Paper Shrink: What It Is And How It Burns Franchisees

By Michael Jorgensen, Executive Vice Chairman, NCASEF

Shrink. We all have it, and we all look to put an end to it. It’s the bane of our existence and it costs us quite a bit of cash every year.

According to the National Retail Federation’s 2019 National Retail Security Survey, average shrink rate in the retail industry is 1.38 percent of sales, and it has stayed around that level since 2014. While this does not sound like much, it amounted to some $50.6 billion in losses for retailers in 2018. To break this down even further, loss prevention professionals responding to a 2019 annual survey in Loss Prevention Magazine said, “Internal theft accounts for 36.4 percent of shrink, and external theft accounts for another 35.1 percent of total shrink.”

So where’s the other 28.5 percent? It’s paper shrink, loosely defined as “all the discrepancies between physical inventory and book inventory that are not out-the-door losses caused by shoplifting, theft or fraud.” It’s a system issue, a software glitch, an operational error, an accounting snafu, a paperwork error, and it’s almost one third of our shrink, so it can amount to real bottom line losses for which franchisees are wholly responsible.

Why do I bring this up? Because 7-Eleven alone is not immune to paper shrink and I’m seeing a number of issues with the 7-Eleven system that can cause shrink for stores that they might not be aware of.

Throughout COVID-19, the number of items on our KSRs (Known Shortage Reports) has grown exponentially due to manufacturer shortages, distribution issues, and generally problems related to the pandemic. We have that much more to look at to identify our shortages. Between the KSR and the Driver Exception report we must identify the real shortages. Everything that is not on the KSR, my clerk and the driver are supposed to find, accept as shortages, and move on.

Cigarette price changes have occurred much more frequently this year. I recently came to know that when price changes are pending, McLane institutes a maximum order quantity to ensure that no one orders significantly more inventory than their normal orders so they can maintain inventory for all retailers. McLane does not ship cigarettes which are ordered above a certain percent of the last 8 weeks order average. I have heard that the cap is instituted if you are above 130 percent. One week in September I exceeded my McLane cap by ordering a specific brand and did not know it, so they cut my order by a number of cartons. Only they didn’t put the cartons on the KSR, because it is not an actual shortage in their eyes. This leads to the possibility that stores can check in items they didn’t receive.

So my driver says the manifest says I received 90 cartons, and he can’t credit me with a shortage. But what the driver doesn’t know is that I ordered 100 cartons, and they sent 90. The system will allow me to check in those extra 10 cartons. The McLane’s invoice and the Legal Tobacco invoice do not reflect the cartons shorted, yet if a store checks them in our accounting system charges us for them. The store experiences an inventory shortage yet there is an overpayment somewhere in the system. Where does this money go? In my case there was no communication to the store either about the maximum order quantity or notification of the overpayments. There are a number of system issues that facilitate paper shrink and this is one of them.

Another system issue involves the 7-MD (mobile device), the new handheld that we use to do write-offs. 7-MD is hooked up to the cloud, not our ISP. There are items in the store that have been deleted by 7-Eleven, and if I scan one to write it off, it will show me cost and retail, and let me believe it is written off. The cloud knows the item but when I go back to my ISP to see the write-off, it never went to my ISP because that item is no longer in my ISP. So there are any number of items in my store that I might have written off and disposed of, but I never received credit for.

I find it totally unacceptable that we have a report called the “Check In Accuracy Report” that says, basically, “McLane says they shipped it.” I get an email that asks me to verify the delivery, and now I have to go cycle count my store. The kicker is that if I don’t respond to that email within 14 days, they charge me. Meanwhile, those 10 cartons of cigarettes that I checked in that they knew they didn’t send, nobody sent me an email. In my case there were overpayments for $2,000 worth of cigarettes between September 20 and Nov 1.

How much of our retail is lost to paper shrink? We actually don’t know, because 7-Eleven does not even report on shrinkage. Many retail businesses have implemented elaborate inventory control programs to reduce real retail shrink, the out-the-door inventory losses caused by employee theft, shoplifting and vendor fraud, but even the most advanced loss prevention programs can come up short if the company does not identify and eliminate the cause of paper shrink.

If I have an overage, I will definitely be asked about my overage. If I have a shortage, there’s nobody calling and asking why I have a shortage. I don’t get emails saying we looked into your audit shortage and here are some invoices that are overpaid. Those extra cartons? McLane didn’t bill for them, but somehow I was able to pay for them in my system; I never got a report from anyone that said, “You paid for extra product, more than McLane sent, so we owe you a credit back.” Where did that extra money go?

While 7-Eleven is certainly a merchandise and gasoline company, it is also an accounting company, given the unique nature of the convenience store franchise system, compared to other mainline franchise companies. Having taken on this responsibility, 7-Eleven must invest in state-of-the-art systems, which will make it nearly impossible for franchisees to be charged for products they never received.

What we don’t know is how much more is there? As far as we know this has only happened with cigarettes, but who knows? 7-Eleven’s typical response is to say, “We can fix that, but we will do it in the next download. But these are system integrity issues that can’t wait until it is convenient for them. What we need from our franchisor is assurance in the integrity of the systems we purchased as part of our franchise system. In the old days, my invoice was my invoice. Now, I don’t know what happens behind the scenes with all my accounting, and it takes a forensic accountant to figure it out.

We need subject matter experts who are well versed in accounting and corporate logistics to work on a paper shrink solution. For 7-Eleven’s loss prevention department to get control over paper shrink, they need the cooperation of many different people, in many different departments: finance, accounting, inventory control, merchandising/buying, distribution, IT, marketing, customer services, human resources, and our valued vendors. Most of all they need franchisees, who work the system every day to lend their expertise and relate their experiences with the problem. It’s like getting all your doctors together in the same room at the same time.

 You can have all the computer systems in the world, but you’re only as good as the people who can understand all these things on different levels. The icing on the cake is the franchisees who actually have to execute. We are the only ones with skin in the shrinkage game. Everyone else is going to get their piece: 7-Eleven, McLane, and of course, the manufacturer. McLane is going to track things they think they sent to your store, because they have teams of people who do that. I have teams of people who sell chicken wings, greet people at the door, and ask if you have 7Rewards. I don’t have teams of people who look at my accounting paperwork, because I expect that with a franchise, all these systems are proven and