What Is Three Way Matching In Accounts Payable?

What Is Three-Way Matching in Accounts Payable? A Comprehensive Guide

Three-way matching is a crucial internal control process in accounts payable (AP) departments that helps prevent fraudulent or inaccurate payments. It involves comparing three key documents – the purchase order, the goods receipt note (also known as a receiving report), and the supplier invoice – to ensure the information across all three documents aligns perfectly. This process significantly reduces the risk of overpayment, payment for unordered goods, and incorrect invoice processing.

Why is Three-Way Matching Important?

Implementing three-way matching offers numerous benefits for businesses of all sizes. Let's explore some of the most significant advantages:

Fraud Prevention: By verifying that the goods or services invoiced were actually ordered and received, three-way matching acts as a powerful deterrent against fraudulent invoices and unauthorized purchases.
Accuracy Improvement: Discrepancies between the documents can highlight errors in ordering, receiving, or invoicing, allowing the AP department to correct them before payment is made. This leads to more accurate financial records and reporting.
Cost Reduction: Preventing overpayments and errors directly translates to cost savings. Identifying and resolving discrepancies early on avoids costly disputes with suppliers and potential financial losses.
Stronger Supplier Relationships: While seemingly stringent, three-way matching actually fosters stronger supplier relationships by ensuring fair and accurate payments. Consistent and transparent payment processes build trust and mutual respect.
Improved Compliance: Three-way matching helps businesses comply with internal controls and regulatory requirements, reducing the risk of penalties and audits.
Enhanced Efficiency: Although it requires careful attention to detail, three-way matching streamlines the AP process in the long run. It minimizes the need for post-payment audits and reduces the time spent resolving payment disputes.
Better Cash Flow Management: By ensuring accurate payments and avoiding unnecessary expenses, three-way matching contributes to better cash flow management and financial stability.

The Three Documents in Three-Way Matching Explained

To fully understand three-way matching, it’s essential to understand the role and content of each of the three key documents involved:

1. Purchase Order (PO)

The purchase order is a legally binding document issued by the buyer (the company) to the supplier, authorizing a purchase. It contains critical information, including:

PO Number: A unique identifier for tracking the order.
Date of Issue: The date the purchase order was created.
Supplier Details: The name, address, and contact information of the supplier.
Delivery Address: The location where the goods or services should be delivered.
Item Description: A detailed description of the goods or services being ordered.
Quantity: The number of units being ordered.
Unit Price: The price per unit of the goods or services.
Total Amount: The total cost of the order (quantity multiplied by unit price).
Payment Terms: The agreed-upon payment terms, such as net 30 or net 60.
Shipping Instructions: Specific instructions for shipping the goods.
Authorized Signatory: The name and signature of the person authorized to approve the purchase.

The purchase order serves as the foundation for the entire procurement process. It clearly defines the agreement between the buyer and the supplier and provides a reference point for verifying the accuracy of subsequent documents.

2. Goods Receipt Note (GRN) / Receiving Report

The goods receipt note, also known as a receiving report, is a document created by the receiving department when goods are delivered. It confirms that the ordered goods have been received and inspected. The GRN typically includes the following information:

GRN Number: A unique identifier for tracking the receipt of goods.
Date of Receipt: The date the goods were received.
Supplier Name: The name of the supplier who delivered the goods.
Purchase Order Number: The corresponding purchase order number.
Item Description: A description of the goods received.
Quantity Received: The number of units received.
Condition of Goods: A record of the condition of the goods upon arrival (e.g., damaged, intact).
Receiver's Signature: The signature of the person who received and inspected the goods.
Any Discrepancies: Notes on any discrepancies between the goods received and the purchase order (e.g., short shipment, damaged goods).

The goods receipt note is crucial for verifying that the goods ordered were actually received and in acceptable condition. It provides evidence that the supplier has fulfilled their obligation to deliver the ordered items.

3. Supplier Invoice

The supplier invoice is a document issued by the supplier to the buyer, requesting payment for the goods or services provided. It contains the following essential information:

Invoice Number: A unique identifier for the invoice.
Invoice Date: The date the invoice was issued.
Supplier Details: The name, address, and contact information of the supplier.
Buyer Details: The name and address of the buyer.
Purchase Order Number: The corresponding purchase order number.
Item Description: A description of the goods or services invoiced.
Quantity: The quantity of goods or services invoiced.
Unit Price: The price per unit of the goods or services.
Total Amount Due: The total amount payable (quantity multiplied by unit price, plus any applicable taxes or shipping charges).
Payment Terms: The agreed-upon payment terms.
Bank Details: The supplier's bank account details for payment.

The supplier invoice represents the supplier's claim for payment and provides the details necessary for the buyer to process the payment accurately.

The Three-Way Matching Process: Step-by-Step

The three-way matching process involves a systematic comparison of the three documents. Here's a step-by-step guide:

Receive the Supplier Invoice: The AP department receives the invoice from the supplier.
Retrieve the Purchase Order: The AP department retrieves the corresponding purchase order based on the purchase order number listed on the invoice.
Retrieve the Goods Receipt Note: The AP department retrieves the goods receipt note (or receiving report) associated with the purchase order.
Compare the Documents: The AP department compares the information across all three documents, paying close attention to the following details:

Supplier Name: Ensure the supplier name is consistent across all three documents.
Purchase Order Number: Verify that the purchase order number on the invoice matches the purchase order and goods receipt note.
Item Description: Confirm that the description of the goods or services is identical across all three documents.
Quantity: Ensure that the quantity ordered on the purchase order, the quantity received on the goods receipt note, and the quantity invoiced on the supplier invoice are all the same.
Unit Price: Verify that the unit price on the purchase order and the supplier invoice are the same.
Total Amount: Calculate the total amount due based on the quantity and unit price and compare it to the total amount on the supplier invoice.

Identify Discrepancies: If any discrepancies are found between the documents, the AP department must investigate and resolve them before payment is made.
Resolve Discrepancies: Common discrepancies and their resolutions include:

Quantity Discrepancies: If the quantity received differs from the quantity ordered or invoiced, the AP department should contact the receiving department and the supplier to determine the cause of the discrepancy and reconcile the quantity.
Price Discrepancies: If the price on the invoice differs from the price on the purchase order, the AP department should contact the supplier to clarify the pricing and obtain a corrected invoice if necessary.
Item Description Discrepancies: If the description of the goods or services differs across the documents, the AP department should contact the requesting department and the supplier to clarify the description and ensure that the correct goods or services were ordered and received.

Approve Payment: Once all discrepancies have been resolved and the information across all three documents matches, the AP department can approve the invoice for payment.

Common Discrepancies Encountered During Three-Way Matching

Several common discrepancies can arise during the three-way matching process. Being aware of these potential issues allows AP departments to proactively address them:

Quantity Mismatches: These occur when the quantity of goods received differs from the quantity ordered or invoiced. This could be due to short shipments, over shipments, or errors in the receiving process.
Price Discrepancies: These arise when the price on the invoice differs from the price agreed upon in the purchase order. This could be due to pricing errors, changes in pricing that were not communicated, or unauthorized price increases.
Item Description Errors: These occur when the description of the goods or services on the invoice does not match the description on the purchase order or goods receipt note. This could be due to errors in data entry or miscommunication between the buyer and the supplier.
Duplicate Invoices: Suppliers may inadvertently send the same invoice more than once. Three-way matching helps identify and prevent duplicate payments.
Incorrect Purchase Order Number: Sometimes, invoices may contain an incorrect or missing purchase order number, making it difficult to match the invoice to the corresponding purchase order and goods receipt note.
Tax and Shipping Charge Discrepancies: Errors in calculating taxes or shipping charges can lead to discrepancies between the invoice and the purchase order.

Automating Three-Way Matching

While three-way matching can be performed manually, automation significantly improves efficiency and accuracy. Accounts payable automation software automates the process, reducing manual effort and minimizing the risk of errors.

Benefits of Automating Three-Way Matching:

Increased Efficiency: Automation eliminates the need for manual data entry and comparison, freeing up AP staff to focus on more strategic tasks.
Reduced Errors: Automated systems are less prone to human error, resulting in more accurate invoice processing and fewer discrepancies.
Faster Processing Times: Automation speeds up the invoice processing cycle, allowing for faster payments and improved supplier relationships.
Improved Visibility: AP automation software provides real-time visibility into the status of invoices, allowing for better tracking and management.
Enhanced Compliance: Automated systems can be configured to enforce compliance with internal controls and regulatory requirements.
Cost Savings: By reducing manual effort, minimizing errors, and speeding up processing times, automation can lead to significant cost savings for businesses.

Features of AP Automation Software for Three-Way Matching:

Optical Character Recognition (OCR): OCR technology automatically extracts data from invoices, eliminating the need for manual data entry.
Automated Matching: The software automatically matches invoices to purchase orders and goods receipt notes based on predefined criteria.
Exception Handling: The system automatically flags invoices with discrepancies and routes them to the appropriate personnel for review and resolution.
Workflow Automation: The software automates the invoice approval process, routing invoices to the appropriate approvers based on predefined rules.
Reporting and Analytics: AP automation software provides comprehensive reporting and analytics capabilities, allowing businesses to track key performance indicators (KPIs) and identify areas for improvement.
Integration with ERP Systems: Seamless integration with enterprise resource planning (ERP) systems ensures data consistency and accuracy across the organization.

Best Practices for Implementing Three-Way Matching

To effectively implement three-way matching and maximize its benefits, consider these best practices:

Establish Clear Policies and Procedures: Develop clear policies and procedures for three-way matching and ensure that all AP staff are properly trained on these procedures.
Use Standardized Forms: Use standardized purchase order, goods receipt note, and invoice templates to ensure consistency and accuracy.
Implement a Robust Procurement Process: Implement a well-defined procurement process that includes proper authorization for purchases, competitive bidding, and supplier evaluation.
Centralize Receiving: Centralize the receiving process to ensure that all goods are properly inspected and documented upon arrival.
Use Technology to Automate the Process: Invest in AP automation software to automate the three-way matching process and reduce manual effort.
Regularly Review and Update Procedures: Regularly review and update the three-way matching procedures to ensure that they are effective and aligned with the company's needs.
Train Employees Regularly: Provide ongoing training to AP staff on three-way matching procedures and best practices.
Monitor Key Performance Indicators (KPIs): Track KPIs such as invoice processing time, discrepancy rates, and cost savings to measure the effectiveness of the three-way matching process.
Foster Communication and Collaboration: Encourage open communication and collaboration between the AP department, the purchasing department, and the receiving department.
Conduct Regular Audits: Conduct regular internal audits to ensure that the three-way matching procedures are being followed correctly.

Two-Way and Four-Way Matching: Alternatives to Three-Way Matching

While three-way matching is the most common approach, other matching methods exist, each offering different levels of control and complexity.

Two-Way Matching:

Two-way matching involves comparing only two documents: the purchase order and the supplier invoice. This method is simpler and faster than three-way matching but offers less protection against errors and fraud. It is typically used for low-value purchases or when the risk of discrepancies is low. For instance, recurring service subscriptions often use two-way matching.

Four-Way Matching:

Four-way matching adds another layer of verification by including the inspection report in the matching process. The inspection report documents the quality and condition of the goods received. This method is used for high-value purchases or when quality control is critical. It provides the most comprehensive level of control but is also the most time-consuming.

The choice of matching method depends on the specific needs and risk tolerance of the organization.

The Future of Three-Way Matching

The future of three-way matching is closely linked to advancements in technology, particularly artificial intelligence (AI) and machine learning (ML). These technologies are transforming the AP function and making three-way matching even more efficient and effective.

AI and ML in Three-Way Matching:

Intelligent Data Capture: AI-powered OCR can accurately extract data from invoices, purchase orders, and goods receipt notes, even from unstructured documents.
Predictive Analytics: ML algorithms can identify patterns and anomalies in invoice data, helping to detect potential fraud and errors before they occur.
Automated Discrepancy Resolution: AI can automate the process of resolving discrepancies by analyzing historical data and suggesting potential solutions.
Continuous Improvement: ML algorithms can continuously learn and improve the accuracy and efficiency of the three-way matching process over time.

As AI and ML technologies continue to evolve, they will play an increasingly important role in automating and optimizing the three-way matching process, further reducing manual effort, minimizing errors, and improving the overall efficiency of the AP function.

Conclusion

Three-way matching is a fundamental control in accounts payable, ensuring accurate and legitimate payments. By comparing the purchase order, goods receipt note, and supplier invoice, businesses can prevent fraud, minimize errors, and improve their financial health. While manual three-way matching can be time-consuming, automation streamlines the process, increasing efficiency and reducing risks. Implementing best practices, exploring alternative matching methods like two-way or four-way matching, and embracing advancements in AI and ML are crucial for optimizing accounts payable processes and achieving long-term financial success.