Open to Buy: What is OTB and why is it important?

Open to Buy Planning Explained

If you run a retail business, you know there are many moving parts to track. Not only do you need to manage your business, you also need to develop thorough plans for it.

Sales planning is a critical part of managing any retail business. This includes making smart purchasing decisions for your store, as stocking up on the wrong items can be a catastrophic misstep for your business.

A common mistake for newer retailers is experiencing a random spike in sales and then stocking up on that same product as the result of a gut feeling. Open to buy planning looks at merchandising from a financial perspective to enable business owners to make better stocking decisions.

If you’re a newer business owner or you’ve made the above mistake before (or maybe even a few times), don’t worry — you’re not alone.

There’s a method you can use to make smarter financial decisions when it comes to your inventory called the “Open to Buy” method. Let’s examine open to buy and how it can support your business.

What is Open to Buy (OTB)?

While OTB management can be implemented differently across various businesses, the open to buy definition remains largely the same. It’s a purchasing plan to determine the correct quantities of different goods within your business.

It takes into account the products you offer, how many of those products you already have in stock, and how much you expect to sell.

A successful open to buy plan tells you what your retail outlet needs, so you can order the correct amount every time. When implemented correctly, an open to buy retail plan prevents merchandise deficits and surpluses.

Do remember that OTB is not designed to tell you which products you need to stock. It works on dollar costs alone.

If you need to project which products you should stock, you’ll need to create a separate assortment plan. Learning about the open to buy formula and how to calculate it guarantees more efficient sales and avoids costly missteps.

Why is Open to Buy Planning Important?

What is OTB in a planning sense, and why should you spend the time to learn how it works? All business owners know that every dollar counts when it comes to running a store.

That’s why you need to implement a well-thought-out plan to help you budget for the things you really need. There are multiple benefits to open to buy, including:

Avoid Deficits/Surplus – The last thing you want as a retailer is to run out of a popular product or vice versa, having too many of an unpopular product clogging up your storeroom.
Manage Seasonality – Seasonal businesses, in particular, can benefit from better control over the supply of different products. With demand changing from month-to-month and even week-to-week, OTB management allows for better planning and better preparation for seasonal rushes.
Better Cash flow – Cash flow is the biggest issue facing most businesses. Poor stock management could lead to your organization facing cash flow issues. Open to buy retail platforms help to protect you against self-inflicted cash flow problems so you can use your funds for what really matters.

Overall, compiling an open to buy plan gives you more control over merchandising and ensures that you can buy more of the right items, per current market conditions and the purchasing habits of your consumers.

Who is OTB Suitable For?

Open to Buy is primarily a replenishment tool. For this reason, it’s not suitable for every category of merchandise.

Certain industries utilize this formula more than others, a common example being the fashion industry.

Industries that will get the most use from OTB are those where product specifications change regularly, but the classifications and subclassifications of said products remain the same. It’s also useful for highly seasonal businesses, where merchants need to purchase the correct amount of inventory and gradually taper down to a pre-defined endpoint.

Finally, open to buy planning is not designed for the staple items that are sold day-in and day-out. Your most popular items, such as cans of soda or smaller accessories, are best suited to follow an automatic replenishment program.

This is especially the case for those items that constantly sell throughout the year without any real spikes and troughs in sales numbers.

The Open To Buy Formula

Use the open to buy formula to create forecasts for your OTB plan. Remember, the values plugged into the formula are not hard numbers. They are projections. For this reason, OTB will never be 100% accurate.

However, this doesn’t diminish the usefulness of OTB retail planning. As a general rule of thumb, your actual numbers at the end of the month should be within approximately 5% of your initial projections.

The core formula for OTB is as follows:

Planned Sales + Planned Markdowns + Planned Ending Inventory – Planned Starting Inventory = Open to Buy

Definition of Open To Buy Formula Terms

Before creating your OTB plan, it’s important to understand the definitions of each aspect of the formula. Properly understanding each component will enable you to create more thorough and realistic OTB management plans. Here’s a quick glossary of the above terms:

Planned Starting Inventory – How much inventory in dollars you predict you will have at the start of the month.
Planned Sales – Forecasted sales for the month in dollars.
Planned Markdowns – Product markdowns in dollars.
OTB – The dollar amount you predict you will have available to purchase additional inventory at the month’s end.
Planned Ending Inventory – A forecast of how much inventory in dollars you expect to have at the end of the month. This figure will also be used for planned starting inventory for the following month’s calculations.

Creating an Open to Buy Plan

There are multiple steps to creating your OTB retail plan and many different approaches you can take. Let’s take a look at a basic example of how you can plug different numbers into the above formula.

Company A sells handicrafts, and they have calculated that they have $25,000 in inventory at the beginning of the month.

They predict $10,000 in planned online and offline sales for August. They have also forecasted $200 in planned markdowns.

Lastly, they believe they will have $28,000 in end of month inventory in preparation for autumn. What does this look like in an OTB context?

$10,000 + $200 + $28,000 - $25,000 = $13,200 in open to buy retail

What makes the open to buy formula so useful is it can be applied not just to a retail store as a whole, but to different categories of products, product sub-classifications, and even individual products.

Weekly vs. Monthly Open to Buy Plans

OTB is commonly expressed in a monthly context, but it doesn’t always need to be. For retailers who want to plan for the future on multiple timescales, OTB can be applied weekly and/or monthly.

While all retail businesses can calculate OTB for weekly and monthly timescales, retailers with less turnover may not acquire much value from performing a weekly calculation.

Some retailers may also wish to apply the formula to different types of products, depending on demand.

Step-by-Step Guide to Compiling Your Own Open to Buy Plan

The value of OTB management revolves around making accurate projections for each aspect of the formula. Realistic predictions are critical to getting actionable results and getting the most out of the OTB concept.

Like all budgets, it starts with a plan, and then the actual results are compared to that plan. Variances are quantified to further refine the outcomes of your calculations.

Follow these steps to compile a basic open to buy plan using a simple Excel spreadsheet:

Step One – Build a sales plan. For smaller retailers, it’s best to create monthly sales plans rather than weekly ones. Highly seasonal businesses may benefit from weekly sales plans, however.
Step Two – Create an inventory plan. Ask yourself how much inventory you need to support your projected sales and maintain suitable stock to cope with any sales spikes.
Step Three – After figuring out sales and inventory plans, you can create planned markdowns and inventory adjustments.
Step Four – The next step is an inventory receipt plan. For any given period, you can plug the other numbers into the above open to buy formula to figure out how much inventory you need.

Obviously, you should also take the time to compare your projected figures for a period with your actual figures. Realism is the central tenant to whether your open to buy planning provides value or not.

Open to Buy Software

While it is possible to carry out these calculations manually by using nothing more than a few Excel spreadsheets, there are specialized software options that will prove much more useful.

These strategic OTB software solutions can measure productivity, keep stock, provide recommendations, and factor in market trends.

OTB software automates much of the process and generates warnings whenever the merchant needs to act.

Crucially, it can take the retailer’s financial history and use those numbers to produce realistic projections for expected sales and expected inventory by the season. The longer you’ve been in business, the more data OTB software has to work with, which improves accuracy.

Investing in OTB software allows merchants to make faster, better decisions.

Conclusion

Open to buy planning is all about the quality of your projections. To make accurate forecasts for each aspect of the formula, you need to look at your data.

Take the hassle out of using this forecasting method by getting accurate numbers in seconds through a dedicated retail POS platform from Revel Systems®.