* This blog post is adapted from an article that first appeared in the Summer 2019 issue of the Journal of Business Forecasting, published by the Institute of Business Forecasting (IBF).
As the coronavirus outbreak develops, it seems undeniable that we are approaching the end of the current economic cycle and a recession is approaching. A recession is a meaningful event for most organizations, which necessitates that demand planning and sales and operations planning (S&OP) leaders prepare for the inevitable impact on our businesses.
I have worked three recessions during my career in demand planning, so I know a little about what to expect. I also know that each recession is unique. The recession of 2008 was different from 2001, and both were different from 1991. Some are bubble-influenced, like the housing bust of 2008, while others are simply soft-landing hangovers from rapid expansion like in 2001. Despite differences in the underlying causes, there are common recessionary themes that affect the demand curves of most companies.
First, a recession will alter your demand curve. Your customers — whether large retailers or original equipment manufacturers — will cut their forecasts, reduce their inventory and become more pessimistic in their forecasting. Like you, they will not get the timing right, and the result will be fits and starts in their ordering patterns. And if you use point-of-sale data (POS) to help you forecast demand or estimate trade inventory, you will start to see a disconnect or a divergence between POS trends and orders from your customers. There will be a lot more noise in the data and a true demand signal will be harder to discern.
So why the noise? Well, if history is a guide, activity relating to discounting and other retail trade will increase, and customers will offer more frequent pricing reductions or other ways to stimulate demand on either the virtual or physical shelf for the value-conscious consumer. Of course, your competitors will do the same, and the result will be a much more volatile demand pattern, which will make planning for both supply and demand more challenging. As you try to navigate these rough waters, it will be helpful to openly discuss the potential impact of scenarios such as these. This will allow for at least some understanding of shifts in key performance indicators (KPIs), such as buffer inventories increasing to handle the greater demand volatility and forecast error.
During a recession, value becomes a dominant consumer theme. Cash stressed consumers will seek the best cost. Generally, this results in both private and store brands, as well as off-brand or commodity products, picking up market share as consumers and customer move towards value. From a planning and S&OP perspective, your units might stay the same, but your revenue may decline due to a shift toward lower-priced goods. And with a mix shift in the products consumed toward value, strategies for competing or participating with products offering better value to the end consumer should be part of your S&OP decision-making process.
Managing new products will present a challenge as consumers are less likely to expose limited financial resources to try a new product. When my employer launched a new hair coloring product in 2008, it began to flounder. Our initial demand sensing of POS results reflected a serious gap to expectations. We realized we had to take drastic measures, so we gave away free product, offering “free-bates” to help stimulate trial activity among our consumers. It worked.
Noting the economic downturn with historically high unemployment, we also focused our advertising creative on how this product might help in a job interview to directly appeal to the unemployed segment. This too helped drive trial and interest in the product. The key lesson is that, in anticipation of a sure-to-come downturn, it is reasonable to expect your customers or consumers to be hesitant to shift to — or even buy — new products without some compelling reason to do so. And to the extent possible, it would be wise to anticipate this type of dynamic throughout your new product planning processes.
It is not just the consumers that are averse to new products. Traditional brick-and-mortar retailer acceptance of new products will also be a challenge. These retailers tend to batten down the hatches, preferring to lean in to known brands and products and lower-priced store-brand or private-label offerings during recessionary times. Not only will this make obtaining new product distribution more difficult, but it is likely to result in some marginal items being delisted. Such activity indicates why examining risk in your product portfolio is central to planning before and during a recession.
Similarly, you are likely to notice a shift in your product mix. While lower-priced offerings might sell better, so too will larger-size/better-value offerings. Bonus packs, upsized offerings, on-pack couponing, multipacks and similar strategies will prove themselves to be smart, tactical alternatives for increasing consumer interest at shelf and for holding ground against private-label offerings. Being prepared for this potential mix of shifts — if only on paper — will help you improve your reaction time if and when response tactics are called for.
Finally, trade inventory will drop, if only because your customers will lower their forecasts. For example, if your customer keeps four weeks of supply based on weekly demand of 100 units, then normal inventory would hold 400 units. If the forecast is cut to 90 units per week, however, the inventory target will drop to 360 units. In short, you should be prepared to address unexplainable drops in your customer’s inventory that are not aligned with historical trends.
Immerse yourself in the past to prepare for the future
Recession hits each business in unique ways. To position your company to respond effectively, begin by burrowing deeply into all institutional data retained from prior recessions. Curate the facts into an economic narrative of sorts. Find old S&OP content and consensus reporting, or ask veterans of the business their opinions on the subject. These will all offer some guidance for the future. Incorporate all the dynamics of your firm’s reaction: an assessment of what worked (and didn’t); an evaluation of competitor activities and reactions; and maybe even a snapshot of economic indicators before, during and after the recessionary period. If you don’t expand your analysis to paint a complete picture, you will be short-changing your own research.
Next, reset your thinking. While most forecasters have a tendency toward a positive bias, force the stakeholders of your operational processes to look at plans with greater levels of scrutiny and skepticism. Use the results of your own historical data dig to enlighten the discussion. Make upside forecast moves based only on hard facts, not conjecture or opinion. Expect mix shifts in products. Use shorter trending metrics to forecast forward. Work on building different demand scenarios to estimate impact on the business, both top-line and bottom-line.
Examine your product portfolio. Are you thinking of launching a high-priced premium offering sometime within the next year? How will you propose to punch through the economic noise and gain acceptance of your product when consumer dissonance for anything new and expensive may be heightened during a recession? Do you have products already at risk that may go under during a recession, or is there some way to make such items more desirable to retailers or resellers from a margin perspective? Prepare your commercial innovation backlog with tactical options such as bonus or instant redeemable coupons, so you can be agile in the wake of declining economic results.
Use predictive analytics tools to see how your demand curve reacts to differing economic stimuli. Some of these products leverage large econometric databases. Prepare to align emerging economic factors against your own POS or shipment histories and look for correlations, latency and inflection points. Also identify products or product families that are counter-cyclical and may see an uptick and plan to leverage this dynamic. Understanding the leading economic indicators and their latency on your business will help you plan better in good times and in recessionary times.
Monitor key indicators of economic activity. During both the 2001 and 2008 recessions, my planning group provided an informal analysis of about 25 key economic indicators, from housing starts to unemployment to consumer confidence. We looked for the aforementioned correlation and latency impacts to determine what items were impacted by specific economic indicators and how long it took these results to manifest themselves within demand. Start tracking these indicators.
Bring all of these conversations to S&OP — now. Escalate the discussion about recessionary contingencies to the executive review phase of the S&OP processes. Create a one-slide summary of key factors likely to have the greatest impact on your business, and track them in each meeting.
When you’ve weathered as many recessions as I have, you learn what to look for and you recognize promising responses that have worked in the past. Some of the most interesting dialogues I ever had in the S&OP process occurred during difficult economic times. Act now to initiate forward-looking conversations about recessionary impacts. It is a fiduciary responsibility of the planning role that requires this difficult discussion.