Sticky Fingers

Employee theft burns e-tailers

Many internet retailers are finding themselves shrinking — literally.

"Shrinkage" is the term retailers use to describe the disappearance of merchandise from distribution centers and warehouses. The problems cost U.S. Internet companies an estimated $1 billion in 2000 and traditional U.S. retailers $29 billion, according to a survey conducted by the University of Florida.

Six months ago, e-tailer Kozmo.com installed a digital surveillance system at its distribution center in Memphis, Tenn., and discovered employees stuffing CDs and DVDs down their shirts and pants, said Don McVicker, vice president of loss prevention at Kozmo in New York.

"We have zero tolerance for theft," McVicker said. "This security system makes preventing losses so much easier and more effective."

Yet, few Internet retailers have installed adequate security systems to protect their goods, said Kim Warne, director of business development at Sensormatic Electronics, a Boca Raton, Fla., electronic security company focused on retailers. Sensormatic, with $1 billion in annual revenue, has hundreds of traditional retail customers, but only one is an Internet retailer — Kozmo.

"Some of these dot-com companies were so focused on getting their money in place, they didnt think about security," Warne said. "Now the ones that are left are getting to a point where they have to watch every dime, and they are focusing on security more and more."

Experts think problems with shrinkage are compounded by the record labor shortage, which may be leading Internet retailers to hire people as quickly as possible while often still leaving them short staffed. The tight labor market has also allowed more dishonest employees into the workplace, and is leading to higher losses across the retail segment, said Richard C. Hollinger, the author of the University of Florida retail study.

The financial loss typically caused by theft by a dishonest employee is $1,023, Hollinger said. A rogue employee usually works for his or her employer an average of nine months.

Few Internet retailers disclose how much inventory shrinkage costs them each year, but they do mention it as a threat to their bottom line in filings with the Securities and Exchange Commission.

"Failure to implement adequate controls over our inventory as we expand our distribution center may result in unacceptable levels of inventory shrinkage from theft, nonreturn of rental products and damaged goods resulting in an increase in our cost of revenues," Kozmo disclosed in its filings, before installing its security system.

Now-defunct eToys reported its gross profit margin could significantly decrease if its security measures at distribution centers did not prevent inventory shrinkage. The company installed enhanced security systems at its distribution centers.

800.com, Drugstore.com, Egghead. com, Webvan Group and others have made similar disclosures about inventory shrinkage problems. A spokesman at Amazon.com declined to comment, saying that the company does not discuss its internal business operations.

Kozmo is considering putting radio-frequency identification tags on rental goods such as videos and DVDs to keep track of items at drop-off locations around the nine cities in which it operates, McVicker said. "Im a strong believer in using technology to keep tabs on goods," he said.