By Steve Lewis and Jessica De Sousa
Australian retailers are risking more than the loss of a single sale by not having the right product, brand or size in store when the customer wants it. The implications to consider are losing customer loyalty as customers look elsewhere and become familiar with new channels or competitors.
We have all been to a store only to find they are out of stock, have replaced the brand we prefer with another, or don’t have the item in our size. What we do then depends on many factors, but with ever-growing service expectations and an increasing number of alternative suppliers, it is becoming easier for us to go elsewhere. So what does a store really lose when a customer can’t get what they want?
The first time a product is out of stock , customers will substitute product 70% of the time. By the third time, they are 70% more likely to go to a competitor¹.
79% of customers are willing go to another store of the same retailer. If still out of stock, 72% will switch to a competitor².
Once lost, 80% of customers will not return. Of these, 59% say they will be less loyal³.
73% of consumers will spread positive word-of-mouth if satisfied by their experience.
Clearly, there is more at stake than a single lost sale with potential loss of full basket, on-sell opportunities, and more critically we potentially force our customers to find and test other means of acquiring products.
Given the ever increasing competition and the maturity of the Australian market in most sectors growth, or even holding a good market share, is a challenging prospect. We must do all we can to safeguard customer loyalty and reduce the chance of our customers becoming familiar with other retailers and channels.
Sophistication in supply chain management tools has improved dramatically in the past decade and this can help retailers to ensure the right stock is always available in store, at the right time. Many leading organisations have spent millions of dollars investing in their supply chain so it would be easy to assume that out of stocks would be becoming less of a problem for businesses.
In fact, the opposite is true.
The cost of optimising for cost
Out-of-stocks accounted for $634.1 billion in lost retail sales in 2015 – 39% higher than 2014².
In the last five years, we have actually seen an increase in lost sales. Why would businesses, so focused on establishing and retaining customer loyalty, allow that to happen?
We believe that a key driver of this is that many businesses are too heavily prioritising supply chain cost savings over robustness of delivering the exact product the customer wants, every time.
The left hand illustration demonstrates the order of magnitude difference between the incremental margin on additional sales and the incremental costs on holding additional inventory to enable the sale. The right hand illustration shows that as inventory is reduced to the point stock levels start to result in lost sales, the cost of these lost sales quickly starts to outweigh inventory savings.
We often find that the reporting systems of cost focused businesses do not properly calculate the cost of lost sales and hence their reporting systems guide management to make decisions pushing them to the left of the true point of optimisation.
So, why are performance systems failing to properly capture the full value of lost sales opportunities?
Measuring the cost
The true lost opportunity cost from not supplying products is harder to fully capture and convert to an EBIT impact. This is because there is no transparency into the consequence of failing to stock an item. In short, it is hard to know what you don’t know.
On the other hand, measurement of supply chain inefficiencies are well accounted for and understood in modern management systems and easily converted to an EBIT impact.
Source: IHL Group (2015), Retailers and the Ghost Economy: The Haunting of Returns.
We believe that over time, this imbalance has led to greater management focus on cost, with businesses ultimately placing an emphasis on efficiency over supply.
Rebalancing the supply chain and capturing lost value
The good news is that new methods and technologies are available to better capture and report lost sales. Technologies such as Internet of Things (IoT) and big data enhance supply chain visibility, while predictive analytics improves customer insights and demand signal accuracy. New trends including the ‘as-a-service’ economy and circular design allow businesses to capture new supply chain efficiencies without impacting inventory management and risking lost sales.
Emerging sensing technology provides real time information across the supply chain from the manufacturer’s factory floor to retailer’s shelves. When combined with location based services, it can unlock valuable insight into customer sentiment and the consequences of unmet expectations.
Digital supply networks are transforming the way supply chains operate through automation, integration and analytics driven demand sensing (enabled through the IoT) and auto-replenishment – minimising the probability of stock out occurrence.
In-store technology such as augmented reality and virtual reality can be harnessed to improve and enhance the customer experience followed by scheduled delivery (in-store or expedited shipping) – significantly reducing the probability of a stock-out.
Our experience points to four broader areas which retailers can focus on to capture lost sales opportunities:
Improve capture of lost sales opportunities and the impact on EBIT.
- User experience mapping and tracking of customers via in store surveys, big data analytics and IoT to understand preferences for substitution or % of basket taken elsewhere
- Develop robust and holistic means to convert raw out-of-stock and IoT data into lost EBIT impact
- Update dashboards, personal KPIs and financial reports to utilise new metrics to rebalance supply chain focus.
Improve supply chain design to manage dynamic demand.
- Focus on flexibility and real-time transparency of demand and inventory to optimise the supply chain.
- Improve warehousing and inventory to better monitor and foster cost-effective movement of stock.
- Enable supplier distribution networks to be more dynamic and utilise the full range of new distribution options to improve responsiveness to in-store stock levels.
Reimagine product design to counter waste creation.
- Redesign products to minimise the amount of resources used during production, use and end of the product lifecycle.
- Re-examine the user experience to right size product design, reduce packaging and eliminate waste.
- Utilise new innovative design techniques such as biomimicry to build resource efficient products
Optimise value chains to repurpose resources and derive value from waste streams.
- Incorporate principles of circular design to promote reusability in product design.
- Seek opportunities to facilitate a circular economy by partnering with or acquiring other businesses to align value streams and repurpose resources.
Taking the next step
Contact Third Horizon, if you would like to discuss how your business can rebalance the supply chain and capture lost value.
Director – Industrial and Consumer Products
1. FMI/GMA Trading Partner Alliance Report (2015), Solving the Out-of-Stock Problem.
2. IBM (2016), Consumer Expectations Soar: What does it mean for retailers?
3. SDL (2015), The Global CX Wakeup Call.