Question

Difference b/w periodic and perpetual inventory system

Answer 1

The difference between the periodic and perpetual inventory systems involves the general ledger account Inventory.

In a periodic system the account Inventory will:

have a constant balance (the ending balance from the previous period)

not include the cost of purchases (they are recorded in a Purchases account)

be adjusted at the end of the accounting period (so the balance reports the costs actually in inventory)

require a physical inventory at least once per year (and estimates within the year)

require a cost flow assumption (FIFO, LIFO, average)

require a calculation of the cost of goods sold (to be used on the income statement)

In a perpetual system the account Inventory will:

be debited when there is a purchase of goods (there is no Purchases account)

be credited for the cost of the items sold (and the account Cost of Goods Sold will be debited)

have its balance continuously or perpetually changing because of the above entries

require a physical inventory to correct any errors in the Inventory account

require a cost flow assumption (FIFO, LIFO, average)

It is possible that a company will use the periodic system in its general ledger and use a different computer system outside of its general ledger to track the flow of goods in and out of inventory.

Answer 2

. Under the perpetual system, there are continual updates to either the general ledger or inventory ledger as inventory-related transactions occur. Conversely, under a periodic inventory system, there is no cost of goods sold account entry at all in an accounting period until such time as there is a physical count, which is then used to derive the cost of goods sold.

Computer systems. It is impossible to manually maintain the records for a perpetual inventory system, since there may be thousands of transactions at the unit level in every accounting period. Conversely, the simplicity of a periodic inventory system allows for the use of manual record keeping for very small inventories.

Cost of goods sold. Under the perpetual system, there are continual updates to the cost of goods sold account as each sale is made. Conversely, under the periodic inventory system, the cost of goods sold is calculated in a lump sum at the end of the accounting period, by adding total purchases to the beginning inventory and subtracting ending inventory. In the latter case, this means it can be difficult to obtain a precise cost of goods sold figure prior to the end of the accounting period.

Cycle counting. It is impossible to use cycle counting under a periodic inventory system, since there is no way to obtain accurate inventory counts in real time (which are used as a baseline for cycle counts).

Purchases. Under the perpetual system, inventory purchases are recorded in either the raw materials inventory account or merchandise account (depending on the nature of the purchase), while there is also a unit-count entry into the individual record that is kept for each inventory item. Conversely, under a periodic inventory system, all purchases are recorded into a purchases asset account, and there are no individual inventory records to which any unit-count information could be added.

Transaction investigations. It is nearly impossible to track through the accounting records under a periodic inventory system to determine why an inventory-related error of any kind occurred, since the information is aggregated at a very high level. Conversely, such investigations are much easier in a perpetual inventory system, where all transactions are available in detail at the individual unit level.