Assessing and improving the automatic ordering of perishable products: a case study in a major retailer

Lus Miguel D. F. Ferreira (lmferreira@ua.pt) Departamento de Economia, Gesto e Engenharia Industrial, GOVCOPP, Universidade de Aveiro, Campus Universitrio de Santiago, 3810-193 Aveiro, Portugal
J. M.Vilas-Boas da Silva Instituto Universitrio de Lisboa (ISCTE-IUL), BRU-UNIDE, Lisboa,Portugal Diogo Caldeira Estanqueiro Rocha Instituto Universitrio de Lisboa (ISCTE-IUL), Lisboa, Portugal

Abstract
The reported exploratory study aimed at evaluating an automated ordering system for fruit and vegetables within a large retailer. An innovative pilot-test was run in one representative store. During three months, the store manager committed himself to the best working practices and to accept the central computer schedule as mandatory, resulting into: sharp reduction in schedule changes; sales and average coverage ratio keeping Past behaviour patterns and, the waste indicator showing a systematic decrease. These results revealed the need for different forecasting strategies for distinct demand patterns, in order to improve performance, as a practitioner contribution. Keywords: Retail operations, perishable items, materials control

Introduction In times of severe competition the retailers try to address the customers service requirements by offering a broader product range as regards both the number of brands and products (Dhar et al., 2001). The retail sector has spent in the last years considerable amounts of time and money in an attempt to improve its operations/performance so that they could respond efficiently to customer needs (Corsten and Gruen; 2003; Van Donselaar et al., 2005). This has conducted many retailers to introduce automated store ordering systems. The level of sophistication of those systems varies greatly between retail chains and their success depends on the data quality (Van Donselaar et al., 2005). In addition, other authors also call the attention for the need to improve the stores performance as a core issue in the retail sector. Corsten and Gruen (2003) argue that between two-thirds and three-fourths of out-of-stock (OOS) is caused in the store, while one-fourth to one-third are due to upstream causes, and proposed a set of three remedies to effectively address the root causes of OOS: (1) process improvements; (2) improve operational accuracy and (3) improve incentive alignment. These questions are more relevant in the case of perishable products, characterized by high deterioration rates and very short shelf life (Du et al., 2009), where freshness is an important order winner (Van der Vorst et al., 1998). Moreover, perishable products 1

have high demand variability due to seasonality, climate changes and promotions (Taylor, 2006). Furthermore, promotion policies change demand patterns both of the product itself and of other ones that could complement it or replace it. Actually, all these are critical motivations to a major retailer company where automatic ordering is a recent innovation. In spite of purchasing being negotiated centrally, and deliveries being pursued by several distribution centres, the results obtained were below expectations as regards the estimated reduction in both waste and OOS. Central services argue that store managers make too many changes to the automatic orders, which negatively affects the performance of the system. In addition to perishability, short shelf-life and quick deterioration, seasonality impacts both demand and supply of fruits and vegetables in different times of the year, as well as in different days of the week. Moreover, price variation, promotions and competition also contribute to demand instability and so, to forecast inaccuracy. At last, the sponsor presents a broad range of products, sometimes similar, which might generate cannibalism that can also be amplified by promotions. Furthermore, there is randomness coming from changes in climate, consumer habits and macro economy, which cause sales fluctuations in the short term. Thus, the broad topic of this paper concerns the discussion in which way store practices could influence inventory errors and so, the impact that they have in the operational performance of the recent implemented automated store ordering system. Thus, the objectives of this research concern searching for ways to improve the operational performance of an automated store ordering system for perishable products, focusing on fruits and vegetables, in a major Portuguese retailer. A pilot-test was run. During 3 months, the pilot-store manager fully committed himself to the best working practices and he also accepted the central computer schedule as mandatory. Moreover, the way the ordering process works and is organized and also, the understanding of both behaviour and activities are experienced by the researchers through direct participative observation, in real time. Secondary data are also gathered from documents and from the information system. During the pilot-test, there were no significant improvements, despite the store employees had dramatically decreased to change the suggested schedule by the automated store ordering systems. Thus, the key performance indicators controlled by the retailer, that concern the evolution of sales quantities and the average coverage ratio did not change significantly during the pilot-test, when compared, either with the remaining of the year, or with the homolog period, in the previous year. However, the waste indicator has showed a systematic decrease. In addition, the current demand management strategy was found inadequate, once that followed a one size fits all approach. This model could not simultaneously cope with demand variability, seasonality, promotions, and specific uncertainties. Thus, the study of customized demand strategies is proposed as further work to be carried out. The next sections in the paper are, as follows: a literature review justifies the conceptual approach to address the case study, in the next section; after this, the case will be presented; finally, a brief discussion is held and conclusions are extracted. Literature review
The business of retail

This review aims at finding out a working framework to discuss different ways to improve the operational performance of the retail process. Lately, the retail sector has become more competitive and so, its performance had to improve (Corsten and Gruen, 2003). Operational efficiency, customer loyalty and, by 2

the end, profitability might result from improvements in stock turnover and customer service (Ellram et al., 1999). These competitive priorities must be closely aligned with the needs and behaviour of the consumers (Fernie and Sparks, 2004). These authors identify six ways to improve performance in retailer, as follows: (i) higher suppliers control by reinforcing distribution centres (DCs); (ii) increasing efficiency and so reducing stock levels by DCs management; (iii) increasing responsiveness of DCs, promoting smaller and more often deliveries from both suppliers to DCs and DCs to retail stores; (iv) integrated distribution; (v) better return management; (vi) developing partnerships and collaboration. One might conclude that centralization of the operations by the DCs is a key movement towards better performance. This is also supported by Lindon et al., (2004) when they argue for Efficient Customer Response (ECR) as the right strategic framework to achieve global inter-organizational coordination among suppliers, manufacturers, distributors and retailers that is required to improve responsiveness and efficiency. Other authors stress the organization and operation of the retail stores as providing relevant contributes to improve the performance of the supply chain (e.g. Corsten and Gruen, 2003; Falck, 2005). While Broekmeulen et al., (2004) highlight the importance of store management to cost reduction, Falck (2005) argues that it is at the store that the customer makes its final decision and so, this should be representative of the final evaluation of the whole supply chain. Handling costs are the most important of retail costs, weighting around 50% (Broekmeulen et al., 2004). These concern the operational costs, including the labour ones, for moving the materials around in both the stores and the DCs. Thus, employees productivity, operations type, shelf room space, products rotation are a few of their drivers. Falck (2005) also argues that these costs are higher because most of the stores are not properly designed for efficient replenishment. On one hand, if the range is broader and the number of brands is higher, then the ability to satisfy needs and to attract customers is bigger. Thus, more variety might mean increased sales and better results (Dhar et al., 2001). On the other hand, the exponential increase of the number of products may cause cannibalization, more stockouts, more waste due both obsolescence and perishability, higher replenishment time/leadtime, capital investment in lower rotation stocks, higher stock levels, etc. (e.g. Dhar et al., 2001; Boyer, 2006). High inventory levels for high variety products also becomes dear and inefficient due to the significant obsolescence risk, namely for fruit and vegetables (van der Vorst et al., 1998). To sum up, managers must be very careful to make decisions concerning the range of products, especially for what regards perishables. The relevance of out-of-stock According to Corsten and Gruen (2003) OOS may cause both a loss of customers and sales for the store. Average worldwide ratios show that lost sales are around 3.7-4.0%. When OOS happens, 31% of the customers buy in another shop, 26% replace the product within the same brand and 15% postpone the purchase. Only 9% decide not to buy at all. Woelsen et al. (2007) studies the sales lost in bakery products and generalizes to the perishable items the conclusion that the consequences are softer within this context. In a study carried out in three stores, in Netherlands, they find that 84% of the customers would replace by another product the OOS one, 10% would buy it in another shop and only 6% would postpone the purchase. Moreover, Pramati and Miliotis (2008) distinguish between OOS in the store and in the shelf. 3

Corsten and Gruen (2003) also make the point that OOS should had decreased because of the higher use of IS/IT. Surprisingly, studies in FMCG have showed a constant OOS worldwide rate around 8,2%, between 1996 and 2003. Once that 55% of the OOS last more than one day (36% > 3 days) until they get fixed, lost sales are higher for high rotation products (Gruen et al., 2003). All of this stresses the question about the actual impact of computer systems in the performance improvement. Corsten and Gruen (2003) also suggest that profit might increase 5% if stores are able to control the causes of OOS. They also add that the stores are responsible for around 72% of the causes that originate OOS, namely ordering procedures (34%), shelf replenishment (25%) and sales forecast of the store (13%). In addition, suppliers (14%) and distribution centers (13%) are accountable for 27% of the OOS causes. Dubelaar et al. (2001) stress the critical role of people, as regards high cost control, to avoid both forecasting and ordering errors, as well as in efficient shelf replenishment. Furthermore, Falck (2005) suggests the following actions to reduce OOS: planning improvement, better ordering, aligning replenishment and demand. On the other hand, Pramatit and Miliotis (2008) argue for the contribution to reduce OOS in 50% of a collaborative process between the store and the supplier, where the latter makes a suggestion which is up to the store to confirm or not. In spite of the increase in IS/IT use in demand management, OOS has remained a problem. This provides room for questioning the role that the store might play in reducing OOS. Automated Store Ordering Systems The centralization of the ordering process by using computers has also been spreading to the perishables lately. There still are companies that allocate these activities to the store employees (Falck, 2005). However, some authors argue that centralization improves the product flow between the distribution centre and the stores (Garry, 1994). Garry (2004) and Falck (2005) have defined three ordering centralization categories, as follows: (i) manual, when after a brief check both in shelves and backstage, the intuition and experience of the store manager define the needs and the orders; (ii) assisted, if computers located at the headquarters provide statistics, forecasts and previous orders, or may even generate an ordering suggestion per store that should be locally reviewed; (iii) automatic, if the headquarters computers generate an order automatically accepted by the store, or perhaps, the amounts of a few items are reviewed at the stores. A higher level of ordering automation and centralization has resulted into an increase of the retailer negotiation power over their supply chains (Fernie and Sparks, 2004). Falck (2005) has also pointed out other benefits, such as: less time wasted in stores, less human dependence, orders more adequate to demand, better balancing of the DC operations, less OOS and alignment of supply with real time information. As regards perishable products he stressed the reduction of the average stock level in the supply chain as a way to increase the freshness and decrease the waste. Despite pointing out these benefits, Falck (2005) is also the very first one to discuss them as utopic, because many operational problems might not be properly addressed by computers. This reinforces the interest of the research gap concerning the assessment of the benefits of automated store ordering systems. Forecasting errors (FE) that highly impact automated store ordering systems performance (Terwiesch et al., 2005) may result from data being aggregated from several stores and different seasonal patterns. Then, store managers may try to adjust orders by using their own judgment (Van Donselaar et al., 2006). FE may also be 4

originated in mistaking sales figures coming from sales replacement or loss due to OOS. Projection of this data in the future perpetuates deviations between actual demand, POS records and sales. On the other hand, store managers may also change automatic orders to balance the materials flow during the week, or to increase order quantity and reduce delivery frequency, to attempt to smooth peaks and troughs in resource use. This operational practice increases average stock level about 10% (Van Donselaar et al., 2006) which causes an even bigger prejudice, if the products are perishables. Finally, inventory errors (IE) may affect more than 66% of the products, reduce profit in about 10% and cause OOS in 16% of the products (Raman et al., 2001). Inventory errors might come from: (i) insufficient data accuracy (Nachtmann et al., 2010); (ii) cash point and scales registration errors (Tortola; 2005), the later including no registration of waste; (iii) pilferage; (iv) differences between DC deliveries and ordered quantities, which might achieve 25% (Raman et al., 2001). Case study in a large retailer The sponsor of this research is a leading retailer company in Portugal that owns many stores both super and hypermarkets spread all over the national territory and also abroad. The described pilot-test was carried out in a store, chosen by the sponsor, as representative in which concerns, size, area, localization, population and product assortment. The perishables department was addressed, namely fruits and vegetables, where product variety is high. The ordering and replenishment of the stores were centralized. The suppliers of fruits and vegetables did not provide a direct delivery to the stores because this was a task allocated to the distribution centre (DC). The Automated Store Ordering system (ASO) for the perishable products implemented by the sponsor was adapted from other sectors and, it did not follow any scientific model for sales forecasting. Thus, the scheduled order quantity for each store was based on the stock level set by the store manager, on the on hand stock for the store and, on the released orders not yet delivered. The current rate of change of the ASO schedule done by the fruits/vegetables store manager was about 70%. Nevertheless, the company has argued that the ASO resulted into OOS reduction, in the store. However, this idea was not supported on data, once that there was no systematic OOS control being pursued. On the other hand, the average stock level and the waste quantity were not reflecting the expected advantages of the ASO. Advanced explanations were twofold: - Firstly, according to the central planning department, inventory errors occurred in the store had a serious impact on the schedule accuracy; as a result, stores attempted to correct this situation by changing the schedule coming from the ASO system. - Secondly, according to the stores, the used forecasting method was not adequate to the several different demand patterns causing the systematic need to change the ASO schedule by the stores. The carried out pilot-test attempts to develop understanding about the way store practices could had influenced inventory errors and so, the impact that they might have had in the operational performance of the automated store ordering system. So, the pilot-store manager fully committed itself to the store best practice procedures of the company that concerned the reduction of the inventory errors. Moreover, it was explicitly demanded to the store manager to avoid changing the centrally scheduled quantities, letting the ASO system to be fully in charge of the operation. The pilot-test 5

lasted for three months and, the data collect during that period were analyzed in comparison with the related ones from the homologous period. The pilot-test occurred in a store located in Lisbon with an area above 1000m2. The following working best practices were pursued: (i) Inserting in the computer system the Delivery Notes, daily; (ii) Inventory correction, if errors were found out, also daily; (iii) Inserting the right product parameters in the ERP, e.g. the displaying stock per product; and, (iv) Daily registry of each product waste. These best practices are aiming at reducing the differences between the actual and the administrative stock levels in the ERP. In addition to the commitment of the store manager to avoid changing the centrally scheduled quantities, the ASO was not modified at any level, model or method. In this way, the objective of quantifying the impact of the inventory errors in the automated ordering process was not compromised. Finally, the observation of the daily activities carried out by the store employees resulted into the collection of the primary data concerning the definition of the store working environment, which, in turn, enabled the understanding of organization structuring, operation and related performance. Secondary data coming from databases and documentation were also gathered and considered. Pilot-test results concerning the working best practices in fruit & vegetables section The percentage of changes promoted by all the store managers was depicted in figure 1. In addition, Week X sets the start of the pilot-test, i.e. by the vertical asymptote. Before Week X one might confirm a very high level of changes, i.e. 73% of all schedule suggestions are modified, in average. This might have clearly impacted the expected benefits from the ASO. The detail of the analysis of the changes showed that 41% of the changes concern one distribution unit, i.e. the product store pack, while only 18% concern more than five distribution units. Figure 1 also showed that following the working best practices and coping with the schedule have caused a sharp reduction in the percentage of changes, after the pilot-test having started in the pilot-store, i.e. from 73% to 6%.

Figure 1 Weekly changes of all the schedule suggestions from the ASO (%) in the pilot-store

It might be added that the level of distribution units that were affected also decreased in the pilot-store, as depicted in figure 2. Figures represent the average daily number of affected distribution units. After the pilot-test having started, namely between X+4 and 6

X+8, a sudden increase was spotted in both figure 1 and figure 2. This was mainly due to the impact of promotions that were carried out in that period. One might conclude that the percentage of schedule changes decreased sharply (vide figure 1) and that the changed total number of distribution units is significantly smaller (vide figure 2), after the pilot-test having started. However, it was not possible to say if the decrease on the changes was due to (i) reduction of the inventory errors, and so a more adequate schedule, or (ii) more care placed on the local changes to the schedule, and so a trust increase on the ASO, from the store manager. Nevertheless, it was expected an improvement in the performance indicators, at this point.

Figure 2 Weekly changes of the distribution units in the pilot-store

Pilot-test results concerning the performance indicators The behaviour of the performance indicators was analysed in order to assess the impact of the pilot-test. The ratio between current sales in the pilot-store and sales in the homologous period was depicted in figure 3. The figures concern both perishables and, fruits and vegetables.

1Figure 3 Current versus homologous weekly sales ratio, for perishables (all stores) and
for F&V (pilot-store)

It might be concluded that this ratio was not impacted by the pilot-test. In fact, the value of the ratio was around 100%, which shows no difference between the sales figure after the pilot-test that took place and the sales in the homologous period of the previous year, which occurred within normal operational conditions. The ratio progress before and after the pilot-test also shows continuity. Moreover, the progress of the ratio for fruits and vegetables (F&V), in the pilot-store, was very similar to its progress for the whole set of perishables, in the whole universe of stores, which were not affected by the pilot-test. The finding that the sales ratio has shown no impact might come from the fact that out-of-stocks might not necessarily mean lost sales for the store. This is because there is a higher replacement rate in perishables (Woelsen et al., 2007), which might lead to the customer purchase of another similar product. The reasoning followed for depicting the waste indicator was similar to the sales one. Thus, the current waste values were compared with the similar ones from the previous year (homologous periods). Figure 4 also included two lines, one for the perishable and the other one for F&V. From observation it is clear that the waste ratio for perishables (all stores) are consistently higher than the one for F&V (pilot-store).This gap might be explained by the compliance with the working best practices, during the pilot-test that may have caused a reduction in inventory errors.

Figure 4 Current versus homologous weekly waste ratio, for perishables (all stores) and for F&V (pilot-store)

The cover rate was used as a proxy to the weekly average inventory level. So, the cover ratio was computed by considering the final stock level and the sales in the previous seven days. Figure 5 did not register any reduction in the cover rate during the pilot-test and, specially, after the seasonal promotions period. Actually, the cover rate significantly increased during the seasonal promotions. However, this is natural because in such high uncertainty situations managers tend to add up an excessive allowance to stocks. In addition, by looking at figure 5, it should be expected a reduction in the average coverage ratio, as a direct consequence from the observed systematic decrease of waste. Since, this fact was not observed, it might be advanced, as a preliminary explanation, the lack of adequateness between the actual demand and ASO estimates. 8

Figure 5 Average weekly cover rate

Conclusions The pursued pilot-test aimed at assuring that the best practices regarding store procedures were followed, and also at avoiding changes to the ASO schedule. In fact, changes to the ASO schedule were clearly reduced, as regards both their number and size. Moreover, the accomplishing of working best practices and the commitment to the ASO schedule enabled the smoothing of the orders flow. Furthermore, the waste indicator has showed a systematic decrease, during the pilottest, which might have resulted from a reduction in inventory errors, as a consequence of pursuing working best practices. As regards sales, they kept their conformance with the behaviour pattern that had occurred until the start of the test. This might come from the expected high replacement level existing in perishables. At last, average coverage ratio maintained its behaviour pattern in line with what had occurred, before the start of the test. However, it was expected that, since sales had remained stable, the cover rate should have reduced, contributing to the fruits and vegetables freshness. This provides evidence of misalignment between the actual demand and ASO estimates, which raises a further question about the adequateness of the methods and models used for computer forecasting. In this way, increasing the demand management effort and improving forecasts look relevant actions to consider as further work. Thus, to run a test on the use of different forecasting strategies for different demand patterns, e.g. seasonal, promotional and regular products might generate a schedule closer to the needs of the store. Perhaps, another way out to pursue further work could be the to revisit the design of the pilot-test and make it more robust, as regards, an enlarged duration, carefully choosing the test period in order to purposefully include or to exclude special seasons or events, including more stores, cross-comparison with other perishables, e.g. fish or meat, participation of more stages of the value added chain, improving critical store procedures, e.g. waste registration, automating at least part of the data collection in the stores, systematic measurement of OOS, among others. To sum up, the operationalisation of the pilot-test is suggested as a relevant approach to be followed in future investigations. It is argued for this exploratory process as a significant contribution to research. 9

It also argued that this study had contributed to the practitioner, since that it helped the sponsor to improve the operational performance of its automated ordering system for perishable products. References
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