RIFT VALLEY UNIVERSITY –BISHOFTU CAMPUS

DEPARTMENT OF ACCOUNTING AND FINANCE

ASSIGNMENT ON ADVANCED FINANCIAL ACCOUNTING
Cut-off date- May 10/05/2020
Part one – True or False section
Instruction: write True if the statement is correct and False if the statement is wrong on the space
provided on the answer sheet (0.5 mark each)
1. The investment in branch account on the books of the branch may be interpreted as an
owners' equity account, where the home office is the owner.
2. If the home office pays the freight associated with an inventory transfer to the branch, no
entry on the branch books is required.
3. The Investment in Branch account on the books of the home office represents the dollar
amount of the branch's debt owing to the home office.
4. A branch usually carries samples of products but does not have an inventory of merchandise.
5. An investment in branch account is credited for all merchandise, cash, or other assets
provided by the Home Office to branch. False
6. Investment in Branch is a non-current asset account, which is debited for cash, merchandise,
and services provided to the branch by the Home Office, and for net income reported by
the branch. True
Part II: Multiple Choice Items
Instruction: Choose the correct answer from the alternatives given and write the letter of the
correct answer in the space provided on answer sheet. (0.5 mark each)
__1. Which of the following generally is not a method of billing merchandise shipments by a
home office to a branch:
A. Billing at cost C. Billing at Retail or market value.
B. Billing at a percentage above cost. D. Billing at a percentage below cost
__2. A branch journal entry debiting home office account and crediting cash may be prepared
for:
A. The branch’s transmittal of cash to the home office only
B. The branch’s acquisition for cash of plant assets to be carried in the home office
accounting records only
C. Neither A nor B
D. Either A or B
__3. A journal entry debiting cash in transit and crediting investment in branch is required for:
A. The home office to record the mailing of a check to the branch early in the accounting
period
B. The branch to record the mailing of a check to the home office early in the accounting
period
C. The branch to record the mailing of a check to the home office on the last day of the
accounting period
D. The home office to record the mailing of a check to the branch on the last day of the
accounting period
E. None
__4. If the home office maintains accounts in its general ledger for a branch’s plant assets, the
branch debits the acquisition of office equipment to:

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 A. Office equipment
B. Payable to home office
C. Office equipment carried by home office
D. Home office account
E. None
__5. The appropriate journal entry in the accounting records of the home office to record a Br
100,000 cash remittance in transit from the branch at the end of the accounting period is:
A. Cash………………100,000
Cash in transit……………………..100,000
B. Cash………………………..100,000
Home office ……………………………..100,000
C. Cash in transit…………………….100,000
Cash ……………………………………..100,000
D. Cash in transit ………………100,000
Investment in branch…………………….100, 000
E. None
__6. ABC Corp. establishes a branch in a nearby town and transfers to the branch include cash
Br.65, 000, Office supplies Br.2, 000, and Furniture Br.23, 000. The entry to record this
transfer on the books of the branch would include:
A. A debit of Br.90, 000 to the Home Office account.
B. A credit of Br.90, 000 to the Investment in Branch account.
C. A debit of Br.90, 000 to the Investment in Branch account.
D. A credit of Br.90, 000 to the Home Office account.
E. None
__7. The home office marks up merchandise shipped to the branch at 25 percent of billed price.
If merchandise costing Br.30, 000 is shipped to the branch, which of the following set of
account balances will result assume that the firm use perpetual inventory system?
A. Merchandise inventory :Br.40,000; merchandise inventory to Branch: Br.30,000;
Overvaluation of Branch Inventory: Br.10,000
B. Merchandise inventory :: Br.30,000; merchandise inventory to Branch: Br.22,500;
Overvaluation of Branch Inventory: Br.7,500
C. Merchandise inventory :: Br.40,000; merchandise inventory to Branch: Br.32,500;
Overvaluation of Branch Inventory: Br.7,500
D. Merchandise inventory : Br.37,500; merchandise inventory to Branch: Br.30,000;
Overvaluation of Branch Inventory: Br.7,500
E. None
__8. If the branch pays the freight cost on merchandise shipments from the home office,
A. The home office will increase its Investment in Branch account.
B. The home office will decrease its Investment in Branch account.
C. There is no effect on either the Investment in Branch or Home Office accounts.
D. The branch will decrease its Home Office account.
E. None
__9. In reconciling the reciprocal accounts between a home office and a branch, adjustments
must be made to bring these accounts into balance before eliminations can be made.
Differences in these balances can be due to all of the following except:

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 A. Shipments in transit at the end of the period which are recorded by the home office but
not by the branch.
B. Sales to customers by the home office at the end of the accounting period which were
not recorded by the branch.
C. Remittances from the branch mailed on the last day of an accounting period which are
not recorded by the home office.
D. Collections of home office receivables by the branch close to the end of a period
which is not recorded by the home office.
E. None
__10. Which of the following ledger accounts is displayed in the combined financial statements
for a home office and branch?
A. Investment in Branch B. Dividends Declared C. Home Office account D. Allowance
for Overvaluation of Inventories: Branch E. None
Part III. Work out- show all necessary steps (7marks)
1. Assume that on January 1, 2018 Nile Company establishes a new branch in Aduwa and bills
merchandise to the branch at home office cost. The branch maintains complete accounting
records except that fixed assets are recorded by the home office and prepares its own
financial statements. Both the home office and the branch use the perpetual inventory system.
The following transactions took place with respect to Aduwa Branch’s first year of
operations for the fiscal year ending on December 31, 2018 (start-up costs are disregarded):
1. Home office sent a check to Aduwa Branch for Br.4, 000.
2. Merchandise with a home office cost of Br.240, 000 was sent to the Aduwa Branch.
3. Equipment was purchased by Aduwa Branch to be carried at home office for Br.2000
4. Branch sales on credit amounted to Br.320, 000; the branch’s cost of the merchandise
sold was Br.180, 000.
5. Branch collections on account from customers amounted to Br.248, 000.
6. Payments for operating expenses by Aduwa Branch totaled Br.80, 000.
7. Cash of Br.170, 000 was remitted by Aduwa Branch to the home office.
8. The home office allocated operating expenses of Br 6,000 to Aduwa Branch. Shipments
to Branch Billed at Cost:
Required- Record all necessary journal entries under Home office and Branch office

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 Chapter Three
Installment Sales and Consignment Contracts
Chapter outlines:
 Characteristics and principles of installment sales
 Methods of recognition of profit on installments sales
 Accounting for installment sales
 Defaults and repossession
 Definitions of consignment sales
 Distinguishing sales on consignment and regular sales
 Accounting for consignee
 Accounting for consignor
 Allocating costs on partial sales
Chapter objectives:
After completing this chapter, you would be able:
 Differentiate regular sales from installment and consignment
 Comprehend the concepts of installment and consignment
 Compute profit from installment sales under different alternative methods
 Record transactions involving installment sales
 Account for consignment sales from consignee point of view
 Account for consignment transaction for the consignor and understand how profit or
loss is determined from the consignment
 Learn how to prepare account sales
 Learn how cost is allocated on partial sales for Home Office and Branches
Chapter Prerequisite: Financial Accounting II
Time Required: 6 Hours

3.1 Installment Sales

3.1.1 Special Characteristics of Installment Sales
An installment sale is a sale of real or personal property or services which provides for a service
of payments over a period of months or years. A down payment usually, but not always, is
required. Since, the seller must wait a considerable period of time to collect the full sales price, it

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is customary to provide interest on the unpaid balances and to add carrying charges to the listed
selling price.

The risk of non-collection to the seller is greatly increased when sales are made on the
installment plan. Customers generally are in weaker financial condition then those who buy or
open account; furthermore, the credit rating of the customers and their ability to pay may change
significantly during the period covered by installment contract. The risk of non-collection is
guaranteed by security agreement which enables them to repossess the property if the buyer falls
to make payments.

The seller’s right to protect their security interest (uncollected balance of a sale contract) and to
repossess the property varies by type of industry, the form of the contractual arrangement, and
the statutes relating to repossessions. For the service-type business, repossession obviously is not
available as a safeguard against the failure to collect. In reality, for many types of personal
property as well, the sellers’ right to repossess may be more a threat than a real assurance against
loss. The product sold may have been damaged or may have depreciated to a point that it is
worth less than the balance due on the installment contract. A basic rule designed to minimize
losses from non-payments of installment contracts is to require a sufficient down payment,
payment to cover the loss of value when property moves out of the “new Merchandise” category.
A corollary rule is that the payment schedule should not be outstripped by the projected decline
in value of the property. For example, if a customer buying an automobile on the installment plan
finds after a year or so that the car is currently worth less than the balance still owed on the
contract, the customer’s motivation to continue the payments may be reduced.

Competitive pressures within an industry often will not permit a business to adhere to these
standards. Furthermore, repossession may be a difficult and expensive process, especially if the
customer is non-cooperative or necessary to make the merchandise salable, and the resale of such
merchandise may be difficult. For these reasons, doubtful accounts expense is likely to be
significantly higher on installment sales than regular credit sales.

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A related problem is the increased collection expenses when payments are spread over an
extended period. Accounting expenses also are multiplied by the use of installment sales, and
large amounts of working capital are tied up in installment receivables. In recognition of these
problems, many business executives have concluded that the handling of installment receivables
is a separate business, and they therefore sell their installment receivable to finance companies
which specialize in credit and collection activities.

From the above discussion, it is understood that installment sales pose some challenging
problems. The most basic problems are:
 Difficulty of matching costs with related revenue
 Greater risk of non-collection or higher doubtful accounts expense
 Repossession of highly damaged or depreciated property
 Higher collection expenses
 Reconditioning and repairing costs for repossessed property
 Substantial amount of working capital is tied up in receivables

3.1.2 Methods for Recognition of Profits on Installment Sales

The determination of net income on installment sales is complicated by the fact that the amounts
of revenue and related costs and expenses are seldom known in the period when the sale is made.
Substantial expenses such as collection, accounting, repairs, and repossession are likely to be
incurred in subsequent periods. In some business, the risk of non-collection may be go great as to
raise doubts as to the recognition of any revenue or profit at the point of sale. The first objective
in development of accounting policies for installment sales should be reasonable matching of
costs and revenue. However, in recognition of the diverse business conditions under which
installment sales are made, three approaches are used:
1. Recognition of Gross Profit at the Time of Sale (Accrual Method)
2. Cost Recovery method; and
3. Recognition of Gross Profit through the use of installment method of accounting.

1. Accrual Method of Gross Profit Recognition (At the Time of Sale)

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To recognize the entire gross profit at the time of an installment sale is to say in effect that
installment sales should be treated like regular sales on credit. The merchandise has been
delivered to the customer and an enforceable receivable of definite amount has been acquired.
The excess of the receivable contract over the cost of merchandise delivered is realized gross
profit in the traditional meaning of the term. The journal entry consists of a debit of installment
contracts receivable and a credit to installment sales. If a perpetual inventory system is
maintained, another journal entry is needed to transfer the cost of merchandise from the
inventories account to the cost of installment sales account. No recognition is given to the
seller’s retention of title to the merchandise because the normal expectation is completion of the
contract through collection of receivable. Implicit in this recognition of gross profit at the time
of sale is the assumption that all expenses relating to the sale will be recognized in the same
period so that the determination of net income consists of matching realized revenue with
expired costs.

These expenses include collection expenses and doubtful expenses. The journal entries to record
such expenses would consist of debits to expense accounts and credits to asset valuation accounts
such as Allowance for Doubtful Accounts and Allowance for Collection Costs. The Allowance
accounts would be debited in later periods as uncollectible installment contracts become known
and as collection costs are incurred.

2. Cost Recovery Method Gross Profit Recognition

In some cases accounts receivable may be collectible over a long period of time. In addition the
terms of sale may not be definite, and the financial position of customers may be extremely
unpredictable, thus making it virtually impossible to find a reasonable basis for estimating the
degree of collectiblity of the receivable. In such cases, either the installment method or the cost
recovery method of accounting may be used for installment sales. Under the cost recovery
method, no profit is recognized unit all costs of the item sold have been fully recovered. After all
costs have been recovered, additional collections on the installment receivables would be
recognized as revenue (profit), and only current collection expenses would be charged to such
revenue. The cost recovery method of accounting is rarely used.

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3. Installment Method of Gross Profit Recognition
The third approach to the measurement of income from installment sales is to recognize gross
profit in installments over the term of the contract on the basis of cash collections.

Collection of receivables rather than sales is used as the basis for realization of gross profit. In
other words, a modified cash basis of accounting is substituted for the accrual basis. This
modified cash basis of accounting is known as the installment method of accounting.
Example 3.1: At the beginning of Year 3, SANCHO Company sold merchandise on installment
basis for Br 200,000 that have cost of Br 130,000. The first payment is to be collected at the end
of Year 3. The cash collection performances are as follows:

Year 1.......................................................................................... Br 90,000

Year 2.......................................................................................... Br 60,000
Year 3.......................................................................................... Br 50,000
Instruction: Determine the realized gross profit to be reported each year under Accrual Method;
Cost Recovery Method; and Installment Method

1. Accrual Method
Year 1 Installment Sales Br 200,000 100%
Cost of Installment Sales 130,000 65%
Realized Gross Profit Br 70,000 35%
Year 2 Realized Gross Profit -0-
Year 3 Realized Gross Profit -0-
The Br 70,000 gross profit is realized in Year 1. Therefore, there is no gross profit to be realized
in Year 2 and Year 3 from this installment sale.

2. Cost Recovery Method

The gross profit to be realized is the difference between the cash collection and unrecovered
cost:
Collection Cost Realized GP Remark
Year 1 90,000 130,000 Br0 40,000 cost is not recovered (90,000–
130,000)
Year 2 60,000 40,000 Br20,000 20,000 profit after the cost is fully
recovered

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 Year 3 50,000 0 Br50,000 The entire collection is a profit
Total 200,000 Br70,000

3. Installment Method
Under installment method of gross profit and revenue recognition, each cash collection consists
of certain percentage of gross profit and certain percentage of cost recovery

Collection Gross Profit %age Realized Gross Profit

Year 1 90,000 35% 90,000 @ 35% =
31,500
Year 2 60,000 35% 60,000 @ 35% =
21,000
Year 3 50,000 35% 50,000 @ 35% =
17,500
Total 200,000
70,000

3.1.3 The Installment Method of Accounting

Under the installment method of accounting, each cash collection on the contract is regarded as
including both a return of costs and a realization of gross profit in the ratio in which these two
elements were included in the selling price. The gross profit is deferred and credited to Deferred
Gross Profit. At each collection the gross profit is realized and the realization is debited and
credited to Deferred Gross Profit and Realized Gross Profit, respectively.

The installment method is acceptable under income tax regulations. In fact, the opportunity to
postpone the recognition of taxable income has been responsible for the popularity of the
installment method of accounting for income tax purposes. Although the income tax advantages
are readily apparent, the theoretical support for the installment method of accounting is less
imperative.

Objection to Installment Method of Accounting

There is no sound accounting reason for the use of the installment method for financial
accounting purposes in the case of closed transactions in which collection is dependent upon

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lapse of time and the probabilities of realization are properly evaluated. The postponement of
recognition of revenues until they can be measured by actual cash receipt is not in accordance
with the concept of an accrual accounting. Any uncertainty as to collectibles should be expressed
by a separately calculated and separately disclosed estimate of uncollectible rather than by a
postponement of the recognition of revenue.

The circumstances in which the use of the installment method of accounting was permitted were:
1. Collection of installment receivables is not reasonably assumed
2. Receivables are collectible over an extended period of time; and
3. There is no reasonable basis for estimating the degree of collectibles.
In such situations, either the installment method or the cost Recovery method of accounting may
be used.

Illustration 3.1: Single Sale of Real Estate on the installment plan

On November 1, Year 1, ZF Real Estate, which maintained accounting records on a calendar
year basis, sold a building for Br 215,000 whose construction cost was Br 140,000. Commission
and other expenses pertaining to the sale was Br 15,000. The Br 15,000 was an expense treated
as deductions in determining the gross profit on the sale rather than as charges to specific
expense accounts. The net amount of receivable from the sale was therefore Br 200,000, of
which 70% represented the cost i.e. the return on the investment and 30% represented deferred
gross gain. All collections from the buyer including the down payment were regarded as
consisting of 70% cost recovery of 30% realization of Gross Profit or gain. The contract of sale
called for a down payment of Br 65,000 and a promissory note, with payment every six months
in the amount of Br 30,000 plus interest (finance charges) of the annual interest rate of 10% on
the unpaid balance. Instruction: Record the transaction under the installment method.

Transaction of Year 1:
ZF Real Estate
Journal Entries to Record Sale of Building on Installment Plan
Year 1 Cash........................................................................................ 50,000
Nov. 1 Notes Receivable...................................................................150,000

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 Building.............................................................. 140,000
Deferred Gain on Sale of Building..................... 60,000
Recording building on installment plan. Net cash is the difference between
the Br 65,000 down payment and the Br 15,000 commission expense (65,000
– 15,000)
Dec.31 Deferred Gain on sale of Building.........................................15,000
Realized Gain on sale of building........................... 15,000
Realized Gain Computed at 30% of cash collected on the contract during
Year1
Dec.31 Interest Receivables..............................................................2,500
Interest Revenue...................................................... 2,500
To accrue interest for two months at 10% on notes receivables of Br 150,000.
Br 150,000 @ 10% @ 2/12 = 2,500

Transaction of Year 2:
Year 2 Cash........................................................................................ 37,500
May.1 Interest Receivable................................................. 2,500
Interest Revenue.................................................... 5,000
Notes Receivable................................................... 30,000
Collected Semiannual installment on notes receivable plus interest for six
months at 10% on Br 150,000
Nov. 1 Cash........................................................................................ 36,000
Interest Revenue.................................................... 6,000
Notes Receivable................................................... 30,000
Collected Semiannual installment on notes receivable plus interest for six
months at 10% on unpaid balance of Br 120,000 (Br 150,000 – 30,000)
Dec.31 Deferred Gain on sale of Building.........................................18,000
Realized Gain on sale of building........................... 18,000
Realized Gain Computed at 30% of cash collected on the contract during
Year2 (Br 60,000 @ 30% = Br 18,000)
Dec.31 Interest Receivables...............................................................1,500
Interest Revenue...................................................... 1,500
To accrue interest for two months at 10% on notes receivables of Br 90,000.

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 Br 90,000 @ 10% @ 2/12 = 1,500

Transaction of Year 3:
Year 3 Cash........................................................................................ 34,500
May.1 Interest Receivable................................................. 1,500
Interest Revenue.................................................... 3,000
Notes Receivable................................................... 30,000
Collected Semiannual installment on notes receivable plus interest for six
months at 10% on Br 90,000
Nov. 1 Cash........................................................................................ 33,000
Interest Revenue.................................................... 3,000
Notes Receivable................................................... 30,000
Collected Semiannual installment on notes receivable plus interest for six
months at 10% on unpaid balance of Br 60,000 (Br 90,000 – 30,000)
Dec.31 Deferred Gain on sale of Building.........................................18,000
Realized Gain on sale of building........................... 18,000
Realized Gain Computed at 30% of cash collected on the contract during
Year2 (Br 60,000 @ 30% = Br 18,000)
Dec.31 Interest Receivables...............................................................500
Interest Revenue...................................................... 500
To accrue interest for two months at 10% on notes receivables of Br 30,000.
Br 30,000 @ 10% @ 2/12 = 500
Transaction of Year-4:
Year 4 Cash........................................................................................ 31,500
May 1 Interest Receivable................................................. 500
Interest Revenue.................................................... 1,000
Notes Receivable................................................... 30,000
Collection of the final Semiannual installment plus interest for six months at
10% on Br 30,000
Note: If a sale on the installment plan results in a loss, the entire loss must be recognized in the
year of the sale.

Sales of merchandise on the installment plan by a dealer (Merchandising Businesses)

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Assume a large volume of installment sales of merchandise by company which used the
installment method of accounting because the collectibles of the receivable cannot be estimated.
The first requirement is to keep separate all sales made on the installment plan as distinguished
from ordinary sales. The accounting records for installment receivables usually are maintained
by contract rather than by customer; if several articles are sold on the installment plan to one
customer; it is convenient to account for each contract separately. However, it is not necessary to
compute the rate of gross profit on each individual installment sales or to apply a different rate to
collections on each individual contract. The average rate of gross profit on all installment sales
during a given year generally is computed and applied to all collections received (net of interest
and carrying charges) on installment receivables originating in that year.

Illustration 3.2:
View Company sells merchandise on the installment plan as well as on regular terms i.e. on cash
or 30-day open accounts and uses a perpetual inventory system. For the installment sale the
customer’s account is debited for the full amount of the selling price, including interest and
carrying charges, and is credited for the amount of the down payment. At the beginning of Year
5, View Company’s ledger included the following accounts.
Installment contracts receivable – Year 3......................................................
Br 20,000 debit
Installment contracts receivable – Year 4...................................................... 85,000 debit
Deferred interest and carrying charges on installment sales.......................... 17,500 credit
Deferred gross profit – year 3 installment sales............................................. 4,500 credit
Deferred gross profit – year 4 installment sales............................................. 19,460 credit

The gross profit rate on installment sales (excluding interest and carrying charges) uses 25% in
Year 3 and 28% in Year 4. During Year 5, the following transactions relating to installment sales
were completed by View Company:
1. Installment sales, cost of installment sales and deferred gross profit for Year 5 are listed
below:
Installment sales not including Br 30,000 deferred interest and
Carrying charges (Installment Contract Receivable)...................................Br 200,000 debit
Cost of installment sales................................................................................ 138,000 debit
Deferred gross profit – Year 5 installment sales............................................ 62,000 credit
Rate of gross profit on installment sales (62,000 / 200,000)......................... 31%

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2. Cash collection on installment contract during Year 5 are summarized below:
Sales Price Interest and Total Cash
Carrying Charges Collected
Installment Receivable Year 5 80,000 10,000 90,000
Installment Receivable Year 4 44,500 12,500 57,000
Installment Receivable Year 3 17,000 1,850 18,850
Total 141,500 24,350 165,850

3. Customers who purchased merchandise in Year 3 were unable to pay the balance of their
contracts, Br 1,150. The contracts consisted of Br 1,000 sales price and B150 in interest and
carry charges, and included Br 250 of deferred gross profit (Br 1000 @ 25% = Br 250). The
current fair value of the merchandise repossessed was Br 650.
4. Deferred Gross Profit was Realized in Year 5 on cash collected during the year

Relating to Year 5 sales, Br 80000 @ 31%................................................ Br 24,800

Relating to Year 4 sales, Br 44,500 @ 28%............................................... 12,460
Relating to Year 3 sales, Br 17000 @ 25%................................................ 4,250
Total...........................................................................................................
Br 41,510

Recording Transactions: the journal entries to record the transactions for View Company
relating to installment sales for Year 5 are given below:
View Company
General Journal
Installment Sales Receivable Year 5.................................................... 230,000
Installment Sales....................................................................... 200,000
Deferred interest & carrying charges on installment sales....... 30,000
To record installment sales during Year 5
Cost of installment sales...................................................................138,000
Inventories........................................................................ 138,000
To record cost of installment sales
Cash......................................................................................................165,850
Installment Receivable Year 5............................................. 90,000
Installment Receivable Year 4............................................. 57,000
Installment Receivable Year 3............................................. 18,850

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 To record cash collections on installment accounts during Year 5
Inventories (repossessed merchandise)................................................ 650
Deferred gross profit Year 3 installment sales..................................... 250
Deferred interest & carrying charges on installment sales.................. 150
Doubtful Accounts Expense................................................................ 100
Installment Sales Receivables................................................ 1,150
To record default on installment contracts originating in Year 3 and repossession of
merchandise

Adjusting Entries: the adjusting journal entries for View Company at December 31, Year 5, are
as follows:
View Company
General Journal
Installment sales...................................................................................... 200,000
Cost of installment sales.............................................................. 138,000
Deferred Gross Profit................................................................... 62,000
To record deferred gross profit on Year 5 installment sales
Deferred Gross Profit – Year 5 installment sales....................................24,800
Deferred Gross Profit – Year 4 installment sales....................................12,460
Deferred Gross Profit – Year 3 installment sales.................................... 4,250
Realized Gross Profit on installment sales................................ 41,510
To record realized gross profit
Deferred interest and carrying charges on installment sales...................24,350
Revenue from interest and carrying charges.......................... 24,350
To record interest and carrying charges earned during Year 5
The Realized Gross Profit on Installment Sales and Revenue from interest and carrying accounts
would be closed to the Income Summary account at the end of Year 5. The accounts relating to
installment sales appear in the general ledger at the end of Year 5 as follows:

Account Balances at end of Year 5

Installment Contract Receivables – Year 4.................................................... Br 28,000 debit
Installment Contract Receivable – Year 5..................................................... 140,000 debit

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 Deferred interest and carrying charges on installment.................................. 23,000 credit
Deferred Gross Profit – Year 4 installment sales........................................... 7,000 credit
Deferred Gross Profit – Year 5 installment sales........................................... 37,200 credit

These amounts may be rearranged in slightly different form to test the accuracy of the deferred
gross profit on installment contracts at the end of Year 5:
View Company
Proof of Deferred Gross Profit
December 31, Year 5
Contract Deferred Net Contract Gross Deferred
Receivables Interest & Receivables Profit % GP
CC
Year 4 accounts Br 28,000 Br 3,000 Br 25,000 28 Br 7,000
Year 5 accounts 140,000 20,000 120,000 31 37,200
Totals 168,000 23,000 145,000 44,200

Note: Instead of separating the collections applicable to the sales price and to the interest and
carrying charges, it would be possible to determine the gross profit rate by inclusion of the
interest and carrying charges in the selling price in the computation of the gross profit rate.

Financial statement presentation of installment sales accounts

The presentation of accounts relating to installment sales in the financial statements raises some
interesting theoretical issues, regardless of whether the accrual basis or the installment method of
accounting is used.

Income Statement
A partial income statement for Year 5 for View Company, which uses the installment method of
accounting, is presented below. This statement is based on the installment sales information
illustrated, plus additional assumed data for regular sales.

View Company
Partial Income Statement
For Year Ended December 31, Year 5

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 Installment Sales Regular Sales Combined
Sales............................................................... Br 200,000 Br 300,000 Br 500,000
Cost of goods sold......................................... 138,000 222,000 360,000
Gross profit on sales....................................... Br 62,000 Br 78,000 140,000
Less: Deferred GP on Year 5 sales................ 37,200 37,200
Realized GP on Year 5 sales.......................... Br 24,800 Br 78,000 Br 102,800
Add: Realized GP on Prior Year Sales*........ 16,710
Total Realized Gross Profit........................... Br 119,510
*Sales= Prior Year Installment Sales

If the accrual basis of accounting were used for all sales, a gross profit of Br 140,000 would be
reported in Year 5. Revenue from interest and carrying charges on installment contracts may be
added to sales to arrive at total revenue; in a classified income statement, such revenue generally
is reported as Other Revenue.

Balance Sheet
Installment contracts receivable, net of deferred interest and carrying charges, are classified as
current assets, although the collection period often extends more than a year beyond the balance
sheet date. This rule is applicable whether the accrual basis or the installment method of
accounting is used. The definition of current assets specifically includes installment accounts and
notes receivable if they conform generally to normal trade practices and terms within the
industry. This classification is supported by the concept that current assets include all resources
expected to be realized in cash or sold or consumed during the normal operating cycle of the
business.

The classification of deferred gross profit on installment sales in the balance sheet when
installment method of accounting is used for financial accounting purposes is controversial. A
common practice for many years was to classify it as a deferred credit at the end of the liability
section. Critics of this treatment pointed out that no obligation to an outsider existed and that the
liability classification was improper.

The existence of a deferred gross profit account is based on the argument that the profit element
of an installment sale has not yet been realized. Acceptance of this view suggest that the related

17
installment receivable will be overstated unless the deferred gross profit account is shown as a
deduction from installment contracts receivable.

3.1.4 Defaults and Repossessions

If a customer defaults on an installment contract for services and no further collection can be
made, it is a default without the possibility of repossession. A similar situation exists for certain
types of merchandise which have no significant resale value. The journal entry required in such
cases it to write off the uncollectible installment contract receivable, cancel the deferred gross
profit related to the receivable, and debit Doubtful Accounts Expense for the difference. In other
words, the Doubtful Accounts Expense is equal to the Unrecovered Cost contained in the
installment contract receivable.
 Doubtful Accounts Expense = Unrecovered Cost = Installment Receivables – Deferred GP –
Deferred interest and Carrying Charges
However, in most cases a default by a customer leads to repossession of merchandise. The
doubtful accounts expense is reduced by the current fair value of the property repossessed, and it
is possible, though not likely, for repossession to result in a gain. The principal difficulty in
accounting for defaults followed by repossession is estimation of the current fair value of the
merchandise at the time of repossession. The current fair value should allow for any necessary
reconditioning costs and provide for a normal gross profit on resale.
 Doubtful Accounts Expense = Unrecovered Cost = Installment Receivables – Deferred GP –
Deferred interest and Carrying Charges – Current fair value repossessed inventory
 Current fair value = expected resale value – reconditioning cost – normal gross profit

In the previous example of repossession by View Company, the following are accomplished:
1. It eliminated the defaulted installment contracts receivable of Br1,150
2. It cancelled deferred gross profit of Br 250 and deferred interest and carrying charges of Br
150
3. It recognized an asset equal to Br 650 current fair value of the repossessed merchandise; and
4. It recognized doubtful accounts expense of Br 100, the difference between the unrecovered
cost in the defaulted receivable Br 750 and the current fair value of the repossessed
merchandise Br 650

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3.1.5 Other accounting issues relating to installment sales
Special accounting issues arise in connection with:
1. Acceptance of used property as a trade-in
2. Computation of interest on installment contracts receivable
3. The use of the installment method of accounting solely for income tax purposes, and

1. Trade-in
Trade-in is acceptance of a used property as partial payment for a new one. An accounting
problem is raised only if there is an over allowance. An over allowance is the excess of the trade-
in allowance over the current fair value of the used property. An over allowance on trade-ins is
significant as it actually represents a reduction in the stated selling price of the new merchandise.

Example 3.2:
Assume that an article with a cost of Br 2,400 is sold on an installment contract for Br 3,300.
Used merchandise is accepted as a trade-in at a “value” of Br 1,100, but the dealer expects to
spend Br 50 in reconditioning the used merchandise before reselling it for only Br 1,000.
Assume further that the customary gross profit rate on used merchandise of this type is 15%,
which will cover the selling costs, various overhead costs, and also provide a reasonable gross
profit on the resale of the used merchandise. The current fair value of the trade-in and the amount
of the Over Allowance may be computed as follows:

Trade-in Allowance given to customer.............................................................Br 1,100

Deduct current fair value of trade-in
Estimated reseal value of article traded-in...................................Br 1,000
Less: Reconditioning Costs..............................................Br 50
Gross Profit Margin (Br 1,000 @ 15%)........................... 150 200
Current fair value of article traded in.................................................... 800
Over Allowance on trade-in.............................................................................. Br 300

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Assuming that a perpetual inventory system is used, the journal entry to record the installment
sale and the merchandise traded in follows:
Inventories (Trade-in)............................................................................. 800
Installment Contracts Receivable (Br 3,300 – 1,100)............................. 2,200
Cost of Installment Sales........................................................................ 2,400
Installment sales (3,300 – 300)................................................. 3,000
Inventories (new)...................................................................... 2,400
To record sale of merchandise for Br 3,000, consisting of gross sales price of Br
3,300 minus an over allowance of Br 300 given on the trade-in

2. Interest on Installment Contracts Receivable

Installment contracts usually provide for interest and other so-called “carrying charges” to be
paid concurrently with each installment payment. Such deferred payment charges, regardless of
the label placed on them, represent a cost of borrowing to the buyer and logically may be
referred to as “Interest”. However, only the portion of the payment which is applied to reduce the
principal of the contract is considered in the measurement of realized gross profit under the
installment method of accounting. The interest revenue for financial accounting purpose should
be computed periodically by the application of the effective interest rate to the unpaid balance of
the installment contracts receivable.
3. Installment Method for Income Tax Purposes Only
The popularity of the installment method for income tax purposes is explained by its capacity for
postponing the recognition of taxable income and the payment of income taxes.

3.2 Consignment Contract (External Sales Agent)

3.2.1 Definition of Consignment Sales
Consignment represents a bailment i.e. a contract for delivery of goods to a bailed. That is a
person or party to whom goods are delivered for a purpose (such as sale, safekeeping, repairs,
etc) without transfer of ownership. It is a transfer of merchandise from the owner to another
person who acts as the sales agent of the owner. There are two parties to consignment contract:
consignor and consignee
 Consignor (bailor) is the owner who retains title to the merchandise

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 Consignee (bailee) is the sales agent who has physical possession to the merchandise
Consignees are responsible to consignors for merchandise placed in their custody until it is sold
or returned. Because consignees do not acquire title to the merchandise, they neither include it in
inventories nor record an accounts payable or other liability. The only obligation of the
consignee is to give reasonable care to the consigned merchandise to account for it to consignors.
When merchandise is sold by a consignee, the resulting accounts receivable is the property of the
consignor. At this point the consignor records a sale, gross profit or loss. The shipment of
merchandise on consignment may be referred to by the consignor as a Consignment-Out and by
the consignee as a Consignment-In

3.2.2 Distinction between a Consignment and a Sale

A clear distinction between the two is necessary for proper measurement of income. Regular
sales and consignment, both, involve the shipment of merchandise. Title does not pass when
merchandise is shipped under consignment agreement. Thus, no revenue and profit should be
recognized at the time of the consignment shipment, because there is no change in ownership of
merchandise. If the consignee’s business should fail, the consignor would not be in a position of
a creditor, instead the consignor is the owner of unsold merchandise that was initially consigned.
Some reasons why a manufacturer or wholesaler prefers to consign merchandise rather than to
make outright sales are:
 The consignor may be able to persuade dealers to stock the items on a consignment basis
where they will not be willing to purchase the merchandise out right (regular sales)
 The consignor avoids the risk inherent in selling on account to credit customers of
questionable financial strength
 From the stand point of a consignee the acquisition on consignment rather than by out right
purchase requires less amount of capital investment and avoids the risk of loss if the
merchandise can not be sold and become obsolete.

3.2.3 Right and Duties of the Consignee

When merchandise is shipped on consignment, a contract is needed on such points as:
 Credit terms to be granted to customers by the consignee
 Expenditures of the consignee to be reimbursed by the consignor

21
 Commission allowed to the consignee – that may be 5% or 10%, etc
 Frequency of reporting and payment by the consignee
 Handling and care of the consigned merchandise
The general rights and duties of the consignee may be summarized as follows:

Rights of Consignee Duties of Consignee

1. To receive compensation or commission for 1. To give reasonable care and protection in
merchandise sold for the account of the consignor relation to the nature of the consigned
merchandise
2. To receive reimbursement for expenditures 2. To keep the consigned merchandise
such as freight & insurance made in connection separate from owned inventories or be able to
with consignment identify the consigned merchandise. Similarly,
the consignee must identify and segregate the
consignment accounts receivable from other
receivables.
3. To sell consigned merchandise on credit if the 3. to use care in extending credit on sales of
consignor has not forbidden credit sales consigned merchandise and to be diligent in
setting prices on consigned on consigned
merchandise and in collecting consignment
Accounts Receivables
4. to make the usual warranties as to the quality 4. to render complete report of sales of
of the consigned merchandise and to bind the consigned merchandise and to make
consignor honor such warranties appropriate and timely payments to the
consignor

In granting credit as in caring for the consigned merchandise, the consignee is obliged to act
prudently and to protect the property rights of the consignor of consigned merchandise are the
property of the consignor.
 Because the receivables from the sale of consigned merchandise are the property of the
consignor, the consignor bears any credit losses provided that the consignee has exercised
due care in granting credit and making collections.
 However, the consignee may guarantee fee collection of consignment account receivable;
under this type of consignment contract, the consignee is said to be a del credere agent
22
The consignee also must follow any special instructions by the consignor as to care of the
consigned merchandise. If the consignee acts prudently in providing appropriate care and
protection for the consigned merchandise, the consignee is not liable for any damage to the
merchandise that may occur.

3.2.4 The Account Sale (Report of Sales)

The report rendered by the consignee to the consignor is called an Account Sale which includes
information such as:
 The quantity of merchandise received and sold
 Expenditures made by the consignee that must be reimbursed by the consignor
 Cash advances made by the consignor to the consignee
 Amounts owed or remitted to the consignor
The consignee makes payments to the consignor as portions of the merchandise are sold or
payments may not be required until all the consigned merchandise either has been sold or has
been returned to the consignor.

Example 3.3: ABC Electronics Trading (located in Addis Ababa) ships 10 units of Television
Sets to SHEREFA Trading at HAWASSA on consignment basis on August 1, 2006. Each unit is
to be sold at Br 400. The consignee is to be reimbursed for freight costs Br 135 and it to receive a
commission of 20% of the authorized selling price. After selling all the consigned merchandise,
SHEREFA Trading has to send to the consignor an account sale.

3.2.5 Accounting for the Consignee

The receipt of the consignment shipment could be recorded by the consignee in several ways.
The objective is to create a memorandum record of the consigned merchandise; no purchase has
been made and no liability exists. Therefore the receipt of the consignment could be recorded by
a memorandum notation in the general journal, or by an entry in a separate ledger of
consignment shipments, or by a memorandum entry in a general ledger account entitled
Consignment In. The journal entries to record different transactions by Consignee are as follows:
a) To record the payment of freight costs on the shipment from the consignor
Consignment-in – ABC Electronics ...................................... 135

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 Cash.............................................................................. 135
b) Sold 10 TV Sets at a stipulated selling price
Cash ....................................................................................... 4,000
Consignment-in – ABC Electronics............................. 4,000

c) Commission of 20% earned on TV sets sold

Consignment-in – ABC Electronics ...................................... 800
Commission Revenue – Consignment Sales................ 800
d) Payment in full to Consignor
Consignment-in – ABC Electronics ...................................... 3,065
Cash.............................................................................. 3,065

After posting all the four journal entries above; the consignment-in account in the accounting
records of the consignee appears as follows:

Consignment In – ABC Electronics

Date Explanation Debit Credit Balance
Received 10 units of TV Sets to be sold for Br
400 each at a commission of 20% of selling
price...........................................................................
Fright Costs paid by consignee................................. 135 135 Dr
Sales of the merchandise (Br 400 @ 10 units).......... 4,000 3,865 Cr
Commission revenue (Br 4,000 @ 20%).................. 800 3,065 Cr
Payment to Consignor............................................... 3,065 -0-

After selling all the consigned merchandise SHEREFA Trading sends ABC Electronics an
Account Sales which is presented in the following manner:
SHEREFA Trading
HAWASSA
ACCOUNT SALES
August 31, 2006
Sales for account & risk of:
ABC Electronics
Addis Ababa
Sales: 10 TV sets @ Br 400................................................... Br 4,000

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 Charges:
Freight Costs.......................................................................... Br 135
Commission (20% @ Br 4,000)............................................. Br 800 935
Balance (Payment to Consignor)........................................... Br3,065
Consigned TV sets on hand................................................... None

There might be several variations from the pattern of journal entries illustrated above:
 If a freight cost on consigned goods is charged to Freight in account, it should later be
reclassified by a debit to Consignment In and a credit to Freight In
 If an advance is made by the consignee to the consignor, it is recorded as a debit to the
Consignment In account, and the final payment is reduced by the amount of advance
 If merchandise is received on consignment from several consignors, a controlling account
entitled Consignments In may established in the general ledger, and a supporting account for
each consignment set up in a subsidiary consignments ledger.
 Consignment In may have debit balance or credit balance. A debit balance will exist in a
Consignment In account if the total of expenditures, commissions, and advances to the
consignor is larger than the proceeds of sales of that particular lot of consigned merchandise.
A credit balance will exist if the proceeds of sales are in excess of the expenditures,
commissions, and advances to the consignor. The total of the Consignment In accounts with
debit balance should be included among the current assets in the balance sheet; the total of
the Consignment In accounts with credit balance should be classified as a current liability

3.2.6 Accounting for Consignors

When a consignor ships merchandise to the consignees, it is essential to have a record of the
location of this portion of inventories. Therefore, the consignor may establish in the general
ledger a Consignment Out account for every consignee. If consignment shipments are numerous,
the consignor may prefer to use a controlling account for subsidiary Consignment-Out ledger
account. The Consignment-Out ledger account represents a special category of inventories.
Should gross profit on consignments be determined separately?

There are different alternatives as an accounting method for consignors: A separate

determination of net income on consignment sales and a separate determination of gross profits
on consignment sales. Another possibility to consider is a separate determination of consignment

25
revenue apart from other sales revenue. Determination of a separate net income from
consignment sales seldom is feasible, because this would require allocations of many operating
expenses on a rather arbitrary basis. Thus, determination of net income from the consignment
sales cannot be justified.

The determination of gross profits from consignment sales as distinguished from gross profits on
other sales is much simpler, because it is based on the identification of direct costs associated
with the consignments.

Illustration of Accounting Methods for Consignor

The choice of accounting methods by the consignor depends on whether
1. Consignment gross profit are measured separately from the gross profit on regular sales; or
2. Sales on Consignment are merged with regular sales with out any effort to measure gross
profit separately for the two categories of sales
The journal entries required under these alternative methods of accounting for consignment
shipments now will be illustrated, first under the assumption that gross profits on consignment
sales are to be determined separately and second under the assumption that consignment sales are
to be merged with regular sales

Example 3.4:
ABC Electronics Trading (located in Addis Ababa) ships 10 units of Television Sets which has
cost Br 250 each to SHEREFA Trading at HAWASSA on consignment basis on August 1, 2006.
Each unit is to be sold at Br 400. The cost of packing the merchandise for shipment was Br 30;
all costs incurred in the packing department are charged to the Packing Expense account. The
consignee paid freight charges of Br 135 to an independent truck line to deliver the shipment. All
10 TV sets were sold by the consignee for Br 400 each. After deducting the commission of 20%
and the freight charges of Br 135, the Consignee sent the Consignor a check for Br 3,065. The
Consignor uses perpetual inventory system.
Instruction: Make the necessary journal entries and determine the balance of consignment out
account assuming that:
1. Gross profit on consignment sales are determined separately; and

26
 2. Gross profits on consignment sales are not determined separately

1. Gross profit on consignment sales are determined separately

a) Shipment of merchandise costing Br 2,500 Consignment out – ST.................. 2,500
on consignment Inventories........................... 2,500
b) Packing expenses of Br 30 allocated to Consignment out – ST.................. 30
consigned merchandise. It is recorded as Packing Expenses................ 30
packing expense
c) Consignment sales of Br 4,000 reported by Cash.............................................. 3,065
consignee and payment of Br 3,065 Consignment out – ST.................. 135
received after the consignee deducts Br 135 Commission Expense................... 800
freight charges and commission of Br 800 Consignment Sales................ 4,000
d) Cost of consignment sales recorded, Br Costs of Consignment sales......... 2,665
2,665 (Br 2,500 + Br 135 + Br 30 = Br Consignment out -ST.......... 2,665
2,665)

e) Summary of Consignment Out Account

Consignment-Out: SHEREFA Trading
Cost of goods 2,500
shipped
Packing Expenses 30
Freight Costs 135
2,665 Consignment
costs
2,665 2,665

f) Presentation in income statement:

Consignment Sales............................................................... Br 4,000
Less: Cost of consignment sales........................................... Br 2,665
Commission................................................................ 800 3,645
Gross Profit on consignment sales....................................... Br 535

2. Gross profits on consignment sales are not determined separately

a) Shipment of merchandise costing Br 2,500 Consignment-Out: ST.................. 2,500
on consignment Inventories........................... 2,500
b) Packing expenses of Br 30 allocated to No journal entry required, total packing

27
 consigned merchandise. It is recorded as expense is reported among
packing expense
c) Consignment sales of Br 4,000 reported by Cash.............................................. 3,065
consignee and payment of Br 3,065 Freight Expense............................ 135
received after the consignee deducts Br 135 Commission Expense................... 800
freight charges and commission of Br 800 Sales...................................... 4,000
d) Cost of consignment sales recorded, Br Costs of goods sold...................... 2,500
2,500 Consignment out -ST.......... 2,500

e) Summary of Consignment-Out Account

Consignment-Out: SHEREFA Trading
Cost of goods 2,500
shipped
2500 Consignment
costs

2,500 2500

f) Presentation in income statement:

Included in total sales...........................................................Br 4,000
Included in cost of all merchandise sold..............................Br 2,500
Included in total packing expense........................................ 30
Included in total freight expense.......................................... 135
Included in total commission expense.................................. 800

3.2.7 Accounting for partial sale of consigned goods

Determining the gross profit assuming that the entire consignment had been sold by the
consignee is relatively simple. When there is a partial sale of consigned goods, the consignor
must determine the amount of gross profit realized on the partial sale rather than the entire sale.
Example: take the previous illustration except that only four of the 10 TV sets consigned by
ABC Electronics had been sold by the end of the accounting period. The account sales received
at the end of the current period includes the following information:
SHEREFA Trading
ACCOUNT SALES to ABC Electronics
August 31, 2006

28
 Sales for account & risk of:
ABC Electronics
Addis Ababa
Sales: 4 TV sets @ Br 400..................................................... Br 1,600
Charges:
Freight Costs..........................................................................Br 135
Commission (20% @ Br 1,600).............................................Br 320 455
Balance payable to consignor................................................ Br 1,145
Check enclosed......................................................................Br 500
Balance due to consignor....................................................... 645 1,145
Consigned TV sets on hand................................................... 6 TV sets

1. Gross profit on consignment sales are determined separately

a) Shipment of merchandise costing Br 2,500 Consignment-Out: ST.................. 2,500
on consignment Inventories........................... 2,500
b) Packing expenses of Br 30 allocated to Consignment-Out: ST.................. 30
consigned merchandise. It is recorded as Packing Expenses................ 30
packing expense
c) Consignment sales of Br 1,600 reported by Cash.............................................. 500
consignee and payment of Br 500 received. Accounts Receivable.................... 645
Charges by consignee: Br 135 freight Consignment-Out: ST.................. 135
charges; and commission of Br 800 Commission Expense-CS............. 320
Consignment Sales................ 1,600
d) Cost of consignment sales recorded, Br Costs of Consignment sales......... 1,066
1,066 (4 @ (Br 250 + Br 3 + Br 13.5) ) Consignment-Out: ST......... 1,066
e) Direct cost relating to unsold merchandise
in hands of consignee deferred when profits
are not determined separately: No journal entry is required
Packing costs, 6 @ Br 3..................Br 18
Freight costs, 6 @ Br 13,50............ 81
Total ...............................................Br 99

f) Summary of Consignment Out Account

29
 Consignment-Out: SHEREFA Trading
Cost of goods 2,500 1,066
shipped
Packing Expenses 30 1,599 Balance
Freight Costs 135
2,665 2,665
Balance 1,599

g) Presentation in balance sheet

Current Assets:
Inventories on Consignment.................................................Br 1,599

2. Gross profit on consignment sales are not determined separately

a) Shipment of merchandise costing Br 2,500 Consignment-Out: ST.................. 2,500
on consignment Inventories........................... 2,500
b) Packing expenses of Br 30 allocated to No journal entry is required; total packing
consigned merchandise. It is recorded as expense is reported among operating expenses
packing expense
c) Consignment sales of Br 1600 reported by Cash.............................................. 500
consignee and payment of Br 500 received. Accounts Receivable.................... 645
Charges by consignee: Br 135 freight Freight Expense............................ 135
charges; and commission of Br 800 Commission Expense -CS............ 320
Sales...................................... 1,600
d) Cost of consignment sales recorded, Br Costs of Goods sold..................... 1,000
1,000 (4 @ Br 250 = Br 1,000 ) Consignment out –ST.......... 1,000
e) Direct cost relating to unsold merchandise
in hands of consignee deferred when profits Consignment-Out: ST.................. 99
are not determined separately: Packing Expense.............. 18
Packing costs, 6 @ Br 3..................Br 18 Freight Expense............... 81
Freight costs, 6 @ Br 13,50............ 81
Total ...............................................Br 99

f) Summary of Consignment Out Account

Consignment-Out: SHEREFA Trading
2,500 1,000
99 1,599 Balance

30
 2,599
Balance 1,599 2,599

g) Presentation in balance sheet

Current Assets:
Inventories on consignment..................................................Br 1,599

3.2.8 Other issues in Consignment Contracts

 Return of unsold merchandise by consignee
The costs of packing and shipping merchandise to a consignee, whether paid directly by the
consignor or by the consignee, properly are included in inventories. However, if the consignee
for any reason returns merchandise to the consignor, the packing and freight costs incurred on
the original outbound shipment should be written off as expense of the current period. The place
utility originally created by these costs is lost when the merchandise is returned. Any charges
borne by the consignor on the return of shipment also should be treated as expense, along with
any repair expenditures necessary to place the merchandise in salable condition.

A clear distinction should be made between freight costs on consignment shipments and
outbound freight on regular sales. The latter is a current expense, because the revenue from sale
of the merchandise is recognized in the current period. The freight costs on consignment
shipment create an increment in value of the merchandise which is still the property of the
consignor. This increment, along with the cost of acquiring or producing the merchandise, is to
be offset against revenue in a future period when the consigned merchandise is sold.
 Advances from consignees
Although cash advances from a consignee sometimes are credited to the Consignment Out
account, a better practice is to credit a liability account, Advances from consignees. The
Consignment Out account will then continue to show the carrying amount of the merchandise on
consignment rather than being shown net of a liability to the consignee.

 Nature of the consignment out account

There is a need to understand where Consignment Out belongs in the basic five types of
accounts: assets, liabilities, owners’ equity, revenue, and expenses. The Consignment Out

31
account belongs in the asset category. The account is debited for the cost of merchandise shipped
to a consignee; when the consignee reports sale of all or a portion of the merchandise, the cost is
transferred from Consignment Out to Cost of Consignment Sales. To be even, more specific,
Consignment Out is a current asset, one of the inventories group to be listed on the balance sheet
as Inventories on Consignment, or perhaps combined with other inventories if the amount is not
material. The costs of packing and transporting consigned merchandise constitute costs of
inventories, and these costs should be debited to the Consignment Out account.

32