By: Joan Doyle
Open-to-Buy (OTB), the management of purchasing dollars in relation to sales and
inventory levels, is perhaps the most important tool buyers have at their disposal to keep their stores profitable. It is a way for buyers to control inventory levels, informatively forecast sales and plan purchases, and make the best use of purchasing dollars. But many buyers, particularly those who work for independent specialty retail operations such a museum stores, often don’t incorporate open-to-buy in their purchase planning process. They find the process both confusing and slightly intimidating. Although many of these buyers have no formal retail merchandising training/education and have learned the business by trial and error, once they understand the basic principles behind OTB they realize it can help make their stores more efficient and profitable. Once mastered, this simple concept will help protect against under buying and over buying and ensure that merchandise levels are in direct proportion to sales.
OTB and You: Balancing inventory levels
A store’s inventory is the biggest expense to any retail operation. Too little inventory and you risk losing business because the stock levels are too low and your store looks empty. Too much inventory will result in overcrowded stock rooms, reduced cash flow, reduced profitability and a drain on fiscal resources. If this happens, your store is exposed to a potentially even greater risk: that of a retail outsourcing company taking over your store operations. The MSA recently published a white paper on outsourcing retail operations in cultural organizations. The primary reason most museums considered outsourcing their retail operations was because their store had not operated profitably which, in turn, put a strain on the museum’s fiscal resources. That lack of profitability is frequently the result of excessive inventory levels.
Museum store buyers are stewards of the museums funds and, as such, must act responsibly when spending those funds. OTB is not a complex formula, but a simple concept that requires planning and diligence. Once mastered, the formula is easy. But for it to be truly useful you must be diligent in your maintenance and record keeping. The key to good OTB planning is striking a balance between on hand inventory levels and future purchasing. This balance allows you to respond to selling trends in a timely fashion. By diligently maintaining your OTB you can invest in the hottest retail trends because you will have available purchasing dollars to do so, and conversely, if you find that the once ‘hot’ item is no longer the retail darling, you haven’t jeopardized your profitability because of overbuying.
OTB and turnover go hand in hand
I tell my clients that each store fixture each shelf in their store is a piece of real-estate, the purpose of which is to earn revenue. The merchandise sitting on that shelf is the tenant. Good tenants pay the rent on time by ‘turning’ or selling frequently. Bad tenants are the ones that don’t sell quickly and sit on the shelf for months. They take up valuable selling space that could and should be given to a faster moving product. As the landlord, ask yourself how long can you afford to have non-paying tenants on your shelves before it negatively effects the total retail operation? Ideally, nothing should be on your shelves that isn’t a good seller. Both the merchandising display space and purchasing should be tied to merchandise sell through and inventory turnover.
Most good point-of-sale (POS) systems have OTB modules which makes the record keeping side of OTB much easier to manage. However, if you don’t have a POS system or your system lacks an OTB module, it is still easy to maintain an OTB plan using relatively simple spreadsheets. Again, the key to success is discipline; you must track and update the information in a timely fashion: at least monthly. For the best results you should track everything by department or merchandise category.
How to calculate the OTB
Like every item in your annual budget, the OTB starts with the projected sales for a specific period, usually a year. From there you can estimate what your projected purchases will be for the same period, and then further break that down into easily measurable ‘chunks’ or monthly projections. It is important to understand that an OTB is a ‘working’ number. It will expand and contract in direct relation to your actual sales and purchases. Remember that OTB is translated in dollar amounts, not items. That means it will tell you the available dollars to spend for new purchases, not the number of units to purchase.
The basic OTB Formula (all numbers are at retail value)
EOM (end of month stock level-desired estimate)
+ Sales (month actual)
+ Markdowns (month actual)
– BOM (beginning of month stock level-actual)
– Merchandise on order
= Open-to-Buy ($ amount available for new purchases)
As an example, let’s say that you have projected annual sales of $212,500, and your goal is to have an average total inventory level of $46,000 and an average inventory turn rate of 4.6 times a year. The following spreadsheet shows what your projected sales and purchasing would look like for the year.
When developing your budget projections, it is best to work with historical data on which to base your estimates for the coming year. Note that the end of month (EOM) inventory is the beginning of the month (BOM) inventory level for the following month.
Now compare the budget projections to what the actual sales and purchases are in this working OTB plan. And remember that the OTB amount is at retail value, not cost value.
In this example, the beginning-of-month inventory (BOM) was right on target with projections at $46,500. But the actual sales for the month were higher than projections and the markdowns were less than projections. To maintain the desired average inventory level at $46,000 you would need to bring in purchases of $10,950 (slightly more than projections of $10,000). The inventory-on-order is $7,700. That leaves the OTB, or the available purchasing dollars, at $3,250. If you spend more than that you will begin to inflate the inventory level, if you spend less you risk losing sales, especially on the fast selling merchandise.
Now let’s look at an example were sales were less than budgeted goals.
With this scenario the OTB is overspent by $500. This means that no more buying should happen until sales increase and the inventory level is reduced, otherwise the inventory level will exceed the desired goal of $46,000.
Utilizing and open to buy plan for your store will enable you to always have sufficient merchandise to meet customer demands, maintain a fresh merchandising selection and optimize your bottom line profitability.
Hints for living within your OTB:
– Be cautious about offers of quantity discounts or free freight if you increase the size of your order significantly over your normal purchasing levels. A good rule of thumb for any special offer; try to order no more than a six months selling supply of any product, and only if it is something you are positive will sell within that that period. Otherwise you risk adversely affecting your inventory turnover ratio.
– Try not to write up orders while you are meeting with sales reps. It’s easy to overspend this way. Use this time to see new merchandise and discuss any special offers, etc. Tell the reps you will send them the completed order in a few days. This gives you time to carefully review what you plan to purchase and make adjustments up or down as indicated by your OTB.
– Don’t hesitate to markdown slow moving merchandise. Make the markdown instantly appealing to the customer by offering at least 25% to 40% off the retail price. The faster it is off your shelves, the faster you can bring in a better-selling product that will have a higher profit margin. Your markdown loss will be counterbalanced by having the better-selling merchandise.
Joan Doyle, the principal and owner of doyle + associates, has over twenty years of diversified retail planning and management experience with emphasis on retail specialty store operations, strategic planning, profitability improvements, retail store design and new store openings. Email Joan at firstname.lastname@example.org.
Or visit her web site at: www.doyleandassociates.com