A Purchase Order (PO) is a standard document used in the procurement process by companies of all sizes to manage their external spending. This formal documentation provides a structured method for authorizing and tracking the acquisition of goods and services from outside suppliers. The PO system is a fundamental component of financial control and operational clarity within a business’s purchasing activities. Understanding this document is necessary for anyone involved in a business transaction.
Defining the Purchase Order
A Purchase Order is a commercial document issued by a buyer to a seller, formally stating the buyer’s intent to acquire specific products or services. This document specifies the types of goods, their quantities, and the prices agreed upon for the transaction. It serves to initiate the purchasing process with a vendor. Once a seller accepts the PO, the document transforms into a legally binding agreement between the two parties.
Core Purposes and Benefits
POs provide a structured mechanism for internal budget management by tracking expenses before they are incurred. Creating a PO allows a company to commit funds internally, ensuring purchases are accounted for and preventing unauthorized expenditures. This process helps departments manage their allocated funds more effectively and aids in accurate cash flow forecasting.
The accepted Purchase Order provides legal protection for both the buyer and the seller. It establishes a clear, enforceable agreement that details the terms and conditions of the transaction. This written record helps reduce the likelihood of disagreements regarding the quantity, pricing, or specifications. Should a dispute arise, the accepted PO serves as evidence of the mutual understanding between the parties.
POs also streamline receiving and inventory management functions within a business. When goods arrive, the receiving department uses the PO as a reference document to verify the shipment. They confirm that the delivered items match the specifications, quantities, and prices that were originally ordered. This verification step helps maintain accurate stock levels and prevents discrepancies in the supply chain.
Essential Elements of a Purchase Order
A Purchase Order must contain specific data points that define the transaction. Each PO is assigned a unique Purchase Order number, which allows for easy tracking and reference throughout the transaction lifecycle. The document must clearly display the contact and legal information for both the purchasing company (buyer) and the supplying company (seller).
The core of the PO is the description of the items or services being procured. This section includes the product name, a unique identifier like a Stock Keeping Unit (SKU) or item number, the ordered quantity, and the unit price for each line item. The PO also specifies the requested delivery date and the shipping location where the goods are to be sent.
The PO must outline the agreed-upon payment terms, such as “Net 30” or “Net 60,” which indicate the timeframe for payment after receiving the invoice. This structure ensures that all financial and logistical expectations are documented upfront. The date of issue is also recorded, providing a timestamp for the purchasing agreement.
The Purchase Order Lifecycle
The process begins when a department identifies a need and creates a Purchase Requisition (PR), an internal request for goods or services. Once the PR is reviewed and approved by the appropriate financial authority, the procurement team generates the Purchase Order. The PO is then sent to the selected supplier as an offer to conduct business under the specified terms.
The PO becomes a contract when the seller reviews and accepts the terms, often by sending a confirmation to the buyer. The supplier then proceeds with fulfillment, preparing the goods and arranging for their delivery to the buyer’s specified location. Upon arrival, the receiving team conducts an inspection of the shipment. They confirm the items received against the original Purchase Order, generating a Goods Received Note (GRN) to document the delivery.
The final step in the PO lifecycle is the payment verification process, known as the three-way match. This involves comparing three documents: the original Purchase Order, the Goods Received Note (GRN), and the seller’s invoice. The financial team verifies that the items billed on the invoice match the items ordered on the PO and the items received on the GRN. Only after these three documents are reconciled is the invoice approved and payment processed.
Distinguishing Purchase Orders from Invoices
While both are transaction documents, the Purchase Order and the Invoice serve different functions. The PO is generated by the buyer and represents an intent to purchase and authorization of spending. It is created at the beginning of the transaction to initiate the order.
Conversely, the Invoice is generated by the seller after the goods or services have been delivered and accepted. The Invoice functions as a request for payment from the seller to the buyer. It finalizes the transaction by detailing the amount owed, often referencing the original PO number for tracking and reconciliation.
The distinction lies in their role within the accounting process. The PO is a financial control document that ensures funds are committed before they are spent. The Invoice is a bill that confirms order fulfillment and triggers the accounts payable team to process payment. Both documents are necessary for a complete and auditable transaction record.