Merchandising Operations and the Accounting Cycle

Merchandising Operationsand the Accounting Cycle Chapter 5

Income Statements Merchandising Co. Income Statement Year ended June 30, 20xx Sales revenue $xxx Cost of goodssold x Gross profitxx Operating expenses: Salary expense x Depreciation expense x Net income $ xx Service Co. Income Statement Year ended June 30, 20xx Service revenue $xxx Expenses: Salary expense x Depreciation expense x Income tax expense x Net income $ xx

Account for the purchase of inventory. Objective 1

Purchase of Inventory Suppliers send merchandise and a bill Merchant prepares purchase order Compares

Purchase of Inventory Example • On May 1, the Sporting Store acquired on account $2,000 of various items for resale. • The supplier sent the merchandise along with a bill stating the quantity, price, and terms of sale. • What is the journal entry?

May 1 Inventory $2,000 Accounts Payable $2,000 Purchased inventory on account Inventory Accounts Payable 2,000 2,000 Purchase of Inventory Example

Recording Purchase Returnsand Allowances Example • Assume that on May 4 a $100 item was returned prior to payment of the invoice. • What is the journal entry? May 4 Accounts Payable 100 Inventory 100 Merchandise was returned

Recording Purchase Returnsand Allowances Example • Assume that one of the items of merchandise is slightly damaged, and the store was given a $10 allowance. • What is the journal entry? May 4 Accounts Payable 10 Inventory 10 Received a purchase allowance

Recording Purchase Returnsand Allowances Example Accounts Payable Inventory 2,000 100 10 100 2,000 10 Bal. 1,890 Bal. 1,890

Purchase Discounts • Credit terms are stated in expressions such as: • 2/10, N/30, meaning that a discount of 2% is allowed if the invoice is paid within 10 days; otherwise the full (net) amount is due within 30 days.

Purchase Discounts Example • Assume the Sporting Store purchased merchandise for $1,000 with terms of 2/10, N/30. • The store paid within the discount period. • The 2% discount ($20) is deducted from the amount due ($1,000) and $980 is remitted.

Purchase Discounts Example • What is the journal entry? Accounts Payable 1,000 Cash 980 Inventory 20 To record payment of invoice within the discount period

Recording Transportation Costs • Transportation costs are the cost of moving inventory from seller to buyer. • FOB stands for Free on Board and governs the passing of title of the goods. • Selling/buying agreements usually specify FOB terms.

Recording Transportation Costs FOB Shipping Point FOB Destination

Freight Charges Example • Assume that on May 9 the Sporting Store paid $60 for freight. • What is the journal entry? May 9 Inventory 60 Cash 60 Paid a freight bill

Objective 2 Account for the sale of inventory

Sale of inventory • The amount a business earns from selling merchandise is called sales revenue • Inventory that has been sold to customers is called cost of goods sold

Sporting Store Example • Assume that on May 11 the store sold merchandise costing $1,800 for $2,600 in cash. • What are the journal entries?

Sporting Store Example May 11 Cash 2,600 Sales Revenue 2,600 To record sale of merchandise May 11 Cost of Goods Sold 1,800 Inventory 1,800 To record the cost of merchandise sold

Sporting Store Example • On May 15, the store sold to Maria Gym $5,000 worth of merchandise with a cost of $3,000. • Terms are 2/10, N/30. Invoice Maria Gym Terms 2/10, N/30 Total $5,000

Sales Discounts and Sales Returns and Allowances Example • On May 17, Maria Gym returned $1,500 worth of goods that cost $900. • In addition, a credit of $100 was allowed for merchandise that was damaged. • What are the journal entries?

Sales Discounts and Sales Returns and Allowances Example May 17 Sales Returns and Allowance 1,500 Accounts Receivable 1,500 Received returned merchandise May 17 Inventory 900 Cost of Goods Sold 900 Returned goods to inventory

Sales Discounts and Sales Returns and Allowances Example • There is no entry required for inventory since the goods were not returned. May 17 Sales Returns and Allowance 100 Accounts Receivable 100 Credit granted for damaged goods

Sales Discounts and Sales Returns and Allowances Example • On May 20, the store received a check from Maria Gym for the balance due. • What is the balance due? Accounts Receivable May 15 = $5,000 Less May 17 returns and allowances $1,600 Equals May 20 balance due of $3,400

Sales Discounts and Sales Returns and Allowances Example • Maria took advantage of the sales terms – 2/10, N/30. May 20 Cash 3,332 Sales Discounts 68 Accounts Receivable 3,400 Cash collected within the discount period

Objective 3 Use sales and gross profit to evaluate a company.

Sales Revenue Net sales = Sales Revenue less Sales Returns and Sales Discounts

Gross Profit or Gross Margin Target Corporation Income Statement (Adapted) Year Ended December 31, 2000 Millions Net sales revenue (same as Net sales) $33,212 Cost of goods sold (same as Cost of sales) 23,029 Gross profit (same as Gross margin) 10,183 Expenses: Selling, general, administrative 7,490 Depreciation expense 854 Interest expense 393 Other expenses, net 302 Total operating expenses 9,039 Net earnings (same as Net income) $ 1,144

Operating Cycle of a Merchandising Business Purchase and Cash Sale Purchase and Sale on Account Cash Cash Collections o f Cash Purchases Purchases Cash Sales Accounts Receivable Inventory Sales on Account Inventory

Inventory Systems Perpetual Periodic

Adjust and close the accounts of a merchandising business. Objective 4

Adjustments to Inventory Example Book Inventory Balance $255,000 Physical Count $252,500 $2,500 difference

Adjustments to Inventory Example • What is the journal entry? December 31 Cost of Goods Sold 2,500 Inventory 2,500 To adjust inventory to physical count

Closing Entries for a Merchandising Business Revenues Income Summary 2,760,000 7,348 2,767,348 1,884,348 C.G.S. 883,000 1,490,400 Sales Discount 22,824 Returns and A. Capital Account 32,605 Other Exp. 883,000 338,519

Prepare a merchandiser’s financial statements. Objective 5

Income Statement Formats • There are two basic formats for the income statement: • Multi-step • Single-step

Multi-Step Format Sporting Store Income Statement Year Ended December 31, 2002 Sales revenue $2,760,000 Sales discounts – 22,824 Returns and allowances – 32,605 Net sales revenue $2,704,571 Cost of goods sold –1,490,400 Gross margin $1,214,171

Multi-Step Format Gross margin $1,214,171 Operating expenses: Wage expense – 166,285 Rent expense – 137,000 Insurance expense – 16,302 Depreciation expense – 9,781 Supplies expense – 8,151 Operating income $ 876,652

Multi-Step Format Operating income $876,652 Other revenue and expenses: Interest revenue 7,348 Interest expense – 1,000 Net income $883,000

Single-Step Format Sporting Store Income Statement Year Ended December 31, 2005 Revenues: Net sales (net of sales discounts) $2,704,571 Interest revenue 7,348 Total revenues $2,711,919

Single-Step Format Expenses: Cost of goods sold $1,490,400 Wage expense 166,285 Rent expense 137,000 Interest expense 1,000 Insurance expense 16,302 Depreciation expense 9,781 Supplies expense 8,151 Total expenses $1,828,919 Net income $ 883,000

Use the gross margin percentage and the inventory turnover ratio to evaluate a business. Objective 6

Using the Financial Statements for Decision Making Gross profit percentage = Gross profit ÷ Net sales revenue Inventory turnover = Cost of goods sold ÷ Average inventory

Gross Profit on $1 for Three Merchandisers $1.00 — $0.75 — $0.50 — $0.25 — $0.00 Gross margin $0.45 Gross margin $0.21 Gross margin $0.42 Cost of goods sold $0.79 Cost of goods sold $0.58 Cost of goods sold $0.55 Austin Sound Target Corporation Wal-Mart Stores, Inc.

Rate of Inventory Turnover for Three Merchandisers Wal-Mart Stores, Inc. 7.0 times per year 1 2 3 4 5 6 7 Target Corporation 5.4 times per year 1 2 3 4 5 Austin Sound 2.3 times per year 1 2 Jan Mar Jun Sep Dec

End of Chapter 5

Merchandising Operations and the Accounting Cycle