Perpetual Inventory system
What is Perpetual Inventory system
Perpetual Inventory System is a method of recording stores balances after each receipt and issues in order to facilitate regular checking and avoid closing down of work for stock taking. Bin cards and the stores ledger help the management in maintaining this system as they make a record of the physical movements of the stock on the receipts and issues of materials and also reflect the balance in the stores.
To ensure the accuracy of perpetual inventory records, physical verification of stores is made by a program of continuous stock taking. Daily or at frequent intervals, it is advisable that the number of items counted and checked with the bin cards or stores ledger.
Actual stock of material should not differ from the recorded stock under normal circumstances. Due to the following reasons, difference do arise:
Climatic conditions causing deterioration (absorption of moisture, etc.)
Shrinkage and evaporation
Losses due to accident, fire, etc.
Losses arising out of braking up bulk materials as in case of sawing wood.
Errors in posting or calculation of receipts, issues or balances on bin cards or on store ledger.
Pilferage and breakages
Entering transactions in the wrong bin card or in wrong stores ledger.
Advantage of Perpetual Inventory System
- As the closing stock can be taken from the bin cards or stores ledger, it is easy to prepare monthly and quarterly profit and loss statements and balance sheet, without physical inventory being taken for all the items.
- A detailed and more reliable check is possible.
- It removes the necessity for physical checking of all items of stores at the end of the year and thereby avoids the interruption of production.
- This method has a moral effect on the staff as it makes them disciplined and careful and acts as a check against dishonest actions.
- Actual stocks can be compared with the authorised minimum and maximum levels thus keeping the stock withing the prescribed limits. It avoids the storage of excess stock and blockage of working capital beyond the target.
- Figures of the stock are more reliable because the work of recording and continuous stock taking is carried out systematically and without undue haste.
- Discrepancies and errors are promptly discovered and remedial action can be taken to prevent their re-occurrence in the future.
- Stock figures are readily available for insurance purpose.
- Obsolete, slow moving and surplus materials can be identified easily and can take remedial actions immediately.
- Bin cards and stores ledger act as a cross check on each other and errors are detected as and when they are committed.
- This methods acts as an internal auditing of stores.
Inventory Turnover Ratio
Inventory turnover ration is a technique used for exercising control over inventory. The ratio expresses the relationship between the cost of the material consumed to the average inventory held during the period. By calculating the inventory turnover ratio, we can find out whether the material is fast moving or slow moving. If it is slow moving inventory, we can reduce the purchase of this material and if it is a fast moving inventory, the quantity of purchase of this item can be increased. A low ratio indicates accumulation of obsolete stock, bad buying, carrying of too much stock etc. On the other hand a high ratio is an indicator of fast moving stock and less investment in stock.
Following formula is used to determine the inventory turnover ratio:
Inventory Turnover Ration =Cost of Material consumed during the period
Cost of average stock held during the period
Average stock can be calculated by adding opening and closing stock and then dividing it by two.
Average Stock =
Opening Stock + Closing Stock
The inventory turnover ratio indicates the index of the efficiency or inefficiency with which inventories are maintained. It is in the best interest of the organization to compare the turnover of different types and grades of material as a measure of detecting stock which does not move regularly thereby minimizing capital or investment in undesirable stock.