Keeping vendors compliant

How important is vendor compliance? Imagine the following scenario: An apparel retailer’s shipment of dresses for a catalog drop arrives late; in the meantime, hundreds of customer orders have gone on back order. Or how about this one: A hardware merchant finds that a shipment of tools has reached the distribution center — but the products are all the wrong sizes, because the factory failed to label them correctly.

These are the sorts of issues that vendor compliance policies seek to eliminate. Although it cannot eliminate every possible problem, a well-thought-out formal policy can protect you by specifying sanctions and charge-backs for vendors’ mistakes.

While picking, packing, and shipping are the final steps in making sure customers get what they ordered, a truly efficient direct merchant will have planned to eliminate as many potential pitfalls as possible long before the merchandise is pulled off the shelf in the DC. At any significant scale of operation, the relationship between merchant and vendor has to run on more-structured and stringent guidelines than mutual trust. Companies without vendor compliance policies run a much greater risk of snafus than those that have spent the time it takes to develop detailed guidelines.

THE CHALLENGE

There’s no doubt that rationalizing vendor relations poses a significant challenge to the retailer. All direct marketers receive goods from offshore and/or domestic vendors. Most merchants have to handle inbound consolidation of product from multiple vendors; multichannel merchants may need to cross-dock shipments directly to stores without opening, inspecting, or repackaging them. All merchants use reverse logistics to consolidate their inevitable returns, and many may also be faced with such complex, vendor-related logistics as warehouse-to-warehouse transfers, vendor-direct-to-store shipments, or merchandise shipped from a vendor to the closest warehouse that then must be allocated to other warehouses.

So it’s easy to see why vendor compliance is at the heart of efficient supply chain management. Routing inbound shipments to reduce costs and scheduling inbound appointments can help speed product flow through the DC, significantly helping in turn to reduce inventory levels. Automating the supply chain through advanced shipping notifications (ASNs), RFID, and cross-docking to stores can go a long way to reducing costs, but these measures are not a substitute for a comprehensive vendor compliance policy.

Considering that labor accounts for 50% of the cost per order, anything a merchant can do to reduce the number of times product is touched — by way of repackaging, marking, and inspection, for instance — will help to reduce those costs. Domestic inbound freight accounts for 2%-4% of the cost of goods sold. Although offshore sourcing costs are higher, the increased margin pays for freight and product development costs. Some industries are especially prone to high labor costs. Because of the high return rates in the apparel industry, for example, costs for receiving and returns can be as much as 30%-35% of a DC’s total direct labor costs.

ALL ABOARD

Establishing and monitoring vendor compliance is a team effort among the merchandising, operations, finance, and inventory control departments. Everyone has to be in agreement. In fact, a frequent obstacle to implementing vendor compliance programs is that merchants are afraid that a more comprehensive and careful accounting may upset vendor relationships that they have worked to develop. The merchant has to weigh that possibility against the probability that improved vendor compliance will reduce costs and improve customer service over time.

For the many companies that have major problems in processing receipts in a timely fashion — those companies that incur higher warehouse costs and costs per order than their competitors, and whose store replenishments are not streamlined to flow through their DCs to stores or directly to stores from vendors — vendor compliance is a necessary step to reducing costs by increasing efficiency.

Without a formal vendor compliance policy, the warehouse has no recourse but to absorb both direct and hidden costs for noncompliance. Without compliance it is impossible for a merchant to implement advanced supply chain systems, ASNs, just-in-time inventory, source marking and ticketing, or future RFID programs. A good vendor compliance policy will not only avoid pitfalls, but it also will help the merchant get receipts on time and in compliance, which in turn will reduce the time spent dealing with vendor disputes, claims, and charge-backs.

MAKE IT FORMAL

Ultimately vendor compliance works best when a company can clearly state to its vendors consistent compliance parameters and goals — and just as important, specific sanctions for noncompliance. The major benefits of a formal vendor compliance policy are significant: reduced cost of warehousing, reduced freight in, and increased speed of processing orders and through-to-store replenishments. These benefits in turn have a direct effect on customer satisfaction because they reduce return rates due to incorrect sizing, color, and damages.

How comprehensive should a vendor compliance policy be? Best practice calls for a company to develop a detailed, written policy and to then enforce it by instituting a charge-back policy to which both vendors and management agree. In general, a merchant should aim to push compliance back up the supply chain. One way to accomplish this is to have as many value-added services as possible — packaging, marking, quality inspections — performed by vendors or merchant reps in factories. Catching errors at the source and using source-based services speeds inventory flow, and any such issues are cheaper to deal with in the vendor’s environment.

It’s a good idea to ask the vendors to review the policy, sign off on it, and fax the signed copy back to inventory control. Many multichannel companies also have their compliance policy manuals on their Website and give vendors a link to it.

Starting a program may seem daunting, since a fully developed vendor compliance manual for a midsize company can run to 50 single-spaced pages of instructions and explanations. Such manuals have usually been developed over time, and although the draft of a new manual may be based on an example from another business, each individual company will have to use its own history and data to develop a compliance manual.

If you’re just beginning to implement a comprehensive vendor compliance policy, it may be more useful to concentrate on some areas over others. Here are some key compliance starting points:

  • Create a routing guide (or shipping instructions) that tells vendors how to ship small packages, pallets, and containers via the carriers you have negotiated rates with. The shipping instructions should include when to use which transportation companies based on weight, dimensions, and other criteria. Vendors charge a 20%-60% premium for shipping, so a best practice that yields big savings is to switch from vendor-paid to collect or third-party consignee billing.

  • Make human-readable and bar-code labeling requirements.

  • On-time merchandise delivery should be a priority.

  • Enforce quality by stating item specifications for each product.

Charge-back rates vary widely, and it’s up to the individual merchant to determine the real charge-back costs in his business. On the low end of the scale charges are $25-$50 per shipment, but some companies charge $100 or more per shipment (see “What can go wrong: vendor charge-back categories” on page 52). For late shipment of merchandise that causes backorders, companies use a cost per backorder — $7-$12 in actual cost for most companies. Or they may use a graduated percent of the cost value of the late shipment and invoice.

SUCCESS STORIES

Here are several examples of what retailers have saved by developing, adopting, and enforcing vendor compliance policies:

  • Scuba gear merchant Divers Direct — with eight stores, a catalog, and a Website — achieved a gross margin improvement of 0.7% and better accounting control. With Federal Express consignee billing, its vendors now use FedEx as the preferred carrier, so Divers Direct can better manage its inbound shipments and realize significant savings on inbound freight costs. Another benefit is to use FedEx InSight to track shipments online and then to use FedEx DirectLink to download invoices automatically and allocate all freight invoices to the appropriate general ledger accounts.

  • Timberland, which sells footwear, apparel, and accessories, improved its inbound visibility using a “scan and pack” process as product was packed at factories in Asia (90% of Timberland’s product is imported). Shipment-related data, including container number and packing list, are sent electronically to the retailer’s receiving system.

  • In October 2005, Wal-Mart touted the early results of its mandated RFID compliance program. They are impressive: It has reduced out-of-stocks by 16% in stores where RFID is installed, as well as reduced excess inventory. It is three times faster to restock RFID-tagged items than to restock comparable items that are instead marked with bar codes. Overall, RFID-enabled stores were 63% more effective in replenishing out-of-stocks than the control stores.

As automation helps extend supply chains, the last frontier in efficiency and in automation may well be the way in which direct merchants manage their vendor relations. Those that ignore this potentially volatile aspect of their operations do so at their peril, while those with a seasoned, well-planned vendor compliance program can achieve significant savings.


Curt Barry is president of F. Curtis Barry & Co., a Richmond, VA-based consultancy specializing in fulfillment and operations.

LOOK IT UP IN THE MANUAL

Vendor compliance manuals typically address these elements:

  • Company history, vision, and expectations for customers
  • Cost of backorders to the business
  • Service standards
  • On-time delivery to committed delivery date
  • Products delivered in proper condition, delivered in agreed-upon manner
  • Product quality according to specs
  • Product packaging and polybag specs
  • Label marking for retail shipments vs. direct
  • Supply chain systems requirements (electronic POs, ASNs, etc.)
  • Master pack and inner pack sizes
  • Case labeling guidelines
  • Accounting and paperwork requirements
  • Logistical requirements
  • Routing guides to reduce costs
  • Scheduling appointments
  • Cross-docking requirements
  • Direct-to-store shipping requirements
  • Drop-ship instructions
  • Schedule of charge-backs for noncompliance
  • Customer return of merchandise and credits
  • Contact list, including merchandising, distribution center, accounts payable, drop-ship orders, and inventory control

WHAT CAN GO WRONG: VENDOR CHARGE-BACK CATEGORIES

The following is a sample of chargeback categories from a midsize direct merchant whose vendor compliance manual is 25 pages long:

  • Improper purchase order (PO) number on carton or label
  • Wrong product sent
  • Product not labeled with SKU #
  • Style or product substitution without approval
  • Inbound receipt past cancellation date
  • Incorrect labels or placement of labels
  • Merchandise not bagged to specs
  • Product not labeled with country of origin
  • Shipment lacks certificate of origin
  • Invalid PO
  • Product specs not sent in advance of shipment
  • No photo sample
  • Merchandise not packaged according to specs, repackaging required
  • Early shipment without approval
  • Merchandise required 100% inspection
  • Mixed POs on pallet or in cartons
  • Mixed SKUs per carton
  • Failure to meet cross-dock-to-store requirements
  • Bill of lading not complete
  • Shipment did not conform to routing guide
  • Late delivery, causing backorders
  • Merchandise damage not attributed to carrier
  • Did not ship in correct carton
  • Incorrect placement of packing list, incomplete packing list, no packing list
  • Shipment on nonstandard pallet
  • Failure to protect fragile merchandise
  • Delivery to wrong address
  • Delivery without appointment

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