How to reset retail inventory for a high interest rate environment

By Richard Haigh

For a retail inventory strategist like me, the COVID years were a wild ride into a parallel universe.

Having spent over two decades perfecting the just-in-time supply chain, I witnessed retailers doing an abrupt about face and indulge in unprecedented stock buffering. As geopolitics shook already unstable supply chains and consumers developed a hair-trigger sensitivity to empty shelves, retailers began to accept inventory gluts that would have previously been unthinkable.

?Just-in-time had been replaced by just-in-case.

At the same time, retailers were often keen to support small local producers (and keen to mop up their share of the disposable income in locked-down communities) and started adding more products to meet local customer preferences. As a result inventories and sku counts began to grow further.

None of these pandemic responses were ill-advised. But they left retailers with an ugly problem. Bloated portfolios, slow inventory turnover and over-stocked warehouses can be managed if consumer demand is sky-rocketing and the cost of capital is low. But when interest rates go up, disposable income disappears and demand tapers off, inventory stock days increase and working capital blows out.

With many retailers needing to repurpose working capital to fund other business transformation and other key business investments, the timing of this unfortunate situation could not be worse.

There are no quick fixes when it comes to resetting inventory, so retailers need to start working this problem now. Here’s what I recommend:

Reduce your inventories

First, decide how to get rid of products that shouldn’t be sitting on shelves. Will you mark them down, promote them, return them or sell them off in the market? Second, stop putting stock into your network. Check reorder points and reset your KPIs. How much safety stock do you really need in this environment? Can you wait another two weeks before placing that order?

The tricky part is getting out of stock without killing your trading margins. Generally, it’s a matter of time. It can take two years to get your inventory balance down to a sensible level without impacting profitability. As a work-around, consider moving to vendor-managed inventory or changing INCO Terms for imported products.

Develop a clear inventory operating model

Often, inventory is everyone’s problem and nobody’s problem. But someone has to own inventory – or it won’t be managed well. People will have lots of nice conversations, but the hard decisions won’t get made. Designing and implementing a clearly thought through inventory operating model (including clear responsibilities and KPI’s) is key. Often retailers think that the best owner of inventory is merchandising, which holds all the levers: it owns the product relationships, sets category strategies, selects assortments, recommends store distribution, and stands up pricing and promotional programs. However, the reality is more nuanced and requires a more thorough approach to get right.

Let replenishment do its job

Replenishment is a critical core capability for retailers and needs to be treated as such. If stores are able to over-ride reorder points or place manual orders based on gut feel, it’s very difficult for replenishment to do its job properly. If you put inventory management into the hands of a retail store, your inventory will keep going up – even as demand falls away. ?Let your inventory systems do their jobs, and when you need stores inputs, set effective guardrails within the process design to minimise risk.

Fix your inventory prior to transforming your business

Taking millions out of inventories is an urgent matter for retailers. And not just because these funds will help to pay for transformation and other projects. If you need to make operational changes to get working capital down to sensible levels, you have to do this before you transform. Overwise, the same inventory issues created during COVID will be baked into your beautiful new system, decimating the value it delivers.

Keen to read other similar themed articles? In the world of retail transformation, technology often steals the spotlight. Yet the real game-changer isn't the ERP systems themselves - it's leadership.Read my colleague, @Steve Bingham’s blog to explore a cautionary tale of how a lack of leadership engagement can derail even the most advanced tech implementations and learn how to ensure your organisation doesn't fall into the same trap: How retail leaders should engage with transformation. To unlock the four crucial factors every industry leader should know about when embarking on a successful SAP S/4HANA transformation, read the latest blog by EY Leader @Sebastian Moore: 4 get rights as you embark on a journey to SAP S/4HANA | LinkedIn.