Perpetual Inventory System

Question: In a perpetual inventory system, cost of goods sold is determined at the time of each sale. Figures

retained in a subsidiary ledger provide the cost of the specific item being surrendered so that an immediate

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reclassification from asset to expense can be made.

With a periodic system, cost of goods sold is not calculated until financial statements are prepared. The beginning

inventory balance (the ending amount from the previous year) is combined with the total acquisition costs incurred

this period. Merchandise still on hand is counted and its cost is determined. All missing inventory is assumed

to reflect the cost of goods sold. When a periodic inventory system is in use, how are both the ending inventory

and cost of goods sold for the year physically entered into the accounting records? These figures have not been

recorded on an ongoing basis so the general ledger must be updated to agree with the reported balances.

Answer: In the bicycle example, opening inventory for the period was comprised of three items costing $780.

Another five were then bought for $1,300. The total cost of these eight units is $2,080. Because the financial

impact of lost or broken units cannot be ascertained in a periodic system, the entire $2,080 is assigned to either

ending inventory (one unit at a cost of $260) or cost of goods sold ($780 + $1,300 – $260 or $1,820). There is no

other account in which to record inventory costs in a periodic system. The goods are assumed to either be on hand

or have been sold.

For a periodic inventory system, a year-end adjusting entry is set up so that these computed amounts are reflected

as the final account balances.