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Table
of Contents
Application of Periodic
Inventory system
Application of Perpetual
Inventory system
FIFO in Periodic
Inventory System
FIFO in Perpetual
inventory System
Weighted Average in
Periodic Inventory System
Weighted Average in
Perpetual Inventory System
Requirements for Periodic
Inventory System
Requirements for
Perpetual Inventory System
Effect of These Systems
on Financial Statements
Introduction of
Periodic & Perpetual Inventory System
The
aim of this paper is to provide deep insights regarding the periodic and
perpetual inventory system. These two inventory systems are implement in
various corporation to determine the inventory. Both of these inventory systems
have their own advantages and disadvantages which are discussed in detail in
the paper. Periodic inventory system is an approach which is used by
accountants or businesses to record the inventory whereas perpetual inventory
system keeps on updating the inventory record continuously. Moreover perpetual
inventory system consider different inventory activities which periodic
inventory system does not consider. This paper has also discuss the FIFO and
weighted average method in the perspective of Periodic and perpetual system.
Periodic
inventory system is an approach which is used by accountants or businesses to
record the inventory. Periodic inventory system records ending inventory
balance in ledger. Different organizations usually perform inventory counts
quarterly or yearly because it takes a lot of time and effort. In periodic
inventory system the purchase which occur during inventory count are recorded
in purchase account. After the inventory count the balance of purchase account
is transferred to the inventory account. It is adjusted to equal cost of ending
inventory. The cost of goods Sold (COGS) in periodic inventory system is
evaluated in the following way
When
the accounting period ends the whole balance of the purchase account is
transferred to inventory account. In other words it can be said that the
purchase account works as accumulation account for a specific time period. It
means that the account does not hold balance for multiple time period
|
Particulars |
Amount |
Amount |
|
Inventory
Account |
10000 |
|
|
Purchase Account |
|
10000 |
In
periodic inventory system it is not necessary to divide the inventory account
in various categories such as work in process, raw material and finished goods.
In periodic inventory system tracking of inventory is intermittent therefore
creation of additional inventory accounts will be useless. Periodic inventory
system is used to track the amount of goods that are available on hand.
The
periodic inventory system depends upon occasional count unlike perpetual
inventory system. Periodic Inventory system is not considered sophisticated
because it does not provide detailed information. Perpetual accounting system
is consider more sophisticated because in perpetual accounting system the
inventory is record is kept continuously
Periodic
inventory system can be applied by those businesses which are small and perform
business on local scale. Periodic inventory system is not considered appropriate
for large concerns who are operating in different countries. The small business
can adopt periodic inventory system because for them physical count of
inventory is quite easy and through this they can estimate the cost of goods
sold. The main issue that exist in periodic inventory system is that it
provides minimum information which can cause various issues for the
organization. For finding the cost of goods sold for interim period specific
adjustments have to be made
For
those corporations who use cycle accounting cannot implement periodic inventory
system because it is not possible to use cycle accounting in periodic inventory
system. For cycle accounting inventory count for real time is required that is
not possible in periodic inventory system. The corporation who still manually
perform record keep can use period inventory system however in perpetual
inventory system keeping record manually is nearly impossible. The small
grocery stores, clothing stores and Convenient stores can implement periodic
inventory system because the requirements of such businesses are not as much
complex as multinational corporations therefore periodic inventory system is
wise choice for them. On the hand period inventory system is not suggested to
such businesses were the transaction investigation is mandatory
Perpetual
inventory system is a way through which the record related to inventory is
maintained efficiently. Perpetual inventory system is considered more
sophisticated than the periodic inventory system. Perpetual inventory system
keeps on updating the inventory record continuously. Moreover perpetual
inventory system consider the following inventory activities as well which are
mentioned below;
·
Goods sold from inventory
·
Goods move from one place to another
·
Items which become scrap
·
Items received in inventory
Perpetual
inventory system main benefit is that it continuously record the inventory
information. However the information recorded by perpetual inventory system
might differ from actual inventory because chances exist that some transactions
might not be recorded. Perpetual inventory system is consider by many
organizations today because it helps them to track the inventory more
accurately than periodic inventory system. Perpetual inventory system works even
more efficiently if used with the latest technology like computer databases
Different
journal entries are recorded in perpetual inventory system. For recording the
purchase I perpetual inventory system the following journal entry is made:
|
Particulars |
Amount |
Amount |
|
Inventory |
2000 |
|
|
Accounts Payable |
|
2000 |
For
inventory adjustment the journal entry that is made in perpetual inventory
system is mentioned below:
|
Particulars |
Amount |
Amount |
|
Inventory
Shrinkage Expense |
700 |
|
|
Inventory |
|
700 |
The
perpetual Inventory system is widely used by large corporations because in
large corporation tracking inventory is a difficult task and system such as
perpetual inventory system evaluate the inventory effectively. In periodic
inventory system it is difficult track the inventory and can cause huge
difficulty for the large corporation if they implement periodic inventory
system instead of perpetual. Due to continuous upgrading of the cost of goods
sold in perpetual system large amount of information is available through which
corporation not only can manage the inventory accurately but can also take
rational decision regarding inventory management
FIFO
(First in First Out) is used in the periodic inventory system to record the
information. Under FIFO method the costs are charged consecutive to COGS (Cost
of Goods Sold). It means that the first cost incurred will going to be charged
first to the COGS (Cost of Goods Sold). In periodic inventory system after the
inventory count the balance of purchase account is transferred to the inventory
account. It is adjusted to equal cost of ending inventory. If the FIFO method
is implemented in the Periodic inventory system than the most recent cost are
going to be used to evaluate the ending inventory. In FIFO method the Ending
Inventory in periodic inventory approach is calculated as follows:
Example
of Periodic &
Perpetual Inventory System
|
Details |
Amount |
|
400
units @ 25 per unit on November 14, 2017 |
10000 |
|
200
units @ 23 per unit on September 13,2017 |
4600 |
|
Ending
inventory December 31, 2017 |
14600 |
In
the above example it can be seen that the most recent costs are charged first
in evaluating the ending inventory. In FIFO method the cost of goods sold is
calculated using the following formulae:
The
FIFO have significant impact on the financials and the inventory system used by
the corporation. If the corporation is using FIFO in such market condition
where the Inflation factor exists than the previous costs allocated to cost of
gods sold will be lower than most recent inventory. It means that the expanses
related to inventory will decrease which would increase the net income of the
corporation. Moreover the new inventory is bought on higher prices which would lead
to inflated ending inventory
In
short it can be said that FIFO system have major impact on the financials if
the economic conditions changes. It means that the organizations before using
the FIFO system should consider the economic factors as well so that the
financials of the corporation show accurate results. The alternative of the FIFO
method is LIFO (Last in First Out). In LIFO the cost which occurred in last is
charged first to the cost of goods sold. Overall it is recommended to the
corporation or businesses that before choosing the inventory system a proper
assessment of the business should be performed
FIFO
(First in First Out) is used widely in the perpetual inventory system to record
the information continuously. Under FIFO method the costs are charged
consecutive to COGS (Cost of Goods Sold). It means that the first cost incurred
will going to be charged first to the COGS (Cost of Goods Sold). FIFO method is
commonly used for evaluating the ending inventory balance and cost of goods
sold. Perpetual inventory system main benefit is that it continuously record
the inventory information. However the information recorded by perpetual
inventory system might differ from actual inventory because chances exist that
some transactions might not be recorded
In
perpetual inventory system FIFO perpetual inventory card is prepared. The perpetual
inventory card help the organization to track the inventory and its quantity
accurately. The perpetual inventory card has different column which include
balance of inventory, sales and purchases column. The example of the perpetual
inventory card under FIFO method is mentioned below:
|
Date |
Purchases |
Sales |
Balance |
|
Mar
1 |
14Unit
*1200=16800 |
15Unit
*1200 = 18000 |
28Unit
* 1200 = 33600 |
As
discussed earlier FIFO system have major impact on the financials if the
economic conditions changes. It means that the organizations before using the
FIFO system should consider the economic factors as well so that the financials
of the corporation show accurate results. Overall it is recommended to the
corporation or businesses that before choosing the inventory system a proper
assessment of the business should be performed.
Just
like FIFO and LIFO method of inventory there are some other methods for
inventory calculations as well. Another commonly used method for by many
organizations is Weighted Average method. In accounting the weighted average
method is based on the number of units. For instance the accounting data is
based on large number of units. Instead of adding each unit separately the
corporation can evaluate the total cost and then divide the cost by number of
units to get weighted average. The weighted average is applied on both periodic
and perpetual inventory systems
The
weighted average in period system is considered the easiest inventory
evaluation method. In periodic inventory system the costs are calculated at the
end therefore the cost of goods sold can be evaluated by dividing the total
COGS with the number of units. Through this the weighted average can be easily
calculated. However weighted average method in perpetual Inventory system is
consider the most difficult
The
perpetual Inventory system is different than the periodic inventory system
because in perpetual the inventory is continuously upgraded with the passage of
time. It means that if weighted average method is applied on the perpetual
inventory system than weighted average have to be calculated whenever the sales
occur which makes it difficult and time consuming for the businesses. It means
that each time calculation have to be performed and it can cause accuracy
problems as well. The corporations have to focus on lot of activities therefore
it should implement such method which does not require much time
The
periodic inventory should be implemented by such corporations which does not
have huge operations and does not require excessive amount of inventory
tracking. The businesses which sell moderately priced goods can use periodic
inventory system easily. The small businesses does not have much resources and
they always keep on findings ways through which they can reduce their costs.
Therefore Periodic inventory system is applied where there is less price
changes and sales occur in a consistent manner. Periodic inventory system
cannot be implemented were the corporation uses cycle accounting and inventory
needs excessive tracking
The
small grocery stores, clothing stores and Convenient stores can implement
periodic inventory system because the requirements of such businesses are not
as much complex as multinational corporations therefore periodic inventory
system is wise choice for them. On the hand period inventory system is not
suggested to such businesses were the transaction investigation is mandatory.
If the businesses going to use periodic inventory system in such organization
than investigation of the transactions will become quite difficult and it might
not be known how the error in the inventory has took place. Therefore
organizations where excessive amount of transactions happen daily should not
implement this method at all
The
main requirement for the application of periodic inventory is to evaluate the
ending inventory of the business through physical count. There are many issues
which can occur due to the implementation of period inventory because it is not
a sophisticated way of tracking the inventory. For periodic inventory there is
no need for computer software because the evaluation of inventory through this
method is not complex and can be done manually easily. The thing that needs to
be considered is the nature and size of the organization first and then select the
appropriate inventory system for the corporation.
The
perpetual inventory system is good for those corporation which have huge
variety of products which have different prices. The businesses who have large
size have also huge inventories which needs to be managed accurately. It is
evident that if the inventory is not managed accurately than the cost of the
corporation will increase. The Perpetual inventory systems requires huge amount
of record maintenance and it is impossible to do it without using computer
software or database tools. It means that the cost of perpetual inventory
system is more than the periodic inventory system
The
major plus point of the perpetual system is that it provides data is detail not
like the periodic system. The corporations that are huge require excess amount
of data so that different activities can be managed accurately. The excessive
amount of data help the financial analysts to prepare the financial statements
in such way that their accuracy and transparency increases. The perpetual
Inventory system is different than the periodic inventory system because in
perpetual the inventory is continuously upgraded with the passage of time.
Perpetual inventory system is consider by many organizations today because it
helps them to track the inventory more accurately than periodic inventory
system
As
mentioned above the periodic system provide limited data which has significant
impact on the financial statements. When the periodic system is implemented the
inventory counts face issues because sometimes the inventory items are not
efficiently included which cause the profit of the corporation to increase or
decrease. It means that the financial statements unable to show the exact
figures if they implement parodic system in a large corporation. It is
important that detail information about the inventory is available so that
financial statement can be prepared with accuracy.
The
perpetual system does not have much impact on the financial statements because
in perpetual system the inventory record is keep on upgrading and extensive
amount of information regarding the inventory is available. When the excessive amount
of data is present than financial statements can be prepared with accuracy. The
drawback of perpetual system is that it requires more time than periodic system
and it is costly than periodic system. However the benefit of the perpetual
system is more than its costs. Therefore it is recommended that perpetual
system should be adopted by the corporation who are larger in size.
If
all the above discussion is summarized than it is evident that the periodic
inventory should be implemented by such corporations which does not have huge
operations and does not require excessive amount of inventory tracking. The
businesses which sell moderately priced goods can use periodic inventory system
easily. The small businesses does not have much resources and they always keep
on findings ways through which they can reduce their costs. Therefore Periodic
inventory system is applied where there is less price changes and sales occur in
a consistent manner.
The
main requirement for the application of periodic inventory is to evaluate the
ending inventory of the business through physical count. There are many issues
which can occur due to the implementation of period inventory because it is not
a sophisticated way of tracking the inventory. For periodic inventory there is
no need for computer software because the evaluation of inventory through this
method is not complex and can be done manually easily. The thing that needs to
be considered is the nature and size of the organization first and then select
the appropriate inventory system for the corporation.
It
is concluded that the perpetual inventory system is good for those corporation
which have huge variety of products which have different prices. The businesses
who have large size have also huge inventories which needs to be managed
accurately. It is evident that if the inventory is not managed accurately than
the cost of the corporation will increase. The Perpetual inventory systems requires
huge amount of record maintenance and it is impossible to do it without using
computer software or database tools. It means that the cost of perpetual
inventory system is more than the periodic inventory system. The drawback of
perpetual system is that it requires more time than periodic system and it is
costly than periodic system. However the benefit of the perpetual system is
more than its costs. Therefore it is recommended that perpetual system should
be adopted by the corporation who are larger in size.
Accounting Coach. (2018). What is FIFO? .
Retrieved from https://www.accountingcoach.com/blog/what-is-fifo
Accounting Tools. (2017). The difference between the
periodic and perpetual inventory systems . Retrieved from
https://www.accountingtools.com/articles/what-is-the-difference-between-the-periodic-and-perpetual-in.html
Adler, R. (2013). Management Accounting . Routledge.
Bergeron, W. (2018). Impact on Financials From the
Periodic Inventory Method . Retrieved from
https://smallbusiness.chron.com/impact-financials-periodic-inventory-method-19177.html
Boyns, T., & Edwards, J. R. (2013). A History of
Management Accounting: The British Experience. Routledge.
Davis, C. E., & Davis, E. (2011). Managerial
Accounting . John Wiley & Sons.
Kelly, J. (2017). What Types of Companies Use Periodic Inventory? . Retrieved from https://bizfluent.com/list-6793667-types-companies-use-periodic-inventory-.html
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