Events in the past may be roughly divided into those which probably never happened and those which do not matter. – William Ralph Inge (1860-1954)
Tedious. Banal. Tiresome.
These are all worthy adjectives to describe this topic.
So why am I even discussing it?
Because, for some reason I'm unable to explain, the question of how to deal with saleable merchandise returns in the sales forecasting process often seems to take on the same gravity as a discussion of Roe v. Wade or the existence of intelligent extraterrestrial life.
Point of sale data, imperfect as it is, is really the only information we have to build an historical proxy of customer demand. However, the POS data contains both sales and merchandise returns, so the existential question becomes: Do we build our history using gross sales or net sales?
The main argument on the ‘gross sales' side of the debate is that a return is an unpredictable inventory event, not a true indicator of ‘negative demand'.
On the ‘net sales' side, the main argument is that constructing a forecast using gross sales data overstates demand and will ultimately lead to excess inventory.
So which is correct?
Gross sales and here's why: Demand has two dimensions – quantity and time.
Once a day has gone into the past, whatever happened, happened. Although most retailers have transaction ID numbers on receipts that allow for returns to be associated with the original purchase, we must assume that the customer intended to keep the item on the day it was purchased.
The fact that there was negative demand a few days (or weeks) later doesn't change the fact that there was positive demand on the day of the original purchase.
Whenever I'm at a client who starts thinking about this too hard, I like to use the following example:
Suppose that you know with 100% certainty that you will sell 10 units of Product X on a particular day. Further suppose that you know with 100% certainty that 4 units of Product X will be returned in a saleable state on that same day.
You don't know exactly when the sales will happen throughout the day, nor do you know exactly when the returns will happen. At the beginning of that day, what is the minimum number of units of Product X you would want to have on the shelf?
If your answer is 10 units, then that means you want to plan with gross sales.
If your answer is less than 10 units, then that means you're not very serious about customer service.