We’ve only just entered the second half of the year and people haven’t even taken their summer vacations yet, so why are we talking about holiday supply chains now?
Last year, retailers started encouraging holiday shoppers to shop early. As a result, the holiday season got front loaded sometime in September. Given the challenges we’ve had since, I’m gearing up for my holiday shopping to start in July. I am only saying this in half jest.
With our supply chains clogged and retail inventories piling up, we have a situation wherein the huge imbalances between demand and supply at the product mix level can have an adverse impact on product availability for B2B and B2C companies alike, especially as we start heading to the holiday season.
You might be thinking, “Well, but what about growing retail inventories? Shouldn’t this alleviate the pressure on holiday supply chains?”
Not really. Here is the current state:
- Misplaced deliveries misaligned the product mix. While inventories have started piling up, having the right product mix is where the challenge lies, resulting in a feast or famine situation. The retail inventory to sales ratios have trended up in the recent past, with these ratios standing at 1.18 as of April 2022 compared with a low of 1.09 in October 2021. While both these numbers are lower relative to pre-pandemic historic norms of 1.4 to 1.5, the ratio has clearly been going up. The inventory to sales ratio is calculated as the ratio of the end of month inventory value to the monthly sales. A ratio of 1.5 indicates that there is enough inventory to support sales for the next one and half months. With snarled supply chains, 2021 holiday shipments (sweaters, holiday decorations and such) arrived late in many cases and have contributed to a degree to this inventory build up. These delayed shipments have benefited off-price retailers where branded merchandise gets sold at deep discounts. However, consumers picking this winter / holiday merchandise at a deep discount will dampen the demand for the upcoming winter and holiday season, at least in the categories strongly influenced by this seasonality. Retailers are already cutting orders in anticipation of reduced demand. However, it is very hard to get the mix right with quite a few factors at play that we will touch on below.
- Longer lead times make fashion items not so fashionable. While basic clothing items have a more predictable demand stream, fashion merchandise needs to be planned months in advance for a season that lasts for a very short duration. It still takes over 100 days to move a container from Asia to a U.S. destination through the west coast, up from fewer than 50 days two years ago. With lead times being as unpredictable as they are right now, retailers have to order these fashion items even further ahead (by a month or two), making forecasting rapidly shifting fashions even more challenging. This results in further misalignment within the product mix to what shoppers will be looking for, resulting in increased markdown activity.
- Customer spending patterns are changing with hyperinflation. There is only so much retailers can do to absorb higher costs. At the beginning of June 2022, a 40-foot ocean container cost about $10,000 to ship from southeast Asia to Northern Europe This is compared to about $1,500 for the same route about 2 years ago. This means transportation costs account for up to 8% of the sale price of a pair of shoes, as compared to 1% just three years ago. Consumers now are tightening belts as well as shifting their focus to experiential spending such as travel and entertainment with more facilities and countries alike relaxing their entry/exit requirements related to COVID testing. All this will further throw the demand mix outside of the historical norms.
The crux of what we are faced with right now is that of the persistent supply chain problems consisting of transportation capacity shortages, labor shortages, material shortages, and rapidly changing customer demands as lockdowns end and mobility improves. The supply side problems manifest in the form of extended and unpredictable lead times and demand side shifts will throw the mix out of balance. Now this begs the question of how retailers should prepare for the 2022 holiday season. Here are some recommendations:
- It is the variability in the lead times you should pay attention to, more so than the lead time itself. Retailers have been used to long lead times over the last two decades, especially for the categories they source from Asia. However, it is the variability and unpredictability around the lead time that is the real challenge. The multitude of planning and decision support systems that retailers have implemented are not built to sustain current levels of variability. This calls for the use of newer generation probabilistic models, simulations, scenario planning, and optimization technologies. However, rather than a massive rip and replace, organizations should consider augmenting current investments with these new generation technologies.
- Enable end-to-end decision making to maximize product availability: While retailers have invested quite a lot over the years into systems spanning merchandise planning, transportation management, warehouse management, distributed order management and so on, a lot of the information is still very siloed. The silos get in the way of driving faster decision making as a lot of time is spent on piecing together information manually, using excel spreadsheets. This results in inefficiencies and constant firefighting with limited visibility. For example, while there may be enough inventory in the system, ensuring right placement of the inventory at the point of sale requires inbound logistics capacity, warehouse placement, distribution capacity, and store level deliveries all coming together in a fully connected and synchronized manner. Designing and planning a supply chain and driving decisions with these end-to-end considerations is absolutely foundational to ensure on-shelf and on-line availability.
- Understand your cost-to-serve, then optimize it. In a hyper inflationary environment, cost savings become a high priority. With elevated lead times forcing retailers to ‘guess’ on the best assortment months in advance compared to how they planned sourcing traditionally, retailers often end up having to mark down a significant amount of products. As a result of this, combined with elevated ocean carrier spend, nearshoring becomes an increasingly viable option, at least for a select category of products. However, most retailers struggle to piece together an accurate view of their cost-to-serve baseline to assess such nearshoring scenarios. New generation supply chain technologies can help you collate the necessary data and add context to it, giving a connected end-to-end view of your supply chain and the associated cost buildup. Once the baseline is formed, it allows you to optimize and evaluate a variety of options to balance cost with service. You will need to account for returns and reverse logistics as well as part of the overall costs.
- Factor in unified experience to the customer throughout the supply chain. I still see retailers asking their shoppers to download two separate apps, one for online shopping and one for brick and mortar. While the first step is to provide unification in customer-facing applications, the backend of the supply chain connecting the stores to the distribution network remains highly fragmented for most retailers. Without leveraging the network holistically and employing postponement strategies, retailers will miss out on an opportunity to truly balance cost, service, and customer experience. When designing the delivery routes to market, and planning for the inventory carrying capacities in stores and distribution centers, you should look at the network holistically and consider the balance of the above objectives.
- Employ dynamic pricing to shape and shift demand. Pricing is one key lever retailers can use to influence the demand signal. However, having a pulse on the demand signal, then testing it for price sensitivity is a must as retailers grapple with rapidly shifting demand patterns. Aforementioned cost-to-serve, when used in conjunction with dynamic pricing, can preserve profitability while ensuring proper movement of the inventory.
All in all, retailers must brace for perhaps one of the most challenging holiday seasons. The aforementioned points can help them be better prepared.
Dr. Madhav Durbha is the Vice President of Supply Chain Strategy Coupa Software, where his team helps customers and prospects solve various supply chain challenges. Prior to Coupa, Dr. Durbha held positions at LLamasoft, Kinaxis, JDA Software and i2 Technologies, Inc. With more than 20 years in the supply chain industry, Dr. Durbha has broad experience in strategy & process consulting, supply chain software, program management, software application development & deployment, machine learning and data science. He received his Ph.D. in chemical engineering from the University of Florida and his bachelor’s degree in chemical engineering from the Indian Institute of Technology at Madras.