Chapter 5

Accounting for Merchandising

Operations
ACCT 100

Objectives:
1.

2.

3.

To distinguish a service company from a

merchandising company.
To learn how to account for inventory
purchase and inventory sale under a
perpetual inventory system.
To learn how to account for inventory
purchase, inventory sale under a
periodic inventory system.
Accounting for Merchandising operations

Defining Inventory
1. Assets held for resale purpose in a normal
course of business.
2. Assets used to produce products for resale
purpose.
Examples of Inventory:
Merchandising Firms: merchandise or goods
Manufacturing Firms: raw materials
work-in-process
finished Goods
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit

Service Companies

Providing services (i.e., transportation

companies, banks, etc.)
Main Revenues: service revenues.
Income measurement:
Service Revenues
- Operating Expenses
Operating Income
Operating cycle: Cash Providing Service
Accounts receivables
Cash
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit

Merchandising Companies

Buy and sell goods (i.e., retail companies

such as Wal-Mart, Macys, etc.).
Main revenues: Sales revenues.
Income measurement:

Sales Revenues
- Cost of Goods Sold (cost of total merchandise sold during the period)
Gross Profit
- Operating Expenses
Operating Income

Operating cycle: Cash

Buy Inventory Sell
Inventory
Accounts Receivable
Cash
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit

Perpetual Inventory System- An

Example
On February 10, inventory Costing
$1,000 was purchased on credit, terms,
2/10 and n/30.
On March 2, Inventory costing $250
was sold for $500 on credit.

Accounting for Merchandising Operations

Accounting for Inventory Purchase A

Perpetual Inventory System
At Purchase:
Inventory
1,000
Accounts Payable

1,000

(to record goods purchased on account, terms

2/10, n/30)

At Sale:
Accounts Receivable 500
Sales Revenue
500

(to record credit sale, terms 2/10,n/30)

Cost of Goods Sold

Inventory

250

250

(to record cost of merchandise

sold)
Accounting for Merchandising Operations

T-Accounts of Inventory and CGS

Inventory
1,000 250
750
Accounts Rec.
500

CGS
250

Sales
500

Accounting for Merchandising Operations

Perpetual Inventory System

The inventory account is used for the

purchase and sale of inventory.
The balances of inventory is available at
all time.
A physical count of inventory is needed at
the end of a period.
Any discrepancy of inventory book
balance with physical count should be
adjusted to a loss or gain account.
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit

Perpetual Inventory System (contd.)

The cost of goods sold (CGS) account

is used to record the CGS of a sale.
Therefore, the CGS is known at all
time.
The CGS is determined by selecting a
cost flow assumption (will be discussed
in Chapter 6).

Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 10

Purchase, Purchase Returns and

Allowance and Purchase Discounts
On Feb. 10, $1,000 inventory was purchased on credit.
$200 inv. was returned on Feb. 15. The payment was
made on Feb, 17.

Feb. 10 Inventory
1,000
Accounts Payable

1,000

Feb. 15 Accounts Payable

Inventory

200

200

Feb. 17 Accounts Payable

Cash
Inventory

800

(To record goods purchased, terms 2/10, n/30)

(To record return of goods purchased)

(To record payment with discount taken)

Accounting for Merchandising Operations

784
16
11

Purchase Discount Not Taken

March 3 Accounts Payable
Cash

800
800

(To record payment on account without discount

taken)

Accounting for Merchandising Operations

12

Purchase of Inventory Freight

Costs
Freight Terms: FOB Shipping PointBuyers
are responsible for freight charges.
Feb. 10
Inventory
100
Cash
100
(To record freight charges of $100, terms FOB
shipping point)
Note: If freight terms were FOB destination, the
seller will be responsible for the payment of the
freights.
Accounting for Merchandising Operations

13

Purchase Invoice/Sales Invoice (see

Illustration 5-4 of textbook for an example)

Any purchase should be supported by a

purchase invoice.
Companies usually record purchases when
receiving goods from the seller.
A purchaser uses the sales invoice of the
seller as its purchase invoice.
In addition to the names of the seller and the
buyer, the goods sold and the total amount,
credit terms and freight terms are also
included in the sales invoice.
Accounting for Merchandising Operations

14

Sales, Sales Returns and Allowances,

Sales Discounts
On March 2, Inventory costing $250 was sold for $500 on
credit. On March 5, $50 of inventory sold was returned:

Mar. 2

A/R

Sales

500

(To record credit sale, terms 2/10,n/30)

CGS
Inventory

250

500

250

(To record cost of merchandise sold)

Mar. 5

Sales Return and Allowance 50

A/R
50
Inventory
25
CGS
25
(To record sales return)

15

Collection of A/R and Sales

Discounts
Collection of A/R on Mar. 7:
Cash
441
Sales Discount
9
A/R

450

(To record collection of A/R within discount period)

If the discount is not taken (i.e., collection after
discount period:

Cash
A/R

450
450
Accounting for Merchandising Operations

16

Net Sales

Net Sales = Sales Sales Returns and

Allowances Sales Discount

Accounting for Merchandising Operations

17

Sale of Inventory Freight Costs

FOB Shipping Point:
Buyers are responsible for the freight.
FOB Destination:
Seller are responsible for the freight.
The seller paid $30 for the shipping:
Freight-out
30
Cash
30
(Note: Freight-out is an expense account)
Accounting for Merchandising Operations

18

Closing Entries
Sale Revenue
Income Summary
Income Summary
Cost of Goods Sold
Sales ret. and Allow.
Sales Discount
Freight-out

500
500
314
225
50
9
30

Accounting for Merchandising Operations

19

Income Statement Formats

Multiple -Step Income Statement (see

illustration 5-11 of textbook for an Example) :

Net sales revenue

Cost of good sold
Gross margin
Operating expenses
Selling, Administration and Depreciation
Income form operations
Other icome (expense):
Interest revenue
Interest expense
Gain on sale of equipment
Income before income tax
Income tax expense
Net income

$150,000
(80,000)
70,000
(40,000)
30,000

$2,000
(9,000)
3,000

Accrual Accounting and the Financial Statements

(4,000)
26,000
(10,000)
$16,000
20
20

Income Statement Formats (contd.)

Single-Step Income Statement (See Illus.5-12 of

textbook)

Revenues:
Net sales
Interest revenue
Gain on sale of equipment
Total revenue
Expenses:
Cost of goods sold
Selling, administrative and depr.
Interest expense
Income tax expense
Total expenses
Net Income

$150,000
2,000
3,000
$155,000
80.000
40,000
9,000
10,000

139,000
$ 16,000

Accounting for Merchandising Operations

21

Income Statement Formats (Contd.)

Selling expenses include: salaries
expense (sales related), advertising
expense, freight-out.
Administrative expenses include:
salaries expense (administration
related), utility expense, insurance
expense.

Accounting for Merchandising Operations

22

Periodic Inventory System (using

the example on page 6)
At Purchase:
Purchases
1,000
Accounts Payable
1,000

(to record goods purchased on account, terms

2/10, n/30)

At Sale:
Accounts Receivable 500
Sales Revenue

500

(to record credit sale, terms 2/10,n/30)

Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 23

Periodic Inv. System: Purchase, Purchase

Returns and Allowance and Purchase Discounts

On Feb. 10, $1,000 inventory was purchased on credit. $200 inv. was
returned on Feb. 15. The payment was made on Feb, 17. The buyer
paid freight charge $100 on 2/10.

2/10 Purchases
1,000
Accounts Payable
2/10 Freight-in
100
Cash
2/15 A/P
200
Purchase R&A
2/17 A/P
800
Cash
Purchase Discounts

1,000
100
200
784
16

Accounting for Merchandising Operations

24

Net Purchases of a Periodic

Inventory System

Net purchases = Purchases Purchases

Returns and Allowances Purchases
Returns + Freight-in

Accounting for Merchandising Operations

25

Periodic Inv. System: Sales, Sales Returns

and Allowances and Sales Discounts
On March 2, Inventory costing $250 was sold for $500 on credit
with terms, 2/10, n/30 and FOB destination. Shipping cost is $30.
On March 5, $50 of inventory sold was returned and the remaining
bal. of A/R was collected on March 7.

3/2

A/R

500

Sales
Freight-out
30
Cash
3/5 Sales Ret. and Allow. 50
A/R
3/7 Cash
441
Sales Discount
9
A/R

500
30
50

450

Accounting for Merchandising Operations

26

Comparison of Perpetual vs. Periodic

Inventory System
Perpetual Inventory Sys.

Periodic Inventory Sys.

Purchases
1,000
Pur. Inventory 1,000
A/P
1,000
A/P
1,000
Freight-in
100
Freight Inventory 100
Cash
100
Cash
100
A/P
200
Pur. R&A A/P
200
Pur. R&A
200
Inventory
200 A/P
800
Pur. Dis. A/P
800
Cash
784
Cash
784
Pur. Dis.
16
Inventory 16
Accounting for Merchandise Inventory, Cost of Goods Sold and the Gross Profit 27

Comparison of Perpetual vs. Periodic

Inventory System (Contd.)
Perpetual Inventory Sys.
Sales A/R

500
Sales
500
CGS
250
Inventory 250
S. Ret. Sales R&A 50
A/R
50
Inventory
25
CGS
25
S. Dis. Cash
441
Sales Dis.
9
A/R
450
Freight Freight-out 30
Cash

30

Periodic Inventory Sys.

A/R

500

Sales
None
Sales R&A
A/R
None

500
50
50

Cash
Sales Dis.
A/R

441
9

Freight-out

450

30
Cash

30

28