Understanding purchase orders
At the most basic level, a purchase order is a legally binding document sent by a buyer to a seller requesting products or services. Often referred to as ‘PO’s’, purchase orders detail the items the buyer wishes to purchase and clearly states the price. POs also outline the delivery date and terms of payment that the buyer must adhere to.
Since their inception, digital systems that track purchase orders and order fulfillment have made the purchasing process more efficient and allow for better inventory and payment tracking. Many companies both large and small now use purchase orders to keep business flowing smoothly.
Why use a purchase order, and when?
Purchase orders are often used when a buyer wants to purchase supplies or inventory on account. This means the supplier delivers or ships the purchased items prior to payment, with the purchase order serving as its risk protection.
Along with legal protection, purchase orders help with both inventory management and payment tracking. They also help suppliers compare ordered inventory to inventory that has been shipped and allow suppliers to track when payments have been made on specific orders.
Buyers hold copies of orders they place to monitor timely receipt of the items.
Purchase orders and the small business owner
As a small business owner, you may be involved with purchase orders in one of two ways:
- As the buyer, issuing purchasing orders to your vendors for materials you use to create your products
- As the seller, receiving purchase orders for your own products from clients
Purchase orders are usually used by all businesses who are ordering goods in large quantities.
For example, a pet shop may need to buy several types of cat food from a supplier, and will order many bags of each type of food. Or a jewelry company may need to order specific types of beads and other crafting supplies, and different quantities of each.
What information is included on a purchase order?
Purchase orders include key reference information such as tracking numbers (to track the purchase order as it moves through the suppliers system), as well as information about the type of item/items ordered, the quantity ordered, and the agreed upon price.
All purchase orders should contain the following information:
- Date of issue
- Purchase order number
- Details of goods
- Shipping details
- Name and address of the buyer
- Name and address of the seller
- Terms and conditions of the sale
Purchase orders and company financing
Need a loan? Many commercial lenders ask for purchase orders for reference when providing financial assistance to small business owners.
Having a number of high-value purchase orders helps demonstrate that your company will have strong future cash flows, supporting your ability to repay any funds lent to you by a bank or other commercial lender.
What is the difference between a purchase orders and an invoice?
Many new entrepreneurs confuse purchase orders and invoices. It’s an easy mistake to make.
Both are legally binding financial documents exchanged between sellers and buyers. The documents are also connected because a purchase order is often used to create an invoice – as a reference for the goods purchased and their prices.
However, each document is used at a different point in the buying process. Purchase orders and invoices are also used by different people within the business.
Overview of the difference between a purchase order and an invoice
- Created by the buyer
- Created before purchase takes place
- Details the goods required
- Includes proposed payment details
- Created by the seller
- Created after purchase
- Confirms goods delivered
- Requires payment on a specific date
In other words, a purchase order is used by a buyer to place an order and is issued before delivery.
An invoice is issued by a seller after an order is delivered. It defines the amount the buyer owes for the purchased goods and the date by which the buyer needs to pay.
Different types of purchase orders
Standing purchase orders
Buyers can create special orders for especially large shipments or recurring purchases. A standing purchase order allows a buyer to purchase the same products many times over using the same purchase order number. This saves time and hassle.
Blanket purchase orders
A blanket purchase order is an agreement between both parties for multiple deliveries over a set period, for a set price. Blanket orders are usually used between companies with a strong relationship, and sometimes come with discounts or other incentives.
Are purchase orders important for my small business?
When you’re just starting out in business, it may not be necessary to use purchase orders. Small businesses tend to have organic purchasing processes that are simple and straightforward.
However, as a company grows, and more people are involved in completing orders from beginning to end, the order fulfillment process changes. Relationships with vendors also grow and evolve with time.
As orders become more complex (or there are many more orders to fulfill), using purchase orders is a sensible and necessary step for many businesses.
Benefits of using purchase orders
There are a number of reasons why using purchase orders is helpful for businesses both large and small.
- They establish clear expectations
Purchase orders let buyers clearly explain their needs to vendors. Both parties can refer back to a purchase order, in case orders are not delivered as expected.
- They help with order flow and management
Purchase orders give finance, procurement and operations teams official evidence of of incoming or pending deliveries. This enables them to anticipate the order pipeline better, as well as track and manage orders more effectively.
- They’re a boost for budgeting
When a company has a clear line of sight on its upcoming orders, it can budget and spend more intelligently. If, for example, a certain material will be needed to fulfill many upcoming orders, it may be possible to buy in bulk, saving money.
- They are legally binding
In the absence of a formal contract, a purchase order can serve as a legally binding document, but only after it is accepted by the vendor.
Automating the purchase order process
As your business starts to scale, you may find yourself spending too much time creating and issuing purchasing orders manually. By using a tool such as QuickBooks Online, you can quickly draft and send purchase orders to all your vendors, helping you keep track of your order pipeline and budget effectively, throughout the year.