Calculating Merchandise Residual Value

Let's work through a very simple example of Merchandise Residual Value.

Let's pretend you have five customers and three items that the customer can purchase.

13-24 months ago, here's how much each customer spent.

• Customer #1 = $100.
• Customer #2 = $200.
• Customer #3 = $100.
• Customer #4 = $300.
• Customer #5 = $500.

0-12 months ago, here's how much each customer spent.

• Customer #1 = $0.
• Customer #2 = $100.
• Customer #3 = $100.
• Customer #4 = $0.
• Customer #5 = $300.

There are three items that the brand offered (in this overly simplistic example). Here are the items purchased 13-24 months ago.

• Customer #1 = Item 1.
• Customer #2 = Item 1, Item 3.
• Customer #3 = Item 2.
• Customer #4 = Item 1, Item 2, Item 3.
• Customer #5 = Item 1, Item 2 (twice), Item 3 (twice).

Ok, we have everything we need to calculate Merchandise Residual Value.

The average 13-24 month value of customers buying each item was:

• Item 1 = $275:  (100+200+300+500)/4
• Item 2 = $350:  (100+300+500+500)/4
• Item 3 = $375:  (100+300+500+500)/4

The average future value (0-12 month) generated by customers buying each item was:

• Item 1 = $100:  (0+100+0+300)/4
• Item 2 = $175:  (100+0+300+300)/4
• Item 3 = $175:  (100+0+300+300)/4

We can now fit Merchandise Residual Value. We regress 0-12 month value against 13-24 month value.

The equation?

• -119.231 + 0.808*(13-24 Month Value).

We calculate the prediction and compare it to what we actually observed. The difference is the residual ... Merchandise Residual Value.

Item #1 caused customers to spend $2.97 less in the next year vs. normal.

Item #2 caused customers to spend $11.43 more in the next year vs. normal.

Item #3 caused customers to spend $8.77 less in the next year vs. normal.

If you had to protect an item, you'd protect Item #2 because it adds $11.43 of future spend (next twelve months) to each customer who bought it the year prior. Which of the three items would you feature in your next email marketing campaign?

This is how you calculate Merchandise Residual Value ... and it's a very important metric to know in a world where your cost of goods might (or might now) increase significantly in upcoming months. Make sure you know the specific items that cause customers to spend more next year, ok? And if you don't know this metric, contact me right now (kevinh@minethatdata.com) and let's get busy calculating it.