What do Retail Suppliers need to know about Excessive Defectives?

Excessive Defectives are slicing into the bottom line of Retail Suppliers…and the problem is about to get worse in 2025.   Find out what you should do about it on this episode of “The Savvy Supplier” Podcast.

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"Wiser Decisions, Fewer Deductions"

Transcript

It's one of the biggest problems for retail suppliers and it's getting worse. What do you need to know about excessive defectives and what to do about them on today's episode of the savvy supplier.

Welcome into the Savvy Supplier, where our goal is to save you time and money. And we have just the right expert to help you do both. His name is Boyd Everett. Boyd is the CEO and co-founder of HRG. Boyd, good to see you. Good to see you. a great topic today, don't we? Yes, sir, we do. It's impacting so many retail suppliers, and I know they want your insights today. First of all, would you tell us what are the common causes of excessive defective deductions?

Certainly. So the two obvious ones are product and packaging, right? So that's something can go wrong there. Usually suppliers can identify it and fix it. But the area where it's more opaque and it's a lot harder to discern is the area of operations and typically retail operations in particular. Let's drill down on that part then. How does retailer operation impact excessive defective deductions? The single

largest area of opportunity is in the miscoding of defectives. So you might have inventory shrink, you might have in-store usage that's coded as defectives. So there's any number of uses of that product. All retailers have the ability to flag that we're pulling this product out of inventory for a specific reason other than defective. And when those are pulled out of inventory and flagged as defectives,

that can skew the numbers and make your product look like it has a higher rate of defectives than it really, really does. That's interesting. Is there a way to determine that a root cause is retailer operations and not just the packaging or the product itself? Yeah. The best way to do that is to look at the patterns in the data as they emerge. And so as you're doing research, you're looking to see, given the particular category of item and maybe even region,

(02:17)

What is driving it? And sometimes even the time of year might suggest certain spikes that would suggest that you'd have an issue with miscoding. You know, over the last year or so, I would say there's quite a bit of buzz in the media about inventory shrink. That word has become more and more used in the media. What would you say are some of the root causes for shrink? Certainly. So some of the root causes. So again, for those of you

who might not be familiar with that term shrink is just basically when the number in the computer system is showing a larger number than it's actually on the shelf. And that happens to all of us. We go into a store and it says, the computer is showing that we have five items and there's no items. Having said that should be driven by theft shrink can be driven by mishandling of merchandise in the store. Maybe by the customer shrink could be an employee pulling a product out of, out of inventory.

to be used in the operation of the store. example, paper towels, right? You might have a spill somewhere. And so you just pull that out of inventory, adjust the inventory, and then use it to clean up whatever mess you have. The problem is, is that if you have somebody that's miscoding it, then that cost up passed on to the supplier.

So one example of the sorts of things that can happen, like when somebody pulls something out of inventory, aside from cleaning up an accident, we had a supplier a few years ago that was in the craft supplies area and they had some crates that they would use to, for people to decorate around holiday season. And a few enterprising store managers thought those crates would be fantastic by holding fruit and vegetables. so they.

Like a fall harvest, Steve or something, right? And so they, they had these displays and our client was taking pictures and sending it and sending it to me saying those scoundrels are pulling out of inventory and they're charging me for it. so that we ended up having to, to reach out to the retailer and, and help, help them understand the impact that those stores are having. But I think the biggest concern that people have is that you have hourly people who, who often.

(04:36)

have this most rudimentary training and they have the power to determine whether or not your product is defective or not, even by just miscoding it. And so this really adds up when you consider all of the different stores out there, especially for larger suppliers, where you could have points of distribution in the tens of just that would end up slowly adding up and then suddenly.

It looks like your product is defective. In some cases, we've been in the room talking with a supplier where the buyer is determined to pass on an increase for their defective allowance because they're saying, the rate is there something wrong with your product? And so they often come to us and say, help us understand what's going on. We don't have any idea. You told me one day about an ice cream equipment problem. You want to relate that? It was pretty interesting. Yes. So

So obviously ice cream is sensitive to its climate, right? So it needs to be refrigerated, right? And so we would have certain stores on occasion that the equipment would fail, maybe the power grid, maybe a storm, who knows, or maybe just the equipment failed of its own. And you would see for that particular location, know,

Maybe a handful of items sold for that day and then the rest of them were defective. Now I would say this, that this is more the exception than the rules. I don't want anyone listening to us to think, those, those no good rotten scoundrels are taking my money. And no, no, this is usually miscoding. It's, what it sounds like. And there are good actors. We've had somebody that was in the, the, the frozen.

goods area that came to me recently when a hurricane came through that an area where they were represented strongly in several different retailers. they were determined that there was all sorts of mischief going on. And we did a deep dive and I said, they all process those outages correctly. They filed insurance claims. They didn't say they were defective. But then in the process we turned around and we said, but over here, there's some other stories here.

(06:55)

So the story you were looking for, right, isn't there, but there's other stories. And I think that's one of the prejudices people bring to the data is they come to the data saying, I want to prove that I'm right. Well, you will be proven wrong almost every time if you have that philosophy. But if you come to the data saying, what stories are in this data? And so, and then you see what emerges and that's what a lot of suppliers that come to us wanting to understand their excessive defectives, we always tell them that

Every single product, every single supplier has a different story. In some cases, multiple stories because the same thing isn't happening over and over again. It's just, there's often there's like a perfect storm of maybe newly trained people, a one-time event. Right. And so all of these things come together and drive up your, your defectives. But yes, the equipment failure was always one of those things that always startled me like.

Of course it's defective. it's not kept below freezing, it will be defective every time. Yeah. I just hate to think of all that ice cream going down the drain. You know, know it's painful, but there are so many different things. If you think about it, like an automotive center trying to clean up, you know, oil, an oil spill or something, and just using some clean supplies in store.

Right. Exactly. In fact, I remember when I was auditing on the other side on behalf of retailers, one of my colleagues had written a claim against a manufacturer of cleaning supplies that addressed oil spills in particular. the supplier, it was incredible. The supplier did the research and came back and said, well, we found a correlation that the stores that didn't have an automotive center didn't have a problem with our product. The ones that did.

did. So it was they were rather adamant and my colleague, it was a large claim six figures, canceled the claim and said, yeah, I agree. And so and that was the beginning of HRG because I remember thinking, OK, so if this can happen, I bet you other sorts of invalid deductions can happen. Well, boy, I think we all would agree that customers are a good thing. But sometimes it's the customers.

(09:20)

doing damage to the merchandise, right? Yes, sir. It is. everyone wants to make sure that when I get home, I don't have buyers or moors, right? And so one of our clients is heavy into the HBA area, particularly like band-aids and health supplies. And so perhaps somebody will be trying on a wrist brace or somebody will be trying on product to make sure it's the right size, you the one size fits all, which right.

which is rarely true. People want to make sure that when they leave there, but the problem is, is once, the packaging has been mangled, no one really wants to pay full price. And so sometimes they'll put it in on the mark down shelf. Some cases they'll just damage it out and maybe use it in store or maybe donate it to charity. But at the end of the day, the, the retailer should code it as shrink that this is

Due to circumstances that happened within our store, this product is no longer saleable. But again, getting back to those, those newly trained employees, they may end up miscoding it by habit just because that was the keystrokes that they memorized. Some things are especially delicate. HVAC filters might be one of those where people will do damage unwittingly to things and just walk off. Absolutely.

You'll see that a lot where everything's flowing through the supply chain, getting to the store. then odd times of the year, things get banged up. For instance, it's around Black Friday, there is a spike in certain products because the carts are going around, right? And the aisles are crowded, sharp elbows, people trying to get at things. We've represented toy suppliers in the past and we've had cases where

Even videos of our clients products are posted on YouTube of kids enjoying them in the store. And, and, and then end up just from the looking at the video, I'm thinking that is now unsaleable. There's no way anyone's going to buy that in the back of my head. I'm thinking, wonder if that, that too is a defective product, right? Will be miscoded as such. Are there any other ways that.

 (11:40)

products get damaged in store that we haven't talked about? Yeah, there's cases where, for instance, if you're in the seasonal area, like potting soil or fertilizer, one mistake with a pallet jack or worse, know, flower pots. So you could easily see just moving the product around in the store could end up creating an opportunity. there's also, aside from those one-time incidents,

There are certain items that make it attractive to crime, not just individual, but organized crime. In the case, for instance, of WIC items. And whenever you have an item that's WIC, it means it's easily fenced, that you can steal it and then easily sell it and dispose of it and recover or be able to collect on that stolen merchandise.

So one analysis that we did for a supplier that had several WIC items is we found certain patterns that stores that are located close to the interstate, so they would scoop and run out the store, get in the car, and then they're gone. But there's also, we've seen patterns of areas of the city, for instance, or areas out in the rural areas, again, where

There's either crime, high crime areas, or in some cases, even nicer areas of town where people go to steal, right? Sometimes the people don't want to steal in the areas that have a lot of what they call it asset control, where the stuff's behind the glass or behind the cage, they'll go to the nicer areas. So again, as I mentioned earlier, there's all sorts of patterns that emerge. And sometimes it's surprising what patterns will come to light.

How do you uncover those kinds of patterns? So very good question. We essentially try to get the data as granular as possible. So we're getting it by item, by day, and whenever possible by store, by location. And so this is a rather large data set. And then our auditors go in and look for some correlation. So for instance, as we're digging into this data, we were working with a

(14:04)

supplier that had a very large skew count, we're talking tens of thousands of items. And they had, which of course meant that the data set was going to be extremely large and they had issues, but when you roll it up by quarter, it's hard to see. we expanded that data set out and we noticed that there were certain promotions where suppliers will build out

you know, a PDQ or a palette of all of these items and they'll just drop it in the store or the club and, and they'll have an assortment of items. And so at the end of the event, what we noticed is especially with those large skew count items where it's hard to predict, you know, what items are going to sell, you know, they, do their best to create a one size fits all palette or PDQ. But at the end of the event, those items don't have a home.

And so usually they'll find their way to the markdown aisle, the markdown shelf, or just be marked down in place. But sometimes stores don't want to have a lot of markdowns and even suppliers don't really like the look of markdowns because it cheapens the brand. so there's sometimes there's, there's pressure to, to, to sell through those markdowns. So they'll do deep cuts and sell through them. But in some cases, some stores,

They don't have space on the shelves, literally no space because now a new PDQ has come in and those items usually don't have a home in that store, for example. Sometimes they'll just donate them to charity and instead of coding it as such, somebody miscodes it as a defective. And so we found a pattern where there were for certain stores, certain times of the year with certain families of items, there was a tenfold increase.

right, of in some cases, 30 fold, right? It was just where the line would spike and it was hard not to miss it. And so we turned around and showed our findings to the supplier who then in turn shared that with their buyer so that they could partner together to figure out a better way to launch that promotion next year. Cause usually these are reoccurring promotions. so

(16:25)

Again, this is one of those things that's difficult for most suppliers to do because they don't have the sort of resources that you need to do the data mining and digging in through all of these massive data sets just to find these particular items. This is so eye opening. It's just really valuable insights that you've given today. We have even more help for you retail suppliers at two different websites.

Savvy supplier podcast dot com. That's savvy supplier podcast dot com and HRG dash audit dot com. HRG dash audit dot com. Both of those places you can go that you can get more help. Both are filled with great info for you retail supplier and both sites also provide ways to contact us if you have any questions to ask or if you want to get some help for your business, especially when it comes to managing your deductions.

You might even want to suggest a topic for an upcoming podcast. We're certainly open to that and want to hear from you, help you out in any way that we can. Our wish for you is this, wiser decisions, fewer deductions. See you next time on The Savvy Supplier.