As Sainsbury’s announced its year-end profit results on May 3rd, Mike Coupe predicted that costs are to ‘rise by 2% to 3% over the next 12 months’ and Sainsbury’s is not intending to pass it onto the customer. As external pressures increase, retailers are now having to look at different initiatives to sustain their gross margin and more often than not, the first place retailers will look is how to make their supply chain a more efficient operation.

Identifying which levers to pull to influence cost

It is important more than ever for retailers to have a deep understanding of their supply chains and how costs can be leveraged throughout. Cost to serve (CTS) modelling is one tool that can enable retailers to establish and influence the different cost levers as they dive into their supply chains. Typically a top line overview is used to establish candidate opportunities before drilling down into specific channels or SKU groups. By developing a CTS model a retailer is able to gain better visibility of their end-to-end supply chain costs enabling them to drive different behaviours and define better cross functional KPIs.It is beneficial to understand the breakdown of costs across sourcing, logistics, warehousing, distribution and store operations and the ability to compare to the market. Without CTS analysis, retailers would work in silos causing costs to shift from one cost centre to another and hiding the true impact on profitability. Today, business divisions must work in a collaborative environment across buying, merchandising, logistics, supply chain and store operations to ensure they remain in competition in an omni-channel world. Effective use of CTS modelling in this way allows retailers to define better KPIs that focus on end to end profitability and to understand the impact of future tactical and strategic decisions.

An omni-channel world that doesn’t get any easier

As retailers move into omni-channel retailing and supply routes for bricks and mortar, online and click & collect are muddying the waters, identifying the most efficient supply routes for existing channels is as important as ever (before we even start to add any further complication through the destruction digital has caused!).

So how can CTS help with the omni-channel challenge?

1)      To help understand the impact of proliferation of sales across channels – if like for like sales stagnate, visibility of channel sales split and the associated cost to serve is useful to understand profitability.

2)      To enable tactical decisions by channel – CTS will highlight where the inefficiencies are in the chain. Having this view by process will enable focus on lean thinking in a particular area to obtain quick wins.

3)      To enable a holistic view of end to end profitability – helping to feed tactical and strategic decisions across the supply chain.

A top down approach to review CTS is great, but it is difficult to split out costs by channel. Once upon a time this would have sufficed, but now it is important to build up the cost to serve bottom up to really understand the impacts of channels and store performance.

CTS is a useful tool in making ‘tactical’ decisions, as it allows a quick method to identify processes that can be made more efficient without the need for large scale capital expenditure.  Following this, CTS can be used in strategic decisions based on the information it contains, for example, understanding whether the best route for online fulfilment is via a centralised distribution hub, dark store or in-store picking.

Customers’ expectations are higher than ever in online delivery, with same day home deliveries, minimal delivery costs and a speedy returns policy becoming their focus. Some retailers are already able to achieve this and Sainsbury’s has been open in explaining that this was one of the reasons for the Home Retail Group buyout. However, although CTS modelling is useful for identifying bottlenecks in process, it only provides a view of the as-is process and is not able to plan for future changes in customer behaviour such as the increase in the volume of returns.

What’s next for cost to serve?

It’s all about detailed scenario modelling, running candidate scenarios through models based on large volumes of real data. In fast-speed car racing, before the race, the teams prepare hundreds of scenarios of how it may turn out, every second counts and they have to reduce thinking time – it’s time for retailers to work to the same methodology.

For an omni-channel retailer, as an example, modelling changes in picking methods to understand variability in costs will be the way forward, making them more responsive to fluctuations in demand or channel mix. As another example, understanding the impacts of yearly volume growth of 5% and the potential impacts on capacity at peak periods will be vital to success.  For retailers to accomplish this they must first understand their current position to help model for a better dynamic future.