1. Chapter # 5 Accounting For Merchandizing Companies

2. Merchandising Company Merchandising companies, in contrast to service-type business, earn revenue by selling goods rather than services.

3. Inventory The goods that a merchandising company sells to its customers are called inventory (or Merchandise)

4. Operation Cycle of Merchandizing Company Inventory Sale of Merchandise on account Cash 1. Purchase of Merchandise 2. Sale of Merchandise on Account 3. Collection of the Receivables Account Receivable

5. Merchandising companies Vs Manufacturing companies Companies that manufacture their inventories or produce their goods are called manufacturing companies. Merchandising companies purchase their inventories from other business organization in a ready-to-sell condition.

6. Retailer and Wholesalers Merchandising business may be carrying on into two ways; 1. Retailer is a business that sells their inventory directly to the public. 2. Wholesalers buy large quantities of merchandise from several different manufacturers and then resell this merchandise to many different retailers.

7. Cost of Goods Sold The cost of inventory or merchandise the company resell to its customers is normally term as Cost of Goods Sold.

8. Computer Barn INCOME STATEMENT For the year ended Dec, 31 st 2008 ______________________________________________ Revenue from sales………………$ 900,000 Less: Cost of goods sold………...$ 540,000 Gross Profit……………………….$ 360,000 Less: Expenses……………………$ 270,000 Net Income………………………..$ 90,000

9. Approaches used in Accounting for Merchandising Transactions 1. Perpetual Inventory System 2. Periodic Inventory System

10. Perpetual Inventory System The basic characteristic of perpetual inventory system is that the inventory account is continuously updated for all purchase and sales of merchandise Perpetual means Continuous and up-to-date. In perpetual inventory system merchandizing transactions are recorded as they occur. When merchandise is purchased one entry is required. When inventory is sold two entries are necessary. 1. One entry for the sales of inventory and 2. Other to recognize the cost of goods sold

11. When Inventory is purchased At the time of purchasing the inventory one entry is required. For example: August 1 st 10 Regent CX-21 computer monitors were purchased for $ 6,000 on cash. The entry will be ; DescriptionR/NoDr.Cr. Inventory Cash ….. $ 6,000 $ 6000

12. When inventory is sold Two entries are required here one for recognizing the revenue and other for recognizing the related cost. For example business sold inventory for $ 2,000 on cash, which cost was $ 1,200 DescriptionR/NoDr.Cr. Cash Sales (Inventory) _____________________________________ Cost of Goods Sold Inventory ….. $ 2,000 $ 1,200 $2,000 $ 1,200

13. When Inventory is purchased At the time of purchasing the inventory one entry is required. For example: August 1 st 10 Regent CX-21 computer monitors were purchased for $ 6,000 on account from Okawa Wholesale Co, payment is due in 30 days. The entry will be ; DescriptionR/NoDr.Cr. Inventory (monitors) Accounts Payable ….. $ 6,000 $ 6000

14. When Inventory is purchased When amount is paid to supplier…. The entry will be ; DescriptionR/NoDr.Cr. Accounts Payable Cash ….. $ 6,000 $ 6000

15. When inventory is sold on credit Two entries are required here one for recognizing the revenue and other for recognizing the related cost. For example business sold inventory for $ 2,000 on account, which cost was $ 1,200 DescriptionR/NoDr.Cr. Account Receivable Sales (Inventory) _____________________________________ Cost of Goods Sold Inventory ….. $ 2,000 $ 1,200 $2,000 $ 1,200

16. When inventory is sold on credit When amount is received from customer…. The entry will be ; DescriptionR/NoDr.Cr. Cash Account Receivable ….. $ 2,000 $ 2000

17. General Ledger Vs Subsidiary Ledgers General Ledgers are normally used to prepare financial statements Subsidiary Ledgers provide more information that is required to prepare General Ledger It shows the separately the individual items which comprise the balance of a general ledger account.

18. Inventory Subsidiary Ledger Item________________________ Primary Supplier ________________ Description _________________ Second Supplier _________________ Location ___________________ Inventory Level: Min ____ Max _____ DatePurchasedSoldBalance UnitsUnit Cost TotalUnitsUnit Cost Cost of Good Sold UnitsUnit Cost Total

19. Approaches for merchandizing transactions Perpetual Inventory System Aug. 1 Purchased 10 Regent CX-21 computer monitors on account from Okawa Wholesale Company. The monitors cost $ 600 each, for a total of $ 6,000, payment is due in 30 days. Aug. 7 Sold 2 monitors on account to RJ Travel Agency at a retail sales price of $ 1,000 each, for a total of $ 2,000. Payment is due in 30 days. Sep. 1 Paid the $ 6,000 account payable to Okawa Wholesale Company. Sep. 7 Collected the $2,000 from RJ Travel Agency.

20. Ledger Accounts

21. Inventory Subsidiary Ledger Item: Regent CX-21 Primary Supplier: Okawa Whole Sale Description: Gray Scale Monitor Second Supplier: Forbs Incorporations Location: Store room 2 Inventory Level: Min ____ Max _____ DatePurchasedSoldBalance 1 st Sep 7 th Aug UnitsUnit Cost TotalUnitsUnit Cost Cost of Good Sold UnitsUnit Cost Total 10 ------ $ 600 ------ $ 6,000 ------- -------- 2 ------- $ 600 ------- $ 1,200 10 8 $ 600 $ 6,000 $ 4,800

22. Taking a Physical Inventory The basic characteristic of perpetual inventory system is that the inventory account is continuously updated for all purchase and sales of merchandise. But at the end of accounting period it may be possible that the inventory as shown in the record may not be equal to the physical inventory. This difference occurred due to shrinkage ( breakage, spoilage, employees theft & shoplifting etc). In order to ensure the accuracy of perpetual inventory records, most businesses take a complete physical count of the merchandise on hand at the end of accounting period. This procedure is called “taking a physical inventory”

23. For example: Assume that at year end the inventory account of Computer Barn shows an inventory with a cost of $ 72,200. A physical count, however, reveals that some of the merchandise listed in the accounting records is missing, the items actually on hand have a total cost of $70,000. Computer Barn would make to following adjusting entry to adjust its Inventory Controlling account: DateDescriptionL/FDrCr Cost of Goods Sold………………. Inventory……………. $ 2,200

24. Closing Inventories in Perpetual Inventory System Revenues, expenses and drawings are temporary accounts and need to close in income summary at the end of each accounting period Here we will close the Sales account with the income summary account just like the other revenues accounts And cost of goods sold account is to be closed with income summary account as other expenses accounts

25. Periodic Inventory System This method is totally alternative to the Perpetual Inventory System In this system, no efforts is made either to update the Inventory account or to record the cost of goods sold as transactions occur through out the year. In this method inventory records are updated “periodically” normally at the end of accounting period. In this method when the inventory is purchased only one entry for the normal purchases is required to pass and At the time of sales only one entry for normal sales is made The cost of goods sold and entry for this is normally done at the end of accounting period

26. Periodic Inventory System When the inventory purchased the entry will be like; DateDescriptionL/FDrCr Purchases………………. Cash……………. $ 2,200 When the inventory is sold the entry would be; DateDescriptionL/FDrCr Cash………………. Sales……………. $ 2,200

27. Periodic Inventory System At the year’s end cost of goods calculated as follows; Beginning inventory………………………………… Add: Purchases during the year………………….. Total cost of inventory available for sale………... Less: cost of Closing Inventory………………….. Cost of goods/ inventory sold…………………….. $ 12,000 130,000 142,000 8,000 $ 134,000 For example, if a business had merchandise costing $12,000 on hand at the beginning of the year. During the year, it purchased additional merchandise at cost of $130,000. Therefore, merchandise with a total cost of $142,000 was available for sale during the year. At year end merchandise with a cost of $8,000 remains on hand. Thus merchandise which had cost $134,000 is no longer on hand, and is presumed to have been sold.

28. Periodic Inventory System So at the year end, when the cost of goods is being calculated then entry for such cost of goods sold will be; DateDescriptionL/FDrCr Cost of Goods Sold………………. Inventory……………. $ 134,000

29. Accounting Terminologies 1. Current Assets 2. Plant and Equipment (Fixed Assets) 3. Current Liabilities 4. Long Term Liabilities 5. Liquidity of Assets 6. Liquidity of Liabilities 7. Credit Terms and Cash Discounts 8. Purchases Return and Allowances 9. Sales Return and Allowances

30. Transactions relating to purchases Credit terms and Cash Discount Credit Terms (2/10, n/30) 2 = Percentage of Discount 10 = Discount Period n = Net time period 30 = Number of due days

31. Example of Net Invoice Price Nov 3: Star Computers purchase 100 PC Monitors from PC products. The cost of these Monitors is $100 each, for a total of $10,000. However, PC products offers credit terms of (2/10, n/30). If Star Computers pays for this purchase within the discount period, it will have to pay only $9,800 or 98% of the full invoice price. Therefore Star Computer will record this purchase as follows: DateDescriptionL/FDrCr Nov 3 Inventory……………….. Accounts Payable (PC Products) $ 9,800 DateDescriptionL/FDrCr Dec 2 Accounts Payable (PC Products) Purchase Discount Lost Cash…………………… $ 9,800 200 $ 10,000 When Cash is paid to the invoice after the expiration of Discount Period

32. Example of Gross Invoice Price When Inventory was purchased entry will be; DateDescriptionL/FDrCr Nov 3 Inventory……………….. Accounts Payable (PC Products) $ 10,000 When amount is paid within discount period, entry will be; DateDescriptionL/FDrCr Nov 3 Accounts Payable (PC Computers) Cash……………………………… Purchase Discount Taken…... $ 10,000 $ 9,800 200

33. Classified Financial Statements In classified Financial Statements items with certain characteristics are placed together in a group, or “Classification” 1. Classified Balance Sheet 2. Classified Income Statement

34. Classified Balance Sheet In a Classified Balance Sheet assets are normally presented into three groups 1. Current Assets 2. Plant and equipment (Fixed Assets) 3. Other Assets 4. Current Liabilities 5. Long Term Liabilities 6. Owner’s Equity

35. Classified Balance Sheet Star Computers Balance Sheet As on Dec 31 st, 2008 Current Assets: Cash……………………………………………………………………………. Notes Receivable……………………………………………………………. Account Receivable………………………………………………………… Inventory……………………………………………………………………… Prepaid Expenses…………………………………………………………… Total Current Assets…………………………………………………………. Plant and Equipment: Furniture……………………………………………………………………… Land…………………………………………………………………………… Building………………………………………………………………………. Total Plant and Equipment………………………………………………….. Other Assets: Land held as a future building site………………………………………. Total Assets…………………………………………………………………….. $ 30,000 15,000 25,000 9,500 4,500 84,000 20,000 90,000 70,000 180,000 80,000 344,000

36. Classified Balance Sheet (Continued) Current Liabilities: Notes Payable……………………………………………………………………. Accounts Payable……………………………………………………………….. Outstanding expenses…………………………………………………………. Total Current Liabilities………………………………………………………….. Long Term Liabilities: Bank Loan………………………………………………………………………… Owner’s Equity: Brain Capital…………………………………………………………………….. Total Liabilities and owner’s equity…………………………………………... $ 22,000 10,000 4,000 36,000 44,000 264,000 344,000

37. Classified Income Statement An Income Statement can be prepared either in multiple-steps or in single-step format. Multiple-steps Income Statement 1. Net Sales 2. Cost of goods sold 3. Gross profit 4. Operating expenses 5. Operating Income 6. Non-operating Items 7. Net Income

38. Multiple-step Income Statement Star Computers Income Statement For the period ended, Dec 31 st, 2008 Net Sales …………………………………………………………………………….. Less: Cost of Goods Sold ………………………………………………………… Gross Income ………………………………………………………………………. Less: Operating Expenses Selling Expenses: Sales salaries and commissions ……………………. $ 78,800 Advertising ……………………………………………… 42,000 Delivery Expenses …………………………………….. 14,200 Total Selling Expenses……………………………………………. 135,000 General & Administrative Expenses: Administrative & Office Salaries ……………………… 73,000 Refreshment Expenses ………………………………… 6,500 Depreciation: Building ………………………………… 8,500 Total General & Administrative Expenses……………………… 88,000 Total Operating Expenses………………………………………………………….. Operating Income……………………………………………………………………. $ 900,000 (540,000) 360,000 (223,000) 137,000

39. Operating Income …………………………………………………………………. Add (Less): Non-Operative Items Interest revenues……………………………………………………… $ 3,000 Purchase discount lost…………………………………................... (1,200) Net Income …………………………………………………………………………. 137,000 1,800 138,800

40. Single Step Income Statement Star Computers Income Statement For the period ended, Dec 31 st, 2008 Revenues: Net Sales………………………………………………………………………………….. Interest Earned………………………………………………………………………….. Total Revenue………………………………………………………………………. Less: Costs and Expenses: Cost of Goods Sold…………………………………………………… $ 540,000 Selling Expenses……………………………………………………… 135,000 General & Administrative Expenses……………………………… 88,000 Purchase Discount Lost……………………………………………. 1,200 Total Costs and Expenses………………………………………………………… Net Income………………………………………………………………………………. $ 900,000 3,000 903,000 ( 764,200) $ 138,800

41. End of Chapter 5