Chapter 5 Part 2


Businesses take actual count of inventory at least
once per year
Actual count of inventory may differ from amount
on the books due to:
◦ Theft or Damage – Inventory Shrinkage
◦ Errors
GENERAL JOURNAL
DATE
REF
DESCRIPTION
DEBIT
CREDIT
Cost of goods sold
Inventory
To adjust for shrinkage
Copyright (c) 2009 Prentice Hall. All rights reserved.
2
$ 40,500 (per books)
-40,200 (physical count)
$
300 (shrinkage)
GENERAL JOURNAL
DATE
DESCRIPTION
REF
DEBIT
Cost of Goods Sold
Inventory
Adjustment for shrinkage
CREDIT
300
300
3
Prepare a merchandiser’s financial statements
Copyright (c) 2009 Prentice Hall. All rights reserved.
4
Multi-step

Lists several important
subtotals
◦ Gross profit
◦ Operating income

More popular
Single-step

Groups all revenue and
all expenses together
◦ No subtotals

Works well for service
companies
Copyright (c) 2009 Prentice Hall. All rights reserved.
5
Step 1 – Net Sales Revenue
Sales Revenue
– Sales Discounts
– Sales Returns and Allowances
Net Sales Revenue
6
Step 2: Gross Profit
Net sales
- Cost of goods sold
Gross profit
7
Step 3: Operating Income

Operating Expenses
8
Step 3: Operating Income
Net sales
Cost of goods sold
Gross profit
-Operating expenses
Operating income
9
Step 4: Net Income (Loss)
+ Other revenues
- Other expenses
10
Net sales
Cost of goods sold
Gross profit
-Operating expenses
Operating income
Other revenue and expense
Net income (loss)
11
Greg’s Groovy Tunes
Income Statement
Year Ended December 31, 2011
Sales Revenue
$169,300
Less: Sales Ret. & Allowances
(2,000)
Sales Discounts
(1,400)
(3,400)
Net Sales Revenue
$165,900
Cost of Goods Sold
(90,800)
Gross Profit
75,100
Operating Expenses:
Wages expense
$10,200
Rent expense
8,400
Insurance expense
1,000
Depreciation expense
600
Supplies expense
500
20,700
Operating Income
54,400
Other revenue and (expenses):
Interest expense
(1,300)
Net Income
$53,100
12
Multi-step

Lists several important
subtotals
◦ Gross profit
◦ Operating income

More popular
Single-step

Groups all revenue and
all expenses together
◦ No subtotals

Works well for service
companies
Copyright (c) 2009 Prentice Hall. All rights reserved.
13


A single-step income statement is one of two
commonly used formats for the income statement
or profit and loss statement. The single-step
format uses only one subtraction to arrive at net
income.
Net Income = (Revenues + Gains) – (Expenses +
Losses)
14
15

The multiple-step profit and loss statement
segregates the operating revenues and operating
expenses from the nonoperating revenues,
nonoperating expenses, gains, and losses. The
multiple-step income statement also shows the
gross profit (net sales minus the cost of goods
sold).
16
17
Net sales
Cost of goods sold
Expenses
Net income (loss)
18
Greg’s Groovy Tunes
Income Statement
Year Ended December 31, 2011
Sales Revenue
$169,300
Less: Sales Ret. & Allowances
(2,000)
Sales Discounts
(1,400)
(3,400)
Net Sales Revenue
$165,900
Operating Expenses:
Cost of goods sold
Wages expense
Rent expense
Interest expense
Insurance expense
Depreciation expense
Supplies expense
Total expense
Net Income
$90,800
10,200
8,400
1,300
1,000
600
500
(112,800)
$53,100
19



Shows relationship of each item to a base amount
on financial statements
Income statement – each item expressed as
percentage of net sales
Balance sheet – each item expressed as
percentage of total assets
20
Percentages based on total revenues:
Cost of goods sold:
2010: 90,000/150,000 = 60%
2011: 90,800/165,900 = 54.7%
Wages Expenses:
2010: 7,500/150,000 = 5%
2011: 10,200/165,900 = 6.1%
21
Percentages based on total revenues:
Rent Expense:
2010: 8,400/150,000 = 5.6%
2011: 8,400/165,900 = 5.1%
Interest Expense:
2010: 1,500/150,000 = 1%
2011: 1,300/165,900 = .8%
22
Percentages based on total revenues:
Insurance Expense:
2010: 1,500/150,000 1%
2011: 1,000/165,900 = .6%
Depreciation Expense:
2010: 3,000/150,000 = 2%
2011: 1,600/165,900 = .4%
23
Percentages based on total revenues:
Supplies Expense:
2010: 600/ 150,000 = .4%
2011: 500/165,900 = .3%
24
Comparative Vertical Analysis Income Statement
Years Ended December 31, 2011 and 2010
2011
Net Sales
$165,900
2010
100.0%
$150,000
100.0%
Cogs
90,800
54.7%
90,000
60%
Wages Expense
10,200
6.1
7,500
5
8,400
5.1
8,400
5.6
1,300
.8
1,500
1
1,000
.6
1,500
1
Depreciation Expense
600
.4
3,000
2
Supplies Expense
500
.3
600
.4
Rent Expense
Interest Expense
Insurance Expense
Total Expenses
112,800
68%
112,500
75%
Net Income
$53,100
32%
37,500
25%
25
Greg’s Groovy Tunes
Statement of Owner’s Equity
Year Ended December 31, 2011
Amy Toms, Capital, Dec. 31, 2010
$25,900
Net Income
53,100
Subtotal
$88,550
Greg Moore, Withdrawals
(54,100)
Greg Moore, Capital, Dec. 31, 2011
$24,900
26
Greg’s Groovy Tunes
Balance Sheet
December 31, 2011
Assets
Current Assets
Cash
Accounts Receivable
Inventory
Prepaid Insurance
Supplies
Total Current Assets
Furniture
$33,200
Accumulated
depreciation
(3,000)
Total Assets
$2,800
4,600
40,200
200
100
$47,900
30,200
$78.100
Liabilities
Current Liabilities
Accounts Payable
Unearned Serv. Revenue
Wages payable
Total Current Liabilities
Long-term Liabilities:
Notes payable
Total Liabilities
Owner’s Equity
Greg Moore, Capital
Total Liabilities &
Owner’s Equity
27
$39,500
700
400
$40,600
12,600
53,200
24,900
$78,100
Use gross profit percentage and inventory turnover
to evaluate a business
Copyright (c) 2009 Prentice Hall. All rights reserved.
28
Gross Profit
Net Sales
Carefully watched measure
Small increase may
indicate rise in income
Small decrease may
indicate trouble
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29
Gross Profit
Net Sales
What is Gross Profit? It is what you have left from sales after
paying for the cost of making those sales, to pay all other expenses.
If your costs of inventory starts to rise and you don’t raise your
prices to increase net sales, this ration will start to fall this means
your overall profits are being squeezed.
Net Sales
Less: Cost of Goods Sold
-------------------------------Gross Profit
Copyright (c) 2009 Prentice Hall. All
rights reserved.
30
Gross Profit-$75,100
Net Sales- $165,900
45.3%
Carefully watched measure
Small increase may
indicate rise in income
Small decrease may
indicate trouble
Copyright (c) 2009 Prentice Hall. All rights reserved.
31
Cost of goods sold
Average inventory
Measures how rapidly inventory is sold
(To get the amount of cost of goods sold that I did this year, how
many times was the amount I kept in inventory replaced?) Because
inventory costs money to keep around, the more cost of goods sold I
can get from a very small inventory the better.)
The higher the turnover, the more
quickly inventory is sold
Copyright (c) 2009 Prentice Hall. All rights reserved.
32
Cost of goods sold
Average inventory

To get the amount of cost of goods sold that I did
this year, how many times was the amount I kept
in inventory replaced?) Because inventory costs
money to keep around, the more cost of goods
sold I can get from a very small inventory the
better.
Copyright (c) 2009 Prentice Hall. All rights reserved.
33
Compute the Rate of Inventory turnover
assuming that Groovy Tunes had a 12/31/10
Inventory of $38,600 and a $40,200 Inventory on
12/31/11
34
Inventory Turnover:
Cost of goods sold = $90,800
= 2.3 times
Average inventory $(38,600+40,200)/2
35
Adjust and close the accounts of a merchandising
business
Copyright (c) 2009 Prentice Hall. All rights reserved.
36
Greg’s Groovy Tunes
Income Statement
Year Ended December 31, 2011
Sales Revenue
$169,300
Less: Sales Ret. & Allowances
(2,000)
Sales Discounts
(1,400)
(3,400)
Net Sales Revenue
$165,900
Cost of Goods Sold
(90,800)
Gross Profit
75,100
Operating Expenses:
Wages expense
$10,200
Rent expense
8,400
Insurance expense
1,000
Depreciation expense
600
Supplies expense
500
20,700
Operating Income
54,400
Other revenue and (expenses):
Interest expense
(1,300)
Net Income
$53,100
37
1. Close all income statement accounts with credit
balances to Income Summary
2. Close all income statement accounts with debit
balances to Income Summary
3. Close Income Summary to Capital
4. Close Withdrawals to Capital
38
GENERAL JOURNAL
DATE
DESCRIPTION
Dec 31 Sales Revenue
Income Summary
REF
DEBIT
CREDIT
169,300
169,300
39
1. Close all income statement accounts with credit
balances to Income Summary
2. Close all income statement accounts with debit
balances to Income Summary
3. Close Income Summary to Capital
4. Close Withdrawals to Capital
40
GENERAL JOURNAL
DATE
DESCRIPTION
Dec 31 Income Summary
Sales Ret. & Allowances
Sales Discounts
Cost of goods sold
Wages Expense
Rent Expense
Depreciation Expense
Insurance Expense
REF
DEBIT
CREDIT
116,200
2,000
1,400
90,800
10,200
8,400
600
1,000
Supplies Expense
500
Interest Expense
1,300
41
1. Close all income statement accounts with credit
balances to Income Summary
2. Close all income statement accounts with debit
balances to Income Summary
3. Close Income Summary to Capital
4. Close Withdrawals to Capital
42
GENERAL JOURNAL
DATE
DESCRIPTION
Dec 31 Income Summary
Greg Moore, Capital
(169,300 – 116,200)
REF
DEBIT
CREDIT
53,100
53,100
43
1. Close all income statement accounts with credit
balances to Income Summary
2. Close all income statement accounts with debit
balances to Income Summary
3. Close Income Summary to Capital
4. Close Withdrawals to Capital
44
GENERAL JOURNAL
DATE
DESCRIPTION
Dec 31 Income Summary
Greg Moore, Capital
(169,300 – 116,200)
31 Greg Moore Capital
REF
DEBIT
CREDIT
53,100
53,100
54,100
Greg Moore, Withdrawals
54,100
45