Financial Accounting: Tools for Business Decision Making, 2nd Ed. Kimmel, Weygandt, Kieso 1 Chapter 5 Chapter 5 Merchandising Operations After studying Chapter 5, you should be able to: Identify the differences between a service enterprise and a merchandising company. Explain the recording of purchases under a perpetual inventory system. Explain the recording of sales revenues under a perpetual inventory system. Distinguish between a single-step and a multi-step income statement. Explain the factors affecting the profitability. 3 Service enterprises perform services as their primary source of revenue Merchandising companies buy and sell merchandise Differences Between a Service Enterprise and a Merchandising Company In a merchandising company, the primary source of revenues is the sale of merchandise, referred to as sales revenue or sales. Unlike expenses for a service company, expenses for a merchandising company are divided into two categories: Cost of goods sold - the total cost of merchandise sold during the period. Operating expenses - selling and administrative expenses. 5 Terms Sales revenue or sales = sale of merchandise Cost of goods sold = total cost of merchandise sold 6 Illustration 5-1 Page 202 in book How Income is Measured in a Merchandising Company Sales Revenue Less Cost of Goods Sold Equals Gross Profit Less Operating Expenses Equals Net Income (Loss) 7 Operating cycle of a company is... the average time it takes to go from cash to cash in producing revenues. TO 8 Operating cycle of a merchandising company is... ordinarily longer than than that of a service company; purchase of merchandise and its sale lengthens the cycle. 9 Illustration 5-2 Service Company Receive Cash Perform Services Cash Accounts Receivable Merchandising Company Receive Cash Cash Buy Inventory Sell Inventory Accounts Receivable Merchandise 10 Inventory Inventory Systems Perpetual - detailed inventory system in which the cost of inventory is maintained and the records continuously show the inventory that should be on hand Periodic -inventory system in which detailed records are not maintained and the cost is goods sold is determined only at end of accounting period 11 Illustration 5-3 Comparing Periodic and Perpetual Inventory Systems Inventory Purchased Item Sold Perpetual Perpetual End of Period No Entry Record Purchase of Inventory Inventory Purchased Record Revenue and Cost of Goods Sold Item Sold End of Period Periodic Record Purchase of Inventory Record Revenue Only Compute Cost 12 Sold of Goods Computers 13 and electronic scanners have enabled many companies to install perpetual inventory systems What Is Charged to Merchandise Inventory? All Costs of getting the inventory to company and ready to sell +Freight-In +Special Permits Only costs associated with merchandise purchased for resale - not assets acquired for use, such as supplies 15 Merchandise Purchases On May 4 the company bought $ 3,800 worth of merchandise from PW Audio Supply, Inc. Task:Record the purchase by getting information from the Purchase Invoice. The Purchase Invoice is a copy of the sales invoice. 16 •1. Seller •2.Invoice Date •3.Purchaser •4.Salesperson •5.Credit terms •6.Freight terms •7.Goods sold: catalog no.,description, quantity, price per unit •8.Total invoice price Illustration 5-4 Invoice No. 731 Firm Name: Sauk Stero Attention o f James Hoover, Purchasing Agent Address 125 Main Street City Chelsea State Illinois Zip 60915 Date5/4/01 Salesperson Maone Terms 2/10,n/30 Freight Paid by Buyer Catalog No. Description A2547Z48 QTY Production Model Circuits IMPORTANT: ALL RETURNS MUST BE MADE WITHIN 10 DAYS 8 Price Amount 300 TOTAL 1,500 17 $3,800 Merchandise Purchases On May 4 the company bought $ 3,800 worth of merchandise from PW Audio Supply, Inc. Merchandise Inventory Accounts Payable May 4 3,800 Freight-out May 4 3,800 GENERAL JOURNAL May 4 Merchandise Inventory Accounts Payable Debit Credit 3,800 3,800 To record goods purchased on account 18 Purchases Returns and Allowances On May 8 the company returned $300 worth of merchandise to PW Audio Supply, Inc. Merchandise Inventory May 4 3,800 May 8 300 Accounts Payable Freight-out May 8 300 May 4 3,800 GENERAL JOURNAL May 8 Accounts Payable Merchandise Inventory Debit Credit 300 300 To record goods returned that were purchased on account 19 Freight Costs - On Incoming Inventory 20 Freight Costs - On Incoming Inventory On May 6 the company paid $ 150 to have the merchandise inventory delivered to them. Merchandise Inventory Freight-Out Cash May 4 3,800 May 8 300 May 6 May 6 150 150 GENERAL JOURNAL May 6 Merchandise Inventory Cash Debit Credit 150 150 To record payment of freight. 21 Freight Costs - On Outgoing Inventory 22 Freight Costs-on outgoing inventory On May 6 the seller company paid $ 150 to have merchandise inventory delivered to the buyer. Merchandise Inventory Freight-Out May 6 Cash 150 GENERAL JOURNAL May 6 Freight-Out Cash May 6 150 Debit Credit 150 150 To record payment of freight on goods sold. 23 Purchase Discounts •Credit terms of a purchase on account may permit the buyer to claim a cash discount for prompt payment. •Credit terms specify the amount of cash discounts and the time period during which it is offered. •2/10,n/30 •1/10 EOM 24 Purchases Discounts Review - Company purchased $3800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period Original Invoice -Returns Amount due before discount 2% discount Net due $3,800 300 $3,500 70 $3,430 25 Purchases Discounts Review - Company purchased $3800 of merchandise and returned $300. The credit terms are 2/10, n/30 and the invoice was paid within the discount period. Merchandise Inventory May 4 3,800 May 8 300 May 8 Accounts Payable Cash 300 May 4 3,800 May 14 70 May 14 3,500 GENERAL JOURNAL May 14 Accounts Payable Cash Merchandise Inventory To record payment within discount period. May 14 3430 Debit Credit 3,500 3,430 70 Sales Invoice ... a business document that provides written evidence of a credit sale. 27 •1. Seller •2.Invoice Date •3.Purchaser •4.Salesperson •5.Credit terms •6.Freight terms •7.Goods sold: catalog no.,description, quantity, price per unit •8.Total invoice price Illustration 5-4 Invoice No. 731 Firm Name: Sauk Stero Attention o f James Hoover, Purchasing Agent Address 125 Main Street City Chelsea State Illinois Zip 60915 Date 5/4/01 Salesperson Maone Terms 2/10,n/30 Freight Paid by Buyer Catalog No. Description A2547Z48 QTY Production Model Circuits IMPORTANT: ALL RETURNS MUST BE MADE WITHIN 10 DAYS 8 Price 300 TOTAL Amount 1,500 28$3,800 Sales Revenues Under a Perpetual System are recorded when earned-revenue recognition principle must be supported by a business documentwritten evidence 2 entries are made for each sale one to record sale one to record cost of merchandise sold 29 Sales - under a perpetual system Assume a CASH sale of $ 2,200 For merchandise having a cost of $ 1,400 Cash Accounts Receivable Merchandise Inventory May 4 2,200 May 4 1.400 Sales May 4 2,200 Sales Returns & Allowances Cost of Goods Sold May 4 1.400 Sales Returns and Allowances Flip side of purchase returns and allowance On buyer’s books GENERAL JOURNAL May 8 Accounts Payable Merchandise Inventory Debit Credit 300 300 To record goods returned that were purchased on account On seller’s books GENERAL JOURNAL May 8 Sales Returns and Allowance Accounts Receivable Debit Credit 300 To record return of goods delivered to Sauk Stero 300 31 Sales - under a perpetual system Assume a sale of $ 3,800 ON ACCOUNT For merchandise having a cost of $2,400 Accounts Merchandise Receivable Cash Inventory May 4 3,800 Sales May 4 3,800 Sales Returns & Allowances May 4 2,400 Cost of Goods Sold May 2,400 What Is the Sales Returns and Allowances Account? Contra Revenue Account to sales Used to show how much came in on returns and allowances Excessive returns and allowances suggest: inferior merchandise inefficiencies in filing orders errors in billing customers mistakes in delivery or shipment of goods 33 What Is the Sales Discount Account? Contra Revenue Account to sales Used to disclose amount of cash discounts taken by customers 34 Sales Discounts Flip side of purchase discounts On buyer’s books GENERAL JOURNAL May 14 Accounts Payable Cash Merchandise Inventory Debit Credit 3,500 3,430 70 To record payment within discount period On seller’s books GENERAL JOURNAL Debit Credit May 14 Cash Sales Discounts Accounts Receivable 3,430 70 To record collection within discount period 3500 35 Two Forms Of Income Statements Single-step income statement Multiple-step income statement 36 Single-Step Income Statement One step… subtract total expenses from total revenues Revenues $10,000 Expenses 3,000 Net income $ 7,000 37 PW AUDIO, Inc. Illustration 5-9 Single-step Income Statement For the Year Ended December 31, 2001 Sales Interest Revenue Gain on Sale of equipment Total Revenues Expenses Cost of goods sold Selling expenses Administrative expenses Interest expense Casualty Loss from vandalism Income tax expense Total expenses Net income $460,000 3,000 600 $463,600 $316,000 76,000 38,000 1,800 200 10,100 442,100 $ 21,500 Illustration 5-9 PW AUDIO SUPPLY, INC. Multi-step Income Statement For the Year Ended December 31, 2001 Sales revenues Sales Less: Sales returns and allowance Sales discounts Net sales Cost of goods sold Gross profit Operating expenses Selling expenses: Store salaries expense Advertising expense Depreciation expense Freight-out Total selling expenses Administrative expenses Salaries expense Utilities expense Insurance Expense Total administrative expenses Total operating expenses Income from operations $ 480,000 $12,000 8,000 20,000 460,000 316,000 $ 144,000 $45,000 16,000 8,000 7,000 $76,000 $19,000 17,000 2,000 38,000 114,000 $ 30,000 PW AUDIO SUPPLY, INC. Multi-step Income Statement For the Year Ended December 31, 2001 Income from operations (continued) Other revenues and gains Interest revenue Gain on sale of equipment Illustration 5-9 $ 30,000 $ 3,000 600 $ 3,600 Other expenses and losses Interest expense Casualty loss from vandalism $ 1,800 200 2,000 Income before income income taxes Income tax expense Net Income 1,600 31,600 10,100 $21,500 Gross Profit Rate= Gross Profit Net Sales Company’s gross profit expressed as a percentage 41 Operating Expenses To Sales Ratio= Operating Expenses Net Sales Many companies have improved the efficiency of their operations, thus reducing the ratio of operating expenses to sales. 42 COPYRIGHT Copyright ©2000, John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. 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