Published On:Thursday, 8 December 2011
Posted by Muhammad Atif Saeed
Inventory System
Each of the three cost flow assumptions listed above can be used in either of two systems (or methods) of inventory:
A. Periodic
B. Perpetual
A. Periodic inventory system. Under this system the amount appearing in the Inventory account is not updated when purchases of merchandise are made from suppliers. Rather, the Inventory account is commonly updated or adjusted only once—at the end of the year. During the year the Inventory account will likely show only the cost of inventory at the end of the previous year.
Under the periodic inventory system, purchases of merchandise are recorded in one or more Purchases accounts. At the end of the year the Purchases account(s) are closed and the Inventory account is adjusted to equal the cost of the merchandise actually on hand at the end of the year. Under the periodic system there is no Cost of Goods Sold account to be updated when a sale of merchandise occurs.
In short, under the periodic inventory system there is no way to tell from the general ledger accounts the amount of inventory or the cost of goods sold.
B. Perpetual inventory system. Under this system the Inventory account is continuously updated. The Inventory account is increased with the cost of merchandise purchased from suppliers and it is reduced by the cost of merchandise that has been sold to customers. (The Purchases account(s) do not exist.)
Under the perpetual system there is a Cost of Goods Sold account that is debited at the time of each sale for the cost of the merchandise that was sold. Under the perpetual system a sale of merchandise will result in two journal entries: one to record the sale and the cash or accounts receivable, and one to reduce inventory and to increase cost of goods sold.
