As a small business owner, your products are your bread and butter. The National Retail Security Survey conducted by the National Retail Federation (NRF) noted that the overall shrinkage impact to the U.S. economy was nearly $49 billion in 2016.

Furthermore, almost 1 in 10 participants reported that retail shrinkage is responsible for a total sales loss of 3 percent or more.

Reducing retail shrinkage has to be a top priority, as research shows the amount of loss due to shrinkage increases annually. Learn about what is retail shrinkage, the causes of shrinkage in retail, and solutions to prevent it.

What is Shrinkage in Retail?

So, what is shrinkage in retail, you ask? Technically, shrinkage is any loss of product experienced by a business, but there has been disagreement about what constitutes a loss. The Retail Industry Leaders Association (RILA) attempted to outline what exactly loss can mean to retail businesses in its publication, “Beyond Shrinkage: Introducing Total Retail Loss.”

The RILA notes that, historically, retail shrinkage has been defined as a discrepancy between actual physical inventory and what the books say stock should be. As pointed out in the report, shrinkage may include crime-related loss, pricing errors, administrative errors, and damaged or expired goods.

What Causes Shrinkage in Retail?

Shrinkage can occur at any stage in the retail cycle, but the most significant percentage of product loss is due to shoplifting and employee theft. Discover what industry research reveals about what causes shrinkage in retail.

Shoplifting & Return Fraud
The NRF’s National Retail Security Survey found that more than 22 percent of shoplifting incidents had an average dollar loss of more than $1,000. What would a $1,000 loss do to your bottom line? How impactful would one shoplifting incident be if it occurred twice a month? For most business owners, the loss of income is equal to one full-time, entry-level employee’s annual salary.

In 2017, return fraud was finally quantified as a source of retail shrinkage. The NRF noted that one incident of return fraud could average a loss of more than $1,700. According to the National Association for Shoplifting Prevention, about 1 in 11 people in America are shoplifters with 25% of them being kids under the age of 18.

Employee Theft
The second largest portion of retail shrinkage is internal theft or employee theft at 30 percent. This can be anything from malicious criminal behavior, like stealing products, to giving products away to friends for a discount. The sheer number of employee theft issues has prompted businesses to tighten their hiring practices and conduct in-depth pre-employment screenings like background checks.

The NRF estimates that the average dollar loss per dishonest employee was greater than $1,900, a figure many business owners use to justify increased recruiting and screening costs.

Administrative Error

Administrative errors are the third most common cause of product loss, anything from accounting errors to poor inventory management. Usually, loss due to an administrative error, or ‘paper shrink,’ is unintentional or the result of carelessness, but it still accounts for more than 20 percent of retail loss.

Process Failures & Damage
Internal processes can be a source of retail shrinkage. Product damage due to inappropriate placement or storage adds to overall shrinkage rates for many retail establishments, mainly consumer goods.

Additionally, staff responsible for rotating perishable products can inadvertently cause product loss if they’re not accurate with this task. Similarly, shrinkage can occur along the supply chain. Product loss due to vendor error or fraud accounts for more than 5 percent of retail shrinkage, according to NRF’s report.

The Unknown
What may be worse than understanding the causes of retail shrinkage is a complete lack of understanding. How do you know which steps to take to prevent retail shrinkage if you don’t know what’s causing it? The NRF’s 2017 study found that unknown losses accounted for nearly 7% of retail shrinkage.

SEE ALSO: Winning At Loss Prevention (Your Retail Shrink Action Plan)

How to Fix Retail Shrinkage

Even if you don’t know where all of your lost inventory goes, it’s likely that less than 10% has an unknown cause. Mitigate the total retail shrinkage your business may experience by addressing the knowns instead of focusing on the unknowns.

The majority of respondents questioned in the National Retail Sales Survey stated that their loss prevention initiatives were either staying flat or decreasing despite an increase in shrinkage impact in 2017. Though tight budgets and limited resources play a role, more than 20 percent of businesses are increasing their loss prevention efforts.

Limit Temporary Employees
When the busy season hits, it can be tempting to take on temporary employees and bypass your standard hiring procedures. Often in the retail industry, the threat of being understaffed and overwhelmed motivates business owners to take action without thinking about the potential long-term consequences. When it comes to loss prevention, you might hire someone in the short-term who doesn’t have your best interests at heart and who is contributing to your shrinkage problem.

To avoid this potential pitfall, monitor your company’s history of peak sales seasons using sales reports from your POS system and forecast how many employees you will need to handle the increased traffic. It may be that you can provide some overtime to a few trustworthy employees instead of hiring a complete stranger to fill a position.

Tighten Up Your Return Policy
As previously reviewed, return fraud is skyrocketing, particularly among businesses that don’t have a clear, concise, and visible return policy. Depending on the size of your business and how many locations you have, you may think it’s okay to accept returned items with no questions asked. Perhaps it’s even excellent customer service practice to do so.

Unfortunately, the numbers don’t agree. There is nothing wrong with requesting a receipt no older than 30 days to return an item for a refund. Continue to provide excellent customer service by offering store credit instead of a cash refund if the requirements of your return policy are not met. If you clearly print the return policy on all receipts and post it in-store for customers to browse, there should be minimal complaints about how you choose to operate returns.

Take Control of Your Inventory in Real Time
Accurate inventory management is the key to reducing administrative errors that would otherwise contribute to a higher rate of retail shrinkage and greater profit loss. If you’re not currently in control of your inventory, including transactions and the employees involved, it’s impossible to pinpoint when, why, and how a loss occurred.

Consider using a smart POS system, such as ShopKeep’s iPad POS for retail establishments, to take the reigns of inventory management and track every item through the sales process. With this system, you can track inventory in real time, monitor top-selling items (and perhaps gain insight into which items are most attractive to potential thieves), and optimize your product displays to align with customer preferences.

Implement a Strict Employee Theft Policy
Loss prevention awareness is an initiative many business owners, both large and small, are undertaking with current staff and new hires alike. Discuss real cases of shrinkage within your business or provide examples from other companies to help employees gain a better understanding of what is and isn’t considered theft.

Then, reinforce your position on theft, which is, of course, a zero-tolerance policy. Help employees learn to recognize the signs of theft so they can watch for them among their coworkers as well as staying vigilant when working with the public.

If retail shrinkage due to theft is a significant issue for your company, consider incentivizing loss prevention by offering a bonus or staff party for each month shrinkage declines. Make sure staff have a safe, retaliation-free method of reporting the suspected theft, such as an anonymous toll-free number.

Leave it to Loss Prevention Professionals During Peak Seasons
When you’re slammed with customers, and every one of your staff members is focused on sales, it’s hard to find a chance to breathe let alone monitor the store for potential threats. If you’ve taken advice from tip number one and saved money by cutting out temporary staff, you should be able to easily hire a qualified loss prevention specialist to provide coverage, security, and a visible presence that deters would-be criminals during peak seasons and hours.

The Bottom Line is Yours

Let’s face it: The first thing anyone thinks of when it comes to what causes shrinkage in retail is a lack of oversight. But for many small businesses, hiring a full-time security team and installing state-of-the-art monitoring technology just isn’t in the budget.

By taking small steps to educate staff, improve inventory management, and tighten store policies, you can positively affect your company’s bottom line by reducing loss due to retail shrinkage.

Yamarie Grullon

Yamarie Grullon has years of experience creating helpful & engaging content for small business owners. As Director of Content Strategy at ShopKeep, the #1-rated iPad Point of Sale System, Yamarie provides merchants with practical advice on all things related to business or point of sale.