There are many methods of inventory valuation, and one of the most important methods is the weighted average cost, wac method, which is one of the inventory control methods that companies use in inventory operations in order to reach the cost of inventory, depending on the average price per unit of this inventory, and in this article we will show you all the details you need to know about the wac method, as well as its mathematical formula.
What is Weighted Average Cost (WAC)?
Weighted average cost or wac method is one of the evaluation methods companies use to find the average cost of each item.
The wac method calculations are based on the average price per unit, and we will explain this through its mathematical formula.
In it, all items purchased by the company during the accounting period are included, and they are used in the periodic inventory management system, which is the inventory that is conducted once at the end of the financial year.
Main advantages of wac method
The wac method has a lot of ways that distinguish it from other methods, and here are the main advantages that the Weighted Average Cost method offers you:
- Simplicity and ease of handling and use.
- Suitable for companies dealing with goods of equal importance.
- Fit economic units that are characterized by the relative stability of price levels during the period.
- Setting a standard unit cost contributes to stable profits even when inventory costs fluctuate.
Weighted Average Cost (WAC) Method Formula
The weighted average cost or wac method has a specific formula in which to calculate the average cost per unit price.
Here is the formula for the wac method:
- Weighted average cost = Costs of goods available for sale / Units available for sale
- Costs of goods available for sale means the starting value of the inventory plus the value of purchases.
- As for Units available for sale, they are all the units that the company can sell or the total units in inventory, which is calculated by summing both beginning inventory in units and purchases in units.
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Understanding Costs of Goods Available for Sale
The cost of goods available for sale is the bundling of costs, since the costs of goods available for sale are allocated to one of the following two divisions, where:
- Or ending inventory.
The allocation of the costs of available goods is referred to assuming the cost flow.
And there are many cost flow assumptions, including the weighted average cost or wac method, in addition to other assumptions such as:
- First-in, first-out (FIFO).
- Last-in, first-out (LIFO).
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The WAC Method under Periodic and Perpetual Inventory Systems
By using the wac method we can get more than one different allocation of inventory costs, under both periodic and perpetual inventory systems.
For a periodic inventory system, the company takes stock of the final inventory and applies costs for the product to determine the cost of the final inventory.
Then it can determine costs of goods sold by combining both the ending inventory and the cost of beginning inventory and purchases throughout the period.
As for the perpetual inventory system, we find that it helps in continuous tracking of inventory and costs of goods sold, and it also provides the company with timely information to manage inventory levels.
And this method of tracking inventory for the company is more expensive than the tracking method used in the periodic inventory system
Example of the WAC Method
To clarify what is meant by the weighted average cost or wac method, we will need to take an applied example to show how the weighted average cost formula works.
Assume that the total cost of all inventory is €116,000, of which €33,000 is for the initial inventory and €83,000 is for the purchased inventory.
The total units of inventory were 450 units, of which 150 were initially stock with an addition of 300 units purchased.
Thus, the weighted average cost (wac method) using the given formula is €257.8.