CHAPTER 5

ACCOUNTING FOR MERCHANDISING BUSINESS

NATURE OF MERCHANDISING

Merchandising or Trading Business

- Buying of merchandise or goods which will be sold at a higher price than the purchase cost
without changing their physical form.

Inventory
- Goods that a business has purchased and primarily intended for resale.

Account Title Definition

Purchases Merchandise is purchased
Sales Merchandise is sold
Merchandising Inventory Unsold Merchandise
Cost of Goods Sold Purchases minus Merchandise Inventory

ACCOUNTING FOR PURCHASES OF MERCHANDISE

Cash on Delivery (COD)

- Purchase of merchandise is payables in cash

On credit or on account
- Purchase of merchandise is payables in some future time

Credit term or Credits period

- Time within which the payment should be made
- Ex. n/30 payable within 30 days from the date of the invoice
n/EOM payable at the end of the month when the purchase is made
10 EOM payable up to 10 days after the end of the month of purchase

Trade Discount
- It is special discount
- This is not recorded. It it's immediately deducted from the purchase cost

Jan 14 - Bought merchandise with a list price of 10,000 terms COD with a trade discount of 10%

Jan 14 Purchases (90% × 10,000) 9,000

Cash 9,000

Jan 15 - Bought merchandise with a list price of 20,000 terms 2/10 n/30 with a trade discount of
10% and 5%

Jan 15 Purchases (90% × 95% × 20,000) 17,100

Accounts Payable 17,100

Purchase Discount
- Discount given to a buyer for paying within a specified period of time.
- Encourage the buyer to pay promptly
Discount Period
- period of time within which to pay to be entitled to a discount

Jan 1 - Bought merchandise worth 10,000 terms 2/10, n/30

Jan 1 Purchases 10,000

Accounts Payable 10,000

Jan 2 - Returned 2,000 worth of merchandise

Jan 2 Accounts Payable 2,000

Purchase return and allowances 2,000

Jan 3 - Made a partial payment 3,000

Jan 3 Accounts Payable 3,000

Cash 3,000

Jan 11 - Paid in full

Jan 11 Accounts Payable 5,000

Purchase discount 160
Cash 4,840

COST OF DELIVERING OR TRANSPORTING THE GOODS

Freight in Freight out

- The cost incurred by the buyer - The cost incurred by the seller

FOB shipping point FOB destination

- Free board up to the shipping point - Free board up to the point of destination
- Freight charges will be shouldered by the - The seller will pay all the freight charges
seller up to the shipping point. Once the up to the buyer's place
goods are loaded the buyer will pay for
the freight charges

Freight collect Freight prepaid

- The buyer will pay for the freight charges - The seller has paid the free charges
- If the term is FOB destination, the buyer - If the term is FOB shipping point, the
can deduct the freight charges when seller can ad the freight charges to the
paying for the invoice price invoice

Sold 15,000 worth of merchandise,terms n/30 freight of 1,000 is paid by the buyer.

Case 1 - FOB shipping point. Freight collect

BUYER SELLER
Purchases 15,000 Accounts receivable 15,000
Freight In 1,000 Sales 15,000
Accounts payable 15,000
Cash 1,000
Case 2 - FOB shipping point. Freight prepaid

BUYER SELLER
Purchases 15,000 Accounts receivable 16,000
Freight In 1,000 Sales 15,000
Accounts payable 16,000 Cash 1,000

Case 3 - FOB destination. Freight collect

BUYER SELLER
Purchases 15,000 Accounts receivable 14,000
Accounts payable 14,000 Freight out 1,000
Cash 1,000 Sales 15,000

Case 4 - FOB destination. Freight prepaid

BUYER SELLER
Purchases 15,000 Accounts receivable 15,000
Accounts payable 15,000 Freight out 1,000
Sales 15,000
Cash 1,000

PURCHASE RETURNS AND ALLOWANCES

The buyer may return the merchandise purchased for any of the following reasons
1. The merchandise may have some defects or they are not in good condition.
2. The merchandise we have been damaged while in transit.
3. The merchandise may have arrived too late.
4. The merchandise received is not what is ordered.
5. The term may not be what has been agreed upon.

In some cases the buyer may just agree to keep the merchandise provided an allowance (a
reduction in the original price) will be granted.

You returned damage goods worth 2,000 to the supplier

Cash 3,000
Purchase returns and allowances 3,000

RECORDING THE PURCHASE OF MERCHANDISE

Perpetual method
- Tuloy tuloy or walang hanggan
- All increases and decreases in inventory are recorded in the merchandise inventory account
- Stock cards means the quantities and balances of goods can be determined at any given
point of time
Jan. 1 - Purchased merchandise worth 10,000, terms 2/10, n/30

BUYER SELLER
Merchandise inventory 10,000 Accounts receivable 10,000
Accounts payable 10,000 Sales 10,000

Cost of goods solds 5,000

Merchandise inventory 5,000

Jan. 1 - Paid freight on about purchase 600

BUYER SELLER
Merchandise inventory 600 No charges
Cash 600

Jan 2- Returned 2,000 worth of merchandise

BUYER SELLER
Accounts payable 2,000 Sales returns and allowances 2,000
Merchandise inventory 2,000 Accounts receivable 2,000

Merchandise 1,000
Cost of good Sold 1,000

Jan 5 - Made a partial payment 3,000

BUYER SELLER
Accounts payable 3,000 Cash 3,000
Cash 3,000 Accounts receivable 3,000

Jan 11 - Paid in full

BUYER SELLER
Accounts payable 5,000 Cash 4,840
Merchandise inventory 160 Sales discount 160
Cash 4,840 Accounts receivable 5,000

Cash Merchandise inventory

600 10,000 2,000
4,840 600 160
3,000
Total 8,440 10, 600 2,160
Periodic method
- Panapanahon
- Inventory account is updated only when a physical count of inventory is performed
- Account titles purchases, freight in, purchase returns and allowances, and purchase discount
are used

Jan. 1 - Purchased merchandise worth 10,000, terms 2/10, n/30

BUYER SELLER
Purchases 10,000 Accounts receivable 10,000
Accounts payable 10,000 Sales 10,000

Jan. 1 - Paid freight on about purchase 600

BUYER SELLER
Freight in 600 No charges
Cash 600

Jan 2- Returned 2,000 worth of merchandise

BUYER SELLER
Accounts payable 2,000 Sales returns and allowances 2,000
Purchase returns and allowances 2,000 Accounts receivable 2,000

Jan 5 - Made a partial payment 3,000

BUYER SELLER
Accounts payable 3,000 Cash 3,000
Cash 3,000 Accounts receivable 3,000

Jan 11 - Paid in full

BUYER SELLER
Accounts payable 5,000 Cash 4,840
Purchase discount 160 Sales discount 160
Cash 4,840 Accounts receivable 5,000

Note: this accounts are applicable only to merchandise.

ACCOUNTING FOR SALES OF MERCHANDISE

Sale of merchandise is considered a revenue and credited to sales account

Sales invoice
- A document the seller gives to buyer
Delivery receipt
- A document issued by the seller and signed by the customer as evidencing receipt

Credit memo
- Used by the seller to notify the buyer that his account is credited or the balance is reduced
for returns made

Freight out
- An expense incurred by the seller

Jan 2 - sold merchandise 20,000 terms 2/10 n/30.

Jan 2 Accounts receivable 20,000

Sales 20,000

Jan 2 - paid freight on the above sales 1,500

Jan 2 Freight out 1,500

cash 1,500

Sales returns and allowances

- These are deduction from sales result of merchandise returned
- It is supported by the credit memo issued by the seller

Jan 3 - buyer returned 2,000 worth of merchandise

Jan 3 Sales returns and allowances 2,000

Accounts receivable 2,000

Jan 4 - buyer made a partial payment of 10,000

Jan 4 Cash 10,000

Accounts receivable 10,000

Sales discount
- A discount given to customer for paying earlier than the credit term

Jan 12 - buyer paid his account in full

Jan 12 Cash 7,640

Sales 360
Accounts receivable 8,000

Trade discount
- A special discount given to the customer for buying in large quantity
- It is automatically deducted from the invoice price and is not recorded

COMPUTATION OF GROSS PROFITP

Sales 800,000
Less: Sales returns and allowances 10,000
Sales Discount 40,000 50,000
Net sales 750,000
Less: Cost of goods solds
Beginning inventory 100,000
Purchases 600,000
Freight in 20,000
Gross purchases 620,000
Less: Purchase returns in allowances 15,000
Purchase discount 5,000 20,000 600,000
Goods available for sale 700,000
Less: Ending inventory 150,000 550,000
Gross income 200,000

CHART OF ACCOUNTS

Balance Sheet
100 Assets
101 Cash
102 Notes Receivable
103 Accounts Receivable
103A Allowance for Impairment Loss
104 Interest Receivable
105 Prepaid Rent
106 prepaid advertising
107 prepaid insurance
108 supplies inventory
109 merchandise inventory
115 vat input tax
121 delivery van
121a accumulated depreciation
122 furniture and fixtures
122a accumulated depreciation
123 office equipment
123a accumulated depreciation

200 liabilities
201 accounts payable
202 notes payable
203 interest payable
204 unearned rental income
211 vat payable
251 loan payable
261 vat output

300 owners equity

301 owners capital
302 owners drawing
303 income and expense summary

Income statement accounts

400 revenues
401 sales
402 sales returns and allowances
403 sales discount

500 cost of sales

501 purchases
502 freight in
503 purchase returns and allowances
504 purchase discount

Operating expenses

600 selling expenses

601 sale salaries expense
602 advertising expense
603 freight out
604 miscellaneous selling expense
605 impairment loss
606 depreciation expense delivery van

700 administration expense

701 office salaries expense
702 rent expense
703 insurance expense
704 office supplies expense
705 taxes and licenses expense
706 light and water expense
707 depreciation expense office equipment
708 depreciation expense furniture and fixtures

800 other income

801 interest income
802 rental income

900 other expense

901 interest income

FINANCIAL STATEMENTS OF MERCHANDISING BUSINESS

Income statement
- There are two acceptable formats for presenting the income statements as per the
recommendation a financial reporting standard council (FRSC)

Natural format - expenses are classified as to their nature

X trading company
Income Statement
For the year ended december 31, 200c

Net sales (S1) Pxxx

Other income xxx
Change in inventory xxx
Net purchases (S2) (xxx)
Employees benefit (xxx)
Depreciation (xxx)
Other expenses (xxx)
Financing costs (xxx)

NET PROFIT Pxxx

Schedule 1
Sales Pxxx
Less: Sales returns and allowances Pxxx
Sales discount xxx xxx
Net sales Pxxx

Other income - may include commission income, rental income, interest income etc

Change in merchandise inventory - ending inventory - beginning inventory

Schedule 2
Purchases Pxxx
Freight in xxx
Gross purchases Pxxx
Less: Purchase returns and allowances Pxxx
Purchase Discount xxx xxx
Net purchases Pxxx

Employees benefit costs - 13 months pay vacation leave sick leave and other benefits being
enjoyed by the employees

Depreciation - refers to the decrease in the value of fixed asset

Other expenses - expenses refer to the ordinary and necessary expenses incurred to operate
the business distribution and administrative expense

Financing costs - these cost include interest expense and other expenses incurred in relation to
the borrowing of money and have nothing to do with the cost of operation.
Example interest expense, interest income.

Functional format

X trading company
Income Statement
For the year ended december 31, 200c

Net sales P xxx

Cost of sales (xxx)
Gross Profit (S3) P xxx
Other income xxx
Distribution costs (xxx)
Administrative costs (xxx)
Financing costs (xxx)
Net profit P xxx
 Schedule 3
Beginning inventory P xxx
Purchases P xxx
Freight in xxx
Gross purchases P xxx
Purchase returns and allowances P xxx
Purchase discount xxx xxx xxx
Goods available for Sales P xxx
Ending inventory xxx
Cost of sales P xxx

Note: Functional format is used because this is the traditional format. The natural format is not yet
popular and still unfamiliar to the most accountants hence is not still yet widely used