CH 05

Study Objectives
Chapter
1. 2. 3. 4. 5. 6.
Identify the differences between service and merchandising companies. Explain the recording of purchases under a perpetual inventory system. Explain the recording of sales revenues under a perpetual inventory system. Explain the steps in the accounting cycle for a merchandising company. Prepare an income statement for a merchandiser. Explain the computation and importance of gross profit.
Accounting for Merchandising Operations

Slide 5-1 Slide 5-2
Accounting for Merchandising Operations
Merchandising Operations Merchandising Companies
Merchandising Operations
Recording Purchases of Merchandise Freight costs Purchase returns and allowances Purchase discounts Summary of purchasing transactions
Recording Sales of Merchandise Sales returns and allowances Sales discounts
Completing the Accounting Cycle Adjusting entries Closing entries Summary of merchandising entries
Forms of Financial Statements Income statement Classified statement of financial position
Buy and Sell Goods
Operating cycles Flow of costs costs perpetual and periodic inventory systems
Wholesaler
Retailer
Consumer
The primary source of revenues is referred to as sales revenue or sales.

Slide 5-3 Slide 5-4
SO 1 Identify the differences between service and merchandising companies.
Merchandising Operations Income Measurement

Sales Revenue
Less
Merchandising Operations Operating Cycle

Illustration 5-1 Illustration 5-2
Not used in a Service business.
Cost of Goods Sold
Gross Profit
Less
Cost of goods sold is the total cost of merchandise sold during the period.
Operating Expenses
Net Income (Loss)
The operating cycle of a merchandising company ordinarily is longer than that of a service company.
Slide 5-5
Slide 5-6
Merchandising Operations Flow of Costs

Illustration 5-3

Perpetual System
1. 2. Purchases increase Merchandise Inventory. Freight costs, Purchase Returns and Allowances and Purchase Discounts are included in Merchandise Inventory. 3. Cost of Goods Sold is increased and Merchandise Inventory is decreased for each sale. 4. Physical count done to verify Merchandise Inventory balance.
The perpetual inventory system provides a continuous record of Merchandise Inventory and Cost of Goods Sold.
Slide 5-7
Slide 5-8

Periodic System
1. 2. 3. Purchases of merchandise increase Purchases. Ending Inventory determined by physical count. Calculation of Cost of Goods Sold: Beginning inventory Add: Purchases, net Goods available for sale Less: Ending inventory Cost of goods sold
Slide 5-9
Recording Purchases of Merchandise

Illustration 5-5
Made using cash or credit (on account). Normally recorded when goods are received. Purchase invoice should support each credit purchase.
$ 100,000 + 800,000 900,000 - 125,000 $ 775,000

Slide 5-10
SO 2 Explain the recording of purchases under a perpetual inventory system.

Under the perpetual inventory system, companies record in the Merchandise Inventory account the purchase of goods they intend to sell.
Illustration: From INVOICE NO. 731 (Illustration 5-5) record the
Recording Purchases of Merchandise Freight Costs Terms of Sale

Illustration 5-6
journal entry Sauk Stereo would make to record its purchase from PW Audio Supply.
Seller places goods Free On Board the carrier, and buyer pays freight costs.
May 4
Merchandise inventory Accounts payable
3,800 3,800
Seller places goods Free On Board to the buyers place of business, and seller pays freight costs.
Slide 5-11
Slide 5-12
Freight costs incurred by the seller are an operating expense.
SO 2

Illustration: Assume upon delivery of the goods on May 6, Sauk Stereo pays Acme Freight Company 150 for freight charges, the entry on Sauk Stereos books is: May 6 Merchandise inventory Cash 150 150
Recording Purchases of Merchandise Purchase Returns and Allowances

Purchaser may be dissatisfied because goods are damaged or defective, of inferior quality, or do not meet specifications. Purchase Return Purchase Allowance
May choose to keep the merchandise if the seller will grant an allowance (deduction) from the purchase price.
Assume the freight terms on the invoice in Illustration 5-5 had required PW Audio Supply to pay the freight charges, the entry by PW Audio Supply would have been: May 4
Slide 5-13
Freight-out (or Delivery Expense) Cash
150 150
Slide 5-14
Return goods for credit if the sale was made on credit, or for a cash refund if the purchase was for cash.

Illustration: Assume that on May 8 Sauk Stereo returned to PW Audio Supply goods costing 300. May 8 Accounts payable Merchandise inventory 300 300
Question
In a perpetual inventory system, a return of defective merchandise by a purchaser is recorded by crediting: a. Purchases b. Purchase Returns c. Purchase Allowance d. Merchandise Inventory
Answer on notes page Slide 5-15
Slide 5-16
Recording Purchases of Merchandise Purchase Discounts

Credit terms may permit buyer to claim a cash discount for prompt payment. Advantages: Purchaser saves money. Seller shortens the operating cycle.
Example: Credit terms of 2/10, n/30, is read two-ten, net thirty. 2% cash discount if payment is made within 10 days.
Slide 5-17
Recording Purchases of Merchandise Purchase Discount Terms

2/10, n/30
2% discount if paid within 10 days, otherwise net amount due within 30 days.
1/10 EOM
1% discount if paid within first 10 days of next month.
n/10 EOM
Net amount due within the first 10 days of the next month.
Slide 5-18

Illustration: Assume Sauk Stereo pays the balance due of 3,500 (gross invoice price of 3,800 less purchase returns and allowances of 300) on May 14, the last day of the discount period. Prepare the journal entry Sauk makes to record its May 14 payment. May 14 Accounts payable Cash Merchandise Inventory 3,500 3,430 70

Illustration: If Sauk Stereo failed to take the discount, and instead made full payment of 3,500 on June 3, the journal entry would be: June 3 Accounts payable Cash 3,500 3,500
Slide 5-19
Slide 5-20
Recording Purchases of Merchandise Purchase Discounts

Should discounts be taken when offered?
Passing up the discount offered equates to paying an interest rate of 2% on the use of $3,500 for 20 days. Example: 2% for 20 days = Annual rate of 36.5% (365/20 = 18.25 twenty-day periods x 2% = 36.5%)
Recording Purchases of Merchandise Summary of Purchasing Transactions

Illustration
Merchandise Inventory
Debit Credit
300
4th - Purchase 6th Freight-in Balance
3,800
150
3,580
70
8th - Return 14th - Discount
Slide 5-21
Slide 5-22
Recording Sales of Merchandise

Illustration 5-5

Two Journal Entries to Record a Sale
#1
Made for cash or credit (on account). Normally recorded when earned, usually when goods transfer from seller to buyer. Sales invoice should support each credit sale.
SO 3 Explain the recording of sales revenues under a perpetual inventory system.
Cash or Accounts receivable Sales
XXX XXX
Selling Price
#2
Cost of goods sold Merchandise inventory
XXX XXX
Cost
Slide 5-23
Slide 5-24

Illustration: Assume PW Audio Supply records its May 4 sale of 3,800 to Sauk Stereo (Illustration 5-5) as follows. Assume the merchandise cost PW Audio Supply 2,400. May 4 Accounts receivable Sales 4 Cost of goods sold Merchandise inventory 2,400 2,400 3,800 3,800
Recording Sales of Merchandise Sales Returns and Allowances

Flipside of purchase returns and allowances. Contra-revenue account (debit). Sales not reduced (debited) because:
would obscure importance of sales returns and allowances as a percentage of sales. could distort comparisons between total sales in different accounting periods.
Slide 5-25
Slide 5-26

Illustration: Prepare the entry PW Audio Supply would make to record the credit for returned goods that had a 300 selling price (assume a 140 cost). Assume the goods were not defective.

Illustration: Assume the returned goods were defective and had a scrap value of 50, PW Audio would make the following entries:
May 8 May 8 Sales returns and allowances Accounts receivable 8 Merchandise inventory Cost of goods sold 140 140 300 300 8
Sales returns and allowances Accounts receivable Merchandise inventory Cost of goods sold
300 300 50 50
Slide 5-27
Slide 5-28
Recording Sales of Merchandise Sales Discount

Offered to customers to promote prompt payment. Flipside of purchase discount. Contra-revenue account (debit).
Review Question
The cost of goods sold is determined and recorded each time a sale occurs in: a. periodic inventory system only. b. a perpetual inventory system only. c. both a periodic and perpetual inventory system. d. neither a periodic nor perpetual inventory system.
Slide 5-29
Answer on notes page
Slide 5-30

Illustration: Assume Sauk Stereo pays the balance due of 3,500 (gross invoice price of 3,800 less purchase returns and allowances of 300) on May 14, the last day of the discount period. Prepare the journal entry PW Audio Supply makes to record the receipt on May 14. May 14 Cash Sales discounts Accounts receivable 3,430 70 * 3,500
Completing the Accounting Cycle Adjusting Entries

Generally the same as a service company. One additional adjustment to make the records agree with the actual inventory on hand. Involves adjusting Merchandise Inventory and Cost of Goods Sold.
* [(3,800 300) X 2%]

Slide 5-31
Slide 5-32
SO 4 Explain the steps in the accounting cycle for a merchandising company.
Completing the Accounting Cycle

Illustration: Suppose that PW Audio Supply has an unadjusted balance of 40,500 in Merchandise Inventory. Through a physical count, PW Audio determines that its actual merchandise inventory at year-end is 40,000. The company would make an adjusting entry as follows. Cost of goods sold Merchandise inventory 500 500
Completing the Accounting Cycle
Closing Entries
Slide 5-33
SO 4 Explain the steps in the accounting cycle for a merchandising company.
Slide 5-34
Forms of Financial Statements Income Statement

Primary source for evaluating a companys performance. Format designed to differentiate between the various sources of income and expense.
Forms of Financial Statements

Income Statement Presentation of Sales
Illustration 5-13
Slide 5-35
SO 5 Prepare an income statement for a merchandiser.
Slide 5-36
SO 5 Prepare an income statement for a merchandiser.

Gross Profit
Illustration 5-13
Operating Expenses
Illustration 5-13 Illustration 5-10
IFRS allows presentation by nature and presentation by function.

Slide 5-37
SO 6 Explain the computation and importance of gross profit.
Slide 5-38
SO 5 Distinguish between a multiplemultiple-step and a singlesingle-step income statement.

Various revenues and gains and expenses and losses that are unrelated to the companys main line of operations.

Interest expense, if material, must be disclosed on the face of the income statement.
Other Income and Expense

Slide 5-39
Interest Expense
Slide 5-40
SO 5
Illustration 5-13
SO 5
Illustration 5-13

Comprehensive Income
Includes certain adjustments to pension plan assets, gains and losses on foreign currency translation, and unrealized gains and losses on certain types of investments.
Illustration 5-14
Review Question
The multiple-step income statement for a merchandiser shows each of the following features except: a. gross profit. b. cost of goods sold. c. a sales revenue section.
Reported in a combined statement of net income and comprehensive income, or in a separate schedule that reports only comprehensive income.
Slide 5-41
d. investing activities section.

Slide 5-42
SO 6 Explain the computation and importance of gross profit.

Classified Statement of Financial Position
Illustration 5-15

Indicate in which financial statement (Income Statement, IS; Statement of Financial Position, SFP; or Retained Earnings Statement, RES) and under what classification each of the following would be reported. Accounts Payable Accounts Receivable Accumulated Depreciation Advertising Expense Depreciation Expense Dividends Cash SFP SFP SFP IS IS RES SFP Current liabilities Current assets Property, plant, and equipment Operating expenses Operating expenses Deduction section Current assets
Slide 5-43
Slide 5-44

Indicate in which financial statement (Income Statement, IS; Statement of Financial Position, SFP; or Retained Earnings Statement, RES) and under what classification each of the following would be reported. Freight-out Gain on Sale of Equipment Insurance Expense Interest Expense Interest Payable Land Merchandise Inventory
Slide 5-45

Indicate in which financial statement (Income Statement, IS; Statement of Financial Position, SFP; or Retained Earnings Statement, RES) and under what classification each of the following would be reported. Notes Payable Office Building Property Tax Payable Salaries Expense Salaries Payable Sales Returns and Allowances Share CapitalOrdinary
Slide 5-46
IS IS IS IS SFP SFP SFP
Operating expenses Other income and expense Operating expenses Interest expense Current liabilities Property, plant, and equipment Current assets
SFP SFP SFP IS SFP IS SFP
Non-current liabilities Property, plant, and equipment Current liabilities Operating expenses Current liabilities Sales revenues Equity

Indicate in which financial statement (Income Statement, IS; Statement of Financial Position, SFP; or Retained Earnings Statement, RES) and under what classification each of the following would be reported. Store Equipment Sales Revenue Utilities Expense SFP IS IS Property, plant, and equipment Sales revenues Operating expenses
Periodic Inventory System

Periodic System
Separate accounts used to record purchases, freight costs, returns, and discounts. Company does not maintain a running account of changes in inventory. Ending inventory determined by physical count.
Slide 5-47
Slide 5-48
SO 7 Explain the recording of purchases and sales of inventory under a periodic inventory system.
Periodic Inventory System

Calculation of Cost of Goods Sold
Illustration 5A-1
Recording Purchases under Periodic System

Illustration: On the basis of the sales invoice (Illustration 5-5) and receipt of the merchandise ordered from PW Audio Supply, Sauk Stereo records the 3,800 purchase as follows. May 4 Purchases Accounts payable 3,800 3,800
Slide 5-49
Slide 5-50

Freight Costs
Illustration: If Sauk pays Acme Freight Company 150 for freight charges on its purchase from PW Audio Supply on May 6, the entry on Sauks books is: May 6 Freight-in (Transportation-in) Cash 150 150

Purchase Returns and Allowances
Illustration: Sauk Stereo returns 300 of goods to PW Audio Supply and prepares the following entry to recognize the return.
May 8
Accounts payable
300 300
Purchase returns and allowances
Slide 5-51
Slide 5-52

Purchase Discounts
Illustration: On May 14 Sauk Stereo pays the balance due on account to PW Audio Supply, taking the 2% cash discount allowed by PW Audio for payment within 10 days. Sauk Stereo records the payment and discount as follows. May 14 Accounts payable Purchase discounts Cash 3,500 70 3,430
Recording Sales under Periodic System

Illustration: PW Audio Supply, records the sale of 3,800 of merchandise to Sauk Stereo on May 4 (sales invoice No. 731, Illustration 5-5) as follows. May 4 Accounts receivable Sales 3,800 3,800
No entry is recorded for cost of goods sold at the time of the sale under a periodic system.
Slide 5-54
Slide 5-53

Sales Returns and Allowances
Illustration: To record the returned goods received from Sauk Stereo on May 8, PW Audio Supply records the 300 sales return as follows. May 4 Sales returns and allowances Accounts receivable 300 300

Sales Discounts
Illustration: On May 14, PW Audio Supply receives payment of 3,430 on account from Sauk Stereo. PW Audio honors the 2% cash discount and records the payment of Sauks account receivable in full as follows. May 14 Cash Sales discounts Accounts receivable 3,430 70 3,500
Slide 5-55
Slide 5-56
Comparison of EntriesEntries-Perpetual vs. Periodic

Illustration 5A-2
Comparison of EntriesEntries-Perpetual vs. Periodic

Illustration 5A-2
Slide 5-57
Slide 5-58
Worksheet for a Merchandising Company
Illustration 5B-1 Slide 5-59
SO 8

CH 05

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CH 05

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Study Objectives

Accounting for Merchandising Operations

Accounting for Merchandising Operations

Merchandising Operations Merchandising Companies

Recording Sales of Merchandise Sales returns and allowances Sales discounts

Forms of Financial Statements Income statement Classified statement of financial position

Buy and Sell Goods

The primary source of revenues is referred to as sales revenue or sales.

SO 1 Identify the differences between service and merchandising companies.

Merchandising Operations Income Measurement

Merchandising Operations Operating Cycle

Not used in a Service business.

Cost of Goods Sold

Net Income (Loss)

SO 1 Identify the differences between service and merchandising companies.

SO 1 Identify the differences between service and merchandising companies.

Merchandising Operations Flow of Costs

Merchandising Operations Flow of Costs

SO 1 Identify the differences between service and merchandising companies.

SO 1 Identify the differences between service and merchandising companies.

Merchandising Operations Flow of Costs

Recording Purchases of Merchandise

$ 100,000 + 800,000 900,000 - 125,000 $ 775,000

SO 1 Identify the differences between service and merchandising companies.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Purchases of Merchandise

Recording Purchases of Merchandise Freight Costs Terms of Sale

Merchandise inventory Accounts payable

SO 2 Explain the recording of purchases under a perpetual inventory system.

Freight costs incurred by the seller are an operating expense.

Recording Purchases of Merchandise

Recording Purchases of Merchandise Purchase Returns and Allowances

Freight-out (or Delivery Expense) Cash

SO 2 Explain the recording of purchases under a perpetual inventory system.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Purchases of Merchandise

Recording Purchases of Merchandise

SO 2 Explain the recording of purchases under a perpetual inventory system.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Purchases of Merchandise Purchase Discounts

Recording Purchases of Merchandise Purchase Discount Terms

SO 2 Explain the recording of purchases under a perpetual inventory system.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Purchases of Merchandise

Recording Purchases of Merchandise

SO 2 Explain the recording of purchases under a perpetual inventory system.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Purchases of Merchandise Purchase Discounts

Recording Purchases of Merchandise Summary of Purchasing Transactions

4th - Purchase 6th Freight-in Balance

8th - Return 14th - Discount

SO 2 Explain the recording of purchases under a perpetual inventory system.

SO 2 Explain the recording of purchases under a perpetual inventory system.

Recording Sales of Merchandise

Recording Sales of Merchandise

Cash or Accounts receivable Sales

Cost of goods sold Merchandise inventory

SO 3 Explain the recording of sales revenues under a perpetual inventory system.

Recording Sales of Merchandise

Recording Sales of Merchandise Sales Returns and Allowances

SO 3 Explain the recording of sales revenues under a perpetual inventory system.

SO 3 Explain the recording of sales revenues under a perpetual inventory system.