Merchandising Operations Multimedia Slides by: Gail A. Mestas, MAcc, New Mexico State University Chapter 5.

Merchandising Operations

Multimedia Slides by: Gail A. Mestas, MAcc, New Mexico State University

Chapter 5

Gateway_User

Replace artwork for book cover with current edition

Copyright © Houghton Mifflin Company. All rights reserved. 5–2

Learning Objectives

1. Identify the management issues related to merchandising businesses.

2. Compare the income statements for service and merchandising concerns, and define the components of the merchandising income statement.

3. Define and distinguish the terms of sale for merchandising transactions.

4. Prepare an income statement and record merchandising transactions under the perpetual inventory system.


Supplemental Objectives

5. Prepare an income statement and record merchandising transactions under the periodic inventory system.

6. Prepare a work sheet and closing entries for a merchandising concern using the perpetual inventory system.

7. Prepare a work sheet and closing entries for a merchandising concern using the periodic inventory system.

8. Apply sales and purchases discounts to merchandising transactions.


Management Issues in Merchandising Businesses

• Objective 1– Identify the management issues related to

merchandising businesses


Merchandising Businesses

… earn income by buying and selling products or merchandise

• Can be wholesalers or retailers• Use the same basic accounting methods as

service companies– The process is more complex than for service

companies because of the buying and selling of merchandise

• The goods on hand for sale to customers are called merchandise inventory


Management Issues in Merchandising Businesses

• Cash flow management

• Profitability management

• Choice of inventory system

• Control of merchandising operations


Cash Flow Management

… involves managing a company’s receipts and payments of cash

• If bills cannot be paid when due, the company may be forced out of business

• Merchandising businesses engage in a series of transactions called the operating cycle


The Operating Cycle

• Transactions in the operating cycle include– Purchase of merchandise inventory for

cash or credit

– Payment for purchases made on credit

– Sales of merchandise inventory for cash or on credit

– Collection of cash from credit sales


1. Merchandise inventory is purchased for cash or on credit

CashAccounts Payable

Merchandise Inventory

Purchasefor cash

Purchaseon credit

The Operating Cycle of Merchandising Concerns

AccountsReceivable

2. Payments are made for purchases on credit

Paymentof cash

3. Merchandise is sold for cash or on credit

Salesfor cash

Saleson credit

4. Cash is collected from credit sales

Collection of cash


The Financing Period

… is the time period from the purchase of inventory

until it is ultimately sold and collectedless the amount of time creditors give the

company to pay for the inventory

• Also called the cash gap• This is the period of time the company will be without cash from

a particular series of transactions• The company will need to have funds available or borrow from

the bank• This is why cash flow management is important


The Financing Period Illustrated

4. Average days to collect on receivables is 60 days (Cash is received)

OPERATING CYCLE INVENTORY

PAYABLES RECEIVABLES FINANCING PERIOD 0

20

40

60

80

100

120

DAYS

1. Inventory is purchased on credit (Accounts Payable)

Inventorypurchased

Cash received

Inventory sold

Cash paid

2. Terms for payment are 30 days (Cash is paid)

3. Average days to sell inventory is 60 days – sold on credit (Accounts Receivable)

The financing period, or cash gap, is 90 days(120 days – 30 days)


Target 61 20 52 29

Dillard’s 102 42 43 101

Average Days

Company Inventory on

Hand

+ to Collect

Receivables –

to Pay for Merchandise

=

Financing Period

• Target’s financing period is shorter because it sells most of its merchandise for cash

The Financing Period (cont’d)

• The financing period – Varies for different companies

– Can be 120 days, or even longer, for merchandising companies

• Example


Types of payments for purchases

Cash

Bank credit card

Store credit

Funds from these sales are available to the merchandiser immediately

Merchandiser must wait a period of time before receiving cash

Cash Versus Credit

• Retailers reduce their financing period (improve their cash flow) by selling as much as possible for cash– Encourage sales by cash or bank credit card


Profitability Management

… is a complex activity that includes

achieving a satisfactory gross margin

and maintaining acceptable levels of operating expenses


Profitability Management (cont’d)

• Achieving a satisfactory gross margin depends on– Setting appropriate prices for merchandise

– Purchasing merchandise at favorable prices and terms

• Maintaining acceptable levels of operating costs depends on– Controlling expenses

• Using an operating budget is an efficient way to control expenses

– Operating efficiently


Operating Budgets

… consist of detailed listings of projected selling expenses and general and

administrative expenses for a company

• Reflect management’s operating plans

• At year-end and key times during the year, management should compare actual and budgeted expenses and make adjustments to operations


Choice of Inventory System

• Two basic systems– Perpetual inventory system

– Periodic inventory system

• Management must choose the system or combination of systems that is best for achieving the company’s goals


Perpetual Inventory System

…determines inventory by keeping continuous records

of the quantity and, usually, the cost of individual items

as they are bought and sold


Perpetual Inventory System (cont’d)

• Detailed data enable management to– Determine product availability

• Can respond to customers’ inquiries

– Avoid running out of stock• Able to order inventory more effectively

– Control financial costs associated with investments in inventory


Accounting for Inventory Under the Perpetual System

• Purchases– The cost of each item is recorded in the Merchandise

Inventory account

• Sales– The cost of each item is transferred from the

Merchandise Inventory account to the Cost of Goods Sold account

• Therefore– Merchandise Inventory account balance = Cost of

goods on hand

– Cost of Goods Sold account balance = Cost of merchandise sold to customers


Periodic Inventory System

… determines inventory by a physical count

taken at the end of the accounting period

• No detailed records of the actual inventory on hand are maintained during the accounting period

• Amount of inventory on hand is accurate only on the balance sheet date



• Used to reduce the amount of clerical work

• Lack of records could lead to lost sales or high operating costs

• More likely to be used by– Smaller companies– Companies that sell high volumes of low value items

• Drugstores• Automobile parts stores• Department stores• Discount stores• Grain companies



• More likely to be used by– Larger companies

– Companies that sell high-value items• Automobiles

• Appliances


Control of Merchandising Operations

• Principal transactions of merchandising businesses are– Buying assets

– Selling assets• Involve cash, accounts receivable, and merchandise

inventory

• These assets are vulnerable to theft and embezzlement– Management must use internal controls to protect

these assets


Internal Control

• Internal control is created by establishing– An environment of control

– Accounting systems

– Control procedures


Physical Inventory

• A physical count of all merchandise on hand– Required under both the perpetual and periodic

inventory systems

– Under the perpetual inventory system, the actual count is compared to accounting records to determine any shortages that may exist

• Used to facilitate control over merchandise inventory


Merchandise Inventory

…includes all goods intended for sale

that are owned by a business

• Includes all goods intended for sale, regardless of where they are located, such as– Goods in transit if title has passed to the merchant

– Damaged or obsolete goods that can be sold at reduced prices

• Does not include – Merchandise that has been sold

– Damaged or obsolete goods that cannot be sold


Inventory Losses

• Result from spoilage, shoplifting, and theft by employees

• Periodic inventory system– No means to identify losses because the costs are

automatically included in cost of goods sold

• Perpetual inventory system– Losses equal the difference between the inventory

records and the physical count

– Update inventory by crediting Merchandise Inventory and debiting Cost of Goods Sold


Discussion

Q. What four issues must managers of merchandising businesses face?

A. The four issues that managers of merchandising businesses face are 1. Cash flow management

2. Profitability management

3. Choosing between the periodic and the perpetual inventory systems, and

4. Establishing an internal control structure that protects the business’s assets


Income Statement for a Merchandising Concern

• Objective 2– Compare the income statements for

service and merchandising concerns, and define the components of the merchandising income statement


Income Statement for a Merchandiser

• Consists of three major parts

1. Net sales

2. Cost of goods sold

3. Operating expenses

There is also a subtotal for gross margin(Net Sales – Cost of Goods Sold)

Income statements for service businesses do not include gross margin computations

The Components of

Income Statements for

Service and Merchandising

Companies

Gateway_User

Insert Figure 3, chapter 5, POA, 2005e, Needles titled "The Components of Income Statements for Service and Merchandising Companies"


Net Sales

…consists of the gross proceeds from sales of merchandise

• Also simply called sales

• Amount of sales and trends in net sales over time are used to analyze a company’s progress


Net Sales

Net Sales = Gross Sales – Sales Returns and Allowances – Discounts

Gross Sales = Total Cash Sales + Total Credit Sales during a given accounting period

• This follows the revenue recognition rule– Revenue is recognized even though cash may not be

collected until the following accounting period

Sales Returns and Allowances• A contra-revenue account

• Used to accumulate cash refunds, credits on account, and allowances off selling prices for defective or unsatisfactory merchandise


Cost of Goods Sold

… is the amount paid for merchandise sold,

or the cost to manufacture products that were sold,

during an accounting period

• Also called cost of sales


Gross Margin

…is the difference between net sales and cost of goods sold

Net Sales – Cost of Goods Sold = Gross Margin

• Also called gross profit


SalesNet

Margin Gross Margin Gross of Percentage

• Both are useful in planning business operations

Gross Margin

• Management is interested in both the amount of gross margin and the percentage of gross margin


Operating Expenses

… are the expenses

other than cost of goods sold

that are incurred in running a business

• Operating expenses are grouped into categories– Selling expenses

– General and administrative expenses

• Careful planning and control of operating expenses can improve a company’s profitability


Selling Expenses

• Include– Cost of storing goods– Cost of preparing goods for sale– Advertising and promoting sales– Delivering goods to the buyer

• Called freight out expense or delivery expense

– General occupancy expenses (may be allocated among selling expenses and general and administrative expenses)

• Rent expense• Utilities expense• Insurance expense


General and Administrative Expenses

• Include– General office expenses

• Accounting

• Personnel

• Credit and collections

• Expenses that apply to overall operations

– General occupancy expenses (may be allocated among general and administrative expenses and selling expenses)

• Rent expense

• Utilities expense

• Insurance expense


Net Income

… is what remains of gross margin after operating expenses are deducted

• It is the final figure, or “bottom line,” of the income statement

• Represents the amount of business earnings that accrue to the owners

• Management and owners use net income to measure whether a business has operated successfully during the past accounting period


Discussion

Q. What are the three major parts of an income statement for a merchandising company?

– Net sales

– Cost of goods sold

– Operating expenses


Terms of Sale

• Objective 3– Define and distinguish the terms of sale for

merchandising transactions


Trade Discounts

… are reductions off list or catalog prices

• Offered by manufacturers and wholesalers

• Usually 30 percent or more

• Example– An article is listed at $1,000 with a trade discount

of 40 percent

– Sale price = $1,000(1.00 – 0.40) = $600


Trade Discount Terms

n/10

(net 10)

Amount is due 10 days after the invoice date

n/10 eom

(net 10 end-of-month)

Amount is due 10 days after the end of the month in which the invoice is dated


Sales Discounts

…give buyers discounts for early payment

• Are intended to increase the seller’s liquidity by reducing the amount of money tied up in accounts receivable

• It is usually advantageous for buyers to take advantage of sales discounts


Sales Discount Terms

2/10, n/30

• Amount may be paid within 10 days of the invoice date with a 2 percent discount

• Or wait up to 30 days and pay the full amount


Shipping Terms

• Seller pays shipping costs

• Buyer pays shipping costs

FOB destinationFOB Shipping Point

FOB means “free on board”

• Title of merchandise passes from seller to buyer at the point merchandise is shipped

• Title of merchandise passes from seller to buyer when the merchandise reaches its destination


Credit Card Sales

• If seller accepts a credit card payment, the customer signs a sales invoice

• The sale is communicated to the seller’s bank and a cash deposit is made in the seller’s account– Seller does not have to establish customer's credit,

collect from the customer, or tie up money in accounts receivable

• The seller pays the lender (credit card company) from 2 to 6 percent of the sale amount for the service


Cash 960 Credit Card Discount Expense 40 Sales 1,000

Accounting for Credit Card Sales

• Example– A customer charges a $1,000 purchase on

a Visa credit card

– Visa charges a 4 percent discount on sales

– The seller will pay Visa $40 ($1,000 x .40)

• Journal entry


Discussion

Q. What is the difference between a trade discount and a sales discount?

A. Trade discount• A deduction off a list or catalog price

Sales discount• A discount given to a buyer for early payment

for sales made on credit


Applying the Perpetual Inventory System

• Objective 4– Prepare an income statement and record

merchandising transactions under the perpetual inventory system


Fenwick Fashions Company Income Statement

For the Year Ended December 31, 20x3 Net sales Gross sales $246,350 Less sales returns and allowances 7,025 Net sales $239,325 Cost of goods sold 131,360 Gross margin $107,965

Operating expenses Selling expenses $41,380 General and administrative expenses 37,104 Total operating expenses 78,484 Net income $ 29,481

The Merchandise Inventory account on the balance sheet is updated at the same time

The Cost of Goods Sold account is continually updated during the accounting period

Income Statement When Using the Perpetual Inventory System


Transactions Related to the Purchase of Merchandise

• Purchases of merchandise on credit

• Transportation costs on purchases

• Purchases returns and allowances

• Payments on account


Under the perpetual inventory system, the cost of merchandise purchased is placed in the Merchandise Inventory account at the time of purchase

Oct. 3 Merchandise Inventory 4,890 Accounts Payable 4,890 Purchased merchandise

from Neebok Company, terms n/10, FOB shipping point, invoice dated Oct. 1

Oct. 3: Received merchandise purchased on credit from Neebok Company, invoice dated October 1, terms n/10, FOB shipping point, $4,890

Purchases of Merchandise on Credit


Freight In, or Transportation In, is the transportation cost of receiving merchandise

Oct. 4 Freight In 160 Accounts Payable 160 Received transportaion

charges on Oct. 3 purchase, Transfer Freight Company, terms n/10, invoice dated Oct. 1

Oct. 4: Received bill from Transfer Freight Company for transportation costs on October 3 shipment, invoice dated October 1, terms n/10, $160

Transportation costs are accumulated in the Freight In account, which is a component of cost of goods sold

Transportation Costs on Purchases


Oct. 6 Accounts Payable 480 Merchandise Inventory 480 Returned merchandise from

purchase of Oct. 3 to Neebok Company for full credit

Oct. 6: Returned merchandise received from Neebok Company on October 3 for credit, $480

Under the perpetual inventory system, the returned merchandise is removed from the Merchandise Inventory account

Purchases Returns and Allowances


Oct. 10 Accounts Payable 4,410 Cash 4,410 Made payment on account

to Neebok Company $4,890 – $480 = $4,410

Oct. 10: Paid in full the amount due to Neebok Company for the purchase of October 3, part of which was returned on October 6

Payments on Account


Transactions Related to Sales of Merchandise

• Sales of merchandise on credit

• Payment of delivery costs

• Returns of merchandise sold

• Receipts on account


Oct. 7 Accounts Receivable 1,200 Sales 1,200 Sold merchandise to Gonzales

Distributors, terms n/30, FOB destination

Cost of Goods Sold 720 Merchandise Inventory 720 Transferred cost of merchandise

inventory sold to Cost of Goods Sold account

Sales of Merchandise on Credit

Under the perpetual inventory system, two entries are necessary.

Oct. 7: Sold merchandise on credit to Gonzales Distributors, terms n/30, FOB destination, $1,200; the cost of the merchandise was $720

The sale is recorded and Cost of Goods Sold is updated by a transfer from Merchandise Inventory


Freight Out Expense, or Delivery Expense, is often paid by the seller to facilitate sales

Oct. 8 Freight Out Expense 78 Cash 78 Paid delivery costs on Oct. 7

sale

Oct. 8: Paid transportation costs for the sale on October 7, $78

Delivery costs are accumulated in the Freight Out Expense account, which is shown as a selling expense on the income statement

Payment of Delivery Costs


Returns of Merchandise Sold

Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300; the cost of the merchandise was $180

The Sales Returns and Allowances account gives management a readily available measure of unsatisfactory products or customer dissatisfaction, which can be indicated by returns and allowances

Oct. 9 Sales Returns and Allowances 300 Accounts Receivable 300 Accepted return of merchandise

from Gonzales Distributors

Merchandise Inventory 180 Cost of Goods Sold 180 Transferred cost of merchandise

returned to the Merchandise Inventory account




Merchandise Inventory 180 Cost of Goods Sold 180 Transferred cost of merchandise

returned to the Merchandise Inventory account

If merchandise is not returnedor will not be resold, this transaction is not recorded


Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300; the cost of the merchandise was $180

Under the perpetual inventory system, the cost of the returned merchandise must be transferred from Cost of Goods Sold to Merchandise Inventory


Nov. 5 Cash 900 Accounts Receivable 900 Received on account from

Gonzales Distributors $1,200 – $300 = $900

Nov. 5: Received payment in full from Gonzales Distributors for sale of merchandise on October 7, less the return on October 9

Receipts on Account


Discussion

Q. How are merchandising transactions recorded under the perpetual inventory system?

A. Merchandising transactions are recorded during the accounting periods, as purchases, sales, and other inventory transactions take place


Applying the Periodic Inventory System

• Supplemental Objective 5– Prepare an income statement and record

merchandising transactions under the periodic inventory system


Applying the Periodic Inventory System

• Cost of goods sold must be computed in the income statement when using the periodic inventory system– It is not updated for purchases, sales, and

other transactions during the accounting period


The Components of Cost of Goods Sold

Gateway_User

Insert updated Figure 3, chapter 6, POA 2005e, titled "The Componenets of cost of goods sold


Cost of goods available for sale must be determined first

Fenwick Fashions Company Income Statement

For the Year Ended December 31, 20x3 Net sales $239,325 Cost of goods sold Merchandise inventory,

December 31, 20x2

$ 52,800

Purchases $126,400 Less purchases returns and allowances

7,776

Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860 Goods available for sale $179,660 Less merchandise inventory, December 31, 20x3 48,300 Cost of goods sold 131,360 Gross margin $107,965 Operating expenses Selling expenses $41,380 General and administrative

expenses

37,104

Total operating expenses 78,484 Net income $ 29,481

Income Statement When Using the Periodic Inventory System

Under the periodic inventory system, cost of goods sold must be computed


Cost of Goods Available for Sale

… is the sum of two factors,

beginning inventory and the net cost of purchases during the year

Merchandise inventory,

December 31, 20x2

$ 52,800

Purchases $126,400 Less purchases returns and allowances

7,776

Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860 Goods available for sale $179,660


Purchases $126,400

Less purchases returns and allowances

7,776

Net purchases $118,624 Freight in 8,236 Net cost of purchases 126,860

Net Cost of Purchases

Discounts - Allowances and Returns - Purchases Total PurchasesNet

InFreight PurchasesNet Purchases ofCost Net


Transactions Related to Purchases of Merchandise

• Purchases of merchandise on credit

• Transportation costs on purchase

• Purchases returns and allowances

• Payments on account


Purchases of Merchandise on Credit

Under the periodic inventory system, the total cost of merchandise purchased for resale during the period is accumulated in the Purchases account

Oct. 3 Purchases 4,890 Accounts Payable 4,890 Purchased merchandise

from Neebok Company, terms n/10, FOB shipping point, invoice dated Oct. 1

Oct. 3: Received merchandise purchased on credit from Neebok Company, invoice dated October 1, terms n/10, FOB shipping point, $4,890

The Purchases account does not indicate whether merchandise has been sold or is still on hand


Transportation Costs on Purchases

Freight In, or Transportation In, is the transportation cost of receiving merchandise

Oct. 4 Freight In 160 Accounts Payable 160 Received transportaion

charges on Oct. 3 purchase, Transfer Freight Company, terms n/10, invoice dated Oct. 1

Oct. 4: Received bill from Transfer Freight Company for transportation costs on October 3 shipment, invoice dated October 1, terms n/10, $160

Transportation costs are accumulated in the Freight In account, which is included in cost of goods sold


Purchases Returns and Allowances

Oct. 6 Accounts Payable 480 Purchases Returns and Allowances 480 Returned merchandise from

purchase of Oct. 3 to Neebok Company for full credit

Oct. 6: Returned merchandise received from Neebok Company on October 3 for credit, $480

Under the periodic inventory system, the amount of the allowance or returned merchandise is recorded in the Purchases Returns and Allowances account

The Purchases Returns and Allowances account

• Is a contra-purchases account

• Carries a normal credit balance

• Is deducted from purchases on the income statement


Payments on Account

Oct. 10 Accounts Payable 4,410 Cash 4,410 Made payment on account

to Neebok Company $4,890 – $480 = $4,410

Oct. 10: Paid in full the amount due to Neebok Company for the purchase of October 3, part of which was returned on October 6


Transactions Related to Sales of Merchandise

• Sales of merchandise on credit

• Payment of delivery costs

• Returns of merchandise sold

• Receipts on account


Oct. 7 Accounts Receivable 1,200 Sales 1,200 Sold merchandise to Gonzales

Distributors, terms n/30, FOB destination

Sales of Merchandise on Credit

Under the periodic inventory system, only one entry is necessary. The Cost of Goods Sold account is not used because the Merchandise Inventory account is not updated until the end of the accounting period.

Oct. 7: Sold merchandise on credit to Gonzales Distributors, terms n/30, FOB destination, $1,200


Payment of Delivery Costs

Freight Out Expense, or Delivery Expense, is often paid by the seller to facilitate sales

Oct. 8 Freight Out Expense 78 Cash 78 Paid delivery costs on Oct. 7

sale

Oct. 8: Paid transportation costs for the sale on October 7, $78

Delivery costs are accumulated in the Freight Out Expense account, which is shown as a selling expense on the income statement





Oct. 9: Return of merchandise sold on October 7 accepted from Gonzales Distributors for full credit and returned to merchandise inventory, $300

The Sales Returns and Allowances account is used to accumulate returns and allowances to customers for wrong or unsatisfactory merchandise.

• The Sales Returns and Allowances account – Is a contra-revenue account

– Carries a normal debit balance

– Is deducted from sales on the income statement


Receipts on Account

Nov. 5 Cash 900 Accounts Receivable 900 Received on account from

Gonzales Distributors $1,200 – $300 = $900

Nov. 5: Received payment in full from Gonzales Distributors for sale of merchandise on October 7, less the return on October 9


Discussion

Q. How are merchandising transactions

recorded under the periodic system?

A. Merchandising transactions are recorded

at the end of the accounting period;

therefore, Costs of Goods Sold and

Inventory must be computed at that time


The Merchandising Work Sheet and Closing Entries: The Perpetual Inventory System

• Supplemental Objective 6– Prepare a work sheet and closing entries

for a merchandising concern using the perpetual inventory system


Work Sheet and Closing Accounts for a Merchandising Company

• Basically the same as for a service company but includes accounts needed to handle merchandising transactions– Treatment of these accounts depends on

whether perpetual or periodic inventory system is used


Comparison of Merchandising Accounts to be Closed at End of Period

Perpetual Inventory System Periodic Inventory System

• Sales

• Sales Returns and Allowances

• Cost of Goods Sold

• Freight In

• Sales

• Sales Returns and Allowances

• Sales Discounts

• Purchases

• Purchases Returns and Allowances

• Purchases Discounts

• Freight In

• Merchandise Inventory

Notice that the Merchandise Inventory account is not involved in the closing process under the perpetual inventory system


Merchandise Inventory Account



Purchases

Debit Merchandise Inventory account

No entry made to Merchandise Inventory account

Sales

Credit Merchandise Inventory account


End of Accounting

Period


Close Merchandise Inventory account

Under the perpetual system, the Merchandise Inventory account is not involved in the closing process because it is up to date at the end of the accounting period

Under the periodic system, no entries are made to the Merchandise Inventory account until the closing process at the end of the accounting period


Work Sheet Columns

1. Enter balances from ledger accounts to trial balance columns2. Enter adjusting entries in the Adjustments columns3. Total columns to prove debits equal credits4. Extend balances to Income Statement and Balance Sheet

columns5. Record adjusting entries from work sheet to general journal,

then post to ledger

XXX XXX XXX XXX

Fenwick Fashions Company

Work Sheet For the Year Ended December 31, 20x3

Trial Balance

Adjustments

Income Statement

Balance Sheet

Account

Name Debit Credit Debit Credit Debit Credit Debit Credit

The Adjusted Trial Balance columns have been omitted because only a few adjusting entries are required for Fenwick Fashions Company


Fenwick Fashions Company Work Sheet

For the Year Ended December 31, 20x3

Trial Balance Adjustments Income

Statement Balance

Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit

Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 48,300 48,300 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Office Supplies 1,840 (c)1,204 636 Land 4,500 4,500 Building 20,260 20,260 Accum. Dep.-Bldg 5,650 (d)2,600 8,250 Office Equipment 8,600 8,600 Accum. Dep.-Office Equip.

2,800 (e)2,200 5,000

Accounts Payable 25,683 25,683 G. Fenwick, Capital

118,352 118,352

G. Fenwick, Withdrawals

20,000 20,000

Balance Sheet ColumnsPerpetual Inventory System

Ending Merchandise Inventory is in both the Trial Balance and Balance Sheet columns



Statement Balance


Sales 246,350 246,350 Sales Returns and Allowances

7,025

7,025

Cost of Goods Sold 123,124 123,124 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling

(a)1,600

1,600

Insurance Exp, General

(a)4,200

4,200

Store Supplies Exp (b)1,540 1,540 Office Supp. Exp. (c)1,204 1,204 Dep. Exp.-Bldg (d)2,600 2,600 Dep. Exp-Office Equip

(e)2,200

2,200

Net Income

216,869 246,350

29,481 246,350 246,350

Income Statement Columns Perpetual Inventory System

The difference between the Income Statement column totals is net income


216,869 246,350

29,481 246,350 246,350

Closing Entries Perpetual Inventory System


Statement Balance



7,025

7,025


(a)1,600

1,600


(a)4,200

4,200


(e)2,200

2,200

Net Income

Debit Income Summary and credit the accounts in the Income Statement Debit column


Closing EntriesPerpetual Inventory System (cont.)

20x3 Dec 31 Income Summary 216,869

Sales Returns and Allowances 7,025 Cost of Goods Sold 123,124 Freight In 8,236 Sales Salaries Expense 22,500 Freight Out Expense 5,740 Advertising Expense 10,000 Office Salaries Expense 26,900 Insurance Expense, Selling 1,600 Insurance Expense, General 4,200 Store Supplies Expense 1,540 Office Supplies Expense 1,204 Depreciation Exp., Building 2,600 Depreciation Exp., Office Equipment 2,200 Closed the temporary expense

and revenue accounts having debit balances


216,869 246,350

29,481 246,350 246,350

Closing Entries Perpetual Inventory System (cont.)


Statement Balance



7,025

7,025


(a)1,600

1,600


(a)4,200

4,200


(e)2,200

2,200

Net Income

Debit the accounts in the Income Statement Credit column and credit Income Summary


Closing Entries Perpetual Inventory System (cont.)

20x3 Dec 31 Sales 246,350

Income Summary 246,350 Closed the temporary revenue

account having a credit balance

Next, the balances in the Income Summary and Withdrawal accounts are closed to the Capital account


Gloria Fenwick, Capital 29,481 Closed the Income Summary

account

31 Gloria Fenwick, Capital 20,000 Gloria Fenwick, Withdrawals 20,000 Closed the Withdrawals account

Notice that the amount required to close the Income Summary account is equal to net income for the period


Discussion

Q. Under the perpetual inventory system, is the Merchandise Inventory account involved in the closing process?

A. No. Under the perpetual system, the Merchandise Inventory account is not involved in the closing process because it is up to date at the end of the accounting period


The Merchandising Work Sheet and Closing Entries: The Periodic Inventory System

• Supplemental Objective 7– Prepare a work sheet and closing entries

for a merchandising concern using the periodic inventory system


Merchandise Inventory Account

• Under the periodic inventory system, the Merchandise Inventory account requires special treatment– Because merchandise purchases are

accumulated in the Purchases account• No entries are made to the Merchandise

Inventory account during the accounting period





Statement Balance



2,800 (e)2,200 5,000


118,352 118,352


20,000 20,000

Merchandise Inventory AccountPeriodic Inventory System

The beginning balance of the Merchandise Inventory account, which appears in the Trial Balance Debit column, is extended to the Income Statement Debit column



For the Year Ended December 31, 20x3 Trial Balance Adjustments Income Statement Balance Sheet

Account Name Debit Credit Debit Credit Debit Credit Debit Credit Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Sales 246,350 246,350 Sales Returns and Allowances

2,750

2,750

Sales Discounts 4,275 4,275 Purchases 126,400 126,400 Purchases Returns and Allowances

7,776

7,776

Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Out Exp 5,740 5,740


This has the effect of adding beginning inventory to net purchases because the Purchases account is also in the Income Statement Debit column





Statement Balance



2,800 (e)2,200 5,000


118,352 118,352


20,000 20,000

48,300


The ending balance of the Merchandise Inventory account is then inserted in the Income Statement Credit column

Determined by a physical count


48,300




Statement Balance



2,800 (e)2,200 5,000


118,352 118,352


20,000 20,000


This has the effect of subtracting ending inventory from goods available for sale in order to calculate cost of goods sold


48,300




Statement Balance



2,800 (e)2,200 5,000


118,352 118,352


20,000 20,000


Finally, the ending Merchandise Inventory is inserted in the Balance Sheet Debit column because it will appear on the balance sheet

48,300


Closing Entries Periodic Inventory System

Trial Balance Adjustments Income Statement Balance Sheet Account Name Debit Credit Debit Credit Debit Credit Debit Credit


7,025

7,025

Purchases 126,400 126,400 Purchases Returns and Allowances

5,640

5,640

Purchases Disc. 2,136 2,136 Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Our Exp 5,740 5,740 Advertising Exp 10,000 10,000 Other Salaries Exp 26,900 26,900 Insurance Exp, Selling

(a)1,600 1,600


(a)4,200 4,200


(e)2,200

2,200

272,945 302,426 Net Income 29,481 302,426 302,426

Debit Income Summary and credit the accounts in the Income Statement Debit column


Closing Entries Periodic Inventory System (cont.)


Merchandise Inventory 52,800 Sales Returns and Allowances 7,025 Purchases 126,400 Freight In 8,236 Sales Salaries Expense 22,500 Freight Out Expense 5,740 Advertising Expense 10,000 Office Salaries Expense 26,900 Insurance Expense, Selling 1,600 Insurance Expense, General 4,200 Store Supplies Expense 1,540 Office Supplies Expense 1,204 Depreciation Exp., Building 2,600 Depreciation Exp., Office Equipment 2,200 Closed the temporary expense

and revenue accounts having debit balances



For the Year Ended December 31, 20x3 Trial Balance Adjustments Income Statement Balance Sheet

Account Name Debit Credit Debit Credit Debit Credit Debit Credit Cash 29,410 29,410 Accounts Rec. 42,400 42,400 Merch. Inventory 52,800 52,800 48,300 48,300 Prepaid Insurance 17,400 (a)5,800 11,600 Store Supplies 2,600 (b)1,540 1,060 Sales 246,350 246,350 Sales Returns and Allowances

2,750

2,750

Sales Discounts 4,275 4,275 Purchases 126,400 126,400 Purchases Returns and Allowances

7,776

7,776

Freight In 8,236 8,236 Sales Salaries Exp 22,500 22,500 Freight Out Exp 5,740 5,740


Debit the accounts in the Income Statement Credit column and credit Income Summary


20x3 Dec 31 Merchandise Inventory 48,300

Sales 246,350 Purchases Returns and Allowances 7,776 Income Summary 302,426 Closed the temporary expense

and revenue accounts having a credit balance and established the ending inventory




Next, the balances in the Income Summary and Withdrawal accounts are closed to the Capital account


Gloria Fenwick, Capital 29,481 Closed the Income Summary

account

31 Gloria Fenwick, Capital 20,000 Gloria Fenwick, Withdrawals 20,000 Closed the Withdrawals account


Accounting for Discounts

• Supplemental Objective 8– Apply sales and purchases discounts to

merchandising transactions


Sales Discounts

…are discounts given to buyers for early payment for sales made on credit

• Are recorded only at the time the customer pays

• The Sales Discounts account – Is a contra-revenue account

– Carries a normal debit balance

– Is deducted from sales on the income statement


Sept. 20 Accounts Receivable 300 Sales 300 Sold merchandise on credit,

terms 2/10, n/60

Sept. 20: Sold merchandise to a customer, terms 2/10, n/60, $300

Nov. 19: Customer pays on account for September 20 sale

Nov. 19 Cash 300 Accounts Receivable 300 Received payment for Sept.

20 sale; no discount taken

The customer paid the full sale amount of $300 because

payment was made after the 10 day sales discount period

Transactions Involving No Sales Discounts


Sept. 29 Cash 294 Sales Discounts 6 Accounts Receivable 300 Received payment for Sept.

20 sale; discount taken

Sept. 20 Accounts Receivable 300 Sales 300 Sold merchandise on credit,

terms 2/10, n/60

Sept. 20: Sold merchandise to a customer, terms 2/10, n/60, $300

Sept. 29: Customer pays on account for September 20 sale

The customer paid only $294 [$300 – ($300 x .02)] because payment was made within the 10-day sales discount period

Transactions Involving Sales Discounts


Purchases Discounts

…are discounts taken by merchants for early payment for merchandise

purchased on credit

• Usually do not apply to freight, postage, taxes, or other charges appearing on the invoice

• The Purchases Discounts account

– Is a contra-purchases account

– Carries a normal credit balance

– Is deducted from purchases on the income statement


Nov. 12: Made a credit purchase of merchandise, terms 2/10, n/30, $1,500

Dec. 12: Paid on account for November 12 sale, less amount for returned merchandise

Dec. 12 Accounts Payable 1,300 Cash 1,300 Paid invoice of Nov. 12, less

the return, on due date; no discount taken

The full sale amount of $1,500, less $200 for returned merchandise, was paid because payment was made after the 10-day purchases discount period

Nov. 14: Returned merchandise purchased November 12 on credit, $200

Transactions Involving No Purchases Discounts


Nov. 12: Made a credit purchase of merchandise, terms 2/10, n/30, $1,500

Nov. 22: Paid on account for November 12 sale, less amount for returned merchandise

Nov. 22 Accounts Payable 1,300 Purchases Discounts 26 Cash 1,274 Paid invoice of Nov. 12, less

the return; discount taken

A purchases discount of $26 [($1,500 - $200) x .02] was recorded, because payment was made within the 10-day purchases discount period

Nov. 14: Returned merchandise purchased November 12 on credit, $200

Transactions Involving Purchases Discounts


Discussion

Q. What is the normal balance of the Sales Discounts account? Is it an asset, a liability, an expense, or a contra-revenue account?

A. The normal balance of the Sales Discounts account is a debit balance

Sales Discounts is a contra-revenue account. It is deducted from gross sales on the income statement


Time for Review…

1. Identify the management issues related to merchandising businesses

2. Compare the income statements for service and merchandising concerns, and define the components of the merchandising income statement

3. Define and distinguish the terms of sale for merchandising transactions

4. Prepare an income statement and record merchandising transactions under the perpetual inventory system


And Finally …

5. Prepare an income statement and record merchandising transactions under the periodic inventory system

6. Prepare a work sheet and closing entries for a merchandising concern using the perpetual inventory system

7. Prepare a work sheet and closing entries for a merchandising concern using the periodic inventory system

8. Apply sales and purchases discounts to merchandising transactions

Merchandising Operations Multimedia Slides by: Gail A. Mestas, MAcc, New Mexico State University Chapter 5.

Documents

days cash

merchandising income

creditcollection of

cash gapthis

perpetual inventory

periodic inventory system

time period

period of time