Weighted Average Inventory Method 101: Basics, Calculations, and Tools

Imagine trying to bake a cake without a recipe — a dash of salt here, a pinch of sugar there, maybe a sprinkle of baking soda. You may feel like you have the right pieces of the puzzle… but if you don’t put them together correctly, you’ll end up with an incomplete mess.

Trying to nail inventory management without an accurate valuation method can be just as chaotic. 

The Weighted Average Inventory Method systematically values inventory to allocate costs fairly and consistently. This method simplifies accounting, especially for businesses with large inventories and frequent purchases. But how can you get started using this method for your store?

In this article, we'll explore the Weighted Average Inventory Method basics, demonstrate how to perform the calculations, and introduce you to essential tools to streamline this process for your business.

The Basics of Inventory Valuation and Weighted Average Inventory

Inventory management is one of the most crucial elements of running a successful convenience store. And, if you want to manage inventory appropriately, you need to understand inventory valuation. 

So, what exactly is inventory valuation? Simply put, it's the accounting process of assigning a monetary value to a company's inventory. Inventory valuation is critical to your operations and store management for a few key reasons. 

1. It directly affects your cost of goods sold (COGS), which represents the direct costs of producing or acquiring your products. Accurately valuing your inventory can determine your true COGS, which is essential for calculating your gross profit.
2. It impacts your gross income: Gross income is your store's total revenue minus the COGS. If your inventory valuation is off, it can lead to an inaccurate representation of your gross income and profit margins.
3. It determines the monetary value of your inventory at the end of a given period: Whether looking at your inventory at the end of a month, quarter, or year, proper inventory valuation ensures that you know exactly how much your current stock is worth. 

Ultimately, inventory valuation affects your retail operation's profitability and potential value. It's not just about keeping track of how many products you have on hand — it's about understanding the true financial impact of your inventory.

Related Read: Gross Profit Margin vs. Net Profit Margin: Which Is More Important?

Bearing this in mind, let’s take a look at one inventory method: Weighted Average Inventory. We’ll discuss the basics and run through a few sample calculations to show how you can manage inventory using this method. 

What is the Weighted Average Cost (WAC) Inventory Method?

Before we dive into our sample calculations, let’s explore what weighted average cost is, and how it works.

The WAC method uses a weighted average of all goods sold to determine the figure used in COGS and inventory for accounting purposes in a given period. Rather than tracking the cost of each item sold, WAC considers the total cost of all items available for sale and the total number of units available.

Related Read: 10 Key Performance Indicators for Grocery Stores

Here's how it works: The weighted average cost (WAC) method calculates the average cost per unit by dividing the cost of goods available for sale by the number of available units. This average cost per unit is then used to determine the value of your inventory and calculate the cost of goods sold for the period.

One benefit of using the WAC method is that it's widely accepted and permitted under Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). Whether you report your financial statements in the United States or internationally, you can rely on the WAC method to provide a consistent and compliant approach to inventory valuation.

Why might you choose the WAC method over other inventory valuation techniques?

For one, it can simplify your accounting process by eliminating the need to track each item sold's cost. Because WAC also considers the total cost and quantity of all goods available for sale, it can provide a more accurate representation of your inventory value and COGS, especially if the prices of your goods fluctuate over time.

Related Read: How To Use Your Point of Sale Analytics To Increase Profits

Of course, like any accounting method, WAC has its limitations and may not be the best fit for every business. However, for many companies, the weighted average cost method offers a reliable, straightforward approach to managing inventory and understanding the actual cost of goods sold.

With this baseline information in mind, let’s dig into the math, running through calculations and how to use WAC in practice. 

The Weighted Average Cost Inventory Method Formula

WAC equals the cost of goods divided by the units available for sale.

Let’s look at these elements more closely:

• Cost of goods available: your beginning inventory value for a given period + purchases during a given period.
• Units available: the total number of units in inventory calculated as beginning inventory in units + purchases in units in a given period.

WAC per unit = Cost of Goods AvailableUnits Available

Periodic and Perpetual Inventory Systems and Their Effect on WAC

When managing inventory and determining the cost of goods sold, businesses typically use one of two systems: periodic or perpetual. Let's look at each system and how it affects the weighted average inventory cost.

Periodic Inventory System

In a periodic inventory system, you conduct an ending inventory count for a specific period, such as a month or a quarter. After determining the ending inventory quantity, you can apply product costs to calculate the ending inventory cost.

The periodic system provides a snapshot of inventory levels and costs at specific intervals rather than real-time data.

Related Read: Inventory Reconciliation 101: How To Reconcile Inventory in 5 Steps

Perpetual Inventory System

A perpetual inventory system keeps a continuous record of inventories and COGS throughout a given period. This system updates inventory levels and costs in real time whenever a transaction occurs, such as a sale or a purchase.

The perpetual system offers more timely and accurate information about inventory levels and costs than the periodic system. However, implementing and maintaining a perpetual inventory system can be more expensive, as it requires sophisticated technology and regular WAC updates.

Example of the WAC Inventory Method in Action

Let's consider a real-world scenario to better understand how the weighted average cost (WAC) inventory method works in a grocery store setting.

Scenario:

Imagine a local organic grocery store that sells meat and cheese by the pound at their in-house deli. At the beginning of the store's fiscal year on January 1, they reported a beginning inventory of 50 pounds of premium cheddar cheese for $20 per pound. 

Over the first quarter, the store made the following purchases:

• On January 20, they purchased 50 pounds of cheddar cheese at $22 per pound, totaling $1,100.
• On February 12, they purchased another 50 pounds of cheddar cheese for $21 per pound, totaling $1,050.
• On March 3, they purchased 25 pounds of cheddar cheese at $25 per pound, totaling $625.

In addition to these purchases, the store made the following sales:

• At the end of February, they sold 25 pounds of cheddar cheese.
• At the end of March, they sold 30 pounds of cheddar cheese.

To calculate the WAC of the cheddar cheese inventory, we first determine the total cost and quantity of cheese available for sale:

• Beginning inventory: 50 pounds at $20 per pound = $1,000
• January purchase: 50 pounds at $22 per pound = $1,100
• February purchase: 50 pounds at $21 per pound = $1,050
• March purchase: 25 pounds at $25 per pound = $625
• Total cost: $1,000 + $1,100 + $1,050 + $625 = $3,775
• Total quantity: 50 + 50 + 50 + 25 = 175 pounds

Calculate WAC by dividing the total cost by the total quantity:

WAC = $3,775 ÷ 175 pounds = $21.57 per pound

This means that under the WAC inventory method, each pound of cheddar cheese sold would cost $21.57, regardless of the actual purchase price of that specific batch. 

Example Scenario Using Periodic Inventory System in the WAC Method 

Now, Let’s examine a WAC calculation in a periodic inventory system. We’ll use the same numbers as the previous example, resulting in a figure of total units available for sale in quarter one being 175 pounds. 

Using the WAC formula, we calculated the weighted average cost per pound of cheddar cheese:

• WAC per pound = ($1,000 + $1,100 + $1,050 + $625) ÷ 175 pounds
• WAC per pound = $3,775 ÷ 175 = $21.57 per pound
  
  

Related Read: How to Increase Inventory Turnover: 6 Ways to Optimize Your Inventory

Now, let's calculate the COGS based on the sales made in Q1. The previous example shows that the store sold 25 pounds of cheddar cheese at the end of February and 30 pounds at the end of March, totaling 55 pounds sold in Q1.

• COGS = WAC per pound × Total units sold
• COGS = $21.57 × 55 pounds = $1,186.35

To determine the ending inventory value, we use the following formula:

• Ending inventory value = Beginning inventory cost + Total purchase cost - COGS
• Ending inventory value = $1,000 + $1,100 + $1,050 + $625 - $1,186.35
• Ending inventory value = $3,775 - $1,186.35 = $2,588.65

Therefore, using the periodic inventory system and the WAC method, the organic grocery store's cheddar cheese inventory at the end of the first quarter would have an inventory value of $2,588.65.

We see how the periodic inventory system and the WAC method can work together to help you accurately determine COGS and ending inventory value.

Example Scenario Using Perpetual Inventory System in the WAC Method 

Let's apply the perpetual inventory system to the organic grocery store's cheddar cheese inventory. In this system, we need to determine the weighted average cost before each unit sale.

As a reminder, before the sale of 25 pounds of cheddar cheese at the end of February, the WAC would be:

• Beginning inventory: 50 pounds at $20 per pound = $1,000
• January 20 purchase: 50 pounds at $22 per pound = $1,100
• February 12 purchase: 50 pounds at $21 per pound = $1,050
• TOTAL: $1,000 + $1,100 + $1,050 = $3,150

Divided by pounds available for sale (50 + 50 + 50 = 150)

WAC per pound = $3,150 ÷ 150 = $21 per pound

The costs for the sale of 25 pounds of cheddar cheese at the end of February would be distributed as follows:

• COGS = 25 pounds sold × $21 WAC per pound = $525
• Remaining inventory value = $3,150 (cost of goods available for sale) - $525 (COGS) = $2,625

Now, let's move on to the March 3 purchase and the sale at the end of March:

• Remaining inventory value after February sale: $2,625
• March 3 purchase: 25 pounds at $25 per pound = $625
• Updated WAC per pound = ($2,625 + $625) ÷ (125 pounds remaining + 25 pounds purchased) = $3,250 ÷ 150 pounds = $21.67 per pound

For the sale of 30 pounds of cheddar cheese at the end of March, the costs would be:

• COGS = 30 pounds sold × $21.67 WAC per pound = $650.10
• Ending inventory value = $3,250 (cost of goods available for sale) - $650.10 (COGS) = $2,599.90

In this example, using the perpetual inventory system and the WAC method, the grocery store's cheddar cheese inventory would have a COGS of $525 for February and $650.10 for March. The ending inventory value at the end of the quarter would be $2,599.90.

Using a Modern POS System To Handle Weighted Average Inventory

Let's face it: managing inventory using the weighted average cost (WAC) method, or any inventory valuation method, involves lots of math and data tracking. 

While handling these calculations manually using a spreadsheet is possible, it leaves room for error. It can be incredibly time-consuming, taking your focus away from what really matters: managing your business.

This is where a modern point of sale (POS) system can be a game-changer. To effectively calculate WAC, you need a POS capable of recording all the necessary data points, including purchase prices, quantities, and dates.

Enter: POS Nation. Our top-tier tool offers comprehensive reporting and analytics capabilities that make calculating WAC (or any other inventory valuation measure) a breeze. Our system seamlessly tracks all the data you need, ensuring accuracy and saving you valuable time.

With POS Nation, you can:

• Access detailed purchase and sales data, including prices, quantities, and dates.
• Generate reports that provide real-time insights into your inventory valuation and performance.
• Make informed, data-driven decisions about your inventory management strategies.
• Streamline your processes and reduce the risk of errors associated with manual calculations.
• Focus on growing your business, knowing your inventory valuation is efficient and accurate.

Don't let manual calculations or limited POS capabilities keep you from effectively managing your inventory. Schedule a demo with POS Nation today and see firsthand how our powerful reporting, analytics, and inventory management features can transform your business.