What is Perpetual Inventory?

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Definition:

Perpetual inventory is a method companies use to update inventory records automatically and in real-time with software and connected point-of-sale systems.

🤔 Understanding perpetual inventory

Perpetual inventory is an inventory accounting method that uses computerized point-of-sale (POS) systems and enterprise asset management software to record sales and update stock records in real-time. A perpetual inventory system is different from a periodic inventory system. Periodic inventory is when companies update their inventory records by manually counting goods. Although a perpetual inventory system enables companies to instantly track and monitor the level of goods on hand without having to waste time on physical checks, it doesn’t take into account losses from damages or theft.

Example

Let’s say you run a supermarket and want to be able to know how many items you’ve got on the shelf and what you need to restock at any given time. For an immediate answer, you’d implement a perpetual inventory system. It requires computerized point-of-sale systems like digital cash registers and self-scan terminals. All those systems need to be connected to the same enterprise asset management system (software that helps track and manage company assets, including inventory).

By inputting your inventory, the system would then update your item count in real-time with each sale. As a result, you’d have a pretty good idea how much stuff you have on the shop floor, when it’s time to restock the shelves, and when it’s time to order more of a given item from your suppliers.

Takeaway

A perpetual inventory system is like using a coffee shop app to keep track of your loyalty points instead of a stamp card…

Whenever you buy a coffee, your app should automatically update your running totals so you always know how many coffees you’ve bought, how many loyalty points you’ve gained, and when you can expect your next free coffee. When you get a physical stamp, you can dig out your card to see how far you are away from a free cappuccino. Using a stamp card would be more like a periodic inventory system, which relies on physical checks to count goods.

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What is perpetual inventory?

A perpetual inventory system is an inventory accounting method companies can use to ensure their inventory records are always up-to-date.

Perpetual inventory systems rely on computerized point-of-sale (POS) systems to record each sale in real-time and then subtract any items sold from digital inventory lists using connected enterprise asset management software.

A POS system is the mechanism used to accept and record payments from a customer ⁠— for example, a digital cash register or a self-scan checkout. An enterprise asset management system is a piece of software that helps companies keep track of physical inventory by logging sales and recording changes in supply.

Simply put: a perpetual inventory system uses these tools to instantly update computerized records so companies always know how much inventory they’ve got. Changes in supply levels can be tracked and reported in real-time, allowing managers to know when to restock shelves or order new products.

Perpetual inventory systems are common amongst retailers with large inventories. One place you’re likely to encounter perpetual inventory is the supermarket. Every time you scan an item at a self-checkout (which is a POS terminal), the checkout sends an update to the store’s enterprise asset management software to let it know you’ve just purchased that item.

The system then subtracts it from an inventory count ⁠— which means the store manager can figure out approximately how many units are on the shelf and how many are in the backroom without ever leaving his or her desk.

The perpetual inventory system is different from the periodic inventory system, which is when businesses physically count their inventory regularly and then manually update their records.

How does perpetual inventory work?

Perpetual inventory requires a computerized point-of-sale (POS) system to be connected with an asset management software system. The inventory count for each item for sale must be added to that system before a company sends the products to its shop floor.

After an inventory has been uploaded to the software system, perpetual inventory relies on POS terminals to notify the software when inventory levels go down. Those updates should then be instantly reflected in the software system, which can be accessed whenever is required for reporting or analysis.

Because the system says that stock is being depleted, perpetual inventory helps business owners know when it’s time to purchase more goods.

Perpetual inventory is a computerized system that updates your inventory count without physically counting goods. As a result, this method doesn’t account for loss, breakages, and theft.

Your real, physical count could occasionally be different than the totals being reported on your perpetual inventory system. That’s why some businesses will often implement a perpetual inventory system and periodically perform a physical count of goods as well.

What are the perpetual inventory methods?

There are two main perpetual inventory methods: first-in, first-out (FIFO) and last-in, first-out (LIFO).

First in, first out

First in, first-out (FIFO) is an inventory management method used by companies wanting to sell their oldest inventory items to fill orders before touching more recent additions. A grocery store would be likely to use the FIFO method because it often sells perishable goods and has a time limit on how long it can store some items.

When using the FIFO method, the oldest costs will be included as part of any cost of goods sold (COGS) figure in a company income statement. COGS tells a company how much it spends to directly create a product or service by taking a beginning inventory, adding the purchases made during that period, and then subtracting a final inventory.

More recent additions to an inventory are then shown in a company’s balance sheet as inventory account balances. This is done so managers get a better idea of how much it would cost to replace new inventory, which is often worth more than the older goods.

Last in, first out

Last in, first-out (LIFO) records the newest units added to an inventory as the items sold first. The most recent products purchased are the first ones factored into COGS, and then older products are reported as inventory on a company’s balance sheet. As a result, the balance sheet probably won’t reflect the current market value.

Auto dealers tend to use the LIFO method because it enables them to benefit from higher cash flows. After all, they’re focused on selling their newest (and more expensive) items first.

What is the difference between perpetual inventory and periodic inventory systems?

The key difference between a perpetual inventory system and a periodic inventory system is that a periodic system relies on a physical count of goods at regular intervals. A company’s inventory record must then be manually updated based on the results of these physical counts.

The perpetual inventory method relies on a computerized system consisting of digital point-of-sale (POS) terminals and asset management software that work together to keep a running tally of inventory without having to physically count stock. Purchases and returns are recorded in real-time, so inventory records are automatically updated without the need for manual work.

Perpetual inventory systems don’t account for theft, loss, or damages. That’s why businesses often continue to perform periodic cycle counts despite having a perpetual system in place. A cycle count is when companies physically count a portion of inventory and compare the quantity they find against system records. This is common for businesses that sell expensive items like jewelry or cars.

How do you calculate perpetual inventory?

Perpetual inventory is calculated automatically. But for the system to work, you need digital point-of-sale (POS) terminals connected to an enterprise asset management software system. After integrating POS terminals with inventory software, you’ll need to set up the software to ensure that every piece of inventory is counted in the system.

Your POS terminals should take care of the rest. Each time you make a sale, your POS system will automatically record it into the asset management software. The software then subtracts that item from the product inventory. As a result, inventory is always being calculated in real-time without manual assistance.

What are the advantages and disadvantages of perpetual inventory?

One key advantage of perpetual inventory is the system can offer more accurate financial information. Perpetual inventory systems enable companies to keep tabs on COGS and supplies in real-time. That helps managers know how much money they have to order new products and when stock needs resupplying. More importantly, perpetual inventory isn’t adversely affected by human error because nobody is physically counting goods. POS terminals tell the system when an item has been sold, which is then removed from the inventory set.

One disadvantage is that, because inventory is only reduced by items scanned through the POS, the system doesn’t account for theft, loss, or breakages. These generally can only be discovered by doing a physical count of items.

But that disadvantage also comes with a silver lining, because when a perpetual inventory system is saying you should have more stock than you do, it can help you to investigate thefts or error counts.

When would you use a perpetual inventory system?

Perpetual inventory systems are typically used by companies with large inventories to track. The systems rely on point-of-sale (POS) systems and asset management software systems that require some initial investment.

If you run an Etsy business selling knitted goods from your garage, you might not have a lot of use for a perpetual inventory system because you’re able to physically count your inventory quickly. Plus, you probably don’t have a use for POS terminals.

You’d likely use a perpetual inventory system if you run a business with high sales volumes and regular changes to inventory supply. For example, if you operated a supermarket or a large appliance store, you’d probably want to use a perpetual inventory system.

How is inventory tracked under a perpetual inventory system?

Perpetual inventory tracks items digitally. When a perpetual inventory is set up using enterprise asset management software, a company needs to upload the existing inventory count to the system.

Each time a customer picks an item up off the shelf and scans it at a POS terminal, the system then automatically removes that item from the inventory count. As a result, you should always know how much stock you have without needing to physically count it.

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