Published: January 22, 2021
There are few things worse for a customer than walking into a store or ordering a product, intending to make a purchase, and discovering the item is not in stock. This is even more frustrating if the shelves seem to be overflowing with other products, none of which can serve as a substitute for what they need or want.
This type of situation has a domino effect. The customer may now have serious problems with delayed project timelines and stalled events. The business owner who is understocked may now have problems with customer retention and satisfaction, leading to a negative impact on the bottom line.
While there is some relief for consumers and businesses to be able to backorder the item, that process can be challenging for a variety of reasons, on both sides of the transaction.
While a necessary aspect of any business that distributes or retails product, it's worth investing in an inventory management system that helps reduce the frequency of backordering. Let's explore what backordering is, how it works, how it impacts your business, and how you can reduce your reliance on it by adopting the right inventory management strategy.
- What Does Backorder Mean?
- Pros and Cons of Accepting Backorders
- Backorder Costs and Impacts on Your Inventory Control
- 3 Tips for Managing Inventory Backorders
- 4 Tips for Managing Backorders With Customers
- Reducing Backorders
What Does Backorder Mean?
A backorder allows you to continue to sell a product you typically carry, but do not currently have in stock. For example, let’s say you have 10 of a specific product on your shelf and, for some reason, that product is incredibly popular. When the 11th customer comes in to purchase the item, backorder allows you to still make the sale and deliver on the purchase when more of those products become available.
Backorder vs. Out of Stock?
Isn’t that item just “out of stock” then? Not quite. Out of stock items mean you do not currently have any items available, nor does the supplier have a date upon which more may be delivered. There is no resupply currently planned.
On the other hand, backordered items are products for which you have a delivery date or that resupply is planned.
Pros and Cons of Accepting Backorders
It’s clear to see that one of the obvious benefits of taking backorders is that you still get to make the sale, even without having the product on the shelf. However, there’s a bit more to consider here, in terms of how it can help, and potentially hurt, your business.
Pros of Backorders
One of the first benefits is the availability of storage space. Maintaining a large stock is difficult, especially when the seasonal trends are in flux, when you're introducing a new product to your market, or the product itself requires a lot of storage space. Taking backorders means you free up space in storage to allow you to carry a wider variety of items or more stock of items that move quickly and generate more revenue.
However, just simply having an item on backorder creates buzz. When an item becomes difficult to find, and customers have to wait, excitement and word of mouth builds. For example, some of the latest tech devices out there, like Apple products and gaming systems, use backorders as a marketing tool to generate enthusiasm.
In addition to the customer enthusiasm, you also get customer satisfaction. Few customers want to be told an item is out of stock, particularly if it’s difficult to find. Backordering gives them the satisfaction of knowing the product is, at least, on the way. Further, it builds their trust in you when you deliver, and it increases customer satisfaction and loyalty.
Finally, if you’re using a good inventory management system, especially one with robust reporting, items on backorder can provide significant insight into customer demand, even seasonally, or offer predictions on what is a potential growth market. This kind of forecasting ability allows you to make more informed inventory decisions that can impact your bottom line.
Cons of Backorders
Thus far, backordering stock seems like a win-win. The customer gets the product and you get the sale. However, there are quite a few potential problems with backorders as well, especially if delivery is delayed longer than intended or expected.
First, if the delay is longer than you initially report to the customer, they may very well cancel the order. Not only did you lose the sale and very likely damage a customer relationship, but you also are left with the stock on hand when it does arrive. As a result, you also lose all those benefits of storage space discussed above. It’s a cascade of issues, and one that is often beyond your control.
Similarly, if there’s a delay on a specific item, your customer may seek out another supplier, particularly if their need is time sensitive or deadline driven. If that supplier can deliver or provide a suitable substitute, there’s potential for you to lose that customer entirely. If that customer had a particularly high lifetime customer value, you may never recoup the revenue, at least not without spending to acquire new customers or to try to win them back.
In addition to financial impacts and customer response, you may also lose valuable time while your associates and customer service representatives spend time responding to customer inquiries regarding the item or delivery. Further, if you offer the option for customers to pay when the item is actually delivered, you risk payment issues and more human resource time tied up trying to resolve those issues as well.
Of course, all of these impact the overall experience of your customer as well. Whether it’s delays, multiple calls or attempts to communicate delivery status, needing to seek alternative suppliers, or simply the disappointment of having to wait longer than they’d like, there are significant risks to customer satisfaction when utilizing a backorder strategy. Happy customers are loyal customers, and loyal customers are lucrative.
Backorder Costs and Impacts on Your Inventory Control
Not only do backorders have those visual, or tangible, impacts, but they also have an impact on your inventory management and control and your accounting processes. Essentially, any business considering utilizing backordering as a strategy will want to do a friction cost analysis where they factor in the direct and indirect costs of the transaction.
How to Calculate Tangible and Intangible Costs of Backordering
More specifically, your business will want to look at backorder costs and backorder rates. Backorder costs are noted, in part, above. They included cancelled orders, customer service requirements, and lost customers. The backorder rate looks at the number of backorders in comparison to total orders over a period of time. This should be a low number, and if it’s not, there’s likely an inventory management problem.
You may also incur additional accounting costs as accounting for delayed payments or cancelled orders can impact how revenue and expenses are recorded.
Obviously, canceled orders impact your inventory control in that it increases the likelihood that you end up overstocked on items. Overstocking is fraught with its own associated costs and potential revenue losses. There is a risk of obsolescence or decreased demand in a product that results in discounts and sales that lose your business money. For this reason, weighing the holding cost against the backorder cost becomes crucial.
3 Tips for Managing Inventory Backorders
Simply because there are risks involved doesn’t mean a business should steer clear of all backorders. However, it may be in the best interest of your business to decrease the likelihood of that happening. Further, you’ll want to make sure you’re doing your best to manage them when they do happen.
Update Your Website
The primary goal of any backorder strategy should be to communicate clearly and effectively. Not only does your website allow you to provide information to your customers regarding the product’s status (why there’s a backorder, when orders will come in, etc.), but you also save your customer service representatives time as they don’t have to field calls. Similarly, you want to make sure all your representatives have up-to-date information in case they do call.
Analyze the Order Fulfillment Time
How long will it take for your supplier to deliver the product? Not only do you need to know this for your customers, but for your bottom line as well. Further, you can also make informed decisions about whether it’s easier to break up shipments and have your supplier dropship the order directly to the customers.
Update Your Inventory Management System
Utilizing a robust and reliable inventory management system, and all the tools it makes available to you, you can effectively manage backorders as well as, hopefully, reduce them. That means your inventory management system should be able to provide detailed entries and robust (automated) reports, to keep you apprised of issues and allow you to proactively respond to them, rather than react after the fact.
4 Tips for Managing Backorders With Customers
While there are a lot of moving parts in managing the business side of backorders, the most important aspect is managing your customer’s expectations and satisfaction.
Communicate In a Proactive Manner
We cannot stress this enough. Communication is one of the key factors in customer satisfaction. Few things frustrate customers like having to make multiple calls and feeling “in the dark” on the status of an order. That means if there is a delay or an issue, your best strategy is to immediately notify the customer.
This allows your customer to make an informed decision while you are being transparent. Instinctively, many people don’t want to deliver bad news, but since trust is one of the most important elements in customer relationship management, being open and honest is more likely to keep the customer.
Offer Partial Delivery
If delivering or selling a partial order is feasible, offer this option. If it’s for a project, many customers will appreciate the opportunity to at least get started, and this results in greater patience in waiting on the rest of the order.
Pair It with an Offer
If there are greater delays than anticipated, or you have a loyal, regular customer, consider pairing it with an offer like free delivery or a percentage discount (on this order or the next). This rewards the customer’s patience and may just stop them from checking out another supplier.
Accept Payment Upon Fulfillment
This one may seem obvious, but if there is an issue or a cancelation, not having to issue a refund is likely the easiest way to handle this. It saves everyone time and frustration, and it saves accounting work. Wait until you can either deliver the product, or do so partially, before you charge the customer.
Now that we’ve looked at how to handle backorders, one of the key steps to reducing them is determining how or why they happen. Then, you can move on to more concrete reduction strategies that utilize your inventory management system and its capabilities.
Find the Causes for Backorders
There are plenty of reasons that backorders occur, including the following:
- No sales history: When an item is new to your store or shelves, you’ve got no reliable data to forecast how well it will move or how quickly.
- Unreliable order and delivery time: This should be a predictable amount of time, if your supplier is reliable and communicative about supply chain issues. How quickly after your order does the product make it to you? Being able to factor this time into your ordering and inventory management system is essential.
- Special order: If the product is custom made, artisan crafted, or even manufactured through proprietary methods, you’ll want to factor that into your order time. These items will take longer, and failing to factor in the crafting time can result in backorders.
- Late delivery: There are any number of factors that may impact a supplier’s ability to deliver on time, even if they have been reliable in the past. Weather issues, supply chain issues, labor issues, or any other number of external factors can impact delivery time.
- Heightened promotion and demand: There are a few factors that can impact demand in unexpected ways. If the item is promoted more widely or extensively than anticipated, it may increase demand. Further, sometimes items become trendy or are marketed in such a way, or by different methods, that result in consumer excitement. As a result, what’s been manufactured, or what’s available, simply isn’t enough to meet the demand.
5 Ways to Reduce Backorders
As noted above, while avoiding all backorders may be difficult, every effort should be made to make sure your backorder rate remains low. The best method for reduction is a quality inventory management system, but even with that, a system is only as good as how it is utilized.
Keep Your System Updated
Keeping your system updated consists of managing all channels, so you need a system that can feed data to your online channels as well as your point of sale. If customers can see your stock when purchasing or reserving online, and that stock is low, they’re more likely to pull the trigger on a purchase. Further, this reduces the chances of orders that happen on different channels creating backorder problems.
Leverage Real-Time Stock Level Data
In keeping your system updated, you’ll be able to view real-time stock levels. Keeping track of your inventory allows you to make sure you’re ordering what you need, when you need it. You want a system that easily allows you to track warehouse stock as well as in store stock. Additionally, with multiple locations, you want to know if you can transfer stock from one place to another to respond to customer demand.
Use Real-Time Velocity Data
Even if you’ve got all the data you need on what you have in stock, it’s not that meaningful without understanding what’s moving and how quickly. How much of an item is being moved from warehouse to floor? Further, if stock is low, but the item doesn’t move quickly, you can plan your reordering around that versus items that are moving fast.
Gather Accurate Predictions and Forecasting
A truly robust inventory management system should deliver the ability to forecast and predict stock demands. The system can and should be able to alert you when stocks are low for high velocity items. Again, knowing how to use your inventory management system is key, and getting live support as part of your solution is equally important.
Have a Backup Plan
One thing we can all expect is the unexpected. Things happen. Suppliers go out of business, and supply chains get interrupted by a myriad of causes, so having alternative products, tracking shortages, and keeping shipment information updated is vital.
While many businesses can’t eliminate backorders, they can decrease them through understanding why they happen. Further, you can certainly better manage how you handle them, both through your inventory management and with your customers.
Finally, with a fully integrated system that streamlines your operations across multiple channels and multiple locations, from POS to warehouse and inventory management, you can reduce the instances and impacts of backorders. Get in touch with the team at CAVU to talk about how our all-inclusive ERP solution can improve your efficiency and optimize your performance.