It’s important for retailers to have an efficient inventory system to reduce accidental backorders and anticipate them better. Preparing an effective backorder process can help a company increase its revenue and maintain customer enthusiasm for its products. Reviewing how this works can help you learn key strategies to help businesses grow.
In this article, we define what a backorder is, describe its benefits, list some causes, provide steps to help you manage an inventory for backorders and discuss tips for reducing them.
What is a backorder?
A backorder, or backlog, describes stock that’s absent from a company’s reserves but still is available for customers to purchase. After the product arrives, retailers typically contact customers to complete the transaction. Selling this type of stock allows a business to continue selling popular products while retailers wait to replenish their supply. A company’s backorders provide insight into its inventory management. When companies take a short time to fulfill orders, it usually means the company has efficient inventory management. Here are some useful terms to learn for back-ordering:
Inventory: All items and assets a company owns, including production materials
Stock: The value of the supply of all items that are available for sale
Supply chain: A network of individuals, resources, technology and organizations that ensures the flow of materials to create a finished product or service and deliver it to the end user
Demand: The number of customers who prefer to buy a product, depending on multiple factors, such as price and preference
Backorder vs. out of stock
Items on backorder typically have a preset arrival date, while products that are out of stock generally are unavailable in a company’s inventory for an unknown amount of time. Depending on a company’s preference and manufacturer’s status, items might remain out of stock permanently. As a result, customers can order some merchandise using a process for backorders while they wait for any out-of-stock items or purchase them from another source.
Benefits of offering items on backorder
Providing a backorder purchasing option can benefit a business in multiple ways, including:
Increases a product’s overall value: If there’s high demand among customers for a particular item, its economic value often rises. By allowing backorders, a company can increase its revenue.
Improves a company’s cash flow: A process for backorders can help a company optimize the amount of stock in its inventory, reducing costs. As a result, companies can use the revenue for other profitable ventures.
Reduces storage costs: Customers often buy an item on backorder immediately or request its shipment, meaning it can bypass storage entirely. This option allows companies to reduce warehouse management expenses.
Causes of backorders
Here are some of the most common causes of inventory backorders:
Changes in product demand
When the demand for a product suddenly increases, companies may backorder more products. There are multiple reasons high demands occur, including customers responding to a product’s high ratings, celebrity endorsements or media appearances. Although it’s possible to predict changes in demand, especially with upticks that occur during specific seasons, others might affect a company’s ability to maintain inventory and stock. If marketing and sales teams collaborate effectively, they can develop better strategies and sales forecasts.
Disruptions in the supply chain
Every step in a supply chain requires coordination between different companies or departments, so an operational change from one area can affect everyone in the network. As a result, a company may have more merchandise on backorder. For example, suppose a shipment of merchandise leaves a production facility at a time a company didn’t schedule. Those items may require more time to arrive in a company’s inventory and become available stock.
Decreases in safety stock
Safety stock describes extra items in an inventory that help a company reduce items that are out of stock. For instance, having safety stock might allow a retailer to continue offering in-store merchandise between shipments or ease the effects of high product demands. A decrease in the supply of this stock may lead to a disruption in production schedules leading to backlogs. By calculating how much safety stock a product requires each month, a company can develop preventive strategies for the future.
Delays in the production process
Companies rely on manufacturers to create products and suppliers to make them available, so issues that arise during either process might delay a production timeline. For example, a production facility might lose access to a necessary raw material or a supplier may stop operations indefinitely. While a company determines how to solve the issue, more items may become back-ordered. In response, sales representatives may try to ease customer concerns.
Errors during record keeping
In some situations, a company’s database might show a different amount of stock than it has in its physical warehouse. As a result, a retailer’s inventory shows an incorrect number of available items, leading to backorders. By creating a robust counting system and reviewing these numbers regularly, companies can develop a consistent and reliable record system, helping them prevent disruptions in production schedules in the future.
How to manage inventory for backorders
Consider the following steps to learn some best practices for managing backorders in a company’s inventory:
1. Determine which products to back-order
Decide which products a company offers might benefit from having a backorder option. Some items may be more suitable than others, such as high-value commodities available through only one market source or items with a temporary rise in demand. Customers often react positively to longer waiting periods for a product if they feel its features can increase their quality of life. Companies learn which items are more popular through thorough market research, which entails preparing a survey for subscribers and other long-term customers.
2. Order the products
Review your reorder point (ROP) and other sales data to learn which items are on backorder and which are out of stock because these classifications typically require different ordering processes. Consider using an inventory management system to help classify merchandise and track its progress throughout a supply chain. Afterward, you can recheck order quantities and contact a company’s supplier to make a purchase. Record them separately from regular purchases to better asses issues with backorders in the future and provide a company’s accountants with accurate financial information.
3. Track orders from suppliers
Stay in contact with other individuals in a product’s supply chain and review the company’s internal ordering system to track the back-ordering process. Items in a customer’s shipment may arrive at different times from the schedule, so it’s important to stay current about a shipment’s status and determine whether any manufacturing issues occur. You can use an inventory management system alongside spreadsheet tools to ensure you have well-organized and accurate information.
4. Update the company’s website
Try to review the company’s website daily to ensure it displays accurate inventory information. You can list the date you expect an item to be in stock or include a label that shows an item is on a backlog. Provide the necessary steps for a customer to follow to purchase an item on backorder. It also may help to provide information about a company’s plan to resolve a backlog issue.
5. Fulfill order requirements
Match a product to a customer’s order specifications after it becomes available for purchase. You can contact the customer to verify the purchase and find out whether they prefer to collect it at the store or receive a shipment. Depending on their answer, process the product and shipping payment or begin a process to reclassify the item as regular stock. Afterward, note the transaction as complete in the company’s inventory to update the accounting department and other retail staff.
6. Calculate a company’s backorder rate
To learn whether a company has an effective back-ordering procedure, you can calculate its delivery rate directly. Consider measuring this rate when backorders increase for any reason so you can use the resulting sum to help resolve inventory issues or inform production process changes. To calculate this rate, determine the number of items that are out of stock and divide it by the total number of items on backorder. Then, you multiply this sum by 100 to identify your result. This formula looks like this:
Backorder rate = (number of items out of stock / total number of items on backorder) x 100
Tips for minimizing backorders
The following tips can help you minimize backorders:
Communicate with supply chain agents
It’s important to maintain consistent contact with key individuals in a supply chain to gain more information and inform customers. Consider meeting with each agent to determine a viable schedule for backorder requests. After processing a backorder purchase, verify the order date and check in about any potential issues regularly.
Review sales data to predict a product demand
You can research customer habits and patterns to learn which seasons correspond to certain product demands. For example, customers may purchase more notebook supplies in the fall when many schools begin their semesters. Consider investing in developing a high-quality system for market research to learn about a company’s clientele and conduct data analysis.
Calculate an inventory’s reorder point
The ROP represents the minimum amount of stock in an inventory before the next ordering process occurs. Measuring a different ROP for each product can help a company reduce backorders because retailers can predict the most suitable time to offer in-stock items. This value involves calculating a product’s lead time demand, which describes the time a company estimates to replenish its inventory when a customer orders an item and identifies an optimal amount of safety stock. To find the ROP, you can add the resulting values.