The next chapter of retail woes: return policies

It was innocent enough. You bought two sizes of the same shirt online, hoping to find your perfect size. One fit, and the other didn’t, so back to the retailer it went.

For you, it was about getting a flattering shirt, but for a retail CFO, you just caused a major headache.

“Regardless of how you classify it, at the end of the day, there’s margin erosion to the retailer,” Pedro Ramos, chief revenue officer at loss prevention retail tech firm Appriss Retail, told CFO Brew.

Unlike the much-hyped topic of retail theft, accidentally costly returns often have much more innocent origins, but that doesn’t lessen the financial burden to retailers. In 2023, the retail return rate was 14.5%, amounting to $743 billion in total merchandise returns, according to a joint National Retail Federation and Appriss Retail report. For every $1 billion in sales, on average, retailers simultaneously rack up $145 million in returns.

A costly, widespread problem that’s often proliferating by sheer oversight? Now there’s an issue for CFOs to solve if we ever saw one.

Why now? “More people are shopping online. That includes people who are prone to defraud retailers,” Vijay Ramachandran, VP of go-to-market enablement and experience at shipping and mailing company Pitney Bowes, told CFO Brew. “It’s sort of a big tent problem: The more people you have in a tent, the more bad actors there are going to be.”

As the explosion of online shopping changed consumers’ relationship to returns, making formerly offbeat return practices commonplace, retailers simultaneously had to keep up with competitors’ lenient return policies.

“The modern talk track around the ease of returns is very focused on Covid,” Ramos said. “But really, you can trace it back to the explosion of e-commerce.” Retailers needed to make navigating online storefronts “as simple and as easy as possible” to “raise the level of confidence,” he continued.

Free shipping, for instance, was “one of those policies that was implemented to give consumers a level of comfort with online shopping adoption” that’s now becoming prohibitively expensive to retailers, Ramos continued.

Retail response. CFOs need to consider the customer downside risk. Trouble is, you can’t take lenient return policies away without turning off would-be customers, but you also can’t play fast and loose with returns and expect to keep profits as high as they could be.

“The first reaction is: ‘How do we turn the faucet down? Can we just reduce the return rate?” Ramachandran said. “And so what you saw at the beginning of last year, the very first types of retailers to tighten their return policies were the fast fashion retailers.” That list included Shein, H&M, and Zara, which all added return fees in the last year.

Ramos called it a logical move: “The first response to returns, to all these issues, in the retailer’s toolbox is policy.”

“Retailers only have a couple of levers they can pull on the return policy before they really start making customers angry,” Ramachandran added. “One is just slowly narrowing the return window…That slow constriction is something that a lot of consumers don’t notice until after they buy something.” And then there’s the dreaded shipping fee for returns, he explained, which, while relatively effective, makes it hard to compete with the Amazon Prime of it all.

Also, there’s an issue with any return policy change, in Ramos’s and Ramachandran’s view: Almost all of them can be circumvented. After all, that’s part of what got us into this mess.

The other downside? They don’t take into account “the individual consumers,” Ramos said. Retailers’ most loyal, high-spending customers, who can be trusted to make fair and honest returns, are treated the same way as fraudsters, he explained.

The future of returns. So, what might the next era of returns look like instead?

“I think where the industry is going is: How do you craft a return policy for specific groups of customers rather than a one size fits all?” Ramachandran said. Increasingly, he explained, retailers are stacking their loyalty programs with shipping and return benefits, so customers get lower or free shipping if you’re part of the loyalty program.

“It’s very early days, but this idea of using a loyalty program as a way to differentiate between two different return policies for two different classes of customers, is the first attempt of trying to personalize return policies by customers,” he added.

AI will make all of this easier, Ramos and Ramachandran add. In the case of loyalty-based return policies, at some point, companies could “really go down to the level of: when you sign up for an account on a retailer’s website, you get a return policy specific to your purchase habits,” Ramachandran explained.

“AI applications work really well when they are applied to a specific, well-defined problem,” Ramos added. “Anywhere [CFOs] have the opportunity to implement technologies that remove the human decision out of it, yet continue to serve the customer, they’re going to have a significant impact on the P&L.”

“It is going to be a longer time horizon,” Ramachandran said of AI return developments. “With retailers, as soon as you start involving the IT department, retailers slow down.” But when that technology becomes more readily available, he adds that it’ll be “disruptive in turn for a CFO or a CIO because you’re going to have to do a lot of technical integration work to enable something like that.”

His message for retail CFOs: “Keep an eye on that space.”