Perpetual inventory system

Perpetual Inventory System Overview

Under the perpetual inventory system, an entity continually updates its inventory records to account for additions to and subtractions from inventory for such activities as:

  • Received inventory items

  • Goods sold from stock

  • Items moved from one location to another

  • Items picked from inventory for use in the production process

  • Items scrapped

Thus, a perpetual inventory system has the advantages of both providing up-to-date inventory balance information and requiring a reduced level of physical inventory counts. However, the calculated inventory levels derived by a perpetual inventory system may gradually diverge from actual inventory levels, due to unrecorded transactions or theft, so you should periodically compare book balances to actual on-hand quantities (typically using cycle counting) and adjust the book balances as necessary.

Perpetual inventory is by far the preferred method for tracking inventory, since it can yield reasonably accurate results on an ongoing basis, if properly managed. The system works best when coupled with a computer database of inventory quantities and bin locations, which is updated in real time by the warehouse staff using wireless bar code scanners, or by sales clerks using point of sale terminals. It is least effective when changes are recorded on inventory cards, since there is a significant chance that entries will not be made, will be made incorrectly, or will not be made in a timely manner.

The perpetual inventory system is a requirement for any organization planning to install a material requirements planning system.

Perpetual Inventory Journal Entries

The following example contains several journal entries used to account for transactions in a perpetual inventory system:

1. To record a purchase of $1,500 of widgets that are stored in inventory:

  Debit Credit
Inventory 1,500  
     Accounts payable   1,500

2. To record $300 of inbound freight cost associated with the delivery of inventory:

  Debit Credit
Inventory 300  
     Accounts payable   300

3. To record a sale of widgets from inventory for $3,000, for which the associated inventory cost is $1,800:

  Debit Credit
Accounts receivable 3,000  
     Revenue   3,000
Cost of goods sold 1,800  
     Inventory   1,800

4. To record a downward inventory adjustment of $800, caused by inventory theft, and detected during an inventory count:

  Debit Credit
Inventory shrinkage expense 800  
     Inventory   800