Reclamation

Negotiating returns privileges are often overlooked by many buyers and sellers.  However, studies have shown that returns can cost a company between 9% and 15% of sales.  With an impact this large, nobody can afford to overlook the terms and conditions that govern product flowing back through the reverse logistics pipeline.

There are many factors that determine who pays for returns, product testing, refurbishment and transportation.  Usually, it’s a matter for negotiation and there is not one set of rules to go by when working out the critical details. There are, however, some general industry arrangement that one can use as a starting point for negotiating return privileges.  Those include:

1. The manufacturer / OEM generally pays for freight directly or indirectly for returned assets, whether defective or recalled.
2. Retailers typically deduct the cost of returns, including charges for inventory, processing and freight from any outstanding payables they have with the manufacturer.
3. Liquidators, meaning buyers of product on the secondary market, generally provide their own transportation.
4. Hi-tech, market dominating manufacturers will not pay consolidation or handling fees and will be much more strict when it comes to enforcing terms and conditions for returns.
5. Goods returned that do not comply with previously agreed to terms and conditions are generally not returned, nor credited in any way.
6. Manufacturers of commodities will pay handling fees but will expect compliance and support where customer abuse is evident.
7. Often, off shore OEM’s have no place to receive and process returns. These OEM’s will often agree to allow you to liquidate their product AND cover the cost of the return. They generally don’t pay handling fees but the liquidation revenue is much higher so it is a win/win.
8. Consolidation fees are paid on a percent of wholesale cost or a flat dollar amount per unit for higher priced items.
9. The basis for the consolidation fees should be the cost of processing returns, not including transportation.
10. Disposal fees are passed on directly to OEM’s when required by the manufacturer. This is especially true if assets have to be incinerated or dumped in a hazardous materials landfill. Disposal fees are NOT passed on for private label goods or product that the retailer or customer facing business destroys for brand protection reasons.

All these terms and many more factors involved in processing returns are negotiable so use this list as a base line to work off of when working out return privileges.  If you are new to the world of return agreements, this will help get you off on the right foot so you can ensure you don’t leave money on the table while promoting good relationships between you and your partner across the table.

Reverse logistics is a part of the supply chain that is often outsourced to 3PL’s.  Many companies with large sophisticated logistics departments outsource returns management because they do not have any expertise in processing returns and the return center operation can stand on it’s own, outside of normal supply chain operations.

In addition, companies outsource reverse logistics operations for many other reasons. Some need quick expansion and don’t have the manpower nor the infrastructure in place to expand as needed. Others are looking to cap exposure to worker comp expenses, inventory shrinkage, or hiring costs when starting up a new operation.

All of this can be done by outsourcing to a qualified third party logistics organization (3PL). However, to do this successfully the 3PL agreement must clearly articulate the level of service (LOS) goals, budgets, and the other metrics. LOS goals used by the 3PL must be in alignment and support the company’s goals. The incentive systems and payment terms for performance must parallel and support the same financial impact on the outsourcing company.  In other words, contract terms and conditions must incentivize the 3PL to perform the stated duties in a manner that is in the best interest of the company.

Outsourcing return center management to a 3PL usually goes badly for one of four reasons:

1. The level of service requirements and scope defined in the contract are not in alignment with the financial justifications used to outsource initially.
2. The recovery rates on returned inventory, which justified higher 3PL costs and fees, are below expectations.
3. The volume and timing of the flow of returns is much higher and more condensed than anticipated, causing problems with customer service, space, and escalating processing costs.
4. The contract does not provide the flexibility necessary for a reverse logistics operation.

Many companies new to outsourcing don’t include key metrics in the contract. Often they don’t have good benchmarking data for items such as damage rate, inventory shrinkage, annual inventory turns, and thru put numbers to ensure they are getting what they expected from the 3PL returns operation. These details have to be carefully spelled out along with who will be responsible for the associated costs if the LOS goals are not met.

Reverse logistics operations are much different than distribution operations or transportation.  The contract that governs outsourcing to a 3PL must be specifically designed to ensure these differences are addressed.  Many executives new to outsourcing returns to a 3PL make a big mistake by using “the standard outsourcing agreement” used when outsourcing warehouse operations.  Reverse logistics contracts must provide flexibility to the 3PL and that must be reflected in the financial terms and conditions.

Remember, nobody orders returns.  You don’t know what you will get until it shows up at the door.  It isn’t a good contract unless it is flexible. 3PL outsourcing agreements should include language addressing how costs will be paid based on a wide range of unique returns related metrics, the biggest of which is volume. Many companies use volume bands to calculate variable costs. Some companies use a fixed dollar fee for the provider.  Many 3PL contracts are cost plus with a budget cap. All of these methods can work in the right situation, with the appropriate means of adjusting the T’s & C’s built into the contract.

There are two reasons for signing a contract with a 3PL when outsourcing reverse logistics. The first reason is so there are clear terms and conditions for running the operation and billing.  The second reason is to have a framework to dismantle the operations if it fails.

Many companies that outsource don’t seem to think about the details and what they are going to do if they have to fire the service provider. Make no mistake, terminating a contact with or without cause can cost millions. You need to think about what happens to the inventory, the capital equipment, the building, ongoing worker comp issues, shut down and closing costs and what you are going to do after the 3PL is gone. All of these and many more issues need to be considered and you must spell out who is liable for each issue under each scenario. Once you’ve decided to end the relationship, you could save yourself millions if the contract addresses the shut down process correctly. There are many valid reasons to outsource reverse logistics to a 3PL. The key is to have a good contract that will protect everyone’s interest, achieve the original goals that drove the decision to outsource, and ensure a win/win relationships between the parties.

When asked about their reverse logistics programs, many manufacturers reply that they don’t have enough customer returns to justify spending any time on the subject. They look at the amount of actual defective customer returns and conclude that the impact of reverse logistics is simply immaterial to their business. It isn’t worth talking about.

What they often do not understand is that defective customer returns on average accounts for less than 25% of assets that flow through the reverse pipeline. The big mistake that many executives make is that they confuse their customer return rate with the total volume of goods returned.  Customer returns is only a piece of the pie.

Another fact that is often overlooked is that for companies that send parts to the field for repair, on average get one out of six parts returned. Parts are returned because they weren’t needed, they ordered the wrong part, or they ordered more than they needed. Components and replacement parts are a big part of many manufacturer’s returns. Processing returned parts is a key component to an economically efficient parts management program.

Product recalls are another major volume contributor to the reverse pipeline. Last year the US Government ordered over 1,000 products recalled off the market. Empirical evidence shows that for every government mandated recall there is at least one non-mandatory recall made by either the manufacturer or their customers. For every manufacturer, the question is not if you will have a product recalled off the market. The question is when will you have a product recalled off the market.

Another aspect of reverse logistics that is often overlooked by many manufacturers is end-of-life strategies and seasonal recalls.  These are recalls that are generated when new models are sold or there is a change in season.  The product in the field or on the shelf is in great condition, it just didn’t sell and it needs to come out of the market in order to avoid conflicts with new product sales. Many companies such as Walmart require manufacturers to have end-of-life strategies and plans in place to process recalls before they will agree to purchase from them.

To recap, here are four reasons why every manufacturer should focus their resources and efforts on improving their returns processes:

• Defective returns, while only 3% – 6% of sales, are only 25% of the assets that get returned.
• One out of every six parts shipped to a customer or repair technician is returned
• The Government ordered over 1,000 different products recalled off the market in 2010
• Many manufacturing customers require end-of-life and recall processes to be in place before they will buy

Studies have found that ON AVERAGE manufacturers spend between 8% to 15% of sales on returns. When manufacturing executives understand that these returns include much more than simple customer defective returns they suddenly find the time and resources to focus on improving their reverse logistics processes. These efforts often result in increasing profits by as much as 3% to 5% of sales!

Now that is worth talking about.

When the manager of a 3PL or aftermarket service provider looks at the logistics world, why on earth would he or she want to get into reverse logistics? It is the opposite of traditional or forward logistics. It is like flushing things up the pipe, not a natural thing to do. Reverse logistics providers deal with unusual problems. Nothing is in a new box. Everything is “broken” or “unwanted”. The service offerings seem unrelated and fragmented. There are no beautifully cubed out truckloads riding on pallets. Yet reverse logistics is becoming an ever more important link in the supply chain. 3PL’s and aftermarket service providers would be wise to think about the possibilities. Some would argue that the changing supply chain landscape makes adding a strong, state of the art, reverse logistics offering a survival move, not just a strategy to add incremental revenue.

The cost of fuel and the lack of qualified commercial drivers are causing the buyers of 3PL and aftermarket services to include reverse logistics more and more into their planning. The rise of sustainability initiatives and the confusing morass of state level end-of-life regulations for Consumer Electronic manufacturers are a big cause for concern.

These are all important factors. However, in the future the largest driver behind the need for reverse logistics and the least understood, is the coming shortage of rare earth minerals. This shortage will force manufacturers to examine their entire supply chain to uncover ways to reclaim, not only the parts, but the minerals and metals as well. This process will compact and shorten the supply chain and those 3PL’s and aftermarket service providers who can’t provide this service in an integrated way run the risk of becoming as extinct as dinosaurs.

 

Minerals – Years of Reserves Left

Hafnium – 5 to 10 years of supply

Indium – 5 to 10 years of supply

Platinum – 10 to 15 years of supply

Silver – 15 to 20 years of supply

Antimony – 15 to 20 years of supply

Tantalum – 20 to 30 years of supply

“Earth Audit” by David Cohen – New Scientist – May 2007

In the future, we believe, we will see many more distribution centers that have reverse logistics centers co-located within them. These facilities will handle the reverse logistics function of maximizing the value of the returned product through product disposition management. Cleaning, parts and raw material harvesting, refurbishing, product liquidation, recycling, repackaging, repair and remanufacturing will all occur alongside the much less complicated process of shipping products to customers.  These high end, technically complex processes will command a higher margin than simply shipping pristine cases to customers.

Todays distribution and reverse logistics network was built on the foundation of fuel prices at $2.00 per gallon and on the concept of unlimited natural resources. We now know that foundation was built on shifting sand. Fewer miles must be driven and raw materials must be recovered and reused at a much higher rate in order to provide electronics at an affordable price. The challenge for 3PL’s and aftermarket service providers is to understand what these changes mean to their customers and how they can develop their capabilities in order to deliver cost effective services that will meet the future demands of their customers.

Many executives go out of their way to avoid product returns. In many companies, if you want to take a nap, just go lay down in the returns area and enjoy a peaceful rest. Ok, that may be a bit of an exaggeration, but not by much.

Executives regularly skip by the returns department during their facility tours because of flawed thinking. They most likely believe in one or more of the 5 myths of product returns.  Once they realize the impact of returns, and the truth about product returns is separated from the myth, they will never avoid the returns area again.

The 5 myths about product returns are:

Myth #1 – Returns are junk.

This is the biggest and most pervasive myth about returns.  Returns are not junk.  In fact, studies have found that only about 20% of returns are actually defective.  The other 80% are functional and are often valued at 75% to 95% of original value. Even defective returns have value if processed properly. If you look at the reasons consumers return their purchases, the number one reason is some version of buyer’s remorse. Thinking returns are just junk can cost a company a lot of money.

Myth #2 – When processing product returns, take your time, there is no hurry.

Key to maximizing the value of returns is to process returned goods as fast as possible.  Best-in-class returns operations will turn their inventory anywhere between 24 times to 50 times per year. For those companies that are not best-in-class, their managers think you can put off processing returns for a while. They will use the returns staff as flex staff for everything else. It’s not unusual to see the returns area go unmanned until the end of the month or longer.

Remember, returns are like bananas not like wine.  They don’t get better with age.  On average, returns lose 10% of their value every 30 days. Putting off processing returns is tantamount to burning money in the corner of your facility.

Myth #3 – You do not need dedicated returns management.

There are a number of companies that assign responsibility for returns management to a mid-level manager that already has a full time job.  Returns management is a function that requires executives to work with buyers, operations, sales people, accounts payable, and systems.  Asking somebody to figure out how to run returns and do their normal job is simply ensuring that returns will get the short end of the stick.

Myth #4 – Managing returns is much easier than running a distribution center.

Often, companies will take a second shift supervisor and put them over their reverse logistics operations.  The theory is that running a distribution center is much more complicated than running returns. If you believe this, you could not be more wrong.  In a DC, you receive, put away, pick, and ship orders that are composed of small, medium, and large containers. Somebody created a PO, notified the facility it was on the way, and when it arrived it was received on an invoice.  When orders are received, you generally go to the same location, pick the item, load it on a trailer and off it goes.  There are clear standards for receiving, picking and shipping and most companies have a WMS that drives the process.  The manager’s job is simply to staff the operations properly and keep them trained and happy.

Running a returns center is much more complicated.  First, you do not know what you are going to receive until you unload the truck.  Nobody orders returns.  When product returns are received, each item has to be inspected, and based on it’s condition, it could be handled one of six ways.  When shipping, a return authorization request usually has be provided by the OEM, and most of the product is not in the original carton or packaging which complicates everything. Returns processing requires dedicated, intelligent, leadership that is creative and has a broad set of skills.  A common mistake company’s make is to try to save a couple of pennies by not investing in leadership for the product returns management.

Myth #5 – You can use your WMS to process returns.  You don’t need special returns software.

Companies around the world lose a lot of money because they don’t want to invest in a returns management application (RMS).  They think they can use their existing WMS system to process returns.  However, there are so many differences (See Myth #4), that they end up doing a bulk receiving in the WMS and stacking the returned goods in a corner of their warehouse. Once the product is in the warehouse, it has to be manually inspected and prepared for shipping.  Every company’s we’ve worked with that was using their WMS for returns was shocked to learn how much money they had lost because they tried to save money by using their WMS that was not built to process returns.

Returns have a big impact on a company’s bottom line.

According to the NRF, the average retailer’s return rate is 8.12% of sales.  According to a study done by the Aberdeen Group, the average manufacturer spends between 9% and 14% of sales on returns.  Managing returns can have a big impact on a company’s bottom line.  A first step toward improving the bottom line contribution from managing product returns is to stop believing in the 5 mythes of product returns.

Reverse logistics is the part of the supply chain that is often outsourced to third party service providers (3PL’s).  Many companies that have best-in-class supply chain functions outsource reverse logistics.  If these industry leaders can run very complex global distribution networks, why don’t they operate their own return centers?  For the last two decades, we have worked with Fortune 500 Companies who have outsourced their reverse logistics to 3PL’s and we have found they do so for one of three reasons:

1. To get reverse logistics expertise quickly and with less risk
2. To achieve greater flexibility and faster speed to market
3. To create a protective barrier against outside forces and limit potential liabilities

Many companies outsource reverse logistics because they do not have the expertise within their management ranks to run the area, or they don’t want to use these resources on the function under consideration.  Retailers, for example, want their top executives working on ways to improve traditional core supply chain functions, or store operations, or merchandising systems.  Manufacturers want their top talent running manufacturing plants, working with customers, managing imports, managing parts or just about anything other than focusing on returns.

Reverse logistics is more often treated like the red headed stepchild of the supply chain.  No one wants to deal with returns.  When I first got involved with returns, Lee Scott, now retired Walmart CEO and then VP of Logistics had to promise me that I would not have to spend any more than two years running reverse logistics for Walmart before I would agree to take the position. That was over 25 years ago and for me it became a career.  The point is that reverse logistics is outsourced because there is no internal expertise and/or the company is unwilling to invest in the team and technology needed to develop reverse logistics.

This is the main reason why retailers and manufacturers outsource their returns processing functions.  A qualified 3PL can have a significant impact on a company simply because of their experience in returns.  They can also help leap frog the competition by leveraging systems, liquidation networks, and by sharing best operations practices that will reduce the processing costs.

The key, however, is to outsource to a firm that is experienced and has a broad view of the issues.   Many 3PL’s claim they “process returns”, few actually do and fewer still have any idea about what happens upstream or downstream from the actual returns processing function and how they must be coordinated to achieve maximum results.

When you are selecting a 3PL, it is important to do your homework and select a provider that has real experience providing reverse logistics services in your market.  Can they help you improve the product flow upstream so you can process more efficiently and maximize the value of the returned assets downstream?  Do they understand the impact of returns on customers, suppliers, stores, DC’s, and how they effect the financial well being of the company?  Do they have existing operations repairing product that is similar to your returned items.

WARNING: Watch out for the 3PL who wants you to be the first.  Often 3PL’s who repair phones will spin their experience and try to convince a TV manufacturer that they really can process, test and repair TV’s because they have been in the consumer electronics repair business for years.  In reality, they have never fixed anything other than cell phones and they are looking for a customer to fund their technical development.  Buyer be ware.

Lack of on point experience is often why companies outsource reverse logistics, but speed and flexibility also drive many to outsource.  Companies outsource reverse supply chain functions not because they don’t have the leadership or experience but because they need a solution fast and going to a 3PL with the focus, motivation, experience, existing technology, capital resources and staff can get things up and running much faster than the company could do it on their own. A quality 3PL will be able to start up a new reverse logistics operations within six months.  Most companies who decide to develop reverse logistics internally will take at least twice that long.

The third reason companies outsource supply chain functions, including reverse logistics, is to have a layer of protection and minimize their risk.  Many companies outsource operations to avoid unwanted attention from labor unions. It is against the law for companies to fire employees who attempt to organize a labor union, however, a company can fire a 3PL and replace them with another if the 3PL doesn’t meet performance metrics.  This is true even if the 3PL did not achieve it’s goals because of a strike or other union activities.

Companies also outsource to cap and control other risks and liabilities such as inventory shrinkage, workers compensation expenses, medical benefit costs and other “non-controllable” expenses.  Companies protect themselves by either negotiating a fixed fee arrangement for multiple years or with some form of variable pricing.  This enables companies to limit these risks by negotiating caps within their outsourcing agreement.

Outsourcing reverse logistics is often the best way to develop returns processing capabilities for many manufacturers and retailers.  You will need to employ experienced resources to help select the 3PL and negotiate an acceptable contract. However, with in six months you will have a best-in-class reverse logistics process that maximizes the value of returned assets, with limited risks and controllable costs.

Recently, Software Advice posted a great article entitled “How to Get Value Out of Your Returns”.  The author, Derek Singleton, provides a good overview from a unique vantage point.  Here is small excerpt:

Unlocking value from returned inventory is easier than you think. We have compiled a list of best practices, and the companies making them work, to help you in the reverse logistics process. Best practices for reverse logistics include:

• Investing in reverse logistics systems;
• Outsourcing logistics operations;
• Accessing secondary markets;
• Offering recycling services; and,
• Preventing returns in the first place.

If you are a busy executive that would like to understand how reverse logistics can positively  impact your organization, check out this article.