Omnichannel strategy and retail KPIs: The good, the bad and the future
Many retailers have adopted an omnichannel strategy to gain a marketplace advantage. ...
Many retailers have adopted an omnichannel strategy to gain a marketplace advantage. The proliferation of mobile apps and an ever-mounting demand for personalized experiences has created a massive demand for better retail decision-making. This strategy aims to make shopping convenient for customers and quickly fulfill demand.
The strategy entails broadening sales channels, unifying the customer experiences and harnessing the supply chain to deliver products through multiple paths and locations. To fully realize marketplace advantage through our AI-Decisioning Platform, retailer omnichannel skills must evolve:
- From transactional competency (systems and processes deliver on customer expectations).
- To economically sound (can the platform be measured & managed profitably).
- To be competitively leverageable (does the capability deliver competitive advantage).
After an initial flurry of activity, many retailers have attained stage 1 (transactional competency). They can deliver an omnichannel sales experience to the customer, enabling their supply chain to offer products in many ways. However, many are struggling with stage 2, making the platform economically sound, which is required to attain stage 3 (competitive leverage).
Let’s examine some challenges moving from stage 1 (transactional competency) to stage 2 (economic soundness).
First, let’s talk about the nature of the change. The communications industry made a similar change 40 years ago. Before this, telecommunications were point-to-point (PTP), requiring a single circuit to send data or complete a call. In the late 1970s, another approach came into being. It was the internet protocol (IP), and it worked entirely differently. At the beginning of a call, the new approach packetized communication information and dynamically routed the packets through different paths, reassembling them at the end. As a result, the transport mechanism changed from point-to-point to a network infrastructure.
How is this change in telecommunications like the change to omnichannel retailing?
In the traditional model, we had a linear, point-to-point distribution system that relied on single-channel options and was built around relatively simple needs for customer satisfaction. The product flowed from a manufacturer to a distribution center (DC) and then to a store where a customer purchased, essentially a series of nodes. The measurement and management of that linear flow devolved into measuring and managing each node in the chain. It was also easy to link the system/chain performance to that of the nodes.
We’ve moved from linear flows to a network fulfillment model to omnichannel retail where customer loyalty is dependent on your ability to create a seamless experience that blends both digital media and the experience in physical stores. The fact that products can flow from many places to many places means that we have enhanced our ability to serve the customer with our existing inventory. The philosophical underpinning of omnichannel (on the supply chain side) was most attractive—making tighter inventory seem bigger by putting it into motion and leveraging it more broadly.
Many retailers today face the problem of those capabilities not being available for free. Meeting this economically sound challenge means measuring and managing the network holistically, not just its nodes. However, measuring and managing the network holistically is proving difficult for many retailers.
So, what do retail KPIs have to do with it? For many retailers, KPIs define how they measure and manage the business. People are trained to track KPIs and take corrective action when they fall out of range. The fact that many KPIs can be localized has enabled the distribution of management responsibilities to specific business units and functional areas.
With the arrival of basic omnichannel capabilities, we must ask whether our historical KPIs provide the perspectives to manage the supply chain effectively. How well our KPIs help us manage an omnichannel supply chain depends on two key questions:
- Are our KPIs complete?
- Can our KPIs be expressed in a common metric?
Completeness
What do we mean by “completeness?” A complete set of KPIs addresses all drivers of total performance.
A complete set of retail KPIs measures all factors that impact a retailer's financial performance.
We don’t always need to address every factor driving financial performance relative to a business decision. Many are fixed costs that aren’t directly affected by the decision. However, we do need to address ALL costs impacted by the decision if we want to thoroughly understand the ramifications of our decisions (and the plans that support those decisions).
Historically, for inventory purposes, retailers focused on key KPIs representing customer service (e.g., in-stock, service level, etc.) and financial efficiency (turn, sell-through, etc.). Indeed, other factors are required for “completeness,” such as labor cost and transportation, but for most retailers, these are “fixed” costs and are not directly linked to unitary inventory decisions. As a result, retailers generally manage those costs as system costs separate from the inventory decision and focus on customer service and inventory efficiency as the two key KPIs to manage their inventory levels.
How has omnichannel impacted the requirement of “completeness?” One key tactic of omnichannel is inventory “from anywhere to anywhere,” making inventory very mobile—at a cost. Unlike the traditional brick-and-mortar transportation cost (DC to Store, for example), managed as a fixed system cost, the omnichannel “from anywhere to anywhere” logistics cost is at the item level and variable transactional cost.
To be complete, we need to account for that transportation cost explicitly. We need to do so in our decisions regarding planning (where and when to place inventory) and fulfillment (where to pull inventory from to service a sale).
Common metric - retail KPIs
Once we have identified a complete set of KPIs that address all of the impacts of our inventory decision, the next challenge is how we measure them. Here’s where traditional KPIs come up short, even for traditional brick-and-mortar retail. Let’s consider the two key KPIs that retailers have traditionally used to measure inventory:
- Inventory fulfillment of customer demand. This can be expressed in several ways: in-stock, service level and demand fulfillment. All are designed to measure how well the inventory is serving the customer.
- Inventory financial efficiency. For long-life replenishment products, this is often defined as inventory turn. For shorter-life items, a sell-through percentage is frequently used to measure inventory efficiency. Both measures express how well the inventory is performing financially.
Looking at these two metrics, one immediately notes there is no easy way to trade off between the two KPIs. A retailer cannot quickly answer the question, “If I raise turn from 3 to 3.5, what happens to in-stock?” It is difficult to answer this question, as the two concepts don’t even share a standard measurement regime.
Omnichannel compounds this problem in many ways. First, by putting inventory into motion at a transactional/granular level, omni-shipping costs are an added factor that must be considered. That factor needs to be seated at the KPI table. Second, how do we now measure the customer service for inventory level at a location if our fulfillment model says we can satisfy demand with “inventory from anywhere to anywhere?”
So, let’s recap what our KPIs have become in this omni-world. There is a KPI for customer service that is a percentage. There is a KPI for inventory financial efficiency (turn), and that is a number. Finally, there is a KPI for omni-logistics cost, and that is in dollars. If we can’t quickly answer the “If I raise turn from 3 to 3.5” question, the questions omnichannel raises are even more challenging to solve without some significant changes.
So, how have retailers balanced KPIs in the past? Basically, through trial-and-error and the development of an empirical memory of what worked and didn’t. While there are many sophisticated tools that retailers have used, at their root, the tools asked the retailer to answer the question “What service level should we target?” and that answer was based on experience and retailer knowledge.
The Future
The problem facing retailers today and in the future is that their past approach is too slow, cumbersome, and imprecise for omnichannel's complexity. They can no longer make in-market changes to measure their impact and develop an experience base to drive their policies.
The omni-supply chain problem is more complex to analyze, measure and manage. In addition to traditional customer service and inventory productivity challenges, many retailers now face omni-logistics costs in the 1000s of basis points in the order of 10% of sales or more. With “from anywhere to anywhere” as a fulfillment framework, the analytical challenge is daunting. Altogether, it’s not your parents' supply chain.
So, how can retailers solve this problem and move to a better future? I’d propose these key steps:
1. Strategy
- Move quickly, focusing on improving decision quality as it affects financial performance.
- Leverage existing transactional systems to reduce risk and shorten development time.
- Be willing to re-conceive the roles of people and systems.
2. Analytics
- Understand factors that impact costs and incorporate their measures into reporting, models, and decisions.
- Convert these factors to a standard measurement regime – specifically economic measures. Use a financial measure of customer service (e.g., lost margin dollars), inventory efficiency (e.g., inventory holding cost) and variable fulfillment costs to convert all KPIs into monetary terms.
- With financially expressed KPIs, leverage advanced decisioning and optimization approaches to enable measuring and modeling total system costs. Use that cost model to optimize total costs and drive improved profitability economically.
3. Systems
- Move to a layered architecture segregating transactional activities from decision activities.
- Implement firm change control for core transactional systems. Focus on bullet-proof reliability.
- Decision systems should be focused on speed and flexibility. They should be able to respond quickly to changing business models and requirements.
By adopting a profit framework where:
Omni Profit = Expected Sales - Lost Margin - Cost of Inventory (average or leftover) - Fulfillment costs
Retailers not only create a measurable omnichannel framework but also implement a financial infrastructure that will flexibly guide them in quickly evolving their supply chains and creating an economically sound omnichannel-driven business.
Those who do are also more likely to gain a competitive advantage as they move forward.
Are you interested in learning how we can help you start winning in the omni-future? If so, contact an expert in retail optimization at invent.ai.
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