How to Calculate Closing Inventory: Methods and Examples

Let’s take a proper look at what closing inventory means, why it’s so crucial, and how you can calculate it using the different methods.

Every business that sells products — whether you’re running a local retail store, a café, or an online shop — needs to keep track of what’s left on the shelves at the end of an accounting period. That number is called your closing inventory, and it’s one of the most important figures on your balance sheet.

Getting it right matters. Your closing inventory affects your profit, taxable income, and how healthy your business looks on paper. Overstate it, and your profits might look inflated. Understate it, and you might think you’re losing money when you’re not.

What Is Closing Inventory?

Closing inventory (or closing stock) is the total value of goods a business still has on hand at the end of a specific accounting period — usually monthly, quarterly, or annually.

It includes everything from finished goods ready to sell, to work-in-progress (WIP), and raw materials that haven’t yet been turned into products.

In simple terms:

Closing Inventory = The stock you have left at the end of the period.

And it forms part of this basic accounting equation:

Opening Inventory + Purchases – Cost of Goods Sold (COGS) = Closing Inventory

This formula helps you track how much stock you started with, how much you bought or produced, how much you sold, and what’s left.

Why Closing Inventory Matters

For most Australian businesses, closing inventory isn’t just an accounting number — it plays a role in everything from tax reporting to cash flow. Here’s why it matters:

1. Determines Gross Profit:

Your cost of goods sold depends directly on your closing inventory. A higher closing stock lowers your COGS, which increases profit — and vice versa.

2. Affects Tax Liabilities:

Since profit is tied to your closing stock, inaccurate figures can lead to over- or under-paying tax.

3. Shows Business Health:

Inventory levels help investors or lenders understand how efficiently a business operates. Too much unsold stock might suggest overproduction or poor demand forecasting.

4. Supports Better Decision-Making:

Knowing what’s left in stock helps you plan future purchases, manage cash flow, and avoid both stockouts and overstocking.

How to Calculate Closing Inventory — The Basic Formula

At its simplest, you can calculate closing inventory using:

Closing Inventory = Opening Inventory + Purchases – COGS

Let’s break that down:

• Opening Inventory: The value of goods you had at the start of the period.
• Purchases: All the new stock or materials you bought during the period.
• COGS (Cost of Goods Sold): The cost of goods that were actually sold during the period.

Example:

Say your small retail business had:

• Opening inventory: $25,000
• Purchases: $15,000
• COGS: $30,000

Then:

Closing Inventory = 25,000 + 15,000 – 30,000 = $10,000

That $10,000 represents the stock still sitting in your storeroom at the end of the period.

Physical Count vs. Book Value

To find your closing inventory, you can use two main approaches:

1. Physical Count:

Literally counting every item on hand and multiplying it by its unit cost. This gives a tangible, accurate figure but can be time-consuming.

2. Book Value (Perpetual System):

Using accounting or POS software that tracks stock movements continuously. Each time you buy or sell, the system updates your stock records automatically.

In practice, many Aussie retailers and cafés use a mix of both — automated tracking during the year, followed by a physical count at the end of the quarter or financial year to double-check accuracy.

What’s Included in the Cost of Goods

Your Cost of Goods Sold (COGS) includes every direct cost involved in getting your products ready for sale, not just the purchase price. This generally covers:

• Purchase or production cost – the amount paid to buy or make your goods.
• Freight and shipping (inbound) – transport costs to bring stock into your business.
• Import duties or insurance – costs related to bringing goods from overseas.
• Direct labour – wages for workers directly involved in making or preparing the goods.
• Factory or workshop overheads – power, equipment use, and space used in production.
• Packaging and handling – boxes, labels, and materials used to prepare goods for sale.
• Short-term storage costs – warehousing directly linked to goods awaiting sale.

If the cost occurs before the product is ready to sell, include it in COGS. If it occurs after (for example, marketing, admin wages, or customer delivery), treat it as an operating expense instead.

Different Methods of Calculating Closing Inventory

There’s more than one way to value your closing stock. The right method depends on your business type, accounting approach, and sometimes even the nature of your products. 

The four most common methods are:

1. FIFO (First In, First Out)
2. LIFO (Last In, First Out)
3. Weighted Average Cost
4. Retail Method

Let’s go through each one with examples.

1. FIFO (First In, First Out)

FIFO assumes the first goods you buy or produce are also the first ones you sell. So your closing stock consists of the most recently purchased or produced items.

This method reflects how most businesses operate in real life — especially those selling perishable goods like food, beverages, or pharmaceuticals.

Formula:

Closing Inventory (FIFO) = Latest purchase costs × Units remaining

Example:

Let’s say you run a homewares store.

During this period, you sold 220 units.

That means 80 units remain (300 total – 220 sold).

Under FIFO, those 80 units come from your most recent purchase ($14 per unit).

So, Closing Inventory = 80 × $14 = $1,120.

Pros of FIFO:

• Reflects actual product flow.
• Provides a realistic picture of inventory costs when prices rise.
• Often results in higher profit during inflation since older, cheaper goods are sold first.

Cons:

• Higher reported profits mean higher taxes.
• Not always ideal for volatile price environments.

2. LIFO (Last In, First Out)

LIFO assumes the most recently purchased goods are sold first, meaning the oldest stock stays in inventory.

It’s less common in Australia because LIFO isn’t allowed under ATO and IFRS accounting standards. However, it’s still useful to understand for comparison.

Example:

Using the same homewares data:

You sold 220 units, meaning 80 remain.

Under LIFO, you sold the most recent stock first — meaning the 80 remaining units are from your oldest batch ($10 per unit).

So, Closing Inventory = 80 × $10 = $800.

Key Takeaway:

While LIFO can reduce tax obligations in inflationary times (by showing higher COGS), it’s not accepted for financial reporting in Australia, so FIFO or Weighted Average are your go-tos.

3. Weighted Average Cost (WAC)

The Weighted Average Cost method smooths out price fluctuations by averaging all the costs of goods available during the period.

It’s ideal for businesses dealing with large volumes of similar products — like fuel, grains, or manufactured parts — where tracking individual costs is too complex.

Formula:

Weighted Average Cost per Unit = (Cost of Opening Inventory + Cost of Purchases) ÷ (Units Available for Sale)

Then,

Closing Inventory = Weighted Average Cost × Units Remaining

Example:

Suppose you sell stationery.So: 

Total cost = (200×5) + (300×6) + (500×7) = 1000 + 1800 + 3500 = $6,300
Total units = 1,000

Average cost per unit = $6.30

If you sold 700 units, you have 300 left.

So, Closing Inventory = 300 × $6.30 = $1,890.

Advantages:

• Simple and consistent.
• Minimises the impact of price swings.
• Compliant with Australian accounting standards.

Disadvantages:

• Doesn’t reflect current market value precisely.
• Can understate or overstate profit when prices move sharply.

4. Retail Method

This approach estimates the closing stock’s cost based on your sales and markup percentage — handy for large retailers with huge product ranges.

It’s quick and practical when it’s not feasible to count every single item manually.

Formula:

Closing Inventory = Cost of Goods Available for Sale – (Sales × Cost-to-Retail Ratio)

Example:

Let’s say your clothing store had:

• Opening stock at cost: $40,000
• Purchases: $60,000
• Total sales: $90,000
• Average markup: 50% (meaning cost-to-retail ratio is 100 / 150 = 0.67)

Then:

• Cost of goods available for sale = $40,000 + $60,000 = $100,000
• Estimated cost of goods sold = $90,000 × 0.67 = $60,300

So, Closing Inventory = $100,000 – $60,300 = $39,700.

When to Use It:

The retail method works well for large chain stores or supermarkets where physical counting every month isn’t practical.

Additional Ways to Estimate Closing Inventory

Sometimes, you might need to estimate your closing stock — for example, if there’s been a fire, theft, or you’re waiting on a physical count. Here are two common ways:

1. Gross Profit Method

This method uses your historical gross profit margin to estimate closing stock.

Formula:

Closing Inventory = Cost of Goods Available for Sale – Estimated COGS

And

Estimated COGS = Net Sales × (1 – Gross Profit Margin)

Example:

If your gross profit margin is 40%, and your net sales are $150,000,
then COGS = 150,000 × (1 – 0.4) = 90,000.

If cost of goods available = $120,000,
then Closing Inventory = 120,000 – 90,000 = $30,000.

This method gives you a fairly quick estimate but should be verified later with a proper count.

2. Net Realisable Value (NRV) Method

For damaged, obsolete, or slow-moving stock, it’s better to value it at what you could realistically sell it for (less any costs to complete or sell).

Formula:

NRV = Estimated Selling Price – Selling Costs

If your product’s market value drops below cost, you record it at NRV to avoid overstating assets.

Example:

If an old batch of electronics originally cost $500 each but can now only sell for $400 after $20 selling costs,
then NRV = 400 – 20 = $380.

So, each unit’s value in closing inventory should be $380, not $500.

Common Mistakes When Calculating Closing Inventory

Even experienced business owners can slip up when handling stock valuation. Here are some pitfalls to watch for:

1. Not Counting Damaged or Obsolete Stock Properly:

Overstating your usable inventory inflates profits. Always separate damaged or outdated goods and value them realistically.

2. Mixing Up Cost and Selling Price:

Remember — closing inventory is valued at cost, not the price you sell it for.

3. Ignoring Freight or Additional Costs:

Include all costs necessary to bring the goods to their current condition — shipping, customs, handling, etc.

4. Inconsistent Methods:

Switching between FIFO, WAC, or retail method can confuse your financials. Pick one consistent method and stick with it.

5. Forgetting Returns or Discounts:

Any purchase returns or trade discounts should be deducted before valuing closing stock.

Practical Tips for Aussie Businesses

Whether you run a local boutique or a multi-store operation, here are some down-to-earth tips to make closing inventory simpler and more accurate:

• Use a Good POS or Accounting System:

Tools like Xero, MYOB, or POSApt (for retail and hospitality) can automatically track stock movements and generate accurate inventory reports.

• Do Regular Stocktakes:

A quarterly count helps catch errors before the end of financial year chaos sets in.

• Label and Organise Stock:

Clear labelling by batch or purchase date helps with FIFO tracking and prevents mix-ups.

• Keep Purchase Records Handy:

Having invoices easily accessible helps verify costs quickly when valuing closing stock.

• Adjust for Shrinkage:

Theft, spoilage, or loss happen — record them as part of your stock reconciliation to keep numbers real.

Bringing It All Together

Here’s a simple way to summarise the process:

1. Start with what you had (opening stock).

2. Add what you bought or made (purchases/production).

3. Subtract what you sold (COGS).

4. Choose your valuation method (FIFO, WAC, Retail, etc.).

5. Adjust for damage or price drops.

6. Double-check with a physical count.

That final figure is your closing inventory — a key piece in your financial puzzle.

Final Thoughts

Calculating closing inventory isn’t just a bookkeeping chore — it’s a window into how your business is performing. It shows whether you’re managing stock efficiently, pricing correctly, and keeping profits in check.

Whether you prefer a hands-on approach with physical stocktakes or rely on a smart POS system that updates automatically, accuracy is everything.

The method you choose — FIFO, Weighted Average, or Retail — depends on your business type, but consistency is key. Use it regularly, review your numbers, and your balance sheet will tell an honest, healthy story about your business.

In the end, understanding how to calculate closing inventory means you’ll always know what’s sitting on your shelves, what it’s worth, and how it’s shaping your bottom line. That’s the kind of clarity every Aussie business owner deserves.