3 Impacts of Purchase Orders on Financial Reporting

Nov 17, 2021 | Impact of procurement

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Nov 17, 20213 min read

POs play a crucial role in financial reporting and affect balance sheets, income statements, and cash flow statements. Proper recording and approval of POs ensure accuracy in financial reporting. Incorrect PO data can lead to incorrect financial statements and compliance issues.

Purchase orders can be a valuable tool to businesses when it comes to financial reporting. Financial reporting is a process that is used to determine how much money is owed, received, and invested in a business. A purchase order is a legally binding document between a seller and a buyer that outlines the details of a transaction. The purchase order includes the amount of goods or services to be purchased, the terms of payment, and the delivery date. In this article, we will look at how purchase orders can impact financial reporting. 

Understanding the Significance of Purchase Orders in Financial Reporting 

Purchase orders are an important part of financial reporting because they provide evidence of a contractual agreement between two parties. The purchase order acts as an agreement for goods or services to be provided in exchange for payment. The purchase order should include the quantity and quality of the goods or services being purchased, as well as the terms of payment. This information can then be used by the business to prepare financial statements and reports. 

Financial statements are important documents used to provide a snapshot of the financial performance of an organization. Financial statements include income statements, balance sheets, cash flow statements, and statement of changes in equity. These documents can be used to analyze the financial health of an organization over a period of time, which is why they are so important in financial reporting. 

Purchase orders provide important information that can be used in the financial statement preparation process. For example, the purchase order may include information about inventory purchases or sales, which can help to calculate gross profit. Purchase orders also provide evidence of payments received and expenses incurred, which can help to calculate operating expenses and net income. 

The Impact of Purchase Orders on the Quality of Financial Reporting 

Here are a few examples of how purchase orders can impact financial reporting: 

  • Balance Sheet: A purchase order represents a legal obligation to pay for goods or services in the future. When a company receives a purchase order, it recognizes a liability, which is recorded in the accounts payable account on the balance sheet. For example, if a company receives a PO for $10,000 for goods to be received in 30 days, the accounts payable account will increase by $10,000, which will increase the company's total liabilities. 
  • Income Statement: Purchase orders also impact the cost of goods sold (COGS) on the income statement. When the company receives the goods or services specified in the PO, the cost is recognized as COGS and is recorded on the income statement. For example, if the company received goods for $10,000, this amount would be recorded as COGS and would reduce the company's gross profit. 
  • Cash Flow Statement: Purchase orders can also impact the cash flow statement. When a company makes payments against a PO, the payments are recorded as cash outflows on the cash flow statement. For example, if the company makes a payment of $10,000 against the PO mentioned above, this payment will be recorded as a cash outflow on the cash flow statement. 

It's important to note that purchase orders must be properly recorded and approved to ensure accurate financial reporting. Incorrectly recorded or approved POs can lead to incorrect financial statements and potential compliance issues. Additionally, POs must be reconciled with vendor invoices to ensure accuracy in financial reporting. 

In conclusion, purchase orders (POs) are an essential part of financial reporting and have a significant impact on a company's financial statements. Properly recorded and approved POs serve as a legal commitment to purchase goods or services and can affect the balance sheet, income statement, and cash flow statement. On the balance sheet, POs increase the accounts payable account and represent a liability for the company. On the income statement, POs impact the cost of goods sold and reduce the company's gross profit. On the cash flow statement, payments made against POs are recorded as cash outflows. FactWise ensures that PO data across fields is always accurate and aggregated, thereby improving efficiency by up to 20%, increasing governance by up to 31%, and payment compliance by up to 93%. 

About the Author

Stawan is the founder and CEO of FactWise. Before founding FactWise, Stawan was the NA TMT-Procurement Leader at McKinsey. Passionate about procurement, Stawan has 15 years’ experience in enabling clients of all sizes to achieve business impact via procurement.


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