All businesses in the world have a network of vendors and suppliers which supply them with critical raw materials, software and services. These vendors expect payment within a stipulated time as mutually agreed upon in the contract. The process of receiving these vendor invoices all the way to making payment to the respective vendors or suppliers is termed as Invoice Processing.
While this process is different for each organization, there is a general structure to this process which involves receiving the invoice, verification of items and corresponding charges, getting approvals from the accounts payable department, making the payment, and then recording it in your books.
In this article, we will be taking a look at what Invoice Processing is, what are the key steps involved, the challenges, and the benefits of automating it.
What is Invoice Processing?
Invoice Processing involves tracking, managing and paying vendor invoices and is a pivotal step in procurement of critical business essentials including, software, raw material or services. The larger process is termed as procure-to-pay (P2P) process, of which Invoice processing is a crucial step. In most mid-to-large level organizations, there is an entire department dedicated to ensuring that this fundamental process runs smoothly, called the accounts payable department.
Let’s say your marketing department needs new software. The procurement team goes into the market and sources one for them. The invoice for the software goes through your accounts payable department and after payment, the marketing team will be able to access the software. This is called Source-to-Pay.
Imagine there is a shipment of components that the manufacturing team needs for your product. The invoice due for these components will be sent to your accounts payable department and can be processed and paid within the time allotted. This process is called Procure-to-Pay.
Both these processes have their last mandatory step in common, which is Invoice Processing and Payment. Traditionally, this process was carried out by humans. Naturally, it was time-consuming, tedious and error-prone. With the latest advancements in AI, there is a host of software that can automate Invoice Processing making it efficient. This also reduces costs and increases profits for organisations.
Key Steps of the Invoice Processing Workflow
Although different for each organization, the Invoice Processing function can be broken down into a few key steps that are generally followed across most organisations.
- Receiving Invoices
- Capturing relevant data in the General Ledger and cross-referencing it with supporting documents, like a procurement request, a purchase order or a delivery note
- Routing it for approval from the finance department
- Once approved, the Invoice is paid and processed
- After processing, it is recorded in the General Ledger for audits
Accounts payable invoice processing is crucial for the smooth operation of any business, yet it often operates quietly in the background until an issue arises. Delays in invoice payments can lead to problems such as vendors withholding future shipments, imposing late fees, or even severing business relationships.
Step 1: Invoice received
A vendor or a supplier issues an invoice in exchange for goods or services, which comes due in an agreed upon period. To simplify managing invoice deadlines, try our Invoice Due Date Calculator, which helps you stay on top of payments and avoid late fees.
A purchase order is a written record of the goods or services you require, which is sent to the vendor. The vendors then supply you with the requested goods or services corresponding to the purchase order and in turn, issue an invoice.
There are a number of ways in which a business can receive an Invoice.
- E-invoice in attachments
- Paper Invoice through mail
- Faxed invoice
- Electronic document received via an AP software
Traditionally, AP teams used mailing or faxing hard copies but e-invoicing or paperless invoicing is a common practice today.
This invoice contains critical information, like, Invoice due date, amount, and code, information relating to the goods or services, such as the product code, quantity of items, etc. and the contact information for both entities.
Step 2: Invoice captured and cross-referenced
Upon receipt of the invoice, it is captured and coded in the general ledger. It has to be assigned the relevant G/L code and must be matched with other relevant documents, like the purchase order, delivery notes, etc.
The AP teams perform 3-way matching between Purchase Orders, Invoices and Delivery Notes to ensure that only the goods or services requested were delivered and charged for. It basically involves three crucial steps:
- Ensuring that the correct amount is charged: This step ensures all the fees, taxes, service costs, etc. are all genuinely owed and correctly calculated.
- Verification of Order: In this step, the AP teams verify that the items or services requested and the ones that are listed in the invoice and were in fact delivered before approval.
- Detecting Fraud: This is a background check on vendors, their registered offices, taxation documents, etc. This also involves ensuring that all items or services were charged once only from vendors issuing multiple invoices.
This is a succinct summary of all the steps that came previously and makes it easy for approval teams to execute decisions.
Step 3: Invoice routed for approval
Most organisations have a system of checks in place for Invoice payments. Key stakeholders within the organization have to approve the invoice before it can be processed and paid. This eases internal as well as external audits.
Traditionally, paper invoices would often get buried on desks and even e-invoices can get lost in email inboxes.
Step 4: Invoice processed and paid
When the invoice has been processed, that is, all relevant details extracted from the invoice, and cross-referenced with relevant purchase orders and delivery notes, it can be paid.
Traditionally, this consisted of checks in the mail, but now there are all forms of digital payments that are accessible and preferred by vendors and businesses alike. Most common forms include ACH, wire transfers, and EDI payments.
Step 5: Invoice closed and its payment is recorded
The invoice is now paid and that’s the end of the process, right? Wrong. The most crucial step is recording the payment in general ledgers for internal as well as external audits. This helps maintain a record of all payments made to various vendors, track expenditure, etc.
Challenges with Invoice Processing
As the vendor network for any business expands, the complexity of invoice processing increases. This complexity highlights the necessity for a robust system to handle it efficiently. Without such a system, several challenges may arise. We highlight a few challenges associated with traditional Invoice Processing below:
Lost Documents, High Variation in formats and payment methods:
More often than not, physical invoices, purchase orders and delivery notes would get buried under desks or get lost in email inboxes. This makes it challenging for approvers to approve payments and the process gets stalled. Another major issue is handling varied Invoice formats or managing various payment methods. All of this contributes to a chaotic and inefficient workflow.
Data Accuracy:
Invoices contain critical information such as tax IDs, prices, and delivery details. When invoices arrive in different formats, extracting accurate data becomes challenging. Common errors include incorrect client names, unclear itemizations, missing deadlines, wrong currencies, and miscalculations. Any inaccuracies or missing data necessitate returning the invoice to the vendor for corrections, restarting the entire process.
Unknown Invoice Status:
Tracking the status of an invoice can be difficult, especially with multiple stakeholders involved. Questions about its current location, approval status, and payment timing often arise when there is a lack of transparency in the process.
Routing Mistakes:
Invoices from various vendors are routed through a queue after an initial review. However, errors in routing can occur, causing invoices to end up on the wrong desk or remain unopened in an inbox. Such routing mistakes lead to delays, require repetitive handling, and can strain the accounts payable team, especially when closing monthly books.
Automated Invoice Processing System
In the previous section, we saw how traditional manual methods of invoice processing can be inefficient. A simple solution is adoption of an automated invoice processing system.In this age of Artificial Intelligence, there is dedicated software that streamlines the process of accounts payable and ensures a smooth end-to-end completion of the process encompassing all crucial steps. This category of software can automate import of invoices, cross reference them against corresponding purchase orders and delivery notes, route the invoices for approval, facilitate payments, as well as integrate with accounting systems to record such transactions, all in a matter of a few clicks.
A report by Levvel Research in 2021, highlights that 42% of organizations surveyed were yet to adopt a dedicated AP automation software. Out of these, 70% of organisations who used homegrown automation software reported high dissatisfaction and a desire to move to a dedicated automated Invoice Processing system.
According to the report, 47% organisations still use scanning and emailing or simply mailing physical copies of these invoices.
Using traditional methods, the cost of processing a single invoice can be as high as $12-15, whereas, automating this process can bring these costs down by up to 80%. There are clear benefits to adopting invoice processing automation software, both in terms of time as well as cost savings. Let’s look at some of these advantages.
Benefits of an Automated Invoice Processing System
Reduced Erroneous Payment Rate (EPR)
Erroneous Payment Rate is simply a metric that captures the number of outgoing payments that were faulty as a percentage of total payments made within a period.
Another key metric to focus on is the rate of duplicate payments. According to APQC, a data benchmarking firm, 0.8% of annual payments are duplicate. In contrast, organisations with lower performance report duplicate payment rates exceeding 2%.
To determine the percentage of duplicate invoice payments, divide the number of invoices paid more than once within a given timeframe by the total number of invoices paid during that period.
Payment errors can damage vendor relationships and impact credit terms. Vendor payment errors are a frequent issue.
Reduced cost per invoice
This metric tracks the amount associated with processing a single invoice. To accurately track it, you need to deduce the total costs associated with the AP department - manpower, operational expenses, supplier charges and divide this by the total number of invoices processed within that specified time frame.
Using traditional methods, the cost of processing a single invoice can be as high as $12-15, whereas, automating this process can bring these costs down by up to 80%.
Balanced days payable outstanding (DPO) and increased supplier discount capturing
This denotes the average number of days a business takes to pay its vendors. This is a tricky metric, because a business should ideally pay the vendors on or before the agreed upon date but at the same time, maintain optimum cash flow for the business. Some vendors also offer early payment discounts, which should be taken advantage of.
For example, the phrase “1% net 10” implies that the vendor is ready to offer a 1% discount when the payment is made 10 days earlier.
If this number comes out to be 15, this indicates that the business takes an average of 15 days to process its invoices.
Increased invoice straight through processing
Simply put, this metric measures the percentage of invoices that do not require manual intervention for processing but are processed straight through with the help of an automated software, barring approvals.
This is an important metric that gauges how efficient your AP processes are. Ideally, 70% of your invoices should be processed in a straight-through fashion, that is, 70% of all invoices should be received, cross referenced, recorded, processed and paid with only approvals coming in manually.
