What is a Purchase Order (PO)?

Purchase Order (PO) Defined

A purchase order, sometimes referred to as a PO or purchasing order, is a legal document sent from a buyer to a seller. It contains the details of products or services required, specifying the types, quantities, and agreed-upon prices. The purchase order acts as confirmation that the buyer intends to purchase the mentioned product or service, establishing terms for payment and lending structure to the procurement process.

The purchase order itself is not a contractual agreement, but once a vendor accepts it, a contract is formed that ensures the buyer and seller agree to the terms laid out. Whether it’s in retail, manufacturing, or service sectors, any new transactions will start with a purchase order, simplifying the buying process and keeping both parties on the same page.

The Purchase Order (PO) Process

The process of buying goods or services with a purchase order usually goes as follows:

1. The buyer notices a need for a service or product
2. The buyer creates a purchase order and issues it to the seller, electronically or by post
3. The seller receives the purchase order and confirms if they are able to fulfil it
4. If the order cannot be fulfilled, the seller will notify the buyer and cancel the order
5. If the order can be fulfilled, the seller will begin allocating stock or staff
6. Once the resources are allocated, goods will be shipped or services will be provided
7. The purchase order will be assigned a specific number for easy identification
8. The seller will send an invoice for the order, detailing the PO number within it
9. The buyer will pay the invoice, abiding by the terms established in the original purchase order

Example of a Purchase Order

A purchase order is a legal document, but there’s no specific format they should follow. However, no matter the layout, they all need to contain a certain set of details. This will give the seller all the information they need, and make the purchasing process as streamlined as possible. Here’s what a standard purchase order should include:

• A PO number: a unique identifier that allows for easy identification and tracking
• Buyer and seller information: names, addresses, and contact detail for both parties
• Order date: the day on which the purchase order was issued to the seller
• Itemised list of goods: detailed specifications of what is being ordered, including item codes/SKU numbers
• Quantity of goods needed: the overall number of items requested by the buyer, and their cost per unit
• Total value: overall cost of the order, accounting for discounts or GST if applicable
• Payment terms: expected timeframe of the order and agreed conditions for payment

Advantages of Using a Purchase Order

Using a purchase order is a great way to simplify purchasing, clearly setting out expectations and encouraging forward-thinking when it comes to finances. Here’s how it could positively impact the ordering process:

• More controlled spending: purchase orders help businesses manage cashflow better through pre-approving purchases
• Clear paper trail: the documentation required reduces misunderstandings and helps prevent disputes between buyers and sellers
• Helps with cost forecasting: purchase orders allow business to track past purchases, which can help with accurately forecasting future expenses
• Builds supplier relationships: thorough and consistent purchase processes allow buyers to build trust with their sellers
• Avoids unnecessary orders: the unique PO numbers keep track of purchases, avoiding duplicate or surplus orders
• Gives legal protection: signed purchase orders are legal contracts, safeguarding both parties in the case of non-compliance or discrepancies
• Aids in inventory management: purchase orders give an expansive overview of purchase history, helping businesses plan stock levels effectively

Disadvantages of Using a Purchase Order

Purchase orders add an extra level of administration that may be difficult for smaller businesses to meet. In this case, a business credit card could be a more efficient way to have the same level of purchase protection, without the extra steps. Here are some of the potential downsides of buying with purchase orders:

• Takes up valuable time: creating, reviewing, and managing purchase orders slows down the buying process, especially for small, frequent purchases
• Extra administration: every purchase order means additional paperwork, which might be hard for a small team to fulfil
• Mistakes mean delays: any incorrect details on a purchase order, however small, could lead to delays or disputes in the procurement process
• Seller preference: some suppliers may prefer a simpler ordering process, making purchase orders an unnecessary step

Additional points to note about POs

In general, purchase orders are an effective way for businesses to add efficiency, accountability, and security to their procurement processes. Here are a few more things to bear in mind if you’re considering using them:

• There are different types of purchase orders for different needs, including standard POs (for specific, one-time purchases), blanket POs (for making multiple orders under the same agreement), and contract POs (for long-term agreements and ongoing purchases)
• Many businesses choose to use automated, digital purchase order systems, which make the process more efficient and streamlined
• Payment discrepancies can happen when the purchase order does not match the invoice, so always double check these details
• Purchase orders should be approved by management before being issued to ensure all the details are correct, so account for this in any timelines
• Keep track of purchase orders to help make financial reporting as transparent as possible and prove your compliance with any regulations
• Purchase orders and invoices are completely separate documents - the PO is issued before the purchase is made, while the invoice is issued after goods are delivered