Back Order

What is Back Order?

A back order occurs when a customer places an order for a product that is currently out of stock at the seller’s inventory. Rather than canceling the order or informing the customer that the item is unavailable, the seller accepts the order and promises to fulfill it as soon as the product becomes available again. This practice is common in retail and e-commerce, particularly for popular or high-demand items.

Back orders represent a critical point in inventory management and customer service. They can be a strategic tool to retain sales and customer loyalty, but they also carry risks if not managed effectively. Efficiently communicating expected availability and fulfilling orders promptly are key to mitigating potential customer dissatisfaction.

The decision to allow back orders involves balancing the desire to capture sales against the potential for negative customer experiences due to delays. Companies must have robust systems in place to track back orders, manage supplier lead times, and provide accurate delivery estimates to customers.

Key Takeaways

• A back order signifies a customer’s purchase of an out-of-stock item.
• The seller commits to fulfilling the order once inventory is replenished.
• Back orders can retain sales but require effective inventory and communication management.
• Unmanaged back orders can lead to customer dissatisfaction and lost sales.

Understanding Back Order

When a business allows back orders, it essentially pre-sells an item that it does not currently have on hand. This strategy assumes that the business will be able to restock the item within a reasonable timeframe. Customers are typically informed that the item is on back order and given an estimated shipping date, though this date can sometimes be subject to change.

The process involves several steps. First, a customer places an order for an item marked as out of stock but available for back order. The business then records this order and places a replenishment order with its supplier. Upon receiving the new inventory, the business prioritizes fulfilling these back orders before stocking new inventory or fulfilling other orders. Clear communication with the customer about potential delays is paramount throughout this process.

Companies use back orders to gauge demand, manage cash flow by securing sales, and prevent customers from turning to competitors when an item is temporarily unavailable. However, the success of a back order strategy heavily relies on accurate demand forecasting and reliable supplier relationships to minimize extended delays.

Formula

While there isn’t a single universal mathematical formula for back orders, the concept is integral to inventory management formulas such as Economic Order Quantity (EOQ) and safety stock calculations. These formulas help businesses determine optimal order sizes and buffer stock levels to minimize stockouts and associated back order costs.

The cost associated with back orders is often calculated as the sum of holding costs, ordering costs, and stockout costs. Stockout costs are particularly relevant and can include lost profits, loss of customer goodwill, and the administrative costs of managing back orders.

Stockout Cost = (Cost per stockout incident) * (Number of stockout incidents)

Where a stockout incident might be directly related to the number of back orders that could not be immediately fulfilled or were significantly delayed.

Real-World Example

Consider an online electronics retailer that lists a popular new gaming console for sale. Due to overwhelming demand, the initial stock sells out within minutes. However, the retailer has an agreement with the manufacturer to receive regular shipments.

The retailer updates its website to show the gaming console as