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Lesson 6 Accounting for Merchandising Activities

Lesson 6 Accounting for Merchandising Activities. Task Team of FUNDAMENTAL ACCOUNTING School of Business, Sun Yat-sen University. Outline. Merchandising activities Operating cycle of merchandising companies Merchandising cost accounts Inventory systems Merchandise purchases

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Lesson 6 Accounting for Merchandising Activities

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  1. Lesson 6 Accounting for Merchandising Activities Task Team of FUNDAMENTAL ACCOUNTING School of Business, Sun Yat-sen University

  2. Outline Merchandising activities Operating cycle of merchandising companies Merchandising cost accounts Inventory systems Merchandise purchases Sales transactions Adjusting and closing entries

  3. Introduction • Scandals in stock market occur now and then. Among them, financial frauds or income manipulation are common. Income manipulation typically starts from making up sales revenues as well as purchases, for example, GuangXia (Yinchuan). • In this lesson you are required to think about, • Why these income statement numbers are so important? • How they are recorded in accounting system?

  4. Merchandising Activities Merchandising Companies Manufacturer Wholesaler Retailer Customer

  5. － Revenues Expenses ＝ Netincome Reporting Financial Performance • Service organizations sell time to earn revenue. • Examples: accounting firms, law firms, and plumbing services

  6. ＝ － ＝ － NetSales Cost ofGoods Sold GrossProfit Expenses NetIncome Reporting Financial Performance • Merchandising companies sell merchandise to earn revenue. • Examples: sporting goods, clothing, and auto parts stores

  7. Credit Sale Cash Sale Cashcollection Purchases Purchases Cashsales Accountreceivable Merchandiseinventory Merchandiseinventory Credit sales Operating Cycle of Merchandise Companies • Begins with the purchase of merchandise and ends with the collection of cash from the sale of merchandise.

  8. + Beginning inventoryYear 1 Net cost ofpurchases Merchandiseavailable for sale = + Cost of GoodsSold Income Statement Ending InventoryYear 1 Becomes beginning inventory of Year 2 BalanceSheet Merchandising Cost Accounts

  9. Inventory Systems Perpetual MethodGives a continual record of the amount of inventory on hand. When an item is sold it is recorded in the Cost of Goods Sold account. Periodic MethodRequires updating the inventory account only at the end of the period. Acquisition of merchandise inventory is recorded in a temporary Purchases account.

  10. Inventory Systems • Perpetual provides a continuous record of: • The amount of inventory on hand. • Cost of goods sold to date. • Periodic requires a physical count of goods to determine: • The amount of inventory on hand. • Cost of goods sold.

  11. Comparison of Perpetual and Periodic Systems

  12. Comparison of Periodic and Perpetual Systems

  13. Comparison of Periodic and Perpetual Systems

  14. Merchandise Purchases • The operating cycle of merchandise companies involves the purchase and subsequent sale of merchandise inventory. • Purchase of inventory can either on account or by cash. Oct. 1 Inventory 5,000 Accounts Payable/cash5,000 Purchased inventory.

  15. Trade Discounts Trade discounts are used by manufacturers and wholesalers to change selling prices without republishing their catalogs. Example MarCo, Inc. offers a 20% trade discount on orders of 100 units or more of their popular product Racer. Each Racer has a list price of $5.00.

  16. Terms Time Due Credit Period = 30 days Discount Period = 10 days Oct.11 Oct.31 Oct.1 (Full amount minus 2% discount) due between Oct.1 and Oct.11 Full amount due anytime between Oct.12 and Oct.31 Purchase Purchase Discounts Purchase discount is a deduction from the invoice price granted to induce early payment of the amount due. Example – 2/10, n30

  17. Number of Days Discount Is Available Otherwise, Net (or All) Is Due Discount Percent CreditPeriod Purchase Discounts 2/10,n/30

  18. Case 1-Discount taken Oct.11 Accounts Payable4,000 Inventory 80 Cash 3,920 2% x (5,000 - 1,000) = 80 Case 2-Discount not taken Oct.31 Accounts Payable4,000 Cash 4,000 Purchase Discounts Assume the purchase of $4,000 inventory on October 1 was on the terms 2/10,n30.

  19. Percent paid to keep money Days in a year Number of additional days before payment Managing Discounts Failing to take a 2/10, n/30 discount is really expensive! 365 days ÷ 20 days × 2% = 36.5% annual rate

  20. Purchase Returns and Allowances • Purchase Return . . . • Merchandise returned by the purchaser to the supplier. • Purchase Allowance . . . • A reduction in the cost of defective merchandise received by a purchaser from a supplier. Purchase Returns and Allowances Accounts PayableXXX Inventory XXX Defective merchandise returned to supplier.

  21. Purchase Returns and Allowances On Nov. 1, Helo Inc. purchased $10,000 of Merchandise Inventory on account, credit terms are 2/10, n/30.

  22. Purchase Returns and Allowances On Nov 5, Helo Inc. returned $250 of defective merchandise to the supplier.

  23. Purchase Returns and Allowances On Nov 9, Helo Inc. paid the amount owed for the purchase of Nov 1.

  24. Transportation Costs Transportation Charges • Inventory XXX • Accounts Payable XXX • Transportation charges on goods purchased FOB shipping point.

  25. Recording Purchases Information 2011

  26. Sales Transactions • For a business engaged in a merchandising activity, revenue takes the form of sales. • The entry to record the sale of merchandise on credit under a perpetual inventory system requires two entries • On March 10, TomCom sold $20,000 of merchandise on account. The merchandise was carried in inventory at a cost of $16,000.

  27. On May 8, Joye Co. sold merchandise costing $3,000 for $5,000 on account. Credit terms were 2/10, n/30. Sales Discounts • A sales discount is a cash discount taken by customers against an amount owed to the seller.

  28. Sales Discounts • On May 17, Joye Co. received a check for $4,900 in full payment of the May 8 sale.

  29. Sales Returns and Allowances • On May 12, Joye Co. sold merchandise costing $4,000 for $6,000 on account The credit terms were 2/10, n/30.

  30. On May 14, merchandise with a sales price of $600 and a cost of $400 was returned to Joye Co. The return is related to the May 12 sale. Sales Returns and Allowances

  31. On May 20, Joye received the amount owed to it from the sale of May 12. Sales Returns and Allowances

  32. Sales discounts and returns and allowances are Contra Revenue accounts. Recording Sales Information

  33. Adjustments-Perpetual Inventory Perpetual inventory systems keep a running total of inventory levels by recording sales and purchase transactions. Periodic adjustments must be made to account for shrinkage (loss due to theft or deterioration of inventory).

  34. Adjustments-Perpetual Inventory • Oct.31 Cost of Goods Sold 3,800 • Inventory 3,800 • To record inventory shrinkage revealed by physical count. Inventory per accounting records: $198,000 Inventory per physical count: $194,200 Difference (shrinkage) $3,800 Adjustment required:

  35. Closing Entries – Perpetual System • The closing process is similar for merchandising and service companies. Merchandising companies have additional temporary accounts that must be closed. These include: • Sales • Sales Returns & Allowances • Sales Discounts • Cost of Goods Sold

  36. Discussion Case • CIMC • CIMC is the number one stock in China, mainly due to its “excellent” operating performance. However, in early 2005, the operating performance of CIMC was challenged. Analysts argued that, the surprisingly high operating performance is questionable. Specifically, abnormal growth was found in the following items, • Sales revenue • Gross profits • Accounts receivable • Inventory However, no growth was found in cash collected from customers.

  37. Discussion Case • Required: • How to calculate the growth rates in sales, gross profits, inventory, accounts receivables, and cash? • Are there are relationships between the above items? • How to verify the growth in above items?

  38. Summary The operating cycle of merchandise companies begins with the purchase of merchandise and end with the collection of cash from the sale of merchandise. Perpetual method and period method are two inventory systems. Today perpetual method is more and more adopted. Accounting for merchandise purchases records purchases, trade discount, cash discounts, purchase returns and allowance, transportation costs. Accounting for sales transactions records sales, sales discount, sales returns and allowance, etc. Under perpetual inventory system, adjustments must be made for shrinkage at the end of period. Closing entries transfers balances in sales, sales returns and allowance, sales discounts and cost of goods sold into income summary account.

  39. The End of Lesson 6

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