Perpetual inventory and FIFO inventory cards (VCE Accounting Unit 3)
“Recording movements of inventory on inventory cards under a perpetual system using the First In First Out and identified cost methods for purchases, sales, returns, drawings and inventory used”
A perpetual inventory system updates an inventory card after every movement so the business always knows the quantity and cost on hand. First In First Out assumes the oldest cost layers are sold first, so cost of sales uses old costs and the balance holds the newest costs. Identified cost tracks each individual item by its actual cost, used for high value distinguishable goods.
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What this dot point is asking
VCAA wants you to maintain inventory cards under a perpetual system, apply the First In First Out and identified cost methods, and record purchases, sales, sales returns, purchase returns, drawings and inventory used, with the card always reconciling to the Inventory ledger account.
The perpetual system
Under a perpetual system a separate inventory card is kept for each line of stock and is updated at the time of every purchase and sale, so the quantity and cost of inventory on hand are known continuously rather than only after a physical count.
The card has three sections: IN (purchases and purchase-related items), OUT (cost of inventory leaving through sales, returns to supplier, drawings and inventory used), and BALANCE (what remains, shown as cost layers).
Cost-flow methods
First In First Out assumes the earliest units bought are the first sold. The OUT column therefore uses the oldest unit costs, and the BALANCE shows the most recent costs. Identified cost tracks each physical item at its actual purchase cost and is appropriate where items are individually distinguishable and high in value, such as cars or jewellery.
FIFO assumes the oldest cost layers flow out first for valuation; it does not require the business to physically move the oldest stock first. The closing balance under FIFO is always valued at the most recent purchase costs.
Worked inventory card
Opening and purchase
Opening balance: 10 units at 20 dollars = 200 dollars. Purchase of 30 units at 22 dollars = 660 dollars (IN). Balance is now two layers: 10 at 20 (200) and 30 at 22 (660), total 40 units, 860 dollars.
Sale of 25 units
Under FIFO the oldest layer goes first: 10 at 20 = 200, then 15 at 22 = 330. Cost of sales (OUT) = 200 + 330 = 530 dollars. Balance left: 15 units at 22 = 330 dollars.
Sales return of 5 units
A customer returns 5 units that had cost 22 each. They go back IN at 22: 5 at 22 = 110. Balance: 20 units at 22 = 440 dollars. Cost of sales is reduced by 110.
Drawings of 2 units by the owner
The owner takes 2 units at 22 = 44 dollars (OUT to Drawings, not to cost of sales). Balance: 18 units at 22 = 396 dollars.
Reconciliation
Net change in Inventory = purchase 660 minus cost of sales 530 plus return 110 minus drawings 44 = 196 added to the opening 200, giving 396. The card balance of 18 units at 22 (396 dollars) matches the Inventory ledger account.
Recording each type of movement
Each movement hits the inventory card in a predictable place. A purchase of stock is recorded IN at its cost price (the GST-exclusive amount), creating or extending a cost layer. A sale is recorded OUT at cost using FIFO, while the selling price is recorded separately in the Sales and Cost of Sales accounts; the card itself only ever tracks cost, never selling price. A purchase return (goods sent back to the supplier) comes OUT at the cost they were bought for, and a sales return (goods coming back from a customer) goes back IN at the cost they were sold at, which restores the original cost layer. Drawings of stock by the owner and inventory used in the business both go OUT at cost, but to Drawings or an expense rather than to Cost of Sales. Keeping these destinations straight is essential because each routes to a different ledger account.
The two cost-flow methods compared
First In First Out and identified cost answer the same question differently: which cost attaches to the units leaving. FIFO is an assumption applied to interchangeable stock, releasing the oldest cost layers first, so in a period of rising prices it reports a lower cost of sales and a higher closing inventory value than other assumptions would. Identified cost is used when each item is individually distinguishable and high in value, such as motor vehicles or jewellery, so the actual cost of the specific item sold is recorded. VCAA expects you to justify which method suits a given business: interchangeable, fast-moving stock points to FIFO, while unique, traceable, high-value items point to identified cost.
Reconciling the card to the ledger and a stocktake
The inventory card is a subsidiary record that must reconcile to the Inventory control account in the General Ledger: the closing balance on the card equals the ledger balance, because every IN and OUT on the card corresponds to a posting to Inventory. A physical stocktake then compares the actual units counted against the card balance. If the count is lower than the card, the shortfall is an inventory loss (recorded as an expense); if higher, it is an inventory gain (recorded as revenue). This three-way agreement, card to ledger to stocktake, is the control that detects theft, damage, recording errors and spoilage, which is why VCAA stresses that the card must always reconcile.
Why this matters
The inventory card feeds three places: the cost of sales figure in the Income Statement, the closing Inventory in the Balance Sheet, and the Inventory ledger account, which must reconcile to the card. A physical stocktake compared to the card reveals inventory loss or gain.
Students sometimes value the units sold at the most recent cost rather than the oldest. Under FIFO the cost of sales uses the earliest cost layers first; the newest costs stay in the closing balance. Reversing this overstates or understates both cost of sales and closing inventory.
Exam-style questions
Questions in the style of VCAA exam questions on this dot point, each with a worked answer. They are written by ExamExplained unless tagged "Past paper"; the year shows the paper a question is modelled on.
2021 VCAA-style4 marksExplain two reasons why the First In, First Out (FIFO) inventory cost assignment method is used by businesses.Show worked answer →
Give two distinct reasons, each explained, for 2 marks each.
It matches the physical flow of most inventory. Businesses generally sell their oldest stock first (especially perishable or fashion-sensitive goods), so assigning the earliest costs to Cost of Sales reflects what actually happens, supporting faithful representation.
It values closing inventory at the most recent costs. Because the latest purchases remain on hand, the Balance Sheet reports inventory close to its current replacement cost, giving a more relevant and realistic asset figure.
(A further acceptable reason: FIFO reduces the risk of holding obsolete or out-of-date stock because older items are recorded as sold first.)
2022 VCAA-style5 marksOn 1 January 2022 Furniture Style had five large tables on hand at $1 200 each. It uses FIFO. On 1 Jan it bought 10 tables at $1 300 each (Inv. 123); on 3 Jan it sold 7 tables (Rec. 945); on 5 Jan it sold 3 tables (Inv. C86); on 7 Jan RS Goldberg returned 1 table (Credit Note 453). Using the information provided, complete the Inventory Card.Show worked answer →
Record purchases IN at cost, sales OUT at cost using FIFO (oldest layer first), and a sales return back IN at the cost it was sold.
Opening: 5 @ $1 200.
1 Jan Inv. 123 (IN): 10 @ $1 300. Balance: 5 @ $1 200 and 10 @ $1 300.
3 Jan Rec. 945 sale of 7 (OUT): 5 @ $1 200 then 2 @ $1 300 = $8 600. Balance: 8 @ $1 300.
5 Jan Inv. C86 sale of 3 (OUT): 3 @ 3 900. Balance: 5 @ $1 300.
7 Jan Credit Note 453 return of 1 (IN): 1 @ $1 300 (the cost it was sold at). Balance: 6 @ $1 300 = $7 800.
Marks reward correct FIFO costing of each OUT line, the return restored at $1 300, and a closing balance of 6 tables valued at $7 800.