Industrial sector companies typically have extensive backlogs since there may be a significant time lag between the customer placing an order and the final product being delivered.
In addition, there may be times where high levels of orders are placed.
Customers may order at the same time of year.
They may want to spend their budget before the end of the financial year.
For example. Macroeconomic events can also have a significant impact on backlogs.
For example, COVID meant supply chains were disrupted, and this caused huge backlogs to build up for many industrial companies.
In this instance, backlogs were further exacerbated by customers reacting to these problems, rushing to place orders earlier than they needed them to be. Further up the backlog list popular products and successful companies in this sector will typically have the largest backlogs.
It's seen as a positive indicator of future revenue since this is so important from an analysis perspective.
It's also a required disclosure in the financial statements of this kind of company.
The backlog is made of committed orders, which have yet to be delivered, so it effectively provides a view on the future.
Cash sales. It's important to distinguish this from deferred revenue, which it shares many similarities with.
If an industrial takes an order, it is added to the backlog, but no cash is taken at that point apart from perhaps a deposit.
As the product is delivered by the industrial company, they will recognize revenue in their income statement and it will be removed from the backlog.
Cash often isn't taken from the customers fully and advanced, and this distinguishes the backlog from deferred revenue.
An important way to analyze the backlog is using a metric called book to bill, as the name suggests, it's the relationship between bookings, which is the new orders being added to the backlog and revenue build, which indicates the order has been fulfilled for companies with a consistent level of sales. Over time, this will be just over a hundred percent as new orders are taken at an inflated price.
