What is average inventory (short answer)
Average inventory estimates how much stock—either finished goods ready for sale or raw materials held to make those goods—a business keeps on hand over a chosen span of time. It smooths inventory values so you can compare the typical inventory level to sales, detect losses (theft, breakage, shrinkage), or monitor perishable items that expire.
Key definitions
– Inventory: the value of goods a company holds for sale or the raw inputs used to make those goods.
– Average inventory: the arithmetic average of inventory values taken at two or more specific points in time.
– Moving average inventory: an average recalculated continuously using a perpetual inventory system, typically updating item values based on the most recent purchases.
Why use average inventory
– Two inventory counts (start and end) can miss intra-period swings. Using more points (e.g., monthly counts) gives a truer picture of inventory behavior.
– Average inventory is an input to ratio analysis (for example, inventory turnover), letting you relate inventory to sales or cost of goods sold.
Formula and how to calculate (step‑by‑step)
General formula:
Average Inventory = (Sum of inventory values at chosen points) / (Number of points)
Steps
1. Decide the period and sampling frequency (e.g., fiscal year using monthly counts).
2. Gather inventory values for each chosen point (e.g., start of period and each month-end).
3. Add those inventory values together.
4. Divide by the number of points you used.
Checklist before you calculate
– Choose a time frame (monthly, quarterly, yearly).
– Decide how many points you will sample; more points = smoother average.
– Use consistent valuation method (e.g., FIFO, LIFO, weighted average) across points.
– Include beginning inventory if you want a full-year perspective; document any inventory adjustments (write-downs, shrinkage, spoilage).
– For perpetual systems, consider using a moving average method to reflect current purchase prices.
Short note on moving averages
If you run a perpetual inventory system (real-time tracking), you can compute a moving average for each item by updating the item’s average cost each time you buy more. That converts historical prices to a more current basis and can make comparisons between volatile-priced items easier.
Worked numeric example (shoe company)
Situation: A shoe retailer looks at inventory for four measurement points: three prior months and the current month. The inventory values are:
– Month -3: $9,000
– Month -2: $8,500
– Month -1: $12,000
– Current month: $10,000
Calculation:
1. Sum the inventory values: 9,000 + 8,500 + 12,000 + 10,000 = 39,500
2. Divide by number of points (4): 39,500 / 4 = 9,875
Result: The average inventory over the four points is $9,875.
Practical notes and assumptions
– Using only beginning and ending values gives a simple average but may miss intra-period variability.
– If you include the beginning plus each month-end for a 12-month fiscal year you may use 13 data points (beginning + 12 month-ends) for a fuller picture.
– Ensure the inventory valuation method and any write-downs are applied consistently across your sampled points.
Further reading (reputable sources)
– Investopedia — Average Inventory: https://www.investopedia.com/terms/a/average-inventory.asp
– Corporate Finance Institute — Average Inventory: https://corporatefinanceinstitute.com/resources/knowledge/accounting/average-inventory/
– IFRS Foundation — IAS 2 Inventories: https://www.ifrs.org/issued-standards/list-of-standards/ias-2-inventories/
– U.S. Securities and Exchange Commission — Inventory: https://www.sec.gov/answers/inventory.htm
Educational disclaimer
This explainer is for educational purposes only and is not individualized investment or accounting advice. For decisions that affect financial statements, taxes, or trading, consult a qualified accountant, financial professional, or relevant regulator.