Periodic Inventory System: How It Works, Formula and Examples

Under the periodic inventory system, purchases are recorded throughout the accounting period, but inventory records are updated only after a physical stock count. The business then values closing stock and calculates the cost of goods sold. This system is commonly used by small retailers and businesses that do not require real-time inventory information. 

What Is a Periodic Inventory System?

A periodic inventory system updates inventory records and calculates the cost of goods sold at specified intervals instead of after every transaction.

The stock count may take place:

• Weekly
• Monthly
• Quarterly
• Half yearly
• Annually

During the period, purchases are recorded in a separate Purchases Account. The Inventory Account is only updated after the physical stock count.

Simplify Your Business Operations

Designed to give you speed, control, and accuracy in daily accounting tasks.

• Save time with automated accounting workflows
• Get 35+ detailed business reports easily
• Access your business anytime, anywhere

Unlock the Munim Advantage

How Does the Periodic Inventory System Work?

The system follows five basic steps:

1. Record opening inventory.
2. Record purchases in the Purchases Account.
3. Record sales without updating inventory cost.
4. Physically count closing inventory.
5. Calculate the cost of goods sold.

Simple Periodic Inventory Process

What Is the Periodic Inventory Formula?

The basic formula is:

Cost of Goods Sold = Opening Inventory + Net Purchases − Closing Inventory

Net purchases are calculated as:

Net Purchases = Purchases + Directly Attributable Purchase Costs − Purchase Returns − Trade Discounts and Rebates

The complete formula is:

Cost of Goods Sold = Opening Inventory + Purchases + Direct Purchase Expenses − Purchase Returns − Purchase Discounts − Closing Inventory

Periodic Inventory System Example

Suppose an electrical goods trader has the following details for August 2026:

Step 1: Calculate net purchases

Net Purchases = ₹5,50,000 + ₹20,000 − ₹30,000 − ₹10,000

Net Purchases = ₹5,30,000

Step 2: Calculate goods available for sale

Goods Available for Sale = ₹3,00,000 + ₹5,30,000

Goods Available for Sale = ₹8,30,000

Step 3: Calculate cost of goods sold

Cost of Goods Sold = ₹8,30,000 − ₹2,40,000

Cost of Goods Sold = ₹5,90,000

If net sales are ₹8,25,000:

Gross Profit = ₹8,25,000 − ₹5,90,000

Gross Profit = ₹2,35,000

How Is Closing Inventory Calculated?

Closing inventory is calculated after counting the stock physically available at the end of the period.

The formula is:

Closing Inventory Value = Physical Quantity × Cost Per Unit

Note: Closing inventory must be valued at the lower of cost and net realisable value (NRV) under AS 2. 

The cost per unit depends on the inventory valuation method used by the business.

Common methods include:

• First In, First Out
• Weighted average cost
• Specific identification

Closing inventory example

A garment trader purchases the same product at different prices:

The physical stock count shows 120 units remaining.

Closing inventory under FIFO

FIFO assumes that the oldest stock is sold first. The closing stock consists of the latest units purchased.

Closing Inventory = 120 × ₹240 = ₹28,800

Cost of Goods Sold = ₹1,13,000 − ₹28,800 = ₹84,200

Closing inventory under weighted average

Average Cost = ₹1,13,000 ÷ 500 = ₹226 per unit

Closing Inventory = 120 × ₹226 = ₹27,120

Cost of Goods Sold = ₹1,13,000 − ₹27,120 = ₹85,880

FIFO versus weighted average

A business should apply its selected inventory valuation method consistently.

Advantages of the Periodic Inventory System

Simple to use

The cost of inventory need not be determined after every sale. 

Lower setup cost

Even if a small business doesn’t have an advanced inventory management system, it can still keep up with inventory.

Fewer daily entries

Purchases are recorded in one account. Separate cost entries are not required for every sale.

Suitable for limited stock

The system may work well for businesses with:

• Few product categories
• Low transaction volumes
• Low value inventory
• Limited storage locations
• Easily countable stock

Limitations of the Periodic Inventory System

No real time inventory balance

Between two counts, the business will not be able to rely on the accuracy of the number of items available.

Delayed cost of goods sold

The actual cost of goods sold becomes available only after closing inventory is calculated.

Physical counting takes time

While counting stock, the business might have to cease or limit stock movements.

Limited product wise profitability

The company does not necessarily know the exact profit from each item or invoice.

Difficult to manage multiple locations

The transferring of stock from shop to warehouse (and vice versa) can lead to inaccuracies if it is not properly recorded.

Who Should Use Periodic Inventory?

Periodic inventory may suit:

• Small retailers
• Local stationery shops
• Gift shops
• Small garment stores
• Seasonal businesses
• Limited range wholesalers
• Businesses with low stock movement

It may not suit:

• Supermarkets
• Manufacturers
• Ecommerce businesses
• Pharmacies
• Jewellery businesses
• Businesses with multiple warehouses
• Businesses that track batches or serial numbers
• Businesses that require real time stock information

How Often Should Inventory Be Counted?

A business does not have to count every item at the same frequency. High value and fast moving items can be counted more often.

Frequently Asked Questions

What is periodic inventory in simple words?

Periodic inventory is an inventory method that involves counting the business’s inventory at regular intervals. Needs to know the actual quantity on hand at the end of the period.

When is inventory updated under a periodic system?

Inventory is updated at the end of a designated time frame. This can be on a weekly, monthly, quarterly or annual basis.

Is physical counting compulsory?

Yes. A periodic inventory system generally relies on a physical stock count to determine the quantity available at the end of the period.

Can weighted average be used with periodic inventory?

Yes. A business can calculate the average cost of all units available during the period and apply it to closing stock.

Is periodic inventory suitable for small retailers?

Yes, if the retailer has limited stock and low transaction volume. Proper purchase, sales and GST records must still be maintained.