What is EDI?


For procurement professionals, policies and procedures are an important part of the job. After all, it’s important to make sure that employees only buy supplies from approved vendors. And in addition, there are federal sourcing and tax regulations to follow. Put all of this together, and it’s easy to see how a purchasing department can get busy.

One of the terms that is often used in business, and that procurement professionals need to understand, is EDI or Electronic Data Interchange. The EDI process helps to transmit documents from one company to another without confusion or tedious manual processes.

But, what is EDI, exactly?

It’s an automatic data exchange between computers

One of the biggest challenges that businesses working together can face is the transfer of documents and the exchange of information. It is one thing to agree on contract terms, and another one to sign it, issue a purchase order, and pay an invoice. 

The Electronic Data Interchange was designed to help bridge these gaps in the computer age. In fact, the EDI document standards were first introduced in the 1960s!  Practically speaking, this makes EDI documents one of the oldest continuously-used automations.

Similarly to most acronyms in IT, the EDI meaning reflects its purpose – sending documents from one company to another automatically. Before the Internet, this kind of data transfer would happen over telephone wires, much like banking transactions and traditional telecommunications. And although the process was slower, it still worked very well.

Used mostly for business

Unlike email and other electronic communication modalities, not everyone needs to use the EDI setup. Instead, EDI documents are primarily used by businesses when they buy and sell, ship, import or export, and otherwise transmit information to another company.

Because the EDI document types are so diverse, the process is used by businesses in almost every industry. Companies simply choose the appropriate form, fill it out, and feed the information into an EDI solution for translation and transmission. We’ll talk about this process more in another section.

It’s machine-readable

By definition, EDI documents are machine-readable. In fact, if you look at one of these documents after transmission and before humans would normally see them, they’re hard to read. Documents transmitted on an EDI standard have a lot of extra markings and punctuation that can distract the eye. In that sense, they look like a computer printout from the technological dark ages.

Standardized documents

Not only are these documents transmitted in a machine-readable format, but they’re also in a standardized format. This eliminates the opportunity for a business to draft a confusing document and send it to another company that won’t understand.

Think about this standardization as similar to program-specific document formatting on your personal computer. Just for word processing, there’s MS Word, WordPerfect, Google Docs, Open Office, and more. While some of the file formats from these programs are universal, others are proprietary. In addition, some older document formats become obsolete and are no longer supported.

The need for uniformity in file formats is a major aspect of the EDI standard. As with a word-processed document, an EDI document needs to be in the same format. Common formatting requirements include both the file format itself and how the information is written. However, with uniformity comes the assurance that documents can be read by both companies’ computers.

How does EDI work?

Electronic Data Interchange works by translating or converting documents from one format into another, then transmitting them over the internet (or older data transfer protocol). Then, the document is transferred back into a format that the recipient can read. From there, the receiving company can read and process the documents according to their procedures.

Of course, sending and receiving documents by EDI requires some steps beyond just typing up an invoice (or another document). Here’s the EDI order that businesses must follow.

Create source document as you normally would

Your first step is to draft the document you need to send to another company. This can be anything for which there’s an EDI document format, such as a purchase order, invoice, customs declaration, or bill of lading. 

In most businesses, there is a “human readable” document template to use, which matches the EDI document type. An employee will fill this out manually, or if applicable, your procurement software can do so automatically.

Computerized document conversion

Next, your document will be converted into the chosen EDI standard. There are several standards, depending on the location of each business and its industry, if applicable. However, both parties must either agree on a common standard or use a translator service that converts the documents into the recipient’s standard.

Whether the two businesses use the same standard automatically or need a translator, the documents are fed into EDI software. Often, translation happens at the same time as EDI document conversion. Once documents are uploaded into the software, they are turned into a different document that complies with an EDI standard.

Behind-the-scenes transmission

The next step in the EDI order is data transmission. This process is usually Internet-based and will happen differently depending on your EDI setup. Specifically, if your company converts its own documents, then that software should send the documents to the destination. On the other hand, using an external EDI solution means the service will likely do the transmission instead. Either way, this process happens behind the scenes. 

Destination company receives and processes documents

Once EDI documents reach their destination, the recipient company will process them. Depending on their EDI setup, the documents may be converted before the company’s computers receive them, or this can happen in-house with EDI software. Once everything is in the destination company’s preferred format, the company will take appropriate action. Sometimes, this involves some manual processing, while in other situations, it’s done automatically.

Finally, the EDI order ends when the destination company sends new documents back to the other party. Usually, this is a type of reply documents, such as exchanging a purchase order for an invoice or shipping notification. In other words, the EDI protocols can facilitate the exchange of information throughout the course of a business relationship.

What are the benefits of EDI?

As with many other things in business automation, EDI has several advantages for businesses. These go far beyond the EDI meaning of data transmission.

Streamlines business operations

The more manual processes a business performs, the more resources it needs to operate. It used to be that businesses needed a vast number of administrative assistants, each of whom filled out each document by hand. Over time, we’ve gotten more automated, first with typewriters and copiers, then with faxes and computerization.

Now, one of the best ways to streamline operations in a procurement-heavy business is EDI. Often, procurement software can facilitate EDI protocol use, vastly reducing the amount of paperwork even as everything gets properly documented.

Reduces opportunities for miscommunication

Written documents can be full of ambiguity, whether they’re a letter or a purchase order. For example, with a nonstandard document, it can be easy to misunderstand how many reams of paper a company wants to buy. Then, the supplier must reach out to the purchaser and straighten out the ambiguity before processing the order.

With EDI, you don’t have that problem. Quantities and prices are listed clearly, in a format that the other party can read.

Saves money

There are two ways that companies can save money using EDI. The first one is staff labor because most of the paperwork is done automatically and standardly. And second, order complications such as returns also burn through cash. 

Regulatory and financial compliance

Especially if a transaction crosses international borders, using EDI can help you avoid regulatory problems. For one thing, EDI helps facilitate customs declarations and bills of lading. Governments have tight regulations for these documents, and noncompliance can lead to fines or other actions.

Second, because an EDI document helps track money and goods accurately, it can be helpful for financial controls. Specifically, there should be one or more documents for each transaction, each of which specifies the goods purchased and the parties to each contract. These can be instrumental in reconciling company records and preparing tax returns.

Key takeaways

EDI is a very practical approach to the complex problem of paperwork. All over the world, governments and financial institutions require that there are careful records for every transaction. And at the same time, there are many different document formats, both for businesses and outside entities. These variables can often make data transfer and document processing complicated. Fortunately, with EDI, there’s much less guesswork and far more efficiency for your business.

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