© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin ACCOUNTING FOR MERCHANDISING ACTIVITIES Chapter 6

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Operating Cycle of a Merchandising Company 1. Purchase of merchandise 3. Collection of the receivables 2. Sale of merchandise on account Cash Inventory Accounts Receivable

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Comparing Merchandising Activities with Manufacturing Activities Merchandising Company Purchase inventory in ready-to-sell condition. Manufacturing Company Manufacture inventory and have a longer and more complex operating cycle

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Retailers and Wholesalers Retailers sell merchandise directly to the public. Wholesalers buy merchandise from several different manufacturers and then sell this merchandise to several retailers.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Income Statement of a Merchandising Company Cost of goods sold represents the expense of goods that are sold to customers. Gross profit is a useful means of measuring the profitability of sales transactions.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin What Accounting Information Does a Merchandising Company Need? Financial Reporting Requirements Daily Business Operating Requirements Special Reporting Requirements Examples Revenues Expenses Customer Ledgers Tax Reports

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin General Ledger Accounts Although general ledger accounts provide useful information, they do not provide much of the detailed information needed in the daily business operations. Who owes us money?

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Subsidiary Ledgers: A Source of Needed Details Controlling Account

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Two Approaches Used in Accounting for Merchandise Transactions Perpetual Inventory System Periodic Inventory System

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System The inventory account is continuously updated to reflect items on hand. Lets look at some entries!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System On September 5, Worley Co. purchased 100 laser lights for resale for $30 per unit from Electronic City on account.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System On September 10, Worley Co. sold 10 laser lights for $50 per unit on account to ABC Radios. 10 $30 = $300

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System Cost Retail On September 10, Worley Co. sold 10 laser lights for $50 per unit on account to ABC Radios.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System On September 15, Worley Co. paid Electronic City $3,000 for the September 5 purchase.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Perpetual Inventory System On September 22, Worley Co. received $500 from ABC Radios as payment in full for their purchase on September 10.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin The Inventory Subsidiary Ledger At the end of the period, management compares the physical inventory count with the inventory ledger to determine inventory shrinkage.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Taking a Physical Inventory In order to ensure the accuracy of their perpetual records, most businesses take a complete physical count of the merchandise on hand at least once a year.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Taking a Physical Inventory Reasonable amounts of inventory shrinkage are viewed as a normal cost of doing business. Examples include breakage, spoilage and theft. On December 31, Worley Co. counts its inventory. An inventory shortage of $2,000 is discovered.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Closing Entries in a Perpetual Inventory System Close Revenue accounts (including Sales) to Income Summary. Close Expense accounts (including Cost of Goods Sold) to Income Summary. Close Income Summary account to Retained Earnings. Close Dividends to Retained Earnings. The closing entries are the same!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Next is the periodic inventory system!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Periodic Inventory System No effort is made to keep up-to-date records of either inventory or cost of goods sold. Lets look at some entries!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Periodic Inventory System On September 5, Worley Co. purchased 100 laser lights for resale for $30 per unit from Electronic City on account. Notice that no entry is made to Inventory.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Periodic Inventory System On September 10, Worley Co. sold 10 laser lights for $50 per unit on account to ABC Radios. Retail

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Periodic Inventory System On September 15, Worley Co. paid Electronic City $3,000 for the September 5 purchase.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Periodic Inventory System On September 22, Worley Co. received $500 from ABC Radios as payment in full for their purchase on September 10.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Computing Cost of Goods Sold in a Periodic Inventory System The accounting records of Party Supply show the following: Inventory, Jan. 1, 2003 $ 14,000 Purchases (during 2003) 130,000 The accounting records of Party Supply show the following: Inventory, Jan. 1, 2003 $ 14,000 Purchases (during 2003) 130,000 At December 31, 2003, Party Supply counted the merchandise on hand at $12,000. Calculate Party Supplys cost of goods sold for 2003.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Computing Cost of Goods Sold in a Periodic Inventory System Cost of Goods Sold can be calculated as follows:

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Creating Cost of Goods Sold in a Periodic Inventory System Now, Party Supply must create the Cost of Goods Sold account.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Creating Cost of Goods Sold in a Periodic Inventory System Now, Party Supply must record the ending inventory amount.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Completing the Closing Process Close Revenue accounts (including Sales) to Income Summary. Close Expense accounts (including Cost of Goods Sold) to Income Summary. Close Income Summary account to Retained Earnings. Close Dividends to Retained Earnings. The closing entries are the same!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Comparison of Perpetual and Periodic Inventory Systems Periodic Inventory System Jos Dress Shop Perpetual Inventory System Large Department Stores

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Modifying an Accounting System Most businesses use special journals rather than a general journal to record routine transactions that occur frequently.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts 2/10, n/30 Read as: Two ten, net thirty When manufacturers and wholesalers sell their products on account, the credit terms are stated in the invoice.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts 2/10, n/30 Percentage of Discount # of Days Discount Is Available Otherwise, the Full Amount Is Due # of Days when Full Amount Is Due

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts Purchases are recorded at their net amounts. Purchase discounts lost are recorded when payment is made outside the discount period. Net Method

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts $4,000 98% = $3,920 On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts On July 15, Play Clothes pays the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts On July 15, Play Clothes pays the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts Now, assume that Play Clothes waited until July 20 to pay the amount due in full to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Credit Terms and Cash Discounts Nonoperating Expense Now, assume that Play Clothes waited until July 20 to pay the amount due in full to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price Purchases are recorded at their gross amounts. Purchase discounts taken are recorded when payment is made inside the discount period. Gross Method

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price On July 15, Play Clothes pays the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price Reduces Cost of Goods Sold $4,000 98% = $3,920 On July 15, Play Clothes pays the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price Now, assume that Play Clothes waited until July 20 to pay the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Recording Purchases at Gross Invoice Price Now, assume that Play Clothes waited until July 20 to pay the full amount due to Kids Clothes. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Returns of Unsatisfactory Merchandise On August 5, Play Clothes returned $500 of unsatisfactory merchandise purchased from Kids Clothes on credit terms of 2/10, n/30. The purchase was originally recorded at net cost. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Returns of Unsatisfactory Merchandise $500 98% = $490 On August 5, Play Clothes returned $500 of unsatisfactory merchandise purchased from Kids Clothes on credit terms of 2/10, n/30. The purchase was originally recorded at net cost. Prepare the journal entry for Play Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Transportation Costs on Purchases Transportation costs related to the acquisition of assets are part of the cost of the asset being acquired.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Now, lets talk about sales!

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Transactions Relating to Sales Credit terms and merchandise returns affect the amount of revenue earned by the seller.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Returns and Allowances On August 2, Kids Clothes sold $2,000 of merchandise to Play Clothes on credit terms 2/10, n/30. Kids Clothes originally paid $1,000 for the merchandise. Because Kids Clothes uses a perpetual inventory system, they must make two entries.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Returns and Allowances On August 2, Kids Clothes sold $2,000 of merchandise to Play Clothes on credit terms 2/10, n/30. Kids Clothes originally paid $1,000 for the merchandise. Because Kids Clothes uses a perpetual inventory system, they must make two entries.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Returns and Allowances On August 5, Play Clothes returned $500 of unsatisfactory merchandise to Kids Clothes from the August 2 sale. Kids Clothes cost for this merchandise was $250. Because Kids Clothes uses a perpetual inventory system, they must make two entries. Contra-revenue

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin On August 5, Play Clothes returned $500 of unsatisfactory merchandise to Kids Clothes from the August 2 sale. Kids Clothes cost for this merchandise was $250. Because Kids Clothes uses a perpetual inventory system, they must make two entries. Sales Returns and Allowances

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts On July 6, Kids Clothes sold $4,000 of merchandise to Play Clothes on credit with terms of 2/10, n/30. The merchandise originally cost Kids Clothes $2,000. Because Kids Clothes uses a perpetual inventory system, they must make two entries.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts On July 6, Kids Clothes sold $4,000 of merchandise to Play Clothes on credit with terms of 2/10, n/30. The merchandise originally cost Kids Clothes $2,000. Because Kids Clothes uses a perpetual inventory system, they must make two entries.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts On July 15, Kids Clothes receives the full amount due from Play Clothes. Prepare the journal entry for Kids Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts $4,000 98% = $3,920 Contra-revenue On July 15, Kids Clothes receives the full amount due from Play Clothes. Prepare the journal entry for Kids Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts Now, assume that it wasnt until July 20 that Kids Clothes received the full amount due from Play Clothes. Prepare the journal entry for Kids Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Sales Discounts Now, assume that it wasnt until July 20 that Kids Clothes received the full amount due from Play Clothes. Prepare the journal entry for Kids Clothes.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Delivery Expenses Delivery costs incurred by sellers are debited to Delivery Expense, an operating expense.

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Accounting for Sales Taxes Businesses collect sales tax at the point of sale. Then, they remit the tax to the appropriate governmental agency at times specified by law. $1,000 sale 7% tax = $70 sales tax

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin Evaluating the Performance of a Merchandising Company Net Sales Gross Profit Margins Trends overtime Comparable store sales Sales per square foot of selling space Trends overtime Comparable store sales Sales per square foot of selling space Gross Profit Net Sales Overall Gross Profit Margin Gross Profit Margins by Department and Products Gross Profit Net Sales Overall Gross Profit Margin Gross Profit Margins by Department and Products

© The McGraw-Hill Companies, Inc., 2002 McGraw-Hill/Irwin End of Chapter 6