes in January, I just need to have $1,000 of shoes on the floor, right? Sorry, it doesn’t work that way. You need to put a sufficient level of inventory on the floor so that you present an appealing assortment from which to choose.(Psst. This is exactly where stores lose a ton of money. Read carefully so you aren’t one of them.)
Knowing how much inventory to put on the sales floor to achieve your sales forecast is the key to making money in retail. If you put too little inventory there, you’ll miss sales. Put too much, and you’ll have to take big markdowns to sell through the merchandise, which eats up all your profits.
So how do you know? You apply something called a stock-to-sales ratio, which is defined as the number of units you need to have on hand to sell one unit. For example, if your scarves department is operating on a three stock-to-sales ratio, that means you have to have three scarves on hand for every scarf you sell.
So once you have your sales forecast, you then determine the proper stock-to-sales ratio. That will tell you how much inventory you need to have on hand, without overbuying, to meet your sales forecast with maximum profitability. Just like forecasting, there should be a different stock-to-sales ratio for each mini-business, for each location. By determining how much inventory you need to have on hand, you will know how much you need to buy, month after month, to achieve the best level of inventory for your business.
If you do this, mini-business by mini-business, location by location, and diligently follow that plan (adjusting where necessary), you will have cash. Businesses that we work with that follow the plan have cash. Businesses that don’t follow the plan run out of cash and eventually fail. It is that dramatic a difference.
Is that it? Really? Mostly, yes. Of course, there are lots of nuances to this, such as achieving the proper profit margins, planning your markdowns, and ensuring that your inventory is fresh and new. The Merchandise Plan should become the centerpiece of evaluating your business. If you are on plan then you should be achieving cash flow. If you aren’t, figure out where you’re not adhering the plan, and adjust your business accordingly.
In large retail operations, the planners are in a separate department from the buyers. It is rare that a buyer is also a planner. I am not sure why that is. I think it’s sort of like letting the fox guard the henhouse, in that the planner should be challenging the buyer to do more, to achieve more sales, more profitability, and more growth.
In an independent retail store, it can fall to the same person, but better retailers realize that the most objective planning will get them the highest profits. That is why there are external open-to-buy planning companies (like mine) for specialty retail. The good ones bring a vast array of outside knowledge and expertise that helps customers grow their businesses.
Most importantly (and a key tenet in what we do), it should be fun. We always try to make planning a fun and enjoyable part of the business. Further, it should inspire you. It should give you focus, direction, and excitement for what you do. If all that happens, then you’ll have cash flow, and you’ll be as happy and giggly as the customers who walk through your door.
About the Author:
Dan Jablons, President of Retail Smart Guys (www.retailsmartguys.com) worked in retail while attending the Ohio State University, where he graduated with a B.S. in marketing and production. He has worked with retailers such as Walmart, Target, JC Penney, American Apparel, Betsey Johnson, Donna Karan, Jimmy Choo, Charles David, Diesel, Oakley, Tumi, Hollywood Bowl, and many others. As a consultant for Retail Smart Guys, Dan brings many years of retail experience to stores of any size to improve their operations, revitalize their marketing, and maximize their profits. For more information, email Dan at firstname.lastname@example.org or call 818-720-2585.