Purchase Order – What is it? Formats, Benefits, and How to Create & Share?

The purchase order is a document used by the buyer or the purchasing department to place an order with a supplier or vendor. This is an official document that outlines the details of the item to be purchased. Let’s take a look at an example given below to understand how it works.

Mr Anand is the owner of a small manufacturing unit. He wants to purchase inventory from a vendor named XYZ Industries. Now, to do that, Mr Anand first creates a purchase order, which is then sent to the supplier. It lists what is needed from the supplier. Once the vendor approves the order, it becomes a legally binding agreement. The payment will be made by Mr Anand on the date specified in the purchase order (usually at a later point in time). The inventory will then be delivered by XYZ Industries with an invoice.

No journal entry is to be recorded in the accounting books when the purchase order is sent. The entry is only recorded when the buyer or the purchaser receives an invoice. Thus, in the above-mentioned case, once the order is delivered to Mr Anand, and the invoice is sent by the supplier, the inventory and accounts payable will be credited in his books of accounts. Further, when the payment is made by the purchaser, a reverse entry will be passed, where accounts payable and cash would be debited.

Format – Example of a Purchase Order Form

Different purchase order formats are followed by different companies. However, the elements of the purchase order form are the same. The following sections or details should be there in every purchase order form:

• Supplier’s name and address
• Buyer’s name and address
• Delivery date
• Order description
• Price/unit cost
• Quantity to be purchased
• Total amount
• Shipping terms
• Shipping method
• Payment date
• Method of payment (cash, bank transfer, credit card)
• Tax details

Various purchase order templates are easily available on the internet. You can simply download these templates and fill in the required information. Most companies these days use an electronic purchase order system, where a purchase order is generated automatically with the help of software, thus, avoiding the need to fill these forms manually.

This was an example of a purchase order. As mentioned before, you don't have to follow this exact format. Always remember to include the key details though.

Benefits of a Purchase Order

1. Legal protection

Mentioned in the first part of this article is how this document becomes a legally binding agreement once accepted by the vendor. This means that in case of any default at the time of delivery or if the buyer refuses to make the payment, both parties remain protected. Suppose you placed an order without a purchase order. You and the vendor agreed upon a price which is to be paid for the items. However, after some time, the supplier unexpectedly increases the price of the items, and therefore, wants you to pay the increased amount. What do you do in this situation? Either you’ll have to pay the higher price or cancel the order. In both cases, the loss is yours. And that’s exactly why purchase orders are necessary. In case of such events, it ensures that both the supplier as well as the buyer can be protected against unwanted exploitation.

2. Purchase order systems

An electronic purchase order system makes it possible to track the items through the entire procurement process. Using a purchase order system gives your company a decisive advantage. By streamlining purchasing through a purchase order system, errors and complications are avoided. Supplier directories, pricing for goods and services, as well as budgets are all stored on the system. Therefore, before placing an order, you can refer to all of this information. Approvals and budgets can also be configured to automatically manage the process. These systems also help you to build a reference list of pricing to cut the cost of your orders over time.

3. Saves time

Passing papers around the office takes more time; mailing suppliers takes even longer. An efficient purchase order system saves time and money for the business. The day to day purchase orders can be generated automatically, and the communication with suppliers takes place online. Furthermore, less human intervention is needed when you automate your purchase order process. Hence, it's vital to get your business' purchase order processes automated.

4. Audit

Purchase orders help in making the audit process smooth. It helps in providing auditors with a definite audit log and makes referencing easier. Hence, also reducing the chances of internal fraud.

How to Create and Share the Purchase Order?

Purchase orders can be created using various software, such as tally ERP, SAP, QuickBooks, etc. If you don't have the software, you can create these orders using templates available on the internet or you can also use MS Excel or MS Word and create your template.

1. Generate a purchase requisition: Whenever a company faces an inventory shortage or has a service requirement, the purchasing department raises a purchase requisition on paper or a purchase order system and submits the same for approval. Depending upon the category and value of the material, the respective approval authority will approve the purchase order requisition in the system. Thus, the purchase order is created only after the purchase requisition is accepted by the authorities.

2. Creating a purchase order: Once your requisition is approved, the purchase order can be generated. As discussed above, the PO document consists of vendor’s and buyer's details (address, contact details, email), shipment terms, order description, tax details, payment terms, order quantity, unit price, and the PO number.

3. The Purchase order number is an alphanumeric code, assigned to a particular purchase order. The PO numbers are used within the businesses to track their purchases. These numbers help in verifying the orders when they are received. Apart from that, it also ensures that the purchaser is rightly charged for the delivered items.

4. Acceptance or rejection of purchase order: The purchase order will be successful only when the supplier signs the document. Thus, the vendor has the absolute authority to reject or disapprove the purchase order. Only upon acceptance of the purchase order by the vendor, the purchase order becomes a legally binding agreement.

5. Invoicing: After accepting the purchase order, the supplier prepares the order for shipment. The order is shipped, and the PO number is pasted onto the packing list, as it would help in verification of the goods ordered by the buyer. Once the invoice is sent to the buyer, the entry is made by both the parties in their books of accounts.

6. Payment: Upon the delivery of the products, if the buyer is satisfied with the items sent by the supplier or vendor, the invoice gets approved, and payment is made to the seller as per the payment terms mentioned in the purchase order.

Conclusion

As your company or business grows, the load of paperwork increases too. You might need to generate purchase orders on a routine basis, thus, creating additional paperwork, which can be time-consuming. And if all the time is spent on the paperwork, then it would be difficult to work on the areas that require constant supervision. Thereby, automating the purchase order processes is of great significance to the business. We’ve already mentioned its advantages above. If you are a small business, and you occasionally make purchase orders, you might not need an electronic purchase order system. But creating a purchase order on paper is still important. Most small businesses, due to the fear of additional paperwork, don’t use purchase orders while placing an order. Through this article, we’ve tried to explain the working along with the benefits that you can avail by using a purchase order while placing an order.

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