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Weighted-Average Cost

The weighted average cost method calculates the cost of goods sold based on, as the name suggests, the weighted average cost of goods available for sale during the period. We call this system ‘weighted’ because it takes into account the different volume of goods purchased at each price level.

Weighted-Average Cost 

Consider a company that has the following purchases over the course of the year. The company also has 200 units in beginning inventory, each valued at $10.50, and 250 units in ending inventory. 

In order to find the cost of the ending inventory, we would add together the cost of are purchases for the year, as well as our beginning inventory, and divide this number by our total units. 

The weighted average cost per unit is equal to the total cost divided by the total number of units available for sale. The ending inventory is equal to the # of units in ending inventory multiplied by the weighted average cost per unit. 

We can then calculate cost of goods sold by subtracting our value for ending inventory from our total purchases plus beginning inventory. 

Moving-Average Cost 

When the weighted average cost method is used for a perpetual inventory system, we call this the moving average cost method. Under this method, inventory records are kept in both units and dollars. A new average unit cost is calculated each time a purchase is made because the cost of goods sold at average cost has to be recognized at the time of each sale. 

Consider the above example. We can expand the table to show the number of units and the moving average cost per unit in the balance column. 

When we make a purchase, the purchase price informs a new moving average cost for the units of inventory we have on hand (in the balance column). We calculate the new moving average cost after each purchase using the following formula:

In our example above, we would calculate the new moving average cost after our January 1st purchase by adding the total cost of our purchase to the inventory balance and dividing by the total number of units on hand. 

The moving average cost only changes when purchases are made. It does not change when sales are made. However, sales change the total number of units available in our balance column. Since the average is a weighted average, the total number of units available affects how our previous costs are weighted when calculating our moving average each time a purchase is made. Therefore, the moving average cannot be calculated without keeping track of both purchases and sales together. 

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