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Theft claims are difficult to prove

This is part one of a three-part series on organized retail crime. The stories will examine the claims retailers make about how theft is affecting their business and the actions companies and policymakers are taking in response to the issue. Be sure to check out parts two and three later this week.

Anti-theft locked merchandise on shelves with customer service button at CVS pharmacy, Queens, New York.

Retailers have zeroed in on organized retail theft as a top priority, as more and more companies blame crime for lower profits.

But it is difficult for companies to tally just how much stolen goods affect their bottom lines — and even tougher to confirm their claims.

More than a dozen retailers, including Target, Dollar General, Foot Locker and Ulta, called out shrink, or more specifically retail theft, as a reason they cut their profit outlook or reported lower margins when they released earnings in May and June. Those mentions could flare up again as a flurry of retail companies will report financial results starting next week.

Many of them described organized theft as an industrywide problem that’s largely out of their control. Some retailers lumped it in with heavy discounting, soft sales and macroeconomic conditions as other factors that cut into their margins.

While organized theft is a real concern, it is nearly impossible to verify the claims retailers make about it. Companies are not required to disclose their losses from stolen goods, and it’s a difficult metric to accurately count, leaving the industry, investors and policymakers few choices but to rely on their word.

What is shrink, and how do retailers tally it?

Shrink is a retail industry term that refers to lost inventory. It can come from a variety of factors, including shoplifting and vendor fraud, which can be difficult to control. Shrink can also be caused by employee theft, administrative error and inventory damage, which retailers have more power to curb.

Retailers have repeatedly said organized theft drove shrink in recent quarters. But they rarely, if ever, break down how much of the inventory loss is due to crime and how much of a role other causes played.

They also don’t disclose their total losses from shrink and how they have changed over time. That makes it impossible to verify whether the issue has gotten worse and just how much of a bite it has taken from their bottom lines.

Multibillion-dollar companies commonly withhold information that can appear unflattering on earnings calls and press releases. That information can often be found in documents submitted to the U.S. Securities and Exchange Commission, such as quarterly 10-Q reports or annual 10-K filings.

However, companies are not required to disclose losses from shrink unless they’re “exceptionally large” and could be considered material to investors, according to Raphael Duguay, an assistant professor of accounting at Yale University School of Management.

Alongside discounts, promotions and returns, losses from shrink are buried into the “cost of goods sold” and only show up in a retailer’s gross margin, said Duguay.

Retailers are loath to reveal their shrink numbers because they’re often based on estimates and they would have to be “presumptive in their presentation of the numbers,” said Mark Cohen, a professor and director of retail studies at Columbia Business School.

Is retail theft really on the rise? It’s hard to say

When industry executives say that organized theft is rising, many are relying on a study released by the National Retail Federation in September. It found losses from shrink increased to $94.5 billion in 2021 from $90.8 billion in 2020.

In 2021, the largest chunk of losses – 37% – came from external theft, according to the survey.

There is no conclusive data about inventory losses in recent years, including from the first half of this year when multiple companies named it as a growing problem.

The NRF’s study is the best guess the industry can make about how shrink affects companies. But the data, which is anonymized, gathered on the honor system and largely based on estimates, isn’t as clear cut as it appears

Survey respondents were asked to disclose their inventory shrink as a percentage of sales. On average, that number stood at 1.4% in 2021, which is lower than the five-year average of 1.5%, the study says.

Anti-theft locked beauty products with customer service button at Walgreens pharmacy, Queens, New York.

The NRF arrived at the $94.5 billion in losses by applying that 1.4% average shrink to the total retail sales reported to the U.S. Census Bureau in 2021, according to the study.

However, as retail sales jumped 17.1% from 2020 to 2021, the total hit companies took from shrink would naturally increase as well. Further, the census data used for the study were preliminary at the time it was released. The final retail sales figure was lower, making estimated shrink losses about $600 million less than what the NRF originally reported.

The actual amount that American retailers lost to shrink in 2021 – and how that number has changed over time – isn’t known.

The tricky business of counting theft

Retailers have always had to contend with shrink, but they have long relied on estimates and educated guesses to determine how an item was lost.

Retailers use sales patterns, inventory trends, historical data and, when available, evidence such as surveillance footage to estimate how merchandise is lost.

“We know what we’ve run up at the register, we know what we put on the shelf. When the anomaly occurs, we can estimate or infer that it represents theft,” Cohen, the Columbia Business School professor, told CNBC.

Target, one of the few retailers to say how much its lost from unaccounted inventory, made headlines in May when it said it was on track to lose more than $1 billion from shrink this year, up from $763 million the previous fiscal year. Target has repeatedly said organized retail theft is fueling its inventory losses. But at the same time, the retailer acknowledged it’s difficult to calculate theft and shrink overall — which raises questions about how accurately it can estimate the effect stolen goods has on its profits.

Locked up merchandise, to prevent theft in Target store, Queens, New York.

Between 2019 and 2022, the total retail value of the merchandise Target lost to shrink increased by “nearly 100 percent,” the company told CNBC.

“This correlates with a dramatic increase in organized retail crime in our stores and online over that same time period,” Target said.

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