Ways To Reduce Inventory and Improving Service

This post is originally written by Chuck LaMacchia and the link to the original post is here.

Ten Ways to Reduce Inventory, While Maintaining or Improving Service

“Our competitor turns its inventory six times per year, but we’re only at four. We should be able to turn our inventory six times as well!” says the boss. “And get it done quickly!” From that, the inventory reduction crusade is set into motion. What’s the easiest way to lower inventory? Yep, slim down the stock on the medium and high movers. The inventory gets reduced, but expedites go up, and service goes down. You achieved six turns, but at what price?

Why does this happen? Because inventory reduction gets managed in a vacuum. Trying to control inventory independently of the variables that cause it is a no-win strategy. Inventory is a dependent variable based on the inputs of many factors including: demand and demand variability, supply lead time and lead time variability, supply chain design, manufacturing capabilities versus customer purchase characteristics, transportation modes, and desired service levels. In order to achieve sustainable inventory reduction while maintaining or improving customer service, the variables that drive inventory must be improved. Too often, inventory is adjusted to meet financial goals, without corresponding improvements in the variables that drive inventory levels.

Why is inventory the target? Because it shows up directly on monthly and quarterly financials. There’s no line item for supplier lead time, forecasting accuracy, or setup cost reductions. Inventory is usually a big number and in plain view to executive management and the shareholders. It is also expensive. Generally it costs 20% to 40% of the materials cost or COGS per year to store. Some of this cost is based on the value of the product (cost of money, taxes, insurance, scrap); the rest is based on storage (warehouse space, maintenance, utilities, equipment).

Here are 10 approaches to lowering your inventory. The key to sustainable reductions is to focus on the input variables. But remember, the overarching goal of the organization is to maximize long-term profits. Any attempt to reduce inventory should be in harmony with this goal.

Number 1: Pareto your inventory

Gather sales and inventory in dollars by item. Construct two Pareto charts. For the first chart, classify your items into A, B, C, and D (80%, 15%, 5%, 0%) based on sales. Then calculate your inventory for each group. Do your A items represent 50% of your inventory? If not, you may not have enough inventory for these items. A significant amount of inventory on low demand items may indicate problems with product run-outs, transitions, engineering change management, and managing obsolete inventory.

For the second chart, classify your items based on inventory. Then calculate the sales for each group. Again, do your A inventory items represent at least 50% of your sales? If not, inventory may be out of balance. These charts are an excellent way to begin looking at your inventory. After gathering this information, you have the makings of a supply chain data warehouse for further analysis.

Number 2: Reduce replenishment lead times

This can be important for raw material lead time or lead times between your internal tiers of distribution. Break this lead time into three components: the review period, manufacturing time and transportation time. The review period is the time from when the need is identified to when the order is sent upstream. The manufacturing time is the time from when the order is sent until product is available to ship. The transportation time is the time it takes from availability to ship until the material is received and available for use at the next location. Find out how long, and how variable, these three components are.

Are there any ways to reduce the review period? Must you wait until the end of the month to place an order? Long review periods may be driven by system limitations; can these limitations be overcome? Can weekly cycles be reduced to daily? Frequently, a supplier will have minimum order requirements that forces batching of many products with replenishment needs. Can this minimum be reduced so the order can be sent sooner?

The manufacturing time includes a review period for your supplier on top the actual manufacturing time. Generally, the review time is longer than the manufacturing time. Can you work with your suppliers to help them reduce their lead times? Understand their constraints. Possible solutions include: advance notice of upcoming needs, a longer-range forecast, and fixed cycle replenishment.
For transportation time: use faster modes of transport or relieve bottlenecks at shipping/receiving. Shorter and less variable lead times require less inventory. If you carry safety stock, the reduction will be the square root of reduced time. A 25% lead time reduction equals a 13% safety stock reduction. Any transportation reduction also creates an additional direct reduction of transit stock. A day less in transport equals a day less inventory in your pipeline.

Number 3: Revise order cycles/quantities

Smaller and more frequent order quantities translate into less inventory. Is there sufficient capacity to increase changeovers required by more frequent cycles? Can capacity loss be offset by running low demand parts less frequently? Will there be any loss of transportation efficiencies by moving to smaller batches? What does this mean to the labor workload at the distribution centers? Determining order frequencies is one of the key variables of your supply chain. It can affect nearly every aspect of your supply chain. You must have a thorough understanding of your supply chain costs and capabilities before embarking on this strategy.

Options include: reducing setup time and costs, re-evaluating the cost of holding inventory, understanding warehouse storage procedures, and understanding labor, transportation, and inventory cost trade-offs. While the goal is reducing inventory, you may discover that the opposite is true; increasing order quantities on some items may yield substantial overall savings.

Number 4: Improve your forecasting

Many people don’t like the “F” word. But let’s face facts – every make-to-stock or purchase-to-stock company forecasts, admittedly with differing degrees of formality. Even if your production rules are “make what we sold yesterday” or “replenish up to x,” a forward-looking view of demand is implicit in determining how much to buy and keep on hand. While everyone knows the forecast will always be wrong, it is possible to become less wrong. Often, improvement efforts start with the mathematical forecasting method, e.g., – exponential smoothing vs. regression vs. Winters. That should actually be the last step. As the saying goes, “I’d rather be approximately correct than precisely incorrect.” Think of forecast improvement in three segments:

  1. Are the input data the relevant drivers of demand? If marketing or sales are influencing demand through pricing and promotion activity and you don’t take this into account, the forecasting formula doesn’t matter. You must understand and collect the inputs that drive demand.
  2. The data must be accurate. If you forecast from shipments, but shipments don’t reflect true customer order quantity and dates (based on unavailability and backorders), the shipment data are tainted – garbage in, garbage out. Get as close as possible to true demand.
  3. Review the forecasting method. If you have the right inputs and the data is clean, basic forecasting methods will produce good results. If you have limited resources, spend the effort on the first two steps to achieve the best results.

Number 5: Eliminate obsolete stock

How much obsolete stock is kept on hand in your facilities? Is it being kept because no one wants to own up to it? Or is it because the company can’t “afford” an expense hit this quarter to write-off the obsolete stock? Ridding your warehouses of obsolete inventory is a good policy, and good operating policies will result in good long-term financial results. Here, accounting rules can drive poor operating rules. If you don’t address obsolete stock now, it will just continue to grow. So, own up to obsolete stock, get it off the books, and use that warehouse space for productive inventory.

Number 6: Centralize your inventory

In total, distributed warehouses require more inventory than centralized facilities. The key driver of the increased inventory is safety stock. The rule of thumb is: As the number of facilities increase, the amount of safety stock increases by the square root of the facility increase. Increasing facilities by a factor of four will increase safety stock by a factor of two.

If centralization is possible, a reduction in order quantities may be possible. By ordering to only one location, you may be able to increase your order frequency, thus lowering your overall order quantity.

While you may have the ability to centralize some items, large-scale centralization may just not be possible. The centralized vs. distributed analysis is a major supply chain decision and requires extensive analysis from customers’ requirements to suppliers’ capabilities. However, you may be able to take advantage of centralization on a piecemeal basis. Can you hold most safety stock centrally and allow daily replenishments to distributed facilities? Can spare parts be held centrally and expedited in emergency situations? Will customers accept different lead times on some items, thus allowing centralization?

Number 7: Lower your service level

Heresy, you say. Probably, so let me re-phrase this one: Understand your customers. What kind of service, in terms of lead time and availability, do your customers require? For example, do your customers need their entire order at once? Could you lower inventory by being able to ship half the order immediately, half later this week? Do customers request short lead times just because they can, not because they require it? The best way to meet your customers’ needs is to understand their needs. How do they use your product? When do they know that they need your product? Understanding their needs will help you meet them. However, in today’s competitive environment, you just might find that you have to shorten lead times and increase availability just to keep up with competitors. Whatever the case, understanding your customers’ needs is critical to your success.

Number 8: Reduce SKU counts

Do you have customer-specific SKU’s? Are identical products packaged and stored differently? Postponement is the act of pushing customization until the latest possible moment. If you can store the base item and only customize it when you have the order, you can significantly reduce inventory. This may require packaging or assembly operations at the distribution center, but the savings may well be worth it. You may even be able to respond more quickly to customer orders.

Is there substantial part/SKU proliferation? Do you stock the 2-count, 4-count, 6-count and 8-count packs? Working with sales and marketing, you may be able gain agreement that eliminating one of the packs will not affect sales at all. Any part reduction will help to free up space in warehouse, ease production planning, and reduce inventory.

Number 9: Reduce variability of demand and supply

A tough task, you say. Let’s look at some ways to reduce demand variability. Is it possible to reduce or eliminate large end-of-period buys (that were only to meet quotas)? Breaking this end-of-period addiction is very painful. It will require a quarter of two of decreased sales and profits as customers use up their excess inventories. Also, managing the resultant slack in the supply chain is costly. This is an extremely difficult habit to break and requires support all the way to the top of your organization.

Are there any other ways to smooth customer orders? Study the largest spikes in your historical demand. What caused them? If you can alter these patterns in the future, your volatility will be much less. Or, can you plan them separately if they are driven by discrete events?

On the supply side, do you have suppliers that can commit to tight timelines? A longer average lead time with less variability may be better than a short average lead time with a lot of variability. Generally, you will have to plan for the long end of the spectrum, anyway.

Variability is highly correlated with lead time; shorter lead times generally have less variability. Identifying the volatility and discovering the cause will reduce the variability in the supply chain and lower inventories.

Number 10: Align your metrics

This is a critical (and difficult) step. Does your organization have departmental metrics that are at odds with each other? You might not think so. Even “good” metrics can produce sub-optimization by department. For example, the plant manager gets his bonus based on efficiency. The lower the unit cost, the better, right? The plant manager likes long stable runs so he can get his equipment humming. The inventory planning manager gets his bonus based on finished goods inventory. He likes low inventory in the warehouses. Good for the organization right? And the sales manager wants everything in the warehouse so when he sells that huge new order, everything is available, because his bonus is his commission. Increased sales, good for the organization right?

What happens at our hypothetical organization? The plant manager disregards short production cycles and produces excess stock to get his utilization up. The inventory manager won’t accept the goods at the warehouse because he doesn’t want finished goods inventory going up, so it gets stored at the plant or in trailers. The sales manager inks a deal but the stock is not available at the warehouse, so it gets expedited from the plant. The bottom line: everyone gets his or her bonus but the supply chain is anything but efficient. Beware the metrics – what people get paid to do, they will do.

In conclusion, inventory is the measuring stick of your entire supply chain. It reflects the agility of your supply chain. The only sustainable way to reduce inventory is to improve your supply chain processes. To do this, your organization needs an end-to-end view of the entire chain. You will need to begin breaking down the “silos” across your extended supply chain with communication and understanding. Start internally and then progress upstream and downstream. Finally, remember that supply chain management is a process; there is no finish line.

Good luck!

Top 10 List review:

  1. Pareto your inventory
  2. Reduce replenishment lead times
  3. Revise order cycles/quantities
  4. Improve your forecasting
  5. Eliminate obsolete stock
  6. Centralize your inventory
  7. Lower your service level
  8. Reduce SKU counts
  9. Reduce variability of demand and supply
  10. Align your metrics

How the visibility budgets are used for price undercutting in FMCG?

If you speak to any Territory Sales In-charge or Manager (TSM) of a large FMCG company, they are going to mention one huge problem called price undercutting that affects their daily work. In an earlier post, I have written about how the wholesale trade leads to price undercutting. In this post, I am going to write about how the Territory Sales Persons use the so called ‘visibility budgets’ for undercutting practices.

Wikipedia defines price undercutting as: ‘Price cutting, or undercutting, is a sales technique that reduces the retail prices to a level low enough to eliminate competition‘. In most cases (more than 95%) the competition is not with a competitor’s product, but it is the competition between a company salesman and a wholesaler selling the same branded product at different prices.

Let’s understand this with an example. Let’s say there is a brand X of soap which the TSM is supposed to sell at Rs.32 per piece to the retailer. Let’s say, the area allocated to this TSM is adjacent to a big wholesale market called Bhindi Bazaar. There are twenty retailers distributed across his area and some of the retailers are at a stone’s throw distance from the wholesale market.

So, when the TSM goes to the retailer, the TSM realizes that the nearby wholesaler is selling at a very reduced price. Typically, the conversation between the retailer and the TSM goes like the below:

TSM: Naya scheme aaya he, aap bees pete (20 cartons) lelo… itne price mein milega aapko

Retailer: Kitna padega? Rs.32?

Retailer: Saab, Bhindi Bazaar mein Rs.26 per piece mein mein mil raha he (single carton mein bhi)

So, the TSM thinks that he cannot compete with the wholesaler’s undercutted price. The TSM calls the Area Sales Manager (ASM) or his supervisor and tells him the problem.

TSM: Rate ka problem he Sir

ASM or Supervisor:  Mein samajhsakta  hoon… per manage karlo

ASM or Supervisor: Aapka monthly target se shortfall hora hein

So, the TSM realizes that he is not going to get much help and he has to reach his monthly target by any means.

The TSM uses the visibility budget to get out of the problem

Generally, FMCG companies put up some display material or place their product very attractively in the shelves or as separate displays in the retail stores. The company pays a certain amount of money to the retailer for doing so. The TSM gets a certain budget to pay the retailers to place or stick the brand display material. Typically, the price for a shelf in a retail shop may range from Rs.300 to Rs.1000 per month. Generally, companies buy 1-4 shelves and pay the respective money per month to the retailer.

The TSM uses this money to reach his sales targets instead of giving it to the retailers. In our example, as the wholesaler is selling at Rs.26 per piece, the TSM will sell the stock at Rs.25 per piece (Re.1 less than the wholesaler’s price), but tells the retailer to give the bill at Rs.32 so that the company cannot find out about his undercutting practice. The TSM reaches his monthly target through price undercutting.

So, what happens to the display material of the company?

All the display material provided by the company will be placed in the TSM’s house and will probably be used by his son for making paper rockets.

What happens during the visibility audits?

FMCG companies also do some visibility audits or sometimes the brand guys would like to visit the field for some reason. Suddenly, the TSM will come to know that tomorrow morning there is going to be an audit of the display material. Within a few hours, the TSM and his salespersons will place or stick the display material in all the stores or a subset of stores where the audit is going to happen. They tell the retailer that they are going to remove it tomorrow and it is only for one day. Most retailers don’t mind it.

On the next day, when the auditors come and check, they find everything to be fine and they go back and send appreciation mails that this area is 100% compliant and that the TSM is doing a brilliant job. On the next evening, the TSM tells his salesperson to remove all the display material.

This is how the TSM achieves his sales target through undercutting practices. It is important not to blame the TSM completely but to understand that the origin of the problem is mainly due to large wholesalers. The sales teams do talk to the wholesalers and fix their prices or sometimes they solve the problem by re-allocating the markets.

The big danger in all this process is that the retailer is getting used to this practice, and it will impact have a negative impact on the brand in the long term. Nevertheless, price undercutting is a harsh reality of sales in the FMCG world.

Wholesale market in India

Wholesellers are none but middlemen who buy products from distributors (wholesale/retail) and sell them to retailers. In most cases, the retailers come to the wholesellers to buy products to replenish their stock. However, wholesellers may also sell to end consumers, but such sales are minimal.

In the Indian FMCG market, we have broadly two types of wholesellers:

1. Modern Wholesale stores such as Metro, Wal-Mart BestPrice, etc.


2.  The neighbourhood wholesellers around the streets in India


Wholesale distributors buy in bulk (high volumes) bargaining low prices from manufacturers. Wholesellers in turn buy products in demand (what retailers ask for?) at low prices from wholesale distributors. Because of this reason that wholesale distributors are bulk buyers, it is generally seen that wholesale is cheaper than retail. But, it also depends on how many middlemen it passes through, as each middleman adds his margin to the selling price.

What’s in it for the retailer?

Few reasons why retailers buy from the wholesellers:

  • No direct distribution of a brand to their stores
  • Low margins by distributors
  • Direct distributors dictating terms
  • Better deals at wholesale
  • To be aware of the high selling products and brands

Retailers also face some disadvantages in buying from wholesellers:

  • Buying goods on immediate cash
  • Transportation costs of the goods
  • Wholesellers may not take back the unsold inventory/stock

What’s in it for the manufacturer?

The wholesale channel helps the manufacturers achieve sales from markets where they are not directly able to handle retail sales and their shipments. In a country like India, where 95% of the retail environment is unorganized, and spanning across millions  of small stores, it is impossible to reach all the stores directly through your distributors.

Most companies will have strong direct distribution in cities like Mumbai, but as you go deep into India, the dependence on wholesale indirect channels increases. Most top selling brands and categories have a good amount of wholesale component. For example, a brand which is selling in Pan-India (across the regions in India) may have a wholesale component ranging from 20% to as high as 50-70% depending on the category/brand’s dependence on Rural India. It is obvious that most of the sales in Rural India happen through wholesellers. In Rural India, you will have strong wholesellers for every group of villages or in the nearby town, where retailers go and replenish their stocks.

Manufacturers would always like to have a higher contribution of retail sales to their overall shipments, as this helps them directly to control the nuts and bolts in the operations such as trade promotions and schemes, in-store visibility, relationship with retailers, pushing and increasing their assortment within the stores, maximising profitability, increased visibility of their sales, etc. The top FMCG companies are driving their direct distribution in Rural India as they mine the Gold at the Bottom of the Pyramid.

How promotions help in range management issues?

Product Range Management

A product range is the total product offering expressed in terms of width and depth. The width of a product range depends on the variety or number of types in a product category. The depth of a product range refers to the amount of choice offered in terms of product and brand variation within a product category.  A product range with a lot of depth allows you to cover a range of price points. Similarly, the width allows providing a great variety and choices to the consumer with line extensions.

Brand Extension: The brand Rasna extended into another category like packaged juices.

Line Extension: The brand Maggi launched new flavours of Maggi. Here Maggi is still in the same category, but the variation comes within the offering. Line extensions are not necessarily in flavours, but happen in any of the product attributes.

Grammage Range Extension: When Surf Excel extends its Grammage range. Earlier it used to launch 50 gm and 100gm, and now it launched a 20gm and 250gm. Also, remember most Grammage extensions are considered as line extension.

How promotions help?

For example, let us suppose there is a biscuit company XYZ in India which is a very big brand. XYZ currently offers its packs in 90 and 150 gm packs. The challenge it faces in North India is from local competition. There are a few strong local players who offer more volumes at low price points. The local companies offer very large pack sizes and doing very well. The consumer behaviour in the North India shows that people tend to buy large packs, and generally don’t prefer to buy small packs.

Challenge1: The Company XYZ doesn’t have production capacity for large packs.

Challenge2: It is very difficult to create trials when consumers tend to buy large packs.

So, the company decides to have a two-pronged approach:

  1. Give a rider promo (give your small pack biscuit free with another category) to induce trials.
  2. Introduce large combo-packs to attract the large-pack buyers

To give a rider-promo, is to give a product with another popular product based on the target consumers you want to reach. Marketers ask the question: Which is the product in my existing portfolio that reaches the maximum target group of the new biscuit product? This will help them leverage the existing distribution. If there is no product that is present in your existing portfolio then you may negotiate with other companies who operate in similar categories.  Though there are other considerations, leveraging the distribution is one of the most crucial factors in a promotion, if the intention of the promotion is to induce trials. Because one of the most important factors to create trials is that the product should be present in the stores.

Deodorants and the launch of ‘Sure’

According to newspaper reports, deodorants and fragrances market in India is more than Rs. 10,000 million in 2010. No one could have imagined that deodorants would become such a huge market in India. It required a monumental marketing effort to convert people from an old to a new way to meet a primary human need.

Rexona – the first deodorant in India

In the mid 90’s, Hindustan Unilever (HUL) decided to launch its global deodorant brand ‘Sure’ in India under the brand name ‘Rexona’. Rexona was one of the first deodorants launched in India and was available in roll on, sticks, and aerosols. Though Rexona was a major player in the category, over the time Rexona as a brand lost its way, with a lot of competition from the grey market in deodorants, positioning confusions, and inadequate support from HUL. As a result, Rexona was tapered and its deodorants were slowly phased out from the market.

It is observed that women in this segment have fewer options and much fewer options from big brands. Though there are a couple of brands like Fa, Santoor, Yardley, and Garnier, there is no big brand like ‘Axe’ is for men. As a result, there is an opportunity to create a big brand catering to women in this segment.

Launch of the global brand ‘Sure’

With this opportunity, promising growth rates, and the evolving consumers in India, HUL has launched its leading international brand ‘Sure’ in India. However, as mentioned, Sure was earlier available to the Indian consumers under the brand name ‘Rexona’. The brand ‘Sure’ promises ‘No Paseena’ and provides long-lasting unbeatable protection against sweat and odour keeping the skin, dry and fresh all day long. It is positioned as “stops sweat” rather than as a fragrance. The Sure anti-perspirant range in India was launched in early 2010, with products for women in two variants – Passion Dry and Free Spirit. Later this year, Sure has launched its mens range.

With this launch, HUL is looking to build anti-perspirants as a new category in India. HUL is conducting a lot of consumer education and brand building activities for the brand Sure. HUL is looking to serve multiple consumer segments and build a master brand with the launch of Sure. HUL with the launch of Sure is looking to:

1. Address the void of a big brand in the women segment
2. Take advantage of the growth of the category with two master brands
3. Enter and build a new category, and not to leave any scope for competition
4. Take share from the abundant number of grey market products and private labels
5. Increase revenues and share from the deodorants basket
6. Counter increasing number of new entrants and “me-too” players in the deodorants segment

This seems like a safe bet for Unilever as it gives advantage on both the fronts – growth of female deodorant segment and entering a new category – without disturbing the market of Axe. Apart from building its own niche as anti-perspirants, it is expected that the brand will take away some share from the private labels, and the smaller brands. HUL is aggressively pursuing focused brand building activities, and Akshay Kumar and Asin endorsing this brand will definitely help take it to the masses.

Consumer dynamics in deodorants

No doubt people in both rural and urban India are becoming more and more conscious about their personal hygiene. But, the Indian consumers need a lot of education about anti-perspirants, as most Indians still buy a deo for fragrance. Most consumers in India still use deodorants as ‘fragrances’ on their clothes rather than on their skin. Brands like Axe are bought both for its fragrance and its odour reduction. With these challenges, the success of this new category requires some fundamental changes in consumer behavior and consumer dynamics. However, HUL is not new for developing new categories and altering consumer behavior.

With more focus on ‘blocking sweat’ benefit, the brand Sure is in danger of being perceived as not for office-going people who sit in air-conditioned offices. It might be more appealing for people from the humid regions, people who face the problem of excessive sweat under different situations like travelling, etc. In my view, not many people will have the need to stop or block sweat, and definitely not throughout the year. This puts the brand in danger of becoming a seasonal brand. Broadly there are four types of consumers in this space:

1. Type 1: Consumers, both men and women, who are looking for anti-perspirants in specific
2. Type 2: Consumers who are suffering from excessive sweat and are dissatisfied with deodorants
3. Type 3: Consumers who are looking for an established deodorant brand for women
4. Type 4: Consumers, both men and women, who are new to the deodorant category

While the Type 1 and Type 2 consumers will look for the functional benefits of the anti-perspirants, the Type 2, Type 3 and Type 4 consumers will look for the fragrance benefits of this category. It is interesting to see if the consumer will evaluate the brand based on its fragrance or the consumer has evolved to understand anti-perspirant as a stand-alone benefit. It could well happen that the larger base of consumers would initially buy Sure as a branded deodorant for its fragrance, and slowly then adapt to its functional benefit as an anti-perspirant. Also using Sure, it will be much easier to bring in new consumers into the deodorant category, than educating consumers and changing their behavior towards anti-perspirants. All this behavior makes it more critical for the brand to succeed as a fragrance first, and then adopt more consumers for its anti-perspirant benefit.

Will the same fragrance sell?

Though the Indian consumers have already smelled Sure under the brand name ‘Rexona’, there is less chance that consumers would smell Sure the same as Rexona. With thousands of brands and different fragrances it is less likely that the consumer would be able to smell the same as Rexona. The fate of Sure is more dependent on the brand building and how it is perceived by the entrants in the deodorant category.

As mentioned, it might be easier to bring in new consumers into this category anti-perspirant, than converting existing users from deodorants to anti-perspirants. Sure has been priced at affordable price points – 40 rupees for 25 ml, 60 rupees for 40 ml – apart from the regular SKU size of 150 ml. This shows the intention from HUL to generate more trials from new entrants and a deeper penetration of the category and the brand across all channels. For now, it is expected that ‘Sure for women’ should do well; however, it is interesting to see if the consumers will buy it as a deodorant or as an anti-perspirant.

The brand has to succeed as a fragrance first, to sell the anti-perspirant benefit to the Indian consumers. A lot is dependent on the brand building and positioning in the consumer’s mind.

Thank you.

The thoughts expressed in this blog are completely my personal views, opinions, and interpretations based on observation and secondary research. The blog neither represents the views and ideas nor used any information of the organizations or institutions I am associated with. Thank you.

FMCG Distribution Network

The typical chain for a grocer store FMCG product will be:

Manufacturing plant -> Company Ware House -> Regional Ware House -> Regional Stockist or Depot -> Super Stockist or Depot -> Stockist/Depot -> Distributor -> Retailer

Main Godown -> C&F Agents/Super Stockists -> Distributors as per the territories -> Wholesalers/Retailers

So, the retailers either buy from the distributor or they buy from the local wholesaler. Each has its own advantages and disadvantages. Distributor provides you with better servicing, replacement of spoilt products, credit facility of 2 weeks, etc. On the other hand, the wholesaler will give you more margins, but no credit facilities, and you don’t have compulsion of storing a set of SKUs, etc.

The inventory is under the ownership of the company only until it reaches the distributors by the C&F agents. The stockists are responsible to distribute to the retailers. Each stockist may serve around 500-1000 retailers in a proximity. Also, all the stockists are not the same in their storage. Every stockist may have his own set of categories which he can store the best, like a stockist can store rice, sugar, tea powder, biscuits, and snacks. Some may be specialists in handling premium products, and some in frozen foods. The company generally categorizes the stockists based on their specialty and allocates different super-stockists. For example, HUL categorizes them as U1 and U2 stockists, where U1 is general products and U2 stockists handle only premium products. The distribution network for premium products is different from that of discount and popular as they require much deeper distribution penetration unlike the premium products. Company categorizes based on their storage capacities where company has some standards that every stockist and distributor should have 2 months and 3 weeks of stock.

The stockists appoint salesman who take the orders from the retailers, and the delivery is made on a van. Each stockist may have 6-10 vans, and 10-12 people for the delivery process. The link between the manufacturer and the stockist is maintained by the manufacturer’s employees Area Sales Manager, Territory Sales Manager, Activation Manager, and the Re-Stockist Salesman (RSSM) manages all the distribution, purchases, labor management, and supervises the delivery process.Every month the sales targets are set by the company to all its salesforce – TSM, ASM, Sales InCharge, etc. and they handle all the relations with the distributor and sometimes push the stock onto the distributor to meet their sales targets. Companies try to motivate the channel partners with workshops about business & marketing, good warehouse practices, and a lot of other incentives. They follow a strict rating mechanism with all its channel partners and evaluate them continuously on a set of parameters.

Internally, all the sales is reported at the ASM level and then it is aggregated in a bottom-up approach. Typically, a distributor receives a margin of about 6-8% and the retailer receives a margin in the range of 9-15%. There are also many trade schemes that run throughout the year. But, these numbers change from channel to channel as per the terms of negotiation. A kirana (general/grocer) store might sell about Rs.5000 to Rs.60,000 or more per day depending on various parameters such as the location, size of the store, SKUs stocked, number of salesman etc. Typically, the FMCG manufacturer has a gross margin of about 40-50%.

Sales Representatives <– Territory Sales Exec <– Area Sales Exec <– Territory Sales Manager <– Area Sales Manager

Among distributors, we have two kinds of distributors. Some of the distributors deal in products of your company exclusively, whereas some distributors specialize in categories e.g. cooking oil. These distributors don’t have the time and resources to focus on your own brand among many brands (especially if it is a new brand). So, the company appoints its own sales representatives who visit various routes and beats every day; they do 1 beat in one day and 6 beats on 6 days. Each route should have 40 stores atleast. These sales reps visit the stores and take the orders from them and then they report those orders to the corresponding distributor. This way we create and aggregate all the demand for a brand and help the distributor cater to that area effectively. Both the sales representatives and territory sales execs do the same job. TSEs are more experienced (~2 years) in doing this job. Sales Representatives visit one beat once a week. For example, they will visit Ameerpet area in Hyderabad on Wednesday every week and take the demand. This way each area is serviced regularly. Then, we have the ASE who is responsible for certain districts say Mehboobnagar and some other district. The TSM is responsible ASE sales at a higher level and they also manage the counter sales and the trader sales to big bazaars such as Begum Bazaar. ASM co-ordinates everything at a state level and the ASM along with TSM co-ordinates directly with all the traders and manages sales to the traders too.

Once the distributor receives the stock, it is up to him on how he manages the business. For example, the distributor bought some stock of oil at Rs.50 and now it is up to him about what he will do with that stock. He may sell it at any price that he deems right for his business. Let’s say the brand is not moving much, then he may sell it at lower price to get rid of the stock. Similarly, he may sell it to one retailer at 55 rupees and to another retailer at 53 rupees. It all depends what he deems profitable or appropriate for his business situation.

The sales from the company to the distributor are called primary sales and the sales from the distributor to the retailer are called secondary sales. Similarly, the schemes provided by the company to the distributor are called primary schemes and the schemes provided by distributor to the retailer are called secondary schemes. It is not very common for distributors to make their own schemes to the retailers. They generally pass on the schemes from the company to the retailer. For example, say a retailer scheme would be: if you buy two cartons of cooking oil, then you will get a one gm silver coin.

Distribution and credit

Distribution has a huge relation with credit period. Distributors get stock from the company on credit terms, some provide a credit period for 21 days and some 30 days etc. Similarly, distributors offer credit period to retailers. This is very tricky because if the distributor gives the stock on credit for some fraudsters, then he will run out of business by next week. For example, say a distributor met a retailer who is ready to take 50,000 rupees stock. The distributor might be very happy. But, after two weeks when he comes he finds that the shop is not there. The shop owner might have sold that stock in trading market for 20,000 rupees cash. Or when the distributor goes for collections, he would say I don’t have any money to give you. So, the distributor is in a problem. It is almost like lending. You have to be very careful whom you are lending to. The same thing happens from the company to the distributor level too. If you have an association with a bad distributor, then he may take your stock but not give you money on time. Both the company (to the distributor) and the distributor (to the retailer) are very careful about whom they are dealing with and their credit history. This is why distribution is linked with credit and is very risky if not done carefully.

Distribution push and Consumer pull (demand)

Some brands which are very powerful do operate on cash basis. You may think why would distributors encourage cash. Because they don’t have an option. If there is a lot of consumer pull for a brand, then even if the brand gives thin margins (they gain on volumes) the retailers want to stock the brand and thereby the distributors are forced to stock the brand. In such cases, the profit is gained from the volumes. This is why consumer pull is very important for a brand. If consumers ask for a brand, then retailers get worried and they immediately start stocking the brand. This is where advertising and other brand building activities help in creating the consumer pull for the brand and make it less dependent on distributor and retailer push.

Though each company has its own distribution strategy and flow, most of the companies follow the above distribution framework.