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The Impact of Retail Returns on Commercial Real Estate

Pushing products through the supply chain isn’t complicated. While there might be some bottlenecks right now the entire global shipping system is designed to help get goods to your doorstep. You know what’s complicated? Returns. Getting goods to consumers is a walk in the park compared to getting them back to the manufacturer. The back-end of logistics is bending over backward to accommodate generous return policies being exploited at scale. The size of the problem has gotten so large it’s creating investment opportunities in the world of real estate. 

Americans return roughly $500 to $600 billion worth of goods annually, mostly purchased online, according to the Reverse Logistics Association. Americans return about 10 percent of all purchases and about 20 percent of all online purchases. These staggering numbers have been growing every year since the 1900s. Money-back guarantees date back to the 18th century, popularized by mail order catalogs like Sears during the late 1800s. The idea is simple, offering money-back returns lowers the risk of purchase so a customer is more likely to buy something. The simple idea was complicated in practice ever since its inception. The rise of e-commerce took the nascent issue and poured rocket fuel on it. 

E-commerce sellers quickly learned one of the largest obstacles to purchasing something online was the fear of it not being what they expected, for whatever reason. It doesn’t fit right, the color looks different in person, I don’t like the feel out it. To overcome those issues that customers would typically figure out in a store, online retailers began offering generous return policies, promoting the policies through advertisement and marketing. Money-back guarantees and free returns set a standard that every consumer now expects. As any economist will tell you, nothing is free. Especially not returns. For over two decades businesses have been bearing the cost of free returns, raising the price of all goods to cover the expense. The cost of returns is increasing, creating opportunities for businesses willing to invest in solutions. They all require real estate. That’s the rub, a reverse logistics supply chain requires an average of 20 percent more space and labor capacity compared to forward logistics, according to research from Optoro.

Picking through the wreckage

Let’s say you bought a pair of shoes online, they don’t fit right, so you want to return them. In an ideal situation, what happens next? You print a free return shipping label and ship the shoes back. Instead of a sale, now the company is losing money on shipping both ways. All returns get loaded on a trailer that arrives back at the manufacturer’s facility. Now all those returns have to be sorted. 

“There’s nothing efficient about opening up a trailer full of 26 palettes of returned goods that are not rewrapped,” Executive Director of the Reverse Logistics Association Tony Sciarrotta told Planet Money. “You might have 1,000 items, every item is likely to be different. You get onesies. Onesies are a nightmare.” 

Every item needs to be inspected. Why was it returned? Is it damaged? Can it be resold as new? If it’s electronics, that’s not allowed. Clothing, one of the most popular items to buy online, is notoriously difficult to inspect as a return. Spotting stains, funky smells, rips, missing thread, and other defects is a labor-intensive process. Some products need to be tested to make sure they still function. Nothing is packaged, so it can’t just be put back on the shelf even if it’s in mint condition without it being rewrapped. All those processes take space, labor, and time that logistics facilities struggle to accommodate. Dedicating part of facility and labor to processing a sale that has not made the business any profit, and in fact, has actually cost it money, is a nonsensical endeavor. So most major retailers don’t even try. The ideal situation just described is mostly a fantasy. Retailers abandoned these processes years ago. That’s where the investment opportunity comes in. 

It’s hard to overstate how much product retailers like Amazon, Target, and Walmart move. To be blunt, they are not interested in returns. Why would they be? Returns are a loss. Limiting the loss is the best they can hope for. The cheapest path of least resistance is to not process any returns. Most major retailers turn to liquidation companies, a growing sector gobbling up real estate. 

“Customers really believe that the product just goes into the black hole or ends up being resold to another customer as brand new. And in many instances, that’s not the case,” Albert Palacci, CEO of 888 Lots, a liquidation company, told CNN

“Re-commerce” 

Some returns processed in-store do end up on clearance racks, Amazon operates its own marketplace for used and refurbished products, but by and large, those are exceptions. Most retailers lump all returns together in boxes or palettes, not bothering to sort them. That’s where liquidators come in, buying the boxes wholesale without ever knowing exactly what’s in them. One companies trash is another’s treasure. 

From there liquidators either sort through the products themselves or, what’s far more likely, set them up to be sorted through by rabid shoppers. What started as an e-commerce purchase morphs into a brick-and-mortar frenzy. Liquidators set up the boxes and palettes of returns they purchased, open the store, and watch the chaos ensue as small-time entrepreneurs rush to tear through the boxes to find the best items to individually resale. It’s all about knowing what sells well. Air fryers can be flipped for a nice profit. Most clothing can’t. The calculus of flipping returned goods online changes by the day, often by the hour, done mostly by small-time business owners decomposing and disposing of returns through eBay, pawnshops, and other resale markets. Liquidation stores are a steady stream of returns being panned by profiteers looking for nuggets of gold like a perfectly good iPhone. What is left after its been picked over is sent to a landfill, roughly 5 billion pounds worth of goods every year. 

Liquidators fall under what the industry has dubbed Third-Party Logistics (3PL). Working alongside but outside the bounds of retailers, 3PL providers use their own equipment, space, and labor to move returned goods for retailers. 3PL providers typically target Class B or second-generation industrial space being offered at discounts, becoming a major driver of real estate demand in their own right. Nearly 30 percent of industrial transactions over 100,000 square feet were executed by 3PL providers last year according to CBRE statistics. Liquidation retail locations are also rapidly growing, just how much is hard to track since locations can close down as quickly as they arise. All you need is returns for inventory which are practically being given away. The industry is attracting investors. 

B-Stock, a B2B liquidation marketplace, raised $65 million from the private equity firm Spectrum Equity to drive expansion. The platform was able to sell 145 million items on its ‘re-commerce platform.’ That equates to keeping 500 million pounds of merchandise out of landfills. “Among retailers who landfill returns, they generally believe that it’s the economically sensible thing to do,” Howard Rosenberg, CEO of B-Stock Solutions, told Insider. “However, companies who think this way typically don’t understand or appreciate the value those products have in the secondary market.” 

Commerce is an ecosystem, and no ecosystem could function without decomposers, breaking the refuse and discarded bits left behind. E-commerce piling up mountains of returned detritus is fueling 3PL providers and liquidators appetite for more. Like decomposers in nature, their true footprint is often hidden just below the surface. It may not be glamorous but it’s a good living. As online shopping continues to grow, so to will the importance of business breaking down returns on the back-end.

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