What are 'Backorder Costs'

Backorder costs include cost incurred by a business when it is unable to fill an order and must complete it later. A backorder cost can be discrete, as in the cost to replace a specific piece of inventory, or implicit, such as the effects of poor customer service. Backorder costs are usually computed and displayed on a per-unit basis.

BREAKING DOWN 'Backorder Costs'

Backorder costs are important for companies to track, as the relationship between holding costs of inventory and backorder costs will determine whether a company should over- or under-produce. If the carrying cost of inventory is less than backorder costs (this is true in most cases), the company should over-produce and keep an inventory.

The idea of backorder arises when a potential customer tries to place an order for a product, but the order cannot be fulfilled because the merchant doesn't have the product available for sale at that particular point in time. In this instance, the customer is usually told the product is "back ordered." Here, the customer may decide to pay and wait for the new product, or the customer could simply take their business to a competitor with the product on hand.

The unseen, implicit cost to backorders can be material. Customer service professionals can model these relationships under the rubric: customer experience. As an emerging field, customer experience is shedding light on new ways to meet customer demands in goods and services fields.

The combination of online retailing and real-time inventory management systems have greatly reduced the issue of backorder costs. Because online systems can rapidly source product, there's no real need to alert a customer that product is technically not on-site. In a sense, backorder costs is an issue for traditional bricks-and-mortar businesses, who may not be able to buy additional time to find a new product. Even then, most retailers have a process in place to save a sale. For instance, if a customer tries to buy an item at Walmart but the product is unavailable, it's not uncommon for Walmart to ship the product to the customer's front door in a couple of business days.

  1. Backorder

    A backorder is an order for a good or service that cannot be ...
  2. Carrying Cost Of Inventory

    Carrying cost of inventory, or carry cost, often refers to a ...
  3. Customer

    A customer is an individual or business that purchases the goods ...
  4. Customer Service

    Customer service is the process of ensuring customer satisfaction ...
  5. Holding Costs

    Holding costs are a major component of supply chain management ...
  6. Inventory

    Inventory is the term for merchandise or raw materials on hand.
Related Articles
  1. Investing

    How to Analyze a Company's Inventory

    Discover how to analyze a company's inventory by understanding different types of inventory and doing a quantitative and qualitative assessment of inventory.
  2. Investing

    Measuring Company Efficiency To Maximize Profits

    Efficiency ratios can provide indications of profitability, shows how efficiently a company is being managed, utilizes its assets and handles liabilities.
  3. Investing

    How to Calculate Average Inventory

    Average inventory is the median value of an inventory at a specific time period.
  4. Tech

    How Big Data Has Changed Marketing

    Big data has enabled marketers to enhance their customer engagement and customer retention strategies by providing insight into behavior and thoughts.
  5. Personal Finance

    The Pros and Cons of Buying on Amazon

    Learn how buying works with Amazon. Amazon has become the dominant player in online retail with its ruthless focus on lower prices and customer service.
  6. Small Business

    Retail vs. Tech: How These Companies Use Working Capital

    Learn about the difference between retail and tech businesses' use of working capital and why working capital varies so widely in the technology sector.
  7. Insights

    When Stock Prices Drop, Where's The Money?

    Market perception can create money - and make it disappear into thin air.
  8. Investing

    Top 3 Customer Experience Companies (PG)

    Have the top three customer experience companies rewarded their investors?
  9. Insights

    Shareholders Shouldn't Abandon Wal-Mart

    Wal-Mart's share price is in a temporary lull. Shareholders should hold the stock until it recovers.
  1. What are the types of costs in cost accounting?

    Cost accounting aids in decision-making by helping a company's management evaluate its costs. There are various types of ... Read Answer >>
  2. How are fixed costs treated in cost accounting?

    Learn how fixed costs and variable costs are used in cost accounting to help a company's management in budgeting and controlling ... Read Answer >>
  3. What are the generally accepted accounting principles for inventory reserves?

    As with most matters related to generally accepted accounting principles (GAAP), accountants assigned with the task of applying ... Read Answer >>
  4. How do you calculate inventory turnover?

    Inventory turnoverĀ measures how many times inventory hasĀ sold during a period and provides insight into a company's inventory ... Read Answer >>
  5. How are cost of goods sold and cost of sales different?

    Cost of goods sold and cost of sales both represent the direct costs involved in production. However, some companies use ... Read Answer >>
  6. What does a high inventory turnover tell investors about a company?

    Inventory turnover is an important metric for evaluating how efficiently a firm turns its inventory into sales. Read Answer >>
Trading Center