RR Online RR is a successful outdoor equipment retailer that

RR On-line (RR) is a successful outdoor equipment retailer that has experienced increased logistics costs due to its move towards omni-channel distribution. Omni-channel is presented in more depth in chapter 14, the overall principle behind omni-channel is that all channels in which your company sells have visibility of and access to all inventory in any of your locations, from stores to DCs. Omni-channel solutions can improve customer service and reduce the amount of inventory in the total internal network; however, they can also increase the cost of transportation dramatically.

Katie Lee is an experienced consultant hired by RR On-Line to help RR determine how to best improve its supply chain efficiency, while improving or retaining customer service levels. Katie has worked with some global leaders in omni-channel retailing. RR is one of her smaller clients. RR\'s management, including the logistics team headed by Hector Magellenez, has observed that in addition to the huge investment it made in IT to move to an omni-channel platform, it also has experienced other logistics costs increases. RR\'s financial statements are below.

In talking to Hector, as well as with the DC managers, Katie has discovered that there is some extra labor and space availability at the DCs. One possibility to cut transportation costs is to transship items from various locations to a DC as a bulk shipment. At this consolidation center, multi-item orders could be assembled and shipped to the customer\'s door (home or retail). Based on prior experience, Katie has estimated that this consolidation option will save about 8% in transportation costs.

Katie would also like to improve the efficiency of DC operations. She believes that RR could improve its overall space utilization, freeing up space that could then be leased to other companies. In other words, RR would get into the warehousing business. Katie estimated that if RR pursued this strategy, warehousing and inventory would be reduced by 10% and 5% respectively. The downside to this scenario is that RR would need to use more vertical space, which makes the order-fill process a bit slower. However, Katie isn\'t too concerned with this fact. After all, RR\'s DC workforce is underutilized and has some spare time available. She is confident that the customer would not experience a difference in service level.

Katie\'s third alternative is to improve the training of the distribution center team to reduce the errors in order fill. She would like her more-highly trained team to update the inventory quantities through daily cycle counting. Katie\'s experience indicates that there will be no additional costs associated with doing this, but that net sale and COGS will each increase by 2% and inventory will increase by 1% to help with the improved fill rate. RR will not need any additional transportation, as it will be able to ship more complete orders, thereby reducing the number of split shipments. RR will also not need additional warehousing, as it currently has extra capacity. Thus, transportation and warehousing costs will remain the same.

If only it was this simple! As Katie was concluding her final facility visits and interviews, she met Vikram Nagoo, the VP of Merchandising. He told Katie that under no circumstances could RR reduce the size of orders being placed with suppliers without incurring price increases from suppliers. He also warned Katie that now that store managers have better visibility of company-wide inventory, they are trying to reduce their inventory. Vikram commented, \"Since store managers are evaluated on their store-level ROA, which includes their store inventory, but not items ordered by customers in the store for home delivery and pick-up, they will be doing everything in their power to push inventory back to the DCs.\"

Questions

Help Katie present the profit-leverage effect concept to RR management. How should she explain it to them so that they can truly understand the equivalent sales impact of logistics?

Use the Strategic Profit Model to calculate the balance sheet, income statement and key ratio effects for each of the scenarios. Develop a recommendation for Katie to present to top management, including the aspects of the SPM she should present, and why.

What potential goal conflicts would your recommendation create among merchandising, logistics, and stores?

Identify two common metrics that merchandising, logistics, and the store could share that might reduce existing conflicts. How would these metrics reduce conflict?

Solution

Calculations/explanations used in the table provided below:

In 1st scenario, transport costs fall by 8%. This will increase the net income and hence the equity amount in balance sheet as the surplus is included in it. As transport cost falls, cash amount will increase. The balance sheet tallies.

In 2nd scenario, the fall in warehousing cost will increase net income and hence equity in balance sheet. Cash will also increase by the same amount. Fall in inventory will also increase the cash. Balance sheet tallies.

In 3rd scenario, sales increase. This will increase net income, cash and equity by the same amount. COGS are increasing. This will decrease net income, cash and equity by the same amount. Inventory increases. This will reduce the cash by the same amount. Balance sheet tallies.

Looking at the table above, the 2nd option of improving space utilization (reduction of 10% in warehousing and 5% in inventory) seems to be the best as all ratios are the best in this case.

The conflict would be that on one hand inventory is falling but on the other hand size of the order cannot be reduced as pointed by Vikram in the case.

The metrics that could be used is Inventory turnover and profit margin. These two metrics will reduce the conflict as it is clear that in the 2nd option profitability is the highest and the inventory turnover is also the best.