1. Accounting For Merchandising Operations Test
2. Study Guide Accounting For Merchandising Operations Solutions

Merchandising Activities Products that a company acquires to resell to customers are referred to as merchandise (also called goods). A merchandiser earns net income by buying and selling merchandise. A wholesaler is an intermediary that buys products from manufacturers or other wholesalers and sells them to retailers or other wholesalers.

Reporting Income for a Merchandiser Revenue (net sales) from selling merchandise minus the cost of goods sold (the expense of buying and preparing the merchandise) to customers is called gross profit (also called gross margin). This amount minus expenses (generally called operating expenses) determines the net income or loss for the period.

Reporting Inventory for a Merchandiser 1. A merchandiser's balance sheet is the same as a service business with the exception of one additional current asset, merchandise inventory, or simply inventory. The cost of this asset includes the cost incurred to buy the goods, ship them to the store, and make them ready for sale. Operating Cycle for a Merchandiser A merchandising company s operating cycle begins by purchasing merchandise and ends by collecting cash from selling the merchandise. Companies try to keep their operating cycles short because assets tied up in inventory and receivables are not productive. Inventory Systems 1. Merchandise available for sale consists of beginning inventory and what it purchases (net purchases).

The merchandise available is either sold (cost of goods sold) or kept for future sales (ending inventory). Two alternative inventory systems are used to collect information about cost of goods sold and the cost of inventory: 4-4 2 a. Perpetual inventory system continually updates accounting records for merchandise transactions, specifically, for those records of inventory available for sale and inventory sold. Periodic inventory system updates the accounting records for merchandise transactions only at the end of a period. Some companies use a hybrid system where the perpetual system is used for tracking units available and the periodic system is used to compute cost of sales. The following sections of this outline use the perpetual inventory system.

Appendix 4A uses the period system (with perpetual results on the side). An instructor can choose to cover either one or both inventory systems. Accounting for Merchandise Purchases The invoice serves as a source document for this event. Trade Discounts 1.

In catalogs, each item has a list price or catalog price. An item s intended selling price equals list price minus a given percent called a trade discount. A buyer records the net amount of list price minus trade discount. Purchases Discounts Credit terms for a purchase include the amounts and timing of payments from a buyer to a seller. The amount of time before full payment is due is called the credit period. Sellers can grant a cash discount to encourage the buyer to pay earlier.

A seller views a cash discount as a sales discount and a buyer views a cash discount as a purchase discount. This reduced payment applies only for the discount period.

Example: credit terms, 2/10 n/30, offers a 2% discount if the invoice is paid within 10 days of invoice date. Entry for buyer for purchase of merchandise on credit: debit Merchandise Inventory, credit Accounts Payable. Entry for buyer to record payment within discount period: debit Accounts Payable (full invoice amount), credit Cash (amount paid = invoice discount), credit Merchandise Inventory (amount of discount). Purchase Returns and Allowances 1. Purchase returns refer to merchandise a buyer acquires but then returns to the seller. Cummins lta10 parts manual.

A purchase allowance is a reduction in the cost of defective or unacceptable merchandise that a buyer acquires. The buyer issues a debit memorandum to inform the seller of a debit made to the supplier's account. Entry for buyer to record purchase return or allowance: debit Accounts Payable or Cash (if refund given) and credit Merchandise Inventory.

When goods are returned, a buyer can take a purchase discount on only the remaining balance of the invoice. Transportation Costs and Ownership Transfer The buyer and seller must agree on who is responsible for paying any freight costs and who bears the risk of loss during transit for merchandising transactions. The point of transfer is called the FOB (free on board) point.

FOB shipping point buyer accepts ownership when goods depart sellers place of business; buyer pays shipping costs. Shipping costs increase the cost of merchandise acquired (cost principle). Entry for buyer to record shipping costs: Debit Merchandise Inventory, credit Cash or Accounts Payable (if to be paid with merchandise later). FOB destination ownership of goods transfers to buyer when goods arrive at buyer s place of business; seller pays shipping costs. Shipping costs are an operating (selling) expense for seller b. Entry for seller to record shipping costs: Debit Delivery Expense (or Transportation-Out or Freight-Out), credit Cash.

Accounting for Merchandise Sales A. Sales of Merchandise Each sales transaction involves two parts and will therefore require two entries: 1. Recognize revenue received entry for seller to record: debit Accounts Receivable (or cash), credit Sales (for the invoice amount). Recognize cost of merchandise sold entry for seller to record: debit Cost of Goods Sold, credit Merchandise Inventory (for the cost of the merchandise sold). Sales Discounts Sales discounts are usually not recorded until a customer actually pays with the discount period. Entry for seller to record collection after discount period Debit Cash, Credit Accounts Receivable (full invoice amount). Entry for seller to record collection within discount period debit Cash (invoice amount less discount), debit Sales Discounts (discount amount), credit Accounts Receivable (invoice amount).

Sales Discounts is a contra-revenue account; it is subtracted from Sales when computing a company s net sales. Sales discounts are monitored to assess the effectiveness and cost of its discount policy. Sales Returns and Allowances 1. Sales returns merchandise that a customer returns to the seller after a sale. Sales allowances reductions in the selling price of merchandise sold to customers (usually for damaged or defective merchandise that a customer is willing to keep at a reduced price).

Entry for seller to record sales returns or allowances: debit Sales Returns and Allowances and credit Accounts Receivable; additional entry if returned merchandise is salable: debit Merchandise Inventory, credit Cost of Goods Sold. Seller prepares a credit memorandum to inform buyer of the seller s credit to the buyer s Accounts Receivable (on the seller s books).

Completing the Accounting Cycle A. Adjusting Entries for Merchandisers Generally same as discussed in chapter 3 for a service business. Additional adjustment needed to update inventory to reflect any loss of merchandise, including theft and deterioration, is referred to as shrinkage.

Shrinkage is determined by comparing a physical count of the inventory with recorded quantities. Entry to record shrinkage: debit Cost of Goods Sold, credit Merchandise Inventory. Preparing Financial Statements The financial statement for a merchandiser are similar to those for a service company described in chapters 2 and The income statement mainly differs by the inclusion of cost of goods sold and gross profit. Net sales is affected by discounts, returns, and allowances, and some additional expenses are possible such as delivery expense and loss from defective merchandise. The balance sheet mainly differs by the inclusion of merchandise inventory as part of current assets.

Closing Entries Closing entries are similar to a service business except that some new temporary accounts that arise from merchandising activities must be closed (e.g., Sales Discount, Sales Returns and Allowances, and Cost of Goods Sold). These debit balance accounts are closed with the expense accounts to Income Summary. Financial Statement Formats No specific format is required in practice. Two common income statement formats: A.

Multiple-Step Income Statement 1. A multiple-step income statement has three main parts: a. Gross profit net sales minus cost of goods sold), b. Income from operations gross profit less operating expenses, and c. Net income income from operations adjusted for nonoperating items. Operating expenses are classified into two sections: a. Selling expenses the expenses of promoting sales, making sales, and delivering goods to customers, and b.

General and administrative expenses expenses related to accounting, human resource management, and financial management. Nonoperating activities consist of other expenses, revenues, losses, and gains that are unrelated to a company s operations; reported in two sections: a. Other revenues and gains interest revenue, dividend revenue, rent revenue, and gains from asset disposals. Other expenses and losses interest expense, losses from asset disposals, and casualty losses. Single-Step Income Statement A single-step income statement includes cost of goods sold as an operating expense and shows only one subtotal for total expenses, one subtraction to arrive at net income.

Classified Balance Sheet The merchandiser s classified balance sheet reports merchandise inventory as a current asset, usually after accounts receivable. Global View 1. Accounting and Reporting for Merchandising Purchases and Sales Both GAAP and IFRS include similar guidance in accounting for merchandise purchases and sales. All of the transactions presented in this chapter, including the closing process, are accounted for identically under the two systems. Income Statement Presentation IFRS tends to use the term profit more than any other term.

GAAP statements use neet income the most. Both GAAP and IFRS income statements begin with net sales (or net revenue) followed by cost of goods sold for merchandisers/manufacturers. GAAP offers little guidance about the presentation or order of expenses. IFRS requires separate disclosures for financing costs, income tax expense and other special items. Both systems require separate disclosure of items when their size, nature or frequency are important for proper interpretation.

IFRS permits expenses to be presented by their function or nature. GAAP provides no direction but the SEC requires presentation by function.

Neither GAAP nor IFRS define operating income, so classification of expenses into operating or nonoperating reflects management discretion. IFRS permits alternative measures of income; US GAAP prohibits disclosure of alternative income measures. Balance Sheet Presentation GAAP balance sheets report current items first, with assets listed from most liquid to least liquid and liabilities are listed from nearest to maturity to furthest from maturity. IFRS balance sheets present noncurrent items first but this is not a requirement. Decision Analysis Acid-Test and Gross Margin Ratios A.

Acid-Test Ratio 1. The acid-test ratio is used to assess the company's liquidity or ability to pay its current debts; it differs from the current ratio by excluding less liquid current assets. It is calculated by dividing quick assets by current liabilities; quick assets are cash, short-term investments, and current receivables. Rule of thumb is that the acid-test ratio should have a value of at least 1.0 to conclude that a company is unlikely to face near-term liquidity problems. Gross Margin Ratio 1.

Accounting For Merchandising Operations Test

The gross margin ratio (also called gross profit ratio) is used to assess a company s profitability before considering operating expenses. It is calculated by dividing gross margin (net sales cost of goods sold) by net sales. Periodic Inventory System (Appendix 4A) A.

Study Guide Accounting For Merchandising Operations Solutions

Records merchandise acquisitions, discounts and returns in temporary accounts (Purchases, Purchase Returns, Purchases Discounts) rather than the merchandise inventory account. Records only the revenue aspect of sales-related events; updates inventory and determines cost of goods sold only at the end or the accounting period. The Merchandise Inventory account can be updated as part of the adjusting or closing process. Requires closing additional temporary accounts. Work Sheet Perpetual System (Appendix 4B) Differs slightly from the work sheet layout for a service company in Chapter 3; includes additional accounts used by a merchandiser: Merchandise Inventory, Sales, Sales Returns and Allowances, Sales Discounts, and Cost of Goods Sold.