We’ve had the great privilege of working alongside dozens of retailers striving to attain balance in their supply chains—a challenge as difficult to master as it is to maintain. Based on our experience, this report, “Missing Links in Retail Out-of-Stock: Maximizing Technical Solutions Through People,” brings together the expertise of Integration’s international Supply Chain practice, gained through retail engagements of all types, sizes and scale.

At Integration, our differential centers on embedding our work in the daily reality of our clients. For us, there is no other way to understand the challenges and complexities a business is facing. We believe this dedication to knowing our clients’ realities is the key to bespoke recommendations that generate true, lasting transformation.

From this perspective, although discussions about out-of-stock inventory are nothing new, we find they are increasingly important in today’s retail landscape. Companies are facing unprecedented challenges due to disruptions in e-commerce, consumer expectations and digital transformation, and testing new tools and ways of managing the entire value chain—as we frequently hear in the industry, customers “want what they want, when they want it.”

In this climate, what is important to resolve is the lack of connection between technical capabilities and the factors that drive effective implementation. Our approach addresses this issue by matching strategies and technologies to the specific context of each business, and positioning out-of-stock inventory objectives as a top priority of both the CEO and broader organization. Likewise, our focus here is on lowering harmful out-of-stock levels, but it must be noted that some retailers are striving for just the opposite—to run out of inventory as quickly as possible (e.g. luxury goods/high fashion), which requires a separate approach all its own.

Our goal is to share the practical steps that have driven results for our clients and support optimizing out-of-stock inventory levels in the long run. Importantly, our insights are offered with the intent of adapting them to your unique circumstances—never to dictate or predefine a specific course of action.

We welcome your comments and look forward to any opportunity to discuss our solutions further with you.

Game-changing technologies are helping retailers both manage and reimagine the entire value chain. These technologies—and robust technical expertise—are critical components of solving what remains one of the industry’s oldest and most costly challenges: out-of-stock retail inventory. However, based on live engagements with our clients and supported by persistent global out-of-stock figures, we believe technologies alone don’t guarantee transformation: they require people to bring to life.

For those seeking to reduce and/or control high out-of-stock levels, this report details Integration’s four-part approach to bridging the gap between technical solutions and human capital to achieve lasting, transformative results. Our four-part approach covers what we call the “missing links”—practical, tangible actions that connect people to processes and enable C-level retail executives and senior leadership to:

From a concrete perspective, this question is quite simple to answer: out-of-stock (OOS) inventory remains at the forefront of retail challenges because it continues to harm the profitability of companies everywhere. A 2018 study from global research and advisory firm IHL Group, for instance, estimates the global financial drain of OOS inventory at nearly USD$1 trillion[1] due to challenges ranging from misplaced products to staff unable to locate items to bare shelves and more.

However, it’s likely that the real cost of OOS inventory is even more. As one of our clients recently asked, “Why am I risking losing a customer that I worked so hard to win and have already spent so much time and money on over an OOS item?”

Implicit in this view is that the price tag on OOS inventory extends to everything that’s been done to bring a product across the value chain: the hours spent negotiating with vendors on pricing and contracts, the marketing dollars on branding and promotions, the cost of rent and maintenance on premium store locations—and last but not least, the investments in technology and processes that never quite reach desired results.

In a landscape of more technical possibilities than ever before—possibilities that are undoubtedly propelling retailers forward in significant ways—our experience suggests that non-technical solutions are the true crux of persistent OOS inventory issues. We know many successful retailers, for example, who despite the benefits of big data analytics, predictive software or increasing automation, still struggle with routine steps such as matching master data to items on shelves, maintaining vendor relationships, guaranteeing items make it to the store floor, etc.

Why am I risking losing a customer that I worked so hard to win and have already spent so much time and money on over an OOS item?

Critically, this is not because new tools and capabilities aren’t important. Robust technical solutions are non-negotiable in all scenarios. However, a new technology or process alone doesn’t guarantee real, lasting transformation. In fact, it’s only half of what it takes to make a solution truly work—which we believe will continue to be true, even in a world of fast-evolving possibilities.

The other half, attention to people, requires connecting human capital to the practical actions that make implementation of a technical approach effective. We call these connections the “missing links” of OOS inventory. With the goal of preserving not only monetary investments but everything a retailer expends on winning customers, the following four steps—Understand Your Reality, Guarantee Unity & Collaboration, Pick Your Battles and Stay the Course—offer pragmatic ways of bridging the gap between each organization’s people and the actions that make an OOS inventory initiative transformative as a whole.

It may seem obvious that a bakery running out of bread creates a completely different impact on a retail business than ovens at a home appliance store, shampoo at a grocer or medicine at a drugstore. However, many retailers apply similar, one-size-fits all approaches to their categories, despite very different contexts. For this reason, our first missing link guarantees that leadership has a precise view of the replenishment demands of the business’ inventory assortment, e.g. its reality, to establish the scope of actions that professionals from different areas (Merchandising and Supply Chain at this step) must take to support healthy OOS levels. This means segmenting the business—and selecting the strategies that correspond to each category’s replenishment DNA.

Take a department store that carries a limited inventory of high-end, seasonal apparel and a large variety of quality basics (T-shirts, jeans, socks, etc.). While the high-end apparel verging on OOS will create urgency to buy, implying a different OOS objective all together, a low supply of basics has the opposite effect—shoppers may think the selection is minimal or picked over and seek options elsewhere. Accordingly, replenishment of basic items may be relatively automatic, while the high-end apparel requires something different, i.e. on-demand shipments and strong vendor relationships to have more top-selling product delivered quickly. The key point is, managing OOS inventory effectively across multiple categories and product types can imply a variety of strategies that demand different things from different areas of the business.

However, the exercise can quickly get complex. Think of a grocer or big box store with upward of 100,000 SKUs. A retailer must have a strong view of how consumers feel about different purchase types—for instance, that a preferred brand of toilet paper is more easily substituted than a cosmetics product, or that the characteristics of laundry detergent are more important than soap bars. Items for which customers are very sensitive to price (those with low elasticity) should be more carefully protected compared to those with high elasticity, such as irregular and/or opportunity purchases.

We’ll talk about how to reduce complexity by setting realistic priorities among thousands of SKUs further on, but it’s important to first establish clarity about roles and responsibilities between areas. This is about more than optics. Who does what is often a sensitive, polemic issue? Having a framework that illustrates the business’ needs can go a long way toward simplifying this discussion and lays the groundwork for how to foster unity and collaboration in our second missing link.

The Replenishment Segmentation Matrix

Over many years of working alongside our clients and understanding the nuances of OOS inventory, we have developed the following Replenishment Segmentation Matrix.

The matrix leverages two powerful criteria of inventory replenishment—Assortment Turnover and Supply & Demand Stability—to segment retail categories into four quadrants. As you read the criteria descriptions below, think about where your categories fit within the matrix or if they touch all quadrants.

Assortment Turnover: How fast does your assortment change? Do your products have a naturally shorter and/or seasonal life cycle, such as electronics, holiday items and trending apparel? Or is the life cycle longer, as with hygiene products, cosmetics, soap and laundry, over-the-counter medication, dry/processed foods, etc.?

Supply & Demand Stability: How stable is the value chain in terms of negotiations, vendor relationships, reliability and demand-variation forecasting? An example of a very stable chain would be prescription medication refills at a drugstore, which consumers routinely need (e.g. on a monthly basis), and manufacturers fulfill with good consistency.

On the opposite side, categories such as food commodities at grocery stores are less stable—consumers may want them, but variables such as weather impact pricing and availability (i.e. beer and wine), so purchases are more opportunity-based.

Consider the matrix again, this time with examples of product categories in the four quadrants. Each is labeled by what we see as the core replenishment strategy or “replenishment DNA” of the segment, which guides how OOS actions should be developed—and who will be involved.

Diving deeper into each segment below makes it possible to understand, concretely, how people must work and act together to manage OOS inventory continuously. On the next page, see the roles and responsibilities that Merchandising and Supply Chain must assume, along with additional details about variations in DNA replenishment characteristics.

By orienting replenishment strategies to the needs of different product categories (your replenishment DNA), many of our clients begin realizing why certain approaches have worked in certain categories and why OOS levels remain unsolved in others. In terms of people, initial friction points of where collaboration needs to be improved will also start to become clear, paving the way for why OOS inventory must be positioned as a priority for the wider company.

In our experience, there is no possibility of resolving OOS inventory without strong, committed leadership at each level of the organization (department heads and managers), as well as a CEO or other high-influence executive to spearhead the effort. Most companies we work with instinctively understand that transformation requires more than investing in a new technology, but it can be difficult to structure tangible actions related to unity and collaboration—our second missing link. This is done through empowering leaders in two key areas: shared KPIs and engaging people.

1. Shared KPIs

Imagine a retailer facing serious OOS challenges. Out-of-stock items have decreased inventory turnover to the point that cash flow is restricted, with little money available to buy new items or repurchase at volume. In turn, limited ability to buy in bulk has affected margin negotiations, further straining cash flow. As a result, replenishment is stunted, sales stop and there are few options to bring the business back to solvent. With little choice, the retailer reduces prices to boost sales—but only in the short term while again harming margin. In the end, without enough money to reinvest in OOS inventory fully, the business gets stuck in an endless loop of lowering prices to boost sales and improve revenue. However, unless promotional gains are large enough (a rarity), the retailer won’t be able to maintain the business in the long run.

This is just one way a retailer can get snared in what we call the “vicious cycle” (see fig 3), which is often underpinned by not including OOS alongside the more prominent retail KPIs of revenue, margin and inventory. This is where, in addition to Merchandising and Supply Chain, Store Operations must be engaged, requiring alignment and sponsorship by the company’s CEO to achieve.

Fundamentally, this is due to the specific actions and trade-offs that each area must commit to, despite the naturally competing interests of Merchandising, Store Operations and Supply Chain. In the example above, hard, short-term trade-offs will be necessary to break free of the vicious cycle, e.g. marking items down to boost sales and free cash, yet this will cause the KPI of margin to take a hit within Merchandising. This would also affect revenue in Store Operations if the promotion isn’t successful, but there are several other considerations as well. Allocating labor to check inventory on shelves could impact revenue within Store Operations, as would be the case for margin if it becomes necessary to renegotiate vendor returns and trade terms in Merchandising.

We find it difficult, if not impossible, to generate this type of compromise unless OOS inventory goals are backed by the CEO.

The best way to garner buy-in among all areas is to position OOS as a shared KPI alongside revenue, margin and inventory. If this understanding is in place, when the KPIs of margin or revenue are impacted, they can be balanced by the mutual benefit of improving OOS inventory. Even if this is challenging to enforce at first, aligning KPIs encourages departments to routinely consider how they contribute to OOS inventory over time. There is a wide range of interdependencies to be mapped inside each organization, and the chart on the following page is only a starting point, but it’s a good device to help Merchandising, Store Operations and Supply Chain begin visualizing how their KPIs are intrinsically linked together.

2. Engaging People

We once worked with a large global retailer whose OOS problems had persisted for nearly a decade. The company had been dealing with a stark contrast between severe OOS inventory and excess inventory at the same time. The diagnosis spanned issues from flawed and outdated systems to poor management and tracking of deliveries to zero ability to forecast promotions or enable lifts in inventory. A full-scale solution was designed and piloted within a single category with strong expectations. However, results after the first few weeks were discouraging. Analyses were re-run and processes revisited to find a better solution.

During this time, it became clear that another issue entirely was thwarting the transformation. Although leadership was committed, the employees of the company, having been through years of failure, no longer believed in the possibility of real change. As a result, there was no technical solution that had any hope of working without fully stopping the implementation to address their concerns.

This example perfectly illustrates how an optimal, fact-based, data-driven technical solution can be undermined by the power of people. Resolving this means guaranteeing consistent, top-down engagement efforts from the CEO. These actions are quite simple but should not be underestimated—meetings at the organizational level and per functional area, as well as one-on-one conversations, training sessions, Q&A channels, etc., can all be part of a holistic communications plan.

In the case of the global retailer, specifically, this played out to include:

• Selecting champions among the employees to embed operational changes and the vision for the supply chain into the daily reality of the business.
• Technical classes and trainings focused on theory—having a solid understanding of the concepts behind routine tasks proved to be a huge motivation that added pride and meaning for the team.
• A full day of team-building focused on connection and engagement.
• A daily meeting to empower teams and sustain connection—one category was selected per day, giving each team a specific opportunity to share their progress on new KPIs and define actions individually.

Although leadership was committed, the employees of the company, having been through years of failure, no longer believed in the possibility of real change.

In the end, after years of crisis, once all professionals understood and committed to the transformation, the retailer achieved a historic best in OOS percentages, which decreased from 13 to 4 percent on the top 2,000 SKUs over a six-month period.

But the victory was not seamless. After detailing plans for the company’s primary DC (down to what trucks would arrive each day), there was an influential employee who simply wouldn’t engage with the new processes. This single person could have destabilized the efforts of dozens if their resistance had not been identified through engaging with people. Importantly, the goal should be to identify issues as much as bring professionals onboard with new objectives. If one-on-one conversations aren’t successful or the players aren’t forthright, it may be time to think about hard decisions that prioritize the future of the organization.

As discussed in our first missing link, controlling OOS inventory levels and defining replenishment strategies by category is far from easy with tens (or hundreds) of thousands of SKUs in play. While developing strategies by segment is critical, it’s simply not possible to control everything. We recommend setting priorities about what demands attention (leveraging data and technology tools to support conclusions) and then picking your battles: our third missing link.

The first question to answer is how OOS items are impacting the business. For example, securing consistency in top-selling SKUs is one option to start generating movement. To identify first-line priorities, the following considerations—which should account for each department’s unique perspective—can be used to draw parameters around the issues that are most pressing:

• What is the biggest problem? Solving OOS levels vs. shedding excess stock is a common trade-off. It’s not always feasible to focus on one over the other, as they are deeply related. But, if you can, it’s a good way to begin. For example, if cash flow is tight, targeting excess stock to free up money through mark-downs, reverse logistics, order prioritization and high-order reports that avoid new excess are key actions. At the same time, measures should be taken to protect top store locations and items and maximize returns from whatever money is available. If cash flow is not restricted, however, restocking OOS inventory will take precedent (assuming you’re not raising inventory levels to improve item distribution and meet demand) and may include structural or systems adjustments.
• Are OOS issues concentrated in one category or format? For example, do food categories within the hypermarket format require more urgent attention than convenience stores and/or non-food categories?
• Look to the Out-of-Stock Root Cause Tree (see fig 5a). Are problems concentrated within a single “branch” of the value chain? For one retailer we worked with, 80 percent of OOS items in stores were OOS in distribution centers (DCs) at the same time, which made tackling the DC OOS inventory the priority. Even knowing that important opportunities were waiting inside the store, focus was given to rebuilding the DCs and strengthening the value chain quickly, including ordering, adjusting daily routines and system parameters, scheduling deliveries and more.

Searching for Root causes

With a clear picture of what and where top problems are occurring, it’s possible to zero in on the core issues that are causing OOS problems to persist—the root cause. Even with optimal replenishment strategies by category in place, ideal OOS levels won’t be achieved if underlying challenges aren’t addressed in each area. While not exhaustive, our Out-of-Stock Root Cause Tree – Primary Risks chart highlights key points to investigate and the common pitfalls of each.

Additional details about each branch of the Out-of-Stock Root Cause Tree can be found in the appendix at the end of this report, however vendor relationships are a particularly powerful area of cause-and-effect to explore. They directly influence OOS inventory across the value chain, yet the service levels offered by vendors can also be very difficult for a retailer to control. Consider the following contrasting examples:

Scenario 1: A family-owned textile company manufactures and supplies clothing for the catalog of a department store. Nearly 100 percent of its billing relies on a single customer, making the relationship a matter of survival. This translates to an exceptional level of service between the supplier and customer— “no shows” do not exist and there is no need to threaten contractual fines; the power of the retailer to dictate terms (or seek service elsewhere) is consequence enough.

Scenario 2: At the other end of the spectrum, a leading beverage company maintains a supply chain so advanced it’s capable of calibrating its logistics network daily. The company can re-plan and remap decisions and deliveries to maximize margins fast enough to choose to not service large retailers (who typically squeeze its margins through volume), and instead focus on smaller retailers, who are at times more profitable.

Ultimately, while every retailer can (and should) control vendor-service levels, the ability to do so is a direct reflection of your commercial leverage.

At the same time, it’s important to know that suppliers have just as much—if not more—to lose due to OOS items as retailers, who can at least offer alternative brands or products. Asking vendors to directly support you can be a cost-effective solution, especially for those in which your business represents scale. There are several possibilities, ranging from submitting purchase orders on a specific day to leveraging market knowledge or inventory databases to forecast demand and replenishment. A supplier may even embed a professional inside a retail location to make sure their products are well-stocked. Some tactics work better than others and some are still being tested, but collaboration always adds value.

See the Out-of-Stock Root Cause Tree again (fig 5b), this time with a focus on the vendor actions that can help each department improve OOS inventory across the value chain.

Among the four most common missing links in OOS management, we’ve left the hardest for last: maintaining control. It may be true that your company needs to “fix” its OOS inventory levels, but once this has been achieved, the mentality for everyone involved must be one of consistency and discipline—repeat, repeat, repeat. This seems simple but is arguably the most overlooked aspect of how people must be continuously involved to ensure lasting results.

As an example, we have unfortunately witnessed the decline of successful OOS initiatives due to a loss of energy and motivation over time. Remember the retailer whose real OOS issue was the employees who didn’t believe in the possibility of change? For the first three months after implementing the employee engagement work front, the company’s OOS inventory levels hit a historic low of 4 percent. Then, as the company added SKUs, OOS items began to rise over the following three months. Fast-forward another six months, which saw more organizational changes and the loss of CEO sponsorship, and OOS levels have since returned to their original high of 13 percent.

On the other hand, for a retail CEO who made improving OOS inventory levels for continuous-stock items a permanent priority (identified through the steps above), an 86 percent reduction has been sustained for nearly three years. Interestingly, this was done by concentrating on the top 3,000 most sensitive SKUs, or those that were most deeply tied to the business’ value proposition.

Further to the challenge this retailer faced, the store holds approximately 12,000 SKUs, with high seasonal and promotional fluctuations that not only increase volume but change every quarter. Since the initiative began, the company has experienced a strong uptick in same-store sales, which they attribute to consistent actions that promote the availability of key merchandise on shelves across the organization.