Chapter 9 Accounting for Merchandising Operations

Chapter 9

Accounting for Merchandising Operations

In Chapters 1-6

You learned how to:

o Prepare Adjusting Entries

o Prepare Closing Entries

o Use the Adjusted Balances to prepare Financial Statements

o Complete the Accounting Cycle

Accrual Basis Accounting

•Revenue recorded only when earned not when cash is received

•Expense recorded only when incurred not when cash paid—in the period in which the company benefited from it

Accrual Basis adheres to...

•Generally•Accepted•Accounting•Principles

Adjusting Entries

Adjusting entries make the:

revenue recognition &

matching principles

HAPPEN!

Still confused?

Do we need another way to learn this concept?

Revenue Recognition – a rap

If you wanna be accrualHere’s what you gotta do,When the service is performedYou book the Revenue!

In Chapter 9

You will learn:

o How Merchandise is Acquired and Sold

o How Inventory Purchases and Sales are recorded in a firm’s accounting records –using Perpetual Inventory system

o How to prepare Financial Statements that are meaningful for a merchandising operation

o Appendix: Periodic inventory system

Merchandising Operations

Buy Merchandise to Sell to their Customers

Wholesalers sell their merchandise to Retailers

Retailers Sell their merchandise directly to the final consumer

2 Categories

Target is a Retailer

The Operating Cycle for a Merchandiser…

In Chapter 2, we discussed the Historical Cost Principle

Assets are recorded on the Balance Sheet at cost

Cost includes all costs necessary to get the asset ready for its intended purpose $5,000

The Historical Cost Principle also applies to

Inventory

o Inventory is a Current Asset

o It is recorded on the Balance Sheet at Historical Cost

o Cost includes all costs necessary to get the inventory ready for its intended purpose

o Let’s look at the cost components for Inventory…..

Let’s assume a Perpetual Inventory System

o A Perpetual Inventory system records all changes in the value of Inventory directly in the Inventory Account.

This example begins on page 229 in your text.

On June 1, 20X6, Quality Lawn Mowers purchases 100 lawn mowers for $150 each

on account from Black & Decker.

Here’s the invoice…..

This is the Invoice

Date

This is the Invoice Amount

This information is

needed to record the purchase of

inventory

The journal entry to record the purchase of inventory….

15,000$ 15,000$

Equity

Inventory Accounts Payable

Assets Liabilities

The Purchase of Inventory is restricted to the Balance Sheet

Assume the Initial Investment by shareholders was $100,000 cash.

Goods in Transit

These are goods on board a truck, train, ship, or plane at the end of the period.

36

Goods in Transit

Who includes these in inventory?Buyer?Seller?

The Company

with Legal Title

Shipping TermsFOB (free on board) shipping point-

ownership of goods passes to buyer when public carrier accepts the goods

FOB (free on board) destination- ownership of goods remains with the seller until the goods reach the buyer

Ownership passes to

owner here

Ownership passes to

buyer here

PublicCarrierCo

PublicCarrierCo

Seller

Seller

Buyer

Buyer

FOB Shipping Point

FOB Destination Point

Illustration 6-4

Incoming Freight is added to Inventory

As it Exits,

It’s an Expense!

Freight Costs – Memory Jog

IN

EX

Back to the invoice…..

Goods were purchased

FOB Shipping

Point

Title transferred to Quality Lawn

Mowers at the time the units were

shipped.

343$

343$

Inventory

Cash

The journal entry to record the incoming freight charge

1-Jun Paid freight charge on the purchase of lawn mowers, $343 cash.

Incoming Freight is Charged

to Inventory

Balance Sheet

Assets: Liabilities

$99,657 Accounts Payable $15,000

$15,343 $0

$0 $0

$0 Total Liabilities $15,000

$0

Total Current Assets $115,000 Stockholders' Equity

$100,000

$0 $0

$0

$0 $100,000

Total Plant Assets $0

$115,000 Total Liabilities + Shareholders' Equity $115,000Total Assets

Cash

Inventory

Accounts Receivable

Common Stock

Retained Earnings

Total Stockholders' Equity

When Inventory is purchased FOB Shipping Point, the Freight Cost is added to Inventory

Assume the Initial Investment by shareholders was $100,000 cash.

300$

300$ Inventory

Accounts Payable

Purchase Returns and Allowances

3-Jun Returned 2 mowers ($150 each) to manufacturer

Balance Sheet

Assets: Liabilities

$99,657 Accounts Payable $14,700

$15,043 $0

$0 $0

$0 Total Liabilities $14,700

$0

Total Current Assets $114,700 Stockholders' Equity

$100,000

$0 $0

$0

$0 $100,000

Total Plant Assets $0

$114,700 Total Liabilities + Shareholders' Equity $114,700

Cash

Inventory

Accounts Receivable

Common Stock

Retained Earnings

Total Stockholders' Equity

Total Assets

Purchase Returns and Allowances reduce the cost of the Inventory and the amount owed to the vendor

Purchase Discounts

2/10 net 30

If paid within 10 days of invoice

Take a 2% discount

Are Discounts for Early Payment

Otherwise, total is due within 30 days

Payment Terms

Take a 1% discount if paid within 10 days, otherwise entire balance is due in

30 days.

o Are included on the Invoice

o To encourage prompt payment

Purchase Discounts

9-Jun Paid Black & Decker in full within the discount period.

Notice that the Payable Balance is

now $0

Balance Owed = $14,700

$14,700 * 1% = $147

$14,700 minus $147 = $14,553

Notice that the Cost of the Inventory equals the sum of the cash payments.

$14,896

Inventory T account

$14,896 ÷ 98 units = $152 per mower

Balance Sheet

Assets: Liabilities

$85,104 Accounts Payable $0

$14,896 $0

$0 $0

$0 Total Liabilities $0

$0

Total Current Assets $100,000 Stockholders' Equity

$100,000

$0 $0

$0

$0 $100,000

Total Plant Assets $0

$100,000 Total Liabilities + Shareholders' Equity $100,000Total Assets

Cash

Inventory

Accounts Receivable

Common Stock

Retained Earnings

Total Stockholders' Equity

All transactions related to the Acquisition of inventory have been restricted to the Balance Sheet

As Assets are consumed, they are recorded as expenses on the Income Statement….

Balance Sheet Income Statement

Supplies Supplies Expense

Prepaid Insurance Insurance Expense

Prepaid Rent Rent Expense

As Inventory is consumed, it is expensed as Cost of Goods Sold.

It will be recorded as Inventory Expense?

So as Inventory is consumed…It is subtracted

on the Multiple-Step Income

Statement

What’s a Multiple Step

Income Statement?!!

Yes, but the Expense is

called “Cost of Goods Sold”

Why is it called a Multiple-Step Income Statement?

Because rather than taking total revenues and subtracting total expenses in a single step:

We “Step our way down” to Net Income RevenuesSubtract Something and Calculate a subtotalSubtract something else, Calculate another subtotal, etc.

Each subtotal will provide important information.

Multiple-Step Income Statement

Net Sales

- Cost of Goods Sold

= Gross Profit

- Operating Expenses

= Income from Operations

- Other Expenses

+ Other Revenues

= Net Income

← Amount Customer pays for the goods

← Amount the Company paid for the goods

← This is our markup!

← Selling, General and Administrative Expenses

← Profitability of our Core Business

← Profitability of Peripheral Activities

← Transferred to Statement of Retained Earnings

No Chance….I’m a

GONER!

Yikes! That’s a lot to

remember!

Time for another JOG!

Multiple Step Income Statement – Memory Jog NC GONER!

N Net Sales

- Cost of Goods Sold

= Gross Profit

- Operating Expenses

= Net Operating Income

- Other Expenses

+ Other Revenues

= Net Income

C

G

O

N

E

R

A Scanner System is a perpetual inventory system…

Every time an item is

scanned…

2) The inventory database is

updated

1) The Sale is Recorded

This allows for an instantaneous match

of revenues and expenses

Journal Entries for Sales in a Perpetual Inventory System

Simultaneously, the cost of the units are removed from Inventory….

$14,896 ÷ 98 units = $152 per mower

Reporting Sales and Cost of Goods Sold

Each mower sold for $400.

Each unit cost $152.

That’s a $248 markup per unit.

But our customer isn’t completely happy….

Sales Returns and Allowances is a contra-revenue account.

Its purpose is to reduce sales, and provide more detailed information on the Income Statement.

Reporting Sales Returns and Allowances

Sales Returns and Allowances is subtracted from Sales

In the Calculation of Net Sales It allows the reader to know how

content the customers are with

the product.

They reduced the

price by $100 to

make me happy!

We offered our customer payment terms of 2/10 net 30 to encourage prompt payment

Notice that the Receivable Balance

is now $0

$3,900 * 2% = $78

Receivable Balance = $3,900

$3,900 - $78 = $3,822

Reporting Sales Discounts

Sales Discounts is subtracted from Sales

In the Calculation of Net Sales

It allows the reader to know how many customers took advantage of the early payment incentives

Paying early saved me

$78. I paid $3,822 for

the mowers

Merchandisers generate revenue by delivering goods to their customers.

The detail provided on a multiple-step income statement

Allows the reader to assess how successful they are in achieving that goal.

Appendix – PERIODIC INV.

Perpetual Inventory System

Continuous “perpetual” accounting records are kept to track the Sales transaction AND the Cost of the Goods Sold.

Better tracking of item availability, on hand, on order

2 journal entries for a sale

Periodic Inventory System

No trackingInventory just counted

“periodically” to see what is on hand.

1 journal entry for sale

Sales Revenues -Under a Periodic System

ONLY 1 entry is made for each saleone to record sale

Key difference between periodic and perpetual inventory…

is the point at which the costs of goods sold is

computed.

No attempt is made on date of sale to record the cost of merchandise sold...

Periodic Inventory

Companies that use periodic inventory take a physical count to...

determine ending inventorycompute cost of goods sold

Companies that use perpetual inventory must take a physical inventory to check accuracy of “book inventory” to actual inventory.

Example: Perpetual vs. Periodic

End – Chapter 9

Shipping Terms – FOB Shipping Point

Title transfers to BUYER at the time the

goods are shipped

Buyer Owns the goods in transit

Freight Costs are paid by the BUYER

This increases the cost of the goods purchased.

Shipping Terms – FOB Shipping Point

Shipping Terms – FOB Destination

Title Changes at the time the goods reach

their destination

Seller owns the goods in transit

Freight costs are paid by the SELLER

The freight cost is recorded as an operating expense by the seller

Shipping Terms – FOB Destination