How the type of purchase order you use impacts your inventory

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Smart inventory management hinges on the quality of your purchasing systems – the suppliers you use, your ordering schedule, the level of integration of your inventory management software with critical supply chain processes, and last but not least, the type of purchase orders utilized.

Effective purchasing entails buying the right quantity and quality of goods at the most advantageous price at the right time and from the best supplier. Getting these essential components right is the goal of every purchasing department.

A well organized purchasing system helps to achieve and maintain good supply relationships, improve cash flow, improve inventory management, and increase business performance in a way that positively impacts the bottom line.

Purchasing inventory

The primary task of any purchasing manager or buyer within a company is to source and compare different suppliers and establish which ones offer the best pricing and range of products or raw materials to meet purchasing needs.

Once a supplier is selected and an offer has been requested and received, the role of the purchasing manager is to determine which inventory items need to be ordered in, when they will be needed, at what price, agree to the shipping terms, and so on.

All of these decisions must be informed by real-time data on current inventory levels or the business risks filing purchase orders that will send their inventory out of alignment with the needs on the ground. This would result in ramped up operating costs, decreased efficiency and a down turn in profitability.

What is a Purchase Order?

A purchase order is defined as a commercial document from a buyer to a seller stipulating the specifics regarding the price, quantity, type of goods and shipping terms of the goods requested. It is used primarily as a formal request for products and services from a third party supplier and is regarded as a contract in and of itself, regardless of the terms or lack thereof stated upon it. This means that when a purchase order is submitted to a supplier it legally binds the buyer to uphold their terms of the agreement and pay for what has been ordered.

By utilizing a purchase order both buyer and seller are provided with a legal framework in which the terms of each transaction are made explicitly clear. It can therefore be used to arrive at a solution should things go wrong on one side or the other.

A purchasing manager essentially has 4 options when determining which type of purchase order to use:

  • A Standard Purchase Order
  • A Planned Purchase Order
  • A Contract Purchase Order
  • A Blanket Purchase Order

It is important to understand the definitions and merits of each type to best be able to select the right type of purchase order to use in various supply scenarios. Let’s take a look at each type of purchase order in turn:

The Standard Purchase Order

A Standard Purchase Order (PO) is utilized when the item/s, quantity, delivery and payment terms are known or knowable in advance of order placement. Generally, standard POs are used for one-time orders, to capitalize on special or clearance offers from suppliers or to fulfill unexpected or irregular demand – particularly in retail.

The Planned Purchase Order

Planned Purchase Orders (PPO) are used when all the details of the order known except the delivery dates or schedule. So, a PPO will clearly state the item, quantity and price but as opposed to a determined delivery date the delivery date will be reflected as a ‘Need by’ date. This ‘Need by’ date is treated as an estimated delivery date rather than a contractually binding delivery date.

Often when dealing with manufacturers or larger distributors, delivery dates need to be approximate rather than exact to account for variables in production or reliance on international shipping schedules, which are constantly in flux.

Once the delivery schedule dates are known and confirmed then a release is made against the PPO and the order is processed and completed.

The Contract Purchase Order

A Contract Purchase Order is entered into with a supplier to establish the specific terms and conditions of a supply arrangement without detailing the specifics of the item/s, quantity, delivery terms etc.

Generally, a CPA (Contract Purchase Agreement) is used to commit both parties to an agreed upon price for a specific item, brand or grouping of items or services. While this has the advantage of ensuring a fixed price is paid on orders for a set period of time, it also carries the risk of having to pay more than is necessary should the market fluctuate.

The Blanket Purchase Order

In instances when a buyer is looking to take advantage of pre-determined pricing or quantity discounts, by committing to multiple purchases of goods over a set period of time, then a Blanket Purchase Order is used. Blanket Purchase Orders are ideal for situations where there is a repetitive need for goods but the specific quantities available per shipment, as well the delivery schedule, are not known.

Blanket orders essentially afford a buyer two major advantages: The buyer can lock in a fixed price for an extended period of time, and the second being that they do not have to hold on to a large amount of inventory because the deliveries are executed according to an ‘on-request’ basis.

An integrated inventory management software system like Unleashed is essential for businesses looking to enter into a Blanket Purchase Order arrangement with a supplier. This is because forecasting the quantity of goods to be ordered over a protracted time necessitates access to real-time, accurate data on inventory levels as well as previous sales and order history.

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Melanie - Unleashed Software

Article by Melanie Chan in collaboration with our team of Unleashed Software inventory and business specialists. Melanie has been writing about inventory management for the past three years. When not writing about inventory management, you can find her eating her way through Auckland.

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