The Shop system has options for Deleting and/or Canceling an order on the Orders dashboard (Shop --> Orders --> Orders tab).  If you delete an order, all traces of the order are removed from the system and there is no reinstating it. If you cancel an order, the order stays in the system but is flagged as Canceled. It's recommended that you add an admin note on the order detail as to the nature of the cancellation for recordkeeping.

Neither Deleting or Canceling an order affects inventory levels. You would need to adjust those manually if your Shop system is set to track stock levels.