Operational Shrink in Retail: There’s More to LP than Preventing Theft

Shrinkage Control, in-store audit

Since its inception in 1993, the Lowe’s Companies loss prevention and safety department has tailored its programs to identify and respond to losses that can be directly attributed to employees. The LP department believes that 80 percent of all losses can be attributed to employees. Forty percent of those losses come from dishonest activity. To curtail this type of loss, the department takes a proactive approach by “advertising its defenses,” tools such as CCTV and exception reporting.

The other 40 percent of losses attributed to employees can be labeled as paper shrink. Employees contribute to paper shrink in retail daily due to poor training, apathy, turnover, and other factors beyond their control. One aspect of the program to reduce operational paper shrink is an aggressive training program for store-level management teams, which includes store managers, operations managers, receiving department managers, return-to-manufacture clerks, and assistant managers. This training program created a flow of information on operational shrink issues from the stores to various corporate departments, including LP, trades payable, inventory accounting, bar code maintenance, and the merchants.

In the past, the company did not have a single point of contact to coordinate and follow through on issues as they were reported. In 2001, in an effort to streamline reporting and coordinate solutions to paper shrink issues, the LP department created the manager of merchandise shrink control (MMSC) position to work with merchants, trades payable, store operations, inventory accounting, quality assurance, and vendors for the purpose of further reducing our level of paper shrink. This new position proved to be beneficial in controlling shrink for Lowe’s.

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Identifying Operational Shrink in Retail

The focus on controlling paper shrink grew out of the mandate of Lowe’s Vice President of Loss Prevention and Safety Claude Verville. His mantra is, “What can be measured, can be managed.”

To begin, a complete paradigm shift had to take place with store-level loss prevention employees. Lowe’s LP department is proactive and aggressive on operational shrink. The store-level loss prevention specialists (LPS) and loss prevention managers (LPM) are involved in every aspect of store inventory control and operations.

Bob Tillman, past Lowe’s president, CEO, and chairman of the board, preferred to call the LP and safety department his “profit enhancers.” That is reflected in a section of the LP department’s mission statement that admonishes that we “…professionally add profit to the bottom line.”

Item Set Up and Bar Code Maintenance

Item creation, or new item set up, is crucial for minimizing operational shrink in retail. From a corporate perspective, it is imperative that the personnel tasked with entering new item information into the primary item file understands the affects of improper bar code quantities being established for products.

As an example, if an item will be available for sale in both single and master carton units, such as patio furniture chairs, the item set up information must include the correct bar code quantities for your point-of-sale system. In this example, the store-level LPS/LPM personnel were the first to identify and react to an improper bar code on product. A master carton quantity of patio chairs had been set up with a bar code on the master carton of a single piece. When a box of patio chairs was received at the store, it was received into inventory correctly—four pieces per box. The issue was with the UPC quantities for each item as they were set up in the system. The only bar code established in the system for use at the point of sale was a UPC-A bar code that was set up to scan one chair. This would allow for a customer to take home four patio chairs having only paid for one. In most cases, this is not a situation of theft, because there was never any intent on the customer’s part to defraud Lowe’s of three patio chairs. It was a loss created solely due to poor operational controls.

When this issue was reported by store-level personnel in 2001, the focus was put on minimizing shrink for the remainder of the year, since the product had already been manufactured, labels printed, and the product was already in the supply chain with the incorrect UPC codes. The next step was to ensure that our merchants and vendor partners were on board with correct master carton information and labeling requirements going forward. The merchandising team, vendor partners, and store operations worked together to ensure that new items going forward were properly set up in the primary item file as well as the proper UPC-A bar codes were applied to the master cartons of patio chairs. After the issue was reported, patio furniture shrink was reduced by 55 percent over the same period one year prior.

Another issue that must be addressed when analyzing operational shrink in retail vis-à-vis item creation and UPC maintenance is changing the quantities assigned to each UPC and/or Interleaved 2 of 5 (ITF) bar codes. Lowe’s uses ITF bar codes for receiving full master cartons of products and UPC-A, UPC-E, and EAN bar codes for point-of-sale transactions. If a quantity is changed in the master item file for the UPC/ITF, it is imperative that the bar code coordinators tasked with UPC maintenance report those changes to your inventory accounting and LP departments for follow-up. It is possible that a store could receive a master carton with an ITF bar code that scans as one quantity, and during an actual physical inventory, the ITF could scan at a higher or lower quantity.

For example, XYZ product arrives on a Monday and is scanned as 84 pieces per carton and the store is correctly billed for 84 pieces on the purchase order. Between the time the product is received and physical inventory, for various reasons, the bar code quantity is changed to reflect 96 pieces per carton. (Reasons for the change could include decreased packaging or freight cost with the additional 12 pieces per master carton.) During physical inventory the store still has the master carton of product that was entered into inventory as 84 pieces. However, when the master carton bar code is scanned, it will add an additional 12 pieces of that product to the inventory, creating a potential false overage.

On the surface, the overage could make a store’s inventory results look good. However, on a subsequent inventory cycle, the store will be short those 12 pieces of product, provided the master carton is opened and the individual units are counted, because they never existed to begin with. Those 12 pieces are true operational shrink.

This false overage creates a major negative impact on customer service and profitability. If the false overage is not corrected, the replenishment system will not order product correctly, potentially creating out-of-stock situations, and inventory turns on that product will be negatively impacted.

Quality Assurance and Vendor Packaging

Vendor packaging issues are another focus area for reducing operational shrink in retail. These issues should be addressed during the item set-up phase. However, there will be times when a new item will arrive in a store with packaging issues that will lead to operational shrink. Again, the LPS and LPMs play an active role in identifying and reacting to these packaging issues.

A packaging issue could be something as unobtrusive as the word “item number” appearing on the package near a model number of the product, or something as obtrusive as multiple bar codes legitimately placed on the box. Some vendors will use language on their packaging such as “item number,” “SKU number,” or simply “item” on their box near a number printed near the bar code. In a small percentage of cases, these numbers will actually be assigned to a completely different product in your system.

Item 12345, valued at $250, may have “item number” printed on the box to denote the model number of 67890 for that product. If a cashier has difficulty scanning the bar code of that product, and doesn’t want to hold up the line, the cashier may notice the item number language beside number 67890 and could enter that into the point-of-sale system. They could inadvertently sale the customer an item valued at $10, instead of the true value of $250.

Purchase Order and Receiving Discrepancies

Once the item set up and bar code maintenance issues are analyzed for paper-shrink-related solutions, the next area to review is the purchase order and receiving process for the stores. Above and beyond identifying the issues already addressed with UPC issues and packaging problems, there is always the potential of duplicating the receipt of a purchase order.

In most cases, a duplicated purchase order should be identified and deleted by the logistics department. However, there may be times when there is the potential for a purchase order to be entered into the store’s system twice. For any vendor that the store has the ability to order directly from, has the ability to amend corporately staged orders, or receives a great deal of product on multiple purchase orders, there is the potential of duplicating an order if the proper controls are not established.

These issues are typically identified by the store-level LP personnel through a weekly exception report listing the top items identified as missing from stock through a cycle-count process. Each week, every store is provided with an exception report listing items missing due to cycle-count activity. The LPS/LPM will research each item on the report through a detailed item history provided by the inventory shrinkage control department. If there is one purchase order on this item history with multiple receiving document numbers, the LPS/LPM will pull all of the receiving packets for those duplicated purchase orders and analyze them to see if there is an error in processing.

For example, on the weekly cycle count exception report, item 12345 is listed as having 200 pieces of missing product. An item history is ordered for that product and sent to the store at the request of the LPS/LPM. When that item history arrives at the store, it shows purchase order 88990 being received under receiving document 22334 and 33444 each for 200 pieces. Upon pulling both receiving packets, which at Lowe’s consist of the purchase order/receiving document, the bill of lading, and the packing slip provided, the loss prevention personnel and receiving personnel determine that PO 88990 with receiving document 33444 only has a faxed copy of the bill of lading with no original signature and a faxed copy of the packing list for 200 pieces processed. After another cycle count of item 12345, it is determined that the store is still missing 200 pieces, the LPS/LPM in conjunction with the receiving manager will request through the corporate trades payable department that the 200 pieces of item 12345 be removed from the store’s inventory due to an error made in receiving. In most of these cases, the vendors do not receive payment for the second purchase order. However, the store’s inventory would still reflect the additional 200 pieces and during physical inventory would have had a paper shrink of 200 pieces of that item.

As with all aspects in reducing or eliminating operational shrink in retail, the store-level loss prevention personnel have adapted to the system-level reports that are provided to each store. Through the LPS/LPM involvement with the store receiving department, many of the potential duplicated purchase orders can be eliminated and voided by contacting the logistics department at the corporate office and having the duplicated order voided before the vendor ships the product.

Buybacks, Resets, and Displays

A primary focus for Lowe’s LPS/LPM personnel is monitoring buybacks (return to vendor) and resets. On average, before emphasis was placed on tracking buybacks, stores were only realizing 30 to 35 percent of the merchandisers negotiated buyback totals. Since this increased focus on buybacks, the stores are now realizing a substantial increase of the negotiated totals. This is a direct result of an increased effort between the store-level LP personnel and the merchandise department managers at the stores in locating and processing the merchandise for the buyback.

If there is a reset of product associated with a buyback, it is crucial to pay attention to items that are placed on display. For many retailers, accounting for displays is not an issue because all product on display is considered sellable. However, in the Lowe’s environment, there are some displays that could result in operational shrink if they are not accounted for properly.

As a general rule, Lowe’s business rules for displays are if a product can be sold and taken off of display with minimal effort, such as power tool displays, the item on display remains in on-hand inventory. However, if the item requires mounting to the fixture (typically for safety reasons), the product is to be removed from on-hand inventory via a return authorization from the vendor, a capitalized expense, or through a store-use transaction to a display account. Essentially, if a product is received into a store’s inventory at the regular cost, then it will need to be accounted for either by counting during physical inventory or an established display account. Reducing operational shrink in retail due to displays requires someone to review and coordinate information relating to the reset with the merchandise teams establishing the new display, the remerchandising teams responsible for publishing reset instructions, and the store-level personnel assigned to execute the reset.

In some cases, the merchandising teams have negotiated with our vendor partners for free displays. In those cases, the stores do not have any responsibility for accounting for the display merchandise. However, in other situations the displays are received as part of stock inventory. Throughout the fiscal year, several major resets involving new merchandise where the displays are shipped in as stock merchandise were identified and communicated to store-level loss prevention personnel for monitoring. The LP personnel would then, on the day of the reset, work closely with store personnel and vendor service representatives to ensure that any stock merchandise that was used for displays were properly accounted for once the reset was completed.

As resets were completed, the MMSC would then run exception reports detailing all inventory transactions involving “display” merchandise to identify stores that had not properly removed the display merchandise from their system. These exceptions were then communicated to the area loss prevention managers (ALPMs) who would, in turn, follow up with the store loss prevention personnel and store management.

On a weekly basis, even with the increased awareness before the reset took place, approximately 40 percent of affected stores would fail to remove the new display merchandise from their inventory. Through the follow-up process via exception reporting, this loss was reduced and operational inventory shrink was reduced in 40 percent of our stores.

Corporate Level and Vendor Training

Another aspect of the MMSC position that had a residual impact on reducing operational shrink in retail environments was the implementation of merchant-vendor shrink awareness training. Through analysis of 2001 inventory shrink numbers, five merchandise divisions were selected to receive this training for 2002. Each merchandise division was then analyzed to determine what products were driving the paper shrink and the top five vendors were required to send their national account representatives to attend the shrink awareness training with their Lowe’s merchants. Through this training process, both merchants and vendors were made aware of item setup issues, ordering and receipt of product issues, display policies, and point-of-sale issues that were driving operational shrink in their products.

Becoming Profit Enhancers

Over the years, LP departments have had to adapt to the ever-changing retail environment to remain effective. External and internal theft prevention programs remain a focus. However, for LP departments that want to continue to expand their success and become “profit enhancers,” you will need to develop programs to partner with your merchants, store operations, inventory accounting, and vendors to identify and analyze the paper shrink component of loss.

Store-level loss prevention personnel have to be involved in all aspects of the business. The paradigm shift away from traditional loss prevention programs began in 1993 at Lowe’s and continues to be refined annually. Through the creation and implementation of the manager of merchandise shrink control position, we established a strong working relationship with our internal and external partners to minimize paper shrink in retail.

There is more to loss prevention than stopping shoplifters and dishonest employees. Identifying and reducing operational shrink will have a positive impact on your business.

This article was originally posted Jan. 1, 2003 and was updated October 29, 2015.

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