What is a Purchase Order and How Does It Work?

“What the heck is a PO?”

If you’ve ever asked yourself that while setting up your business or starting out in procurement, you’re not alone. It’s easy to spiral down a rabbit hole of YouTube videos, Google searches, and growing confusion, all over a seemingly simple request from a supplier: “Can you send us a PO?”

For someone just getting started, navigating business documents like quotes, purchase orders, invoices, and payment terms can be overwhelming. It might trigger a cascade of questions. What exactly is a PO? Why do suppliers suddenly need it? Can you pay one with a credit card? And why does it feel more complicated than it probably is?

If you’ve been in this boat, spending hours trying to connect the dots while wondering if you’re the only one not getting it, this guide is for you. We’ll break down what a purchase order really is, what it’s used for, and how it fits into your supplier relationships, without the jargon, condescension, or corporate fluff. Just the real talk you wish someone gave you on day one.

What is a purchase order?

A Purchase Order (PO) is a formal document issued by a buyer to a seller, indicating an intent to purchase specific goods or services. It serves as a contractual agreement between a buyer and a seller, detailing the specifics of a transaction, such as product descriptions, quantities, prices, terms, and delivery instructions.

Key components of a purchase order:

How a Purchase Order Works?

The purchase order process covers the entire workflow involved in generating, approving, issuing, fulfilling, and settling purchase orders within an organization. Purchase order workflow ensures that procurement activities are conducted smoothly, transparently, and in compliance with established protocols. Here is the cycle of a purchase order,

Purchase Requisition

Purchase request is the first step in the purchase order workflow. It is an internal request to buy goods or services. Purchase request is created by an employee or department when they identify a need, and includes details like item description, quantity, estimated cost, and justification. The request goes through an approval workflow (manager, finance, procurement). Once approved, it triggers the creation of a Purchase Order (PO).

Creation of the Purchase Order

For the approved requests, a formal purchase order is created in the procurement or ERP system, it typically includes:

• Description of the goods or services: What is being purchased, including specifications, quantities, and item codes.
• Pricing: Agreed-upon prices for each item or service.
• Delivery terms: When and where the goods should be delivered.
• Payment terms: How and when payment will be made.
• Supplier details: Information about the supplier, such as name, address, and contact information.

Approval and Issuance

Once the purchase order is created, it often goes through an approval process within the buyer’s organization. Purchase order approval ensures that the purchase is necessary, aligns with budgetary constraints, and meets organizational policies. Once approved, the purchase order is issued to the supplier.

The issuance of a PO to a supplier is a critical step, as it formalizes the buyer's intent to purchase and provides the supplier with a clear record of the order.

Purchase Order Acknowledgement

After receiving the purchase order, the supplier reviews the details to ensure they can fulfill the order as requested. If the supplier agrees to the terms, they will formally accept the purchase order. This acceptance is what makes the PO a legally binding contract between the buyer and the supplier.

If there are any discrepancies or issues with the PO, the supplier may request modifications. Once both parties agree, the order is confirmed, and the supplier begins processing it.

Fulfillment and Delivery

The supplier then proceeds to fulfill the order by producing, packing, and shipping the goods or providing the requested services. The PO number is often used as a reference throughout this process to track the order, coordinate logistics, and manage communications between the buyer and the supplier.

Receipt and Inspection

Upon receiving the goods or services, the buyer typically conducts an inspection to ensure that everything meets the specifications outlined in the purchase order. This step is crucial for quality control and inventory management. If there are any discrepancies—such as incorrect quantities, damaged goods, or quality issues—the buyer may raise a dispute or request a return or replacement.

Invoicing and Payment

Once the buyer has received and accepted the goods or services, the supplier issues an invoice referencing the PO number. The accounts payable team processes the invoice for payment by matching the invoice against the PO, and goods received notes.

Types of Purchase Orders

There are four main types of Purchase Orders (POs) used in procurement, each suited for different purchasing needs:

• Standard Purchase Order
• Blanket Purchase Order
• Contract Purchase Oders
• Planned Purchase Order

Here is a quick comparison table:

Standard Purchase Order

A Standard Purchase Order is used when you know exactly what you want and it’s for a one-time purchase. Standard purchase orders are very specific and contain all the necessary details to fulfill the order, including the exact items, quantity, price, delivery schedule, and payment terms. There are no surprises for either the supplier or the buyer.

Example: Buying 10 laptops from a vendor for a specific project.

Blanket Purchase Order

A Blanket PO is used when you plan to buy goods or services from the same supplier on a recurring basis over a defined period. It serves as a mechanism to simplify ordering from pre-contracted or preferred suppliers for ongoing needs.

Once the blanket purchase order is in place, teams don’t need to go through a full sourcing or approval cycle each time. They can issue a release order or call-off against the blanket PO and have the items fulfilled by the supplier. This approach helps mitigate price fluctuations and enables volume discounts for frequently purchased goods and services.

Example: Contracting with a software vendor for annual maintenance and support services.

Contract Purchase Order

A Contract PO is how you operationalize a contract inside your procurement system. It links the legal agreement to day-to-day purchasing workflows. Contract POs allow you to track spend, enforce terms, and manage supplier performance without needing to revisit or renegotiate the contract every time an order is placed.

They are especially useful when working with strategic suppliers under active contracts for ongoing purchases. When a standard PO is raised against the contract, it references the Contract PO so that all spend is tracked at the contract level.

To summarize, if you want to decentralize purchasing while still using a central contract, you should use a Contract PO.

Example: 

Your company signs a 12-month contract with a hardware supplier for laptops, monitors, and accessories.

• The contract defines pricing tiers, delivery timelines, and warranty terms

• You don’t know exactly when or how many units each team will need across the year

• You create a Contract PO in your procurement system for $300,000, tied to that contract

Now, whenever a regional office needs new laptops:

• They raise a Standard PO (e.g., for 25 laptops)

• That PO references the Contract PO, pulling in agreed pricing and terms

• The system tracks spend against the $300,000 contract cap

• No need to renegotiate terms or reattach the contract each time

By the end of the year, you can report total spend, usage by department, and supplier performance — all tied to the original Contract PO.

Planned Purchase Order

A planned PO is used when you know the following information in advance,

• What you will buy
• Who you’ll buy it from
• How much you’ll likely need
• And roughly when you’ll need it

But you’re not ready to commit to exact delivery dates or quantities yet. Instead, you’ll issue release orders (also called “scheduled releases”) over time to trigger delivery.

It is ideal for forecasted demand where precise timing is uncertain. Planned POs are frequency used for project-based and seasonal purchases.

Example:

Let’s say your facilities team forecasts the need for 5,000 air filters over the next 12 months. You issue a Planned PO to a supplier with:

• Item: Filter SKU #AF-100
• Estimated Qty: 5,000
• Unit Price: $10
• Expected delivery: Spread over 4 quarters

Each quarter, you issue a release order (e.g., 1,250 filters for Q1) referencing the Planned PO. The supplier ships only after receiving each release.

What is the purpose of the PO?

A PO turns informal requests into controlled, trackable, and enforceable transactions, making purchasing transparent, compliant, and efficient.

Internal Spend Tracking and Control

POs are primarily for tracking approved expenses and help in assigning purchases to specific budgets. In larger companies, a PO provides legal proof for a vendor to proceed with a project, service, or order for goods. They are a promise from the buyer that someone in authority has agreed to the purchase. This process helps prevent lower-level employees from making unauthorized large purchases, as the PO request often goes through an internal approval workflow. For companies with multiple people, POs are a critical part of managing purchasing.

Ensuring Accuracy and Preventing Mistakes

A PO pins down exactly what you're asking to buy. It includes detailed requirements such as shipping instructions, how boxes should be labeled, packaging slip requirements, and delivery location. It can also specify buyer demands regarding issues like incorrect shipping addresses or wrong labels, and conditions for back orders or cancellation dates if goods are not delivered by a certain date. It's the main document so both sides know what you're ordering.

Spend Reconciliation

The invoice sent by the seller will refer to your purchase order number. This allows your accounting department to double-check that what was ordered was what was shipped and billed. It helps to reconcile packing slips with invoices and POs before payment, ensuring that what was legitimately ordered was actually received. If you ordered four items and only received three, a PO helps you know the discrepancy. This process of matching the PO, packing slip, and invoice is crucial for checks for cash flow approvals.

Tracking Shipments and Inventory

PO numbers are used internally to track deliveries. For businesses managing multiple incoming hardware shipments for different clients, PO numbers help avoid confusion. It's an "identifier for your order" and a tool to manage inbound inventory.

Myths About the Purchase Order Process

• Purchase orders are only necessary for large transactions. In reality, managing your purchase orders are beneficial for transactions of all sizes, providing clarity, accountability, and legal protection for both buyers and sellers.
• Purchase orders are time-consuming and bureaucratic. While the purchase order management process involves multiple steps, automation and digital purchase order systems can streamline workflows, reducing manual effort and cycle times.
• Purchase orders are only used for tangible goods. But, it can also be used for the procurement of services, software licenses, and other intangible assets, providing a formal record of the transaction.

Challenges with Manual Purchase Order Management

• Too much manual work — relying on emails, spreadsheets, or paper forms — leads to delays, errors, and lack of visibility. Manual PO processing makes it difficult to track PO status, approvals, or document versions.
• Lack of standardization is another challenge. When different departments use their own PO formats or workflows, it becomes harder to manage reporting, audits, and compliance.
• Manual POs often get stuck in approval loops, slowing down the purchasing process. Without clear escalation paths or automated routing, employees may avoid the formal purchasing process altogether.
• Without a proper communication channel with suppliers, POs can go unnoticed or be missed. Errors or vague instructions in the PO can result in missed delivery dates or incorrect shipments.
• Without digital systems, it becomes difficult to match POs with invoices and goods receipts during invoice approvals. There’s also limited visibility into open orders, pending approvals, or supplier performance.
• Finally, missing documentation or inconsistent approval trails make it nearly impossible to conduct internal or regulatory audits.

Best practices in the PO process

Effective management of the purchase order process is essential for ensuring smooth procurement operations, cost control, and supplier relationship management. Adopting best practices helps prevent delays, errors, and unnecessary spending. Below are key best practices in the PO process:

Establish Clear Procurement Policies

Organizations should develop standardized guidelines detailing when POs are required, who is authorized to create them, and what approvals are needed. This reduces confusion, enforces accountability, and ensures compliance with procurement policies.

Use Automated Procurement Systems

Leveraging procurement platforms or ERP systems automates the creation, approval, and tracking of POs. Automation minimizes human errors, speeds up processing times, and ensures all orders are documented systematically.

Create Detailed POs with Clear Specifications

Every purchase order should contain precise information, including item descriptions, quantities, prices, delivery schedules, payment terms, and any applicable taxes or freight charges. Clear specifications help align supplier expectations and reduce the chance of disputes or delays.

Implement a Purchase Order Approval Workflow

A structured approval workflow ensures POs undergo necessary reviews before being sent to suppliers. Multi-tiered approvals help monitor budgets, prevent unauthorized purchases, and align procurement decisions with financial policies.

Monitor Supplier Performance

Tracking supplier adherence to delivery timelines and quality expectations is critical. Organizations should maintain records of PO fulfillment to assess supplier reliability, address performance issues, and improve future procurement strategies.

Integrate with Accounts Payable for Three-Way Matching

A best practice is to link purchase orders with invoices and receiving reports in a three-way matching process. This ensures that payments are only released when the goods or services match the original PO terms, preventing overpayments and fraud.

Maintain Open Communication with Suppliers

Timely communication helps resolve potential issues like order delays or quantity changes. Establishing clear channels for updates or modifications ensures both parties remain aligned throughout the fulfillment process.

Regularly Review and Audit POs

Periodic audits of the PO process help identify inefficiencies, bottlenecks, or compliance issues. Reviewing purchase trends and supplier relationships can also uncover opportunities for cost savings or consolidation of suppliers.

Enforce Purchase Order Thresholds

Setting thresholds for when POs are required ensures that large or strategic purchases are properly documented and controlled. Small purchases may use procurement cards or blanket POs to reduce administrative workload.

Summary

The purchase order process serves as a vital tool for organizations of all sizes, enabling them to efficiently manage their spending while maintaining transparency and control. By implementing a structured purchase order process, businesses can streamline their procurement activities, regardless of the scale or value of purchases involved. This process not only facilitates smoother transactions but also provides comprehensive visibility into spending patterns, allowing for better decision-making and cost management. Ultimately, embracing a robust purchase order process contributes to optimizing organizational spend and enhancing overall operational efficiency.

FAQ

What is an example of a purchase order?

An example of a purchase order is a document issued by a company requesting 100 units of product XYZ at $50 each, with delivery due by March 1. It includes details such as the supplier's information, payment terms, and shipping instructions.