September 28, 2018      2 min read

Inventory management is an extremely important part of running a successful business, but it can be a complicated task. Theft, damage, miscounting, incorrect units of measure, evaporation and other issues can cause what is known as inventory shrinkage. In this article, we explain what inventory shrinkage is and how you can avoid it.

What is inventory shrinkage?

Inventory shrinkage is the excess amount of inventory listed in the accounting records, but which no longer exists in the actual inventory. Excessive shrinkage levels are usually caused by problems with inventory theft, damage, miscounting, incorrect units of measure, evaporation, or similar issues. It is also possible that shrinkage can be caused by supplier fraud, where a supplier bills a company for a certain quantity of goods shipped but does not actually ship all of the goods. The recipient, therefore, records the invoice for the full cost of the goods, but records fewer units in stock; the difference is shrinkage.

Identifying inventory shrinkage

To measure the amount of inventory shrinkage, conduct a physical count of the inventory and calculate its cost, and then subtract this cost from the cost listed in the accounting records. Divide the difference by the amount in the accounting records to arrive at the inventory shrinkage percentage.

What can be done about it?

Implement a double-check system

The initial action that a business should take to prevent inventory shrinkage is to implement a double-check system. It should have more than one person assigned to important inventory management stages such as signing invoices, recording stock, and accepting stock. Having a second person to verify the records helps prevent inaccuracy and omission of key details. A double-check system also helps to identify loopholes that may contribute to stock shrinkage and to implement measures to curb fraud.

Automate inventory management

Automating the inventory management process can help prevent errors and omissions caused by humans. A dedicated inventory management software program will help reduce manual handling of stock and cut down on shrinkage. The software will hold all parties involved in the inventory management process accountable. It will track the location of the inventory from the point of origin to the point of sale, count the number of keystrokes, and produce logs for all the users who logged into the system.

Track inventory shrinkage

An organisation should track the inventory shrinkage percentage over time to gauge whether there is an increase or a decrease in shrinkage. The inventory count should be compared to the previous inventory counts. If the shrinkage percentage has decreased over time, it shows that the company’s inventory management 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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