Choosing a Periodic or Perpetual Inventory System
What is the difference between a periodic and a perpetual inventory management system and which is right for your company? Most small businesses still use periodic inventory management, although perpetual inventory management is becoming increasingly popular due to the development of more sophisticated computer scanning of inventory.
More and more businesses use these scanners at the point of sale.
According to the generally accepted accounting principles (GAAP), companies can use either a periodic or perpetual inventory system. Below, find out the difference between the two systems and what would work best for your business.
Periodic Inventory System
Periodic inventory management allows a company to know the beginning inventory and ending inventory within an accounting period, but it does not track inventory on a daily basis. Inventory is tracked by a physical inventory count. Under this system, all purchases are recorded in a purchases account. When the physical inventory is done, the balance in the purchases account is shifted into the inventory account, which in turn is adjusted to match the cost of the ending inventory.
The calculation of the cost of goods sold under the periodic inventory system is:
Beginning inventory + Purchases = Cost of goods available for sale
Cost of goods available for sale – Ending inventory = Cost of goods sold
The cost of ending inventory can be calculated by using the LIFO or FIFO inventory accounting methods, or other less common methods. Beginning inventory is ending inventory from the previous time period.
Perpetual Inventory System
A perpetual inventory tracking system records store balances of inventory after every transaction through point-of-sale inventory systems.
It eliminates the need for the store to close down for a physical inventory stock-taking as perpetual inventory systems allow for continuous stock-taking. Perpetual inventory systems keep a running account of the company's inventory.
Perpetual inventory systems involve more record-keeping than periodic inventory systems. Every inventory item is kept on a separate ledger. These inventory ledgers contain information on cost of goods sold, purchases and inventory on hand. Perpetual inventory management systems allow for a high degree of control of the company's inventory by management.
Perpetual inventory systems provide the business owner with a record of what is sold, where it was sold from when it was sold, and at what price it was sold. As a result, it allows for businesses to have more than one location with one centralized inventory management system.
Even with a perpetual inventory management system, the company still needs to shut down at least annually to do a periodic, or manual, inventory count. The scanned data should tell the business owner exactly what inventory should be on hand. The major advantage of doing a periodic inventory count is to determine how much inventory has been lost, stolen or subject to spoilage.
Perpetual vs Periodic Inventory Management
If your business is small, or if you do not have extra money to invest, periodic inventory management may be a better choice for you because you can get by with just a cash register and a simple accounting procedure. If you sell services rather than products, you may not need an inventory management system unless you own a restaurant or you are in the hospitality business.
As your business grows, you may want to switch over to a perpetual inventory management system as it allows you to know the balance in your inventory account at any point in time. Large businesses typically have perpetual inventory systems rather than periodic inventory systems since the rest of their financial and accounting systems are computerized.