An example of purchase order is given below.
The basic principle of purchase orders is the same for any situation or business, but there are several types of POs that suit various situations. Single-use purchase orders, blanket purchase orders, and planned purchase orders are some of the types of POs that businesses use. The single-order ones are used when a business orders something that is needed only once. They can also be used if you always require products and services in different types or quantities. Blanket purchase orders are used when procurements from a vendor are needed over an extended period of time. In blanket POs, reordering does not require an additional PO. Planned purchase orders are like single-use orders, but instead of being immediate, they predict future needs.
7 Steps in the Purchase Order Process
The first step to improving a business process is to understand and map out various tasks that make up the process. The process of PO includes the steps from PO creation to PO closure, and some additional steps like quality checks and budget approvals. The purchase order process is a subset of the larger procurement process that includes all the activities related to acquiring goods and services.
Various steps in the PO process vary according to the size of the company, spending category, and corporate structure. Typical purchase order processing includes the following steps-
PO creation –
how to make a purchase order? Once a purchase requisition is approved by authorities, the PO creation starts. Approval of the purchase requisition starts the PO creation. The data from the purchase requisition is presented in the purchase order along with additional information like payment terms, delivery date and time, etc. The purchase requisition provides information on what is being purchased, the priority level of the requisition, the budget, when the product/service is needed, who needs to approve the order, and supplier information. Employees create a purchase requisition and get it approved by authorities before PO order creation. Then the procurement team or other responsible parties creates a PO based on the approved purchase requisition. In the case of recurring purchases, a PO can be created without a purchase requisition.
PO approval –
after PO creation, it is sent for approval to the relevant authorities. Approval of the PO can be done manually or digitally. Authorities may send the approval via email or inform employees verbally. In some other cases, a more formal approach for approval like paperwork may be required. The level of approval depends on the purchase amount, policies and guidelines in the company, and requirements of the supplier. The approval authority needs to consider verification of budget or documentation, such as product specs or detailed statements of work (SOW). Once approved, a requisition becomes a purchase order.
Dispatching PO to supplier –
once a PO is approved, it means that the supplier is already chosen and the PO should be issued to the supplier. In manual procurement processes, the PO is usually a paper document. In the digital PO process, the PO is sent via email or an online procurement platform. The vendors submit their bids based on the POs. Approval of the vendor bid is done based on price, quality, support, service, schedule, and other factors relevant to the business.
Legal binding contract –
the bid submitted by the vendor is reviewed by the buyer. Once the bid is accepted, the company and vendors get into a contract. The legal contract includes terms and conditions that are relevant to the purchase, like what support comes with the item being purchased or how disputes are handled. Any changes in the PO can be made only before the PO is approved.
Receiving goods and services –
the buyer waits for the delivery of goods/services as per the timeline mentioned in the PO. The goods/services dispatched by the supplier are received by the responsible party on the buyer’s side. This person inspects the goods/services for quality to ensure that they met the specifications mentioned in the PO. From here, the warehouse managers notify the supplier if the goods do not meet their requirements. The goods received note (GRN) is prepared by the buyer if all goods/services are as per the specifications. The vendor sends payment invoices to the buyer for the goods/services delivered to the buyer.
3-Way Matching –
the 3-way matching is an important step in the PO process. In this process, the data in the PO, GRN, and vendor invoice is matched. The 3-way matching is an essential step that avoids discrepancies between what the company has ordered, received, and paid for.
Purchase order Closure –
after the 3-way matching process is successful, the PO closure process begins. The confirmed invoice is forwarded to the finance department for payment. Upon payment of the invoice, the PO can be closed and the corresponding records can be documented.
What are the benefits of Using Purchase Orders?
A purchase order offers benefits for both buyers and suppliers. Purchase orders allow businesses to track inventory and cost while ensuring accuracy. There are several reasons why a business must use purchase orders. Buyers and suppliers derive different benefits from using purchase orders.
Benefits of using POs for buyers
Set clear expectations – POs enable purchasers to clarify their exact needs to vendors. Clear expectations ensure that buyers get off on the right foot on vendor relations, and ensure that there are no issues during transactions.
Manage orders efficiently – businesses usually designate certain employees to manage inventory and process incoming orders. These individuals are part of the procurement, finance, or operations departments. Using POs empowers these individuals to track and manage orders more effectively with official documentation of incoming and pending deliverables. Active tracking of PO status enables timely follow-up with the supplier. PO processing allows businesses to track inventory and cost while ensuring accuracy.
Easier business budgeting – creating a purchase order makes it easy to budget purchasing costs for their department. Businesses can benefit from having a clear record of the spending and where money is spent.
Legally binding document – once the vendor accepts the purchase order, it becomes a legally binding document. Purchase orders are enforceable contracts between buyers and suppliers. In situations where a formal contract is absent, the PO can be considered as a legally binding document.
Audit compliance – financial discrepancies often surface during the audit process. Auditors are particularly concerned about the goods and services coming in and payments going out. Having a streamlined purchase order process enables full audit trails. POs make the procurement process legal and accountable.
Streamlines account payable – the PO system automates the accounts payable process by giving complete visibility of PO statuses and receiving documentation when processing invoices. The 3-way matching step in PO processing reduces the number of exceptions in invoice processing and avoids incorrect or duplicate payments. Successful 3-way matching gives purchasing departments and accounts payable team members confidence to carry out procurement functions.
Control over procurement KPIs – having a PO gives the procurement team control over retail KPIs. The PO specifies when the order is expected to be delivered so that they can clearly communicate to customers when the product will be available.
Efficient project management – efficient tracking of PO status enables project management. POs allow you to track the quality of products and services provided by vendors.
Benefits of using POs for suppliers
Inventory management and order fulfillment – vendors can use POs in inventory management and order fulfillment processes. The items listed on the PO must be taken from the inventory and delivered to the buyer. Accurate documentation of the PO helps track orders easily and prevents duplicate orders from going out. The quantities mentioned on the PO can be checked at each stage against the available inventory, which avoids errors that are costly and time-consuming to correct.
Payment processing – at the end of the PO cycle, PO data is matched against outgoing invoices to ensure that all fulfilled orders are charged for and payment is received. The processing speed of invoices can be accelerated by simply referencing the PO number, which in turn improves cash flow management.
Purchase order financing – as PO is a legally binding document, it can be used to buy credit and can be offered against those POs that are awaiting payments. This helps improve cash flow, which in turn helps the vendor benefit from purchase order financing.
Purchase Order versus Purchase Requisition versus Invoice
Purchase requisition, Purchase order, and Invoice are common terms used in the procurement process. The below table compares these 3 terms.
|A purchase requisition is a document requesting goods/services by an employee
||A purchase order is the confirmation of an order by the head of the department
||An invoice is an official payment request sent by the vendor to their buyer.
|A purchase requisition is sent internally from one employee to another
||A purchase order is sent externally from an employee to a vendor
||The invoice is sent by the seller to the vendor after the purchase order is fulfilled
|A purchase requisition is used to notify the concerned department that there is a need for materials
||Purchase order denotes the approval of the concerned department that materials can be bought from the vendor
||An invoice signifies that the PO has been fulfilled and that payment for delivered goods/services is due.
Best Practices for Optimizing the PO Process
Every business has its own approach to improving the PO process. The best practices followed by each company help tackle the challenges in purchase order management, researching raw material sourcing, and trying to break into a new market. The best practices in the PO process include:
Leverage technology –
the first and most important strategy is to centralize the PO process through automation and integrate it with existing purchasing software or a comprehensive procurement solution deployment. Technologies like artificial intelligence and automation provide businesses with the tools required to take full advantage of the best practices. Automation helps reduce rogue spending and assign appropriate tiers of responsibility in approval workflows. Workflow automation also improves transparency and reduces errors.
Create a simple and connected PO process –
keeping the purchase order process simple helps connect the dots for every document, email, and chat message related to every purchase order.
Connect budgets to purchase from the start –
automation helps break free from wasted time and resources spent on purchase requisitions that are not within the budget by giving department managers the power to plan their budget in the same application. Purchase order software provides a complete, real-time view of current and projected budgets. Purchase requisitions that exceed available funds are automatically flagged off and appropriate parties are notified to review and authorize or reject their discretion.
Review and analyze the current purchase order process –
every business process must be continuously reviewed and analyzed for improvement areas. Each step should be mapped out to identify and resolve bottlenecks, identify the number of approvals required in the process, and account for different factors that impact the budgeting process.
Establish goal-oriented results –
outline and detail the goals surrounding the PO process. Consider all the metrics revolving around the speed of deliveries, reliable vendors, or reduced spending.
Establish written guidelines accessible to everyone in the PO process –
a written and well-documented process is the best way to communicate best practices and SOPs throughout the company.
Develop a preferred list of vendors –
preparing a list of preferred vendors helps the procurement team pick from the go-to, trusted vendors with whom the company has built long-term relationships. Engaging with trusted vendors makes negotiation simpler and more effective.
Create budget allowances and expense groups –
having budgetary restrictions helps streamline the purchase process by automatically implementing purchase guidelines. Knowing the budget helps the department plan how much they have to spend on necessary resources.
Assign a stakeholder to manage the PO process –
having someone oversee the PO processing helps improve the adaptability of the PO system across the procurement department. Having someone accountable provides a point of contact for tackling any questions that might come up while implementing the procedure.