The 5 P’s of Inventory Shrinkage

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Inventory shrinkage is a term used to describe the loss of inventory. It is the difference between the physical count of inventory stock and the recorded quantity. Categorised as inventory waste, the four major types of inventory shrinkage are shop-lifting, theft by employees, clerical errors and supplier fraud.


Shoplifting is the leading cause of shrinkage, accounting for over a third of all inventory shrinkage. Retail businesses are particularly prone to inventory shrinkage as a result of petty theft.

Therefore, the placement of products within the retail store environment is an important way of reducing the loss of the most valuable items. Placing expensive inventory items in cases, on locked hangers, near the point of sales, and at the back of the store, helps to reduce inventory shrinkage caused by opportunist theft.

Increased security through the use of digital tags, CCTV cameras and other security measures will also help reduce the risk of customers stealing your inventory stock.


Vendor fraud is another area of inventory shrinkage that occurs through either a fraud being committed by vendors acting alone, or some type of collusion between vendors and employees. Common fraud schemes often include:

  • A supplier invoicing a company for a number of goods shipped but not shipping all of the goods. The recipient then records the invoice for the full cost of the goods and because the inbound stock has already been recorded as fewer units, the difference is shrinkage.
  • Overbilling where an employee may intercept a duplicate payment when it is returned to the company and deposits it into their own personal account.
  • A vendor can submit inflated invoices for their goods including charges for greater quantities than actually received.
  • Theft may also occur during transit from the supplier’s warehouse to the business premises or when loading and unloading the inventory stock.


The people in your organisation are at the forefront of a business’ inventory stock, and they have primary accountability for maintaining stock quality and prevention of shrinkage.

Managers and business owners are responsible for establishing inventory control, ongoing cycle counting processes and bin-level tracking of inventory stock. They also assign responsibility for inventory accuracy and ensuring the security of the warehouse to prevent anyone except staff from entering facilities.

It’s the employees who are accountable for controlling the results and accuracy of the physical count and correctly entering any adjustments of inventory stock into inventory records. Staff are also responsible for counting all items when they arrive at the receiving dock and counting all finished goods when they are dispatched.

Staff integrity reduces the potential for employee theft, while proper inventory training provides employees with the tools they need to reduce instances of consumer theft, administrative errors and supplier fraud.


Inaccuracies in inventory counts and administrative records can also make the business appear to have a shrinkage problem. To ensure accuracy, inventory should be counted and re-counted, especially when there are large shipments or production runs involved.

Automating the inventory control process can help prevent errors and omissions caused by human error. A dedicated inventory management software system will help reduce manual handling of stock and cut down on inventory shrinkage. However, even with automated systems in place, it is important to check inventory counts manually.

A double-check system with more than one person assigned to important inventory control tasks such as signing invoices, recording stock, and accepting stock can help. Deliveries and shipments should be counted each time they enter and exit the business and recorded accordingly.

Inventory management software can track the location of the inventory from the point of origin to the point of sale and will hold all parties involved in the inventory control process accountable.

Preventing inventory shrinkage

Shrinkage can have a negative impact on the business and its customers, resulting in such changes as price increases, decreased employee bonuses and an overall loss of sales.

Businesses should track the percentage of inventory shrinkage over time and compare results with previous counts. Is there an increase or a decrease in shrinkage? If the shrinkage percentage has decreased over time, it shows that the company’s inventory control techniques have reduced stock shrinkage.

However, if the inventory shrinkage percentage increases over time, then the company should review the measures they have implemented to identify and correct any potential problems.

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Melanie - Unleashed Software

Article by Melanie Chan in collaboration with our team of Unleashed Software inventory and business specialists. Melanie has been writing about inventory management for the past three years. When not writing about inventory management, you can find her eating her way through Auckland.

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