Merchandising OperationsMerchandising Operations

CHAPTER

5

Differences Between Service and Differences Between Service and Merchandising CompaniesMerchandising Companies

Service enterprises perform Service enterprises perform services as their primary source services as their primary source of revenueof revenue

Merchandising companies buy Merchandising companies buy and sell merchandiseand sell merchandise

• Primary source of revenues is the sale of Primary source of revenues is the sale of merchandisemerchandise– Sales revenueSales revenue

• Expenses for a merchandising company are Expenses for a merchandising company are divided into two categoriesdivided into two categories– Cost of goods soldCost of goods sold– Operating expensesOperating expenses

Merchandising CompanyMerchandising CompanyRevenues and ExpensesRevenues and Expenses

Illustration 5-1

Earnings Process Measurement Earnings Process Measurement for Merchandiserfor Merchandiser

Inventory SystemsInventory Systems

• Merchandising entities may use either (or Merchandising entities may use either (or both) of the following inventory systemsboth) of the following inventory systems– PerpetualPerpetual– PeriodicPeriodic

Inventory SystemsInventory Systems

• The periodic inventory system is covered The periodic inventory system is covered in Appendix 5A.in Appendix 5A.

• See slides later in this presentation on the See slides later in this presentation on the periodic system.periodic system.

Perpetual InventoryPerpetual Inventory

• This type of inventory system constantly This type of inventory system constantly updates inventory for purchases and salesupdates inventory for purchases and sales

• When a perpetual system is used, it is still When a perpetual system is used, it is still necessary to do a physical count at least necessary to do a physical count at least once a year to adjust perpetual records to once a year to adjust perpetual records to actualactual

• This system is used for many types of This system is used for many types of productsproducts

Cost of Merchandise InventoryCost of Merchandise Inventory

• All costsAll costs of getting the inventory to the of getting the inventory to the company and ready for salecompany and ready for sale

• Only costs associated with merchandise Only costs associated with merchandise purchased for resale, not assets acquired for purchased for resale, not assets acquired for use, such as suppliesuse, such as supplies

Merchandise PurchasesMerchandise Purchases

On May 4, the company bought $ 3,800 worth of On May 4, the company bought $ 3,800 worth of merchandise from PW Audio Supply, Inc.merchandise from PW Audio Supply, Inc.

GENERAL JOURNALGENERAL JOURNAL DebitDebit CreditCredit

May 4 Merchandise Inventory 3,800 May 4 Merchandise Inventory 3,800 Accounts Payable 3,800 Accounts Payable 3,800

To record goods purchased on accountTo record goods purchased on account

Accounts Accounts PayablePayable

Merchandise Merchandise InventoryInventory

May 4May 4 3,8003,800 May 4 May 4 3,8003,800

Freight Costs—On Incoming InventoryFreight Costs—On Incoming Inventory

On May 4, the company paid $150 to have the On May 4, the company paid $150 to have the merchandise inventory delivered to them.merchandise inventory delivered to them.

GENERAL JOURNALGENERAL JOURNAL Debit Debit CreditCredit

May 4 Merchandise Inventory 150 May 4 Merchandise Inventory 150 Cash 150 Cash 150

To record payment of freightTo record payment of freight

Freight-OutFreight-OutMerchandise Merchandise

InventoryInventoryMay 4 3,800May 4 3,800

CashCash May 4 150May 4 150

May 4 150May 4 150

Freight Costs—On Outgoing InventoryFreight Costs—On Outgoing Inventory

Or, assume that on May 4 the seller paid $150 to have Or, assume that on May 4 the seller paid $150 to have merchandise inventory delivered to the buyer.merchandise inventory delivered to the buyer.

GENERAL JOURNALGENERAL JOURNAL DebitDebit CreditCredit

May 4 Freight-Out 150 May 4 Freight-Out 150 Cash 150 Cash 150

To record payment of freight on To record payment of freight on goods soldgoods sold

Freight-OutFreight-OutMerchandise Merchandise

InventoryInventory CashCash

May 4 150May 4 150May 4 150May 4 150May 4 3,800May 4 3,800

Purchases Returns and AllowancesPurchases Returns and Allowances

On May 8 the company returned $300 worth of On May 8 the company returned $300 worth of merchandise to PW Audio Supply, Inc.merchandise to PW Audio Supply, Inc.

GENERAL JOURNALGENERAL JOURNAL DebitDebit CreditCredit

May 8 Accounts Payable 300 May 8 Accounts Payable 300 Merchandise Inventory Merchandise Inventory

300 300 To record goods returned that were To record goods returned that were purchased on accountpurchased on account

Accounts Accounts PayablePayable

Merchandise Merchandise InventoryInventory

May 4 3,800May 4 3,800 May 4 3,800May 4 3,800May 8 300May 8 300 May 8 300May 8 300

May 4 150May 4 150

Purchase DiscountsPurchase Discounts

• Credit terms specify the amount of cash Credit terms specify the amount of cash discount available to encourage early payment discount available to encourage early payment and the time period during which it is offeredand the time period during which it is offered

• 22/10, n/30 ( a 2% discount can be taken if the /10, n/30 ( a 2% discount can be taken if the invoice is paid in 10 days, otherwise the total invoice is paid in 10 days, otherwise the total invoice amount is due in 30 days)invoice amount is due in 30 days)

Company purchased $3,800 of merchandise and Company purchased $3,800 of merchandise and returned $300. The credit terms are 2/10, n/30 and returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period.the invoice was paid within the discount period.

Purchase DiscountsPurchase Discounts

Original invoiceOriginal invoice

Less: ReturnsLess: Returns

Amount due before discountAmount due before discount

2% discount2% discount

Net dueNet due

$3,800$3,800

300300

3,5003,500

7070

$3,430$3,430

Purchase DiscountsPurchase Discounts

Company purchased $3,800 of merchandise and Company purchased $3,800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period.invoice was paid within the discount period.

GENERAL JOURNALGENERAL JOURNAL DebitDebit CreditCredit

May 14 Accounts Payable 3,500 May 14 Accounts Payable 3,500 Cash Cash 3,430 3,430

Merchandise Inventory Merchandise Inventory 70 70 To record payment within discount period To record payment within discount period

Accounts Accounts PayablePayable

Merchandise Merchandise InventoryInventory

May 4 3,800May 4 3,800

CashCash

May 4 3,800May 4 3,800May 8 300May 8 300 May 8 300May 8 300

May 14 70May 14 70 May 14May 14 3,5003,500

May 14May 14 3,4303,430

May 4 150May 4 150

Sales Revenue—Perpetual SystemSales Revenue—Perpetual System

• Recorded when earnedRecorded when earned– Revenue recognition principleRevenue recognition principle

• Two entries are made for each saleTwo entries are made for each sale– To record saleTo record sale

– To record cost of merchandise soldTo record cost of merchandise sold

SalesAssume a cash sale of $2,200 for merchandise that cost $1,400

CashAccounts

ReceivableMerchandise

Inventory

Cost of Goods Sold

Sales Returns & AllowancesSales

May 4 2,200

May 4 2,200

May 4 1,400

May 4 1,400

Sales Assume a sale of $3,800 on account for merchandise that cost $2,400

CashAccounts

ReceivableMerchandise

Inventory

Cost of Goods Sold

Sales Returns & AllowancesSales

May 4 3,800

May 4 3,800

May 4 2,400

May 4 2,400

Sales Returns and AllowancesSales Returns and Allowances

• Contra revenue accountContra revenue account to sales to sales• Separate account used contrary to purchase Separate account used contrary to purchase

returns and allowancesreturns and allowances• Used to show how much came in on returns Used to show how much came in on returns

and allowancesand allowances• Excessive returns and allowances suggestExcessive returns and allowances suggest

– Errors in billing customersErrors in billing customers– Mistakes in delivery or shipment of goodsMistakes in delivery or shipment of goods

Flip side of purchase returns and allowance EXCEPT Flip side of purchase returns and allowance EXCEPT two entries are required: one to record return (two entries are required: one to record return (at sale at sale priceprice) and one to restore goods to inventory, assuming ) and one to restore goods to inventory, assuming goods resaleable (goods resaleable (at costat cost))

On seller’s booksOn seller’s books

GENERAL JOURNALGENERAL JOURNAL Debit Debit CreditCredit

May 8 May 8 Sales Returns and Allowance 300 Sales Returns and Allowance 300 Accounts Receivable 300 Accounts Receivable 300

To record return of goods delivered To record return of goods delivered to Sauk Stereoto Sauk Stereo

Merchandise InventoryMerchandise Inventory 140 140

Cost of Goods SoldCost of Goods Sold 140 140

To restore returns to inventoryTo restore returns to inventory

Sales Returns and AllowancesSales Returns and Allowances

Sales DiscountsSales Discounts

• Contra revenue accountContra revenue account to salesto sales• Separate account used contrary to purchase Separate account used contrary to purchase

discountsdiscounts• Used to disclose amount of cash discounts Used to disclose amount of cash discounts

taken by customerstaken by customers

Sales DiscountsSales Discounts

On buyer’s booksOn buyer’s booksGeneral JournalGeneral Journal

May 14 Accounts PayableMay 14 Accounts Payable

CashCash

Merchandise InventoryMerchandise Inventory

To record payment within discount periodTo record payment within discount period

DebitDebit

3,5003,500

CreditCredit

3,4303,430

7070

On seller’s booksOn seller’s booksGeneral JournalGeneral Journal

May 14 CashMay 14 Cash

Sales DiscountsSales Discounts

Accounts ReceivableAccounts Receivable

To record collection within discount periodTo record collection within discount period

DebitDebit

3,4303,430

7070

CreditCredit

3,5003,500

Two Forms ofTwo Forms ofStatements of EarningsStatements of Earnings

• Single-step statement of earningsSingle-step statement of earnings• Multiple-step statement of earnings Multiple-step statement of earnings

Single-Step Statement of EarningsSingle-Step Statement of Earnings

RevenuesRevenues

ExpensesExpenses

Earnings before income taxesEarnings before income taxes

Income taxesIncome taxes

Net earnings Net earnings

$10,000$10,000

2,0002,000

8,0008,000

1,0001,000

$ 7,000$ 7,000

PW AUDIO SUPPLY, INC.Single-StepSingle-Step Statement of Earnings

Year Ended December 31, 2004

SalesSales

Interest revenueInterest revenue

Gain on sale of equipmentGain on sale of equipment

Total revenuesTotal revenues

ExpensesExpenses

Cost of goods soldCost of goods sold

Operating expensesOperating expenses

Interest expenseInterest expense

Casualty loss from vandalismCasualty loss from vandalism

Total expensesTotal expenses

Earnings before income taxesEarnings before income taxes

Income tax expenseIncome tax expense

Net earningsNet earnings

$460,000$460,000

3,0003,000

600600

$463,600$463,600

$316,000 $316,000 114,000114,000

1,8001,800

200200

432,000432,000

31,60031,600

10,10010,100

$ 21,500$ 21,500

PW AUDIO SUPPLY, INC.Multiple-StepMultiple-Step Statement of Earnings

Year Ended December 31, 2004Sales revenueSales revenue SalesSales Less: Sales returns and allowancesLess: Sales returns and allowances Sales discountsSales discountsNet salesNet salesCost of goods soldCost of goods soldGross profitGross profitOperating expensesOperating expenses Store salaries expenseStore salaries expense Advertising expenseAdvertising expense Amortization expenseAmortization expense Freight-outFreight-out Salaries expenseSalaries expense Utilities expenseUtilities expense Insurance expenseInsurance expense Total operating expensesTotal operating expenses Earnings from operationsEarnings from operations

$12,000$12,000 8,0008,000

$45,000$45,00016,00016,000 8,0008,0007,0007,000

19,00019,00017,00017,000

2,0002,000

$480,000$480,000

20,00020,000460,000460,000

316,000316,000144,000144,000

114,000114,00030,00030,000

PW AUDIO SUPPLY, INC.Multiple-StepMultiple-Step Statement of Earnings

Year Ended December 31, 2004

Earnings from operations (continued)Earnings from operations (continued)Other revenuesOther revenues Interest revenueInterest revenue Gain on sale of equipmentGain on sale of equipment

Other expensesOther expenses Interest expenseInterest expense Casualty loss from vandalismCasualty loss from vandalism

Earnings before income taxesEarnings before income taxesIncome tax expenseIncome tax expenseNet earningsNet earnings

$3,000$3,000 600600 3,6003,600

$1,800$1,800 200200 2,0002,000

$30,000$30,000

1,6001,60031,60031,600 10,10010,100

$21,500$21,500

Evaluating ProfitabilityEvaluating Profitability

• Gross profit marginGross profit margin• Profit marginProfit margin

Gross Profit MarginGross Profit Margin

Gross Profit Margin = Gross Profit Margin = Gross ProfitGross Profit

Net SalesNet Sales

Company’s gross profit Company’s gross profit expressed as a percentageexpressed as a percentage

Profit MarginProfit Margin

Profit Margin = Profit Margin = Net EarningsNet Earnings

Net SalesNet Sales

Appendix 5A: Periodic SystemAppendix 5A: Periodic System

• Merchandising entities may use either (or Merchandising entities may use either (or both) of the following inventory systemsboth) of the following inventory systems– PerpetualPerpetual– PeriodicPeriodic

Periodic SystemPeriodic System

• This type of inventory system does not keep This type of inventory system does not keep an updated record of all goods bought, sold an updated record of all goods bought, sold and on handand on hand

• In a periodic system, inventory is only In a periodic system, inventory is only counted once a yearcounted once a year

• This system is mostly used for inexpensive This system is mostly used for inexpensive productsproducts

Sales RevenuesSales Revenues——Periodic SystemPeriodic System

• Record when earned - Record when earned - revenue recognition revenue recognition principleprinciple

• Only ONE entry is made for each sale in a Only ONE entry is made for each sale in a periodic inventory systemperiodic inventory system

• NONE to record cost of goods sold as in a NONE to record cost of goods sold as in a perpetual inventory systemperpetual inventory system

Sales Assume a sale of $3,800 on account

CashAccounts

ReceivableMerchandise

Inventory

Cost of Goods Sold

Sales Returns & AllowancesSales

May 4 3,800

May 4 3,800

X

X

Purchase of MerchandisePurchase of Merchandise

• Perpetual inventory systemPerpetual inventory system– Merchandise InventoryMerchandise Inventory-one account used to -one account used to

accumulate the cost of goods purchasedaccumulate the cost of goods purchased

• Periodic inventory systemPeriodic inventory system– Separate accountsSeparate accounts used to accumulate the used to accumulate the

cost of goods purchasedcost of goods purchased

Normal BalancesNormal BalancesCost of Goods Purchased AccountsCost of Goods Purchased Accounts

AccountAccount Normal BalanceNormal Balance

PurchasesPurchases

Purchase Returns and Allowances Purchase Returns and Allowances Purchase Discounts Purchase Discounts

Freight InFreight In

DebitDebit

DebitDebit

Credit Credit

Credit Credit

Net PurchasesNet Purchases

Net purchasesNet purchases are gross purchases are gross purchases adjusted for returns and discountsadjusted for returns and discounts

PurchasesPurchases

Less: Purchase returns and allowancesLess: Purchase returns and allowances

Purchase discountsPurchase discounts

Net purchasesNet purchases

$ 10,400$ 10,400

6,8006,800

$325,000$325,000

17,20017,200

307,800307,800

Cost of Goods PurchasedCost of Goods Purchased

Cost of goods purchasedCost of goods purchased is net purchases plus is net purchases plus freight-infreight-in

PurchasesPurchases

Less: Purchase returns and allowancesLess: Purchase returns and allowances

Purchase discountsPurchase discounts

Net purchasesNet purchases

Add: Freight-inAdd: Freight-in

Cost of goods purchasedCost of goods purchased

$ 10,400$ 10,400

6,8006,800

$325,000$325,000

17,20017,200

307,800307,800

12,20012,200

320,000320,000