Chapter 11
Accounting for a Merchandising Business
Merchandise Inventory
An account that stores the value of goods
not yet resold
 Periodic System: count merchandise not
sold at the end of the period to determine
cost of goods sold
 Perpetual System: record inventory and
cost of goods sold when sales made

Inventory Cycle
Cost of beginning inventory + cost of
merchandise purchased – cost of
merchandise sold = cost of ending
inventory
i.e. 42500 + 143000 (=total goods avail. for
sale) – 149100 = $36400
 If periodic system used have to take a
physical inventory at statement time
Physical Inventory

This ending inventory figure is important:
 It is the current asset on the balance
sheet (as it will normally be sold within
one year)
 Needed to calculate the cost of goods
sold figure for the income statement
 It is used as beginning inventory figure
for the next accounting period
COGS on the Income Statement
Inventory that is not sold goes on the
balance sheet (Merchandise Inventory)
 Cost of the inventory that WAS sold goes
on the income statement (Cost of Goods
Sold)

COGS
Cost of beginning inventory + cost of
merchandise purchased – cost of ending
inventory = cost of goods sold
 i.e.42500+143000-36400 = 149100 COGS

Gross Profit
The difference between the
selling price and the cost price
of the goods sold
 Revenue – Cost of Goods
Sold = Gross Profit
 Gross Profit – Expenses = Net
Income

RECAP
Final inventory figure recorded on balance
sheets as Current Asset
 Cost of Goods Sold recorded on income
statement
 Neither inventory figure or COGS known
during accounting period

New accounts
Merchandise Inventory
Inventory counted at fiscal year-end
 It becomes the beginning inventory figure
for the next fiscal period
 The periodic inventory adjustment is the
only accounting entry made to this account

Purchases Account
Short form for “purchases of merchandise
for resale”
 Found in expense section
 Not the same as purchasing office
supplies for use in company, would be
recorded in Office Supplies, however a
stationary store purchases paper to sell to
customers would be recorded in
Purchases account

Journal Entry
June 27 Purchases
100
HST Recoverable
13
Bank
113
-to record purchase of merchandise
Sales Account
Revenue account for a merchandising
business
Journal Entry
Bank (or Accounts Rec) 169.50
HST Payable
19.50
Sales
150
-sale of merchandise

Freight-in Account





Considered part of COGS
Used to accumulate any transportation charges
on incoming goods
Kept separate from transportation charges on
outgoing goods (recorded in Delivery Expense)
Usually placed right after Purchases account in
ledger
Duty – special charges imposed by the
government on certain goods imported from a
foreign country
Journal Entry
June 27 Freight-In
200
HST Recoverable 26
Bank
226
-to record freight charges on purchases
Adjustment to Formula
Beg. Inv + (Purchases + Freight-in) – Ending
Inventory = Cost of Goods Sold
Figure 11.5 in text
Closing Entries
Closing entry process automatically
updates the inventory account at the end
of the fiscal period
 Close Merch. Inv (credit) with Sales to
Income Summary
 Close Merch Inv. (debit) with Expenses to
Income Summary
 Close Capital and Drawings as before
 See fig 11.8 and 11.9 in text

Merchandise Returns & Allowances

Credit invoices used to adjust, correct or
cancel a charge to a customer’s account
for:
Defective goods
 Goods less than satisfactory but kept by
customer (given an allowance or reduction)
off the invoice price
 Error made on sales invoice

Journal Entry
For books of the vendor: Remember for
sales DR AR and CR Sales and HST
payable
 Credit invoice has opposite effect


DR Sales and HST Payable and CR AR
Journal Entry

For books of purchaser:

DR AP and CR purchases and HST
recoverable
Cash Refunds
When a cash sale was made, no credit
invoice is issued
 Cash handed back or a cheque is issued

DR Sales
 DR HST Payable


CR Bank
Returns and Allowances




Some businesses (i.e. large department stores)
have a separate account for returns called Sales
Returns and Allowances so they can see what
proportion of merchandise has been returned
DR Sales Returns and Allowances account
instead of Sales Account
See Fig. 11.13 in text
Same concept is used for purchases returns and
allowances
COGS Formula Revised
Cost of beg. Inv + Net Cost of goods
purchased – cost of ending inv. =
Cost of goods sold
Sales Discounts
A reduction of the amount of a bill if
payment is made on or before discount
date stated on the bill
 Purpose is to encourage customer to pay
promptly

Terms of Sale





Refers to the arrangements made with
customers as to when the goods or services are
to be paid
COD: customer pays when goods delivered
Net 30/Net 60: full amount due in 30/60 days
EOM: full amount due at end of the month
2/10, n/30: receive 2% discount if paid within 10
days after invoice received otherwise full in 30
days
Journal Entry

Books of buyer Terms 2/10, n/30
Purchases
411.90
HST Recoverable
53.55
Accounts Payable
465.45
-purchase of goods
Accounts Payable
465.45
Discounts Earned
9.31
Bank
456.14
-payment of purch inv. With discount
Journal Entry
In books of seller
Accounts Receivable 465.45
Sales
411.90
HST Payable
53.55
-sale of goods on account
Bank
456.14
Discounts Allowed
9.31
Accounts Receivable
465.45
-payment of account with discount earned

Called Net
Purchases
=
=
Income Statement
Perpetual Inventory




Detailed record of items in stock is kept up to
date on an ongoing basis
As items sold info, is transferred directly to
store’s central computer which is programmed to
make the appropriate deductions from the
inventory and make accounting entries
Sales returns are generally handled by separate
department
System cannot automatically know when goods
are lost, stolen or broken; therefore have to do
manual check of inventory
Journal Entry Perpetual System
1. Bank
169.50
Sales
150
HST Payable
19.50
2. Cost of Goods Sold 100
Merchandise Inventory 100
For comparison of two systems see p. 463464 in text
Cost Accounting

A specialized area of accounting that
concentrates on determining, controlling
and reporting the costs of doing business


i.e. in a manufacturing business
To calculate cost of goods manufactured
(account similar to purchases in
merchandise business) look at raw
materials, direct labour and factory
overhead
Raw materials – essential components that
become part of the finished product
Direct labour – wages for employees who
have specific role in the making the
finished goods
Factory overhead – a range of expenses
that support the manufacturing process
Manufacturing Business Balance Sheet
On the balance sheet instead of reporting
on inventory you will report on the “goods”
which include Finished Goods Inventory
(similar to Merchandise Inventory), Raw
Materials Inventory and Goods in Process
Inventory
Schedule of Cost of Goods Sold
Goods Company
Schedule of Cost of Goods Sold
month ended October 31, 2005
Inventory, October 1
Add: Purchases
Less: Purchase Discounts
Purchases Returns & Allowances
Add: Transportation on Purchases
Cost of Goods Available for Sale
Less Inventory October 31
Cost of Goods Sold
$ 22,154.00
$ 48,966.00
$ 2,300.00
4,502.00
6,802.00
42,164.00
1,209.00
$ 65,527.00
19,877.00
45,650.00
Invoices
Sales Invoice: dr A/R cr Sales
 Credit Invoice: dr Sales Returns cr A/R
 Purchase Invoice: dr Purchases or
Inventory cr A/P

Journal Entries

Credit Sale
dr A/R
cr Sales
300
300
1/10, net 30, invoice #45
• Return
dr Sales Returns and Allowance 100
cr A/R
100
Journal Entries (periodic)

Payment within discount period
dr Cash
dr Sales Discounts
cr A/R
297
3
300
• Payment beyond discount
dr Cash
cr A/R
300
300
Journal Entries (periodic)

Purchase goods for resale (periodic)
dr Purchases
400
cr Cash or A/P
400
2/15, n/30, invoice #P398
• Payment within discount period*
dr A/P
cr Purchase Discounts
cr Cash
Cheque #26 for invoice #P398
* Otherwise A/P and Cash
400
8
392
Journal Entries

Transportation (for goods for resale)
dr Transportation-In
50
cr A/P or Cash
50
• Delivery Charge (for goods sold to customers)
dr Delivery Expense
cr A/P or Cash
25
25
Journal Entries (perpetual)
• Purchase good for resale:
dr Inventory
300
cr A/P or Cash
300
 Sale:
dr A/R or Cash
400
cr Sales
400
and
dr Cost of Goods Sold
cr Inventory
300
300
Worksheet
Merch Company
Worksheet
December 31, 2002
Six months ending
ACCOUNTS
TRIAL BALANCE
DEBIT
CREDIT
ADJUSTMENTS
DEBIT
CREDIT
INCOME STATEMENT
DEBIT
BALANCE SHEET
CREDIT
DEBIT
CREDIT
Cash
8,952.00
8,952.00
Accounts Receivable
7,500.00
7,500.00
Allowance for Bad Debts
Inventory
-
215.00
-
775.00
22,154.00
990.00
22,154.00
19,877.00
19,877.00
Supplies
2,900.00
1,400.00
1,500.00
-
Prepaid Insurance
4,800.00
200.00
4,600.00
-
Furniture and Equipment
18,650.00
Accum. Depreciation
Automobile
Accounts Payable
Bank Loan
GST Payable
1,000.00
3,214.00
2,155.00
Close all
3,996.00
41,997.00
22,559.00
119,877.00
2,687.00
2,687.00
15,899.00
15,899.00
48,966.00
48,966.00
4,502.00
4,502.00
1,209.00
1,209.00
310.00
6,500.00
Interest Expense
1,350.00
1,350.00
Wages Expense
680.00
680.00
18,000.00
18,000.00
2,415.00
2,415.00
29,663.00
29,663.00
220,150.00
775.00
Insurance Expense
200.00
200.00
1,400.00
1,400.00
775.00
Dep,n Expense, F&E
800.00
800.00
Dep'n Expense, Auto
1,200.00
1,200.00
4,375.00
Net Income
Close all
220,150.00
Bad Debts Expense
Supplies Expense
-
119,877.00
310.00
Telephone Expense
6,700.00
22,150.00
6,500.00
Rent Expense
18,700.00
1,000.00
Car Expense
Miscellaneous Expense
NEW
22,559.00
Purchases R & A
Bank Charges
Original
22,150.00
3,996.00
Service Revenue
Freight-in
1,200.00
41,997.00
Sales
Purchases
5,500.00
2,600.00
3,214.00
A. Merch, Capital
Sales Returns and Allow.
800.00
2,155.00
PST Payable
A. Merch, Drawings
1,800.00
18,700.00
Accum. Depreciation
GST Recoverable
18,650.00
4,375.00
138,309.00
21,846.00
160,155.00
160,155.00
160,155.00
104,493.00
104,493.00
82,647.00
21,846.00
104,493.00
Journal Entries (perpetual)

Inventory shortage (count at end of period)
dr Inventory Shortage
20
cr Inventory
20
Charge shortage to expense
Sales Taxes
HST: Harmonized Sales Tax 13%
 Typical Sale:

dr Cash or A/R
cr Sales
cr HST Payable
113
100
13
Sales Taxes

HST on Purchases:
dr Purchases (or Inventory, etc.) 200
dr HST Recoverable
16
cr Cash or A/P
216
• “Remit” HST if owing:
dr HST Payable
500
cr HST Recoverable
cr Cash
• Refund of HST is owed:
450
50
dr HST Payable
450
dr Cash
50
cr HST Recoverable
500
Credit Cards


Increases sales
Typical Sale:
dr Cash
dr Visa Discount Expense
cr Sales
cr HST Payable
$600 x 3% visa charge
660
18
600
78
Complete Income Statement
Merch Company
Income Statement
Six months ending December 31, 2002
Revenue
Sales
Less Sales Returns & Allowances
Service Revenue
Total Revenue
Cost of Goods Sold
Inventory, beginning
Add: Purchases
Less: Purchases Returns & Allowances
Add: Freight-in
Cost of Goods Available for Sale
Less Ending Inventory
Cost of Goods Sold
Gross Margin
Expenses
Bank Charges
Car Expense
Interest Expense
Miscellaneous Expense
Rent Expense
Telephone Expense
Wages Expense
Bad Debts Expense
Insurance Expense
Supplies Expense
Dep,n Expense, F&E
Dep'n Expense, Auto
Net Income
$
$
$ 48,966.00
4,502.00
$
$
119,877.00
2,687.00
$
$
117,190.00
15,899.00
133,089.00
$
47,950.00
85,139.00
$
63,293.00
21,846.00
22,154.00
44,464.00
1,209.00
67,827.00
19,877.00
310.00
6,500.00
1,350.00
680.00
18,000.00
2,415.00
29,663.00
775.00
200.00
1,400.00
800.00
1,200.00