Cost Accounting

What Is A Purchase Order?

Sending a purchase order might seem like a redundant task, but is that really the case? In this article, we summarized everything to know about purchase orders, including what they are, what they contain, why they are essential for businesses, and when they are truly unnecessary.

What Is A Purchase Order?

A purchase order is an official document a buyer will send to the seller to confirm a specific purchase of goods or services.

What Distinguishes A Purchase Order From An Invoice?

The vendor provides an invoice to ensure payment, but the customer issues a purchase order to ensure they received exactly what they purchased.

  • Purchase orders, which specify what should be in the order and when it should arrive, are initially issued by the customer to the vendor.

  • They contain information on the number of products, thorough descriptions of the items, price, purchase date, and payment terms.

Only after approving the purchase order does a seller send an invoice. For finance to confirm that the data on both forms is the same, suppliers typically include the purchase order number (PO number) listed on the original purchase order when issuing invoices.

What Distinguishes Purchase Orders From Sales Orders?

Purchase orders are issued from the buyer to the seller to formally confirm purchases. On the other hand, vendors communicate with buyers via sales orders to confirm a transaction before the order has been processed.

Read more about All The Accounting Basics.

Why Do Businesses Use Purchase Orders?

Most small enterprises use a less formal strategy when starting instead of using a purchase order system.

However easy that might be in the beginning, such a cash-for-goods purchasing system will cause difficulty when businesses expand and their purchases become more intricate, specific, and urgent.

Here are four of the most typical justifications for purchase orders in business:

Consider a scenario in which your firm paid for twenty machines that were purchased from a vendor, but only eighteen of them showed up at your workplace on the day of delivery. Who is at fault?

You may find yourself in a problematic legal situation if you and your vendor have a disagreement without a purchase order, which is a legally enforceable contract.

It can also be challenging to conclusively demonstrate what went wrong in a purchase without a paper trail.

Purchase orders eliminate such uncertainty by forming a legally enforceable agreement between the parties and acting as a transaction record.

When a vendor receives and accepts a purchase order, you are obligated to uphold your half of the deal.

Note: For a purchase order to be effective, it must be delivered to the seller. Only after the seller "acknowledges" the purchase order by signing it does the document acquire legal force.

2. Purchase Orders Facilitate Order Tracking

Purchase orders enable you to keep better track of all the products and services your business has bought, how you're paying for them, and when they're due to arrive.

By giving each purchase order a unique PO number, you can quickly keep track of the orders you've sent, just like invoice numbers make it easier for you to monitor bills.

From an operational perspective, knowing that your supplier is contractually required to deliver orders at a given time and date gives you more confidence to track orders.

Accounting-wise, you may budget with assurance knowing that you have a legally enforceable purchase price.

3. Purchase Orders Assist In Avoiding Audit Issues

You'll be grateful you made purchase orders if you are audited. Why? Purchase orders give auditors a solid audit trail and a quick means to cross-check invoices and slips, which greatly reduces the stress associated with the auditing process.

Prepare for a drawn-out, painful process of going over invoices, receipts, and emails with suppliers if you don't have purchase orders.

4. Purchase Orders Help Vendors In Various Ways

If you submit a purchase order to your vendor, who is accustomed to receiving them, you'll receive your cargo quicker than without one.

The purchase procedure is simple since everything they require is in one location; there will be no back and forth or misunderstandings.

How Are Purchase Orders Processed?

The processes necessary to complete a purchase order might be a little challenging. From the viewpoint of a buyer, the following is a breakdown of a typical transaction using a purchase order:

Management first informs your company's buying department that a purchase is necessary. Many businesses accomplish this by sending out a buy requisition form.

If the order is approved by the department, a purchase order outlining the specifics of the purchase is filled out.

The vendor then decides whether they can and want to fulfill the order after receiving the purchase order. They must authorize the purchase order before it is enforceable.

The buyer sends payment for the agreed-upon amount (or does so at an agreed-upon later date, which is specified on the purchase order.)

The order and an invoice are delivered by the seller. The finance department of the buyer then confirms that the invoice and purchase order are in agreement with one another.

Example Of A Purchase Order And Its Elements

Its style is irrelevant, but a purchase order must include these components:

  • PO (Purchase Order) number
  • Date of the purchase order
  • Name of the vendor
  • Billing address
  • Shipping address
  • Additional contact details, such as email addresses and phone numbers
  • Date of delivery
  • Shipping method
  • Shipping conditions
  • Item name
  • Item details and technical data
  • Item number
  • Cost per unit
  • Total line
  • Taxes
  • Total cost
  • Terms of payment

Purchase orders are uniform throughout the whole organization and include, at a minimum, details about the buyer and seller (names, addresses), the order itself (product description, technical specifications, price, quantity), and payment conditions (due date and form of payment, e.g., bank transfer, credit card).

Nowadays, most businesses have an electronic purchase order system that is often controlled by accounting software, such as Wafeq.

When Is A Purchase Order Not Necessary?

Making significant purchases without purchase orders is often not a good idea. However, the rule does not always apply.

Regular, recurrent expenses related to the day-to-day operations of a business, such as payments for heat, electricity, and gas, monthly service subscriptions, memberships, etc., are often billed for on a monthly basis and don't need a purchase order.

Any internal expenditure reimbursements—for travel, books, supplies, entertainment, etc.—are documented on a separate form that is typically referred to as a reimbursement request.

To complete a purchase order, you must be aware of the whole amount of the transaction in advance. This implies that transactions with an unforeseen future total cost, such as advertising charges and legal fees, cannot be made via a purchase order (a simple invoice will do for these.)

Additionally, businesses frequently establish a lower cost barrier for placing a purchase order for the sake of efficiency and simplicity. For instance, your business can determine that it is more economical not to utilize a purchase order for any orders that are under SAR 1,000.

The Conclusion

All in all, purchase orders are vital, official documents for buyers and sellers alike. Be it the legal protection, audit benefits, or the certainty they provide, purchase orders are almost always the right choice for any kind of firm out there.

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