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Inventory shrinkage is something few small business owners take into account when starting their company. If you aren’t in a business like retail, it’s hard to imagine that your inventory, for whatever reason, could go missing. That sounds like the result of mistakes, you might say, and my new company won’t make those mistakes.

But if you think loss of inventory is a problem for just a small subset of businesses, think again. One report (from The Balance) says that inventory shrinkage caused U.S. retailers to lose as much as $49 billion in 2016. The study represented 91 retailers with over $800 billion in yearly sales. No business is immune from the reality that inventory can and will disappear.

What’s causing inventory shrinkage and how can it be stopped? Well, there is likely no perfect solution to solving this issue. But if we identify the ways in which inventory shrinkage happens, we’ll be better equipped to stopping those main issues and protecting our businesses from heavy losses.

The Main Sources of Inventory Shrinkage

According to the National Retail Security Survey, there are five main sources of inventory shrinkage. Let’s review them and see how costly they can be.

Unknown causes

We should get this one out of the way first: Apparently 6 percent of inventory shrinkage is due to unknown causes. There’s really nothing you can do here. Things just slip through the cracks sometimes. Chalk it up to the cost of doing business and move on, rather than wrack your brain and make yourself crazy over chasing a few percentage points. There are bigger fish to fry—see below.


A whopping 38 percent of inventory shrinkage comes from customers stealing the inventory. This is the classic, almost stereotypical reason retailers lose their inventory, and likely the reason that sprang to mind first. Even in a world of increased security by means of more cameras, digital tags, and more precautions, it’s still possible for people to walk out of the store with more than what they paid for.

Employee theft

The second most common cause is employee theft, at 34.5 percent. There are lots of reasons why an employee might steal from you. They might just be dishonest people. They might feel undervalued, underpaid, and underappreciated, and consider taking some of the business’ inventory as a way to recoup their losses. They might feel that a piece of the inventory pie is their right as an employee.

Either way, for many years it’s been pretty easy to cover up theft of inventory as an employee. If one product out of many hundreds or thousands or tens of thousands go missing in the rush to get everything out to customers, what employer would take the time to track it down? Better to assume it went missing through common error and focus instead on the rest of the not-missing inventory.

It’s that attitude that hurts business owners who don’t know how to respectfully (you can’t go around suspicious of all your employees), and effectively, battle the spectre of employee theft.

Paperwork error

Though business is increasingly done not through paper but digitally (more on that later), administrative and paperwork errors are cited as the source of 16.5 percent of shrinkage. This can be as simple as a misplaced decimal point or extra zero, pricing mistakes that lead to markups or markdowns, or accidental reorders that leave businesses with excess inventory that can add up over time.

Vendor fraud

It’s one thing to be diligent about your own employees and try to hire only honest, hardworking people who understand not to steal from their employer. But if you’re in a business that involves a sophisticated supply chain, your inventory is going to at some point be under the jurisdiction of a third-party vendor. As a result, about 7 percent of inventory shrink comes as a result of vendor fraud. If some of your inventory is lost in transit while another vendor is responsible for it, what recourse do you have?

How Can Inventory Shrinkage Be Stopped?

That last question is the question that haunts all business owners: What recourse do I have to stop my business from suffering these losses? There are a number of reasons why one in every five small businesses fails to survive their first year, and half of them fail within five years, and inventory shrinkage is certainly one of them.

There are some simple fixes, but they’re difficult to quantify in terms of effectiveness. You could make an effort to hire more trustworthy people, and do business only with trustworthy vendors (even if that comes at a premium, the peace of mind is worth it).

For almost every one of the reasons listed above (except for “unknown reasons”), the solution is probably that you need to switch to an automated inventory management system, usually powered by barcode technology.

You might think in this digital age that everything is done with software—but amazingly, 43 percent of small businesses polled in the Wasp State of Small Business Report say they don’t track their inventory at all or use a manual process to do so.

Inventory management software holds everyone—even employees you trust—accountable. It takes the possibility of keystroke error out of the hands of even your most reliable accounts, who are bound to make mistakes because that’s just human nature. It helps you track the location of your inventory from its point of origin to the point of sale, (if employees are outfitted with barcode scanners or mobile computers, each step can be logged and accounted for). And it can help you “pull” rather than “push” inventory to meet surging (or flagging) demand, so you only reorder inventory when necessary and don’t find yourself overloaded with carrying costs that can only be partially offset with discounts.

Automated inventory management systems are part of what has helped companies like Amazon and Wal-Mart take a firm control of the future of retail. The humble barcode is more than just a way to save time at the checkout counter—it can actually be the tool that unifies your inventory into one easy-to-access database.

Saving the Bottom Line

We may never fully solve the issue of inventory shrinkage as a whole—as the “unknown reasons” factor from above can attest, not every problem has an identifiable answer. But the billions of dollars that are hemorrhaging out of hundreds of American businesses could be better spent on things like security, marketing, growth, and other possibilities, rather than playing inventory catch-up. If your business doesn’t use an automated system, it’s time to change that before your bottom line shrinks to zero.