KEY REVERSE LOGISTICS MANAGEMENT

Chapter 2: Managing Returns

There are many different kinds of reverse logistics activities.
As discussed in Chapter 1, much of the focus of this research
project was directed at examining the return flow of product
from a retailer back through the supply chain toward its
original source, or to some other disposition.

The management of this flow of materials is the focus of

Chapter 2. As it will become clear, the diverse modalities for
handling returns utilized by the research respondents can
either positively or negatively impact a company’s bottom
line. What follows is a detailed examination of those factors
defined by the research team as key reverse logistics
management elements.

Table 2.1
Key Reverse Logistics Management Elements

• Gatekeeping
• Compacting Disposition Cycle Time
• Reverse Logistics Information Systems
• Centralized Return Centers
• Zero Returns
• Remanufacture and Refurbishment
• Asset Recovery
• Negotiation
• Financial Management
• Outsourcing
38 Rogers and Tibben-Lembke

2.1 Improve Return “Gatekeeping”

For years, retailers and manufacturers have focused solely

on massaging profitability into and out of the inventory
management process—but only from a forward distribution
perspective. Our research shows that the time has come to
give similarly focused attention to the reverse logistics
management function—and every company has one. Point
of entry into the reverse logistics pipeline—or
“gatekeeping,” as we call it— deserves much more attention.
Gatekeeping is the screening of defective and unwarranted
returned merchandise at the entry point into the reverse
logistics process. Good gatekeeping is the first critical factor
in making the entire reverse flow manageable and profitable.

Successful companies have satisfied customers. Retail

success stories, such as that of L.L. Bean, can be attributed, in
large part, to excellent customer service through customer-
oriented marketing, which often includes a liberal return
policy. L.L. Bean is famous for being willing to accept worn-
out apparel and giving the customer full credit. L.L. Bean
accepts all of the risk associated with purchasing one of their
products. This policy is a significant marketing incentive.
During the late 1980s and early 1990s, many companies
studied L.L. Bean as an example of excellent customer
service. The concept of absorbing the risk that a product
might be faulty, damaged, or simply unwanted, attracts
customers, increases sales, and at the same time, causes
major problems for retailers.
Chapter 2: Managing Returns 39

While liberal return policies draw customers, they can also

encourage consumer abuse. For example, at one GENCO
retail centralized return center visited by the research team,
some of the items brought into the center were not even sold
by the retailer to which they were returned. Retail store
personnel should have never accepted those items as
returns. However, without good systems in place and well
trained personnel at store level, this kind of abuse occurs
more often than retailers would like to admit.

In the book industry, publishers allow bookstores to return

any product for credit. Often, the return rates on a specific
book actually determine its profitability. Conversely, book
distributors, who are the largest customers of publishers,
only take back a certain percentage of the books that they
sell to bookstores. Book retailers are painfully aware of the
policy mismatch between publishers and distributors. Once
the stores return their quota of allowable returns to their
distributors, they begin sending the remainder of their
returns back to the publisher—even though they bought the
books from the distributor and not directly from the
publisher. In some cases, book retailers do not even try to
ship the product back to their distributors because of tighter
distributor policies.

Using this strategy forces the publisher to incur the lion’s

share of the cost for book returns. Since the publisher
probably sold the books originally to the distributor at a
lower price than the direct price to the retail bookseller, the
publisher’s profits are diminished, while the distributor
40 Rogers and Tibben-Lembke

avoids incurring the expense of handling the return. This

system hardly seems efficient or fair.

During the course of our research, several retailers voiced

concern and consternation over the difficulty in screening
defective, and unwarranted returned merchandise at the
store level. Store-level clerks and front-line personnel are
often unwilling or unable to gatekeep the returns process.
Retailers need to do better training of the sales associates.
They can also develop systems to take the decisions out of
the hands of the associate.

Nintendo, the electronic game manufacturer, has developed

a particularly innovative gatekeeping system. They rebate
retailers $0.50 if they register the game player sold to the
consumer at the point of sale. Nintendo and the retailer can
then can determine if the product is in warranty, and also if
it is being returned inside the allowed time window. They
developed special packaging with a window that allows the
serial number to be scanned by the retailer’s point-of-sale
scanner. This information updates a database that a retailer
can access when the customer brings back a Nintendo
machine.

The impact from this new system on their bottom line was
substantial. After implementing this system, Nintendo
experienced more than an 80 percent drop in return rates—
to less than 2 percent of sales. However, for most
manufacturers and retailers, it is too expensive to register at
the point of sale $20 items. In most systems, once the sales
associate makes a decision about a return, that decision is
Chapter 2: Managing Returns 41

usually not overturned. Systematic problems are magnified

because many sales associates do not receive much training
in this area.

Failure in returns gatekeeping can also create significant

friction between supplier and customer firms, not to
mention lost revenue. For example, the stock price of a
specialty apparel manufacturer fell dramatically at the end
of 1996. This drop was due to, in large part, the inability of
the specialty retailer who sold the product to appropriately
manage returns to the manufacturer. The retailer, a store
found in most suburban shopping malls, accounts for
approximately one third of the manufacturer’s revenues.
Here’s what caused the problem.

Instead of using a centralized return processing center,

which significantly expedites the reverse logistics pipeline,
the retailer accumulated store returns and sent them back to
the manufacturer in infrequent, large batches. This practice,
coupled with a breakdown in manufacturer-retailer
communication channels, created mountains of returned
product on which the retailer only received a fraction of the
original cost. Subsequently, the retailer’s third quarter
profits suffered, and buying volumes were reduced with the
manufacturer. Needless to say, Wall Street reacted
negatively. The manufacturer’s stock fell to a third of its
high point for the year. As of this writing, both firms have
been seriously wounded. These are wounds that could have
been avoided if the gatekeeping function of their return
process had been a priority—not a postscript.
42 Rogers and Tibben-Lembke

2.2 Compact Disposition Cycle Time

Another critical element to successful reverse logistics

management is having short disposition cycle times.

The companies that are best at managing their reverse

logistics processes are adept at gatekeeping, as described
above. These firms are also able to reduce cycle times
related to return product decisions, movement, and
processing. One executive described difficulties in managing
the return process and said, “You know, this stuff isn’t like
fine wine. It doesn’t get any better with age.”

While most returned product does not age well, it is clear

that many firms have not discovered how to avert a lengthy
aging process on their returns. For many of the firms
studied, returns are exception-driven processes. Often,
when material often comes back in to a distribution center,
it is not clear whether the items are: defective, can be reused
or refurbished, or need to be sent to a landfill. The challenge
of running a distribution system in forward is difficult; it is
harder still for companies to allocate resources to manage
the system in reverse.

Part of the difficulty that firms have in compacting

disposition cycle time is that there does not seem to be much
reward for taking responsibility and making a timely
decision as to how product should be dispositioned.
Employees have difficulty making decisions when the
decision rules are not clearly stated and exceptions are often
made. It is easier to pass the product back to the previous
Chapter 2: Managing Returns 43

stage in the channel, because that reduces both personal and

company risk.

2.3 Reverse Logistics Information Systems

One of the most serious problems that firms face in the

execution of a reverse logistics operation is the dearth of
good information systems. Very few firms have successfully
automated the information surrounding the return process.
Based on the response of firms included in the research,
reverse logisticians seem to feel that nearly zero good
reverse logistics management information systems are
commercially available. Because information systems
resources are usually stretched to their limit, those resources
are usually not available for reverse logistics applications.
An information systems department queue for building
applications not determined to be core processes is often
greater than one year. Some information systems
departments have queues that stretch out beyond two years.
Given this difficulty, reverse logistics applications typically
are not a priority for information systems departments.

To work well, a reverse logistics information system has to

be flexible. In addition to the problems described above,
automation of those processes is difficult because reverse
logistics processes have so many exceptions. Reverse
logistics is typically a boundary-spanning process between
firms or business units of the same company. Developing
systems that have to work across boundaries adds additional
complexity to the problem.
44 Rogers and Tibben-Lembke

For the retailer, a system that tracks returns at store level is

desirable. The system should create a database at the store
level so that the retailer can begin tracking returned product
and follow it all the way back through the pipeline.

One of the best firms included in this research developed a

very simple system to assist in the compacting of the
disposition cycle times. In addition to an investment in
computer systems, they have designed manual systems to
improve returns processing. They use a three-color system.
A store employee receives instructions about the returned
good from decision rules built in to the point-of-sale
terminal at the service desk. The point-of-sale terminal
retrieves the return policy for that particular item. The store
clerk places a yellow sticker on the item if it is to be returned
to the vendor. A green sticker means that the item is to be
placed on the salvage pallet. If the system indicates “red,”
the item is an exception article and has to be researched.
This particular firm tries to keep the number of red stickers
to a minimum. Because the disposition decision is made by
the system and does not rely on individual judgements for
most returns, disposition cycle time is dramatically reduced.

Additionally, because of their systems, this firm has the

benefit of tracking returns, and measuring cycle times and
vendor performance. This firm’s buyers have much better
information in their hands when they talk to suppliers and
negotiate allowances. Also, the stores can see if the
consumers are committing “return abuse,” and are trying to
take advantage of the store. These benefits have been
Chapter 2: Managing Returns 45

realized because this firm has recognized the bottom-line

impact of reverse logistics and assigned its resources to work
on reverse logistics systems problems.

Returns Transaction Processing

In a truly integrated supply chain, everyone in the supply
chain can track product as it moves forward through the
channel. While there are very few supply chains that really
function this well, there are virtually none that work in
reverse. Most firms cannot track returns within their own
organization, much less somewhere outside of their firm.

Retailer
In a returns processing system that may reside at a
centralized return center, several transactions can occur. A
good system might include the following steps. The first
transaction will likely be financial, where an inventory
category will be updated. A chargeback to reconcile with the
vendor, or something similar, will occur. A retailer may
want to reorder first quality product from its supplier
immediately. Then, routing for processing or a storage
location within the processing center will be determined. A
reverse warehouse management system may be required for
this step.

Manufacturer
The manufacturer will generate a return authorization (RA).
This is often a manual process. RAs could be generated
electronically, including an automatic check to see if the
return should be authorized. Next, the likely financial
impact of the return could be generated. These capabilities
46 Rogers and Tibben-Lembke

would be very helpful in better managing returns. The next

step is to automate pickup of product and an advanced
shipping notification (ASN) could be cut.

After it is shipped, it is received. Currently, most

manufacturers manually receive returns. Once the material
is received, a database is created for reconciliation. Because
most manufacturers manually receive material, this database
is created slowly—if it is created at all. This sluggishness
results in slowing the reconciliation and the disposition of
the returns.

EDI Standards
Electronic data interchange (EDI) standards to facilitate this
boundary spanning have been developed to handle returns.
The 180 transaction set was developed to manage the flow of
information surrounding the return process. However, few
of the research respondents have implemented the 180 EDI
transaction set. The majority of the respondent firms have
implemented some EDI functionality. They just have not
put many resources into developing EDI linkages for the
return flow of goods. One executive said that: “I can get
suppliers to send me ASNs all day. I just can’t get anyone to
tell me product is coming back to the warehouse.” A
complete description of the 180 transaction set is given in
Appendix D.

Some of the firms interviewed voiced the opinion that

eventually, the internet will replace the implementation of
EDI transactions. In an application such as reverse logistics,
where resources are always difficult to gather, inexpensive
Chapter 2: Managing Returns 47

browser-based return interfaces may be one answer to the

systems problem. In addition to being less expensive,
internet-style interfaces can usually be developed more
quickly than costly mainframe applications. Additionally,
GENCO, IBM, HP, and other firms are testing license plates
and two-dimensional bar codes to fill gaps between systems.
Hardware firms such as Symbol and Telxon are developing
solutions for reverse logistics applications.

A good reverse logistics system can remove functionality

from the back of a retail store. One retail firm interviewed
for this research project found that after they installed a
reverse logistics system, they were able to reduce headcount.

A good system allows the firm to quickly obtain credit for

returned product, which improves cash flow management
through the reverse logistics pipeline. A company can
change suppliers, liquidate the old supplier’s product, and
get through final resolution much more quickly than if the
reverse logistics information flow is not automated.

Return Reason and Disposition Codes

Part of good returns transaction processing is understanding
why the items were returned and how they should be
dispositioned. Listed below in Table 2.2 are possible
standardized return reason codes.
48 Rogers and Tibben-Lembke

Table 2.2
Return Reason Codes

Repair / Service Codes

• Factory Repair – Return to vendor for repair
• Service / Maintenance
• Agent Order Error – Sales agent ordering error
• Customer Order Error – Ordered wrong material
• Entry Error – System processing error
• Shipping Error – Shipped wrong material
• Incomplete Shipment – Ordered items missing
• Wrong Quantity
• Duplicate Shipment
• Duplicate Customer Order
• Not Ordered
• Missing Part

Damaged / Defective
• Damaged – Cosmetic
• Dead on Arrival – Did not work
• Defective – Not working correctly

Contractual Agreements
• Stock Excess – Too much stock on hand
• Stock Adjustment – Rotation of stock
• Obsolete – Outdated

Other
• Freight Claim – Damaged during shipment
• Miscellaneous
Chapter 2: Managing Returns 49

In Table 2.3 below, potential disposition codes are presented.

Table 2.3
Disposition Codes

Disposal
• Scrap / Destroy
• Secure Disposal
• Secure Disposal (Videotaped)
• Donate to Charity
• Third Party Disposal
• Salvage
• Third Party Sale (Secondary Markets)

Repair / Modify
• Rework
• Remanufacture / Refurbish
• Modify (Configurable or Upgradable
Products)
• Repair
• Return to Vendor

Other
• Use as Is
• Resale
• Exchange
• Miscellaneous
50 Rogers and Tibben-Lembke

Several companies included in the research have also taken a

larger, more difficult step in compacting disposition cycle
times. This step is the development of a centralized return
center (CRC) network. While it is not intuitively clear that
establishing CRCs would reduce cycle times, in every firm
studied that moved to the CRC concept, disposition times
decreased. This reduction in time is most likely due to
improved information systems and clearly understood
procedures for handling returned material. In most cases
examined, this reduction in cycle time directly and
positively impacted the firm’s bottom line.

2.4 Centralized Return Centers

Centralized return centers (CRCs) are processing facilities

devoted to handling returns quickly and efficiently. CRCs
have been utilized for many years, but in the last few years,
they have become much more popular as more retailers and
manufacturers have decided to devote specialized buildings
and workforces to managing and processing returns.

In a centralized system, all products for the reverse logistics

pipline are brought to a central facility, where they are
sorted, processed, and then shipped to their next
destinations. This system has the benefit of creating the
largest possible volumes for each of the reverse logistics flow
customers, which often leads to higher revenues for the
returned items. It also allows the firm to maximize its return
on the items, due, in part, to sortation specialists who
Chapter 2: Managing Returns 51

develop expertise in certain areas and can consistently find

the best destination for each product.

Generally, centralized return centers work in the following

manner. The retail stores send product back to one or more
centralized return centers. If the retailer is a large, national
or international company, it is likely that it will have more
than one CRC. For example, Kmart Corporation has four
CRCs in its system, and Sears, Roebuck and Company has
three. The CRC then accumulates the returned product for
processing. Generally, the CRC will make a decision about
the appropriate disposition for the product, based on
guidelines set by the retailer and manufacturers.

One of the most important activities is the sortation step.

During this part of the process, employees make decisions
about whether the product can be resold or if it has to be
scrapped. Obviously, determining the best channel for
dispositioning of the product is of critical importance in
maximizing revenue from the products in the reverse
logistics pipeline.

Based on the research interviews, centralized return centers

are an important part of a reverse logistics management
strategy. These centers impose order on the reverse flow.
Generally, they are associated with information system
improvement. To run a CRC, a firm must have some sort of
reverse logistics system in place. In almost every instance,
research respondents said that centralized return centers had
a positive impact on the bottom line. In one case, a large
company said that the combination of implementing
52 Rogers and Tibben-Lembke

centralized return centers, moving to an asset recovery

program, and improving its reverse logistics information
systems improved the corporate bottom line by 25 percent.

The amount of product that a network of CRCs processes for

the large retailers can be huge. One retailer included in the
research ran over $800 million of product through its
network of CRCs during fiscal 1997.

CRCs also simplify in-store processes. It is often difficult to

get disposition decision uniformity across a chain of stores
for several reasons. The employees working the customer
service desk may be not properly trained, new, or not
terribly concerned about returns.

Consistency
Sending returns back to a CRC results in more consistent
decisions being made about product disposition. Because
processes are standardized, errors are more easily identified
and avoided. The quality of returns processing generally
improves as the firm moves to a centralized processing
model.

Space Utilization
Retail stores generally have very limited space in the store to
devote to returns. Usually, a retail store wants to devote as
much space as possible to the selling floor. A retailer does
not want to devote much space to hold non-selling returns.
Chapter 2: Managing Returns 53

Labor Savings
By centralizing returns processing, a retailer minimizes the
labor required to complete the processing of returns. One
properly trained employee at the CRC can generally do
more in less time than the combined efforts of several
customer service desk employees.

Transportation Costs
Many of the companies included in this research also found
that their reverse logistics-related transportation costs
decline due to consolidation. With a CRC model, a retailer
or manufacturer can utilize “milk runs” to pick up returned
goods. This way, a company can move more pallets and
fewer boxes, increasing consolidation and thereby reducing
freight costs.

The downside to a completely centralized system is that

handling and transportation costs can increase because all
products must be transported from the retail locations to the
centralized facility. If a product is going to be thrown away,
transporting it to a centralized facility just to throw it away
increases costs, but does not increase revenues, because the
product is still thrown away.

However, the cost savings, reduced disposition time, and

improved revenues associated with the implementation of
CRCs more than make up for transportation costs incurred if
the product is to be scrapped. In many cases, products that
are going to be thrown away would not be processed at the
retail store, anyway.
54 Rogers and Tibben-Lembke

Improved Customer Service

From the manufacturers’ point of view, the centralized
model can improve customer service. It can speed the
reconciliation process, improve return material
authorization (RMA) verification, and be part of developing
important management information. Because of
consolidation of returns, a manufacturer can more easily
become aware of trends in returns. Also, good reverse
logistics management can be a marketing strategy to keep
customers loyal. Processing the transaction quickly and
giving the customer credit helps to build customer loyalty.
Some firms believe that their returns management processes
give them a great opportunity to please the customer.

Establishing CRCs is a sign of commitment from the firm to

incorporate returns management into the overall corporate
strategic plan. It means that someone such as the general
manager of the CRC has the job of making sure that returns
are handled properly.

Compacting Disposition Time

Firms included in the research that established a CRC found
that their disposition cycle times were reduced.

Centralized return centers tend to expedite the reverse

logistics pipeline. Before implementing a CRC, retailers
would accumulate store returns and send them back to the
manufacturer in infrequent, unorganized, large batches.
Because returns were not normally the first priority of the
store or the distribution center, returned goods would pile
up in large amounts. This inefficient handling would result
Chapter 2: Managing Returns 55

in the loss of value as the returned product sat for a long

period of time and was often damaged. Retailers would
receive less credit from the manufacturers or distributors
than their original purchase price. For products such as
personal computers, this situation is catastrophic, as the
product loses value everyday it sits idle.

One retailer included in the research uses the faster

processing and systems linkages that are part of its CRC
network to assist the corporation in managing its bottom line
from one quarter to the next. From an accounting point of
view, this company transfers the inventory back to the
supplier once a bill of lading is cut. The director of reverse
logistics often receives calls near the end of the month or end
of the quarter asking him if he can, for example, “get rid of
$4 million and shift it back on the vendors before the period
closes.”

Profit Impact
Returns have a lower impact on the profitability of those
firms utilizing outsourced centralized return centers than
those not using outsourced centralized return centers. As
Table 2.4 shows, companies that used an in-house CRC
found that reverse logistics costs reduced profitability by 4.8
percent, while those companies that used a third party to
manage their CRC found profitability reduced by 3.7
percent.
56 Rogers and Tibben-Lembke

Table 2.4
Impact on Profitability

Activity In-House Outsourced

Central Return Center 4.8% 3.7%

Visibility of Quality Problems

One of the advantages related to operating a CRC is that it
becomes easier to see quality problems as product flows in
from several retail stores. Several of the firms that operate
CRCs told the research team that if the firm is doing a good
job of gatekeeping, and has a system in place that allows it to
match returned merchandise with the vendor file, the firm
can more quickly see problem products and suppliers. They
can then improve product quality and reduce returns.

An example of this is the experience that a major retailer had

with some dehumidifiers that inexplicably began arriving at
their CRC in large numbers. The CRC team called the buyer,
who called the manufacturer. The manufacturer sent an
engineer to examine the problem. The engineer laid the
dehumidifiers out on a workbench and found a plastic liner
that was melting. The melting plastic liner resulted in a
faulty product. Because the CRC effectively managed
information, a problem was solved that, otherwise, could
have resulted in much greater expense for all of the
members of the supply chain.
Chapter 2: Managing Returns 57

By tracking hundreds of return authorizations, a firm can

build a data warehouse that contains return reasons. If a
quality problem exists with a product, consolidation of
returns will highlight those quality difficulties more quickly
than if returns dribble in slowly from retail customer service
desks. A consumer electronics company was seeing high
return rates on personal CD players. Jogging while wearing
or carrying one of these portable CD players made them
skip. The returns were sent to a CRC where they were
processed. Management information for a large number of
these CD players was developed, which gave the firm
important feedback and enabled it to solve the problem.

In another example, a firm that manufactures bread

machines was experiencing a high rate of return on
apparently operable machines. The problem was that the
picture on the box showed a perfectly formed loaf of bread.
The bread machine, however, actually produced a loaf that
looked like a ball. It was not until the manufacturer could
view management information that was derived from a
number of returns that they understood the actual problem.

In the electronics industry, or in other industries that

produce and sell “high learning products,” a large number
of returns are not really defective. A high learning product
is one that requires users to do more than simply unwrap it
and put it in their mouths, play with it, or simply turn it on.
Products that require user knowledge or expertise for proper
operation often come back in large numbers. The ones that
actually work are “non-defective defective” products. There
is really not anything wrong with them, but the consumer
58 Rogers and Tibben-Lembke

could not figure out how to make them work. By utilizing a

CRC and seeing the return reasons in larger numbers, the
manufacturer and the retailer can work together to improve
the manual, develop a quickstart sheet, give an 800 phone
number, or come up with another solution to reduce the
non-defective defectives. For some products, the highest
percentage of returns is actually non-defective defectives.

Forward and Backward

A large number of firms interviewed believes that
distribution centers will not work well both forward and
backward. While at first this belief did not seem logical to
the research team, many distribution centers that attempt to
efficiently process both forward and reverse supply chain
flows have much difficulty. The problem may be related
more to focus than to actual capability. If the distribution
center manager has to make a choice between efficiently
executing forward logistics versus reverse logistics, the
distribution center manager will focus on forward
distribution. In every situation, forward distribution
management is the top priority of a distribution center that
has new product flow as one of its responsibilities.

A few of the research respondents said that cycle time

processing is negatively affected when one distribution
center handles both forward and reverse shipments. In
distribution centers that have a limited number of dock
doors and dock space, product coming back tends to be
mishandled and the processing of that material is often
postponed.
Chapter 2: Managing Returns 59

This problem of utilizing a distribution center to work both

forward and backward is one of the reasons that several
firms are seeking out specialists. It is difficult for executives
to justify the expense of constructing and staffing a large
building dedicated to handling “failures”–which is exactly
how returned product is often perceived inside the
company.

Some firms included in the research are able to perform

forward and reverse logistics operations in the same facility
by carefully segregating both the flow of product and the
employees. This separation allows the reverse logistics
employees to focus on the return flow and not be distracted
by forward distribution activities.

Accounting Issues
In a good CRC, information systems interact with
accounting and other systems. In theory, stores should be
able to do this well, but unfortunately, most cannot. For the
most part, retailers want to perform tasks that are part of the
normal retail process. A CRC assists the retailer and enables
it to make faster disposition decisions about returned
product.

To summarize, the benefits resulting from a centralized

return center are presented in Table 2.5.
60 Rogers and Tibben-Lembke

Table 2.5
Typical Benefits from a
Centralized Return Center

1. Simplified store procedures

2. Improved supplier relationships
3. Better returns inventory control
4. Improved inventory turns
5. Reduced administrative costs
6. Reduced store level costs
7. Reduced shrinkage
8. Refocus on retailer core competencies
9 Reduced landfill
10. Improved management information

2.5 Zero Returns

In zero return programs, the manufacturer or distributor

does not permit products to come back through the return
channel. Instead, they give the retailer or other downstream
entity a return allowance, and develop rules and guidelines
for acceptable disposition of the product. A typical return
allowance in many industries is three-and-a-half to four
percent of sales to the retailer.
Chapter 2: Managing Returns 61

A zero returns policy, properly executed, can result in

substantially lower costs, according to the research
respondents. Firms using zero returns can reduce the
variability of returns costs, by pre-setting the maximum
dollar amount of returned product. Stabilizing return rates
using a zero returns program promotes planning and fiscal
health.

Zero returns enables the firm to avoid physically accepting

returns altogether, a strategy being adopted by some
consumer product companies, and several electronics
companies.

Interestingly, most retailers do not track the cost of returns.

Instead, merchandise buyers factor the return allowance into
their pricing, which ignores the cost of returns.

While zero returns release upstream channel participants

from dealing with the physical portion of reverse logistics
management, it does not reduce much of the physical
burden placed on downstream channel participants.

Thus far, zero return programs have reportedly had mixed

results. At a large consumer products company, zero
returns appear to have reduced the handling costs related to
returns. However, much of the product that this firm
earmarks as scrap-in-the-field is, instead, showing up in
alternative channels, such as “dollar” stores and flea
markets. Cannibalization of the “A” or primary channel is
always a concern when considering a zero returns program.
62 Rogers and Tibben-Lembke

How Zero Returns Work

In a typical zero returns program, a supplier tells its
customers that no product will be accepted for return, once
ordered. Instead, the supplier will give the customer a
discount off of the invoiced amount. Depending on the
supplier, the retailer either destroys the product, or disposes
of it in some other manner.

In another model being utilized in the computer industry,

the retailer returns all product to a central point on open
return material authorization (RMA). Usable product is
paid for and shipped to a third party for refurbishment and
disposition. Ineligible or unusable product is disposed of
based on a predefined set of rules. In this model, the goal
for the retailer is to enlist as many manufacturers as possible
to participate, to enable centralized receiving, auditing, and
payment processing. From the computer manufacturer’s
point of view, all product from the channel is returned to the
refurbishing third party. The product is audited by an
independent entity to determine its usability and the
retailer’s credit entitlement. All aspects of the RMA process
and the disposition of the returned product are handled by
the third party.

In this model, ineligible product becomes moot, because the

third party settles claims between retailers and
manufacturers. The result for the retailer may be faster
reconciliation and payment; simplified, easier returns
processing; and cheaper, reduced inventory awaiting return
to the vendor. For the manufacturers, this model may result
in a faster recovery process, better RMA administration, and
Chapter 2: Managing Returns 63

a renewed focus on selling new products, which is their

primary goal.

2% / 6% Problem
A notable problem with zero return policies is one that can
be referred to as the “2% / 6%” problem. Because of the
considerable power that large retailers have in the channel, it
is hard for manufacturers to decree an appropriate returns
allowance and stick to it. For example, if a manufacturer is
selling product to Kmart, and sets a six percent returns cap,
Kmart would agree to that cap if the returns of the
manufacturer’s product do not exceed six percent. In fact,
Kmart would probably be very happy if its actual returns
rate was two percent while it was receiving credit for six
percent returns. Kmart would be able to use the additional
return cap money as a rebate.

However, if the manufacturer sets a two percent return cap

and the actual return rate is six percent, Kmart is not likely
to consent to the manufacturer’s set return cap percentage.
The retailer would instead insist that the manufacturer cover
the entire six percent returns. Because of the power of the
large retailers, most manufacturers are not in a position to
argue about the return cap percentage. This, coupled with
the inability of the manufacturer to truly control the
disposition of the product, means that the retailer has less
risk than the manufacturer from a zero returns program. An
effective zero returns programs requires that both the buyer
and seller truly understand what their actual costs are.
64 Rogers and Tibben-Lembke

2.6 Remanufacture and Refurbishment

Thierry, et al. (1995) defined five categories of remanufacture

and refurbishment. These five categories, shown in Table
2.6, are repair, refurbishing, remanufacturing,
cannibalization, and recycling. The first three categories:
repair, refurbishing, and remanufacturing, involve product
recondition and upgrade. These options differ with respect
to the degree of improvement. Repair involves the least
amount of effort to upgrade the product, and remanufacture
involves the greatest.

Cannibalization is simply the recovery of a restricted set of

reusable parts from used products. Recycling is the reuse of
materials that were part of another product or subassembly.1

Table 2.6
Remanufacturing and Refurbishment Categories

1. Repair
2. Refurbishing
3. Remanufacturing
4. Cannibalization
5. Recycling

Remanufacturing and refurbishing of used product is on the

rise. Even NASA spacecraft are being built with
remanufactured and refurbished tools. A prime
Chapter 2: Managing Returns 65

subcontractor for NASA utilizes remanufactured machine

tools to produce complex spherical components for
spacecraft. Remanufacturing was chosen over purchasing
new equipment to generate cost savings. Customization of
the machines was inevitable to adapt them to desired
computer numerical control and spindle combination
standards. In this particular case, older machines were built
with heavier castings. Because the mass of these older
machines is greater than newer models, they can absorb
vibrations more effectively, and improve workpiece quality.
Remanufacturing offers many advantages over the purchase
of new machinery. In this particular example, cost savings
ranged from 40 percent to 60 percent.

Sun Microsystems remanufactures and refurbishes spare

parts internationally. In both Asia and Latin America, Sun
brings back spares designated as FRUs, or field replaceable
units. These units are repaired either in the U.S. or locally,
in Latin America and Asia, depending on part value and
difficulty of refurbishing the part. These parts are then
restocked for reuse at a central distribution point or a RSL
(Remote Stocking Location). Spares may be located in
Miami, Florida for Latin America, or Singapore and other
RSLs for Asia. The parts are then reused for repairs. At the
time of repair, they are brought up to the current “rev”
(revision) level and refurbished to new.

Hewlett-Packard also uses remanufactured parts as service

parts. They are able to receive failed parts and assemblies,
remanufacture and refurbish those items, and then use them
as their primary materials throughout their service network.
66 Rogers and Tibben-Lembke

They can reuse a valuable asset and reduce the costs

associated with servicing computers and other complex
machinery.

2.7 Asset Recovery

Asset recovery is the classification and disposition of

returned goods, surplus, obsolete, scrap, waste and excess
material products, and other assets, in a way that maximizes
returns to the owner, while minimizing costs and liabilities
associated with the dispositions. This definition is similar to
the one that the Investment Recovery Association uses to
define investment recovery. The objective of asset recovery
is to recover as much of the economic (and ecological) value
as reasonably possible, thereby reducing the ultimate
quantities of waste.2

Asset recovery has become an important business activity

for many companies. The importance of asset recovery to the
profitability of the company depends on the ability of that
company to recover as much economic value as possible
from used products, while minimizing negative impacts
such as environmental problems.

The attitude of many firms towards used products has been

to ignore them, and avoid dealing with them after they are
originally sold. Manufacturers in the United States, typically,
are not responsible for products after customer use. Most
products are designed to minimize materials, assembly, and
distribution costs, and ignore the repair, reuse, and disposal
Chapter 2: Managing Returns 67

requirements. Manufacturers have generally believed that

the costs of incorporating these requirements would
outweigh the benefits.

The market for products in the asset recovery process is

covered in the discussion of secondary markets in Chapter 3.
The research found that secondary markets both
domestically and internationally are growing rapidly.

The asset recovery process can include defacing the returned

products. Many retailers and manufacturers do want their
brand recognizable when the products enters the secondary
market. Defacing may include removing the manufacturer’s
name or peeling off price stickers.

Asset Recovery Supply

Firms that specialize in reclaiming value from used product
enjoy a large supply of product from many different
potential sources. Materials are placed into the return
stream for several different reasons. One return flow type
common in Europe is the result of laws requiring
manufacturers to take back used products. Products coming
off a lease or rental agreement make up another source of
supply. Products that fail or have quality problems are
another source of returned product. Quantities of this kind
of return can depend on product warranties and service
contracts. Forecasting return flows of defective products is
often difficult. Failure or quality defect rates can depend on
the type of product. For example, electronic items tend to
fail early in life, whereas mechanical components fail as they
age.
68 Rogers and Tibben-Lembke

2.8 Negotiation

Deal-making is a key part of the reverse logistics process. In

the forward flow of goods, prices are often set by brand
managers and marketing specialists. Reverse logistics often
includes a bargaining phase, where the value of returned
material is negotiated without pricing guidelines. These
negotiations may be handled loosely. In addition, one or
more of the negotiation partners often does not fully
understand the real value of the returned materials, creating
opportunities for third parties to operate on the margin.
These third parties often employ some of the sharpest
logisticians. One executive told the research team that “if
you want to meet a great negotiator, go talk to someone that
handles scrap paper.”

Sometimes the negotiations are handled by specialist third

parties. These third parties act in an advisory capacity to the
primary participants in the supply chain who are working to
transfer ownership of the material back to the original
source.

Also, third parties can manage the physical processing of the

materials. Companies, such as GENCO Distribution System
or DamageTrak, are examples of these kinds of firms.
Generally, the same third party does not handle the value
negotiations and physical processing of the product for both
the retailer and the upstream manufacturer. There are
exceptions to this rule, but usually retailers and
manufacturers want different third parties acting on their
behalf to eliminate potential conflict of interest.
Chapter 2: Managing Returns 69

2.9 Financial Management

Financial management issues are the primary determinants

in the structure of a reverse logistics system, and the manner
in which product is dispositioned. Most firms need to
improve internal accounting processes. Accounting
problems drive the actions of managers. In a few firms
included in the research, accounting issues drove store
managers to sidestep normal return systems. In these cases,
internal policies and controls moved them to inefficient,
incorrect behaviors.

An example of a policy-created problem surfaced in the

research. Merchandise designated to go back to the supplier
due to overstocks, or because it is not selling, is earmarked
for processing through a centralized return center.
However, internal accounting takes a markdown on those
items that move through the centralized return center, and
stores expense those items. When the centralized return
center processes the material, they get full credit, and the
stores are punished. The stores do not want to be punished
so they slow the flow back to the vendor to postpone the
negative financial impact as long as possible. This delay
causes a store-level backup of material that should be
dispositioned. In addition, the loss of consolidation
opportunities increases transportation costs.

Often, the cost of returns is charged against the sales

department. While this policy may generally be a
reasonable one, it can complicate reverse logistics processes.
If sales personnel are penalized for returns, they will go out
70 Rogers and Tibben-Lembke

of their way to slow down or demolish the quick recognition

of returns and the speedy disposition of returned material.
Issues related to chargebacks and bottom line responsibility
for returns must be a key consideration when developing a
good reverse logistics management system. As mentioned
previously, the greatest roadblocks to successful reverse
logistics are company policies. Generally, company policies
that pose difficulties are related to accounting issues.

Sorting out what a supplier is to be paid, when deals and

promotions are factored in, can be a challenge. However,
returns are often the number one issue in reconciling
accounts receivables. Because these issues are often so
difficult to manage, third parties have begun to specialize in
handling accounting and reconciliation issues.

2.10 Outsourcing Reverse Logistics

Many companies are outsourcing most or all of their

logistics activities. Some of these firms are extending their
outsourcing to the reverse product flow, including many
firms that participated in our research. These firms are
using their reverse logistics outsource supplier as a
benchmark to help determine what and how reverse
activities should be performed, and how much those
activities should cost. Often, these outsource suppliers
perform reverse activities better, and their customers find
that using these service firms reduce the administrative
hassle of doing it themselves. These outsource suppliers
have become specialists in managing the reverse flow, and
Chapter 2: Managing Returns 71

performing key value-added services, such as

remanufacturing and refurbishing.