2. ACCT 100 Accounting for Merchandising Operations Chapter 5

3. Objectives: 1. To distinguish a service company from a merchandising company. 2. To learn how to account for inventory purchase and inventory sale under a perpetual inventory system. 3. To learn how to account for inventory purchase, inventory sale under a periodic inventory system. Accounting for Merchandising operations2

4. Defining Inventory 1. Assets held for resale purpose in a normal course of business. 2. Assets used to produce products for resale purpose. Examples of Inventory: Merchandising Firms:merchandise or goods Manufacturing Firms:raw materials work-in-process finished Goods Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit3

5. Service Companies Providing services (i.e., transportation companies, banks, etc.) Main Revenues: service revenues. Income measurement: Service Revenues - Operating Expenses Operating Income Operating cycle: Cash Providing Service Accounts receivables Cash Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit4

6. Merchandising Companies Buy and sell goods (i.e., retail companies such as Wal-Mart, Macys, etc.). Main revenues: Sales revenues. Income measurement: Sales Revenues - Cost of Goods Sold (cost of total merchandise sold during the period) Gross Profit - Operating Expenses Operating Income Operating cycle: Cash Buy Inventory Sell Inventory Accounts Receivable Cash Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit5

7. Perpetual vs. Periodic Inventory System- An Example On February 10, inventory Costing $1,000 was purchased on credit, terms, 2/10 and n/30. On March 2, Inventory costing $250 was sold for $500 on credit. Accounting for Merchandising Operations6

8. Accounting for Inventory – A Perpetual Inventory System (Example on p6) At Purchase: Inventory 1,000 Accounts Payable 1,000 (to record goods purchased on account) At Sale: Accounts Receivable 500 Sales Revenue 500 (to record credit sale) Cost of Goods Sold 250 Inventory250 (to record cost of merchandise sold) Accounting for Merchandising Operations7

9. T-Accounts of Inventory and CGS Inventory CGS 1,000 250 250 750 Accounts Rec. Sales 500 500 Accounting for Merchandising Operations8

10. Perpetual Inventory System n The inventory account is used for the purchase and sale of inventory. n The balances of inventory is available at all time. n A physical count of inventory is still needed at the end of a period. n Any discrepancy of inventory book balance with physical count should be adjusted to a loss or gain account. Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit9

11. Perpetual Inventory System (contd.) n The cost of goods sold (CGS) account is used to record the CGS of a sale. n Therefore, the CGS is known at all time. n The CGS is determined by selecting a cost flow assumption (will be discussed in Chapter 6). Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit10

12. Accounting for Inventory – A Periodic Inventory System (Example on P6) At Purchase: Purchases 1,000 Accounts Payable 1,000 (to record goods purchased on account) At Sale: Accounts Receivable 500 Sales Revenue 500 (to record credit sale) Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit11

13. Accounting for Inventory – A Periodic Inventory System (Contd.) n The inventory account is not updated under the periodic inventory system. n The balance of CGS is unknown as CGS was not determined and recorded at sale. n Under the periodic inventory system, the cost of ending inventory will be determined after a physical inventory count and the CGS will be derived at the end of a period. n The details of this process will be discussed in chapter 6. Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit12

14. An Example of Perpetual Vs. Periodic at Purchase - with Freight, Purchase Returns and Discounts On February 10, inventory Costing $1,000 was purchased on credit, terms, 2/10 and n/30. Freight Terms: FOB Shipping PointBuyers are responsible for freight charges. $100 Freight was paid on Feb. 10. $200 inv. was returned on Feb. 15. The payment for the bal. of accounts payable was made on Feb, 17. Accounting for Merchandising Operations13

15. An Example of Perpetual Vs. Periodic at Purchase - with Freight, Purchase Returns and Discounts (Contd.) Perpetual Inventory Sys. 2/10 Inventory 1,000 A/P 1,000 (Freight) Inventory 100 Cash 100 2/15 A/P 200 (Pur. Ret) Inventory 200 2/17. A/P 800 Cash 784 Inventory 16 Inv. = 1,000+100-200-16=884. Periodic Inventory Sys. Purchases 1,000 A/P 1,000 Freight-in 100 Cash 100 A/P 200 Pur. R&A 200 A/P 800 Cash 784 Pur. Dis. 16 Net Pur.= 1,000+100-200-16 = 884. Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit14

16. An Example of Perpetual Vs. Periodic at Sale - with Sales Returns, Sales Discounts and Freights On March 2, Inventory costing $250 was sold for $500 on credit. On March 5, $50 of inventory sold was returned. Collection of the remaining balance of A/R on Mar. 7. Sale terms: FOB Destination - Seller are responsible for the freight. The seller paid $30 for the shipping. Accounting for Merchandising Operations15

17. An Example of Perpetual Vs. Periodic at Sale - with Sales Returns, Sales Discounts and Freights (contd.) Perpetual Inventory Sys. 3/2 A/R 500 Sales 500 CGS 250 Inventory 250 3/5 Sales R&A 50 (S. Ret.) A/R 50 Inventory 25 CGS 25 3/7 Cash 441 Sales Dis. 9 A/R 450 Freight Freight-out 30 Cash 30 Periodic Inventory Sys. A/R 500 Sales 500 None Sales R&A 50 A/R 50 None Cash 441 Sales Dis. 9 A/R 45 0 Freight-out 30 Cash 30 16

18. Perpetual Inventory System with Purchase, Purchase Returns and Allowance and Purchase Discounts (skip pp17-25) On Feb. 10, $1,000 inventory was purchased on credit. $200 inv. was returned on Feb. 15. The payment was made on Feb, 17. Feb. 10 Inventory 1,000 Accounts Payable 1,000 (To record goods purchased, terms 2/10, n/30) Feb. 15 Accounts Payable 200 Inventory 200 (To record return of goods purchased) Feb. 17 Accounts Payable 800 Cash 784 Inventory 16 (To record payment with discount taken) Accounting for Merchandising Operations17

19. Purchase Discounts Not Taken March 3 Accounts Payable 800 Cash 800 (To record payment on account without discounts taken) Accounting for Merchandising Operations18

20. Purchase of Inventory –Freight Costs Freight Terms: FOB Shipping PointBuyers are responsible for freight charges. Feb. 10 Inventory 100 Cash 100 (To record freight charges of $100, terms: FOB shipping point) Note: If freight terms were FOB destination, the seller will be responsible for the payment of the freights. Accounting for Merchandising Operations19

21. Purchase Invoice/Sales Invoice (see Illustration 5-4 of textbook for an example) Any purchase should be supported by a purchase invoice. Companies usually record purchases when receiving goods from the seller. A purchaser uses the sales invoice of the seller as its purchase invoice. In addition to the names of the seller and the buyer, the goods sold and the total amount, credit terms and freight terms are also included in the sales invoice. Accounting for Merchandising Operations20

22. Perpetual Inventory System with Sales, Sales Returns and Allowances, Sales Discounts On March 2, Inventory costing $250 was sold for $500 on credit. On March 5, $50 of inventory sold was returned: Mar. 2 A/R 500 Sales 500 (To record credit sale, terms 2/10,n/30) CGS 250 Inventory 250 (To record cost of merchandise sold) Mar. 5 Sales Return and Allowance 50 A/R 50 Inventory 25 CGS 25 (To record sales return) 21

23. Collection of A/R and Sales Discounts Collection of A/R on Mar. 7: Cash 441 Sales Discount 9 A/R 450 (To record collection of A/R within discount period) If the discount is not taken (i.e., collection after discount period: Cash 450 A/R 450 Accounting for Merchandising Operations22

24. Net Sales Net Sales = Sales – Sales Returns and Allowances – Sales Discount Accounting for Merchandising Operations23

25. Sale of Inventory – Freight Costs FOB Shipping Point: Buyers are responsible for the freight. FOB Destination: Seller are responsible for the freight. The seller paid $30 for the shipping: Freight-out 30 Cash 30 (Note: Freight-out is an expense account) Accounting for Merchandising Operations24

26. Closing Entries (Perpetual Inventory System) Sale Revenue 500 Income Summary 500 Income Summary 314 Cost of Goods Sold 225 Sales ret. and Allow. 50 Sales Discount 9 Freight-out 30 Accounting for Merchandising Operations25

27. Accrual Accounting and the Financial Statements26 Income Statement Formats n Multiple -Step Income Statement (see illustration 5-11 of textbook for an Example) : 26

28. Income Statement Formats (contd.) Single-Step Income Statement (See Illus.5-12 of textbook) Revenues: Net sales $150,000 Interest revenue 2,000 Gain on sale of equipment 3,000 Total revenue $155,000 Expenses: Cost of goods sold 80.000 Selling, administrative and depr. 40,000 Interest expense 9,000 Income tax expense 10,000 Total expenses 139,000 Net Income $ 16,000 Accounting for Merchandising Operations27

29. Income Statement Formats (Contd.) Selling expenses include: salaries expense (sales related), advertising expense, freight-out. Administrative expenses include: salaries expense (administration related), utility expense, insurance expense. Accounting for Merchandising Operations28

30. Periodic Inv. System at Purchase with Purchase, Purchase Returns and Allowance and Purchase Discounts (Skip pp29-31) On Feb. 10, $1,000 inventory was purchased on credit. $200 inv. was returned on Feb. 15. The payment was made on Feb, 17. The buyer paid freight charge $100 on 2/10. 2/10 Purchases 1,000 Accounts Payable 1,000 2/10 Freight-in 100 Cash 100 2/15 A/P 200 Purchase R&A 200 2/17 A/P 800 Cash 784 Purchase Discounts 16 Accounting for Merchandising Operations29

31. Net Purchases of a Periodic Inventory System Net purchases = Purchases – Purchases Returns and Allowances – Purchases Returns + Freight-in Accounting for Merchandising Operations30

32. Periodic Inv. System at Sale with Sales, Sales Returns and Allowances and Sales Discounts On March 2, Inventory costing $250 was sold for $500 on credit with terms, 2/10, n/30 and FOB destination. Shipping cost is $30. On March 5, $50 of inventory sold was returned and the remaining bal. of A/R was collected on March 7. 3/2 A/R 500 Sales 500 Freight-out 30 Cash 30 3/5 Sales Ret. and Allow. 50 A/R 50 3/7 Cash 441 Sales Discount 9 A/R 450 Accounting for Merchandising Operations31