Chapter 5

 Businesses that sell a product to customers  Inventory ◦ Merchandise held for sale ◦ Asset account Copyright (c) 2009 Prentice Hall. All rights reserved.2

Describe and illustrate merchandising operations and the two types of inventory systems 3Copyright (c) 2009 Prentice Hall. All rights reserved.

Balance SheetIncome Statement  Inventory ◦ Asset  Sales revenue  Cost of goods sold ◦ Expense Copyright (c) 2009 Prentice Hall. All rights reserved.4

5 Purchase inventory Collect cash from customers Sell inventory Accounts receivable Inventory Cash

PERIODICPERPETUAL  Goods counted periodically to determine quantity  Used by small businesses  Less popular now because of computerized inventory systems  Record of quantity of goods is constantly updated  Better control of inventory  Popular now due to bar codes and computer scanning Copyright (c) 2009 Prentice Hall. All rights reserved.6

Account for the purchase of inventory using a perpetual system 7Copyright (c) 2009 Prentice Hall. All rights reserved.

 The inventory account is increased each time merchandise is purchased  The vendor provides an invoice showing the quantity and cost of the items  Inventory cost is also impacted by: ◦ Shipping costs ◦ Return of purchased items ◦ Discounts for early payment Copyright (c) 2009 Prentice Hall. All rights reserved.8

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT 9 Inventory$$$$ Accounts payable$$$$ Purchased inventory on account Copyright (c) Prentice Hall. All rights reserved.

 Discount for early payment  Expressed as follows: Other terms: 10Copyright (c) 2009 Prentice Hall. All rights reserved. 2/10, n/30 2% discount if paid within 10 days Full amount due within 30 days n/30 No discount, full amount due in 30 days eom Full amount due by the end of month

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT 11 Accounts payable$$$$ Cash$$$$ Inventory$$$ Paid within discount period Copyright (c) Prentice Hall. All rights reserved.

 Purchase return ◦ Merchandise returned by the purchaser to the supplier  Purchase allowance ◦ Seller reduces amount owed ◦ Incentive for purchaser to keep goods 12Copyright (c) 2009 Prentice Hall. All rights reserved.

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT 13 Accounts payable$$$$ Inventory$$$$ Returned damaged goods Reverse of purchase entry Decreases both accounts payable and inventory Copyright (c) Prentice Hall. All rights reserved.

 FOB Shipping Point ◦ Buyer takes ownership of inventory when goods leave seller’s place of business ◦ Purchaser normally pays freight charges  Freight-in  Increases cost of inventory  FOB Destination ◦ Buyer takes ownership of inventory when goods arrive ◦ Seller normally pays freight  Freight-out  Selling expense 14 Copyright (c) Prentice Hall. All rights reserved.

15 Seller Goods Buyer Copyright (c) 2009 Prentice Hall. All rights reserved. Title transfers to buyer Buyer pays freight charges Increases cost of inventory

16 Seller Goods Buyer Copyright (c) 2009 Prentice Hall. All rights reserved. Title transfers to buyer Seller pays freight charges Increases expenses

Account for the sale of inventory using a perpetual system 17Copyright (c) 2009 Prentice Hall. All rights reserved.

 Sales revenue ◦ Amount earned from selling inventory ◦ Revenue account  Cost of goods sold ◦ Cost of inventory that has been sold to customers ◦ Expense account 18Copyright (c) 2009 Prentice Hall. All rights reserved.

19 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Accounts receivable (or Cash)$$$$$ Sales revenue$$$$$ To record sales on account Cost of goods sold$$$$$ Inventory$$$$$ To record cost of sales Copyright (c) 2009 Prentice Hall. All rights reserved.

 Sales returns & allowances ◦ When customer returns goods or the seller grants a reduction in price to customer ◦ Contra-revenue account (debit balance)  Sales discounts ◦ If customer pays within the discount period allowed by the seller ◦ Contra-revenue account (debit balance)  Freight out ◦ Delivery expense ◦ If terms are FOB shipping point 20Copyright (c) 2009 Prentice Hall. All rights reserved.

21 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Inventory$$$$ Cost of goods sold $$$$ Customer returned merchandise Sales returns and allowances$$$$ Accounts receivable$$$$ Copyright (c) 2009 Prentice Hall. All rights reserved.

22 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Cash$$$$$ Sales discounts$$$$ Accounts receivable$$$$$ Collected on account within discount period Copyright (c) 2009 Prentice Hall. All rights reserved.

23 Sales Sales returns & allowances Sales discounts Net Sales minus equals

Copyright (c) 2009 Prentice Hall. All rights reserved.24 Net Sales Cost of Goods Sold Gross Profit minus equals

Adjust and close the accounts of a merchandising business 25Copyright (c) 2009 Prentice Hall. All rights reserved.

 Businesses take actual count of inventory at least once per year  Actual count of inventory may differ from amount on the books due to: ◦ Theft or Damage – Inventory Shrinkage ◦ Errors 26Copyright (c) 2009 Prentice Hall. All rights reserved. GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Cost of goods sold Inventory To adjust for shrinkage

 1. Close revenues  2. Close expenses & contra-revenues 27Copyright (c) 2009 Prentice Hall. All rights reserved.

 3. Close Income summary  4. Close Dividends 28 Copyright (c) 2009 Prentice Hall. All rights reserved.

Prepare a merchandiser’s financial statements 29Copyright (c) 2009 Prentice Hall. All rights reserved.

30 Copyright (c) 2009 Prentice Hall. All rights reserved.

 Selling Expenses ◦ Related to marketing the company’s products ◦ Include:  Advertising  Sales’ salaries  Store rent  Freight out  General Expenses ◦ NOT related to marketing products ◦ Include:  Insurance  Office salaries  Office rent  Depreciation Copyright (c) 2009 Prentice Hall. All rights reserved.31

 Statement of Retained Earnings ◦ Exactly the same as service company  Balance Sheet ◦ Inventory account  Current asset Copyright (c) 2009 Prentice Hall. All rights reserved.32

Multi-stepSingle-step  Lists several important subtotals ◦ Gross profit ◦ Operating income  More popular  Groups all revenue and all expenses together ◦ No subtotals  Works well for service companies Copyright (c) 2009 Prentice Hall. All rights reserved.33

Use gross profit percentage and inventory turnover to evaluate a business 34Copyright (c) 2009 Prentice Hall. All rights reserved.

35 Carefully watched measure Gross Profit Net Sales Copyright (c) 2009 Prentice Hall. All rights reserved. Small increase may indicate rise in income Small decrease may indicate trouble

Cost of goods sold Average inventory 36Copyright (c) 2009 Prentice Hall. All rights reserved. Measures how rapidly inventory is sold The higher the turnover, the more quickly inventory is sold