Accounting for Merchandise
Operations
Chapter 4
Income Statement Accounts

Sales


Revenue account
Sales discounts


Amounts deducted from sales price if customer
meets certain payment terms

2/10, n/30 – 2% discount if paid within 10 days, or entire
amount due within 30 days

EOM – end of month
Sales returns and allowances

Amounts returned by customer, or price reductions given
for various reasons
Income Statement Accounts

Presentation of net sales on the income
statement
Sales
Less: Sales discounts
Sales returns and allowances
Net sales
$ 500,000
$
4,000
12,000
16,000
$ 484,000
Income Statement Accounts

Purchases


Purchase discounts


Inventory purchased from suppliers
Discounts received from supplier for prompt
payment
Purchase returns and allowances

Amounts returned to supplier, or price reductions
granted by supplier for various reasons
Income Statement Accounts

Freight-in

Amount paid to have merchandise shipped from
the supplier


Additional cost of the merchandise inventory
Delivery expense

Amount paid to deliver merchandise to the
customer
Income Statement Accounts

Calculation of the cost of merchandise sold
Beginning merchandise inventory
Purchases
Less: Purchase discounts
$
Purchase returns and allowances
Net purchases
Add: Transportation-in
Cost of goods purchased
Goods available for sale
Less: Ending merchandise inventory
Cost of merchandise sold
$ 46,000
$ 286,000
1,900
8,700
10,600
$ 275,400
2,400
277,800
$ 323,800
41,000
$ 282,800
Inventory Methods

Periodic

Inventory account does not change during the
year

Purchases, purchase discounts, purchase returns
and allowances are recorded in their respective
accounts

No entry is made to record the cost of
merchandise sold

Inventory is counted at year-end and records are
adjusted at that time
Inventory Methods

Perpetual


Any transaction affecting inventory is recorded in
the inventory account

Purchases, purchase discounts, purchase returns and
allowances, transportation-in accounts are not used

Cost of merchandise sold is recorded at the time of the
sale
Provides “real-time” information on inventory
levels and cost of merchandise sold
Accounting for Merchandise Transactions

Sales


Increase revenue (retained earnings) and
increase cash or accounts receivable
Sales discounts

Sale is recorded at the gross amount

If customer pays within the discount period

Increase cash by the amount received

Decrease accounts receivable by the gross amount

Record the sales discount (decrease in retained
earnings)
Accounting for Merchandise Transactions

Sales returns and allowances

If the sale was for cash



If the sale was on credit



Decrease cash
Record the sales return (decrease retained earnings)
Decrease accounts receivable
Record the sales return (decrease retained earnings)
Record the return of the merchandise


Increase inventory
Reduce the cost of merchandise sold (increase retained
earnings)
Accounting for Merchandise Transactions

Purchases of merchandise from supplier


Periodic method

Record the purchase (decrease retained earnings)

Increase accounts payable or decrease cash
Perpetual method

Increase inventory

Increase accounts payable or decrease cash
Accounting for Merchandise Transactions

Purchase discounts

Periodic method




Decrease accounts payable by the gross amount
Decrease cash by the amount paid
Record the purchase discount (increase retained
earnings)
Perpetual method



Decrease accounts payable by the gross amount
Decrease cash by the amount paid
Decrease inventory by the amount of the discount
Accounting for Merchandise Transactions

Purchase returns and allowances


Periodic method

Record the amount of the return or allowance (increase
retained earnings)

Decrease accounts payable or increase cash
Perpetual method

Decrease inventory

Decrease accounts payable or increase cash
Accounting for Merchandise Transactions

Transportation-in


Periodic method

Record transportation-in (decrease retained earnings)

Decrease cash or increase accounts payable
Perpetual method

Increase inventory

Decrease cash or increase accounts payable
Statement of Cash Flows
Indirect Method

Cash flows from operating activities may be
calculated indirectly by starting with net
income and adjusting for various items

Add depreciation and other non-cash expenses

Add (subtract) decreases (increases) in all current
asset accounts except cash

Add (subtract) increases (decreases) in all current
liability accounts
Statement of Cash Flows
Indirect Method

Dr. B’s easy rule for the indirect method

If it sounds good, treat it as something bad

Did a current asset increase? That sounds good, so
treat it as something bad (subtract the increase from net
income)

Did a current liability increase? That sounds bad, so
treat it as something good (add the increase to net
income)