ACCT 1026 Lesson 8 - Merchandising

UNIVERSITY OF SAINT LOUIS
Tuguegarao City
SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

First Semester, Academic Year 2022-2023
ACCT 1026- Financial Accounting and Reporting
Lesson 8: Accounting Cycle of a Merchandising Company
Learning At the end of this module, you are expected to:

Outcomes: 1. Elaborate the different inventory systems
2. Explain the accounting treatment for various peculiar transaction for a
merchandising business
3. Explain the basic steps in the accounting process of a Merchandising
Business.
4. Identify and explain the different shipping terms
5. Analyze sales and purchases transactions subject to VAT
6. Prepare payroll-related journal entries
LEARNING CONTENT
We are now done with the accounting cycle for a service company. The accounting process for the various
forms of business organizations are almost similar except for a few accounts. In this module, we will be
delving on the peculiar transactions for a merchandising or trading business entity.
ACCT 1026 – Financial Accounting and Reporting | 1
WARNING: No part of this E-module or LMS contentcan be reproduced or transported or shared to others
without permission from the University of Saint Louis. Unauthorized use of the materials, other than personal
learning use, will be penalized. Please be guided accordingly.
WHAT IS A MERCHANDISING BUSINESS?
A merchandising business, sometimes called merchandisers, is
one of the most common types of businesses we interact with
daily. It is a business that purchases finished products and resells
them to consumers.
Merchandising is the promotion of goods and/or services that are
available for retail sale. Merchandising includes the determination
of quantities, setting prices for goods and services, creating
display designs, developing marketing strategies, and
establishing discounts or coupons.
Merchandising companies purchase goods that are ready for sale
and then sell them to customers. Merchandising companies
include auto dealerships, clothing stores, and supermarkets, all of
which earn revenue by selling goods to customers.
In a merchandising sales transaction, the seller sells a product
and transfers the legal ownership (title) of the goods to the buyer.
A business document called an invoice (a sales invoice for the
seller and a purchase invoice for the buyer) becomes the basis
for recording the sale.
SERVICE BUSINESS VS. MERCHANDISING BUSINESS
 Inventory is the term for the goods available for sale and raw materials used to produce goods
available for sale. Inventory represents one of the most important assets of a business because
the turnover of inventory represents one of the primary sources of revenue generation.
 Inventory refers to all the items, goods, merchandise, and materials held by a business for selling
in the market to earn a profit.
Inventories are assets:
 held for sale in the ordinary course of business
 in the process of production for such sale, or
 in the form of materials or supplies to be consumed in the production process or in rendering of
services
Inventory types:
 raw materials
 work in progress
 finished goods inventory
 merchandise inventory
The cost of inventories comprises:

 costs of purchase
 costs of conversion
 other costs incurred in bringing the inventories to their present location and condition.
INVENTORY SYSTEMS
There are two main types of inventory systems, the
perpetual inventory system and the periodic inventory
system. The main difference between the two systems
is how often inventory data is updated.
The perpetual inventory method is one in which
inventory data is updated continuously. When an order
is placed or received, that data immediately is entered
into the system to update the quantity and inventory
availability right away. This is where the term perpetual
comes from. Data is entered perpetually, or
continuously, as opposed to the periodic system, where
data is updated according to a set interval of time.
A periodic inventory system only updates the ending
inventory balance in the general ledger when a physical
inventory count is conducted. Since physical inventory
counts are time-consuming, few companies do them
more than once a quarter or year. In the meantime, the
inventory account in the accounting system continues to
show the cost of the inventory that was recorded as of
the last physical inventory count.
Under the periodic inventory system, all purchases made between physical inventory counts are recorded in
a purchases account. When a physical inventory count is done, the balance in the purchases account is
then shifted into the inventory account, which in turn is adjusted to match the cost of the ending inventory.
Perpetual or periodic?
 Choice is merely a record-keeping choice, not a reporting choice
 Nature of inventory
 Computer system technology, e.g. optical scanners.
 Management objectives
 Cost
Perpetual Inventory Method Periodic Inventory System

A method of controlling inventory that maintains A method of calculating inventory that uses data on
continuous records on the flow of units of inventory beginning inventory, additions to inventory,
and an for all transactions. end-of-period count to deduce the COGS.
Provides better control and is more costly than the Purchases account: periodic
method. used to record purchases of inventory.
Stock losses more easily determined. Purchase returns and allowances account:
purchasing company returns goods to supplier or
receives a price reduction.
MARCH 6 Purchased inventory on credit P750.

PERPETUAL PERIODIC
Dr INVENTORY 750 Dr PURCHASES 750
Cr ACCOUNTS PAYABLE 750 Cr ACCOUNTS PAYABLE 750

MARCH 11 Received a credit note for inventory returned P50.
PERPETUAL PERIODIC
Dr ACCOUNTS PAYABLE 50 Dr ACCOUNTS PAYABLE 50
Cr INVENTORY 50 Cr PURCHASE
RETURNS and
ALLOWANCES 50
Recording of payments are the same for either inventory method (assume P7 discount)
Accounts payable 700

Cash 693
Purchase Discount 7
Sale- MARCH 20 Sold inventory on credit for P1050. Cost of inventory sold, P525.
PERPETUAL PERIODIC
Dr Accounts receivable 1 050 Dr Accounts receivable 1 050
Cr Sales 1 050 Cr Sales 1 050
Dr Cost of goods sold 525 NO ENTRY
Cr Inventory 525
Differences in Valuing Cost of Goods Sold
What Is Inventory Cost?
 Inventory costs comprise of all expenditures both direct and indirect, relating to acquisition,
preparation, and placement for sale.
 Discounts can change the total inventory costs.
• Trade Discounts
 Convert the catalog price to the actual price.
 Record inventory at discounted price.
• Cash Discounts
 Granted for payment of invoices within a limited time period.
 Record inventory using the net method or gross method.
FINANCIAL STATEMENT PRESENTATION
 All inventory is in a saleable condition (e.g. supermarket).

 One Statement of Financial Position called ‘inventory’ is sufficient.
Error in Measuring Inventory
• Overstatement of ending inventory leads to:

– understatement of cost of goods sold
– overstatement of profit.
• Understatement of ending inventory leads to:

– overstatement of cost of goods sold –
understatement of profit.
PROBLEM 1
Eversoll Inc. uses the periodic inventory system.
June 1 On hand, 50 units @ P15.00 each P 750.00

5 Purchased 115 units @ P15.00 each 1,725.00
14 Purchased 75 units @ P15.00 each 1,125.00
Total cost of goods available for sale P3,600.00
30 On hand, 90 units
How many units did Eversoll, Inc. sell during June? ANSWER: 50+115+75-90= 150 UNITS
PROBLEM 2
Adam Inc. uses a perpetual inventory system.
Jan. 1 On hand, 10 units at P8 each P 80.00

4 Sold 8 units for P10 each 80.00
22 Purchased 50 units at P8 each 400.00
26 Sold 48 units for P10 each 480.00
How much is the ending inventory on January 31? ANSWER: 10-8+50-48= 4 UNITS
PROBLEM 3
During the current period, Audix Corp. sold products to customers for a total of P76,000. Due to defective
products, customers were given P2,800 in refunds for products that were returned and another P3,500 in
reductions to their account balances. Discounts in the amount of P5,500 were given for early payment of
account balances.
Prepare the Net Sales section of Audix’s income statement.

ANSWER:
Sales revenue P 76,000

Less: Sales returns and allowances (6,300)
Sales discounts (5,500)
Net sales P 64,200
PROBLEM 4
Based upon the following data, determine the cost of merchandise sold for April.
Merchandise Inventory April 1 P 85,560

Merchandise Inventory April 30 96,330
Purchases 373,880
Purchases Returns & Allowances 14,760
Purchases Discounts 10,900
Freight In 4,135
ANSWER:
Cost of merchandise sold:

Merchandise Inventory April 1 P85,560
Purchases P373,880
Less: Purchases Returns and Allowances P14,760
Purchases Discounts 10,900 (25,660)
Net Purchases P348,220
Add Freight-In 4,135
Cost of merchandise purchased 352,355
Merchandise available for sale 437,915
Less merchandise inventory, April 30
(96,330)
Cost of merchandise sold P341,585
Purchases Returns and Allowances- is an account that is paired with and offsets the purchases account
in a periodic inventory system. The account contains deductions from purchases for items returned to
suppliers, as well as deductions allowed by suppliers for goods that are not returned.
Purchases Discounts- is a deduction that a company may receive if the supplier offers it and the company
pays the supplier's invoice within a specified period of time. The purchase discount is also known as a cash
discount or early-payment discount.
Freight-in- The shipping cost to be paid by the buyer of merchandise purchased when the terms are FOB
shipping point.
When you are shipping freight to your customers, the cost of making that delivery is an expense that comes
out of your ledger as a debit. This is considered a selling expense and is known as freight-out. When you
make a purchase and the supplier bills you for shipping that is referred to as freight-in.
PROBLEM 5
Hound Dog Bisquits reported the following financial data for 2019 and 2020:
2019 2020
Sales P700,000 P600,000
Sales returns and allowances (10,000) ( D ) Net sales 690,000
580,000 Cost of goods sold:
Inventory, January 1 30,000 E
Net purchases A 340,000
Goods available for sale 250,000 380,000
Inventory, December 31 (40,000) (30,000)
Cost of goods sold B F
Gross profit C G
====== ======
Provide the answer for each missing letter above.
ANSWER:
A) P220,000 (P250,000 - P30,000)

B) P210,000 (P250,000 - P40,000)
C) P480,000 (P690,000 - P210,000)
D) P20,000 (P600,000 - P580,000)
19 P40,000 (from 2013 ending inventory)
F) P350,000 (P380,000 - P350,000) G)
P230,000 (P580,000 - P350,000)
PROBLEM 6
The following data are available for Carlton Products
Beginning Ending Operating

Year Sales Inventory Inventory Expenses
2018 P 93,600 P16,000 P24,000 P 8,000
2019 124,800 24,000 34,000 18,000 2020 156,000
34,000 26,000 12,000
Compute the purchases and the net income of Carlton for 2018, 2019, and 2020, assuming that the firm
sells its merchandise at 25 percent above cost.
ANSWER:
Cost of goods sold (sales/1.25) . P P P

Ending inventory ................ 24,000 34,000 26,000
Goods available for sale ........ P98,880 P133,840 P150,800
Less beginning inventory ........ 16,000 24,000 34,000
Purchases ....................... P82,880 P109,840 P116,800
Sales ........................... P93,600 P124,800 P156,000

Less cost of goods sold ......... 74,880 99,840 124,800
Gross profit on sales ........... P18,720 P 24,960 P 31,200
Operating expenses .............. 8,000 18,000 12,000
Net income ...................... P10,720 P 6,960 P 19,200
Service Business Merchandising Business

Income Statement: Income Statement
Revenues Sales
Less: Operating Expenses Less Cost of Merchandise Sold
Equals: Net Income Equals: Gross Profit
Less: Operating Expenses
Equals: Net Income
Balance Sheet: Balance Sheet:

No Merchandise Inventory Account Includes Merchandise Inventory
Account in the Current Assets Section
PROBLEM 7
Truffles Company purchased merchandise on account from a supplier for P6,500, terms 2/10, net 30. Truffles returned
P1,500 of the merchandise and received full credit. Truffles Company paid for the merchandise within the discount
period.
Under a perpetual inventory system, record all of the journal entries required for the above transactions.
ANSWER:
(a) Merchandise Inventory 6,500

Accounts Payable 6,500
(b) Accounts Payable 1,500

Merchandise Inventory 1,500
(c) Accounts Payable 5,000
Cash 4,900
Merchandise Inventory 100
PROBLEM 8
The following data were extracted from the accounting records of Marcus Gallery for the year ended February 28,
2020.
Merchandise Inventory, March 1, 2019 P450,000

Merchandise Inventory, February 28, 2020 225,000
Purchases 175,000
Purchase Returns and Allowances 25,000
Purchase Discounts 10,000
Sales 680,000
Sales Returns 20,000
Transportation In 5,000
Prepare the cost of merchandise sold section of the income statement for the year ended February 28, 2008,
using the periodic system. Also determine gross profit.
ANSWER:
Marcus Gallery
Income Statement
For the Year Ended February 28, 2020
Sales P680,000
Less: Sales returns 20,000
Net Sales P660,000
Cost of Merchandise Sold
Merchandise inventory, March 1, 2019 450,000
Purchases 175,000
Less: Purchases returns and allowances P25,000
Purchase discounts 10,000 35,000
Net Purchases 140,000
Plus: Transportation in 5,000
Cost of Merchandise Purchased 145,000
Merchandise available for sale 595,000
Less merchandise inventory, February 28, 2008 225,000
Cost of merchandise sold 370,000
Gross profit P290,000
Accounting for Freight
What is the difference between Freight Prepaid and Freight Collect?
Freight, according to the manner of payment may either be prepaid or collect. Prepaid means the freight
must be paid before the goods maybe transported. On the other hand, Collect if payment is expected upon
delivery of the goods.
The significance of shipping terms:
a. It determines when the transfer of ownership of the goods is effected

b. Ascertains who owns the goods that are in transit
c. Whoever owns the goods in transit will bear the cost of the freight
Shipping terms maybe –

a) Free on Board (FOB), shipping point or – goods to be delivered by seller to the point of shipment
such as aboard a ship, or train w/o further charge to the buyer. After the point of shipment, the seller is no
longer responsible for shipment expenses.
b) Free on Board, destination – goods are delivered by the seller aboard a train or ship up to its
destination thus, shipment expenses are the responsibility of the seller.
Very important Notes:

• If the buyer is the owner of the goods in transit, the cost of the freight paid by him is recorded in his
books as Freight-in and it is added to Purchases to form part of Cost of Sales.
• If the seller owns the goods in transit, the freight paid by the seller is recorded in his books as
Freight-out and it is treated as Operating Expense.
This diagram shows when ownership of goods in transit passes from the seller to the buyer.
Possible shipping terms and freight requirements are:

1. FOB Shipping point, freight prepaid
2. FOB Shipping point, freight collect
3. FOB destination, freight prepaid
4. FOB destination, freight collect
Who will shoulder for the freight

charges?
This is a very important diagram

for you –
Illustration 1: F.O.B. Shipping Point Freight Prepaid.

Seller S company sold on account to Buyer B company goods invoiced at P20,000 and paid P600 freight
charges. The goods were shipped FOB shipping point, freight prepaid.
Take note of the following entries:
Seller S Company Buyer B Company

Accounts Receivable P20,000 Purchases P20.000
Sales P20,000 Freight-in 600
To record sale to Buyer Company Accounts Payable P20,600
To record credit purchase and freight charges
Accounts Receivable P600
Cash P600
To record freight for the account of the
buyer
Illustration 2: F.O.B. Shipping Point Freight Collect.

Seller S company sold on account to Buyer B company at P10,000 F.O.B. Shipping point, freight collect.
Buyer B company paid the P400 freight upon receipt of the goods.
Sales P10,000 Accounts Payable P10,000
To record sale to Buyer Company To record credit purchase and freight charges
Freight – in P400
Cash P400
To record the payment of freight
Illustration 3. FOB Destination Freight Prepaid.

Seller S company sold on account to Buyer B company at P22,000, F.O.B. Destination, freight prepaid.
Seller S Company paid the shipping company bill of lading for P300.

*you may Sales Accounts Payable P22,000
prepare a P22,000 ,
compound To record sale to Buyer Company To record credit purchase and freight charges
entry for the Freight-out P300.00
seller if you Cash P300.00
want To record payment of freight
Illustration 4. FOB Destination Freight Collect.

Seller S company sold on account to Buyer B company at P31,000, FOB. Destination, goods shipped FOB
Destination, freight collect. Buyer B Company paid P500 freight.
Accounts Receivable P 30,500 Purchases P31.000
Freight-out 500 Accounts Payable P31,000
Sales
P31,000 , To record credit purchase and freight charges
To record sale to Buyer Company
Accounts Payable P500
Cash P500
To record payment of freight for the account of seller
Sales subject to Value-added Tax (VAT) at 12%
https://www.slideshare.net/KarlaJeanMedina/value-added-tax-taxable-sales-philippines
Illustration 5 - Sales Transaction with Value-added Tax
1) VAT Cash Sales Sales Invoice #143 was issued for P5,400 and 12% VAT was added accordingly.
Entry
Cash 6,048
Sales 5,400
Output Tax (5400 x 112%) 648
2) The company issued VAT charge Sales Invoice #144 to Gloria Labandera for P22,000, terms 3/10 n/30.
Entry Accounts Receivable 24,640

Sales 22,000
Output Tax (P22,000 x 112%) 2,640
3) The company accepted the return of defective goods and cash amounting to P2,800, VAT inclusive, was
returned by the customer in no 01 above.
Entry Sales Returns and Allowances 2,500
(P2,800/112%)
Output Tax (P2,500x12%) 300
Cash 2,800
4) The customer in No 2, Gloria Labandera above requested for a Sales Allowance of P672 for a slight
defect on the merchandise given to her. The seller issued a credit memorandum to acknowledge the
request. The sale was subject to VAT.
Entry Sales Returns and Allowances 600
(P672/112%)
Output Tax (P600x12%) 72
Accounts Receivable 672
5) Gloria Labandera paid her account in full within the discount period.
Entry Cash 23,248.96

Computation of Amount Subject to
Sales Sales Discount
Discount(P21,400 x Original Amount of Sale 22,000
3%) Less Sales Allowance 600
Output Tax (P642 x
12% Basis of 3% Sales
Accounts Discount 21,400
Receivable
Purchases subject to Value-added Tax
Purchases subject to the 12% VAT has the same treatment as Sales with VAT only that you are recording
from the point of view of the buyer. The 12% VAT added to the buyer’s purchases are recorded as Input tax.
Below is sample invoice with VAT. Observe how it is presented and computed in an actual Invoice.
Assume further that this is a Cash Sales invoice.
This is the amount to be paid by the customer for
Cash
transactions or the amount to be recorded as
Accounts
Receivableif this is on credit terms
This is the amount to be recorded as

Sales (P4,490
divided by 12%)
This is the amount to be recorded as

Output Tax,
representing12% of Sales.(P4,008.92x12%)
Value-added Tax will be discussed in detail in your Income Tax subjects. The intention of this discussion is
to give the student a bird’s eyeview of a real life scenario.
REFERENCES:
Textbooks
1. Ballada, W. (2019). Basic Financial Accounting and Reporting. Manila: DomDane Publishers.
2. Cabrera, E.(2017) Fundamentals of Accounting Volume I, GIC Enterprises & Co., Inc., Manila
3. Millan, Z. V. (2020). Financial Accounting and Reporting (Fundamentals). Baguio City: Bandolin
Enterprise.
4. Valencia, E. and Roxas, G. (2017), Basic Accounting, Valencia Educational Supply
5. Valix, C. and Peralta, J. (2018). Financial Accounting Volume I GIC Enterprises & Co., Inc., Manila
6. Porter, G. and Norton, C. (2017), Financial Accounting- The Impact on Decision Makers: Cengage
Learning.
Online Reference
1. https://corporatefinanceinstitute.com/resources/knowledge/accounting/accounting-equation/
2. https://bobsteelecpa.com/accounting-equation-account-types-and-the-double-entry-accountingequation/
3. https://www.bookstime.com/what-is-the-accounting-equation
4. https://www.accountingcoach.com/blog/expanded-accounting-equation
5. https://accounting-simplified.com/equity.html
6. https://www.investopedia.com/
7. https://courses.lumenlearning.com/suny-finaccounting/chapter/the-account-needed-for-amerchandising-
business/
8. https://blog.ordoro.com/2012/01/16/types-of-inventory-systems-the-perpetual-inventory-system/

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UNIVERSITY OF SAINT LOUIS

SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

ACCT 1026- Financial Accounting and Reporting

Lesson 8: Accounting Cycle of a Merchandising Company

Learning At the end of this module, you are expected to:

ACCT 1026 – Financial Accounting and Reporting | 1

ACCT 1026 – Financial Accounting and Reporting | 2

The cost of inventories comprises:

ACCT 1026 – Financial Accounting and Reporting | 3

ACCT 1026 – Financial Accounting and Reporting | 4

Perpetual Inventory Method Periodic Inventory System

MARCH 6 Purchased inventory on credit P750.

Dr INVENTORY 750 Dr PURCHASES 750

Cr ACCOUNTS PAYABLE 750 Cr ACCOUNTS PAYABLE 750

Dr ACCOUNTS PAYABLE 50 Dr ACCOUNTS PAYABLE 50

Accounts payable 700

ACCT 1026 – Financial Accounting and Reporting | 5

Dr Accounts receivable 1 050 Dr Accounts receivable 1 050

Cr Sales 1 050 Cr Sales 1 050

Dr Cost of goods sold 525 NO ENTRY

Differences in Valuing Cost of Goods Sold

What Is Inventory Cost?

ACCT 1026 – Financial Accounting and Reporting | 6

FINANCIAL STATEMENT PRESENTATION

 All inventory is in a saleable condition (e.g. supermarket).

Error in Measuring Inventory

• Overstatement of ending inventory leads to:

• Understatement of ending inventory leads to:

Eversoll Inc. uses the periodic inventory system.

June 1 On hand, 50 units @ P15.00 each P 750.00

Adam Inc. uses a perpetual inventory system.

Jan. 1 On hand, 10 units at P8 each P 80.00

Prepare the Net Sales section of Audix’s income statement.

Sales revenue P 76,000

Merchandise Inventory April 1 P 85,560

Cost of merchandise sold:

ACCT 1026 – Financial Accounting and Reporting | 8

A) P220,000 (P250,000 - P30,000)

ACCT 1026 – Financial Accounting and Reporting | 9

The following data are available for Carlton Products

Beginning Ending Operating

ACCT 1026 – Financial Accounting and Reporting | 10

Cost of goods sold (sales/1.25) . P P P

Sales ........................... P93,600 P124,800 P156,000

Service Business Merchandising Business

Balance Sheet: Balance Sheet:

(a) Merchandise Inventory 6,500

(b) Accounts Payable 1,500

ACCT 1026 – Financial Accounting and Reporting | 11

Merchandise Inventory, March 1, 2019 P450,000

Accounting for Freight

ACCT 1026 – Financial Accounting and Reporting | 12

The significance of shipping terms:

a. It determines when the transfer of ownership of the goods is effected

Shipping terms maybe –

Very important Notes:

Possible shipping terms and freight requirements are:

Who will shoulder for the freight

This is a very important diagram

Illustration 1: F.O.B. Shipping Point Freight Prepaid.

Take note of the following entries:

Seller S Company Buyer B Company

Illustration 2: F.O.B. Shipping Point Freight Collect.