The Canary in the Coal Mine: Backlog and the Early Warning System

When we talk about S&OP, we talk about managing the business. We forecast bookings and shipments and put a production plan in place to meet these forecasts. The difference between the shipment plan and the production or delivery plan is inventory. The difference between the booking plan and the shipment plan is backlog. Both of these are strategic “levers” that can be used to manage the business.

Inventory is a lever in S&OP to balance demand and supply. We can plan a level of inventory to meet a desired service level. We can flex the level of inventory up and down to buffer ourselves from fluctuating demand and maintain a level production plan. We can increase inventory in anticipation of plant shut downs. We can measure the results of our inventory reduction plans in S&OP and balance this against our customer service metrics by family. As a lever to run the business, inventory is pretty well understood.

Backlog is also a lever to run the business. The challenge is that this lever is not often as well understood as inventory. The main reason for this is that most S&OP processes start from Operations then move into Sales. Operations understands inventory because it’s tangible and easily measured. When we have too much, our financial measurements show it.

The level of backlog is important because it impacts production efficiency, supply chain inventory, and customer service levels. If your backlog is too high, it will have a negative impact on customer lead-times. Incoming orders must be promised further out in the future because you have too much demand to meet with current production. In this situation, companies typically also experience operational inefficiency as they try to reshuffle orders trying to meet customer demands. As priorities change on the orders, your supply chain struggles to keep up with the shifting demand. Conversely, if the backlog is too low, Operations is looking for orders to build. Lines are run at less than optimal levels and typically are flexed up and down based on incoming orders. The supply chain has to react to fluctuating production levels.

But how much backlog do we need? How much is too much or not enough? The answer to these questions is: It depends. Now before you stop reading further, I will spend the balance of this article answering this question. The answer will still be “it depends”, but you will understand what it depends on, and how to calculate an appropriate backlog level for your business. First, let’s start with some definitions for clarity in understanding this topic.

Total Backlog is all open customer orders that are in your system. This includes both past due and future dated orders. For S&OP purposes, it’s important to see the total backlog as well as the time-phased backlog. Time-phased backlog is a view of the open orders in the month in which they’re due. There are three different types of backlog: