CHAPTER 5

ACCOUNTING FOR MERCHANDISING OPERATIONS

Merchandising businesses:

• Purchase goods for resale to customers. Purchased goods are called inventory and represent an asset to the company



• Profit is reduced by costs incurred in purchasing goods for resale.

• Net sales = total sold to and not returned by customers (gross sales - sales returns and allowances)



• Cost of goods sold = cost (to the company) of goods sold to customers

• (Purchases - purch. discounts - purch. returns + freight in = net purchases)
• (Beg. inv + net purchases = cost of goods available for sale)
• (COGAFS - ending inventory = COGS)



• Gross margin = gross profit before taking operating expenses into account (Revenues - COGS)



• Operating expenses = expenses other than COGS

• Periodic inventory systems - relies on counts of inventory quantities at the end of the accounting period.

• Purchases of inventory are recorded in the Purchases account (normal dr. balance), not in the Inventory account.



• Sales of inventory are not reflected in the Inventory account.

• COGS is calculated at the end of the period when inventory is counted (COGS = Beg inv. + net purchases - end inv)



• Perpetual inventory systems - inventory records are immediately updated as new inventory is purchased or inventory is sold. (Scanners at retail stores)

• Purchases of inventory are recorded in the Inventory account (there is no Purchases account with this system).



• Sales of inventory are immediately reflected in the Inventory and COGS accounts.

• Determine when the title passes and who pays transportation costs.



• FOB shipping point - the buyer takes title to the merchandise and pays transportation costs as soon as the shipping co. takes possession of the merchandise.



• FOB destination - the seller keeps title to the merchandise and pays transportation costs until the merchandise is delivered to the buyer.

• The journal entry to record sales is the same whether the company uses a periodic or perpetual inventory system (dr. cash or A/R, cr. Sales). BUT, if the company uses a perpetual system, you must also record a second entry (dr. COGS, cr. Inv).



• Sales discounts = customers incentive to pay soon for items bought on credit.

• Format - "2/10, n/30" means the customer receives a 2% discount if (s)he pays within 10 days, otherwise the entire balance is due in 30 days.



• Sales discounts are never recorded until the customer actually pays in time to receive one.



• Recorded in a Sales Discounts account. This is a contra-revenue account (normal dr. balance) used to calculate net sales.

• The entry is (dr. Sales Discounts, cr. A/R). AND, for a perpetual system (dr. COGS, cr. Inv)



• Sales returns - customers may return merchandise previously purchased

• Recorded in a Sales Returns and Allowances account. This is a contra-revenue account (normal dr. balance) used to calculate net sales.



• The entry is (dr. Sales Returns and Allowances, cr. A/R or cash). AND for a perpetual system (dr. Inv, cr. COGS)



• Freight out - company may choose to pay costs of transportation for customer. If so, this is called freight out and is an operating expense.

• The journal entries to record purchases depends on whether a periodic or perpetual inventory system is used. All costs of inventory, including freight in should be included.

• Periodic entry - dr. purchases, cr. A/P or cash



• Perpetual entry - dr. inventory, cr. A/P or cash



• Purchase discounts - recorded only when company pays in time to receive one.

• Periodic entry - dr. A/P, cr. Purchase discounts (Purchase discounts is a contra-purchases account with a normal credit balance)



• Perpetual entry - dr. A/P, cr. Inventory



• Purchase returns and allowances - recorded when the company returns purchased merchandise to its vendors.

• Periodic entry - dr. A/P, cr. Purchase returns and allowances (Purchase returns and allowances is a contra-purchases account with a normal cr. balance)



• Perpetual entry - dr. A/P, cr. Inventory

• There are still 4 required closing entries for a merchandising business.



• In closing revenues and other credit accounts to income summary,

• Periodic system - the other credit accounts will include purchase returns and purchase discounts.



• Periodic system - also establish (debit) merchandise inventory for the end-of-year balance obtained from the physical count.



• In closing expenses and other debit accounts to income summary,

• Periodic system - the other debit accounts will include freight in and purchases



• Periodic system - also get rid of (credit) the merchandise inventory account for the beginning balance that is still in there.



• Perpetual system - the other debit accounts will include COGS.



• Both periodic and perpetual - the other debit accounts will include sales discounts and sales returns.

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