7 Merchandise

Management: Financial
Considerations
INTRODUCI'ION

Having discussed the marketing considerations of merchandise

decisions in the previous chapter we must now turn to the financial
considerations. Clearly the viability of the company is dependent upon
its achieving (and maintaining) an acceptable level of profitability
-seen as acceptable to owners and management and, where applic-
able, to investors.
A number of interrelated issues must therefore be considered.
While the usual measure of profitability is taken to be the overall
return on investment within the company we (as do others) suggest
that the concept of profitability be used to measure the performance of
aggregate components and activities of the company. This offers
senior management the facility both to measure and to motivate
merchandise and buying managers within the company. Furthermore,
it often identifies areas of inefficiency in product range financial
performance which may be acceptable in marketing terms but which
often are disguised or obscured in aggregate performance reporting.
Central to the argument which follows is the control process
established by DuPont, discussed earlier, in which performance is
measured in terms of profit produced by the business relative to the
investment made in it. (We discussed the DuPont system of financial
analysis in Chapter 5).
In this chapter we shall introduce the notion of measuring return on
investment in merchandise and other assets controllable by those
managers to whom responsibility can be allocated.
Traditionally retailing (and other activities) have considered
performance in profit margin terms, either as cash or percentage
returns on sales. This has required managers to understand income
statements and for them to be measured in performance terms on the
basis of maximising 'profit' performance by increasing revenues or
exercising controls on costs. Recently the application of information
technology has removed much of the responsibility of planning and

139
D. Walters et al., Retail Marketing Management
© David Walters and David White 1987
140 Retail Marketing Management

control from branch and area levels back towards a head office
management system. This, together with a growth of multiple
operations and national pricing policies facilitated by national media,
has resulted in standard assortment ranges over which local manage-
ment has little or no control. For operational control the emphasis has
thus been placed upon budgeted costs as a percentage of sales
performance measurement. While this has usefulness at area and
branch levels its value is questionable when applied to other functions,
particularly buying and merchandising. We thus suggest that margin
alone is not a totally effective measure of performance.
An alternative (and in many companies an additional) measure is
the rate of asset turnover or the ratio of net sales to asset investment.
Here at a lower level within the firm it has suggested an emphasis on
current assets productivity as an essential measure of performance.
For the majority of retailers current assets represent a major part of
their working capital. The investment in stock is, in turn, a major
component of working capital investment and stock turnover has thus
been considered to be an important performance issue. This has been
so for two reasons. The first is related to the efficiency of asset
management generally, whereby the key to good asset management is
seen as keeping the 'asset moving'. The second reason relates to the
relationship between stock turn and debtor cycles. Because of the
large proportion of working capital represented by stock investment,
any company that can operate with an assortment (the major part of
which can be sold rapidly) can use its suppliers' working capital for its
own purposes. If a retailer can operate with a stock turn in excess of
twelve and pays suppliers monthly (or less frequently) it thus has the
benefit of the use of the suppliers investment in working capital.
Such a focus is not without problems. If pursued with a view to
maximising stock turn, the retailer's assortment will become very
narrrow and the risk of missing sales opportunities because of the lack
of variety and choice will become much greater.
Within the context of retail merchandise control, the DuPont
approach has much to recommend it, and for retail merchandise
control the DuPont approach has been adapted as a means of
combining margin management and asset management in a measure
that has become known as gross margin return on investment
(GMROI). GMROI is, in many respects, analogous to a measure of