Understanding QuickBooks Inventory Cost
If you are using QuickBooks to manage your inventory, you need to understand how QuickBooks deals with the cost of inventory items. I’ve been answering a lot of questions about this in the Intuit Community Forums lately, so here is a quick rundown of how things work.
Cost Fields in QuickBooks
If you look at an Inventory Part item, you will see that there are two cost fields.
The cost field, on the left, is a “reference” field. That is, it doesn’t have any direct bearing on the valuation of your inventory, the cost of your inventory in your inventory asset account. I wish they had another name, because it is confusing to talk about it. I refer to this as the “last purchased cost”, although that isn’t always exactly right. If you purchase an item and receive a bill for it, the cost that you receive the item at will usually be stored here (but not always, that depends on how your company file is set up). You can edit this cost directly in this window, it doesn’t have a direct effect on your inventory valuation.
The avg cost field, bottom center, is the field that is used in the calculation of the value of your inventory. This is calculated by QuickBooks based on the cost of receipt (and adjustment) transactions. You cannot directly edit this in the window here.
Inventory Valuation
QuickBooks values your inventory using an average costing calculation, as opposed to other types you may be familiar with, such as LIFO, FIFO, or specific costing. If you need another costing method, you will have to use a third party addon program that manages inventory outside of QuickBooks.
This can be a complicated subject – I am only going to go into this lightly. Let’s look at a simple example.
- If start with an item with no quantity, no value, and receive a quantity of 10 at $1.00 each, you will see that the cost is $1.00, and the avg cost is also $1.00. You have $10.00 of inventory in your inventory asset account.
- If I then receive another 10 items, but at a unit cost of $2.00, you will usually see the cost value set to be $2.00. However, the avg cost of your inventory will show as $1.50. We started with 10 items and a value of $10.00, we added another 10 items at a value of $20.00, so we have 20 items with a value of $30.00. That gives us an average cost of $1.50.
If you sell one of these items in an invoice, the COGS account is incremented by the average cost of the item at the time of the sale.
This is a simple example. There are long arguments about the costing calculation that QuickBooks uses – relating to the more complicated situations when you have many added transactions, and other complicated situations.
One thing that I will note, briefly – if you sell all your inventory, and then continue to sell the item so that you go to a negative quantity, the costing calculation runs into problems. It can’t accurately account for a negative balance, and you can see some very odd figures show up in the average cost field, and your inventory valuation reports. Once you bring the balances back to positive these figures should resolve themselves, but it is always a good idea to not allow inventory balances to go negative.
Manufacturing Cost
When you are working with an Inventory Assembly item you have an additional cost field – the Total Bill of Materials Cost. See my article on Understanding the Total Bill Of Materials Cost.
Related posts:
Category: Manufacturing and Inventory, Working with QuickBooks
About the Author (Author Profile)
Charlie Russell is the founder of CCRSoftware. He’s been involved with the small business software industry since the mid 70′s, and remembers releasing his first commercial accounting software product when you had a one-floppy disk drive system, loading the program from one floppy and then replacing that with the other floppy to hold the data. He has a special interest in inventory and manufacturing software for small businesses. Charlie is a Certified Advanced QuickBooks ProAdvisor and participates extensively in the QuickBooks Community user forums under the ID of CCRussell. Visit his CCRSoftware web site for information about his QuickBooks add-on products. Charlie can be reached at charlie.russell@sleeter.com
He is also the author of the California Wildflower Hikes blog and a regular blog contributor to the Intuit Inner Circle.
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- QuickBooks 2012 FIFO Inventory : QuickBooks and Beyond | September 9, 2011
Hi Charlie,
I am looking at my company file that has has been selling invertory and not booking any receipt of items. All the inventory is current showing negative balances. In the P&L the COGS is 4 time the sales figure. I am trying to record the receipt of itmes for the first time. I am not an account so forgive if I am using the wrong wording.
If I record all my billes for inventory purchased, would this fix the problem in the P&L?
If that wont work, do I need to recreat the inventory items so that a more accurate average cost figure would affect the P&L and BS?
How do I fix my problem?
Barry, it is hard to give a specific answer without seeing your file, and knowing a lot more about your situation. In a very general sense, if you went back and entered all the purchases/receipts, that should resolve things. However, it does depend on how long a time this has been going on, how much work that entails, what you did as far as entering the expenditures for those item purchases (assuming you have been entering the checks you wrote?), and more. You may want to work with a qualified consultant who can look at your situation and work out a plan with you. And, then, you have to work out a solution that will keep this from happening again as you move forward.
Charlie -
I am having the same inventory problem with a client as Barry is having.
Their system was set up before I got to them, and we have been trying to make it work for the purposes they need. They mainly wanted to be sure that everything (office furniture) that they were buying was getting invoiced when sold so that nothing was falling thru the cracks. These were big items and were only supposed to be used once – from PO to bill to invoice everything was supposed to flow through the system. Then things got crazy and the items were being re-used without being “purchased” back into stock. QB was average costing and then the P&L looked like Barry’s. I noticed in the item listing that I had some negative “quantities on hand” since we were selling and not purchasing, so I did an inventory adjustment to COGS as a test and zeroed out those negatives on the items that I knew were complete. Will this give a more accurate reading in the COGS on the P&L?
Cheryl, hard to say without having hands on the file. COGS postings going forward are going to be based on the average cost you have for the items at the time of the sale. If you did just a “quantity” adjustment, that doesn’t change the average cost, and I can’t tell if the average cost going forward is going to be accurate or not. If you did a “quantity and value” adjustment, then you have reset the average cost to some value – if that is a correct value, then you are OK going forward (but I can’t tell if your COGS valuation will be right in the past). There are a bunch of things interacting here so it is not possible for me to say if you have it set up right or not.
And, going forward, it is only accurate if the client changes their ways and moves materials through the system correctly. If they continue to make the same mistakes as before, the problem comes back.