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17. Perpetual Inventory Systems

All of the preceding illustrations were based on the periodic inventory system. In other words, the ending inventory was counted and costs were assigned only at the end of the period. A more robust system is the perpetual system. With a perpetual system, a running count of goods on hand is maintained at all times. Modern information systems facilitate detailed perpetual cost tracking for those goods.

17.1. Perpetual FIFO

The following table reveals the FIFO application of the perpetual inventory system for Gonzales:

The following table reveals the FIFO application of the perpetual inventory system for Gonzales:

Two points come to mind when examining this table. First, there is considerable detail in tracking inventory using a perpetual approach; thank goodness for computers. Second, careful study is needed to discern exactly what is occurring on each date. For example, look at April 17 and note that 3,000 units remain after selling 7,000 units. This is determined by looking at the preceding balance data on March 5 (consisting of 10,000 total units (4,000 + 6,000)), and removing 7,000 units as follows: all of the 4,000 unit layer, and 3,000 of the 6,000 unit layer. Remember, this is the FIFO application, so the layers are peeled away based on the chronological order of their creation. In essence, each purchase and sale transaction impacts the residual composition of the layers associated with the item of inventory. Realize that this type of data must be captured and maintained for each item of inventory if the perpetual system is to be utilized; a task that was virtually impossible before cost effective computer solutions became commonplace. Today, the method is quite common, as it provides better "real-time" data needed to run a successful business.

17.2. Journal Entries

The table above provides information needed to record purchase and sale information. Specifically, Inventory is debited as purchases occur and credited as sales occur. Following are the entries:

3-5-XX

Inventory

96,000

Accounts Payable

96,000

Purchased Inventory on account (6,000 X $16)

4-17-XX

Accounts Receivable

154,000

Sales

154,000

Sold merchandise on account (7,000 X $22)

4-17-XX

Cost of Goods Sold

96,000

Inventory

96,000

To record the cost of merchandise sold ((4,000 X $12) + (3,000 X $16))

9-7-XX

Inventory

136,000

Accounts Payable

136,000

Purchased Inventory on account (8,000 X $17)

11-11-XX

Accounts Receivable

150,000

Sales

150,000

Sold merchandise on account (6,000 X $25)

Cost of Goods Sold

99,000

Inventory

99,000

To record the cost of merchandise sold ((3,000 X $16) + (3,000 X $17))

Let's see how these entries impact certain ledger accounts and the resulting financial statements:

Let's see how these entries impact certain ledger accounts and the resulting financial statements:

If you are very perceptive, you will note that this is the same thing that resulted under the periodic FIFO approach introduced earlier. So, another general observation is in order: The FIFO method will produce the same financial statement results no matter whether it is applied on a periodic or perpetual basis. This occurs because the beginning inventory and early purchases are peeled away and charged to cost of goods sold - whether the associated calculations are done "as you go" (perpetual) or "at the end of the period" (periodic).

17.3. Perpetual LIFO

LIFO can also be applied on a perpetual basis. This time, the results will not be the same as the periodic LIFO approach (because the "last-in" layers are constantly being peeled away, rather than waiting until the end of the period). The following table reveals the application of a perpetual LIFO approach. Study it carefully, this time noting that sales transactions result in a peeling away of the most recent purchase layers. The journal entries are not repeated here for the LIFO approach. Do note, however, that the accounts would be the same (as with FIFO); only the amounts would change.

Perpetual LIFO

17.4. Moving Average

The average method can also be applied on a perpetual basis, earning it the name "moving average" approach. This technique is considerably more involved, as a new average unit cost must be computed with each purchase transaction. For the last time, we will look at the Gonzales Chemical Company data:

Moving Average

The resulting financial data using the moving-average approach are:

The resulting financial data using the moving-average approach are:

As with the periodic system, observe that the perpetual system produced the lowest gross profit via LIFO, the highest with FIFO, and the moving-average fell in between.

 
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