A backorder is an order for a good or service that cannot be filled at the current time due to a lack of available supply. The item may not be held in the company’s available inventory but could still be in production, or the company may need to still manufacture more of that product.
Advantages of having backorders
- It reduces costs: As a beginner retailer, you should avoid overstocking products as they are not direct cash. For instance, by setting a target service level of 80% it is clear that 20% of demand will be intentionally back-ordered in order to save on inventory expenses. When focusing on back-ordering there is no need to pay for any extra storage space, because whatever is getting in, consumers have already bought it and this directly cuts costs.
- It shows the customer pattern: Back-ordering tells us a lot about consumer behavior and how they’re perceiving the product. When customers continue to submit orders even though products are out-of-stock, you can look into the statistics and analyze how much stock you need in the future.
Disadvantages of having backorders
However, back-ordering can bring some disadvantages with itself. In the picture below it is shown that customers have two options when their order cannot be immediately satisfied:
Not having enough products in stock can cause:
- Loss of competitive edge: Your loyal customers can decide to buy from your competitors because they have the product in inventory, while you are out of stock.
- Customer frustration: Customers may decide to wait until you deliver them the right product or they might get a similar product that you have in stock. But, they will leave with disappointment and frustration.
Here are a few steps to follow in order to reduce your backorders and prevent losing customer loyalty and revenue:
- Get real-time data on your inventory levels: The first step to avoid backorders is to have a system which accurately tracks warehouse inventory levels and generates real-time alerts. You should discover the inventory run-out with no delay.
- Forecast your demand: Collecting data of your historical sales and forecasting the future demand helps to keep the right amount of products in your inventory.
- Create a list of potential reasons for backorders: Investigate in “why” there could be a backorder in your system. The reasons could be for example:
a. Supply capacity: The company does not have enough capacity to internally/externally supply that product.
b. Quality issue: There’s a product or raw material issue that prevents the order from being satisfied.
c. Logistics: The demand is unsatisfied due to transportation issues.
d. Obsolete product: The customer ordered a product that is not being produced anymore.
The list of what elements can create backorders might differ according to the type of business.
- Create insights: Once you have accurate data and each backorder is assigned to a reason code it’s time to create insights and break down the problem. Creating visuals is a guide to find and solve the weaknesses that are causing backorders. Additionally, it is a way to monitor how the backorder trend is progressing in time.
In supply chain management it is hard to imagine how you can be effective at inventory management and customer satisfaction without a strong grasp of your underlying backorder KPIs. A dashboard provides an at-a-glance window into your business performance and enables you to manage all those orders of out-of-stock products. Learn more about dashboarding!