UF Researcher: Systematic Markdowns Can Lead To Increased Profits

March 25, 1999

GAINESVILLE — Although retailers often view markdowns and clearance sales as necessary evils, a systematic and pre-planned markdown system will actually lead to even greater profits for the retailer, according to a University of Florida study.

A computer program called MARK, developed by Murali Mantrala, a professor in UF’s Warrington College of Business Administration, has come up with markdown strategies that would lead to significantly higher profits in several department stores and clothing chains. In fact, in one experiment involving the sales of men’s shorts at a well-known department store, MARK suggested a policy that could increase profits by almost 50 percent.

Although MARK can raise profits for retailers, consumers also will benefit, because MARK decreases the chance that consumer demand will exceed retailer supply. As a result, consumers will be more likely to find the items they want in stock.

“One of the difficulties that retailers face is that, as buyers, they have to forecast what the demand for an item will be at different times in the season and link that to how much of that item they should buy,” Mantrala said. “All of this must be done in a world of uncertainty. The program I’m working on has features which allow it to determine not only how much of an item to buy based on retail forecasts, but also its best price today based on future sales, demand and available inventory.”

MARK guides retailers through three phases of selling in order to maximize profits.

In MARK’s first phase, retailers decide on purchase quantities based on likely demand over the upcoming selling season. Once selling is under way, MARK provides mathematical analysis to update preseason projections, using actual sales as a basis to predict future patterns. MARK then can be applied to determine the best timing and size of markdowns, taking into consideration the likely demand over the remainder of the selling period.

“The computer program looks at what might happen in the future and tells the buyer what is optimal to do today to maximize their profits,” Mantrala said. “It does about a million calculations in a few seconds.”

Many retailers currently use an automatic markdown system, in which markdowns are based on traditional buying patterns. Mantrala said a “no-markdown” policy would be more effective than this type of traditional policy, but MARK can strike a balance between the two extremes and improve sales and profits.

“You need to combine whatever relevant information you can get from past sales of similar items as well as some judgmental information from the buyer’s own point of view,” Mantrala said. “There is a mixture of both objective information from the past and very subjective information from the present and future, which can be combined in a very systematic way to come up with a forecast of how much you might sell.”

Mantrala has tested the program in experimental settings with buyers at several department and specialty stores, including the Body Shop, a clothing store based in Jacksonville, and G.H. Bass, a footwear retailer based in Maine.

“The buyers gave us their policy, the model computed the optimal policy and we compared the two,” Mantrala said. “In most cases, we found that the potential improvement using the model was between 5 and 30 percent.”

Mantrala has presented MARK at several conferences and meetings at UF and around the country, and he said he has received a lot of positive feedback from retailers who are interested in using his program, he said.

“I think that sooner or later systems like this are going to be more and more a part of the retail setting,” Mantrala said. “The clothing retail industry has been a lot more conservative that other industries, but now they are moving toward more sophisticated information systems and decision-making models. This is an area where there are a lot of high stakes, but I think that retailers will see the value of this program.”