In 2021, the U.S. Automated Clearing House (ACH) payments network alone processed 5.3 billion business-to-business transactions with a net dollar value of $50 trillion. Purchase orders and invoices are the documents that fuel this incredible volume of business. But businesses also know that preparing these documents and getting paid remains a slow and error-prone process.
What if we could optimize these processes? A steep increase in global business is for the taking if we could do that. So why aren’t we, and what makes purchase orders and invoices so complex and time-consuming? What are the solutions out there that can speed them up? In this deep dive on purchase orders vs. invoices, you’ll learn all that and more.
once a vendor accepts the purchase order it becomes a legally binding contract
A purchase order (PO) lists the goods or services that a company wishes to buy from a selected vendor or service provider.
A PO is a critical document in the purchasing process of a business. So let’s start with an overview of the process.
It starts when a department — like manufacturing, engineering, operations, sales, HR, or administration — identifies a need for some goods or services.
They prepare a purchase requisition with a list of goods or services they need along with criteria like quantities and quality. The requisition is sent to the purchasing department.
The purchasing department maintains a list of vendors, their details, and their business transactions in a vendor master list or master suppliers list. Based on the details in the requisition, they select a suitable vendor, call for a request for proposals, or put out a tender.
Once a vendor is selected, the purchasing department negotiates terms, dates, and conditions with the vendor’s sales team for sourcing the required goods and services.
With the details fleshed out, the purchasing department creates the PO. It includes requirements, negotiated prices, dates, quantities, and quality criteria. It sends the PO to the client manager of the vendor.
Some large companies don’t send the PO but just notify the vendor to log into their procurement portal, examine the PO, and either accept it with an e-signature or reject it.
The illustration shows the order details that go into a typical purchase order. It includes:
An invoice is a payment request sent by a vendor after supplying the goods or fulfilling the services requested in a purchase order.
To be precise, that’s the definition of a sales invoice, but it is the most popular type of invoice used. As you’ll see later, there are other types of invoices and many types of sales invoices.
Let’s see a typical invoice process for a vendor. On receiving a PO, the vendor’s client manager uploads it to the centralized system and initiates order fulfillment. Depending on the company, this may involve manufacturing, engineering, operations, warehousing, or some other departments.
The vendor delivers the requested goods and services to the buyer. In some industries, the buyer examines quantities and quality and issues goods-received notes or acceptance reports.
Next, the receivables team in the vendor’s accounting department prepares the invoice. The amounts there are determined based on multiple factors like negotiated terms in the PO, contract terms, recurring agreements, market fluctuations, inflation, depreciation, number of rejected goods, discounts, and so on.
This invoice is then sent to the buyer’s accounts payable team to request payment. The latter examines the invoice, verifies the delivery of goods, and matches the details in the invoice with the PO and other documents.
If everything checks out, it initiates the payment process to pay the vendor.
A typical invoice includes the following information:
Purchase orders may seem like pointless formalities. Why don’t businesses just email or call their vendor contacts and be done with it? In fact, the details of purchases are fleshed out by communicating and negotiating directly. But once they have agreed on the details, they get them in writing, on an official document like a PO, to set clear expectations for both parties.
Some other important benefits of using POs are:
Vendors, as well as buyers, benefit from using invoices as formal requests for payments:
The PO described so far is just one type. Some important types of POs include:
As you can see, POs in the real world are more complex than the simple PO in the illustration above.
Just like POs, invoices in the real world can be complex. Some types of invoices include:
You’ve seen some important differences in contents and benefits. Let’s see some other key differences between them.
The buyer issues a PO to the vendor. More specifically, the buyer’s purchasing or procurement department issues it.
On the vendor’s side, the client manager who handles that buyer’s account receives it.
The vendor sends an invoice to the buyer. The department that prepares an invoice depends on the particular industry and company. It could be any one of sales, logistics, fulfillment, operations, warehouse, engineering, or production.
The vendor’s accounts receivable department then adds financial terms to the invoice and sends it to the buyer’s accounts payable department.
A PO is a standalone agreement that’s issued when the buyer needs some goods or services. In contrast, an invoice is always associated with a purchase order and can’t be issued independently.
You have seen the many differences between a PO and an invoice, but they are also similar in some aspects:
Next, we’ll explore some interesting aspects of the manual and automated processing of these documents.
Accountants, as well as employees from purchasing or sales, have been manually processing these documents for decades. They still use computers here and there but not for most tasks. Instead, they do many tiresome tasks manually. This is especially prevalent in small businesses. For example:
You have already seen some of the real-world complexities that accountants have to deal with — multiple types of purchase orders and invoices, a variety of document layouts and data formats, and so on. Combine them with transferring and processing data manually, and you face some severe drawbacks:
Most accounting departments currently use a mix of manual and semi-automated approaches. For example, to solve the problem of different document layouts, some systems have features like document templates. Accountants can create purchase order templates and invoice templates for each unique document layout. The software then extracts data from all matching documents without any manual labor.
However, this approach also has drawbacks:
To avoid all these drawbacks, Width.ai has evolved fully automated processing systems for purchase orders and invoices. Unlike traditional and semi-automated approaches, our deep learning pipeline allows you to process these documents with no human in the loop required.
For example, when you see a PO or invoice with some items and amounts in a roughly tabular layout, you intuitively know you’re looking at a list of goods or services. You don’t need to see every variant of an invoice or memorize their coordinates to infer this. Our AI-based data capture systems work exactly like that — they have learned to understand financial documents semantically and can identify the data in any document.
Just a few of the many benefits of full automation include:
In this article, you got a comprehensive introduction to the real-world complexities of financial documents like purchase orders and invoices. Though we didn’t mention them, other documents like goods-received notes and cash memos are also extensively used by accounting departments.
Our AI-based, fully automated document processing systems understand all these and much more just like experienced accountants do. Contact us for a demo!
