3.

02 Key Terms

Term Definition
Total dollar amount collected for goods and services
Sales
provided
The direct costs attributable to the production of the goods
Cost of Goods Sold
sold by a company
Gross profit Amount of revenue from sales less the cost of goods
Merchandise inventory determined by counting, weighing, or
Periodic inventory
measuring items of merchandise on hand
Merchandise inventory determined by keeping a continuous
Perpetual inventory
record of increases, decreases, and balance on hand
Gross profit method of Estimating inventory by using the previous year’s percentage
estimating an inventory of gross profit on operations
Retail method of Used by retailers who maintain merchandise records in both
estimating inventory cost cost and retail prices
Interim period A period of time less than a year; usually quarterly
Departmental Statement
A statement showing gross profit for each department
of Gross Profit
The percentage relationship between one financial statement
Component percentage
item and the total that includes that item
Departmental/Contribution A statement that reports departmental margin for a specific
Margin Statement department
A columnar accounting form used to summarize the general
Worksheet
ledger information needed to prepare financial statements
A proof of the equality of debits and credits in a general
Trial balance
ledger
Amount added to or subtracted from an account to bring its
Adjustment
balance up to date
Departmental Income An income statement prepared for each department of a
Statement column departmentalized business
 3.02 Inventory Formulas and Definitions
To compute Gross Profit:

Cost of
Gross
= Sales - Goods
Profit
Sold

To compute Cost of Goods Sold:

Cost of
Beginning Net Ending
Goods = + -
Inventory Purchases Inventory
Sold

Beginning Inventory and Net Purchases can be found on the financial statements.
Ending Inventory, however, often needs to be calculated. Once Ending Inventory has
been calculated, it can be substituted into the formula above to calculate Gross Profit.

1. Periodic Inventory
a. Also called a Physical Inventory
b. Determined by counting, weighing, or measuring items of merchandise
on hand
c. For companies with large inventories, taking a physical inventory is very
costly.
2. Perpetual Inventory
a. Determined by keeping a continuous record of increases, decreases,
and balance on hand.
b. A physical, periodic inventory is often conducted once a year to verify
the accuracy of perpetual inventory records.
 3.02 Steps to Calculate Ending Inventory Using the Gross
Profit Method
This method uses the percentage of gross profit to estimate the cost of the ending
inventory for interim financial statements, or in situations where an ending inventory
cannot be obtained (usually because of fire or theft).

Gross Profit Method of Valuing Inventory

Beginning Inventory, Jan 1 $
1

Plus: Net Purchases to Date +

2

Equals: Merchandise Available for Sale $

3

Net Sales to Date $

4

Less: Estimated Gross Profit -

5
(Net Sales x Estimated Gross Profit ____)
Less: Estimated Cost of Merchandise Sold -
6
(Net Sales to Date Less Estimated Gross Profit)
Equals: Estimated Ending Inventory $
7

To Calculate Ending Inventory under the GP Method:

1. List _________________________________________.

2. Determine ____________________________________.

3. Calculate _____________________________________.

4. Determine ____________________________________.

5. Calculate _____________________________________.

6. Calculate _________________________________________________________.

7. Calculate _____________________________________.
 3.02 Steps to Calculate Ending Inventory Using the Gross
Profit Method

This method uses the percentage of gross profit to estimate the cost of the ending
inventory for interim financial statements, or in situations where an ending inventory
cannot be obtained (usually because of fire or theft).

Gross Profit Method of Valuing Inventory

Beginning Inventory, Jan 1 $
1

Plus: Net Purchases to Date +

2

Equals: Merchandise Available for Sale $

3

Net Sales to Date $

4

Less: Estimated Gross Profit -

5
(Net Sales x Estimated Gross Profit ____)
Less: Estimated Cost of Merchandise Sold -
6
(Net Sales to Date Less Estimated Gross Profit)
Equals: Estimated Ending Inventory $
7

To calculate ending inventory using the GP Method:

1. List beginning inventory.

2. Determine net purchases.

3. Calculate Merchandise Available for Sale.

4. Determine net sales.

5. Calculate estimated gross profit (use GP% average from prior years).

6. Calculate the estimated cost of merchandise sold.

7. Calculate Estimated Ending Inventory.

 3.02 Steps to Calculate Ending Inventory Using the Retail
Method
This method is used widely by retail businesses, especially department stores, to
estimate the cost of inventory during interim periods or because of theft, fire, or flood.

Retail Method of Valuing Inventory

At Cost At Retail

Beginning Inventory, Jan 1 $ $

1
Plus: Net Purchases to Date + +
2
Equals: Merchandise Available for Sale $ $
3
Cost ratio: Cost of Mdse Avail for Sale
Divided by Retail Mdse Avail for Sale = 4 _______%
%
Less: Net Retail Sales 5 -

Retail value of Ending Inventory 6 $

7
Estimated Cost of Ending Inventory $
Retail Value of Ending Inventory x _____ %

1. List ______________________________________________________________.

2. List the ___________________________________________________________

3. Calculate __________________________________________________________

_____________________________________________________________.

4. Calculate ________________________________________________________

_____________________________________________________________

5. Subtract ___________________________________________________

6. Determine ______________________________________________________

__________________________________________________________
 7. Determine _______________________________________________________

3.02 Steps to Calculate Ending Inventory Using the Retail

Method
This method is used widely by retail businesses, especially department stores, to
estimate the cost of inventory during interim periods, or because of theft, fire, or flood.
Retail Method of Valuing Inventory
At Cost At Retail

Beginning Inventory, Jan 1 $ $

1
Plus: Net Purchases to Date + +
2
Equals: Merchandise Available for Sale $ $
3
Cost ratio: Cost of Mdse Avail for Sale
Divided by Retail Mdse Avail for Sale = 4 _______%
%
Less: Net Retail Sales 5 -

Retail value of Ending Inventory 6 $

Estimated Cost of Ending Inventory 7 $

Retail Value of Ending Inventory x _____ %

1. List the beginning inventory at both cost and retail.

2. List the net purchases at both cost and retail.
3. Calculate merchandise available for sale by adding beginning inventory and
net purchases together.
4. Calculate the cost ratio by dividing merchandise available for sale – cost x
merchandise available for sale – retail. Enter the % in the box.
5. Subtract net retail sales.
6. Determine retail value of ending inventory by subtracting net retail sales
from merchandise available for sale – retail.
7. Determine cost value of ending inventory by multiplying the retail value of
ending inventory from #6 above by the cost ratio from #4 above.
 3.02 Preparing a Statement of Gross Profit With Component
Percentages
All That Jazz Music Store
Interim Departmental Statement of Gross Profit 1
For Month Ended September 30, 20xx

% of Net % of Net % of Net

Audio Video Total
Sales Sales Sales
Operating Revenue:
Net Sales $ 25,125.00 100% $ 18,551.00 100% $ 43,676.00 100%
2 Cost of Merchandise Sold
Est Mdse. Inv. September 1 $ 33,222.00 $ 21,211.00 $ 54,433.00
Net Purchases 12,123.00 8,511.00 $ 20,634.00
Mdse. Available for Sale $ 45,345.00 $ 29,722.00 $ 75,067.00
Less Est. End Inv September 30 27,221.00 25,123.00 $ 52,344.00
Cost of Merchandise Sold 18,124.00 72% $ 4,599.00 25% 22,723.00 52%

Gross Profit on Operations $ 7,001.00 28% $ 13,952.00 75% $ 20,953.00 48%

3 4 5
6 6 6

Steps to prepare a Statement of Gross Profit with Component Percentages:

1. Prepare the ___________________________________________________

___________________________________________________.

2. List _________________________________________________________.

NOTE: Glencoe uses the same Statement as above; however, instead of showing Net
Sales, Glencoe shows Sales Less Sales Returns and Allowances to arrive at Net Sales.
The same is done for the Cost of Merchandise Sold section. Refer to page 535 of the
Glencoe Manual for further explanation.

3. Enter _____________________________________________________________.

4. Enter _____________________________________________________________.

5. Calculate __________________________________________________________.

6. To calculate component percentages, ____________________________________.

a. ____________________________________________________________.

b. ____________________________________________________________.

c. ____________________________________________________________.
 3.02 Preparing a Statement of Gross Profit With Component
Percentages
All That Jazz Music Store
Interim Departmental Statement of Gross Profit 1
For Month Ended September 30, 20xx

% of Net % of Net % of Net

Audio Video Total
Sales Sales Sales
Operating Revenue:
Net Sales $ 25,125.00 100% $ 18,551.00 100% $ 43,676.00 100%
2 Cost of Merchandise Sold
Est Mdse. Inv. September 1 $ 33,222.00 $ 21,211.00 $ 54,433.00
Net Purchases 12,123.00 8,511.00 $ 20,634.00
Mdse. Available for Sale $ 45,345.00 $ 29,722.00 $ 75,067.00
Less Est. End Inv September 30 27,221.00 25,123.00 $ 52,344.00
Cost of Merchandise Sold 18,124.00 72% $ 4,599.00 25% 22,723.00 52%

Gross Profit on Operations $ 7,001.00 28% $ 13,952.00 75% $ 20,953.00 48%

3 4 5
6 6 6
Steps to prepare a Statement of Gross Profit with Component Percentages:

1. Prepare the heading to include company name, name of statement, and time
period for which statement has been prepared.

2. List statement categories.

NOTE: Glencoe uses the same Statement as above; however, instead of showing Net Sales,
Glencoe shows Sales, Less Sales Returns and Allowances to arrive at Net Sales. The same is
done for the Cost of Merchandise Sold section. Refer to page 535 of the Glencoe Manual for
further explanation.

3. Enter the appropriate amounts in the first department.

4. Enter the appropriate amounts in the second and subsequent departments.

5. Calculate the total amounts for each line item.

6. To calculate component percentages, Sales always equal 100%.

a. Divide Cost of Merchandise Sold by Sales to get the component

percentage.

b. Divide Gross Profit by Sales to get the component percentage.

c. Do the same for each department and for the total.

3.02 Steps to Prepare a Departmental Worksheet

Glencoe Southwestern
Refer to the Refer to the
Worksheet on pages Worksheet on pages
544-545. 102-103.

1. Procedures similar to Non-Departmental Companies:

a. Prepare the Worksheet Heading.
b. Prepare the Trial Balance columns and ensure they balance.
c. Calculate, post, total, and rule the adjustments.

2. Procedures New for Departmental Companies:

a. Extend the ___________________________________________________

_________________________________________________.

b. Extend the ____________________________________________________

_____________________________________________________________.

c. Extend the ____________________________________________________.

d. Total _________________________________________________________

(1) Total ____________________________________________________

__________________________________________________.

(2) Write ____________________________________________________

__________________________________________________.

e. Extend the _____________________________________________________

__________________________________________________________.

f. Total _________________________________________________________.

g. Calculate ___________________________________________________.
3.02 Steps to Prepare a Departmental Worksheet

Glencoe Southwestern
Refer to the Refer to the
Worksheet on pages Worksheet on pages
544-545. 102-103.

1. Procedures similar to Non-Departmental Companies:

a. Prepare the Worksheet Heading.
b. Prepare the Trial Balance columns and ensure they balance.
c. Calculate, post, total, and rule the adjustments.

2. Procedures New for Departmental Companies:

a. Extend the asset, liability, and stockholders equity trial balance amounts,

plus or minus the adjustments, to the Balance Sheet column.

b. Extend the income summary, revenue, cost, and direct expenses, plus or

minus the adjustments, into the appropriate Departmental Income

Statement column.

c. Extend the indirect expenses to the Income Statement Debit column.

d. Total and calculate the departmental margin for each department.

(1) Total and rule the Debit and Credit columns and then determine net

income (departmental margin) for each department.

(2) Write the Departmental Margin Totals in the appropriate Income

Statement Debit or Credit columns.

e. Extend the adjusted balance of Federal Income Tax Expense and record it

in the Income Statement Debit column.

f. Total the Income Statement and Balance Sheet columns.

g. Calculate Net Income.

3.02 Steps to Prepare a Departmental/Contribution Margin
Statement

All That Jazz Music Store

Departmental Margin Statement - Audio
For Month Ended September 30, 20xx

% of Net
Audio
Sales
Operating Revenue:
Net Sales $ 25,125.00 100% 1
Cost of Merchandise Sold
Est Mdse. Inv. September 1 $ 33,222.00
Net Purchases $ 12,123.00
Mdse. Available for Sale $ 45,345.00
Less Est. End Inv September 30 $ 27,221.00 2
Cost of Merchandise Sold $ 18,124.00 72%

Gross Profit on Operations $ 7,001.00 28% 3

Direct Expenses
Advertising Expense $ 214.00 4
Deprec. Exp - Store Equipment 350.00
Payroll Taxes Expense 750.00
Salary Expense 859.00
Supplies Expense 753.00
Total Direct Expenses 2,926.00 12%

5
Departmental Margin 4,075.00 16%

1. Determine ___________________________________________________

2. Determine ___________________________________________________

3. Calculate ____________________________________________________

4. Record ______________________________________________________

5. Calculate ____________________________________________________
3.02 Steps to Prepare a Departmental/Contribution Margin
Statement

% of Net
Audio
Sales
Operating Revenue:
Net Sales $ 25,125.00 100% 1
Cost of Merchandise Sold
Est Mdse. Inv. September 1 $ 33,222.00
Net Purchases $ 12,123.00
Mdse. Available for Sale $ 45,345.00
Less Est. End Inv September 30 $ 27,221.00
Cost of Merchandise Sold $ 18,124.00 72% 2

Gross Profit on Operations $ 7,001.00 28%

3
Direct Expenses
Advertising Expense $ 214.00
Deprec. Exp - Store Equipment 350.00 4
Payroll Taxes Expense 750.00
Salary Expense 859.00
Supplies Expense 753.00
Total Direct Expenses 2,926.00 12%

Departmental Margin 4,075.00 16% 5

1. Determine net sales for each department.

2. Determine cost of merchandise sold for each department.

3. Calculate gross profit.

4. Record direct expenses of the department.

5. Calculate the departmental margin.