Sunday, April 30, 2017

Principle 4: Inventory Turns not Volume makes Profits

The Impact On PROFITS by Inventory Turns Based on POS Demand Replenishment

Since the inventory is virtual stocking, production decisions are based on velocity not space, storage cost or salvage value

Agile manufacturing and micro-merchandising are the basic enablers for both Demand Replenishment (DR wholesale) and Purchase Activated  Manufacturing (retail), but the real path to maximum profits is managing the movement at and after the POA.  When the manufacturer is producing product at a rate matching sales, quick turns and detailed data integration reduce risk and boosting profits. Management of the production path where the generic physical inventory (Generic Stocking Unit: GSU) is transformed into an individual SKU awaiting sale is the critical determinant of profitability.  The unit production at this point must have real time POS sales demand integrated with ERP production scheduling.

Demand Replenishment B2B Sales
The first Principle of demand is; “follow the money” which requires integrated Point-of-Sale (POS) systems that follows the money or in this case the retail sales by unit, in real time.  This POS data should be automatically consolidated and compared to the DOS on hand.  Once the preset minimum is reached the ERP orders a replenishment DOS from the demand manufacturer.  At the brand and manufacturer level the demand is based on “days-of-supply” (DOS). DOS is a unit production schedule based on the retail sales velocity plus the time require for the distribution pipeline to sort and transport product to the selling location. Averaging the sold product take away for a week and adding the units in the distribution pipeline determines the unit volume of the DOS for each specific SKU.  This calculation will provide product availability with the risk of only minimal surplus units as the product velocity accelerates, then peaks and decelerates through the product’s sales life.  The DOS calculation must be separated buy SKU, including sizes and also separated by distribution path and selling location. Once this is calculated, the units for production are re-consolidated by sewing group and drawn from the virtual inventory as production groups. Each unit is then image tagged with a production tracking bar-code in an area of cut space outside the garment image along the seam allowance.  The sewing group designation is defined by the production sewing format required.  Most replenishment orders at the wholesale level will have multiple units of the same SKU and therefore will use a modified progressive bundle sewing system.  The sewing system drives the print layout, which in turn drives the cutting nest and the organization of the cut pieces for delivery to the sewing station.  This explanation may seem complex, but in operation it is simple, efficient and capable of continuous individual or group unit manufacturing without time consuming color changes or production retooling and rerouting between SKU and design changes..

Purchase Activated Manufacturing (PAM) Direct to Consumer Sales
The receiving of funds and selection of product from the virtual inventory, initiates the production schedule for individual PAM direct to consumer sales at any level (retail, brand or manufacturer).  It is important to remember that online sales from a virtual inventory can give every level direct access to the consumer.  This levels the playing field and gives all players the opportunity to sell product at retail profit levels. PAM sales can create low risk increased sustainable profits by linking retail selling price directly to production.

The primary difference between wholesale Demand Replenishment (DR) and consumer PAM is in the print layout which ultimately produces an individual production bundle of each complete garment for a modular unit sewing system.  The PAM factory needs to be fully integrated with technology for change-on-the-fly printing and dyeing as well as single-ply cutting and a bundle delivery system.  Quality control must be designed into the process, because one error is 100% error when the order is for one unit.  Note: QC will be covered in detail in a later blog.

Both the DR and PAM production systems depend on timely, accurate and detailed purchase information to drive an integrated ERP scheduling module that matches the DOS of GSU usage to the velocity of SKU units leaving the PAM facility.  Keeping the proper inventory of low risk GSU supplies on hand allows an efficient, fast transformation to a pre purchased high profit SKU.

Why Does the Industry Fail to Adopt Sustainable Profit Based DR and PAM Systems?
From direct observation over the last decade of systems development, the major reasons the apparel trades have not embraced DR or PAM are:

First, the industry believes the product must be in the store and available to touch and try on.  As more and more retailer close their doors and online sales grow it is obvious that this is a fundamental misconception facing the traditional apparel market.  The antidote to this part of the problem is simple, retail stores are still the best opportunity to provide consumers a gateway to the virtual inventory.  Treating this supposed misconception as an excuse instead of an opportunity is the problem. Retail stores are the only place that can provide both the opportunity for instant gratification or the value of perfect gratification, because the store can personalize product onsite, or act as a tailor to produce the perfect fit and look for the customer, willing to wait three days for the perfect garment.  Proof of this concept is the instant gratification of the paint counter at the local home center and the success of online tailoring in specialty online clothing.

Second, Retail chains and brands have invested millions of dollars in software and employees given the mission of out-smarting the market trends months and sometimes years in advance.  With a consumer market bombarded by social media, cable channels, personalized target advertising and fashion blogs at every traditional market level, predictions are often a bigger risk than a Vegas table.  The solution has been to focus on “time-to-market” instead of customer value.  This ability to create product samples is an important step, but because most technology stops with the visual sample the production still takes months and minimums with the mass inventory still a risk.  If even a fourth of those millions had been spent on production technology integrated with the virtual sample and integrated POS ordering, production times would be slashed and minimums would disappear. Production would support real time inventory and distribution with little risk of overstock or out-of-stock gambling.

Third, the basic relationship between the three parties in the sourcing path needs to change.  The current relationship fostered by mass production and cost based purchasing creates an adversarial relationship between manufacturers who must produce volume to reach contract cost levels required by retailers who, in turn, only want enough product to fill the shelves unless they have a hit.  This leaves brands in the middle trying to satisfy both parties of this unsustainable triangle.  Unfortunately, this belief that volume lowers cost and lower cost is the basis of profit has caused manufacturers and distributors to sink millions more into efficient repetition mass production technology instead of agile technology that produces only what the consumer wants on demand.

Fourth, the industry has created a set of business formulas that artificially support the continuation of unsustainable mass production.  None of the standard inventory, sales and margin formulas account for the actual sales income compared to the potential sales income. Current formulas all start with a fixed inventory level defined by units or dollar value.  The ability of the manufacturer to provide production and delivery directly related to the demand for the product and the effect on potential profit or loss is not calculated.

As an example take an average apparel sell-through percentage as published by Accelerated Analytics, a highly respected firm that provides retail reporting services across the product spectrum.  Starting from the fixed initial inventory, apparel on an 8 week cycle has an average sell through of 24.3%, after the initial cycle stores will begin a discount cycle resulting in an additional 4.2% for a total sell-through of 28.5% by week 13.  After week 13 retailers will clear product at heavy discount or resell product to discount outlets resulting a sell-through of 45.5%at 26 weeks and a reported sell-through of 68.7% of the initial stock by the end of the year.  Remember these sell through percentages, they will be used to calculate the profit difference between fixed inventory and DR inventory replenishment in a spreadsheet example.

Fifth and the most pervasive argument from the defenders of the current mass production paradigm is that, “no purchase activated manufacturing technology can support the volume required by the market”.  The argument is rooted in the idea that mini-factories cannot be efficient enough in cost to compete in the market.  So while big brands and mass retailers loose billions in lost profits from over production and risky forecasts months before actual sales, small demand mini factories continue to flourish online.  
Looking for an example of the impact of demand based micro-factories.  Visit your local micro-brewery pub.  These small demand based breweries scaled to fit product demand have flourished because their product is produced to match the demand and the distribution is direct to the consumer. According to U.S. News & World Report, these thousands of micro-factories have carved out a $22 billion share or 21% of the $105.9 billion U.S. beer market. In addition the large brands have been forced to merge and consolidate even though they are experts at the cost efficiency of mass manufacturing.  Yet the little guys continue to grow at nearly 13% per year while the big mass manufacturers lost another .02% of the market.  This is just another example of the billions poured down the drain by domestic companies that believe they can drive the market to match their cost based production, rather than capture the billions in lost profits by matching real time production to demand.
Examples Based on a Real Purchase Activated Mini-Factory
The examples below are based on the production volumes and delivery cost from a prototype integrated mini-factory built in southern California in 2011 and operated through 2015.  The cost per unit difference is inflated to demonstrate the profit impact of flexible demand sourcing.  The factory run by AM4U, Inc. is pictured at the top of the blog and featured in the linked videos.

Example of overstock and discount from a fixed inventory ordered months in advance:
Example of the same product ordered from a flexible virtual inventory ordered on demand with two weeks delivery.  No risk of overstock or insufficient GP to support operations cost.
Example of the same product selling hot and out-of-stock with lost sales because of offshore replenishment production response time.

Example of the same product selling hot and replenished every two weeks based on a DOS formula developed from POS history.  Only inventory remaining is orphan sizes.  High profit with no risk of surplus inventory and wasted production and pollution.

Key lessons learned from this prototype PAM facility are:
  1. The integration of design, marketing, production prep, raster image processing(RIP), printing, cutting and fulfillment software is the key missing link to adoption of DR and PAM production.  The hardest development task of this project was to link the separate software company’s products in a seamless chain of marketing, production and fulfillment.  The resistance of single task technology “silo’s” to understand their interdependence is the primary roadblock to the return of domestic production.
  2. The concept that domestic manufacturing cannot compete with overseas is entirely based on a comparison of labor costs.  It is not a realistic comparison of cost at the point of sale.  The cost of bulk transportation, multiple factory sourcing surcharges and minimums, duties (as high as 40% on some apparel), domestic inventory storage and unsold stock are not accounted for in most sourcing formulas.  According to FORBES "United States still maintains tariffs on clothing that amount to 10-times the average U.S. tariff." After years of piecing together cost and estimates from experts and internet sources there is no reason to believe labor costs actually make more than a 5% difference in the total cost of product at the point-of-sale.
  3. The impact of attacking overstock and out-of-stock inventory losses has more impact on profits than a 30% lower cost of product.  The overstock and out-of-stock examples above detail the difference between attacking costs only and attacking losses with a virtual inventory and demand activated production.  The path to sustainable profit is make what you sell and sell everything you make!
  4. The myths, that demand digital production cannot deliver timely product to replenish retail and online sales is another myth of misunderstanding.  From personal experience and early mistakes to today’s integrated mini-factory there has been a huge evolution in capacity, scalability and cost.  
Just pick a volatile product category like printed top or leggings and run the numbers comparing actual sales weighted by discounts against the contract order.  Compute by both units and dollars to see the impact a mini-factory making that product category will make to the bottom line.  
An integrated digital apparel system from merchandising to fulfillment for DR and/or PAM can be assembled and in operation in less than eight months at a cost of less than a million dollars and pay back with a profit in less than a year.  You can contact me at:, for live spreadsheets and a full project plan.