Periodic and Perpetual Inventory System

Inventory Accounting for Trading and Manufacturing Firms

This module discusses inventory accounting methods for both trading (merchandising) and manufacturing firms, focusing on periodic and perpetual inventory systems.

Trading (Merchandising) Firms

Trading firms buy and sell goods without adding value through production. Inventory accounting is simpler for these firms, with the main challenge being fluctuating purchase prices.

Example: Television Sales

A company purchases televisions in three lots:

• Lot 1: 30 units @ ₹10,000/unit
• Lot 2: 40 units @ ₹9,000/unit
• Lot 3: 30 units @ ₹11,000/unit

Total purchase value: (30*10,000) + (40*9,000) + (30*11,000) = ₹990,000

The company sells 80 units @ ₹14,000/unit.

Total sales value: 80 * ₹14,000 = ₹1,120,000

Periodic Inventory Valuation

• Example (Continuing): Suppose the ending inventory is valued at ₹220,000.
• Cost of Goods Sold (COGS): Total Purchase Value - Ending Inventory Value = ₹990,000 - ₹220,000 = ₹770,000
• Profit: Sales Value - COGS = ₹1,120,000 - ₹770,000 = ₹350,000

Suitability: Periodic inventory is suitable for firms dealing with few items and relatively small ending inventory.

Manufacturing Firms and Perpetual Inventory

Manufacturing firms use raw materials, work-in-progress (WIP), and finished goods. Physical counting of inventory can be challenging, especially when dealing with numerous components. This is where perpetual inventory accounting becomes essential.

Perpetual Inventory Accounting

In perpetual inventory accounting, inventory records are updated continuously with each purchase and sale. This provides a real-time view of inventory levels.

Example: Automobile Component

An automobile company purchases a component at ₹200/unit on the 1st of each month and issues components to production on the 15th.

Month 1:

• Purchase: 500 units @ ₹200 = ₹100,000
• Issue: 400 units @ ₹200 = ₹80,000

Month 2:

• Purchase: 600 units @ ₹200 = ₹120,000
• Issue: 500 units @ ₹200 = ₹100,000

Month 3:

• Purchase: 800 units @ ₹200 = ₹160,000
• Issue: 900 units @ ₹200 = ₹180,000

Solution:-

Summary:

• Total Purchase Value: ₹380,000
• Total Issue Value: ₹360,000
• Ending Inventory Value: ₹20,000

Advantages of Perpetual Inventory

Suitability: Perpetual inventory is appropriate when physical counting is not feasible, especially for manufacturing companies with large and complex inventories. It is also suitable when purchase prices vary significantly.