Smith Brain Trust / September 8, 2022

Retail’s Inventory Glut

Businesses are Clearing Excess Stock for Peak Season. Smith’s Jie Zhang Analyzes the Tactics and Implications

Retail’s Inventory Glut

Retailers have been working to reduce inventory to make room for holiday season items. Mishaps in planning dating back to last year are haunting them with excess stock of unwanted products, prompting tactics such as price-cutting, order cancellations and pack and hold. None of these strategies are ideal, “but retailers resort to them for lack of better options,” says Professor of Marketing Jie Zhang at the University of Maryland’s Robert H. Smith School of Business.

“Markdowns and order cancellations are quite effective in clearing up excess inventory, but they are very hurtful to retailers' bottom lines,” says Zhang. Target, for example, reported a 90% profit loss in the second quarter of 2022 after cutting prices.

Zhang gives further insights into inventory clearing strategies and consequences in the following Q&A (recently excerpted by Retail Dive).

What are key factors to the inventory glut?

Zhang: The inventory glut facing many retailers is a culmination of multiple mishaps and miscalculations. The main reasons are: 1) Many retailers expected demand hikes at the peak of last year would continue into 2022, but there have been drastic shifts in consumer spending patterns since the beginning of this year. Consumers have cut back on buying goods and instead ramped up spending on travel and services. 2) Procurement decisions must be made about one year ahead of time, which makes it difficult for retailers to back out even when they realize the problem. 3) There have been major supply chain disruptions. Many retailers did not receive shipments of orders in time for the peak selling times last year and now are stuck with excess inventory that consumers do not want to buy. 4) Inflation, reaching a 40-year high level, has affected consumers' ability to afford many products.

What inventory clearance tactics such as markdowns, pack and hold, and order cancellations are most effective — and least effective?

Zhang: None (of the above tactics) are perfect tools, but retailers must resort to them for lack of better options. Markdowns and order cancellations are quite effective in clearing up excess inventory. But they are very hurtful to retailers' bottom-lines. Deep discounts and penalty payments for order cancellations leave very little profit on the table for many retailers. "Pack and hold" does not reduce inventory per se, but shifts the selling times of existing inventory to future periods when demand hopefully will be higher. This strategy is much better for retailers' profitability. But the downside is that it takes up space and other resources (which could lead to liquidity problems) and it is quite risky when consumer demand is hard to predict.

How do you summarize the likelihood and key implications for effective inventory-clearing ahead of 2023?

Zhang: I believe many retailers will be able to substantially reduce their inventory glut by the end of the year. But they will have to suffer profit losses. The question is whether they overcorrect the current problem and face shortage problems for products in demand next year, considering continued uncertainty in global supply chains.

What’s the best approach to mitigating inventory-related problems in the coming months and years, and how can retailers improve their operations, demand planning, and inventory flow moving forward?

Zhang: Improving the accuracy of demand forecasting is the key. Retailers can improve demand forecasting and inventory planning through a variety of technologies and analytical tools, such as RFID, blockchain, machine learning and AI. Unfortunately, not all retailers have the infrastructure and capabilities to utilize them. Another option to consider is to cut short supply chains and switch more sourcing to domestic suppliers. Apparel retailers can also consider the "fast fashion" merchandise planning model which conducts planning, design, production, shipping, and selling on a continuous basis year round and produces a small quantity of each style.

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