For an inventory item, average cost is the total cost of the items currently in stock divided by the number of items in stock. You can set up QuickBooks to use average cost or FIFO to determine the value of your inventory.
Note: FIFO is only available with QuickBooks Enterprise Solutions Advanced Inventory.
QuickBooks recalculates the average cost of an item every time you record the purchase of more units of the item. It adds the cost of the new items to the cost of the old stock and then divides by the total number of new and old items.
You originally bought 100 T-shirts at $5.00 each. When you have 10 shirts left in stock, you order 100 more shirts, but the price has gone up to $6.00 each. Here’s how QuickBooks calculates the average cost:
The cost of your old stock is $50 (10 shirts x $5.00).
The cost of the new inventory is $600 (100 shirts x $6.00).
The combined cost of the old and new inventory is $650.
The average cost of your entire inventory is $5.91 ($650/110 shirts).