Chapter 3. What Are Purchase Orders? What You Need to Know

Welcome to Chapter 3 of our order management guide. In this chapter, we will explain something you will often use in order management—‘Purchase Orders.’ We will cover a lot of common questions about purchase orders in this chapter, so feel free to come back anytime you need.

What Is a Purchase Order?

Commonly known as a ‘PO,’ a purchase order is a document created by a buyer (in our case, an ecommerce seller) and sent to a seller (supplier, vendor, manufacturer, or distributor—wherever you get your products from). A purchase order outlines the items the buyer is ordering from the seller. A purchase order should include:

• Product names.
• Product variations.
• Quantities.
• Product price.
• Total order price.
• Billing information.
• Shipping address.
• Order date.

The format and information that is displayed can vary depending on the company. Purchase orders enable buyers to control product purchasing by detailing what they need. The seller can then prepare the order for shipment. Purchase orders are frequently used in order management, and it is super important that you learn what they are for. If you do not understand how purchase orders work, you will not last long in order management.

What Are the Benefits and Challenges of Purchase Orders?

Top 5 Benefits of Using Purchase Orders

• By far, the largest benefit of using purchase orders is that they help businesses track their inventory and expenses, which helps them with inventory forecasting and budgeting.
• Using a standardized format, purchase orders clearly communicate to sellers what must be sent to the buyer, reducing potential errors and speeding up the process.
• Purchase orders document transactions between the buyer and seller, so there is accountability if issues or anything needs to be checked or confirmed. They are also crucial for financial reasons.
• Purchase orders reduce the possibility of overstocking or understocking, as you know how much inventory is heading your way.
• Purchase orders can act as legally binding documents in disputes and discrepancies between buyers and sellers.

Top 5 Challenges of Using Purchase Orders

• Generating POs can be tricky and time-consuming for some businesses. Young businesses might not know precisely what to order and what quantities or information to include.
• Prolonged waiting periods for PO approval can lead to procurement delays, directly affecting production schedules, inventory on hand, and customer fulfillment.
• Businesses that become overly reliant on sending POs to the same sellers may miss out on deals from other sellers or the changing market.
• You should have a PO system to handle your purchase orders. Adopting the wrong system can be a costly expense to your business.
• Managing POs can be a learning curve for those new to order management and can lead to mistakes.

Can Purchase Orders Be Canceled?

Depending on your agreement with your seller, there may be a period of days in which you can cancel a purchase order as work has not yet started. Sellers are far less likely to accept cancellation once you pass this period and production has started. Remember that repeatedly canceling purchase orders can negatively impact your relationship with the sellers and your business’s reputation.

What Are Open POs and What Are the Risks?

Typically, purchase orders are considered closed when the buyer receives all the items on the order. However, there are also ‘open purchase orders,’ which are used for items that regularly need replenishment (reordering). Open purchase orders usually have a predetermined period. This period could be every quarter or even annually.

While open purchase orders reduce the work needed in the purchasing process, they have risks that you should consider. The most common risk is that if you don’t track open purchase orders, they can pile up and become expensive. You may end up with more inventory than you need, which can be tricky to offload. Furthermore, another risk is that you can become a victim of fraud to malicious billing schemes where sellers may attempt to squeeze as much out of you as possible.

Are Purchase Orders Legally Binding?

Purchase orders become legally binding only when sellers accept them, so you must ensure that a purchase order has the correct information before sending it out. Before sellers accept a purchase order, they have the right to reject it and ask for revisions if they find issues or cannot complete the order as specified. However, there may be other agreements between the buyer and seller that may void a purchase order.

What Happens If an Invoice Does Not Match the Purchase Order?

If an invoice doesn’t match a purchase order, this can be considered a ‘quantity deviation.’ The invoice should be put on hold, and a dispute should be opened with the seller until the issue is resolved. A discrepancy between an invoice and a purchase order can occur if the quantity arrives at the buyer incorrectly, the variations are incorrect, or the pricing is different. You should not accept an invoice that does not match the purchase order.

Do Purchase Orders Expire?

Not necessarily. A purchase order can be valid for a specified period or indefinitely without a set expiry date in mind. When there is a set date, it should be clearly stated on the purchase order as ‘validity date,’ which is not the same as ‘due date’ or ‘delivery date,’ which is when delivery is expected.

Validity dates can vary and are often set to around one year from the date of creation to half a year or even a quarter. However, many businesses choose not to use expiration dates for purchase orders.

Key Points From Chapter 3

Remember these key points from this chapter.

• A purchase order, or PO, outlines the items a buyer wants to purchase from a seller.
• While purchase orders may take some time to get used to, they are the standard way of ordering products from sellers, and you must learn how to use them.
• Purchase orders are legally binding once the seller accepts them. However, buyers often have a period of days to request changes or even cancel an order before production has begun.
• Some businesses use open POs to continuously replenish goods, but they must be cautious that this approach does not become costly. Some POs have expiration dates.
• If an invoice does not match a purchase order, it can cause a dispute between the seller and buyer that should be solved before payment is made.