 In this presentation, we will compare a perpetual inventory system and a periodic inventory system comparing and contrasting the two. It's important to know both of the systems. The perpetual system is the one we will probably be focusing on most and the one most seen when working problems. However, the periodic system is used when we have a small or less sophisticated type of software or type of process that we are using and it's useful to know for that reason and also because the cost of good calculation that we use and the counting of ending inventory we use for a periodic system is something that we will need to use for a perpetual system as well. So the basic between the two of them will be that the periodic system will be used when we have a less sophisticated system. The perpetual system will be used typically when we have a more sophisticated system. Let's see some comparisons as we go. We'll take a look at a few different transactions in order to demonstrate the difference. We're going to record the transactions here on the left side where we have both a debit and credit column. Credits being represented by a credit column and with the bracketed or negative numbers. When we post those to the trial balance, however, the debits will be positive. The credits will be negative. The zero at the bottom shows that the debits minus the credits equals zero. In other words, they are in balance and we have the net income down here. We're going to have the assets in green, the liabilities in orange, the light blue, the capital, the dark blue, the income statement accounts. We'll post our activity here and see a quick reference to the ending balance. First, we're going to take a look at a purchase of merchandise on account. We'll start here because this will be the same under either method. No matter which method, the perpetual or periodic, we will have the same purchasing journal entry. It's also not an estimate. Once we later get into different type of estimating methods like first in, first out, last in, first out, average, or using specific identification, it won't matter for the purchase. The purchase is what it is. We're going to purchase merchandise. We're going to say we purchase it on account and therefore we're not going to pay cash. We're going to pay the accounts payable. I would first think about the merchandise inventory. However, that's what we are getting and it has a debit balance. We're making it go up by doing the same thing to it, another debit. So we'll debit the merchandise inventory. The credit then will go to the accounts payable, which we already know because we credit merchandise inventory. We can also figure that by seeing that the payable is a credit balance represented with brackets. It needs to go up. The bad thing is increasing because we owe more money for purchasing something on account. We will therefore do that by doing the same thing to it as its normal balance credit. So here is the journal entry. If we were to post that out, we're going to post this debit and merchandise inventory right there to merchandise inventory starting at 10,000 increasing by 13,000 to a total of 23,000. Then we have the accounts payable here. It has a credit balance. The accounts payable will be posted here to the accounts payable accounts, which also has a credit balance. The 6,500 credit plus the 13,000 credit gives us a total of 19,500 credit. The effect on the accounting equation is that the assets are increasing due to the inventory and asset increasing liabilities increasing due to the accounts payable, a liability increasing, no effect on the equity section. Once again, this will be the same for both methods, both a perpetual and periodic method for tracking inventory. Here is the total transaction with all of our accounts here. Note that we are in balance by the green zeros and there's no effect on net income, meaning neither revenue nor expenses or any contra revenue accounts are affected. We did buy inventory. We didn't expense the inventory because we have not yet used the inventory. We will expense it in the future at the point in time it is used to help generate revenue in the form of cost of goods sold. Next type of transaction will be the sale transaction. And this of course will be the one that will differ. We're going to differ when we sell things. In the periodic system, what we're going to do is just record the same half of the transaction we would see if we were a service company, meaning there's going to be a sales price that we will have and a cost to the merchandise we are purchasing. If we are in a periodic system, we're going to ignore the cost. If they give that to us in a problem, we're going to ignore it when we first record it because we are just going to record the sales half. We will get to the cost in the recording of the second component, but not until we count the inventory at the end of the time period and record it at that point in time. So we're going to say the periodic system then will be an increase to accounts receivable, assuming we sold it on account. And it's going to be an increase to the revenue account, the income account, in this case called sales. So this is just a revenue account for a merchandising company, often called sales. That's where we stop for the periodic system. And we will move to the second component later when we count the inventory at the end. Then we have the perpetual system. The perpetual system has the same first journal entry, but then we also include the next journal entry that the one dealing with merchandising accounts, which will be the merchandise inventory and cost of goods sold. So the cost represents them as of course, and the merchandise inventory has a debit balance. We would make it go down with a credit. Then the related cost of goods sold as an income statement account, it's an expense account and they would go up with a debit. So this is going to be the difference between the two. Why would we record them differently? Well, under a periodic system, we might want to simplify the process, meaning if we have a lot of sales in one time period and or we have a clerk that's running the sale and they need to concentrate on selling the items and or giving back change. We only want them to be concerned really with the sales price, which will be on the sticker price. It'll be known and we'll be able to say, Hey, here's the here's the price and we can record the sale very easily at that point in time. What we don't know from the sticker price is the cost. The cost isn't going to be on the stick when we go to the store. We don't know what the cost is. And therefore, if we don't really want to have to deal with that much complexity at the point of sale, if we have more of a manual system that we need to record the sale with. However, if we have a more sophisticated system like a scanner or something like that, then the scanner will know the cost and we won't even won't even have to think about it. It'll record it perpetually. Therefore, if we have a more sophisticated system, we can use the perpetual system. If we don't and we just want to concentrate on making the sale, we use a periodic we record this and then we'll show how we're going to record the second component all at one point in time at the end of the period at the end of the month or week as we do a physical count. Under perpetual system, of course, it would be a better system if we have the capability of doing this more information, this added work as we go through the process, often being done with software to make that process more simple. Then we can track the inventory going down and the related cost of goods sold as we go. This process showing us where we stand at any given point in time. This process really only giving us some information, not giving us a full picture of where we stand until we do the adjustment at the end of the month, week or whatever period we are working with. The periodic system would look then something like this. Here's the periodic system and journal entry where we just record the first half. We're going to say we made a sale and therefore we'd increase increase the accounts receivable. So accounts receivable here starts at 6000 and increased by 3,000 120 to an ending balance of 9,120. The second component would be the revenue or sales starting at zero. It's going up in the credit direction by 3,220 to the 3,220. So there's just recording this here that increases the net income. So the net income is increased by this amount. This isn't a loss. It's increasing in the credit direction. Now this is deceiving because of course it looks like our revenue is way higher than it is because we haven't recorded the cost here, which would bring it down. So this is not really correct until we do that adjustment and we will do it at the end of the time period. If we do the perpetual system on the other hand, we still have this first transaction. So we still have the increase in accounts receivable and the increase in sales. But now we have this new transaction, this new component cost of goods sold going from zero up to 2,400. And there's the cost of goods sold that increase or decreases the net income. So net income went up by the sales component, 3,120. And it goes down by the cost of goods sold the 2,400. The difference between the two is a net increase in net income of 720. Again, this is this is not a loss. The brackets mean it's a credit balance. The other side then the merchandise inventory is here. So it's taking the 23,000 down by that 2,400 to the 20,600, recording an accurate merchandise inventory as we go accurate as far as sales go, not accurate in terms of if there's any loss, if there's any theft, if there's any some type of inventory shrinkage. No matter which method we use, we still need to do a physical count at the end of the time period and we still need to know the cost of goods sold calculation. So at the end of the time period, we're going to do a physical count will count the inventory. In this case, we're saying the physical count is coming to 24,800. So we're saying now note, we were estimating this because in real life, of course, we would count the units and then convert it to dollar amount. We're just going to say that conversion is happening here. We'll talk about that at a later time. It can be somewhat complex if we have different or differing costs for the inventory that we're purchasing. So we're going to say the physical count is 24,800 cost of goods sold calculation then is the beginning inventory. We're going to it's 10,000. We would get this on the general ledger. This wouldn't be the start of our transactions. We see we started with 10,000 at the beginning of the period. Then we purchased the 19,000 and this again we could find in the general ledger the increases and that would give us the 29,000. Now note that this 29,000 is what we have in merchandise inventory under a periodic system. So when we do a periodic system, we have to do this cost of goods sold calculation in order to figure out the cost of goods sold and to adjust the merchandise inventory down because we've recorded here just what we had at the beginning plus purchases. What we have not recorded is the decrease, the decline that we have when we make the sale. So this would be the goods available for sale. This is what we could have sold during the time period. It's what how much inventory went into our into our business at any given time during the period during the week or the month that we are covering here and therefore it's the amount that we could have sold during that time period. What we will then do is do the physical count and say that we have 24,800 worth of inventory left given the count that we have. If we could have sold and we are 29,000 and we still have the 24,800 left at the end of the time period, our cost of goods sold is the difference, the 29,000 minus 24,800 giving us the 4,200. So this then is going to be the cost of goods sold and the ending inventory. So the ending inventory for a periodic system needs to be reduced from the 29,000 to the 24,800 with the 4,200 being the difference and the 4,200 needs to be recorded in the cost of goods sold. Recording this transaction we know the merchandise inventory is going to go down by that 4,200 and we know that the cost of goods sold is going to go up bringing net income down. So the journal entry would be a debit to cost of goods sold. Cost of goods sold is an expense account goes up generally only goes up in the debit direction. We would increase that then the merchandise inventory being the credit merchandise inventory is an asset account asset accounts having debit balances would then be going down in the credit direction. So if we post this out we're posting this item here we got the 29,000 debit we are decreasing it doing the opposite thing to it making it go down to the 24,800. Then we have the cost of goods sold 4,200 and that's going to go here we've got the zero it's going up by the 4,200 to 4,200. Note here also that we have a little bit more detail we're showing the units and the unit cost in the total. So we could still do the same calculation we did over here when we had the 24,000 ending inventory but if we're given units note that we can see this in terms of units to it for if they gave us 2,480 in units and if they we assume they all cost the same $10 amount then we can say the 22,000,480 times the 10 will give us the 24,800. Now it's sometimes they're not all going to cost the same amount and then we'll have a bit of a complex more complex problem but on a simplification method if they're all the same dollar amount we can count the units obviously multiply times the dollar and that would be our conversion method. If we see all of our accounts we're going to say we're in balance by the zeros down here we can see that net income now from this journal tree in the periodic system is going down we increased the cost of goods sold. So here's our income accounts the revenue and the expense and the contra revenue accounts and we brought it down at the end of the time period. So the 5,460 revenue we had been recording during the time period minus the 4,200 we had determined was the cost of goods sold through that time period gives us the net income of 1,260. So note we're way off here in terms of net income until we do this final adjustment and we have the proper balance then at that point. We'll get to the proper balance but it'll take some time if we're doing a perpetual system and there's no inventory shrinkage will be directly to that proper balance meaning if we were to see the same information in terms of perpetual system we would already be there if there was no inventory shrinkage or loss or theft or anything like that we have been under this system recording the reduction of inventory with each sale and thereby making the inventory correct as we go in a perpetual way and we've been recording the related cost of goods sold so we're still at the 1,260 without this calculation. So you might think well then we don't need this calculation but we still need to do the physical count because there could be loss and oftentimes there is we need to count the inventory to make sure that we haven't lost any inventory or if we have that we can then write down the inventory to the current physical count. So if we do this we're still going to do our calculation beginning inventory plus purchases gives us the cost of goods sold our cost of goods available for sale and then we're going to take that and compare it to the physical count the 24-8 and that'll give us the cost of goods sold. Now in this case we're going to say that there wasn't any loss we didn't have any inventory shrinkage we didn't have any theft and therefore we come out to the same number that we have had under a perpetual system but note that if there if there was loss we would need to do the physical count and we'd still want to see the cost of goods sold calculation in order to figure out what the loss is and then record that difference we'll talk about that at a later time how would we record it though we would basically reduce the merchandise inventory to the physical count that we made we're trusting our physical count more than the books and then we would record the other side to the cost of goods sold