Average Costing for Product Pricing

What Does Average Costing Means ?

Average cost is the cost referred to as unit cost or weighted average cost. Average cost is either average cost of inventory or the average cost of units manufactured. These two types are similar in nature. A retailer will use the weighted average inventory method to calculate the average cost of his purchased inventory, while the manufacturer will use average unit manufacturing equation to calculate the average cost of produced inventory.

Average cost is the cost referred to as unit cost or weighted average cost. Average cost is either average cost of inventory or the average cost of units manufactured. These two types are similar in nature. A retailer will use the weighted average inventory method to calculate the average cost of his purchased inventory, while the manufacturer will use average unit manufacturing equation to calculate the average cost of produced inventory.

Valuing the average cost of all goods stocked to know the cost of goods sold along with ending inventory is Average cost. It’s very important to know the average cost for taking correct pricing decisions else pricing below average cost will end up in financial losses. At the end of an accounting period to determine the cost of goods in an inventory, the average cost stock valuation method is used. The weighted average cost of all units available for sale is taken to determine the value of cost of goods sold and ending inventory in a company. Accounting techniques like FIFO, LIFO and AVCO are used in stock valuation to manage stock and inventory finances of a company. They help companies manage cost flow assumptions related to stock and repurchases along with determining the value of available stock.

When new product is purchased the average cost is recomputed, but the average cost does not change when a product is sold. When buying products average cost price is used when same product is purchased multiple times over a period of time. This is necessary if purchase were of different numbers, as the larger purchases with varying price contribute more to the average.

For example, the mathematical average of 70sr and 80sr is 75sr, but if you buy 10 number at 70sr and only 1 for 80sr. The lower priced but more number carry more weight when calculating the average price.

How to Calculate Average Cost ?

To calculate average cost, the following formula can be used:Average cost = (First price x Total number) + (Second price x Total number)/ Grand Total
In order to calculate average cost you multiply each price you paid for the number of product you bought at that price. Then add up all of these results to finally divide by the grand total of products you purchased. Knowing the average price you paid for each product will help you in determining the overall costing of your inventory.