5.1PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. ACCOUNTING Financial and Organisational Decision Making Chapter 5 Inventory transactions Slides written and designed by Tony Van Eekelen

Chapter 5: Inventory transactions 5.2PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Learning Objectives In this chapter you will be introduced to –the difference between the measurement and reporting of profit for service and merchandising organisations –accounting for inventory using the perpetual system –accounting for the periodic system

Chapter 5: Inventory transactions 5.3PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Learning Objectives –the difference between the perpetual and periodic methods of recording inventory –the preparation of closing entries under the perpetual and periodic systems

Chapter 5: Inventory transactions 5.4PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. –a comparison of the profit and loss statement for a merchandising organisation under the perpetual and periodic systems –the effects of errors in inventory valuation on the reported profit Learning Objectives

Chapter 5: Inventory transactions 5.5PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Profit measurement: merchandiser and service enterprises Merchandiser buys inventory to resell it at a profit –inventory = stock, merchandise Merchandisers trade at both retail and wholesale levels Profit determination now includes the revenue and expenses associated with the merchandise

Chapter 5: Inventory transactions 5.6PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Comparison Service Profit and loss statement for the period ended XX Service revenue Less expenses Net profit Merchandiser Profit and loss statement for the period ended XX Sales revenue less sales returns Net sales Less cost of goods sold Gross profit Less expenses Net Profit

Chapter 5: Inventory transactions 5.7PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Comparison Revenue is sales revenue not services revenue Reduction in sales for sales returns Cost of goods sold is all the costs associated with the sale of inventory Gross profit is the price margin on the merchandise sold Expenses for both would be similar

Chapter 5: Inventory transactions 5.8PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Importance of inventory dependent upon the type of firm – inventory is a major current asset eg Retail –Coles Myer Ltd 37.7% –Woolworths41.8% Service –Boral Ltd8.6% –Qantas Airways Ltd1.5%

Chapter 5: Inventory transactions 5.9PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Recording systems Two major recording systems –perpetual –periodic Type used will depend upon the type of organisation and the characteristics of the merchandise

Chapter 5: Inventory transactions 5.10PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Perpetual inventory system Known as the asset approach to recording inventory All merchandise is recorded as an asset When sold the asset is decreased and the expense increased All stock transactions are recorded and at any time stock levels can be determined

Chapter 5: Inventory transactions 5.11PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Perpetual system Discrepancies between actual levels and recorded levels maybe due to theft, spoilage or clerical errors Discrepancies can be determined by comparison between a stock take (physical count of stock) and the records

Chapter 5: Inventory transactions 5.12PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for perpetual system As all transactions are recorded under this system, then both prices, cost and selling, need to be recorded Purchase of merchandise –Dr.InventoryCost price –Cr.Cash/Accounts PayableCost Price

Chapter 5: Inventory transactions 5.13PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for perpetual system Return of merchandise to supplier – Dr.Accounts payable/CashCost price – Cr.InventoryCost price – purchase return Sale of merchandise –Dr.Cash/accounts receivableSelling Price – Cr. Sales revenue Selling price –Dr.Cost of goods soldCost price –Cr. Inventory Cost price

Chapter 5: Inventory transactions 5.14PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for perpetual system Return by customer –Dr. Sales ReturnsSelling price – Cr. Accounts ReceivableSelling price –Dr.Inventory*Cost price – Cr.Cost of goods sold Cost price * Maybe inventory damage losses if stock returned is damaged

Chapter 5: Inventory transactions 5.15PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for perpetual system Stock count and stock loss –Dr.Stock lossCost price –Cr.Inventory Cost Price

Chapter 5: Inventory transactions 5.16PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Financial statement Profit and loss statement SalesXXX Less sales returns XX Net salesXXX Less cost of goods sold XX Gross ProfitXXX Less expenses XX Net profit XX

Chapter 5: Inventory transactions 5.17PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Periodic inventory system Perpetual is best for a firm which has stock that is easily identifiable, high value and slow turnover. If the stock is low value, high-turnover, the benefits of the perpetual system would be outweighed by the administrative cost.

Chapter 5: Inventory transactions 5.18PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Periodic inventory system The periodic system has a simpler approach in that only records purchases during the period and a stock count is conducted at the end of the period. Any stock not accounted for at the end of the period is assumed to be sold.

Chapter 5: Inventory transactions 5.19PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Periodic inventory system This approach is known as the expense method New stock is entered into the purchases account Any stock remaining at the end of the period is made into an asset

Chapter 5: Inventory transactions 5.20PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Cost of goods sold determination Cost of goods sold = Inventory at beginning of period add purchases less purchase returns = stock available for resale less stock at end of period = cost of goods sold

Chapter 5: Inventory transactions 5.21PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for periodic system Purchase of stock from supplier –DrPurchasesCost price –Cr. Accounts Payable Cost price Return stock to supplier –DrAccounts PayableCost Price –Cr.Purchase returns Cost Price

Chapter 5: Inventory transactions 5.22PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Entries for periodic system Sale of stock –DrCash/accounts receivableSelling Price – Cr. Sales Selling Price –(Note no entry for cost price) Return by customer –DrSales ReturnsSelling Price –Cr.Accounts ReceivableSelling Price No entry for stock count - (closing entry)

Chapter 5: Inventory transactions 5.23PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Financial statement Sales revenuexxx Less sales returns xx Cost of goods sold Inventory at beginningxx Purchasexx Freight Inwards xxx less Purchase returns x Net purchasesxx Cost of goods available for salexxx less inventory at end xx cost of goods soldxxx Gross profit xx Less expenses xx Net profit x

Chapter 5: Inventory transactions 5.24PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Difference between systems Stock loss available under perpetual Periodic less time consuming Both give the same net profit More detail in the periodic profit and loss statement

Chapter 5: Inventory transactions 5.25PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Closing entries for merchandisers In both systems revenue and expense accounts are closed to the profit and loss summary account Periodic has one extra entry and this is the stock at end figure which needs to be entered into the profit and loss account and the inventory account for the balance sheet

Chapter 5: Inventory transactions 5.26PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Closing entries This entry would be –Dr.Inventory –Cr.Profit and loss summary account (the amount would be the valuation of the stock as per the stock take) The closing of the profit and loss to the capital account would be the same as for a service firm.

Chapter 5: Inventory transactions 5.27PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Summary Merchandise accounting is more complex than service accounting Two methods of recording stock –perpetual continuous method of recording each transaction –physical based upon stock counts Closing entries similar to service firm