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'Pay On Scan' Poses Hurdles for Suppliers


3/1/2003
By Brian Cruickshank

'Pay on Scan' (POS) is AutoZone's newly proposed payment system that is causing ripples throughout the company's supplier base.
 

A month ago, if you would have said the letters 'POS' to someone in the industry, they would have assumed you meant "Point of Sale."

 

Mention those same three letters to a manufacturer these days, and you're likely to get an earful ' not about the innocuous 'point of sale', but rather something far more controversial called "Pay on Scan" (POS). POS is AutoZone's newly proposed payment system that is causing ripples throughout the company's supplier base.

Several weeks ago, auto parts giant AutoZone told its own vendors that it was moving to the POS format. Under this system, AutoZone will pay manufacturers only after a product has been scanned for final sale at an AutoZone store (with terms). Previously, merchandise had been paid for upon receipt (with terms).

The POS format is similar to that of a consignment program in which manufacturers own the merchandise right up until the point at which it is sold at the store level. Vendors are paid based upon actual end-user sales, rather than upon receipt at the warehouse or DC.

Though it's common in other markets (grocery stores and mass marketers), implementation has not always gone smoothly. New York City-based bookseller Barnes & Noble, for example, recently tabled its plan for the second time to move its network of 620 stores to a POS format. The sticking point for Barnes & Noble, not surprisingly, has been widespread opposition from vendors.

Barnes & Noble originally announced the implementation date of their POS format would be late last August. Implementation was postponed to December 28, and has now been put on ice for another four to six months, again because of vendor concerns. Perhaps not coincidentally, AutoZone's current CFO, Michael Archbold, previously served as Barnes & Nobel vice president and CFO. Additionally, Zone Chairman Steve Odland formerly worked in the grocery store industry where POS systems are common.

AutoZone is caught between the need to carry larger inventories to satisfy its growing commercial program and the criticisms of investors who say the company has too much inventory. For AutoZone, the benefits of POS are obvious: Through POS, it would no longer need to carry vast inventories on its balance sheets. The proposed POS format effectively moves the inventory burden back onto the manufacturer.

The AutoZone POS plan was unveiled to its vendors at a meeting held in Memphis in January. According to an AutoZone memo distributed to suppliers at that meeting, here is how the program will work:


  • AutoZone will convert all existing SKUs identified as pay-on-scan to a new pay-on-scan vendor number. New SKUs that are not currently in the AutoZone system can be set up as pay-on-scan under this new vendor number. AutoZone intends to convert the entire SKU line at once, rather than one DC at a time.

     

  • AutoZone will still cut POs to the vendor. AutoZone, however, said that it must be able to distinguish between pay-on-scan and non pay-on-scan SKUs so both cannot be combined on the same PO.

     

     

  • Shipping will remain the same and AutoZone will receive merchandise in the same manner (with pay-on-scan and non pay-on-scan POs received separately).

     

     

  • Once a week, AutoZone will run a report of pay-on-scan SKUs (net of returns). Zone will then pay the vendor based on each week's net sales according to terms (weekly pay-on-scan plus 90 days). These reports will be sent to vendors, who will in turn invoice AutoZone for the weekly pay-on-scan SKUs sold.

     

AutoZone claims this system is a "win-win" for both the retailer and the supplier. However, from the suppliers' perspective, the ramifications of such a system are potentially huge. Manufactures are greatly concerned that this move to a POS format would seriously impact their businesses.

Counterman magazine contacted many AutoZone suppliers, but none would publicly comment. However, several commented anonymously that they had grave concerns about how this arrangement would impact their businesses. One commented, "It's not that we don't want to comply; we just don't know if we are able to comply."

In response to AutoZone's announcement (and the resulting supplier concerns), the Motor and Equipment Manufacturers Association (MEMA) and the Automotive Aftermarket Industry Association (AAIA) each acted on their members' behalf. MEMA set up a secure website through which its members could confidentially post comments regarding AutoZone's decision. On Jan. 29, those comments were communicated to AutoZone Senior Vice President Brett Easley during a conference call. During the meeting, MEMA representatives encouraged AutoZone to rescind or delay the implementation of the POS program until vendor concerns could be adequately addressed.

Despite MEMA's efforts, AutoZone said that it was still committed to moving forward with the POS format, but that it would work individually with each manufacturer on a one-to-one basis to make the transition as smooth as possible.

The response from the Automotive Aftermarket Industry Association (AAIA) came in the form of a letter to its members dated Feb. 4. In it, AAIA President and CEO Al Gaspar wrote that the association would commission a formal, independent study to closely examine the pay-on-scan distribution method. Gaspar assured AAIA members that the study is a top priority and is critically important to understanding POS and evaluating the costs and benefits.

Gaspar wrote, "As with any distribution channel practice, there will be costs and benefits as POS is implemented; there will be process changes confronting any company conducting business on a POS-basis; there may be investments necessary for a company to make in order to implement POS; and there may be a legitimate need for some trading partners to conduct pilot testing of POS to measure and document the method's reliability, accuracy, integrity and efficiencies in their particular case."

Manufacturer concerns over POS are wide-ranging and include large and immediate financial impacts, potential conflicts with other customers and complicated issues concerning banking, insurance, risk management, accounting and logistics.

From the perspective of AutoZone's suppliers, here are some of the major issues:

Risk of Loss/Shrinkage and Insurance

Suppliers are concerned about risk of loss and shrinkage. Once a store takes ownership of the product, loss and shrinkage usually become the burden of the new owner ' the store.

Under the POS system, AutoZone would never actually own the product ' product would be consigned to it for sale. AutoZone has said that loss (fire, flood, etc.) would be covered by insurance, but inventory shrinkage would be the responsibility of the manufacturer. This is an important point, since under POS, even though the inventory is in an AutoZone warehouse, it is still owned by the supplier right up until the point at which it's sold. Under the current proposed plan, a missing box of brake pads, for example, would become the responsibility of the manufacturer ' even though the product's disappearance took place on AutoZone property.

Securities Laws

Suppliers are concerned as to what to do with existing inventory that is already in the AutoZone system. For a POS format to move forward, AutoZone has proposed that manufacturers "buy back" product from AutoZone. But this poses complicated issues that surround accounting and disclosures that publicly traded companies would have to make in their SEC filings. Manufacturers would need to disclose these changes in their quarterly report on Form 10-Q and/or their annual report on Form 10-K.

Manufacturers would have to place previously sold (and paid for) merchandise back on the books until that merchandise could be sold to an end user ' a process that could take several months. In some cases, such as slow-moving part numbers, suppliers might have to wait more than a year to be paid. Most manufacturers Counterman talked to agreed that they would prefer AutoZone to start the POS format after existing inventories have been turned.

Banking and Insurance

Since under the current program, inventories are paid for upon receipt (plus terms), manufacturers can use these receivables as collateral against other bank loans. Under the POS system, manufacturers would no longer be able to do that since the timeframe for payment of these delivered goods to AutoZone cannot be determined. Additionally, the inventory insurance carried by manufacturers typically cannot be applied to consigned goods.

Audit Rights

Because shrinkage is an important issue for suppliers under the POS system, a reliable and accurate method of tracking and auditing AutoZone's inventory would be required. That could involve new technology and/or the cost of physically counting AutoZone's inventory. AutoZone has said that manufacturers may audit their own inventories (at AutoZone locations with a seven-day notice) ' or AutoZone would do it themselves for a fee.

Taxation
In certain states, AutoZone must pay property tax on inventories. These tax rates differ from state to state. Because revenue will no longer be recognized upon delivery of the products to AutoZone, no tax will be due on such revenue until AutoZone pays the suppliers after the sale to the customer. The question then becomes who pays this property tax and at what rate?

Accounting Issues

Under the current system, sales of product are booked as revenue upon delivery to AutoZone. Under the POS system, the product will remain booked as the suppliers' inventory until there's a sale to the customer, at which point AutoZone will be invoiced. Only then will revenue be recognized. This situation could have significant balance sheet implications, particularly in the short term when the initial "buy back of inventory" is accomplished.

Anti-Trust Issues

Manufacturers have expressed concern that other customers might request the same pay-on-scan system. Because of federal anti-trust laws, they might be required to do so.

Under these federal anti-trust laws, suppliers are required to treat comparably situated customers similarly, unless there are sufficient cost savings to do otherwise. According to MEMA, there is no indication that there would be significant cost savings from the supplier's point of view. Therefore, MEMA said that potential anti-trust issues should be addressed.

Technology and Security Issues

While the nature of the technology required to implement the POS system is not yet known, there will likely be a cost involved in ensuring that the suppliers' systems are compatible with AutoZone's, particularly if both parties are to track inventory and shrinkage in real time (as is the case with some POS systems). Also, if AutoZone has access to a supplier's computer systems, there will be security issues, such as which parts of the system AutoZone has access to, and who at AutoZone has that access.

With the assistance of both AAIA and MEMA, AutoZone suppliers will be better able to weigh the pros and cons of such a POS system and the ramifications of it. Indeed, AutoZone has assured suppliers that it will work with them individually to address many of these issues. Of course, manufacturers want to continue to do business with AutoZone ' for some it's their single, largest customer. Continued dialog and analysis will hopefully clear a path for POS to be truly a "win-win" situation for both supplier and retailer.

Editor's Note: Counterman wanted to give AutoZone its fair opportunity to comment. Several calls to AutoZone were not returned. 













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