© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Accounting for Merchandising Operations Chapter 5 5

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Learning objective 1.Specialty of merchandising activities 2.Accounting for merchandise purchasing 3.Accounting for merchandise sales 4.Completing Accounting cycle 5.Financial statement format 6.Decision Analysis: Current Ratio Acid-test ratio Gross margin ratio Case: Walmart & Target

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 1. Specialties of Merchandising Activities Merchandising companies sell goods to earn revenue. Example: supermarket Merchandising companies sell goods to earn revenue. Example: supermarket Revenues Expenses Minus Net income Equals

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin ManufacturerWholesalerRetailerCustomer Merchandising Companies Merchandising Activities

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Reporting Income for a Merchandiser products Merchandising companies sell products to earn revenue. Examples: sporting goods, clothing, and auto parts stores Cost of Goods Sold Gross Profit Expenses Net Income Net Sales MinusEqualsMinusEquals

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Operating Cycle for a Merchandiser Begins with the purchase of merchandise and ends with the collection of cash from the sale of merchandise. Purchases Merchandise inventory Credit sales Account receivable Cash collection Purchases Merchandise inventory Cash sales Cash Sale Credit Sale

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Inventory Systems + + Beginning inventory Net cost of purchases Merchandise available for sale Ending Inventory Cost of Goods Sold =

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Inventory Systems  Perpetual inventory system continuously updates accounting records for merchandising transactions — specifically, for those records of inventory available for sale and inventory sold.  Periodic inventory system updates the accounting records for merchandise transactions only at the end of a period. What are the disadvantages of periodic inventory system?

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 2. Accounting for Merchandise Purchases  Trade discounts vs. purchase discounts  Purchase returns and allowances  Transportation costs

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin  Seller  Invoice date  Purchaser  Order number  Credit terms  Freight terms  Goods  Invoice amount        

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Accounting for Merchandise Purchases On November 2, Z-Mart, purchased $1200 of Merchandise Inventory by paying cash.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Trade Discounts Used by manufacturers and wholesalers to offer better prices for greater quantities purchased. Example Matrix, Inc. offers a 30% trade discount on orders of 1,000 units or more of their popular product Racer. Each Racer has a list price of $5.25. Example Matrix, Inc. offers a 30% trade discount on orders of 1,000 units or more of their popular product Racer. Each Racer has a list price of $5.25.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 2/10,n/30 Purchase Discounts Credit term Discount Percent Number of Days Discount Is Available Otherwise, Net (or All) Is Due Credit Period

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Discounts A deduction from the invoice price granted to induce early payment of the amount due. Terms Time Due Discount Period Full amount less discount Credit Period Full amount due Purchase or Sale

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Discounts On Nov 2, Z-Mart purchased $1200 of Merchandise Inventory on account, credit terms are 2/10, n/30.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Discounts On Nov. 12, Z-Mart paid the amount due on the purchase of Nov. 2. $1,200 × 2% = $24 discount

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Discounts After we post these entries, the accounts involved look like this: Merchandise Inventory Accounts Payable 11/02 1,200 11/ /12 1,200 Bal. 1,176 Bal. 0

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Failure to Pay Within the Discount Period If we fail to take a 2/10, n/30 discount, is it really expensive? 365 days ÷ 20 days × 2% = 36.5% annual rate Days in a year Days in a year Number of additional days before payment Number of additional days before payment Percent paid to keep money Percent paid to keep money

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Returns and Allowances Purchase Return: Merchandise returned by the purchaser to the supplier. Purchase Allowance: A reduction in the cost of defective merchandise received by a purchaser from a supplier.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Returns and Allowances On Nov. 9, Z-Mart purchased $20,000 of Merchandise Inventory on account, credit terms are 2/10, n/30.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Returns and Allowances On Nov. 10, Z-Mart returned $500 of defective merchandise to the supplier.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Purchase Returns and Allowances On Nov. 18, Z-Mart paid the amount owed for the purchase of Nov 9.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Transportation Costs FOB shipping point (buyer pays) FOB destination (seller pays) Merchandise Seller Buyer

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Transportation Costs On Nov. 12, Z-Mart purchased $8,000 of Merchandise Inventory for cash and also paid $100 transportation costs.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Quick Check  On July 6, 2005 Seller Co. sold $7,500 of merchandise to Buyer, Co.; terms of 2/10,n/30. The shipping terms were FOB shipping point. The shipping cost was $100. Which of the following will be part of Buyer’s July 6 journal entry? a. Credit Sales $7,500 b. Credit Purchase Discounts $150 c. Debit Merchandise Inventory $100 d. Debit Accounts Payable $7,450 On July 6, 2005 Seller Co. sold $7,500 of merchandise to Buyer, Co.; terms of 2/10,n/30. The shipping terms were FOB shipping point. The shipping cost was $100. Which of the following will be part of Buyer’s July 6 journal entry? a. Credit Sales $7,500 b. Credit Purchase Discounts $150 c. Debit Merchandise Inventory $100 d. Debit Accounts Payable $7,450 FOB shipping point indicates the buyer ultimately pays the freight. This is recorded with a debit to Merchandise Inventory.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Itemized Cost of Merchandise Purchased

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 3. Accounting for Merchandise Sales  Sales of merchandise  Sales discounts  Sales returns and allowances

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Accounting for Merchandise Sales Sales discounts and returns and allowances are Contra Revenue accounts.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales of Merchandise On Nov. 3, Z-Mart sold $2,400 of merchandise on credit. The merchandise was carried in inventory at a cost of $1,600.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales Discounts On Nov. 12, Z-Mart sold merchandise costing $600 for $1,000 on account. Credit terms were 2/10, n/60. Let’s prepare the journal entries.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales Discounts On Nov. 22, Z-Mart received a check for $980 in full payment of the Nov. 12 sale. Contra Revenue Account

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales Returns and Allowances On Nov. 3, Z-Mart sold merchandise costing $4,000 for $7,500 on account The credit terms were 2/10, n/30.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales Returns and Allowances On Nov. 6, customer returns merchandises with a sales price of $800 and a cost of $600. The return is related to the Nov. 3 sale.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Sales Returns and Allowances Assume that $800 of merchandise Z-Mart sold on Nov. 3 is defective but the buyer decides to keep it because Z-Mart offers a $100 price reduction.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 4. Completing accounting cycle  Prepare adjustments and close accounts for a merchandising company.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Shrinkage  Compare a physical count of inventory with recorded amounts.  Z-Mart’s Merchandise Inventory account at the end of year 2005 has a balance of $21,250, but a physical count reveals that only $21,000 of inventory exists. The adjusting entry is: 12/31/2005 Dr. Cost of goods sold 250 Cr. Merchandise inventory 250 To adjust for $250 shrinkage.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Let’s complete the accounting cycle by preparing the closing entries closing entries for Z-Mart. Completing the accounting cycle

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Step 1: Step 1: Close Credit Balances in Temporary Accounts to Income Summary.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Step 2: Step 2: Close Debit Balances in Temporary Accounts to Income Summary.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Step 3: Step 3: Close Income Summary to Owner’s Capital

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Step 4: Step 4: Close Withdrawals Account to Owner’s Capital.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 5. Financial statement format  Define and prepare multiple-step and single- step income statements.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Income Statement Formats  Multiple-Step  Single-Step  Multiple-Step  Single-Step

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Multiple- Step Income Statement

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Operating expenses  Selling expenses include the expenses of promoting sales by displaying and advertising merchandise, making sales, and delivering goods to customers.  General and administrative expenses support a company’s overall operations and include expenses related to accounting, HR management, and financial management.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Single-Step Income Statement

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Multiple-Step vs. Single-Step Income statement A multiple-step income statement format shows detailed computations of net sales and other costs and expenses, and report subtotals for various classes of items. Gross profit Income from operations Net income A single-step income statement lists revenues and expenses with very few categories.

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin Classified Balance Sheet

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Decision Analysis - Current Ratio & Acid-Test Ratio  Helps assess the company’s ability to pay its debts in the near future  Liquidity measure

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Decision Analysis - Acid-Test Ratio A common rule of thumb is the acid-test ratio should have a value of at least 1.0 to conclude a company is unlikely to face liquidity problems in the near future. = Quick Assets Quick Assets Current Liabilities Acid-TestRatio Acid-TestRatio = Cash + S-T Investments + Receivables Cash + S-T Investments + Receivables Current Liabilities

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Decision Analysis - Gross Margin Ratio Percentage of dollar sales available to cover expenses and provide a profit. Gross Margin Ratio Net Sales - Cost of Goods Sold Net Sales = Indicate the company’s pricing capability of its products

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Decision Analysis - Supermarket 1.Industry Characteristics  High volume, Low profit margin  Chain of stores 2.Key success factors  Inventory control  Store location decision 3.Companies for analysis  Walmart  Target

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Walmat & Target - Current Ratio CR WMT Target

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Walmat & Target - Acid-test Ratio ATR WMT Target

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Walmat & Target - Gross Profit Margin GPM WMT23.06%22.94%22.46%22.35%22.02%22.16%22.03%21.48%21.29%20.81%20.85% Target33.62%32.87%32.45%21.79%17.80%15.22%31.67%31.23%31.08%

© The McGraw-Hill Companies, Inc., 2005 McGraw-Hill/Irwin 6. Walmat & Target - Profit Margin PM WMT3.59%3.60%3.53%3.46%3.23%3.45%3.41%3.37%3.13%3.05%3.07% Target4.58%4.02%3.85%3.68%3.33%3.23%3.39%3.05%2.73% Industry 3.50%3.37%3.71%