When Does it Make Sense to Use a Purchase Order?

Imagine that you have just gone through a procurement process to find a vendor for a specific type of product or service. You identified the winning vendor and are ready to solidify the deal… but what’s the best way to formally document the agreement between you and the vendor?

While many companies go straight to a contract or, in the case of smaller purchases, simply ask for an invoice, there’s another option to consider – a Purchase Order.

Purchase Orders are legally binding agreements between buyers and sellers, and are a great option when you need more than an invoice but a lengthy, multi-page contract isn’t necessary. Let’s take a look at the structure and benefits of Purchase Orders.

Purchase Orders (PO’s)

Purchase Orders are documents issued from a Buyer (your organization) to a Seller (the vendor). They are an important tool for Buyers because they formalize requirements and pricing, and serve as legally binding documentation of the goods/services that were ordered. For example, if you order 10 reams of paper but the vendor only sends you 9, your PO is proof that you were supposed to receive 10.

PO’s are important for Sellers too because they show evidence that the order was formally placed by the Buyer, and assist in confirming whether or not the appropriate inventory is available to fulfill the goods or services identified in the PO.

Listed below are some typical components of a Purchase Order:

  • Buyer’s name and address
  • Seller’s name and address
  • Delivery information (who is the good/service being delivered to, and where)
  • A detailed description, quantity and unit price for each product or service being ordered
  • A Purchase Order number
  • Terms and conditions, most commonly:
    – Payment terms
    – Shipping and delivery terms
    – Acceptance terms
  • Approval/authorization by the Buyer and Seller

Purchase Orders are great for commodity-style purchases when you can easily identify the exact specifications and quantity needed, as well as associated costs (i.e. line-item pricing). Some examples of situations where a Purchase Order might be appropriate include:

  • Ordering office supplies
  • Purchasing printing services (i.e. design, materials and postage fees for a post card mailer)
  • Purchasing IT equipment

Formal Contracts

There are times, though, when a Purchase Order simply isn’t enough. A good example is when you need to procure services (possibly in addition to products) from a vendor. When you procure services, you are naturally exposed to a higher level of risk as well as a greater need to detail exactly what the vendor is being hired to provide. Without a clear description of the deliverables, project timeline and responsibilities of the parties, enforcing the contract and tracking contract performance becomes increasingly difficult.

Listed below are some common terms and conditions that you should expect to see in a formal, lengthier contract but you may not find in a standard Purchase Order:

  • Term and termination
  • Change management
  • Data protection and breach notification
  • Confidentiality
  • Indemnification
  • Force majeure
  • Service level agreements
  • Severability
  • Use of marks

Contracts come in all shapes and forms – Master Service Agreements (MSAs), Licensing Agreements, Contractor Agreements… and the list goes on. The important thing to remember is that these lengthier agreements spell out all of the terms and conditions the parties of the contract must abide by, rather than simply identifying line-item product descriptions, quantities and pricing. Some good examples of when a lengthier contract would be appropriate include:

  • Outsourcing a business function
  • Hiring a consultant
  • Purchasing a software license
  • Relationships where you are exchanging nonpublic information

In summary, Purchase Orders are a great tool to use when you need to formally document smaller procurements that have well-defined line items that can be identified in quantity and unit price. When you enter into a more complex relationship with a vendor, you’ll want to use a contract with more detailed terms and conditions to govern your relationship and contractual obligations.

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