Perpetual Inventory System is an inventory management method which employs a computerized-based point-of-sale technological system to record real-time transactions of stocks. In other words, it is a computerized accounting method that uses a point-of-sale system (POS) to keep track of the company’s sales or purchases.
Customarily, this system is used by businesses dealing with goods that can easily be identified like clothing, appliances, and jewelry, among others. Now, with the development of more radical computer software packages, IT developers of the software have made it possible to include service-oriented businesses.
How the Perpetual Inventory System Works
The rapid and widespread adoption of this computer-based accounting system by big businesses and companies has been driven by the presence of POS, barcodes, as well as the radiofrequency identification scanners (RFID).
As soon as the customer purchases a product and proceeds to the counter, the teller uses the radiofrequency identification scanners to scan the barcodes on the inventory. It is scanned to record the information about the product at the point of sale.
Uniquely, this inventory management system reveals a running balance for both cost of goods available for sale and the ones sold (COGS). When transactions are made, especially purchases, the stock account is automatically debited with the number of goods purchased. Therefore, no purchase account is maintained.
Expenses incurred during transactions, such as insurances and freight-ins, increases the cost of goods available for sale. So, every time these goods are sold, the associated cost is removed from the inventory account to the COGS account. It is then debited as the cost of goods sold while crediting the inventory account.
When the Perpetual Inventory System Creates a Journal Entry:
- Purchase is made
- Expenses like freight-in are incurred
- Goods are returned to a supplier
- Goods are sold to customers
- Goods are returned by customers
- A difference is observed between the balance of inventory account and physical count of inventory is found
By using this method, businesses tend to use minimal effort in keeping records as the system automatically picks detailed inventory information of products on hand. This stock management system is automated to record all sales on the credit side to the inventory database. All goods purchased are recorded on the debit side to the inventory database.
Through this, businesses can observe complete changes in the stock database. Every time scanning is done at the point of sale, it will immediately report the amount of inventory in stock. The balance in inventory account at every point in an accounting period accurately reflects the level of goods on hand.
Perpetual Inventory System Vs. Periodic Inventory Systems
Two different inventory system methods are used to keep track of the company’s quantity of goods at hand. These include periodic inventory systems and perpetual inventory systems.
Between the two, the perpetual system is more sophisticated, also more record-keeping is needed to maintain it. Due to the complicated nature of the perpetual system, most analog companies have resorted to using the periodic inventory system as it only involves scheduled inventory checks (monthly, quarterly, semi-annually, or even yearly) throughout every year.
Under the periodic inventory system, companies face a lapse in updated inventory information and accounting for the cost of goods sold between inventories. Those with access to this information only receive periodic updates on the company’s stock and earnings.
The perpetual inventory system is the solution to such an issue as it gives an accurate and up to date inventory information, as well as the cost of goods sold unremittingly in real-time.
The benefit of using the perpetual inventory system is that it provides managers, executives, and investors with important statistics on the state of the company. This enables them to make positive moves for growth and catch any issues before they become exaggerated.
While using the periodic inventory system, the cost of goods sold is computed at the end of the accounting period in a lump sum.
To calculate this, you less the closing inventory figure from the total purchases made within the year and the opening inventory. This thus implies that a precise cost of goods sold might be difficult to obtain before the accounting year ends as it solely relies on the physical count to establish the closing stock balance used in the calculating cost of goods sold.
Ideally, the perpetual inventory system entails keen monitoring of stocks after every purchase is made. Accountants update the cost of goods sold in accounting records, thus ensuring that the number of goods in a store or storage is accurately reflected by the books.
Benefits of using the Perpetual Inventory System
The computerized nature of the system enables it to produce a piece of up-to-date information on the account balances, which, in turn, reduces the counting of stock physically. This, in turn, provides valuable information in terms of accuracy as each inventory item purchased or stocked is recorded separately in its ledger.
As a result of this, business owners tend to have more information about the purchases and returns, among others. This simplified record-keeping can motivate business owners to efficiently and effectively control businesses in different locations from one central point.
Weaknesses of the Perpetual Inventory System and Possible Remedies
This system is sometimes associated with accuracy issues. At times, the inventory information generated from the perpetual inventory system can sometimes vary from the actual stock levels from the books. This is mainly because of reasons such as inaccurate record-keeping, normal shrinkage, and shoplifting.
Also, this system can be less effective when changes are recorded on inventory cards and not captured within the system.
To enhance the accuracy of this system, it is, therefore, advisable to periodically, usually once or twice a year, perform physical count to reconcile the book values and the actual inventory on hand.
Alternatively, warehouse staff can enhance the performance of this system by coupling the bin locations and computer database of inventory quantities that updated in real-time by the warehouse staff using wireless bar scanners, or by sales clerks using point of sale terminals.
If you can take the technology, the system is worth it. It automates inventory counts and gives executives a better scope on where their business is headed and how it is performing.