What Is Drop Shipment?
Also known as: drop ship, third-party shipment, direct delivery, dropship
Definition
A drop shipment is a sale where the supplier ships goods directly to your customer instead of to your warehouse. The seller links a sales order to a purchase order, never holds the stock, and still invoices the customer.
Drop Shipment Explained
In a drop shipment the seller takes the customer order, then buys the item from a supplier who ships directly to the customer address. The seller's ERP holds two linked documents: a sales order to the customer and a purchase order to the supplier with the customer's ship-to address on it. No inventory is received or issued at the seller's warehouse.
SAP calls this third-party order processing, using a sales order item category and a purchase requisition created automatically. NetSuite uses a Drop Ship purchase order generated from a sales order line, Odoo uses a Dropship route on the product, and SyteLine and Infor LN can link purchase and sales order lines for direct delivery. The configuration differs, but the pattern of a linked PO and sales order is the same.
Accounting is the sensitive part. Revenue and cost of goods sold normally post when the supplier confirms shipment or when the seller records the delivery, and the supplier invoice is matched against a receipt that is virtual rather than physical. Without a clear receipt event, margins and accruals can be wrong.
Drop shipping suits bulky, low-volume or made-to-order items. The trade-offs are less control over delivery quality, packaging and speed, and dependence on the supplier's data for tracking and proof of delivery.
Why It Matters
- It removes inventory and handling cost for items that are not worth stocking.
- It lets a manufacturer or distributor offer a wider catalog without inventory risk.
- Linked orders keep customer price, supplier cost and margin visible on one transaction.
- Weak confirmation of shipment leads to disputes, late invoices and wrong revenue timing.
In Practice
A customer orders a 2,400 kg press accessory the seller does not stock. The sales order line is flagged drop ship, a PO is raised to the manufacturer with the customer's address, and the supplier ships in two weeks. When the supplier confirms shipment, the seller posts the delivery, books revenue and cost, and later matches the supplier invoice to the PO.
Frequently Asked Questions
How does a drop shipment affect inventory?
It does not. The goods never enter your warehouse, so there is no stock receipt or issue, although some systems use a virtual receipt for accounting.
Who handles returns on a drop shipment?
That depends on the terms. Often the customer returns to the supplier with the seller's authorization, but the seller usually manages the customer relationship and credit.
Can ERP automate drop shipment?
Yes. Most ERPs create the purchase order automatically from the flagged sales order line, and some also pass tracking and shipment confirmation back through EDI or API.
Related Terms
Purchase Order (PO)
A purchase order (PO) is a document a buyer issues to a supplier committing to buy specified items or services at agreed quantities, prices and delivery dates. In ERP it drives receiving, invoice matching, open commitments and supply in MRP.
Three-Way Match
A three-way match is the accounts payable control that compares the purchase order, the goods receipt, and the supplier invoice on quantity and price before releasing payment, ensuring a company pays only for what it ordered and actually received.
ATP (Available to Promise)
ATP (available to promise) is the portion of inventory and scheduled production not yet committed to existing customer orders, calculated by date so order entry can quote a delivery a customer can rely on.
Lead Time
Lead time is the elapsed time between initiating an order and having the material available for use. In ERP it is the offset MRP applies when back-scheduling a planned order from its due date to its release date.
Landed Cost
Landed cost is the total cost of bringing purchased goods into inventory, combining the supplier price with freight, insurance, customs duty, tariffs, brokerage, and handling, so inventory is valued at what the material truly cost to acquire.
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