Retail businesses typically need to monitor their inventory closely. This practice enables them to maintain optimal product levels, control expenses, anticipate customer demand, and ensure a positive shopping experience. There are two main ways to track inventory: periodic and perpetual inventory systems.
Each approach has pros and cons, making it more suitable for various businesses. In this article, we will compare periodic vs. perpetual inventory systems and examine their advantages and disadvantages. We aim to help you find the inventory management system that suits your business needs.
Periodic Inventory System
A periodic inventory system keeps track of items by counting them and writing down their amounts. This system updates the inventory balance at certain times, like at the start and end of an accounting period, meaning the records are only accurate. To update the inventory balance, a physical count (stock-take) is done to see how much inventory there is and to calculate the cost of goods sold (COGS).
This counting can take a lot of time for companies with many items in stock, so they usually do it once a month, once a quarter, or even less often. This means the inventory and COGS figures are only accurate right after the stock-take.
In a periodic inventory system, purchases are logged in a distinct account and are reflected in the inventory total only after the accounting period. This system doesn’t use software for real-time tracking, so it's more suitable for businesses with fewer products or materials. Good examples include car dealerships, art galleries, and high-end fashion makers. For many manufacturers, relying solely on a periodic inventory system may not suffice.
Disadvantage of Periodic Inventory System
By using a periodic inventory system, retailers must update their stock levels and inventory flow regularly. Many small business owners use inventory tracking systems connected to their point of sale (POS). Let’s take a look at the disadvantages of periodic inventory systems:
Delayed Inventory Information
Retailers using periodic inventory systems update their inventory records at set times, like monthly or quarterly. Therefore, they don't have real-time information about their inventory levels and cost of goods sold (COGS). Real-time information is important because it allows businesses to see their inventory status at any moment so that business owners can make quick and accurate decisions.
Since the inventory data isn't updated continuously, retailers face delays in making purchases, sales, and stock management decisions until they finish their manual counts. This can slow operations down, and most business owners can't afford that for long.
Increased Risk of Stock-outs and Excess Inventory
Without real-time data, companies may find predicting demand and managing their inventory difficult. Traditional systems can lead to issues like stock-outs (running out of products), dead stock (unsold items), or overstocking (excess inventory), which can cause lost sales or higher holding costs. Additionally, insufficient data can hinder retailers from adjusting inventory based on sales trends and market dynamics.
Time-Consuming Inventory Checks
It might involve some errors, particularly in manual inventory counting. Periodic systems necessitate physical counts at set intervals, making it difficult to maintain accurate inventory records, especially with large amounts of stock.
Manual counting is both labor and time-intensive, and it's also vulnerable to human error. As a result, periodic systems are more likely to have inaccuracies due to the absence of real-time tracking, and any errors can result in discrepancies in financial reporting and inventory management.
.
Lack of Clarity on Inventory Trends
Businesses need to stay informed about inventory trends to manage their inventory effectively. Understanding what items are selling (and at what pace) helps prevent issues like understocking, overstocking, or, even worse, holding dead-stock.
Periodic inventory systems provide only sporadic visibility into inventory trends, turnover rates, and sales patterns, limiting the ability to perform in-depth analyses and make informed inventory decisions. Without timely insights, businesses may miss opportunities to optimize inventory management, potentially leading to overlooked or overpriced slower-moving items.
Challenges in Handling Multiple Locations
Picture manually counting inventory at various locations at the end of each month and then consolidating your results while ensuring accuracy. It sounds challenging, doesn’t it?
A major downside of periodic inventory is the struggle to scale or coordinate efforts across multiple locations or warehouses.
Inventory records can vary between sites, making overall management more difficult for businesses with multiple stores and significantly raising the risk of counting errors.
Prepare your business for a successful scaling strategy in advance so it’s one less obstacle to tackle when it arrives.
Advantages of Periodic Inventory System:
Affordability
Periodic inventory systems are a budget-friendly option, particularly for smaller businesses. They are generally more cost-effective initially than perpetual inventory systems. With fewer technological demands and no need for complex software or extensive hardware, businesses can sidestep the significant expenses of establishing perpetual inventory management.
For instance, periodic systems rely on less advanced technology than perpetual systems, eliminating the need for intricate software or extensive hardware setups, which helps businesses avoid hefty setup costs. Overall, periodic inventory systems offer a simpler and more affordable approach to inventory management for businesses looking to streamline their processes.
Simplicity
Periodic inventory systems are usually easier to set up and run than perpetual systems. They don’t need complicated software or constant updates with other systems, which means less training and IT support are required. This makes them an excellent choice for smaller businesses or individuals who might not be very familiar with technology.
Simplified Record-keeping Process
A periodic inventory system allows you to manage your records with a simple physical or digital spreadsheet. This might be helpful for a straightforward business. The three main things to track in a periodic inventory are how many items you have in stock, how many you’ve purchased, and how many you’ve sold. You can enhance your inventory spreadsheet by adding additional features if desired.
No Interruption to Standard Operations
You can choose when and how often to do your periodic inventory counts. Since you can schedule them whenever you want, these counts can occur outside of regular business hours, keeping costs low. Additionally, because periodic systems require less from business processes and technology, companies can focus their resources on other areas of operations.
Perpetual Inventory System
Disadvantage of Perpetual Inventory System
Substantial Initial Costs
Setting up a perpetual inventory system, particularly for businesses that rely on manual counting, can involve a substantial investment in software, hardware, and staff training.
The overall cost will vary based on the size and complexity of the business. For instance, larger companies with complicated inventory needs and multiple locations will incur higher expenses. Inventory management software can cost anywhere from a few hundred to several thousand dollars, and incorporating hardware like barcode scanners or RFID systems can considerably increase the total expenses.
Challenging Setup
Perpetual inventory systems can be complicated to set up and maintain. Generally, these systems must work with other software, such as accounting applications, point-of-sale systems, and supply chain management tools. Moving data between various systems can be complicated and time-consuming, so it's crucial to ensure data migration is accurate to preserve historical records.
Additionally, businesses that are just beginning must select and set up various hardware components and train their employees to use the system effectively, which involves time and financial investment.
Dependence on Technology
There's a significant advantage to inventory management systems that can operate independently of technological issues. (Experiencing a power outage or Wi-Fi problems? No worries.) Unfortunately, perpetual inventory systems do not share this resilience. They depend heavily on technology to function effectively.
Many modern perpetual inventory systems use Wi-Fi to link devices such as barcode scanners and tablets to the central inventory system. These setups require a stable network connection, particularly if they are cloud-based. Moreover, if any software or hardware associated with the perpetual system—such as barcode scanners, RFID readers, or servers—malfunctions, it can interrupt the entire inventory management process.
Consistent Maintenance and Skill Development
Perpetual systems require ongoing monitoring and troubleshooting to keep everything functioning well. To maintain a perpetual inventory system, regular software updates are necessary to fix issues, introduce new features, and enhance security. Business owners often need to plan carefully to minimize disruptions during these updates. Furthermore, as the system evolves with updates and new features, business owners need to provide ongoing training for their staff, which requires both time and financial resources.
Advantages of Perpetual Inventory System
Perpetual inventory systems offer efficient, high-tech, and automated solutions for managing inventory. Although the initial setup and continuous maintenance can incur significant costs, the benefits for business owners are considerable. Now, let’s explore the advantages of perpetual inventory systems:
Real-Time Stock Management
One of the main benefits of perpetual inventory management is the capacity to monitor inventory levels in real-time. These systems continuously update inventory levels as transactions happen, allowing business owners and staff to check their inventory performance anytime.
Consider the time saved using automated inventory management instead of manually counting each product. That saved time can be redirected to more strategic areas, like customer relationship management or product development.
Increased Accuracy
People often make mistakes, especially when counting hundreds of the same item for inventory management. While perpetual systems have limitations, they greatly minimize the chances of human error compared to manual counting. With automated and continuous tracking, businesses can maintain highly accurate inventory records, allowing them to know exactly what they have in stock—and what quantities—with minimal effort.
Insightful Decision-Making
Perpetual inventory systems offer real-time updates on inventory levels, sales, and stock movement, allowing decision-makers to access accurate and current information quickly. Having immediate access to inventory data allows businesses to quickly adapt to shifts in demand, supply chain issues, or market trends.
Additionally, retailers can use historical sales data and inventory trends to more accurately forecast future demand, helping to minimize stock-outs or overstock situations before they occur.
Better Financial Management
Perpetual inventory systems provide retailers with an accurate inventory valuation for financial reporting and analysis. This leads to more precise financial statements and improved management of working capital, contributing to business owners' financial stability and longevity. Additionally, businesses can use these systems to monitor inventory purchase costs, carrying costs, and obsolescence, allowing them to manage expenses effectively and proactively optimize their pricing strategies.
Periodic vs. Perpetual Inventory Systems
Periodic vs. Perpetual Inventory Systems
The two main inventory management methods are periodic and perpetual inventory systems, each with its features, advantages, and disadvantages. Let’s compare the two side by side to help you determine which one best fits your business's needs, size, and budget.
Here are five key distinctions between periodic and perpetual inventory systems:
Frequency of Data Updates:
Periodic Inventory Systems: Retailers manually adjust their inventory levels at designated intervals, such as monthly or quarterly. This means that inventory data is only refreshed during physical counts, resulting in periods of outdated information between updates.
Perpetual Inventory Systems: Automated systems offer ongoing, real-time updates to inventory records with every transaction. This allows retailers to maintain a consistent and accurate view of stock levels and movements.
Inventory Monitoring:
Periodic Inventory Systems: Retailers assess inventory levels by performing regular physical counts. As a result, stock levels and costs are only evaluated during these counts, potentially hindering the business's ability to identify discrepancies in inventory quickly.
Perpetual Inventory Systems: Businesses can track inventory in real-time, recording every sale, purchase, and adjustment as they occur. This instant access to inventory levels and movements allows retailers to make informed decisions immediately.
Costs and Challenges:
Periodic Inventory Systems: Periodic systems are usually easier to set up and more cost-effective, needing minimal technology and lower ongoing costs. However, they require manual counting for inventory verification, which can be time-consuming and labor-intensive.
Perpetual Inventory Systems: These systems are more complex and costly, relying on advanced software and technology. Businesses must adopt continuous data management and perform regular maintenance to ensure everything operates smoothly.
Inventory Control:
Periodic Inventory Systems: The interval between periodic inventory counts and the time required to reconcile records and evaluate inventory levels can result in stock-outs or overstocking. Additionally, perpetual inventory systems can complicate the tracking of inventory trends.
Perpetual Inventory Systems: Real-time inventory updates enable efficient real-time inventory management. This allows businesses to make more precise and timely adjustments to their stock, helping to avoid stock-outs and overstocking.
Error Identification:
Periodic Inventory Systems: Errors or discrepancies must be identified by people during physical counts, as they are not detected automatically. As a result, manual counting and data analysis may cause delays in recognizing inventory issues and extending resolution times.
Perpetual Inventory Systems: This software allows for immediate identification of inventory errors as they occur, enabling businesses to spot and correct any discrepancies in their stock quickly. Automated data contributes to more efficient inventory management in the long run.
Key Takeaway
In conclusion, the right inventory management system is essential for retail businesses.
Periodic inventory systems are affordable and simple, making them suitable for smaller operations, but they lack real-time data and can lead to inaccuracies.
Conversely, perpetual inventory systems offer real-time tracking and improved accuracy, ideal for larger retailers managing complex inventories despite their higher costs and complexity. Ultimately, the decision should reflect your business’s objectives and available resources, allowing you to manage inventory efficiently and respond to market demands.
William Harrison
William is a consultant providing expertise in business management. He has successfully integrated POS systems into various businesses, demonstrating a passion for improving processes and offering financial advice. With a decade of experience in dealing with POS systems, payment gateways, and ATMs, he is also a passionate writer about finance and accounting.