Shrinkage a growing problem: Manufacturers seek ways to stem product losses

The U.S. manufacturing industry has begun rebounding from its economic swoon, but some industry experts think more manufacturers must become more efficient and eliminate waste if they are to compete in the current global climate.

While the Manufacturers Alliance, an Arlington, Va.-based business and public policy research group, projected manufacturing growth of 3.4 percent this year and 3 percent in 2006, big challenges remain.

One growing problem is the so-called shrinkage factor, defined in manufacturing as the percentage by which the actual product output falls short of what it should theoretically be. Conventional reasons for shrinkage involve internal and external theft, administrative and paperwork errors, and vendor fraud.

The Manufacturers Alliance pegs average shrinkage at nearly 14 percent. At that rate, there’s a six-figure loss for every $1 million in revenue.

“Security issues have gotten a lot of press,” said Robert Cooksey, a consultant with local transportation think tank Wolf Technical Services and professor emeritus of packaging technology at Indiana State University. “But they’re only part of the problem.”

Cooksey said damage during warehousing and shipping has escalated the problem in recent years.

“The goal for shrinkage in manufacturing is 3 [percent] to 6 percent,” Cooksey said. “Our studies show shrinkage has doubled from 7 percent in 1980 to its current rate. You can’t survive 14-percent shrinkage, especially the small manufacturers.”

Frank Sumner, marketing director with Preferred Seating, a stadium and theater seating manufacturer with operations in Indianapolis and Lowell, Mich., has dealt with the traditional shrinkage problems during his more than two decades in the business.

“Sure, we’ve had theft and vendor issues from time to time, but we’ve been in this business for a while, so those are easier to spot and solve,” Sumner said. “With pilferage, we just fire people.”

Other manufacturing managers who asked not to be identified said they’ve installed surveillance equipment throughout their factories and warehouses to eliminate theft.

But Sumner said transportation, warehousing and logistics issues are more difficult to resolve. He said overnight carriers used to deliver samples are as problematic as over-the-road trucking companies used for large shipments.

“I’ve seen them put forklifts right through our packages,” Sumner said. “A forklift could put a hole in your car, so you can imagine what it does to our seats. I’ve also seen shippers stack packages way too high and drop them. We’ve lost major bids because our samples have been completely ruined upon delivery.”

It got so bad, Sumner started using Greyhound bus lines to ship some of his company’s samples.

“At this point, they’re much more reliable,” he said.

The medical and automotive industries are among leaders in exploring what manufacturers call the science of packaging and shipping. Rolls-Royce, which manufactures aircraft and marine engines and power generators, was quick to follow.

While shrinkage due to theft or misplacement of items at Rolls-Royce’s Indianapolis plant is below 1 percent, damage during shipping was several times higher. Now the company employs three degreed packaging engineers at its Indianapolis plant and has developed customized packaging for each of its products.

“We used to use foam and peanuts like a lot of other companies,” said Mary Kotler, director of Rolls-Royce’s logistics center. “Packaging now gets a lot more attention.”

Rolls-Royce also has begun using radio frequency identification, or RFID, tags to track shipped goods.

“Companies who have done this have demonstrated you can reduce materialhandling damage by more than 20 percent,” Kotler said. “That’s a big win for our bottom line and our customers.”

While Cooksey said using better-quality packaging and pallets can help prevent loss for some manufacturers, smaller manufacturers said the additional costs are difficult to absorb.

Sumner said Preferred Seating, which has about 40 employees and 30 independent distributors, can’t afford such additional expenses when competing against global companies, many of which use cheaper foreign labor.

“We could use wood crates instead of cardboard boxes, but that’s overkill and kills our bottom line,” Sumner said.

The increased outsourcing of warehousing and transportation services has allowed manufacturers to focus on their core business, but it also loosens the control they have of their products, Cooksey said.

“With the growth of third-party logistics and transportation providers, it’s no surprise this problem has risen,” Cooksey said. “Just the mere fact that these items are being handled more times by more people will increase the possibility of mishandling and damage.”

While some third-party logistics providers can add to shrinkage problems, good ones work to “minimize the number of touches to a product,” said Mike Jones, manager of the Indiana operation of Logisco, a Tennessee-based provider of warehousing, distribution and supply chain management services.

“Extra touches represent a cost to the manufacturer and a chance that something can go wrong,” Jones said. “One of the reasons we’re growing is we specialize in the transportation of goods and we’re very good at it. There’s a high degree of communication between Logisco and all our clients to assure each product is handled and shipped properly.”

Rolls-Royce has one packaging engineer whose sole responsibility is dealing with third-party shippers.

Cooksey, who said he’s visited about 500 manufacturing and warehousing facilities in the last four years, said “very few manufacturers have a handle on this.”

“I’ve seen companies that are losing $35,000 to $40,000 out of each trailer load,” he added.

When starting a business, packaging and shipping aren’t often given much thought, said Chris Paulsen, who founded C&R Racing Inc. in December 1998. Indianapolis-based C&R makes radiators and other custom race parts, much of which are delivered just in time.

“We’ve had to perfect our packaging and really hammer on our carriers,” Paulsen said. “We go to extremes with our packaging, because if our parts get damaged, it could be catastrophic. Shipping is the last reflection a customer has of your company.”

When deliveries are damaged, there’s often a debate about where responsibility lies, said Herb Hanselmann, manager specializing in manufacturing in BKD LLC’s Indianapolis office.

“Everyone is trying to cut costs, but sometimes it goes too far,” Hanselmann said.

Cooksey agrees.

“Manufacturers can save immediately with cheaper pallets and packaging, but three or four months later you lose tens or hundreds of dollars for every dollar you saved because of the damage sustained,” Cooksey said.

Increasingly, the nation’s largest manufacturers aren’t willing to pay for the problem. Many have started issuing their suppliers “charge-backs” for damaged goods.

“Charge-backs can be a nasty practice that can cost smaller suppliers up to 10 percent [of their revenue],” said BKD LLC partner Dave Schmidt. “Automotive suppliers regularly use charge-backs and also charge for inspections of parts as they deem necessary. One defect, and they can quarantine an entire shipment.

“And if you shut down their [production] line due to a defective or damaged part, that’s a real problem. They sometimes charge for that, too, and it’s very expensive. So all of these things are getting manufacturers’ attention right now.”

One of the new trends in North American manufacturing is seen as part of the solution to shrinkage. Lean manufacturing was pioneered by Japanese auto makers and is now sweeping through the United States.

“It used to be we talked about lean manufacturing-now it’s lean enterprise,” said John Sullivan, director of Purdue University’s Center for Advanced Manufacturing. “Everything needs to be lean from manufacturing processes to final delivery if Indiana is to remain competitive in this sector.”

While Cooksey agreed lean manufacturing can reduce shrinkage, he thinks more advanced studies and technologies need to be applied to warehousing and transportation.

Package engineers, which Cooksey said are few and far between, understand things like the difference between rail and truck transport and how vibrations on a package can vary based on where it is placed in a truck.

“I don’t think most manufacturers understand the root of the problem,” Cooksey said. “If you don’t understand the technology of distribution, you keep making the same mistakes.”