What is the Difference Between Perpetual and Periodic Inventory?
Understanding the difference between perpetual and periodic inventory systems can help companies adopt the right inventory management technique for their business.
When it comes to both taking and managing inventory, companies can choose between two key methods to get the job done - perpetual and periodic inventory. These two different approaches both track the number of goods a business has but differ greatly in their execution.
Where perpetual inventory continuously updates stock levels for real-time inventory management, periodic inventory provides a balance of inventory at the start and finish of an accounting period.
Choosing the right system for your business will not only have an impact on gross profit but benefit the entire ecosystem of the business by increasing the accuracy of inventory reports and therefore, stock accountability.
Periodic Inventory Management
To calculate the cost of stock and goods sold during a single accounting period, periodic inventory management is a sufficient and effective inventory tracking method that is suitable for a range of companies spanning from car dealerships to art galleries.
Shying away from regular counts or daily stocktakes, this system simply involves the act of physical inventory counting at the beginning and the end of an accounting cycle with the intent of recording all purchases to a purchases account.
When using a periodic system, businesses can calculate their CoGS (cost of goods sold) using the following formulas-
Beginning inventory + Purchases = Total Cost of Inventory (goods)
Total cost of inventory Ending inventory = Total CoGS
To calculate this cost of ending inventory, businesses adopt the LIFO (last in first out) reserve or FIFO (first in first out) inventory accounting methods, which boils down to the beginning inventory equalling the ending inventory from the last accounting period.
This system will not perpetually track inventory on a daily or per-sale basis and likewise, it shies away from the implementation of inventory software, which is crucial to a smooth operation for businesses with larger volumes of stock.
That said, for smaller businesses that simply don't have the number of staff on hand to implement other methods, the periodic system is an effective, budget-friendly means of collating stock data.
Perpetual Inventory System
Whereas the periodic method is a far more basic system that is designed to be utilized at the start and end of an accounting cycle, the perpetual inventory tracking system whole-heartedly embraces technology to keep constant track of inventory levels and deliver the most up to date information.
With the help of software, this method provides automatic updates into the inventory account each time a product is either received or sold for real-time inventory management. The benefits of this system are many, but in a nutshell, the periodic method affords greater accuracy, up-to-date stock data, and real-time, electronic tracking to enable a company with the tools to make inventory decisions in line with current trends or stock levels.
Companies dealing in large inventory levels and high-production volumes will further look to perpetual inventory tracking as a record-keeping system that doesn't require the need for a business to shut down for physical inventory stocktake. This means a reduction in lost production time and human error.
By implementing automated inventory management software into a company's daily operations, detailed data can further be unearthed and updated on a daily basis through an inventory record. These records would compile the cost of goods sold, purchases, and available inventory into one report. Alongside allowing a company greater control over its inventory operations, the perpetual tracking system enables that stock to be stored in more than one location.
Despite the outstanding accuracy and constant updates this system and the corresponding software affords, businesses still need to conduct physical inventory counts via the periodic method to provide information on what inventory is still physically in stock. The data gleaned from this once-a-financial-year count can then be compared to the perpetual figures to help a company discover which products have been misplaced, stolen, or damaged.
Pros vs. Cons
When it comes to perpetual vs periodic inventory systems, which is the overall winner? Both systems contain fundamental differences and their own pros and cons. Where the perpetual inventory system provides rolling updates to online records each time a product is sold, the periodic inventory system seeks to provide this information during a single stocktake.
This means the cost of goods sold record is non-existent between those stocktakes or during accounting periods. Likewise, merchandise inventory and cost of goods sold are not updated continuously. So how can a company choose the right method for them?
First things first, both systems use an inventory account and cost of goods sold account, with the perpetual system updated constantly and the periodic method only updated at the end of a financial period. Both systems also contain cost flow assumptions using FIFO or LIFO.
While it may be easier for small and new businesses to start out by implementing the periodic system, they may find it more effective to switch to the perpetual inventory system as their business and inventory begin to grow. This would allow them to access the balance in their inventory accounts at any given time.
With perpetual systems, the balance of inventory changes constantly to reflect to-the-minute purchases. The periodic system, on the other hand, requires an end-of-the-accounting-year adjustment to gather the actual costs of inventory.
Ultimately, finding the right system for a business will boil down to its size, capacity, and stock levels. However, for the most effective inventory management, it's recommended that businesses utilize a mixture of both systems to increase accuracy and accountability.
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