Periodic vs. Perpetual Inventory Systems: Which Is Best for You?

Authored by TARA CONWAY

Tara Conway is an Advisor, Digital Pioneer, Speaker, Ecommerce, and Logistics Expert. Tara offers a retailer's perspective on logistics, shipping, and customer experience. She speaks at top conferences like eTail Canada and DX3 and mentors female founders in logistics and tech.

Effective inventory management is essential for your business success. It directly impacts profitability, customer satisfaction, and the supply chain. Whether you’re running a small business or a larger retail operation, selecting the right inventory system—periodic or perpetual—can determine how well you manage your stock, avoid costly overstocks, and make sure you can fulfill your customer needs.

This guide will break down both systems and help you make an informed decision that suits your business needs.

If you’re new to inventory management, check out my guide on managing your e-commerce inventory before diving into this article.

Key Takeaways:

• Periodic Inventory System: Involves manual physical counts at intervals, ideal for smaller businesses with fewer transactions.
• Perpetual Inventory System: Uses real-time tracking through software, best for larger businesses with high SKU counts and transaction volumes.

What Are Perpetual and Periodic Inventory Systems?

Perpetual and periodic inventory systems are methods businesses use to track stock levels. A periodic inventory system involves physically counting inventory at specific intervals, while a perpetual system automatically tracks inventory in real-time using software.

What is a Periodic Inventory System?

A periodic inventory system is a simple approach where businesses manually and physically count their inventory at specific intervals, such as monthly, quarterly, or annually. Businesses calculate cost of goods sold (COGS) using the formula:

COGS = Beginning Inventory + Purchases - Ending Inventory

This system is ideal for businesses that don’t need constant updates, this system is cost-effective and flexible but can be labor-intensive and prone to errors.

What is a Perpetual Inventory System?

A perpetual inventory system continuously tracks inventory in real-time using integrated software. This system updates with every sale, return, or purchase, providing real-time inventory data. This system relies on technologies like barcode scanners or your e-commerce order management software, and offers higher accuracy and efficiency than periodic systems. However, it requires a higher initial investment in hardware, software, and training.

How it works:

1. Automatic recording of every transaction.
2. Immediate updates to inventory levels.
3. Use of technologies like barcode scanners and POS systems for efficiency.

This system allows for better inventory forecasting, smarter reordering, and less reliance on manual counts.

Perpetual vs. Periodic Inventory Systems: How Do They Compare?

While both systems can be used to calculate your business inventory, they both come with their pros and cons that you should know and understand before deciding which method you’ll use.

Advantages and Disadvantages of Periodic Inventory Systems

Advantages

• Cost-effective: Periodic inventory is great for small businesses with limited resources as they don't need to invest a lot of capital to implement it. You don’t need special software or technology.
• Flexible timing: You can choose when to count inventory—seasonally, frequently, or infrequently. It offers more flexibility for smaller companies with a lower volume of transaction.
• Simple: No complex financial or reporting systems are required. A simple spreadsheet will do the trick.

Disadvantages

• Inaccuracy: Manual counting can result in errors, leading to inventory discrepancies. With this method, you’ll be more prone to human error.
• Labor-intensive: Counting every item manually can be time-consuming and requires additional labor. Those costs can quickly add up, and it might be hard to have enough staff to do it as you are most likely to perform a count outside your normal operating hours.
• Delayed data: Inventory data is only updated at the time of the count, so stock levels may not reflect current reality. This can be a real issue for e-commerce companies with physical locations.

Advantages and Disadvantages of Perpetual Inventory Systems

Advantages

• Real-time accuracy: Inventory levels are constantly updated, reducing errors. In addition, continuous updates ensure more accurate stock levels when listing your products online.
• Efficient: Eliminates the need for manual counting, saving time and labor. Once set up, software will significantly reduce the need for manual work. It works well for businesses with large inventories or many locations.
• Better decision-making: Businesses have immediate access to inventory data, helping with forecasting and stock management.
• Scalable: Larger businesses growing and scaling will benefit from an integrated and automated inventory system that won’t be a burden as sales and inventory grow.

Disadvantages

• Initial cost: Software and technology investments are necessary upfront.
• Complexity: Systems require IT support and regular updates, increasing operational costs.
• Ongoing maintenance: Software management and updates are an added expense. You’ll also need to think about the training required for new employees.
• Physical count might still be need: even when using a perpetual inventory system, you might still be required to do occasional physical inventory counts to reconcile discrepancies

How Do They Compare in Real Life?

Understanding how periodic and perpetual inventory systems perform in real-world scenarios can help you make a more informed decision for your business. Let’s look at how each system works in different types of businesses.

Example 1: E-commerce with Physical Retail Store

Periodic Inventory System: Small Clothing Store

Overview: Imagine a small clothing store that has a physical location and an online presence but handles a modest volume of transactions.

How it Works:

• Counting Frequency: The store performs annual physical counts of its inventory.
• Process: At the end of the year, employees count each item and calculate the cost of goods sold using the periodic method. This count is time-consuming and done outside normal business hours.

Challenges:

The main challenges include potential inaccuracies in inventory records and stock levels that do not reflect real-time sales. If a customer orders an item that’s out of stock, it might lead to customer dissatisfaction and lost sales.

Benefits:

• Cost-effective: The store avoids the high upfront costs of perpetual systems and doesn’t need specialized technology.
• Simplicity: No complex systems or ongoing software costs are required, making it easy to manage with a small team.

Perpetual Inventory System: Large Retail Chain

Overview: Consider a large retail chain with multiple locations and a significant volume of transactions both online and offline.

How it Works:

• Real-time Tracking: The chain uses barcode scanners and an integrated Point of Sale (POS) system to track inventory levels continuously. Each sale, return, and purchase updates the inventory records in real-time.
• Process: Inventory data is updated instantly, providing accurate stock levels at all times. This system integrates with e-commerce platforms to ensure online stock levels match physical store inventory.

Benefits:

• Accuracy: Real-time updates reduce the risk of stockouts and overstocking, enhancing customer satisfaction.
• Efficiency: Automated tracking saves time and labor compared to manual counts. The chain can quickly address discrepancies and manage stock across multiple locations seamlessly.
• Enhanced Forecasting: The system’s data analytics helps supply chain forecast demand more accurately and optimize inventory levels.

Example 2: Manufacturing Company

Periodic Inventory System: Small Custom Furniture Maker

Overview: A small manufacturer specializing in custom furniture, with a limited production scale and fewer inventory items.

How it Works:

• Counting Frequency: The company performs inventory counts every quarter, manually checking raw materials, work-in-progress items, and finished goods.
• Process: At the end of each quarter, the company calculates the cost of goods manufactured and sold based on the physical count. This involves substantial manual effort and can disrupt regular operations.

Challenges: The main challenge is maintaining accurate records with infrequent counts, which can lead to inefficiencies and potential stock discrepancies.

Benefits:

• Cost-saving: Lower initial investment and no need for sophisticated tracking technology.
• Flexibility: Simple and adaptable to the smaller scale of the operation.

Perpetual Inventory System: Large Manufacturer

Overview: A large manufacturer with a complex supply chain, multiple production stages, and a wide range of raw materials and finished products.

How it Works:

• Real-time Tracking: The manufacturer employs advanced technologies like barcode scanning and RFID to track inventory at every stage of production—from raw materials to finished goods.
• Process: Each stage of production updates the inventory system in real-time. The system integrates with production planning and financial systems to ensure accurate inventory valuation and cost management.

Benefits:

• Detailed Tracking: Real-time data provides insights into inventory levels at every stage, improving production efficiency and reducing delays.
• Improved Accuracy: Accurate tracking helps manage large inventories and complex supply chains, reducing the risk of errors and stock discrepancies.
• Operational Efficiency: Automation streamlines operations and supports better decision-making through detailed analytics.

Comparative Summary

Frequency of Updates

• Periodic System: Updates are infrequent, based on physical counts.
• Perpetual System: Continuous updates with each transaction.

Accuracy of Records

• Periodic System: Lower accuracy due to reliance on manual counts.
• Perpetual System: Higher accuracy with real-time data updates.

Cost of Implementation

• Periodic System: Lower initial costs, no need for advanced technology.
• Perpetual System: Higher upfront costs for software, hardware, and training.

Scalability

• Periodic System: Suitable for small-scale operations but may become inefficient as the business grows.
• Perpetual System: Highly scalable, supports larger and more complex operations effectively.

Stock Management

• Periodic System: Limited ability to manage stock in real-time, potential for stockouts or overstocking.
• Perpetual System: Real-time visibility enhances stock management and forecasting.

Which Inventory System is Right for Your Business?

Deciding between a periodic or perpetual inventory system comes down to your business’s specific needs. For small businesses or retailers with low transaction volumes, a periodic system may be the best option, as it requires no upfront investment in software.

However, if you’re operating a larger retail operation or manage an extensive inventory with high turnover, the perpetual system provides real-time insights and helps avoid costly out-of-stocks, making it a long-term investment worth considering.

To help you make a decision, here’s a breakdown of the costs associated with perpetual inventory systems:

Initial Setup Costs:

• Software and hardware: Includes purchasing inventory management software and barcode scanners.
• Training: Employees need proper training to use the system efficiently.

Ongoing Maintenance Costs:

• Updates and support: Continuous software upgrades and cybersecurity measures.
• Physical counts: Despite automation, periodic physical counts are still needed.

Operational Costs:

• Losses from discrepancies: Inventory losses due to theft, spoilage, or damage may require reconciliation.

Transitioning from Periodic to Perpetual Inventory Systems

If you’re already using the periodic inventory system in your business and have decided that the perpetual system makes the most sense for your situation, here is an overview of how to make that transition the most efficient and seamless:

Key Steps for Transitioning:

1. Assess current system: Identify weaknesses in the current periodic approach.
2. Define objectives: Set goals, such as real-time tracking or reducing stockouts.
3. Choose software: Select a platform that integrates with current systems (e.g., NetSuite, Fishbowl, Katana).
4. Migrate data: Clean and transfer existing inventory data to the new system.
5. Train staff: Ensure team members are equipped to use the system effectively.
6. Implement real-time tracking: Use barcode scanners or RFID for automated tracking.
7. Test and monitor: Test the system to ensure smooth operation and make adjustments based on performance.

However, just as with any change, you'll need to be aware of the challenges in front of you to be able to plan in advance.

Conclusion

Inventory management plays a critical role in any business’s success, directly affecting profit margins and customer satisfaction. Choosing between periodic and perpetual inventory systems depends on your business’s size, complexity, and financial resources.

For businesses seeking to streamline their operations further, consider using tools like Buster Fetcher. A shipping cost optimization service that automates the tracking of missed refunds and shipping errors, ensuring you recover funds you’re owed by major shipping carriers.

Now that you know the pros and cons of both inventory systems, it’s time to assess your needs and choose the right system for your business. Optimize your inventory management today and ensure smoother operations for tomorrow!