Chapter 5

Accounting for Merchandising Operations

ACCT 100

Objectives:
1.

2.

3.

To distinguish a service company from a merchandising company. To learn how to account for inventory purchase and inventory sale under a perpetual inventory system. To learn how to account for inventory purchase, inventory sale under a periodic inventory system.
Accounting for Merchandising operations 2

Defining Inventory
1. Assets held for resale purpose in a normal course of business. 2. Assets used to produce products for resale purpose. Examples of Inventory: Merchandising Firms: merchandise or goods Manufacturing Firms: raw materials work-in-process finished Goods Gross Profit Accounting for Merchandise Inventory, Cost of Goods Sold and the

Service Companies

Providing services (i.e., transportation companies, banks, etc.) Main Revenues: service revenues. Income measurement: Service Revenues - Operating Expenses Operating Income Operating cycle: Cash Providing Service Accounts receivables Cash
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 4

Merchandising Companies

Buy and sell goods (i.e., retail companies such as Wal-Mart, Macys, etc.). Main revenues: Sales revenues. Income measurement:

Sales Revenues - Cost of Goods Sold (cost of total merchandise sold during the period) Gross Profit - Operating Expenses Operating Income Operating cycle: Cash Buy Inventory Sell Inventory Accounts Receivable Cash
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 5

Perpetual vs. Periodic Inventory System- An Example

On February 10, inventory Costing $1,000 was purchased on credit, terms, 2/10 and n/30. On March 2, Inventory costing $250 was sold for $500 on credit.

Accounting for Merchandising Operations

Accounting for Inventory A Perpetual Inventory System (Example on p6)

At Purchase: Inventory 1,000 Accounts Payable
(to record goods purchased on account)

1,000

At Sale: Accounts Receivable 500 Sales Revenue

(to record credit sale)

500

Cost of Goods Sold Inventory

250
250
7

(to record cost of merchandise sold)

Accounting for Merchandising Operations

T-Accounts of Inventory and CGS

Inventory 1,000 250 750
Accounts Rec. 500

CGS 250

Sales 500

Accounting for Merchandising Operations

Perpetual Inventory System

The inventory account is used for the purchase and sale of inventory. The balances of inventory is available at all time. A physical count of inventory is still needed at the end of a period. Any discrepancy of inventory book balance with physical count should be adjusted to a loss or gain account.
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 9

Perpetual Inventory System (contd.)

The cost of goods sold (CGS) account is used to record the CGS of a sale. Therefore, the CGS is known at all time. The CGS is determined by selecting a cost flow assumption (will be discussed in Chapter 6).

Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 10

Accounting for Inventory A Periodic Inventory System (Example on P6)

At Purchase: Purchases 1,000 Accounts Payable 1,000
(to record goods purchased on account)

At Sale: Accounts Receivable 500 Sales Revenue

(to record credit sale)

500

Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 11

Accounting for Inventory A Periodic Inventory System (Contd.)

The inventory account is not updated under the periodic inventory system. The balance of CGS is unknown as CGS was not determined and recorded at sale. Under the periodic inventory system, the cost of ending inventory will be determined after a physical inventory count and the CGS will be derived at the end of a period. The details of this process will be discussed in chapter 6.
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 12

An Example of Perpetual Vs. Periodic at Purchase with Freight, Purchase Returns and Discounts On February 10, inventory Costing $1,000 was purchased on credit, terms, 2/10 and n/30. Freight Terms: FOB Shipping PointBuyers are responsible for freight charges. $100 Freight was paid on Feb. 10. $200 inv. was returned on Feb. 15. The payment for the bal. of accounts payable was made on Feb, 17.
Accounting for Merchandising Operations 13

An Example of Perpetual Vs. Periodic at Purchase - with Freight, Purchase Returns and Discounts (Contd.)
Perpetual Inventory Sys. 2/10 Inventory 1,000 A/P 1,000 (Freight)Inventory 100 Cash 100 2/15 A/P 200 (Pur. Ret) Inventory 200 2/17. A/P 800 Cash 784 Inventory 16
Inv. = 1,000+100-200-16=884.

Periodic Inventory Sys. Purchases 1,000 A/P 1,000 Freight-in 100 Cash 100 A/P 200 Pur. R&A 200 A/P 800 Cash 784 Pur. Dis. 16
Net Pur.= 1,000+100-200-16 = 884.

Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 14

An Example of Perpetual Vs. Periodic at Sale - with Sales Returns, Sales Discounts and Freights On March 2, Inventory costing $250 was sold for $500 on credit. On March 5, $50 of inventory sold was returned. Collection of the remaining balance of A/R on Mar. 7. Sale terms: FOB Destination - Seller are responsible for the freight. The seller paid $30 for the shipping.
Accounting for Merchandising Operations 15

An Example of Perpetual Vs. Periodic at Sale with Sales Returns, Sales Discounts and Freights (contd.)
Perpetual Inventory Sys.
3/2 A/R 500 Sales 500 CGS 250 Inventory 250 3/5 Sales R&A 50 (S. Ret.) A/R 50 Inventory 25 CGS 25 3/7 Cash 441 Sales Dis. 9 A/R 450 Freight Freight-out 30 Cash 30

Periodic Inventory Sys.

A/R 500

Sales
None Sales R&A A/R 50

500

50
None

Cash Sales Dis. A/R

441 9 450

Freight-out Cash

30 30
16

Perpetual Inventory System with Purchase, Purchase Returns and Allowance and Purchase Discounts (skip

pp17-25)

On Feb. 10, $1,000 inventory was purchased on credit. $200 inv. was returned on Feb. 15. The payment was made on Feb, 17.

Feb. 10 Inventory 1,000 Accounts Payable

Feb. 15 Accounts Payable Inventory
(To record return of goods purchased)

1,000
200

(To record goods purchased, terms 2/10, n/30)

200
800

Feb. 17 Accounts Payable Cash Inventory

784 16
17

(To record payment with discount taken)

Accounting for Merchandising Operations

Purchase Discounts Not Taken

March 3 Accounts Payable Cash 800 800

(To record payment on account without discounts taken)

Accounting for Merchandising Operations

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Purchase of Inventory Freight Costs

Freight Terms: FOB Shipping PointBuyers are responsible for freight charges. Feb. 10 Inventory 100 Cash 100
(To record freight charges of $100, terms: FOB shipping point) Note: If freight terms were FOB destination, the seller will be responsible for the payment of the freights.
Accounting for Merchandising Operations 19

Purchase Invoice/Sales Invoice (see Illustration 5-4 of textbook for an example)

Any purchase should be supported by a purchase invoice. Companies usually record purchases when receiving goods from the seller. A purchaser uses the sales invoice of the seller as its purchase invoice. In addition to the names of the seller and the buyer, the goods sold and the total amount, credit terms and freight terms are also included in the sales invoice.
Accounting for Merchandising Operations 20

Perpetual Inventory System with Sales, Sales Returns and Allowances, Sales Discounts
On March 2, Inventory costing $250 was sold for $500 on credit. On March 5, $50 of inventory sold was returned:

Mar. 2

A/R CGS

500 Sales 250 Inventory

500 250

(To record credit sale, terms 2/10,n/30) (To record cost of merchandise sold)

Mar. 5

Sales Return and Allowance 50 A/R 50 Inventory 25 CGS 25 (To record sales return)
21

Collection of A/R and Sales Discounts

Collection of A/R on Mar. 7: Cash 441 Sales Discount 9 A/R

450

(To record collection of A/R within discount period) If the discount is not taken (i.e., collection after discount period:

Cash A/R

450 450
Accounting for Merchandising Operations 22

Net Sales

Net Sales = Sales Sales Returns and Allowances Sales Discount

Accounting for Merchandising Operations

23

Sale of Inventory Freight Costs

FOB Shipping Point: Buyers are responsible for the freight. FOB Destination: Seller are responsible for the freight. The seller paid $30 for the shipping: Freight-out 30 Cash 30 (Note: Freight-out is an expense account)
Accounting for Merchandising Operations 24

Closing Entries (Perpetual Inventory System)

Sale Revenue Income Summary Income Summary Cost of Goods Sold Sales ret. and Allow. Sales Discount Freight-out 500 500

314
225 50 9 30
25

Accounting for Merchandising Operations

Income Statement Formats

Multiple -Step Income Statement (see illustration 5-11 of textbook for an Example) :
$150,000 (80,000) 70,000 (40,000) 30,000 $2,000 (9,000) 3,000

Net sales revenue Cost of good sold Gross margin Operating expenses Selling, Administration and Depreciation Income form operations Other icome (expense): Interest revenue Interest expense Gain on sale of equipment Income before income tax Income tax expense Net income

(4,000) 26,000 (10,000) $16,000

26 26

Accrual Accounting and the Financial Statements

Income Statement Formats (contd.)

Single-Step Income Statement (See Illus.5-12 of textbook)

$150,000 2,000 3,000 $155,000

Revenues: Net sales Interest revenue Gain on sale of equipment Total revenue Expenses: Cost of goods sold Selling, administrative and depr. Interest expense Income tax expense Total expenses Net Income

80.000 40,000 9,000 10,000 139,000 $ 16,000

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Accounting for Merchandising Operations

Income Statement Formats (Contd.)

Selling expenses include: salaries expense (sales related), advertising expense, freight-out. Administrative expenses include: salaries expense (administration related), utility expense, insurance expense.

Accounting for Merchandising Operations

28

Periodic Inv. System at Purchase with Purchase, Purchase Returns and Allowance and Purchase Discounts (Skip pp29-31)

On Feb. 10, $1,000 inventory was purchased on credit. $200 inv. was returned on Feb. 15. The payment was made on Feb, 17. The buyer paid freight charge $100 on 2/10.

2/10 Purchases 1,000 Accounts Payable 2/10 Freight-in 100 Cash 2/15 A/P 200 Purchase R&A 2/17 A/P 800 Cash Purchase Discounts
Accounting for Merchandising Operations

1,000

100
200 784 16
29

Net Purchases of a Periodic Inventory System

Net purchases = Purchases Purchases Returns and Allowances Purchases Returns + Freight-in

Accounting for Merchandising Operations

30

Periodic Inv. System at Sale with Sales, Sales Returns and Allowances and Sales Discounts
On March 2, Inventory costing $250 was sold for $500 on credit with terms, 2/10, n/30 and FOB destination. Shipping cost is $30. On March 5, $50 of inventory sold was returned and the remaining bal. of A/R was collected on March 7.

3/2

A/R

500

Sales 500 Freight-out 30 Cash 30 3/5 Sales Ret. and Allow. 50 A/R 50 3/7 Cash 441 Sales Discount 9 A/R 450 Accounting for Merchandising Operations

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