The true cost of a Purchase Order

In today's business environment, transactional efficiency in procurement processes is crucial in maintaining smooth operations and optimizing costs.

One of the most common aspects of procurement is processing purchase orders (POs). Whether running a small business or a large enterprise, understanding the cost per PO is essential for identifying inefficiencies and improving the transactional cost.

In this post, we'll analyze the cost per PO processing for a European company with 1,000 employees and €1 billion in revenue. We'll consider labor, system costs, overheads, and approvals and detail each step involved.

I used ChatGPT for these calculations, but the logic and reality checks were still human. After six rounds of review, we developed the proposed case, and it's likely a partial one. Please don't hesitate to expose gap coverage or give more realistic inputs.

Company Overview

For this analysis, the company:

- Operates in a service-based industry.

- 20 users are in the Procure-to-Pay (P2P) system, and 20 are in the Warehouse Management System (WMS).

- Processes approximately 2,500 purchase orders annually.

- Uses a P2P system and a WMS to streamline procurement and inventory management activities.

This analysis determines the cost per purchase order (PO) by considering labor, system costs, and occupancy overheads.

Step-by-Step Breakdown of PO Processing Costs

Step 1: Labor Costs for the P2P Cycle

Handling a purchase order involves multiple stages, each requiring specific labor inputs. Below is a breakdown of each step and the associated labor costs:

1.1 Requisition Creation and Approval:

- Time: 0.5 hours for requisition creation by procurement staff.

- Manager/Approver Time: 10% of requisition time = 0.05 hours.

- Rates:

- Requisition staff: €10/hour.

- Manager/Approver: €15/hour.

- Cost Calculation:

- Requisition staff cost: 10*0.5 = €5.00

- Manager/Approver cost: 15*0.05 = €0.75

Total cost for requisition creation and approval: €5.75.

1.2 PO Creation and Approval:

- Time: 10 minutes (0.167 hours) for procurement staff to create the PO.

- Manager/Approver Time: 10% of PO creation time = 0.017 hours.

- Cost Calculation:

- Procurement staff cost: 10*0.167 = €1.67

- Manager/Approver cost: 15*0.017 = €0.26

Total cost for PO creation and approval: €1.93.

1.3 Goods Receipt and Approval:

- Time: 0.25 hours for operational staff to handle the receipt.

- Manager/Approver Time: 10% of goods receipt time = 0.025 hours.

- Cost Calculation:

- Operational staff cost: 10*0.25 = €2.50

- Manager/Approver cost: 15*0.025 = €0.38

Total cost for goods receipt and approval: €2.88.

1.4 Three-Way Matching (Invoice, PO, Goods Receipt):

- Time: 10 minutes (0.167 hours) for finance staff to handle the matching.

- Rate: Finance staff: €10/hour.

- Cost Calculation:

- Finance staff cost: 10*0.167 = €1.67

Total cost for three-way matching: €1.67.

1.5 Payment Processing and Approval:

- Time: 5 minutes (0.083 hours) for finance staff to process payment.

- Manager/Approver Time: 10% of payment processing time = 0.5 minutes (0.008 hours).

- Rates:

- Finance staff: €10/hour.

- Manager/Approver: €15/hour.

- Cost Calculation:

- Finance staff cost: 10*0.083 = €0.83

- Manager/Approver cost: 15*0.008 = €0.12

Total cost for payment processing and approval: €0.95.

Step 2: System Costs (P2P and WMS)

P2P and WMS systems are in place, but only some of their costs can be attributed to PO processing. Here's how we allocate system costs based on actual usage for PO-related activities:

2.1 P2P System Costs:

- Annual system cost (20 users): €12,000 to €24,000

- Percentage allocated to PO processes: 60%.

- Allocated cost per PO:

- Minimum: €2.88

- Maximum: €5.76

2.2 WMS System Costs:

- Annual system cost (20 users): €24,000 to €48,000.

- Percentage allocated to PO processes: 50%.

- Allocated cost per PO:

- Minimum: €4.80

- Maximum: €9.60

Step 3: Pro-rated Overhead Costs

Occupancy overheads, such as office space, utilities, and infrastructure, must be allocated based on the percentage of staff engaged in PO-related tasks.

3.1 Procurement Department Overhead:

- Total annual overhead: €200,000.

- Percentage of procurement staff involved in P2P processing: 40%.

- Allocated cost per PO: €1.60

3.2 Warehouse Department Overhead:

- Percentage of warehouse staff involved in PO processing: 50%.

- Allocated cost per PO: €2.00

Summary of Costs per PO

1. Labor cost per PO: €13.18 (with approvers)

2. P2P system cost per PO: €2.88 to €5.76

3. WMS system cost per PO: €4.80 to €9.60

4. Overhead cost per PO (procurement): €1.60

5. Overhead cost per PO (warehouse): €2.00

Total Cost per PO:

- Minimum cost: €24.46

- Maximum cost: €32.14

Conclusion:

The cost of processing a single PO for this fictional company ranges from €24.46 to €32.14, depending on labor, system usage, and occupancy overheads. With this detailed understanding, PO processing costs can become a jewel in the procurement crown or the cement shoes.

What are the gaps or errors here? Let us know in the comments!

To keep receiving new insights and research, please subscribe here.

More information on this and other exciting topics can be found in "The Technology Procurement Handbook." It represents 23 years of experience, billions of dollars worth of successful sourcing projects, and 1000s hours spent on research, analysis, and content creation for the most demanding professional readers.

My Udemy course "Procurement Lab."

My Udemy course "Value-based Procurement."

My Udemy course "Foundations of Contracts and Outsourcing."

My Udemy course "Adaptive Sourcing: Agile Procurement in Practice."

Buy from Kogan Page
Buy from Amazon US
Buy from Amazon UK
Buy from Amazon CA
Buy from Amazon AE