COLLEGE OF ACCOUNTANCY

C-AE13: Financial Accounting and Reporting

First Semester | AY 2020-2021

Module 12

A. Course Code – Title : C-AE13: Financial Accounting and Reporting

B. Module No – Title : M12 – Accounting Process for a Merchandiser
C. Time Frame : 1 week (Week 11 ) – 6 hrs
D. Materials : Course Syllabus

1. Overview
This learning material provides a comprehensive discussion and illustration of the
accounting process for a merchandising concern.
You should read clearly and understand well the topics explained herein. It is also expected
that you answer the assigned problems and exercises. Please read Chapter 7 of your
textbook.

2. Desired Learning Outcomes

At the end of the learning session, I can:
a) Differentiate between a service business and a merchandising entity;
b) Record correctly the regular sales and purchase transactions of a merchandising
concern; and,
c) Describe the inventory system using the periodic and perpetual inventory methods.

3. Content/Discussion

Lesson 1 –Merchandising Concern vs. Service Business

By now, you must be familiar with the service type of business, that is, its nature, the proper
accounting of its transactions as well as the preparation of its financial statements in good
form. On the other hand, a merchandising concern is a business that buys and sells goods or
merchandise which do not undergo any change in physical form, that is, from the time that
these goods are bought from the manufacture or wholesaler until they are sold to the
customers, the name and form of the goods remain unchanged; only the price varies. So,
take note: the merchandiser is both a buyer and a seller; the buying activity is done before
the selling activity, because the merchandiser has to buy goods or merchandise first before
he/she will be able to sell goods or items .
The principles applied in accounting for service business transactions are also the same
principles applicable in accounting for a merchandising concern. However, there are new
accounts that are used in a merchandising business that are not applicable to a service
business, such as Sales, Merchandise Inventory, Purchases, Cost of Sales or Cost of Goods
Sold, Freight in, Freight out, and others. You will learn all these accounts as we go along in
the discussion on the accounting for a merchandising concern.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

As you will also observe later, there is a marked difference in the preparation of the Income
Statement of a service business and a merchandising concern.

Lesson 2 – Transactions of a Merchandising Business

A) Sales Revenue
A.1) Gross sales
The revenue account of the merchandising concern is Sales, a nominal account, which is
earned when the business transfers or delivers the goods or merchandise to the buyer or
customer. This account is always credited whenever the business sells goods or
merchandise, as evidenced by a document called sales invoice issued by the seller. The
entry to record the sales is:

Cash (for cash sales) or

Accounts Receivable (for credit sales) P xxxx
Sales (at the sales price) Pxxx
To record the sale of goods

The terms of sale may be on cash, on account or on credit card. It is common nowadays for
businesses to accept sales on credit card. The credit card company may charge a fee for this.
If it takes time for the bank or credit card company to credit the merchandiser’s account for
the credit card sales, the sales may be recorded as sales on account by the seller. The fee
charged by the bank or credit card company is recorded separately as Credit Card
Discounts. Depending upon the practice or policy of the business, this account may be
considered as a selling expense or as a contra-revenue account, that is, as a deduction from
gross sales.

A.2) Sales Discounts

To attract customers with the end in view of increasing sales, the seller may grant trade
discounts and cash discounts. A trade discount, which is a reduction from the list price, is
usually granted to loyal customers or those who buy large quantities of goods. It is granted
at the point of sale, therefore, it is immediately deducted from the list price. Thus, only the
net amount or the gross invoice price will be the amount at which the sales will be recorded.

Assume that a customer was granted a 5% trade discount on goods bought with a list price
of P100,000. The net amount or gross invoice price of the sales made is computed as
follows:
List price P100,000
Less: 5% trade discount ( 5,000)
Gross invoice price P 95,000

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

In the example above, the trade discount is a simple trade discount. What if the trade
discount is a series of, let’s say, 3%, 5% and 10%? How then do we determine the gross
invoice price? Analyze very well the computation below:
List price P100,000
Less: 3% (first discount) ( 3,000)
Net amount after 1 TDst
P 97,000
Less: 5% (second discount) ( 4,850)
Net amount after 2nd TD P 92,150
Less: 10% (third discount) ( 9,215)
Gross invoice price P 82,935

The entry to record this sale, assuming it is a cash sale, is:

Cash 82,935
Sales 82,935

Cash discounts are granted to customers to whom the business extends credit, with the
primary aim of encouraging the credit customers to pay their accounts promptly or within
the discount period, depending on the credit terms. Examples of credit terms are: n/30,
which means that the full amount of the account should be paid by the customer in 30 days
from the date of sale, no discount; 5/10, 3/20, n/30, means that the customer is given a
credit period of 30 days from date of sale to pay the account; however, if the customer can
pay within 10 days from date of sale, he/she will be granted a 5% discount; if he cannot pay
within the ten-day 5% discount period, but pays within the next 10 days or 20 days from
the date of sale, then the business will grant a 3% discount; beyond the 20-day period from
date of sale, there will be no more discount to be given. As an example, assume that the
business sold goods, P150,000, on credit terms of 5/10, 3/20, n/30 on June 3. Analyze the
illustration below:

June 3 ------------------June 13------------------June 23-------------------July 3

5% 3% no discount

If payment is made: from June 3 until June 13 – 5% discount;

from June 14 until June 23 - 3% discount;
from June 24 until July 3 - no discount.

Assume that the seller was able to collect the account on June 20, let us record the
transactions.
June 3 Accounts Receivable 150,000
Sales 150,000
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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

To record credit sales

June 20 Cash 145,500

Sales Discount 4,500
Accounts Receivable 150,000
To record account collected at a discount
Invoice price 150,000
3% discount ( 4,500)
Net amount 145,500
Note: Sales Discount is a contra-revenue account because it decreases the revenue. It is
presented as a deduction from Gross Sales in the Income Statement.

A.3) Sales Returns and Allowances

A customer may return damaged or defective merchandise, or if the goods delivered are not
of the quantity and/or the quality ordered. These are called Sales Returns and Allowances, a
contra-revenue account similar to Sales Discounts. Upon receipt of the goods returned by
the customer, as a documentary evidence, the seller issues a credit memorandum (memo
for short) to the customer. What is this credit memo? As just mentioned, the credit memo is
a document issued by the business to the buyer to acknowledge the receipt of the goods
returned by the latter. At the same time, it also notifies the buyer that it (the business seller)
has credited its accounts receivable from the buyer or has deducted the value of the goods
returned by the buyer from the account of the latter.

To continue, assume that the business originally sold goods, P80,000, on terms of 2/10,
n/30. The entry on the date of sale is:

Accounts Receivable 80,000

Sales 80,000
To record credit sale of goods

Assume further that subsequently, the customer returned P5,000 worth of damaged goods.
The entry to record the returns would be:

Sales Returns and Allowances 5,000

Accounts Receivable 5,000

Note: If the goods returned were originally sold for cash, the business has to give a cash
refund to the buyer. In this case, the credit account should be Cash, and not Accounts
Receivable.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

If the buyer pays within the discount period, how much will the business receive? Please
take note that the buyer is entitled to a discount only on the goods that he/she bought. The
returned goods cannot be entitled to a cash discount, because, in effect, they were not
actually bought by the customer, since he/she returned these goods to the business. The
amount to be collected from the buyer is computed as follows:
Gross sales 80,000
Less: Sales returns & allowances ( 5,000)
Amount subject to discount 75,000
Less: 2% x 75,000 (1,500)
Cash received by the seller 73,500

The entry to record the full collection of the account at a 2% cash discount would be:

Cash 73,500
Sales Discount 1,500
Accounts Receivable 75,000

Note: Trade discounts are not recorded in the books, while cash discounts must be
recorded.

Just like Sales Discounts, Sales Returns and Allowances is also a contra-revenue account,
because it also decreases the Sales revenue. These two accounts normally have debit
balances and both are presented as deductions from the Gross Sales to arrive at Net Sales in
the Income Statement as follows:
Sales 80,000
Less: Sales Discount 1,500
Sales Returns & Allowances 5,000 (6,500)
Net Sales 73,500

B) Gross Purchases
When the business buys goods or merchandise, the entry is:

Purchases Pxxxx
Cash (for cash purchases)
Accounts Payable (for credit purchases) Pxxxx
To record goods or merchandise bought

The Purchases account is a nominal account that is always debited to record only the goods or
merchandise bought for cash or on account, as evidenced by the sales invoice issued by the
seller to the customer or buyer, who considers it as a purchase invoice, since it is an evidence of
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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

the purchase made by the buyer. This is the account used under the periodic inventory system,
which will be discussed and illustrated later together with the perpetual inventory system.

B.1) Purchase Returns and Allowances

Some of the goods purchased by the buyer may be damaged, defective or not of the quantity or
quality ordered. If this happens, the buyer may either return the goods or request from the
seller a reduction in the price of such goods. The effect of either option chosen by the buyer will
be a decrease in the cost of the Purchases as well as a decrease in the liability Accounts Payable,
if the purchase was originally made on account. If the goods were initially bought for cash, the
buyer is entitled to a cash refund from the seller. This is recorded by a credit to the contra-
account, Purchase Returns and Allowances, and a corresponding debit to Accounts Payable or
Cash, depending on the original mode of purchase.

The pro-forma entry to record the returned goods is:

Accounts Payable (or Cash) Pxxx

Purchase Returns and Allowances Pxxx

Note: Purchase Returns and Allowances is to the buyer as Sales Returns and Allowances is to
the seller.

B.2) Purchase Discounts

Go back and review the lesson on trade discounts and cash discounts. Recall: trade discounts
are not recorded; only cash discounts are recorded. To the seller, the cash discount is termed
Sales Discount; to the buyer, it is called Purchase Discount. Both are contra-accounts: Sales
Discount decreases Sales; Purchase Discount decreases the cost of the merchandise purchased.
The computation of the Sales Discount is the same as that of the Purchase Discount. Just like
Sales Discount, the buyer can claim the Purchase Discount only if he/she (the buyer) pays the
account or liability in full within the discount period, unless it is specifically stated that partial
payments are entitled to discounts.
Let us assume the following transactions of the buyer:

July 1 – Bought merchandise, P200,000, on terms of 3/10, n/20.

Purchases 200,000
Accounts Payable 200,000
To record goods bought on account
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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

July 2 – Returned defective goods, P10,000

Accounts Payable 10,000
Purchase Returns and Allowances 10,000
To record damaged goods returned to the seller

July 8 – Paid in full its account to the seller

Accounts Payable 190,000
Purchase Discount 5,700
Cash 184,300
To record full payment of account with discount

Computation: Original Purchase P200,000

Less: Purchase Returns and Allowances ( 10,000)
Net account P190,000
Less: Purchase Discount (3% x 190,000) ( 5,700)
Cash paid P184,300

4. Progress Check
a) Distinguish between the service business and the merchandising concern.
b) Briefly describe the revenue account and its contra-accounts.
c) Discuss briefly the purchase account and its contra-accounts.

5. Assignment
Answer end-of- Chapter 7 probs 1, 2, 6, and 7. Answer also prob 10 with the following
revised requirement: Prepare the journal entries for transaction nos. 1, 2 and 3 only. Do not
answer transaction no. 4.

6. Assessment
The assessment will be given in the next module, Module No. 13, after all
merchandising topics have been discussed.

7. References

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

Manuel, Zenaida Vera-Cruz (2018) 21st Century Accounting Process, Basic Concepts and
Procedures, Manila, Philippines: Zenaida Vera-Cruz Manuel.

Ballada, Win. (2020) Basic Financial Accounting and Reporting, Cavite, Philippines:
Dom Dane Publishers & Made Easy Books.

Cabrera, Ma. Elenita B. & Cabrera, Gilbert Anthony B. (2018) Financial Accounting and
Reporting,Manila, Philippines: GIC Enterprises & Co., Inc.

Ferrer, Rodiel C. & Millan, Zeus Vernon B. (2017) Fundamentals of Accountancy,

Business and Management, Part 1, Baguio City, Philippines: Bandolin Enterprise.

Warren, Carl S., Reeve, James M., & Duchac, Jonathan E. ((2015) Accounting 25th Edition,
Pasig City, Philippines: Cengage Learning Asia Pte Ltd (Philippine Branch).

Gilbertson, Claudia B., Lehman, Mark W., & Gentene, Debra H. (2017) Century 21
Accounting Multi-column Journal 10th Edition, Boston, MA 02210 USA: Cengage Learning.

Wild, John; Kwok, Winston; Venkatesh, Sundar; Shaw, Ken W. & Chiappetta, Barbara.
(2016) Fundamental Accounting Principles 2nd Edition, 2 Penn Plaza, New York:
McGraw-Hill Education.

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