The Inventory Reconciliation Process That Keeps Your Doors Open and Sales Flowing

As a business owner, you deal with countless moving parts, including customers, employees, money, and inventory.

Whether you have a few hot items that sell well or all your inventory is flying off the shelves (woot!), you’ve likely dealt with inventory records in your POS system that don’t match the amount of physical stock you have in-store. 

This calls for inventory reconciliation: matching your inventory records with your actual stock leves. Although essential, counting, finding and addressing discrepancies, and reconciling inventory takes time that would otherwise be focused on your customers and making sales.

Does inventory reconciliation have to be such an interruption to business? No, and we’ll tell you why, as well how you can keep your sales flowing in.

What is inventory reconciliation?

Inventory reconciliation is the process of matching your inventory records to the physical stock on your shelves or in your warehouse. It involves counting your inventory, comparing those numbers against what’s recorded in your POS system, identifying discrepancies and what may have caused them. 

Inventory reconciliation helps merchants maintain accurate recorded inventory levels, avoid stock outs or overstocking, improve demand forecasting, and maintain an accurate ledger of the value of their inventory on-hand. It’s an essential part of effectively managing your store’s inventory. 

What is an inventory reconciliation report?

An inventory reconciliation report compares the inventory levels recorded in your POS system with the results of a physical inventory count. It details what adjustments you should make to match those numbers and helps identify what may have caused discrepancies. 

Inventory reconciliation reports are essential to track inventory shrinkage rates over time, the—in other words, it shows you how much money you’ve sunk into lost inventory, and the potential revenue that inventory could have generated. Why is it important to reconcile inventory?

Reconciling inventory ultimately helps assure you have enough inventory on-hand to meet customer demand, and avoid preventable stockouts or overstocks resulting from inaccurate inventory levels in your POS system. 

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By routinely counting and reconciling inventory (along with putting processes in place to minimize inventory shrinkage) merchants can reap the following benefits:

1. Maintain accurate inventory reports and reliable inventory data

Your inventory reports directly impact your business’ bottom line. You likely make a whole host of decisions that impact both cash flow and revenue based on this data, such as which items to restock, run promotions or discounts for.

Reconciliation assures that your inventory data is accurate and that, by extension, the decisions you make based on that data are well informed. By aligning your digital records and physical stock regularly, you ensure that your inventory data is accurate and reliable.

2. Improve demand forecasting

Your customers expect your store to have inventory for the items you’re showcasing online. By reconciling often and assuring inventory levels are accurate, you’re more capable of restocking items before you run out of stock.

Adam Besheer at Greenery Unlimited agrees:

“We’re a multi-location business that is constantly moving inventory between our locations,” he says. “Our inventory, in dealing with plants, happens to be complicated, because the same type of plant can come in many different shapes and forms depending on how it’s grown and by who. Clean inventory numbers help us not only replenish our existing stock as needed but allow us to make more accurate predictions on how and when to replenish our inventory.”

3. Update safety stock

Safety stock is a preventative measure where merchants extra stock for certain items to either avoid stockouts or work around suppliers who are slow to fulfill purchase orders. mitigate slow suppliers. While safety stock can be helpful, that’s not the case if intentionally overstocking wasn’t necessary—in fact, it eats into the cash you have available to spend on other inventory or expenses. 

Reconciliation helps you see what inventory is actually available to sell and cross-reference that to each item’s historical sales velocity, which enables you to get safety stock only when it makes sense to do so.

4. Mitigate risk for shrinkage

Shrinkage is inventory loss caused by shoplifting, employee theft, fraud, or administrative errors. Ultimately, shrinkage represents a sunk cost: inventory you bought, but can no longer sell.

According to the 2020 National Retail Security Survey, shrinkage is at an all-time high, accounting for about 1.62% of a retailer’s bottom line. This has cost the industry $61.7 billion, with 70% of retailers reporting a shrink rate exceeding 1%.

Shrinkage rate refers to the percentage of your inventory on hand that’s lost. Many retailers make a habit of calculating their shrinkage rate after doing inventory counts, finding the total cost and total retail value of that lost inventory. Naturally, you should aim for shrinkage rates as close to 0% as possible.

You can calculate your shrink rate for a given period using the following formula: 

Recorded Inventory Value – Actual Inventory Value / Sales x 100

While a shrink rate of zero is ideal, every retailer faces some degree of shrinkage. Yet, you can mitigate inventory loss by routinely counting your inventory and having a inventory loss prevention plan.

5. Identify potential fraud or theft

Some retailers may not know they’re dealing with shoplifting, theft, or fraud without routinely counting their inventory and comparing the results with the inventory levels logged in their POS system. 

The act of counting inventory and seeing how much shrinkage you’re dealing with provides needed clarity on any discrepancies, can help you identify whether you have a theft or fraud issue—whether it’s internal or external—and take appropriate action. 

What is the inventory reconciliation process?

The process that goes into inventory reconciliation can be time-intensive. Between counting all of your stock and cross-referencing the results of your count with the inventory levels in your POS system, reconciling inventory takes organization, commitment, and dedicating the appropriate amount of time to the task at hand.

Here’s how to reconcile your inventory.

1. Count your physical inventory

The first step in your inventory reconciliation process should be a full inventory count. This will give you an accurate ledger for how much inventory you have for each product you carry in-store. 

The amount of time it takes to count all of your inventory depends on how many SKUs you carry. Be sure to clean up your shop and stockroom and organize your inventory beforehand to make this step go as smoothly as possible. Depending on how many SKUs you carry, doing a physical inventory count can take a full day’s work to finish. Alternatively, consider cycle counting. 

A note about cycle counts

Cycle counting is a less time-consuming alternative to full inventory counts where you count one category of inventory at a time, rather than everything at once. It’s a viable approach for merchants who want to avoid closing their store during business hours or scheduling an overnight shift to count inventory. 

2. Compare physical count and digital records

After you’ve finished counting your inventory, compare the sum of what you counted to the inventory levels for that product recorded in your POS system. 

Are you missing any items?

Inventory discrepancies (shrinkage) can be due to human error, administrative errors like mislabeling an item with a different product’s tag, supplier fraud, return fraud, employee theft, or shoplifting.

3. Identify missing items and the source of discrepancies

Now, dig deeper into the discrepancies you’ve identified. Do you have more or less of a certain size or style? Are you consistently seeing shrinkage with products from a particular supplier or brand? Review where shrinkage is happening and see if there are any patterns. 

Take a look at the missing items. Review your purchase orders, the inventory you recieved, as well as the sales you made between now and your previous reconciliation. Look for anything that doesn’t add up: receiving too much or too little of an item when compared to your PO, misrecorded serial numbers, or mislabeled receipts or invoices, for example.

If you can’t trace back the source of shrinkage, you may be looking at a case of theft or fraud. Consider interviewing your employees, including those who work near the inventory where shrinkage is occurring. Have them be extra vigilant for shoplifters and routinely review security footage. 

4. Record discrepancies and reconcile your inventory

With or without knowing the source of shrinkage, you must create an inventory reconciliation report. This should compare the results of your inventory counts versus your recorded inventory levels, your shrinkage rate, the total cost and retail value of shrinkage, as well as the total cost and retail value of your inventory on hand.

5. Routinely reconcile inventory

Counting and reconciling inventory often helps prevent your shrinkage rate from getting out of control. By counting and reconciling frequently, you’re assuring the reports you refer to for restocks or the stock levels you show shoppers on your online store are accurate.

In either case, having accurate inventory levels helps you prevent understocking or overstocking, and fulfill as many orders as possible both in-store and online. 

Inventory reconciliation methods

The best way to reconcile your retail inventory? Often. The below three methods are reconciliation approaches that leverage cycle counting.

Review these inventory reconciliation methods to find the best fit for your business.

ABC method

Also known as the Pareto Principle, or 80/20 rule, the ABC method organizes your inventory reconciliation by the percentage of your total revenue they represent. 

• A-grade inventory: products that account for 80% of your revenue. 
• B-grade inventory: products that account for 15% of your revenue. 
• C-grade inventory: products that account for 5% of your revenue. 

Since it makes up the majority of their revenue, merchants who use the ABC method would count their A-grade inventory more often to assure they always had stock on-hand. An example of using the ABC method for inventory counts would be to count Group A inventory monthly, Group B inventory every four months, and Group C every six months. 

Seasonal method

To follow the seasonal method, perform inventory counts based on a product’s seasonal demand. For example, counting inventory right before its peak season in terms of sales volume.

Let’s say you’re a sporting goods store. Based on the seasonal method, you’d count and reconcile your running shoe inventory prior to the spring/summer season (say, in February) and winter boot inventory prior to the fall/winter season (say, in August). 

This method assures your inventory on-hand is accurate before you start forecasting demand for that product category, submitting purchase orders to suppliers, and restocking ahead of peak season.

Arbitrary method

Instead of grouping and counting stock by the percentage of revenue it represents or by seasonality, you can also go by how it’s organized in your store or categorized in your POS system. 

Similarly, you may time when you count and reconcile inventory on the first Monday of each month, or on whichever date your store typically processes the least transactions. This is known as the arbitrary method because the way you count inventory is not pre-defined based on a certain set of criteria; it’s entirely up to you. 

Best practices for inventory reconciliation

Regardless of how you choose to count and reconcile inventory, these best practices will make the process easier for you and your staff.

Use inventory management software 

Pen and paper increase the likelihood of making preventable miscounting during a stocktake. Additionally, searching through paper records of inventory adjustments and keeping track of previous reconciliations is much more time-consuming than it is with digital records. 

Use barcode scanners 

Consider equipping your staff with barcode scanners to speed up counting inventory. While manual counts are possible, using both a barcode scanner and the Stocky app makes counting inventory much quicker and simpler.

Once you scan an item, inventory levels for that SKU are recorded in a digital stocktake form and you can reconcile any shrinkage directly from your POS system. 

Organize inventory before counting

Keep your physical inventory impeccably organized and consider doing a store-wide clean— including your sales floor and stockroom—before you start counting inventory.

Label boxes and shelves in your stockroom or warehouse, clean up each section of your sales floor and make sure items are in the right place and easy for counters to find. 

Count inventory consistently and often

Counting and reconciling inventory shouldn’t be something you do once per year. The more often you count and reconcile inventory, the more likely you are to have accurate records. Consider cycle counting in between your larger stock takes to proactively monitor and address shrinkage. 

Compare your shrinkage rates after each count

Your shrinkage rate represents a sunk cost. Naturally, you want to make that number as low as possible. 

After each count, it’s important to find your shrinkage rate and to measure against past counts. Is your shrinkage rate growing? Perhaps look into more closely monitoring your inventory and being vigilant for theft. Is your shrinkage rate shrinking? Awesome! That’s more money to cover fixed or variable expenses. 

Keep track of your shrinkage rate over time and make it one of your key performance metrics. While most retail stores experience some degree of shrinkage, aim to keep shrinkage rates below 1%.

Reconciling inventory for your retail store

Routinely counting and reconciling your inventory ultimately assures you have an accurate record of inventory on-hand. The result is more accurate reporting, which makes for more cost-effective restocking.

In short, it helps you do more with the money you invest into inventory and assures that—if you’re losing revenue to shrinkage—you’re aware of the problem and can find a solution.

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