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Transcript of Merchandising Operations Multimedia Slides by: Gail A. Mestas, MAcc, New Mexico State University...
Merchandising Operations
Multimedia Slides by: Gail A. Mestas, MAcc, New Mexico State University
Chapter 5
Copyright © Houghton Mifflin Company. All rights reserved. 5–2
Learning Objectives
1. Identify the management issues related to merchandising businesses.
2. Compare the income statements for service and merchandising concerns, and define the components of the merchandising income statement.
3. Define and distinguish the terms of sale for merchandising transactions.
4. Prepare an income statement and record merchandising transactions under the perpetual inventory system.
Copyright © Houghton Mifflin Company. All rights reserved. 5–3
Supplemental Objectives
5. Prepare an income statement and record merchandising transactions under the periodic inventory system.
6. Prepare a work sheet and closing entries for a merchandising concern using the perpetual inventory system.
7. Prepare a work sheet and closing entries for a merchandising concern using the periodic inventory system.
8. Apply sales and purchases discounts to merchandising transactions.
Copyright © Houghton Mifflin Company. All rights reserved. 5–4
Management Issues in Merchandising Businesses
• Objective 1– Identify the management issues related to
merchandising businesses
Copyright © Houghton Mifflin Company. All rights reserved. 5–5
Merchandising Businesses
… earn income by buying and selling products or merchandise
• Can be wholesalers or retailers• Use the same basic accounting methods as
service companies– The process is more complex than for service
companies because of the buying and selling of merchandise
• The goods on hand for sale to customers are called merchandise inventory
Copyright © Houghton Mifflin Company. All rights reserved. 5–6
Management Issues in Merchandising Businesses
• Cash flow management
• Profitability management
• Choice of inventory system
• Control of merchandising operations
Copyright © Houghton Mifflin Company. All rights reserved. 5–7
Cash Flow Management
… involves managing a company’s receipts and payments of cash
• If bills cannot be paid when due, the company may be forced out of business
• Merchandising businesses engage in a series of transactions called the operating cycle
Copyright © Houghton Mifflin Company. All rights reserved. 5–8
The Operating Cycle
• Transactions in the operating cycle include– Purchase of merchandise inventory for
cash or credit
– Payment for purchases made on credit
– Sales of merchandise inventory for cash or on credit
– Collection of cash from credit sales
Copyright © Houghton Mifflin Company. All rights reserved. 5–9
1. Merchandise inventory is purchased for cash or on credit
CashAccounts Payable
Merchandise Inventory
Purchasefor cash
Purchaseon credit
The Operating Cycle of Merchandising Concerns
AccountsReceivable
2. Payments are made for purchases on credit
Paymentof cash
3. Merchandise is sold for cash or on credit
Salesfor cash
Saleson credit
4. Cash is collected from credit sales
Collection of cash
Copyright © Houghton Mifflin Company. All rights reserved. 5–10
The Financing Period
… is the time period from the purchase of inventory
until it is ultimately sold and collectedless the amount of time creditors give the
company to pay for the inventory
• Also called the cash gap• This is the period of time the company will be without cash from
a particular series of transactions• The company will need to have funds available or borrow from
the bank• This is why cash flow management is important
Copyright © Houghton Mifflin Company. All rights reserved. 5–11
The Financing Period Illustrated
4. Average days to collect on receivables is 60 days (Cash is received)
OPERATING CYCLE INVENTORY
PAYABLES RECEIVABLES FINANCING PERIOD 0
20
40
60
80
100
120
DAYS
1. Inventory is purchased on credit (Accounts Payable)
Inventorypurchased
Cash received
Inventory sold
Cash paid
2. Terms for payment are 30 days (Cash is paid)
3. Average days to sell inventory is 60 days – sold on credit (Accounts Receivable)
The financing period, or cash gap, is 90 days(120 days – 30 days)
Copyright © Houghton Mifflin Company. All rights reserved. 5–12
Target 61 20 52 29
Dillard’s 102 42 43 101
Average Days
Company Inventory on
Hand
+ to Collect
Receivables –
to Pay for Merchandise
=
Financing Period
• Target’s financing period is shorter because it sells most of its merchandise for cash
The Financing Period (cont’d)
• The financing period – Varies for different companies
– Can be 120 days, or even longer, for merchandising companies
• Example
Copyright © Houghton Mifflin Company. All rights reserved. 5–13
Types of payments for purchases
Cash
Bank credit card
Store credit
Funds from these sales are available to the merchandiser immediately
Merchandiser must wait a period of time before receiving cash
Cash Versus Credit
• Retailers reduce their financing period (improve their cash flow) by selling as much as possible for cash– Encourage sales by cash or bank credit card
Copyright © Houghton Mifflin Company. All rights reserved. 5–14
Profitability Management
… is a complex activity that includes
achieving a satisfactory gross margin
and maintaining acceptable levels of operating expenses
Copyright © Houghton Mifflin Company. All rights reserved. 5–15
Profitability Management (cont’d)
• Achieving a satisfactory gross margin depends on– Setting appropriate prices for merchandise
– Purchasing merchandise at favorable prices and terms
• Maintaining acceptable levels of operating costs depends on– Controlling expenses
• Using an operating budget is an efficient way to control expenses
– Operating efficiently
Copyright © Houghton Mifflin Company. All rights reserved. 5–16
Operating Budgets
… consist of detailed listings of projected selling expenses and general and
administrative expenses for a company
• Reflect management’s operating plans
• At year-end and key times during the year, management should compare actual and budgeted expenses and make adjustments to operations
Copyright © Houghton Mifflin Company. All rights reserved. 5–17
Choice of Inventory System
• Two basic systems– Perpetual inventory system
– Periodic inventory system
• Management must choose the system or combination of systems that is best for achieving the company’s goals
Copyright © Houghton Mifflin Company. All rights reserved. 5–18
Perpetual Inventory System
…determines inventory by keeping continuous records
of the quantity and, usually, the cost of individual items
as they are bought and sold
Copyright © Houghton Mifflin Company. All rights reserved. 5–19
Perpetual Inventory System (cont’d)
• Detailed data enable management to– Determine product availability
• Can respond to customers’ inquiries
– Avoid running out of stock• Able to order inventory more effectively
– Control financial costs associated with investments in inventory
Copyright © Houghton Mifflin Company. All rights reserved. 5–20
Accounting for Inventory Under the Perpetual System
• Purchases– The cost of each item is recorded in the Merchandise
Inventory account
• Sales– The cost of each item is transferred from the
Merchandise Inventory account to the Cost of Goods Sold account
• Therefore– Merchandise Inventory account balance = Cost of
goods on hand
– Cost of Goods Sold account balance = Cost of merchandise sold to customers
Copyright © Houghton Mifflin Company. All rights reserved. 5–21
Periodic Inventory System
… determines inventory by a physical count
taken at the end of the accounting period
• No detailed records of the actual inventory on hand are maintained during the accounting period
• Amount of inventory on hand is accurate only on the balance sheet date
Copyright © Houghton Mifflin Company. All rights reserved. 5–22
Periodic Inventory System
• Used to reduce the amount of clerical work
• Lack of records could lead to lost sales or high operating costs
• More likely to be used by– Smaller companies– Companies that sell high volumes of low value items
• Drugstores• Automobile parts stores• Department stores• Discount stores• Grain companies
Copyright © Houghton Mifflin Company. All rights reserved. 5–23
Perpetual Inventory System
• More likely to be used by– Larger companies
– Companies that sell high-value items• Automobiles
• Appliances
Copyright © Houghton Mifflin Company. All rights reserved. 5–24
Control of Merchandising Operations
• Principal transactions of merchandising businesses are– Buying assets
– Selling assets• Involve cash, accounts receivable, and merchandise
inventory
• These assets are vulnerable to theft and embezzlement– Management must use internal controls to protect
these assets
Copyright © Houghton Mifflin Company. All rights reserved. 5–25
Internal Control
• Internal control is created by establishing– An environment of control
– Accounting systems
– Control procedures
Copyright © Houghton Mifflin Company. All rights reserved. 5–26
Physical Inventory
• A physical count of all merchandise on hand– Required under both the perpetual and periodic
inventory systems
– Under the perpetual inventory system, the actual count is compared to accounting records to determine any shortages that may exist
• Used to facilitate control over merchandise inventory
Copyright © Houghton Mifflin Company. All rights reserved. 5–27
Merchandise Inventory
…includes all goods intended for sale
that are owned by a business
• Includes all goods intended for sale, regardless of where they are located, such as– Goods in transit if title has passed to the merchant
– Damaged or obsolete goods that can be sold at reduced prices
• Does not include – Merchandise that has been sold
– Damaged or obsolete goods that cannot be sold
Copyright © Houghton Mifflin Company. All rights reserved. 5–28
Inventory Losses
• Result from spoilage, shoplifting, and theft by employees
• Periodic inventory system– No means to identify losses because the costs are
automatically included in cost of goods sold
• Perpetual inventory system– Losses equal the difference between the inventory
records and the physical count
– Update inventory by crediting Merchandise Inventory and debiting Cost of Goods Sold
Copyright © Houghton Mifflin Company. All rights reserved. 5–29
Discussion
Q. What four issues must managers of merchandising businesses face?
A. The four issues that managers of merchandising businesses face are 1. Cash flow management
2. Profitability management
3. Choosing between the periodic and the perpetual inventory systems, and
4. Establishing an internal control structure that protects the business’s assets
Copyright © Houghton Mifflin Company. All rights reserved. 5–30
Income Statement for a Merchandising Concern
• Objective 2– Compare the income statements for
service and merchandising concerns, and define the components of the merchandising income statement
Copyright © Houghton Mifflin Company. All rights reserved. 5–31
Income Statement for a Merchandiser
• Consists of three major parts
1. Net sales
2. Cost of goods sold
3. Operating expenses
There is also a subtotal for gross margin(Net Sales – Cost of Goods Sold)
Income statements for service businesses do not include gross margin computations
The Components of
Income Statements for
Service and Merchandising
Companies
Copyright © Houghton Mifflin Company. All rights reserved. 5–33
Net Sales
…consists of the gross proceeds from sales of merchandise
• Also simply called sales
• Amount of sales and trends in net sales over time are used to analyze a company’s progress
Copyright © Houghton Mifflin Company. All rights reserved. 5–34
Net Sales
Net Sales = Gross Sales – Sales Returns and Allowances – Discounts
Gross Sales = Total Cash Sales + Total Credit Sales during a given accounting period
• This follows the revenue recognition rule– Revenue is recognized even though cash may not be
collected until the following accounting period
Sales Returns and Allowances• A contra-revenue account
• Used to accumulate cash refunds, credits on account, and allowances off selling prices for defective or unsatisfactory merchandise
Copyright © Houghton Mifflin Company. All rights reserved. 5–35
Cost of Goods Sold
… is the amount paid for merchandise sold,
or the cost to manufacture products that were sold,
during an accounting period
• Also called cost of sales
Copyright © Houghton Mifflin Company. All rights reserved. 5–36
Gross Margin
…is the difference between net sales and cost of goods sold
Net Sales – Cost of Goods Sold = Gross Margin
• Also called gross profit
Copyright © Houghton Mifflin Company. All rights reserved. 5–37
SalesNet
Margin Gross Margin Gross of Percentage
• Both are useful in planning business operations
Gross Margin
• Management is interested in both the amount of gross margin and the percentage of gross margin
Copyright © Houghton Mifflin Company. All rights reserved. 5–38
Operating Expenses
… are the expenses
other than cost of goods sold
that are incurred in running a business
• Operating expenses are grouped into categories– Selling expenses
– General and administrative expenses
• Careful planning and control of operating expenses can improve a company’s profitability
Copyright © Houghton Mifflin Company. All rights reserved. 5–39
Selling Expenses
• Include– Cost of storing goods– Cost of preparing goods for sale– Advertising and promoting sales– Delivering goods to the buyer
• Called freight out expense or delivery expense
– General occupancy expenses (may be allocated among selling expenses and general and administrative expenses)
• Rent expense• Utilities expense• Insurance expense
Copyright © Houghton Mifflin Company. All rights reserved. 5–40
General and Administrative Expenses
• Include– General office expenses
• Accounting
• Personnel
• Credit and collections
• Expenses that apply to overall operations
– General occupancy expenses (may be allocated among general and administrative expenses and selling expenses)
• Rent expense
• Utilities expense
• Insurance expense
Copyright © Houghton Mifflin Company. All rights reserved. 5–41
Net Income
… is what remains of gross margin after operating expenses are deducted
• It is the final figure, or “bottom line,” of the income statement
• Represents the amount of business earnings that accrue to the owners
• Management and owners use net income to measure whether a business has operated successfully during the past accounting period
Copyright © Houghton Mifflin Company. All rights reserved. 5–42
Discussion
Q. What are the three major parts of an income statement for a merchandising company?
– Net sales
– Cost of goods sold
– Operating expenses
Copyright © Houghton Mifflin Company. All rights reserved. 5–43
Terms of Sale
• Objective 3– Define and distinguish the terms of sale for
merchandising transactions
Copyright © Houghton Mifflin Company. All rights reserved. 5–44
Trade Discounts
… are reductions off list or catalog prices
• Offered by manufacturers and wholesalers
• Usually 30 percent or more
• Example– An article is listed at $1,000 with a trade discount
of 40 percent
– Sale price = $1,000(1.00 – 0.40) = $600
Copyright © Houghton Mifflin Company. All rights reserved. 5–45
Trade Discount Terms
n/10
(net 10)
Amount is due 10 days after the invoice date
n/10 eom
(net 10 end-of-month)
Amount is due 10 days after the end of the month in which the invoice is dated
Copyright © Houghton Mifflin Company. All rights reserved. 5–46
Sales Discounts
…give buyers discounts for early payment
• Are intended to increase the seller’s liquidity by reducing the amount of money tied up in accounts receivable
• It is usually advantageous for buyers to take advantage of sales discounts
Copyright © Houghton Mifflin Company. All rights reserved. 5–47
Sales Discount Terms
2/10, n/30
• Amount may be paid within 10 days of the invoice date with a 2 percent discount
• Or wait up to 30 days and pay the full amount
Copyright © Houghton Mifflin Company. All rights reserved. 5–48
Shipping Terms
• Seller pays shipping costs
• Buyer pays shipping costs
FOB destinationFOB Shipping Point
FOB means “free on board”
• Title of merchandise passes from seller to buyer at the point merchandise is shipped
• Title of merchandise passes from seller to buyer when the merchandise reaches its destination
Copyright © Houghton Mifflin Company. All rights reserved. 5–49
Credit Card Sales
• If seller accepts a credit card payment, the customer signs a sales invoice
• The sale is communicated to the seller’s bank and a cash deposit is made in the seller’s account– Seller does not have to establish customer's credit,
collect from the customer, or tie up money in accounts receivable
• The seller pays the lender (credit card company) from 2 to 6 percent of the sale amount for the service
Copyright © Houghton Mifflin Company. All rights reserved. 5–50
Cash 960 Credit Card Discount Expense 40 Sales 1,000
Accounting for Credit Card Sales
• Example– A customer charges a $1,000 purchase on
a Visa credit card
– Visa charges a 4 percent discount on sales
– The seller will pay Visa $40 ($1,000 x .40)
• Journal entry
Copyright © Houghton Mifflin Company. All rights reserved. 5–51
Discussion
Q. What is the difference between a trade discount and a sales discount?
A. Trade discount• A deduction off a list or catalog price
Sales discount• A discount given to a buyer for early payment
for sales made on credit
Copyright © Houghton Mifflin Company. All rights reserved. 5–52
Applying the Perpetual Inventory System
• Objective 4– Prepare an income statement and record
merchandising transactions under the perpetual inventory system
Copyright © Houghton Mifflin Company. All rights reserved. 5–53
Fenwick Fashions Company Income Statement
For the Year Ended December 31, 20x3 Net sales Gross sales $246,350 Less sales returns and allowances 7,025 Net sales $239,325 Cost of goods sold 131,360 Gross margin $107,965
Operating expenses Selling expenses $41,380 General and administrative expenses 37,104 Total operating expenses 78,484 Net income $ 29,481
The Merchandise Inventory account on the balance sheet is updated at the same time
The Cost of Goods Sold account is continually updated during the accounting period
Income Statement When Using the Perpetual Inventory System
Copyright © Houghton Mifflin Company. All rights reserved. 5–54
Transactions Related to the Purchase of Merchandise
• Purchases of merchandise on credit
• Transportation costs on purchases
• Purchases returns and allowances
• Payments on account
Copyright © Houghton Mifflin Company. All rights reserved. 5–55
Under the perpetual inventory system, the cost of merchandise purchased is placed in the Merchandise Inventory account at the time of purchase
Oct. 3 Merchandise Inventory 4,890 Accounts Payable 4,890 Purchased merchandise
from Neebok Company, terms n/10, FOB shipping point, invoice dated Oct. 1
Oct. 3: Received merchandise purchased on credit from Neebok Company, invoice dated October 1, terms n/10, FOB shipping point, $4,890
Purchases of Merchandise on Credit
Copyright © Houghton Mifflin Company. All rights reserved. 5–56
Freight In, or Transportation In, is the transportation cost of receiving merchandise
Oct. 4 Freight In 160 Accounts Payable 160 Received transportaion
charges on Oct. 3 purchase, Transfer Freight Company, terms n/10, invoice dated Oct. 1
Oct. 4: Received bill from Transfer Freight Company for transportation costs on October 3 shipment, invoice dated October 1, terms n/10, $160
Transportation costs are accumulated in the Freight In account, which is a component of cost of goods sold
Transportation Costs on Purchases
Copyright © Houghton Mifflin Company. All rights reserved. 5–57
Oct. 6 Accounts Payable 480 Merchandise Inventory 480 Returned merchandise from
purchase of Oct. 3 to Neebok Company for full credit
Oct. 6: Returned merchandise received from Neebok Company on October 3 for credit, $480
Under the perpetual inventory system, the returned merchandise is removed from the Merchandise Inventory account
Purchases Returns and Allowances
Copyright © Houghton Mifflin Company. All rights reserved. 5–58
Oct. 10 Accounts Payable 4,410 Cash 4,410 Made payment on account
to Neebok Company $4,890 – $480 = $4,410
Oct. 10: Paid in full the amount due to Neebok Company for the purchase of October 3, part of which was returned on October 6
Payments on Account
Copyright © Houghton Mifflin Company. All rights reserved. 5–59
Transactions Related to Sales of Merchandise
• Sales of merchandise on credit
• Payment of delivery costs
• Returns of merchandise sold
• Receipts on account
Copyright © Houghton Mifflin Company. All rights reserved. 5–60
Oct. 7 Accounts Receivable 1,200 Sales 1,200 Sold merchandise to Gonzales
Distributors, terms n/30, FOB destination
Cost of Goods Sold 720 Merchandise Inventory 720 Transferred cost of merchandise
inventory sold to Cost of Goods Sold account
Sales of Merchandise on Credit
Under the perpetual inventory system, two entries are necessary.
Oct. 7: Sold merchandise on credit to Gonzales Distributors, terms n/30, FOB destination, $1,200; the cost of the merchandise was $720
The sale is recorded and Cost of Goods Sold is updated by a transfer from Merchandise Inventory
Copyright © Houghton Mifflin Company. All rights reserved. 5–61
Freight Out Expense, or Delivery Expense, is often paid by the seller to facilitate sales
Oct. 8 Freight Out Expense 78 Cash 78 Paid delivery costs on Oct. 7
sale
Oct. 8: Paid transportation costs for the sale on October 7, $78
Delivery costs are accumulated in the Freight Out Expense account, which is shown as a selling expense on the income statement
Payment of Delivery Costs
Copyright © Houghton Mifflin Company. All rights reserved. 5–62
Returns of Merchandise Sold
Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300; the cost of the merchandise was $180
The Sales Returns and Allowances account gives management a readily available measure of unsatisfactory products or customer dissatisfaction, which can be indicated by returns and allowances
Oct. 9 Sales Returns and Allowances 300 Accounts Receivable 300 Accepted return of merchandise
from Gonzales Distributors
Merchandise Inventory 180 Cost of Goods Sold 180 Transferred cost of merchandise
returned to the Merchandise Inventory account
Copyright © Houghton Mifflin Company. All rights reserved. 5–63
Oct. 9 Sales Returns and Allowances 300 Accounts Receivable 300 Accepted return of merchandise
from Gonzales Distributors
Merchandise Inventory 180 Cost of Goods Sold 180 Transferred cost of merchandise
returned to the Merchandise Inventory account
If merchandise is not returnedor will not be resold, this transaction is not recorded
Returns of Merchandise Sold
Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300; the cost of the merchandise was $180
Under the perpetual inventory system, the cost of the returned merchandise must be transferred from Cost of Goods Sold to Merchandise Inventory
Copyright © Houghton Mifflin Company. All rights reserved. 5–64
Nov. 5 Cash 900 Accounts Receivable 900 Received on account from
Gonzales Distributors $1,200 – $300 = $900
Nov. 5: Received payment in full from Gonzales Distributors for sale of merchandise on October 7, less the return on October 9
Receipts on Account
Copyright © Houghton Mifflin Company. All rights reserved. 5–65
Discussion
Q. How are merchandising transactions recorded under the perpetual inventory system?
A. Merchandising transactions are recorded during the accounting periods, as purchases, sales, and other inventory transactions take place
Copyright © Houghton Mifflin Company. All rights reserved. 5–66
Applying the Periodic Inventory System
• Supplemental Objective 5– Prepare an income statement and record
merchandising transactions under the periodic inventory system
Copyright © Houghton Mifflin Company. All rights reserved. 5–67
Applying the Periodic Inventory System
• Cost of goods sold must be computed in the income statement when using the periodic inventory system– It is not updated for purchases, sales, and
other transactions during the accounting period
Copyright © Houghton Mifflin Company. All rights reserved. 5–68
The Components of Cost of Goods Sold
Copyright © Houghton Mifflin Company. All rights reserved. 5–69
Cost of goods available for sale must be determined first
Fenwick Fashions Company Income Statement
For the Year Ended December 31, 20x3 Net sales $239,325 Cost of goods sold Merchandise inventory,
December 31, 20x2
$ 52,800
Purchases $126,400 Less purchases returns and allowances
7,776
Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860 Goods available for sale $179,660 Less merchandise inventory, December 31, 20x3 48,300 Cost of goods sold 131,360 Gross margin $107,965 Operating expenses Selling expenses $41,380 General and administrative
expenses
37,104
Total operating expenses 78,484 Net income $ 29,481
Income Statement When Using the Periodic Inventory System
Under the periodic inventory system, cost of goods sold must be computed
Copyright © Houghton Mifflin Company. All rights reserved. 5–70
Cost of Goods Available for Sale
… is the sum of two factors,
beginning inventory and the net cost of purchases during the year
Merchandise inventory,
December 31, 20x2
$ 52,800
Purchases $126,400 Less purchases returns and allowances
7,776
Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860 Goods available for sale $179,660
Copyright © Houghton Mifflin Company. All rights reserved. 5–71
Purchases $126,400
Less purchases returns and allowances
7,776
Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860
Net Cost of Purchases
Discounts - Allowances and Returns - Purchases Total PurchasesNet
InFreight PurchasesNet Purchases ofCost Net
Copyright © Houghton Mifflin Company. All rights reserved. 5–72
Transactions Related to Purchases of Merchandise
• Purchases of merchandise on credit
• Transportation costs on purchase
• Purchases returns and allowances
• Payments on account
Copyright © Houghton Mifflin Company. All rights reserved. 5–73
Purchases of Merchandise on Credit
Under the periodic inventory system, the total cost of merchandise purchased for resale during the period is accumulated in the Purchases account
Oct. 3 Purchases 4,890 Accounts Payable 4,890 Purchased merchandise
from Neebok Company, terms n/10, FOB shipping point, invoice dated Oct. 1
Oct. 3: Received merchandise purchased on credit from Neebok Company, invoice dated October 1, terms n/10, FOB shipping point, $4,890
The Purchases account does not indicate whether merchandise has been sold or is still on hand
Copyright © Houghton Mifflin Company. All rights reserved. 5–74
Transportation Costs on Purchases
Freight In, or Transportation In, is the transportation cost of receiving merchandise
Oct. 4 Freight In 160 Accounts Payable 160 Received transportaion
charges on Oct. 3 purchase, Transfer Freight Company, terms n/10, invoice dated Oct. 1
Oct. 4: Received bill from Transfer Freight Company for transportation costs on October 3 shipment, invoice dated October 1, terms n/10, $160
Transportation costs are accumulated in the Freight In account, which is included in cost of goods sold
Copyright © Houghton Mifflin Company. All rights reserved. 5–75
Purchases Returns and Allowances
Oct. 6 Accounts Payable 480 Purchases Returns and Allowances 480 Returned merchandise from
purchase of Oct. 3 to Neebok Company for full credit
Oct. 6: Returned merchandise received from Neebok Company on October 3 for credit, $480
Under the periodic inventory system, the amount of the allowance or returned merchandise is recorded in the Purchases Returns and Allowances account
The Purchases Returns and Allowances account
• Is a contra-purchases account
• Carries a normal credit balance
• Is deducted from purchases on the income statement
Copyright © Houghton Mifflin Company. All rights reserved. 5–76
Payments on Account
Oct. 10 Accounts Payable 4,410 Cash 4,410 Made payment on account
to Neebok Company $4,890 – $480 = $4,410
Oct. 10: Paid in full the amount due to Neebok Company for the purchase of October 3, part of which was returned on October 6
Copyright © Houghton Mifflin Company. All rights reserved. 5–77
Transactions Related to Sales of Merchandise
• Sales of merchandise on credit
• Payment of delivery costs
• Returns of merchandise sold
• Receipts on account
Copyright © Houghton Mifflin Company. All rights reserved. 5–78
Oct. 7 Accounts Receivable 1,200 Sales 1,200 Sold merchandise to Gonzales
Distributors, terms n/30, FOB destination
Sales of Merchandise on Credit
Under the periodic inventory system, only one entry is necessary. The Cost of Goods Sold account is not used because the Merchandise Inventory account is not updated until the end of the accounting period.
Oct. 7: Sold merchandise on credit to Gonzales Distributors, terms n/30, FOB destination, $1,200
Copyright © Houghton Mifflin Company. All rights reserved. 5–79
Payment of Delivery Costs
Freight Out Expense, or Delivery Expense, is often paid by the seller to facilitate sales
Oct. 8 Freight Out Expense 78 Cash 78 Paid delivery costs on Oct. 7
sale
Oct. 8: Paid transportation costs for the sale on October 7, $78
Delivery costs are accumulated in the Freight Out Expense account, which is shown as a selling expense on the income statement
Copyright © Houghton Mifflin Company. All rights reserved. 5–80
Returns of Merchandise Sold
Oct. 9 Sales Returns and Allowances 300 Accounts Receivable 300 Accepted return of merchandise
from Gonzales Distributors
Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300
The Sales Returns and Allowances account is used to accumulate returns and allowances to customers for wrong or unsatisfactory merchandise.
• The Sales Returns and Allowances account – Is a contra-revenue account
– Carries a normal debit balance
– Is deducted from sales on the income statement
Copyright © Houghton Mifflin Company. All rights reserved. 5–81
Receipts on Account
Nov. 5 Cash 900 Accounts Receivable 900 Received on account from
Gonzales Distributors $1,200 – $300 = $900
Nov. 5: Received payment in full from Gonzales Distributors for sale of merchandise on October 7, less the return on October 9
Copyright © Houghton Mifflin Company. All rights reserved. 5–82
Discussion
Q. How are merchandising transactions
recorded under the periodic system?
A. Merchandising transactions are recorded
at the end of the accounting period;
therefore, Costs of Goods Sold and
Inventory must be computed at that time
Copyright © Houghton Mifflin Company. All rights reserved. 5–83
The Merchandising Work Sheet and Closing Entries: The Perpetual Inventory System
• Supplemental Objective 6– Prepare a work sheet and closing entries
for a merchandising concern using the perpetual inventory system
Copyright © Houghton Mifflin Company. All rights reserved. 5–84
Work Sheet and Closing Accounts for a Merchandising Company
• Basically the same as for a service company but includes accounts needed to handle merchandising transactions– Treatment of these accounts depends on
whether perpetual or periodic inventory system is used
Copyright © Houghton Mifflin Company. All rights reserved. 5–85
Comparison of Merchandising Accounts to be Closed at End of Period
Perpetual Inventory System Periodic Inventory System
• Sales
• Sales Returns and Allowances
• Cost of Goods Sold
• Freight In
• Sales
• Sales Returns and Allowances
• Sales Discounts
• Purchases
• Purchases Returns and Allowances
• Purchases Discounts
• Freight In
• Merchandise Inventory
Notice that the Merchandise Inventory account is not involved in the closing process under the perpetual inventory system
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Merchandise Inventory Account
Perpetual Inventory System
Periodic Inventory System
Purchases
Debit Merchandise Inventory account
No entry made to Merchandise Inventory account
Sales
Credit Merchandise Inventory account
No entry made to Merchandise Inventory account
End of Accounting
Period
No entry made to Merchandise Inventory account
Close Merchandise Inventory account
Under the perpetual system, the Merchandise Inventory account is not involved in the closing process because it is up to date at the end of the accounting period
Under the periodic system, no entries are made to the Merchandise Inventory account until the closing process at the end of the accounting period
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Work Sheet Columns
1. Enter balances from ledger accounts to trial balance columns2. Enter adjusting entries in the Adjustments columns3. Total columns to prove debits equal credits4. Extend balances to Income Statement and Balance Sheet
columns5. Record adjusting entries from work sheet to general journal,
then post to ledger
XXX XXX XXX XXX
Fenwick Fashions Company
Work Sheet For the Year Ended December 31, 20x3
Trial Balance
Adjustments
Income Statement
Balance Sheet
Account
Name Debit Credit Debit Credit Debit Credit Debit Credit
The Adjusted Trial Balance columns have been omitted because only a few adjusting entries are required for Fenwick Fashions Company
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Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 48,300 48,300 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.
2,800 (e)2,200 5,000
Accounts Payable 25,683 25,683 G. Fenwick, Capital
118,352 118,352
G. Fenwick, Withdrawals
20,000 20,000
Balance Sheet ColumnsPerpetual Inventory System
Ending Merchandise Inventory is in both the Trial Balance and Balance Sheet columns
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Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Sales 246,350 246,350 Sales Returns and Allowances
7,025
7,025
Cost of Goods Sold 123,124 123,124 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling
(a)1,600
1,600
Insurance Exp, General
(a)4,200
4,200
Store Supplies Exp (b)1,540 1,540 Office Supp. Exp. (c)1,204 1,204 Dep. Exp.-Bldg (d)2,600 2,600 Dep. Exp-Office Equip
(e)2,200
2,200
Net Income
216,869 246,350
29,481 246,350 246,350
Income Statement Columns Perpetual Inventory System
The difference between the Income Statement column totals is net income
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216,869 246,350
29,481 246,350 246,350
Closing Entries Perpetual Inventory System
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Sales 246,350 246,350 Sales Returns and Allowances
7,025
7,025
Cost of Goods Sold 123,124 123,124 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling
(a)1,600
1,600
Insurance Exp, General
(a)4,200
4,200
Store Supplies Exp (b)1,540 1,540 Office Supp. Exp. (c)1,204 1,204 Dep. Exp.-Bldg (d)2,600 2,600 Dep. Exp-Office Equip
(e)2,200
2,200
Net Income
Debit Income Summary and credit the accounts in the Income Statement Debit column
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Closing EntriesPerpetual Inventory System (cont.)
20x3 Dec 31 Income Summary 216,869
Sales Returns and Allowances 7,025 Cost of Goods Sold 123,124 Freight In 8,236 Sales Salaries Expense 22,500 Freight Out Expense 5,740 Advertising Expense 10,000 Office Salaries Expense 26,900 Insurance Expense, Selling 1,600 Insurance Expense, General 4,200 Store Supplies Expense 1,540 Office Supplies Expense 1,204 Depreciation Exp., Building 2,600 Depreciation Exp., Office Equipment 2,200 Closed the temporary expense
and revenue accounts having debit balances
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216,869 246,350
29,481 246,350 246,350
Closing Entries Perpetual Inventory System (cont.)
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Sales 246,350 246,350 Sales Returns and Allowances
7,025
7,025
Cost of Goods Sold 123,124 123,124 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling
(a)1,600
1,600
Insurance Exp, General
(a)4,200
4,200
Store Supplies Exp (b)1,540 1,540 Office Supp. Exp. (c)1,204 1,204 Dep. Exp.-Bldg (d)2,600 2,600 Dep. Exp-Office Equip
(e)2,200
2,200
Net Income
Debit the accounts in the Income Statement Credit column and credit Income Summary
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Closing Entries Perpetual Inventory System (cont.)
20x3 Dec 31 Sales 246,350
Income Summary 246,350 Closed the temporary revenue
account having a credit balance
Next, the balances in the Income Summary and Withdrawal accounts are closed to the Capital account
20x3 Dec 31 Income Summary 29,481
Gloria Fenwick, Capital 29,481 Closed the Income Summary
account
31 Gloria Fenwick, Capital 20,000 Gloria Fenwick, Withdrawals 20,000 Closed the Withdrawals account
Notice that the amount required to close the Income Summary account is equal to net income for the period
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Discussion
Q. Under the perpetual inventory system, is the Merchandise Inventory account involved in the closing process?
A. No. Under the perpetual system, the Merchandise Inventory account is not involved in the closing process because it is up to date at the end of the accounting period
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The Merchandising Work Sheet and Closing Entries: The Periodic Inventory System
• Supplemental Objective 7– Prepare a work sheet and closing entries
for a merchandising concern using the periodic inventory system
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Merchandise Inventory Account
• Under the periodic inventory system, the Merchandise Inventory account requires special treatment– Because merchandise purchases are
accumulated in the Purchases account• No entries are made to the Merchandise
Inventory account during the accounting period
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Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.
2,800 (e)2,200 5,000
Accounts Payable 25,683 25,683 G. Fenwick, Capital
118,352 118,352
G. Fenwick, Withdrawals
20,000 20,000
Merchandise Inventory AccountPeriodic Inventory System
The beginning balance of the Merchandise Inventory account, which appears in the Trial Balance Debit column, is extended to the Income Statement Debit column
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Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3 Trial Balance Adjustments Income Statement Balance Sheet
Account Name Debit Credit Debit Credit Debit Credit Debit Credit Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Sales 246,350 246,350 Sales Returns and Allowances
2,750
2,750
Sales Discounts 4,275 4,275 Purchases 126,400 126,400 Purchases Returns and Allowances
7,776
7,776
Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Out Exp 5,740 5,740
Merchandise Inventory AccountPeriodic Inventory System
This has the effect of adding beginning inventory to net purchases because the Purchases account is also in the Income Statement Debit column
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Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.
2,800 (e)2,200 5,000
Accounts Payable 25,683 25,683 G. Fenwick, Capital
118,352 118,352
G. Fenwick, Withdrawals
20,000 20,000
48,300
Merchandise Inventory AccountPeriodic Inventory System
The ending balance of the Merchandise Inventory account is then inserted in the Income Statement Credit column
Determined by a physical count
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48,300
Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.
2,800 (e)2,200 5,000
Accounts Payable 25,683 25,683 G. Fenwick, Capital
118,352 118,352
G. Fenwick, Withdrawals
20,000 20,000
Merchandise Inventory AccountPeriodic Inventory System
This has the effect of subtracting ending inventory from goods available for sale in order to calculate cost of goods sold
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48,300
Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3
Trial Balance Adjustments Income
Statement Balance
Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.
2,800 (e)2,200 5,000
Accounts Payable 25,683 25,683 G. Fenwick, Capital
118,352 118,352
G. Fenwick, Withdrawals
20,000 20,000
Merchandise Inventory AccountPeriodic Inventory System
Finally, the ending Merchandise Inventory is inserted in the Balance Sheet Debit column because it will appear on the balance sheet
48,300
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Closing Entries Periodic Inventory System
Trial Balance Adjustments Income Statement Balance Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit
Sales 246,350 246,350 Sales Returns and Allowances
7,025
7,025
Purchases 126,400 126,400 Purchases Returns and Allowances
5,640
5,640
Purchases Disc. 2,136 2,136 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling
(a)1,600 1,600
Insurance Exp, General
(a)4,200 4,200
Store Supplies Exp (b)1,540 1,540 Office Supp. Exp. (c)1,204 1,204 Dep. Exp.-Bldg (d)2,600 2,600 Dep. Exp-Office Equip
(e)2,200
2,200
272,945 302,426 Net Income 29,481 302,426 302,426
Debit Income Summary and credit the accounts in the Income Statement Debit column
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Closing Entries Periodic Inventory System (cont.)
20x3 Dec 31 Income Summary 272,945
Merchandise Inventory 52,800 Sales Returns and Allowances 7,025 Purchases 126,400 Freight In 8,236 Sales Salaries Expense 22,500 Freight Out Expense 5,740 Advertising Expense 10,000 Office Salaries Expense 26,900 Insurance Expense, Selling 1,600 Insurance Expense, General 4,200 Store Supplies Expense 1,540 Office Supplies Expense 1,204 Depreciation Exp., Building 2,600 Depreciation Exp., Office Equipment 2,200 Closed the temporary expense
and revenue accounts having debit balances
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Fenwick Fashions Company Work Sheet
For the Year Ended December 31, 20x3 Trial Balance Adjustments Income Statement Balance Sheet
Account Name Debit Credit Debit Credit Debit Credit Debit Credit Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 48,300 48,300 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Sales 246,350 246,350 Sales Returns and Allowances
2,750
2,750
Sales Discounts 4,275 4,275 Purchases 126,400 126,400 Purchases Returns and Allowances
7,776
7,776
Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Out Exp 5,740 5,740
Closing Entries Periodic Inventory System (cont.)
Debit the accounts in the Income Statement Credit column and credit Income Summary
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20x3 Dec 31 Merchandise Inventory 48,300
Sales 246,350 Purchases Returns and Allowances 7,776 Income Summary 302,426 Closed the temporary expense
and revenue accounts having a credit balance and established the ending inventory
Closing Entries Periodic Inventory System (cont.)
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Closing Entries Periodic Inventory System (cont.)
Next, the balances in the Income Summary and Withdrawal accounts are closed to the Capital account
20x3 Dec 31 Income Summary 29,481
Gloria Fenwick, Capital 29,481 Closed the Income Summary
account
31 Gloria Fenwick, Capital 20,000 Gloria Fenwick, Withdrawals 20,000 Closed the Withdrawals account
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Accounting for Discounts
• Supplemental Objective 8– Apply sales and purchases discounts to
merchandising transactions
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Sales Discounts
…are discounts given to buyers for early payment for sales made on credit
• Are recorded only at the time the customer pays
• The Sales Discounts account – Is a contra-revenue account
– Carries a normal debit balance
– Is deducted from sales on the income statement
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Sept. 20 Accounts Receivable 300 Sales 300 Sold merchandise on credit,
terms 2/10, n/60
Sept. 20: Sold merchandise to a customer, terms 2/10, n/60, $300
Nov. 19: Customer pays on account for September 20 sale
Nov. 19 Cash 300 Accounts Receivable 300 Received payment for Sept.
20 sale; no discount taken
The customer paid the full sale amount of $300 because
payment was made after the 10 day sales discount period
Transactions Involving No Sales Discounts
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Sept. 29 Cash 294 Sales Discounts 6 Accounts Receivable 300 Received payment for Sept.
20 sale; discount taken
Sept. 20 Accounts Receivable 300 Sales 300 Sold merchandise on credit,
terms 2/10, n/60
Sept. 20: Sold merchandise to a customer, terms 2/10, n/60, $300
Sept. 29: Customer pays on account for September 20 sale
The customer paid only $294 [$300 – ($300 x .02)] because payment was made within the 10-day sales discount period
Transactions Involving Sales Discounts
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Purchases Discounts
…are discounts taken by merchants for early payment for merchandise
purchased on credit
• Usually do not apply to freight, postage, taxes, or other charges appearing on the invoice
• The Purchases Discounts account
– Is a contra-purchases account
– Carries a normal credit balance
– Is deducted from purchases on the income statement
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Nov. 12: Made a credit purchase of merchandise, terms 2/10, n/30, $1,500
Dec. 12: Paid on account for November 12 sale, less amount for returned merchandise
Dec. 12 Accounts Payable 1,300 Cash 1,300 Paid invoice of Nov. 12, less
the return, on due date; no discount taken
The full sale amount of $1,500, less $200 for returned merchandise, was paid because payment was made after the 10-day purchases discount period
Nov. 14: Returned merchandise purchased November 12 on credit, $200
Transactions Involving No Purchases Discounts
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Nov. 12: Made a credit purchase of merchandise, terms 2/10, n/30, $1,500
Nov. 22: Paid on account for November 12 sale, less amount for returned merchandise
Nov. 22 Accounts Payable 1,300 Purchases Discounts 26 Cash 1,274 Paid invoice of Nov. 12, less
the return; discount taken
A purchases discount of $26 [($1,500 - $200) x .02] was recorded, because payment was made within the 10-day purchases discount period
Nov. 14: Returned merchandise purchased November 12 on credit, $200
Transactions Involving Purchases Discounts
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Discussion
Q. What is the normal balance of the Sales Discounts account? Is it an asset, a liability, an expense, or a contra-revenue account?
A. The normal balance of the Sales Discounts account is a debit balance
Sales Discounts is a contra-revenue account. It is deducted from gross sales on the income statement
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Time for Review…
1. Identify the management issues related to merchandising businesses
2. Compare the income statements for service and merchandising concerns, and define the components of the merchandising income statement
3. Define and distinguish the terms of sale for merchandising transactions
4. Prepare an income statement and record merchandising transactions under the perpetual inventory system
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And Finally …
5. Prepare an income statement and record merchandising transactions under the periodic inventory system
6. Prepare a work sheet and closing entries for a merchandising concern using the perpetual inventory system
7. Prepare a work sheet and closing entries for a merchandising concern using the periodic inventory system
8. Apply sales and purchases discounts to merchandising transactions