Operational Shrink: A Growing Threat

By Matt Pillar, chief editor

July 2015 Integrated Solutions For Retailers

Omni-channel retail, mobile payments, and new store concepts are creating new ways to sell. They’re also creating new exposure to operational loss.

Operational shrink, or those losses attributed to poor execution and process failure, is a multifaceted challenge that, according to the University of Florida, accounts for nearly 18 percent of retailers’ total shrink. We caught up with two well-known asset protection and security experts for a discussion on current operational shrink threats and, more importantly, how to mitigate them.

Operational Shrink: The Greatest Risks
Rhett Asher, VP of asset protection, data security, and crisis management for the Food Marketing Institute, tackles the topic from the food industry’s perspective. “The most significant area of risk and exposure in the food retail industry is in the unnecessary waste and loss in perishable, center store, DSD (direct store delivery), and POS operations due to poor execution and process failure,” he says. These failures can show up in many areas of the business, and Asher says they can be far more damaging to food retailers than virtually anything else. Examples of the sources of operational loss in food and grocery are ineffective ordering, improper rotation, and open code dating. “Every item consumable by human or animal is dated and will expire, and the greatest threat to perishable product is time. Having too much product and/or the incorrect product for our customer both lead to throwaways and excessive waste,” he says. “Whether this is a onetime loss or minor losses that occur daily, these failures to execute can cause a company large losses that sometimes fall through the cracks.”

Asher says “unknown shrink” is another formidable threat to grocers. “You can’t change what you don’t measure, and without creating visibility to this shrink, it will continue to eat away at profitability,” he says. Examples include invoice errors and improper or untimely markdowns and discounts. “Coupled with sometimes overly complex policies and procedures, every piece of technology and every program is rendered useless without proper execution,” says Asher. “Employee turnover, poor training, pressures on labor controls, shorter ‘use by dates,’ and lack of auditing these procedures all affect proper execution and rotation.” He says that in reality, with the exception of very highly perishable departments like deli and bakery, grocers should theoretically be able to eliminate much of this shrink through proper rotation and stronger execution, without creating unnecessary out of stock positions.

Joe LaRocca is VP and senior advisor at RetaiLPartners. Interestingly, he sees post-recession upgrades and enhancements to technology as a common denominator of operational losses in hard goods retail. “Many retailers, in an effort to move toward the future of an omnichannel, 360-degree view of the world and their businesses, are going through the process of upgrading or replacing supply chain, allocation, and POS systems at the store level. Those changes have forced companies to rethink the way they run the business.” Historically, he says, when a consumer bought something online and had it shipped, the retailer had a day or two to review the order before packing and shipping. In this era, on the contrary, it has to happen right now. “There’s very little time for checks and balances, which creates a need to make these systems incredibly accurate at monitoring inventory in real time and ensuring orders and inventory jive. Otherwise, the retailer is faced with a big, gaping hole.”

Mobile POS and mobile wallets, he says, also contribute to operational shrink. “These advances are great for the consumer, but the procedural changes they require put enormous stress on the retailer,” he says. “With mobile POS, you lose the opportunity for video verification, which means you lose hard insight into the transaction.” He adds that the challenge is compounded by the upcoming EMV liability shift, which will, in effect, move the burdens of proof and responsibility from the banks to the retailer. “Video verification will become more important with EMV, but as mobile payment grows, retailers are struggling with that. As far as mobile POS is concerned, some of the fundamental issues are lost, stolen, and broken devices, as well as device and battery maintenance. These basics of physical protection apply, and they have a direct implication on both asset protection and sales throughput.”

What’s At Stake?
As the food retail industry continues to expand among companies outside of traditional grocery, and as competition for customers continues to grow as a result, Asher says the stakes of a lack of operational execution are high. “Without the proper focus and execution, we continue to run the risk of significant operational exposure. This can lead to out-of-stocks and product loss, which result in loss of sales, profits, and margins,” he says. “This lack of available product will eventually lead to loss of customer satisfaction and loyalty, and worst of all, company and brand reputation.”

Asher says that by not addressing the very issues that are most controllable inside the four walls, retailers are missing an opportunity to add dollars to the bottom line. Those dollars can be used to ensure lower prices, to reinvest in stores and associates, and to become increasingly active in supporting local communities.

LaRocca agrees that most sources of operational shrink can be controlled. In the context of systems upgrades to support omni-channel operations, he says testing and accuracy assurance are key from the very beginning stages of system deployment. “That’s tough in this environment of go-live immediacy, but if you have online stores, DCs, and fulfillment centers operating as one cohesive group, they have to be collaborative. If that’s missed, it will drive shrink.”

Likewise, he says, with new payments technology. “Mobile POS and mobile wallets need to be tested end-to-end with all product, inventory tracking, and returns management systems so that the store-level associates really understand what a completed transaction looks like,” he says. “For decades it’s been cash, check, or credit. In today’s world, that approval code and those payment technologies are so different that it can’t be taken for granted that a new employee will understand what a completed transaction looks like, and a transaction stuck in limbo status is shrink.”

How Modern AP/LP Tools Mitigate The threat
Both Asher and LaRocca tend to see bigger potential for operational shrink reduction in people and processes than they do in technology. Asher asserts that if AP/LP executives are not actively engaged in assisting the entire organization in looking for ways to mitigate operational shrink exposure, they’re doing their careers and their companies a disservice. “AP/LP professionals are the very people who are trained to seek out loss and injustice, and they’re some of the few people in the organization who can add value across all departments through sheer tenacity,” he says.

Asher advises retailers to look first at the existing policies, procedures, systems, and technologies they’re using to make sure they’re all current, that they still “fit” in the context of today’s retailing environment, and that they’re still providing the expected return on investment. “Pain points should be identified, and the technologies and vendor partners that can best address the problem while staying within the cultural boundaries of the organization should be sought,” he says. Asher points to the vast selection of technologies available today to help retailers close the shrink gap in the above mentioned areas, from POS exception reporting platforms that have visibility to many areas of the operation to CCTV & IP video and analytic video processing. “These solutions not only result in shrink mitigation and the identification of training opportunities, but they also increase sales and improve the customer experience.”

Scan avoidance technology which helps mitigate cashier errors, money management systems for mitigating errors in cash, computer assisted ordering, financial perpetual inventory systems that track product dates inbound and through the supply chain, and the creation of simple ‘aging inventory’ lists will all help mitigate product loss, waste, and the expiration of fresh merchandise, says Asher. “But, people are still your best defense against operational shrink. Developing and deploying best-in-class training and awareness programs, monitoring and tracking through training and certification programs, as well as prescriptive analytics will ensure high standards and clearly defined expectations,” he says. Asher adds that fair and consistent accountability and spending the time and effort to hire only the best possible associates go a long way to mitigating loss. LaRocca agrees that modernizing the way associates are hired and trained, as well as the way business ethics and policies and procedures are reinforced, is the critical factor in the operational shrink mitigation equation. “At the store level, associates often don’t understand the business aspects of shrinkage, the simple fact that when you lose those items, you block immediate sales, and that because inventory isn’t accurate, stores are not accurately replenished,” he says. “That requires supply chain education, and most merchants don’t do that.”

In terms of technology, LaRocca points to RFID as a contributor to the solution. “Target announced that by 2016 it will roll RFID out to all of its stores, following a long list of great companies. RFID improves inventory management and replenishment, and it works great for basics and sell-through items, especially in the ‘single inventory’ environment required of omni-channel,” he says.

As retailers explore new ways to sell merchandise, they’ll inevitably stumble into new ways to lose it. A more concerted focus on operational shrink education is quickly becoming an imperative.