Chapter 11Chapter 11

Accounting for a Merchandising BusinessAccounting for a Merchandising Business

Merchandise InventoryMerchandise Inventory

An account that stores the value of goods An account that stores the value of goods not yet resoldnot yet resold

Periodic System: count merchandise not Periodic System: count merchandise not sold at the end of the period to determine sold at the end of the period to determine cost of goods soldcost of goods sold

Perpetual System: record inventory and Perpetual System: record inventory and cost of goods sold when sales madecost of goods sold when sales made

Inventory CycleInventory Cycle

Cost of beginning inventory + cost of Cost of beginning inventory + cost of merchandise purchased – cost of merchandise purchased – cost of merchandise sold = cost of ending merchandise sold = cost of ending inventoryinventory

i.e. 42500 + 143000 (=total goods avail. for i.e. 42500 + 143000 (=total goods avail. for sale) – 149100 = $36400sale) – 149100 = $36400

If periodic system used have to take a If periodic system used have to take a physical inventory at statement timephysical inventory at statement time

Physical InventoryPhysical Inventory

This ending inventory figure is important:This ending inventory figure is important:It is the current asset on the balance It is the current asset on the balance

sheet (as it will normally be sold within sheet (as it will normally be sold within one year)one year)

Needed to calculate the cost of goods Needed to calculate the cost of goods sold figure for the income statementsold figure for the income statement

It is used as beginning inventory figure It is used as beginning inventory figure for the next accounting periodfor the next accounting period

COGS on the Income StatementCOGS on the Income Statement

Inventory that is not sold goes on the Inventory that is not sold goes on the balance sheet (balance sheet (Merchandise InventoryMerchandise Inventory))

Cost of the inventory that WAS sold goes Cost of the inventory that WAS sold goes on the income statement (on the income statement (Cost of Goods Cost of Goods SoldSold))

COGSCOGS

Cost of beginning inventory + cost of Cost of beginning inventory + cost of merchandise purchased – cost of ending merchandise purchased – cost of ending inventory = cost of goods soldinventory = cost of goods sold

i.e.42500+143000-36400 = 149100 COGSi.e.42500+143000-36400 = 149100 COGS

Gross ProfitGross ProfitThe difference between the The difference between the

selling price and the cost price selling price and the cost price of the goods soldof the goods sold

Revenue – Cost of Goods Revenue – Cost of Goods Sold = Gross ProfitSold = Gross Profit

Gross Profit – Expenses = Net Gross Profit – Expenses = Net IncomeIncome

RECAPRECAP

Final inventory figure recorded on balance Final inventory figure recorded on balance sheets as Current Assetsheets as Current Asset

Cost of Goods Sold recorded on income Cost of Goods Sold recorded on income statementstatement

Neither inventory figure or COGS known Neither inventory figure or COGS known during accounting periodduring accounting period

New accountsNew accounts

Merchandise InventoryMerchandise Inventory

Inventory counted at fiscal year-endInventory counted at fiscal year-end It becomes the beginning inventory figure It becomes the beginning inventory figure

for the next fiscal periodfor the next fiscal periodThe periodic inventory adjustment is the The periodic inventory adjustment is the

only accounting entry made to this accountonly accounting entry made to this account

Purchases AccountPurchases Account

Short form for “purchases of merchandise Short form for “purchases of merchandise for resale”for resale”

Found in expense sectionFound in expense sectionNot the same as purchasing office Not the same as purchasing office

supplies for use in company, would be supplies for use in company, would be recorded in Office Supplies, however a recorded in Office Supplies, however a stationary store purchases paper to sell to stationary store purchases paper to sell to customers would be recorded in customers would be recorded in Purchases accountPurchases account

Journal EntryJournal Entry

June 27 PurchasesJune 27 Purchases 100 100

HST Recoverable 13HST Recoverable 13

BankBank 113113

-to record purchase of merchandise-to record purchase of merchandise

Sales AccountSales Account

Revenue account for a merchandising Revenue account for a merchandising businessbusiness

Journal EntryJournal Entry

Bank (or Accounts Rec)Bank (or Accounts Rec) 169.50169.50

HST PayableHST Payable 19.5019.50

SalesSales 150150

-sale of merchandise-sale of merchandise

Freight-in AccountFreight-in Account

Considered part of COGSConsidered part of COGS Used to accumulate any transportation charges Used to accumulate any transportation charges

on incoming goodson incoming goods Kept separate from transportation charges on Kept separate from transportation charges on

outgoing goods (recorded in Delivery Expense)outgoing goods (recorded in Delivery Expense) Usually placed right after Purchases account in Usually placed right after Purchases account in

ledgerledger Duty – special charges imposed by the Duty – special charges imposed by the

government on certain goods imported from a government on certain goods imported from a foreign countryforeign country

Journal EntryJournal Entry

June 27 Freight-InJune 27 Freight-In 200 200

HST Recoverable 26HST Recoverable 26

BankBank 226226

-to record freight charges on purchases-to record freight charges on purchases

Adjustment to FormulaAdjustment to Formula

Beg. Inv + (Purchases + Freight-in) – Ending Beg. Inv + (Purchases + Freight-in) – Ending Inventory = Cost of Goods SoldInventory = Cost of Goods Sold

Figure 11.5 in text

Closing EntriesClosing Entries Closing entry process automatically updates Closing entry process automatically updates

the inventory account at the end of the fiscal the inventory account at the end of the fiscal periodperiod

Close Merch. Inv (credit) with Sales to Close Merch. Inv (credit) with Sales to Income SummaryIncome Summary

Close Merch Inv. (debit) with Expenses to Close Merch Inv. (debit) with Expenses to Income SummaryIncome Summary

Close Capital and Drawings as beforeClose Capital and Drawings as before See fig 11.8 and 11.9 in textSee fig 11.8 and 11.9 in text

Merchandise Returns & AllowancesMerchandise Returns & Allowances

Credit invoices used to adjust, correct or Credit invoices used to adjust, correct or cancel a charge to a customer’s account cancel a charge to a customer’s account for: for: Defective goodsDefective goodsGoods less than satisfactory but kept by Goods less than satisfactory but kept by

customer (given an allowance or reduction) customer (given an allowance or reduction) off the invoice priceoff the invoice price

Error made on sales invoiceError made on sales invoice

Journal EntryJournal Entry

For books of the vendor: Remember for For books of the vendor: Remember for sales DR AR and CR Sales and HST sales DR AR and CR Sales and HST payablepayable

Credit invoice has opposite effectCredit invoice has opposite effectDR Sales and HST Payable and CR ARDR Sales and HST Payable and CR AR

Journal EntryJournal Entry

For books of purchaser:For books of purchaser:DR AP and CR purchases and HST DR AP and CR purchases and HST

recoverablerecoverable

Cash RefundsCash Refunds

When a cash sale was made, no credit When a cash sale was made, no credit invoice is issuedinvoice is issued

Cash handed back or a cheque is issuedCash handed back or a cheque is issuedDR SalesDR SalesDR HST PayableDR HST Payable

CR BankCR Bank

Returns and AllowancesReturns and Allowances

Some businesses (i.e. large department stores) Some businesses (i.e. large department stores) have a separate account for returns called Sales have a separate account for returns called Sales Returns and Allowances so they can see what Returns and Allowances so they can see what proportion of merchandise has been returnedproportion of merchandise has been returned

DR Sales Returns and Allowances account DR Sales Returns and Allowances account instead of Sales Accountinstead of Sales Account

See Fig. 11.13 in textSee Fig. 11.13 in text Same concept is used for purchases returns and Same concept is used for purchases returns and

allowancesallowances

COGS Formula RevisedCOGS Formula Revised

Cost of beg. Inv + Net Cost of goods Cost of beg. Inv + Net Cost of goods purchased – cost of ending inv. =purchased – cost of ending inv. =

Cost of goods soldCost of goods sold

Sales DiscountsSales Discounts

A reduction of the amount of a bill if A reduction of the amount of a bill if payment is made on or before discount payment is made on or before discount date stated on the billdate stated on the bill

Purpose is to encourage customer to pay Purpose is to encourage customer to pay promptlypromptly

Terms of SaleTerms of Sale

Refers to the arrangements made with Refers to the arrangements made with customers as to when the goods or services are customers as to when the goods or services are to be paidto be paid

COD: customer pays when goods deliveredCOD: customer pays when goods delivered Net 30/Net 60: full amount due in 30/60 daysNet 30/Net 60: full amount due in 30/60 days EOM: full amount due at end of the monthEOM: full amount due at end of the month 2/10, n/30: receive 2% discount if paid within 10 2/10, n/30: receive 2% discount if paid within 10

days after invoice received otherwise full in 30 days after invoice received otherwise full in 30 daysdays

Journal EntryJournal Entry

Books of buyer Terms 2/10, n/30Books of buyer Terms 2/10, n/30 PurchasesPurchases 411.90411.90HST Recoverable HST Recoverable 53.55 53.55 Accounts PayableAccounts Payable 465.45465.45-purchase of goods-purchase of goodsAccounts PayableAccounts Payable 465.45465.45 Discounts EarnedDiscounts Earned 9.319.31

BankBank 456.14456.14-payment of purch inv. With discount-payment of purch inv. With discount

Journal EntryJournal Entry

In books of sellerIn books of sellerAccounts Receivable 465.45Accounts Receivable 465.45

SalesSales 411.90411.90HST PayableHST Payable 53.55 53.55

-sale of goods on account-sale of goods on account BankBank 456.14456.14 Discounts AllowedDiscounts Allowed 9.319.31 Accounts ReceivableAccounts Receivable 465.45465.45-payment of account with discount earned-payment of account with discount earned

Called Net Purchases

=

=

Income Statement

Perpetual InventoryPerpetual Inventory

Detailed record of items in stock is kept up to Detailed record of items in stock is kept up to date on an ongoing basisdate on an ongoing basis

As items sold info, is transferred directly to As items sold info, is transferred directly to store’s central computer which is programmed to store’s central computer which is programmed to make the appropriate deductions from the make the appropriate deductions from the inventory and make accounting entriesinventory and make accounting entries

Sales returns are generally handled by separate Sales returns are generally handled by separate departmentdepartment

System cannot automatically know when goods System cannot automatically know when goods are lost, stolen or broken; therefore have to do are lost, stolen or broken; therefore have to do manual check of inventorymanual check of inventory

Journal Entry Perpetual SystemJournal Entry Perpetual System

1. Bank1. Bank 169.50169.50 SalesSales 150150 HST PayableHST Payable 19.5019.50

2. Cost of Goods Sold2. Cost of Goods Sold100100 Merchandise InventoryMerchandise Inventory 100100

For comparison of two systems see p. 463-For comparison of two systems see p. 463-464 in text464 in text

Cost AccountingCost AccountingA specialized area of accounting that A specialized area of accounting that

concentrates on determining, controlling concentrates on determining, controlling and reporting the costs of doing businessand reporting the costs of doing business i.e. in a manufacturing business i.e. in a manufacturing business

To calculate cost of goods manufactured To calculate cost of goods manufactured (account similar to purchases in (account similar to purchases in merchandise business) look at raw merchandise business) look at raw materials, direct labour and factory materials, direct labour and factory overheadoverhead

Raw materials – essential components that Raw materials – essential components that become part of the finished productbecome part of the finished product

Direct labour – wages for employees who Direct labour – wages for employees who have specific role in the making the have specific role in the making the finished goodsfinished goods

Factory overhead – a range of expenses Factory overhead – a range of expenses that support the manufacturing processthat support the manufacturing process

Manufacturing Business Balance SheetManufacturing Business Balance Sheet

On the balance sheet instead of reporting On the balance sheet instead of reporting on inventory you will report on the “goods” on inventory you will report on the “goods” which include Finished Goods Inventory which include Finished Goods Inventory (similar to Merchandise Inventory), Raw (similar to Merchandise Inventory), Raw Materials Inventory and Goods in Process Materials Inventory and Goods in Process InventoryInventory

Schedule of Cost of Goods SoldSchedule of Cost of Goods Sold

Inventory, October 1 22,154.00$ Add: Purchases 48,966.00$ Less: Purchase Discounts 2,300.00$ Purchases Returns & Allowances 4,502.00 6,802.00 42,164.00 Add: Transportation on Purchases 1,209.00 Cost of Goods Available for Sale 65,527.00$ Less Inventory October 31 19,877.00 Cost of Goods Sold 45,650.00

Goods CompanySchedule of Cost of Goods Soldmonth ended October 31, 2005

InvoicesInvoices

Sales Invoice: dr A/R cr SalesSales Invoice: dr A/R cr SalesCredit Invoice: dr Sales Returns cr A/RCredit Invoice: dr Sales Returns cr A/RPurchase Invoice: dr Purchases or Purchase Invoice: dr Purchases or

Inventory cr A/PInventory cr A/P

Journal EntriesJournal Entries

Credit SaleCredit Sale

dr A/R 300cr Sales 300

1/10, net 30, invoice #45

dr Sales Returns and Allowance 100cr A/R 100

• Return

Journal Entries (periodic)Journal Entries (periodic)

Payment within discount periodPayment within discount period

dr Cash 297 dr Sales Discounts 3

cr A/R 300

• Payment beyond discount

dr Cash 300cr A/R 300

Journal Entries (periodic)Journal Entries (periodic)

Purchase goods for resale (periodic)Purchase goods for resale (periodic)

dr Purchases 400cr Cash or A/P 400

2/15, n/30, invoice #P398

• Payment within discount period*

dr A/P 400cr Purchase Discounts 8cr Cash 392

Cheque #26 for invoice #P398

* Otherwise A/P and Cash

Journal EntriesJournal Entries

Transportation (for goods for resale)Transportation (for goods for resale) dr Transportation-In 50

cr A/P or Cash 50

• Delivery Charge (for goods sold to customers)

dr Delivery Expense 25cr A/P or Cash 25

Journal Entries (perpetual)Journal Entries (perpetual)

Sale:Sale: dr A/R or Cash 400

cr Sales 400

and

dr Cost of Goods Sold 300cr Inventory 300

• Purchase good for resale:

dr Inventory 300cr A/P or Cash 300

WorksheetWorksheetSix months ending

DEBIT CREDIT DEBIT CREDIT DEBIT CREDIT DEBIT CREDIT

8,952.00 8,952.00 -

7,500.00 7,500.00 -

Allowance for Bad Debts - 215.00 775.00 990.00

Inventory 22,154.00 22,154.00 19,877.00 19,877.00

2,900.00 1,400.00 1,500.00 -

4,800.00 200.00 4,600.00 -

18,650.00 18,650.00 -

Accum. Depreciation 1,800.00 800.00 2,600.00

18,700.00 18,700.00 -

Accum. Depreciation 5,500.00 1,200.00 6,700.00

1,000.00 1,000.00

22,150.00 22,150.00

GST Payable 3,214.00 3,214.00

GST Recoverable 2,155.00 2,155.00

PST Payable 3,996.00 3,996.00

41,997.00 41,997.00

22,559.00 22,559.00 -

119,877.00 119,877.00

Sales Returns and Allow. 2,687.00 2,687.00

Service Revenue 15,899.00 15,899.00

Purchases 48,966.00 48,966.00

Purchases R & A 4,502.00 4,502.00

Freight-in 1,209.00 1,209.00

310.00 310.00

6,500.00 6,500.00

1,350.00 1,350.00

680.00 680.00

18,000.00 18,000.00

2,415.00 2,415.00

29,663.00 29,663.00

220,150.00 220,150.00

Bad Debts Expense 775.00 775.00

Insurance Expense 200.00 200.00

Supplies Expense 1,400.00 1,400.00

800.00 800.00

1,200.00 1,200.00

4,375.00 4,375.00 138,309.00 160,155.00 104,493.00 82,647.00

21,846.00 - - 21,846.00

160,155.00 160,155.00 104,493.00 104,493.00

December 31, 2002

Supplies

Prepaid Insurance

Merch CompanyWorksheet

ADJUSTMENTS INCOME STATEMENT BALANCE SHEET

Accounts Receivable

Cash

ACCOUNTSTRIAL BALANCE

Furniture and Equipment

Automobile

Accounts Payable

Bank Loan

A. Merch, Capital

A. Merch, Drawings

Telephone Expense

Interest Expense

Rent Expense

Wages Expense

Sales

Bank Charges

Car Expense

Miscellaneous Expense

Dep,n Expense, F&E

Dep'n Expense, Auto

Net Income

Original NEW

Close all

Close all

Journal Entries (perpetual)Journal Entries (perpetual)

Inventory shortage (count at end of period)Inventory shortage (count at end of period)

dr Inventory Shortage 20cr Inventory 20

Charge shortage to expense

Sales TaxesSales Taxes

HST: Harmonized Sales Tax 13%HST: Harmonized Sales Tax 13%Typical Sale:Typical Sale:

dr Cash or A/R 113cr Sales 100cr HST Payable 13

Sales TaxesSales TaxesHST on Purchases:HST on Purchases:

dr Purchases (or Inventory, etc.) 200 dr HST Recoverable 16

cr Cash or A/P 216

• “Remit” HST if owing:

dr HST Payable 500cr HST Recoverable 450cr Cash 50

• Refund of HST is owed:

dr HST Payable 450 dr Cash 50

cr HST Recoverable 500

Credit CardsCredit Cards Increases salesIncreases sales Typical Sale:Typical Sale:

dr Cash 660dr Visa Discount Expense 18

cr Sales 600cr HST Payable 78$600 x 3% visa charge

Complete Income StatementComplete Income StatementSix months ending December 31, 2002

RevenueSales 119,877.00$ Less Sales Returns & Allowances 2,687.00 117,190.00$ Service Revenue 15,899.00 Total Revenue 133,089.00$ Cost of Goods SoldInventory, beginning 22,154.00$ Add: Purchases 48,966.00$ Less: Purchases Returns & Allowances 4,502.00 44,464.00 Add: Freight-in 1,209.00 Cost of Goods Available for Sale 67,827.00$ Less Ending Inventory 19,877.00 Cost of Goods Sold 47,950.00 Gross Margin 85,139.00$ ExpensesBank Charges 310.00$ Car Expense 6,500.00 Interest Expense 1,350.00 Miscellaneous Expense 680.00 Rent Expense 18,000.00 Telephone Expense 2,415.00 Wages Expense 29,663.00 Bad Debts Expense 775.00 Insurance Expense 200.00

Supplies Expense 1,400.00

Dep,n Expense, F&E 800.00

Dep'n Expense, Auto 1,200.00 63,293.00

Net Income 21,846.00$

Merch CompanyIncome Statement