By: A.T. Kearney

Retailers Get Savings of 5 Percent of Inventory Cost

Retailers can expect extensive inventory and labor cost savings from the adoption of radio frequency identification (RFID) technology, but some consumer product manufacturers will face higher costs and delayed benefits from adopting the technology. That is the conclusion of a new report on RFID and the Electronic Product Code (EPC) from global management consulting firm A.T. Kearney.

The analysis was conducted as retailers and manufacturers begin to consider the costs and benefits associated with adopting the technology as mandated by retailer Wal-Mart and the U.S. Department of Defense.

A.T. Kearney estimates retailers will see benefits in three primary areas:

. Reduced inventory through a one-time cash savings estimated at 5 percent of total inventory.

. An annual benefit from a reduction in store and warehouse labor expenses of 7.5 percent.

. A reduction in out-of-stock items resulting in a recurring annual benefit of $700,000 per $1 billion in annual sales for retailers who reengineer their current shelf fulfillment processes.

The cost of EPC and RFID adoption to retailers is estimated at $400,000 per distribution center and $100,000 per store, with an additional $35 to $40 million needed for systems integration across the entire organization.

"While these are very significant amounts, the upside is that most of the costs to retailers are fixed," said Dave Donnan, an A.T. Kearney vice president who conducted the analysis. "The story for manufacturers, on the other hand, is quite different depending on the type of product they make."

Manufacturers will incur the same one-time charges for RFID readers and systems integration as retailers. But they also get hit with the recurring charge of placing RFID tags on their pallets and cases (as mandated by Wal-Mart).

The report breaks manufacturers into two categories:

. High impact manufacturers who sell lower volumes of expensive products and experience significant out-of-stocks and shrinkage (generally drug and general merchandise manufacturers).

. Low impact manufacturers who sell high volumes of less expensive goods and experience limited shrinkage (food and grocery manufacturers).

The cost of tagging varies significantly across the two types. The A.T. Kearney report compares two manufacturers with $5 billion in sales -- a low impact grocery manufacturer and a high impact OTC drug manufacturer -- and concludes the low impact manufacturer loses out by $155 million from a capital budgeting perspective (assuming the current $.15 cost per RFID tag, a 10-year horizon and a weighted average cost of capital of 12 percent).

"The hit on manufacturers' cash flow is not something that can be made up by volume, as the saying goes," Donnan said. "In fact, the high volume manufacturers will see the greatest cash-flow impact."

Manufacturers will see benefits from EPC and RFID fall into two areas, those benefits they can control and those linked to their trading partners. Among the benefits manufacturers control are increased tracking and inventory visibility, enhanced labor efficiency and improved fulfillment. However, the consulting firm notes that most manufacturers are "well beyond the basics when it comes to supply chain efficiency" and there might not be much left to gain from these benefits.

Most of the trading partner benefits depend on retailers taking advantage of improved product information to give manufacturers greater visibility into out-of-stock items, inventory and items that can't be sold. This will require retailers to change some of their processes and become more comfortable sharing information currently considered confidential.

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A.T. Kearney advises low impact manufacturers to closely examine the rationale behind the EPC and RFID tagging and consider alternative courses to meeting the mandate. Some alternatives include using other technologies, delaying implementation until the per-tag cost drops to a reasonable level given each company's business case, and negotiating information sharing with their retail partners to take advantage of the increased inventory and sales information EPC will provide.

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