Periodic inventory system

Explanation

Under periodic inventory system inventory account is not updated for each purchase and each sale. All purchases are debited to purchases account. At the end of the period, the total in purchases account is added to the beginning balance of the inventory to compute cost of goods available for sale. The ending inventory is determined at the end of the period by a physical count and subtracted from the cost of goods available for sale to compute the cost of goods sold.

The general formula to compute cost of goods sold under periodic inventory system is given below:

Cost of goods sold (COGS) = Beginning inventory + Purchases – Closing inventory

Example

The following information belongs to John company, a retailer of high-end fashion products:

Inventory balance on January 1, 2016: $600,000
Purchases made during the year 2016: $1,200,000
Inventory balance on December 31, 2016: $500,000

Required: Compute cost of goods sold for the year 2016 assuming the company uses a periodic inventory system.

Solution:

Cost of goods sold (COGS) = Beginning inventory + Purchases – Closing inventory
= $600,000 + $1,200,000 – $500,000
= $1,300,000

Journal entries in a periodic inventory system:

(1). When goods are purchased from supplier:

periodic-inventory-system-img1

(2) When expenses are incurred to obtain goods for sale – freight-in, insurance etc:

periodic-inventory-system-img2

(3). When goods are returned to supplier:

periodic-inventory-system-img3

(4). When payment is made to supplier:

periodic-inventory-system-img4

(5). When goods are sold to customers:

periodic-inventory-system-img5

(6). When goods are returned by customers:

periodic-inventory-system-img6

(7). When cash is collected from customers:

periodic-inventory-system-img7

(8). At the end of the period:

periodic-inventory-system-img8

Example:

The following information belongs to Paradise Hardware Store:

Beginning inventory: 200 units at $12 = $2,400
Purchases made during the period: 1800 units at $12 = $21,600
Sales made during the period: 1200 units at $24 = $28,800
Ending inventory: 800 units at $12 = $9,600

Required: Make journal entries to record above transactions assuming a periodic inventory system is used by Paradise Hardware Store.

Solution:

periodic-inventory-system-img9

* (21,600 + 2,400) – 9,600

Periodic inventory system is usually used by companies that buy and sell a wide variety of inexpensive products.

A disadvantage of periodic inventory system is that overages and shortages of inventory are buried in cost of goods sold because no accounting record is available against which to compare physical count of inventory.

Prev
Next

19 Thoughts on Periodic inventory system

  1. Kay

    Hello Rashid,

    I have the following question which I need your help to: the owner of Kings trading took goods to the value of $2000 (cost price) for his own personal use. What will be the effect of the transaction on the accounting equation if the entity uses the periodic inventory system?

  2. Rashid Javed

    These are drawings that will reduce assets and capital by $2,000.

  3. Tapiwa

    How do you account for direct labour costs in a periodic inventory system, ie , the journal entries

    1. Asad

      Direct labor (DL) cost is generally accounted for as a part of manufacturing cost, i.e. cost of goods manufactured. DL costs ascertained clearly and charged in production. The entry is-

      Work in Process (WIP) Dr. xxxxxx
      To Direct labor Cr. xxxxxx

  4. Hardian

    hi rashid,

    i have a questions which i need your help to:
    1. my client is using periodic method for their inventory system, they said they don’t have any COGS account, is it true? how come?
    2. instead of COGS account they are using variance account that recorded in P&L accounts, for example, at the end of the month after they get the actual ending inventory they will calculate the difference in opening and ending balance of inventory and record journal as follow:

    Dr. Inventory xxx
    Cr. FG variance xxx

    that’s it, no COGS account. is this method correct and allowed as per periodic inventory system.

    thanks Rashid.

    1. Asad

      This method should not be correct. There should be an COGS account and the entry will be

      Inventory (Ending) Dr xxxxx
      COGS (Balance amount) Dr xxxxx
      to
      Purchase account Cr xxxxx
      Inventory (Opening) Cr xxxxx

  5. Catherine

    To Whom It May Concern

    I don’t understand the statement below. Can somebody give me an example or explain in detail.

    A disadvantage of periodic inventory system is that overages and shortages of inventory is buried in cost of goods sold because no accounting record is available against which to compare physical count of inventory.

    Thank you.

    1. Asad

      Hi Catherine

      The statement is the reality. Periodic inventory system allows a poor control over inventory of a business where you are not accounting for your lost, wastage, scrap units of inventory. Such many such cost may be charged to the (COGS) Cost of Goods Sold account.
      In periodic method, you account for only the inventory at hand at the end of a period and purchase accounts. COGS is calculated as –
      COGS = Opening Inventory + Purchase – Closing Inventory.

  6. Jabu

    If inventory were donated to a welfare organisation and the periodic inventory control system was in use. what will the effect of the transaction be on the accounting equation, in terms of equity and assets?

    1. zahidul islam

      advertising cost dore korte hoy

  7. Felipe R Valera

    Hello Jabu, there is an expense account to use, Donation, similar to political contribution, both equity and assets will be reduced I think when you journal the transaction.

  8. Sduduzo

    Dear admire i like to appretiate its. But my issue is that the advantages of periodic inventory system is no appeare.so my not satisfied about that

  9. bcm

    If the owner invested in the form of inventories, what account title can I debit for periodic system? Of course I cannot use the purchase account since the business didn’t purchased.

  10. Shan

    How record puchase retrun in perpetual nd peroidic system

  11. jesha

    what would be the journal entry if you purchased goods but then ypu returned it after to the seller. And you paid the freight. is it a freight in or feright out?

  12. Hammad saeed

    What would be the accounting treatment for abnormal inventory write off loss in periodic inventory system??

    1. Ali Abbas

      e.g

      Closing Inventory 12,000.00
      Cost of Goods Sold 14,000.00
      Abnormal Loss 5,000.00
      Purchases 21,000.00
      Opening Inventory 10,000.00

  13. Lady P

    How would an entry like “purchashed merchandise for $1500 on credit with terms of 2/5 n/30 free on board shipping point”be entered In both inventory systems

Leave a Comment