Chapter 5:
Accounting for Merchandising Business
Nature of Merchandising Business
 Revenue activities of a merchandising business involve the buying and
selling of merchandise. They purchase merchandise which is resold to
customers.
 Comparison to Service Business
Service Business
Merchandising Business
Fees earned
Sales
Less Operating expenses
Less Cost of merchandise sold
=Net income
=Gross Profit
Less Operating expenses
=Net Income
 New Accounts on the Income Statement
o SALES – revenues collected from the sale of merchandise
o COST OF MERCHANDISE SOLD – the purchase price plus
incidentals of merchandise available for resale
o GROSS PROFIT – Sales – COMS
INCOME STATEMENT
Gem City Music
Income Statement
For the Year Ended December 31, 20—
Revenue from sales: .......................................
Sales
...................................................
Less:
Sales returns and allowances
$
1,700
Sales discounts ......................
500
Net sales ..................................................
Cost of merchandise sold XXXX....................
Gross profit ...................................................
Operating expenses:
Selling expenses:
Sales salaries expense .....................
$17,700
Administrative expenses:
Rent expense
$
7,800
Office salaries expense .....................
22,550
Depreciation expense—office equipment
2,800
Total operating expenses .......................
Income from operations .................................
Other expense:
Interest expense......................................
Net income
...............................................
Fall 2007
Prof. M. Mari
Page 1
$189,300
$
2,200
$187,100
100,000
87,100
$
33,150
50,850
36,250
$
2,000
34,250
Chapter 5:
Accounting for Merchandising Business
XXXX
Computation of Cost of Merchandise Sold
Purchases
Less merchandise inventory, December 31
=Cost of merchandise sold
Computation of Cost of Merchandise Purchased
Purchases
Less: purchases returns and allowances
Less: purchases discount
=Net purchases
Add: transportation in
=Cost of merchandise purchased
 New Accounts on the Balance Sheet
o Merchandise inventory – merchandise on hand at the end of an
accounting period.
Merchandising Transactions
Chart of Accounts for Merchandising Business
Assets
Cash
Accounts receivable
Merchandise inventory
Office Supplies
Prepaid Insurance
Store Equipment
Acc. Depreciation
Office Equipment
Acc. Depreciation
Liabilities
Accounts payable
Salaries payable
Unearned rent
Notes payable
Stockholder’s Equity
Capital stock
Retained earnings
Dividends
Fall 2007
Prof. M. Mari
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Chapter 5:
Accounting for Merchandising Business
Income Summary
Revenues
Sales
Sales returns and allowances
Sales discounts
Costs and Expenses
Sales salaries expense
Advertising expense
Depreciation expense
Misc. selling expense
Office salaries expense
Rent expense
Insurance expense
Office supplies expense
Other income
Rent revenue
Other expense
Interest expense
Accounting for Sales
Under the perpetual inventory system, all sales require the reporting of the removal
of inventory from the books at the same time.
1. CASH SALES
Example 1: Sold merchandise for cash $5,000. Cost of merchandise sold
$3,200
Date
Account
PR
Debit
Credit
Cash
$5,000
Sales
$5,000
Cost of merchandise sold
Merchandise inventory
3,200
3,200
Note: that sales are credited for the sales price and merchandise inventory is
credited for the COST.
2. MASTERCARD OR VISA
The transaction requires a debit to CASH since the money is deposited in the
vendor’s account overnight.
Fall 2007
Prof. M. Mari
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Chapter 5:
Accounting for Merchandising Business
But a reduction of the cash account must be made for the service charge
from the credit card company, which is directly taken out of the account.
Example 2: Sold merchandise on VISA $10,000. Cost of merchandise sold
is $4,000. Credit card expense is 3% of sales.
Date
Account
PR
Cash
Sales
Debit
$10,000
Credit
$10,000
Cost of merchandise sold
Merchandise inventory
4,000
Credit card expense
Cash
300
4,000
300
Example 3: Sold merchandise on VISA $6,000. Cost of merchandise sold is
$3,000. Credit card expense is 3% of sales.
Date
Account
PR
Debit
Credit
3. SALES ON ACCOUNT
Includes sales to nonblank credit cards such as AMERICAN EXPRESS
Example 4: Sold merchandise on account $6,000. Cost of merchandise sold
is $3,000.
Fall 2007
Prof. M. Mari
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Chapter 5:
Accounting for Merchandising Business
Date
Account
Accounts receivable
Sales
PR
Debit
$6,000
Credit
6,000
Cost of merchandise
Merchandise inventory
3,000
3,000
Recap: Under the perpetual inventory system, all sales transactions consist of at least
two entries. The first entry records the sale at the selling price with a debit to how it will
be paid and credit to sales. The second entry records the merchandise leaving the
business with a debit to cost of merchandise sold and credit to merchandise inventory for
the cost of the merchandise.
Sales Discounts
– A reduction in the price of the good for early payment.
– This account is a contra – SALES
– Upon payment of the account receivable, if the payment is within the
discount period, we record the discount.
– Credit terms – terms of when payments for merchandise are to be made.
Net 30 days – full amount due in 30 days
2/10 – 2% discount if paid within 10 days
Example 5: Sold merchandise on account $5,000, terms 2/10, n/30. Cost of
merchandise sold is $4,000.
Date
Sales
Discount
Discount $
$5,000
2%
$100
Sales
Less discount
Net amount
$5,000
100
4,900
Account
Cash
Sales discount
Accounts receivable
Fall 2007
Prof. M. Mari
Page 5
PR
Debit
4900
100
Credit
5000
Chapter 5:
Accounting for Merchandising Business
Sales Returns and Allowances
–
–
–
–
Merchandise sold may be returned to the seller
Merchandise sold may be reduced in price due to defects
This account is CONTRA – sales
Increases with a debit
Example 6: Sold merchandise on account $7,000, terms 1/15, n/30. Cost of
merchandise sold is $3,800.
Date
Account
Accounts receivable
Sales
PR
Debit
$7,000
Credit
7,000
Cost of merchandise
Merchandise inventory
3,800
3,800
Return merchandise with sales price of $2,000 and cost of $1,000.
Date
Account
Sales returns
Accounts receivable
Merchandise inventory
Cost of merchandise sold
PR
Debit
2,000
Credit
2,000
1,000
1,000
Example 7: ABC Merchandising had the following transactions:
a> Sold merchandise and received payment by VISA at $6,000, cost of
merchandise sold is $4,000.
b> Sold merchandise on account for $7,500 with credit terms 1/10, n/30. Cost of
the merchandise is $4,500.
c> Sold merchandise on account for $4,000, cost of merchandise is $2,500.
d> Received a return of the merchandise in (c ) of sales price of $2,000 and cost
of $1,750.
e> Received payment within the discount period for merchandise in (b).
Fall 2007
Prof. M. Mari
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Chapter 5:
Accounting for Merchandising Business
f> Received payment for merchandise in (c ).
Record the Transactions.
Accounting for Purchases:
– Under perpetual inventory system.
Example 8: Purchase merchandise for resale $4,000 on account.
Date
Mar 1
Account
Merchandise inventory
Accounts payable
PR
Debit
$4,000
Credit
$4,000
Purchases Discounts
– Purchases discounts are discounts taken by the buyer for early payment
of an invoice.
– These discounts reduce the cost of the merchandise purchased.
– Should be taken when offered if not it is a LOSS to the business.
Example 9: Purchase merchandise for resale $4,000, terms 2/10, n/30 on account.
Invoice:
Discount (2% x $4,000)
Net of discount
Account
Date
Mar 1
Mar 10
$4,000
80
3,920
PR
Debit
Merchandise inventory
Accounts payable
$4,000
Accounts payable
Cash
Merchandise inventory
$4,000
Fall 2007
Prof. M. Mari
Page 7
Credit
$4,000
$3,920
80
Chapter 5:
Accounting for Merchandising Business
Reduction of the cost of the merchandise is reflected in the merchandise inventory
account.
Example 10: Purchase merchandise for resale $6,000, terms 1/15, n/30 on account.
Date
Account
PR
Debit
Credit
Purchases Returns and Allowances
o Purchase returns – merchandise is returned to the seller
o Purchase allowances – price adjustment
o Debit memorandum – notification of the return or allowance by seller
Example 11: Returned merchandise on account $2,500.
Date
Account
Mar 09
Accounts payable
Cash
PR
Debit
$2,500
Credit
$2,500
Example 12: Purchased merchandise of $8,000 on terms 2/10,n/30. Ennis pays the
original invoice less a return of $2,500 within the discount period. Record the above
entries.
Date
Fall 2007
Prof. M. Mari
Page 8
Account
PR
Debit
Credit
Chapter 5:
Accounting for Merchandising Business
Recap of Purchasing Transactions
Example 7: ABC Merchandising had the following transactions:
Purchased merchandise and received payment by VISA at $6,000.
Purchased merchandise on account for $7,500 with credit terms 1/10, n/30.
Purchased merchandise on account for $4,000.
Return of the merchandise in (c ) of sales price of $2,000.
Paid within the discount period for merchandise in (b).
Paid for merchandise in (c ).
Transportation Costs
– The terms of a sale should indicate when the ownership of the
merchandise passes to the buyer.
 This point determines which party, the buyer or the seller must pay
the transportation costs.
o FOB – shipping point
 The ownership of the merchandise passes to the buyer when the seller
delivers the merchandise to the transportation company.
 Buyer pays the transportation costs
Example 13: Purchased merchandise for $4,000 with shipping costs of $50 FOB
shipping point.
Date
Account
Merchandise inventory
Accounts payable
Merchandise Inventory
Cash
PR
Debit
$4,000
Credit
$4,000
$50
$50
o FOB – destination point
 The ownership of the merchandise passes to the buyer when the seller
delivers the merchandise to the buyer.
 Seller pays the transportation costs
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Prof. M. Mari
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Chapter 5:
Accounting for Merchandising Business
Example 14: Sold merchandise for $4,000 with shipping costs of $50 FOB destination.
Cost of merchandise sold is $2,000.
Date
Review for
Test!
Account
Accounts receivable
Sales
PR
Debit
$4,000
Credit
$4,000
Cost of merchandise sold
Merchandise inventory
2000
Delivery expense
Cash
50
2000
50
RECAP
FREIGHT TERMS
FOB
Shipping Point
FOB
Destination
Ownership (title)
passes to buyer
when merchandise
is ..................................................
Delivered to
freight carrier
Received
by buyer
Transportation
costs are paid
by.................................................
Buyer
Seller
Risk of loss during
transportation
belongs to ...................................
Buyer
Seller
Sales Taxes
– Liability to the business
– Create a SALES TAX PAYABLE account
Example 15: Sold merchandise on account $7,000, plus 5% sales tax. Cost of
merchandise sold is $3,800.
Fall 2007
Prof. M. Mari
Page 10
Chapter 5:
Accounting for Merchandising Business
Date
Account
Accounts receivable
Sales
Sales tax payable
PR
Debit
$7,350
Credit
7,000
350
Cost of merchandise
Merchandise inventory
3,800
3,800
RECAP of Sales and Purchases Transactions
Seller
Sold merchandise on account:
Accounts receivable
DR
Sales
CR
Cost of merchandise sold DR
Merchandise inventory
CR
Transportation costs Shipping point
Transportation costs – Destination:
Delivery Expense
DR
Cash
CR
Merchandise returned:
Sales Returns & Allowances DR
Accounts receivable
CR
Merchandise inventory
DR
Cost of merchandise sold
CR
Payment :
Cash
DR
Accounts receivable
CR
Payment with discount:
Cash
DR
Sales discount
DR
Accounts receivable
CR
Buyer
Purchased merchandise on account:
Merchandise Inventory DR
Accounts Payable
CR
Transportation costs Shipping point:
Merchandise Inventory DR
Cash
CR
Transportation costs - Destination
Merchandise returned:
Merchandise inventory DR
Accounts payable
Payment:
Accounts payable
DR
Cash
CR
Payment with discount:
Merchandise inventory DR
Cash
CR
Adjusting Entries:
–
Fall 2007
Prof. M. Mari
Page 11
CR
Inventory Shrinkage
 Difference between physical count and books
Chapter 5:
Accounting for Merchandising Business
Example 16: Suppose that physical inventory shows balance of $20,000 and books show balance of
$23,000. Record the shrinkage.
Date
Account
Cost of merchandise sold
Merchandise inventory
Closing Entries:
o Accounts that must be closed
 Sales
 Rent revenue
 Sales returns and allowances
 Sales discounts
 Cost of merchandise sold
 All expenses and revenues
 Dividends
Fall 2007
Prof. M. Mari
Page 12
PR
Debit
3,000
Credit
3,000