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In the retail industry, a company is channel stuffing if it knowingly sends more inventory to its distribution channels than can be sold. This practice temporarily inflates accounts receivable, though they will need to be adjusted when the unsold products are returned. The act is also known as trade loading. Channel stuffing can have dramatic financial and legal repercussions for both the company and its stock holders.
Many companies who engage in channel stuffing are looking to boost their earnings figures for reporting periods. It can lead to legal action against an offending company, primarily because the practice can lead to an inflated stock price. While channel stuffing may give a temporary appearance of better profitability, it can be fairly easy to detect. A company that ships an obviously inappropriate amount of inventory or that continues to have significant amounts of product returned will often be discovered.
While reported profits are a common method of evaluating the worth of a company, many analysts will use other methods of measurement in order determine the value of its stock. This can be an effective way to avoid or lessen the impact of channel stuffing. Some of the other elements of a business an analyst can examine are retail sales of the product, the number of returns to the company and how often the product is discounted.
Unchecked channel stuffing can affect the finances of a company in several ways. As most retailers return unsold product, the company will usually need to pay for the transport of the goods. Other potential costs include expanded inventory management needs, hiring fluctuations due to the need to stop production when there is an excess of product, and writing off unused inventory that expires or becomes obsolete. It may also be necessary to heavily discount product that is not sold, which also affects the company’s bottom line.
Channel stuffing can happen on several levels of a company. Executives may engage in the practice in order to achieve desirable figures on financial reports. If the sales staff is rewarded for sales volume alone, rather than other factors such as retention and customer loyalty, then the practice could take place on a departmental or even individual level.
In some cases, what may appear to be channel stuffing is simply poor management. New companies in particular may ship too much product before the actual — versus the forecasted — demand is determined. If there is an eventual decrease in the amount of product returned to the company, then it is not as likely that the organization was acting deceptively.
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