Perpetual Inventory Definition

Perpetual Inventory Definition
| Updated on: March 15, 2022

In a market with stiff competition and very thin margins, every advantage counts. Retail and manufacturing are especially competitive and also deal with high volumes. In these companies or corporations, inventory management can directly impact the bottomline and the profitability of the company. So the management of inventory is of great importance to any industry that is highly dependent on inventory. For a manufacturing unit, the proper supply of raw material inventory is essential to keep the manufacturing process going. Any mismanagement of inventory can disrupt the entire manufacturing activity.

Supply chain management is essential for the output of a manufacturing unit and in the retail field. A company that sells products has to keep its inventory optimal. If they run short, a stockout will make them lose business and lose out to the competition. Too much inventory stocked in advance is also disadvantageous and adds up to the risk of expiry and increased inventory cost. Optimal inventory management is much easier when you use an inventory system that is well suited to the type of operations. Perpetual inventory is one of the most commonly used systems that reflects the actual flow of goods in the company.

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What is perpetual inventory?

Perpetual inventory is the maintenance of accounts for inventory exactly as the purchase of inventory and sales of inventory happen. Traditional inventory would use a periodical update of the records from time to time. This would have been the most convenient way of maintaining records in a time when technology was not as popularly used. Point of sale systems and complete enterprise level software such as TallyPrime make it effortless to record and account every transaction exactly when it happens in real time.

In perpetual inventory systems, the incoming inventory item is recorded as soon as it comes in and a sale immediately affects the inventory. So at any point of time, the inventory management software will give you the precise real time inventory count. You can retrieve the precise stock on hand immediately. In contrast to the periodic inventory system that used to be followed before the application of information technology to all aspects of a company, regular stock taking exercises were undertaken to physically count the numbers and items in inventory. Needless to say that in this day and age, this would be most impractical and severely impact the efficiency of the business. Even in manufacturing units, the traditional ways of maintaining inventory are being phased out to reduce the overheads involved in stocking inventory of input materials too early and the risk of storing finished goods for too long. Time is money and the less time that inventory sits in warehouses the lower the inventory storage costs.

Understanding perpetual inventory

Perpetual inventory may be difficult to understand for a person who is used to the traditional system. However, most new businesses do not use any other system. A good example of perpetual inventory that many people are exposed to is online sales platforms. As soon as the items are up for sale their number reflects on the sales platform and when they are sold out the item goes out of stock. The online sales options accurately reflect the exact number of items that are in the warehouse. So, if there are only two of a certain item available, the system will not allow you to buy more than two. If someone else buys the last two before you do, you are immediately notified and the item is no longer available for purchase. If online sales systems did not use robust and efficient perpetual inventory systems, they would find themselves selling items that they no longer have or having items in inventory that are not yet available for sale. This manual adjustment system will not be able to cope with the speed and real time stock count required. If at all there is a manual adjustment to perpetual inventory, it may be to adjust for items that have been damaged in inventory or lost due to theft or breakage.

Perpetual inventory helps supervisors in a manufacturing unit spot when they are running low on something and heading for a stock out. It can also ensure that the output finished product is moved out of inventory without sitting in warehouses too long. By reducing the time that items sit in inventory, the cost of inventory comes down. Observing inventory closely prevents disruptions to manufacturing because of a stockout. Perpetual inventory by accurately reflecting the actual movement of the items in real time is also a valuable source of data. A smart enterprise level software such as TallyPrime would help you analyze this data to continually improve and streamline the inventory process for maximum efficiency and revenue.

How perpetual and periodic inventory systems work

A periodic inventory system is one in which inventory records are updated periodically. The items in inventory are manually counted and then updated. Inventory that is incoming may be recorded immediately or with a time lag. Periodic inventory systems in businesses that have large volumes of items may cause disruptions because of stock taking. If the system is in a small business, the owner may have to take some time off to manually count what is in stock. In large organizations, movement of inventory in and out would have to pause for a while to allow for accurate stock taking. As you can imagine, the periodic inventory system reduces the efficiency of the other processes in the business.

A perpetual inventory system instantly updates all the movements of inventory items to the records. When inventory comes in it immediately reflects on the stock number. A single sale will update all the relevant inventory and other accounting records and reports. Digitized point of sale systems make this possible. Barcodes and scanning technology speed up the process so that there is minimal data entry and maximum speed and accuracy in the process. m details, the item code would simply be scanned in and updated. For example, when inventory is delivered to the warehouse, instead of manually keying in the item. 

Some companies that have multiple warehouses or locations take the level of detail in perpetual inventory to a higher level. The movement of every item within the business will also be recorded. So, at any point of time, the level of inventory of a certain item as well as how it is located across the company inventory is recorded.

Certain businesses use a blend of perpetual inventory as well as periodic inventory. This is essential in businesses where the value of inventory items is very high and there is the risk of theft or other malpractices within the company. Examples of this are high end electronics showrooms, car dealerships or jewelry showrooms. All inventory is maintained in a real time perpetual inventory system. But, the stocks are periodically verified by comparing the numbers recorded in the perpetual system with a physical stock taking exercise. This is an exercise to detect malpractice and ensure accountability and not wholly an inventory exercise.

What is perpetual FIFO?

One of the biggest advantages that the perpetual accounting system offers is the volume of data that is readily available for analysis. Perpetual inventory gives the business the opportunity to optimize their inventory for maximum efficiency and financial benefits. An intelligent inventory management software will help the business use this data for strategic planning.

The economic order quantity (EOQ) is a formula that can be used to maintain inventory optimally. It is meant to reduce the cost incurred to buy inventory as well as the holding cost of the inventory. In order to determine the holding cost of inventory, the company should know which items are sold first; the older ones or the newer ones in inventory. This affects the time of the cost of inventory sold being accounted for in the cost of sales expense account. If the oldest units are sold first it is a first in, first out (FIFO) system. If the newest units are sold first it is a last in first out system (LIFO). In some cases, accountants make the calculation simpler by simply using an average cost by dividing the inventory cost by the total number of items.

The FIFO method is a more logical way of ensuring that goods do not get stale or reach the end of their shelf life sitting in storage. It gives the customer the freshest goods while also minimizing the inventory holding costs. However, the LIFO method may give the customer the inventory that is just in at the risk of the inventory items already sitting in inventory remaining unsold. This adds the cost of holding the older inventory and increases the risk of obsolescence. It is essential to identify which items are being sold as the cost of acquiring them that has to be posted against revenue may differ.

So, if a batch of items have been ordered in a smaller quantity they may have shipped faster but at a higher cost. On the other hand, a larger order may have been shipped slower but at a lower average cost. There may also be cost advantages for a larger order. The differentiation between the cost of acquiring the goods or inventory items will help determine the EOQ or the ideal order quantity for the least cost of purchase.

The best software for a seamless perpetual inventory system

TallPrime lets you keep track of your inventory in real time. It also seamlessly integrates inventory management software with all the other related accounting functions. Its logical and intuitive design makes it easy to implement the software across all the relevant inventory handling points. It is able to track inventory across locations and godowns. Tally can intelligently differentiate between different types of inventory in take and outward movement such as purchase vs sample. Despite the most sophisticated software systems, sometimes there are inconsistencies in the inventory on the floor compared to the recorded stock. Tally is designed to work through such situations and allows you to make adjustment entries after physical verification if necessary.

The Tally point of sale (POS) feature allows you to use a single inventory management software for your sales, inventory and accounts. Tally also manages your perpetual inventory without the need for multiple points of data entry or transfer. The update of inventory is fully automated.

Tally’s advanced accounting and inventory features make it a complete end to end inventory management software solution that handles all the aspects of accounting in your business. It is also highly scalable and can be used in a small business and scaled up to enterprise level when required.

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