DRM5 - P4720_RETAIL OPERATION 2_GMROI and ABC ANALYSIS

Notes : By Swapna Pradhan (Retailing Management 2nd Edition)

Gross Margin Return on Investment (GMROI) Concept
Many retailers use the performance indication of gross margin % (after mark down) and weeks cover to measure performance. While the gross margin % is a measure of the relative profitability without taking into account, the costs of stockholding investment. Week's cover tells us how effectively, the stock was turned without informing us about the relative profitability. What is needed is a measure that combines these two indicators into an indicator of real profitability.

GMROI is calculated as gross margin/average inventory cost
GMROI is a merchandise planning and decision making tool that assist the buyer in identifying and ecaluating whether an adequate gross margin is being earned by the products purchased as compared to the investment in the inventory required to generate the gross margin. It focuses the buyer's attention on return-on-investment rather on sales as a basis for the merchandising decisions. The focus is on SKU's (stock keeping units) of each individual products rather than department totals and it helps identify product "winners" and core products.
Product winners are those products which perform well, which boost profitability and are the best-return-on-investment products. Core products on the other hand, are the buyer's list of existing winners that can never be out of stock. They're the mostvaluable products in terms of high profitability and their excellent return on investment.

Gross margin is the value of sales less the cost of goods sold. Increasing gross margin entails increasing the sales revenue or reducing the cost of the merchandise. The obvious way to increase sales revenue is simply to increase prices. Unfortunately, in a competitive environment, things are not so easy. The recommended approach is to avoid products that are known value items or those that your competitors focus on for price comparison. Merchandise managers who can effectively inter-relate gross merchandise management and inventory turnover management will be able to achieve high performance results.

ABC Analysis
Pareto (ABC) Analysis (a.k.a 80/20 rule)
ABC Analysis rank orders merchandise by some performance measure to determine which items should never be out of stock, which items should occasionally be allowed to be out of stock and which items should be deleted from a stock selection. An ABC Analysis can be done at any level of merchandise classification , from an SKU to a department.

ABC Analysis utilises the 80:20 priciple, which implies that 80% sales come from 20% of the products. The first step in the ABC Analysis is to rank order SKUs using one or more criteria. The most important performance measure for this type of analysis in contribution margin.

Contibution margin = net sales - cost of goods sold - other variable espenses.

Other variable expenses can included sales comissions.

( l'll include the pareto graph in print form)
The next step is to determine how items with different levels of profit of volume should be treated differently. the buyer defined as A those time that account for 5% of items and represented 70% of sales. B items represent 10% of items and 20% of sales. C items account for 63% of the SKUs but contribute only 10% of sales and D represents those items for which there were no sales in the past seasons.