Chapter
5
McGraw-Hill/Irwin
Accounting for
Merchandising
Operations
© The McGraw-Hill Companies, Inc., 2006
Learning objective
 Describe merchandising activities and identify
income components for a merchandising
company.
 Identify and explain the inventory asset of a
merchandising company.
 Prepare adjustments and close accounts for a
merchandising company.
 Define and prepare multiple-step and singlestep income statements.
McGraw-Hill/Irwin
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Learning objective
 Describe merchandising activities and identify
income components for a merchandising
company.
McGraw-Hill/Irwin
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Merchandising Activities
Service organizations sell time to earn revenue.
Examples: accounting firms, law firms, and
plumbing services
Revenues
McGraw-Hill/Irwin
Minus
Expenses
Equals
Net
income
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Merchandising Activities
Merchandising companies sell goods to earn revenue.
Example: supermarket
Revenues
McGraw-Hill/Irwin
Minus
Expenses
Equals
Net
income
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Merchandising Activities
Merchandising Companies
Manufacturer
McGraw-Hill/Irwin
Wholesaler
Retailer
Customer
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Reporting Income for a Merchandiser
Merchandising companies sell products to earn revenue.
Examples: sporting goods, clothing, and auto parts
stores
Net
Sales
Minus
Cost of Equals
Goods Sold
Gross
Profit
Minus
Expenses
Equals
Net
Income
Merchandising Company
Income Statement
For Year Ended December 31, 2005
Sales revenues
Cost of goods sold
Gross profit
Operating expenses
Net income
McGraw-Hill/Irwin
$ 150,000
80,000
$ 70,000
46,500
$ 23,500
© The McGraw-Hill Companies, Inc., 2006
Operating Cycle for a Merchandiser
Begins with the purchase of merchandise and ends
with the collection of cash from the sale of
merchandise.
Credit Sale
Cash Sale
Purchases
Purchases
Merchandise
inventory
Account
receivable
Cash
sales
Merchandise
inventory
McGraw-Hill/Irwin
Cash
collection
Credit sales
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Learning objective
 Identify and explain the inventory asset of a
merchandising company.
McGraw-Hill/Irwin
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Inventory Systems
Beginning
inventory
Net cost of
purchases
+
= Merchandise
available for sale
Ending Inventory
McGraw-Hill/Irwin
+
Cost of Goods
Sold
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Inventory Systems
 Perpetual inventory system continuously
updates accounting records for merchandising
transactions — specifically, for those records of
inventory available for sale and inventory sold.
 Periodic inventory system updates the
accounting records for merchandise
transactions only at the end of a period.
McGraw-Hill/Irwin
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Learning objective
 Analyze and record transactions for
merchandising purchases and sales using a
perpetual system.
McGraw-Hill/Irwin
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Accounting for Merchandise Purchases
 Trade discounts vs. purchase discounts
 Purchase returns and allowances
 Transportation costs
McGraw-Hill/Irwin
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Accounting for Merchandise Purchases
On June 20, Jason, Inc. purchased $14,000 of
Merchandise Inventory paying cash.
Jun. 20 Merchandise Inventory . . . . . . . 14,000
..
Cash . . . . . . . . . . . . . . . .
14,000
Purchase merchandise for cash
McGraw-Hill/Irwin
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
Main Source, Inc.
614 Tech Avenue
Nashville, TN 37651
S
o
l
d
T
o

P.O. 167
Item
AC417


Name: Barbee, Inc.
Attn: Tom Bell
Address: One Willow Plaza
Cookeville, Tennessee
38501

Sales: 25 Terms 2/10,n/30
Description
250 Backup System

We appreciate your business!
McGraw-Hill/Irwin
Invoice
Date
5/4/05
Number
358-BI
Seller Invoice date
Purchaser Order number
Credit terms Freight terms
Goods Invoice amount

Ship: FedEx Prepaid
Quanity
Price
Amount
500 $ 54.00 $ 27,000
Sub Total
Ship Chg.
Tax
Total
$
27,000
27,000

© The McGraw-Hill Companies, Inc., 2006
Trade Discounts
Used by manufacturers and wholesalers to offer
better prices for greater quantities purchased.
Example
Matrix, Inc. offers a 30% trade
discount on orders of 1,000
units or more of their popular
product Racer. Each
Racer has a list price of $5.25.
McGraw-Hill/Irwin
Quantity sold
Price per unit
Total
Less 30% discount
Invoice price
1,000
$ 5.25
5,250
(1,575)
$ 3,675
© The McGraw-Hill Companies, Inc., 2006
Purchase Discounts
A deduction from the invoice price granted to
induce early payment of the amount due.
Terms
Discount Period
Credit Period
Full amount
less discount
Full amount due
Time
Due
Purchase or Sale
McGraw-Hill/Irwin
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Purchase Discounts
2/10,n/30
Discount
Percent
McGraw-Hill/Irwin
Number of
Days
Discount Is
Available
Otherwise,
Net (or All)
Is Due
Credit
Period
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Purchase Discounts
On May 7, Jason, Inc. purchased $27,000 of
Merchandise Inventory on account, credit
terms are 2/10, n/30.
May 7
Merchandise Inventory
Accounts Payable
27,000
27,000
Purchase merchandise on account
McGraw-Hill/Irwin
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Purchase Discounts
On May 15, Jason, Inc. paid the amount due on
the purchase of May 7.
May 15 Accounts Payable
27,000
Cash
Marchandise Inventory
26,460
540
Paid accounts payable in full
$27,000 × 2% = $540 discount
McGraw-Hill/Irwin
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Purchase Discounts
After we post these entries, the accounts
involved look like this:
Merchandise Inventory
5/7
27,000 5/15
Bal. 26,460
McGraw-Hill/Irwin
540
Accounts Payable
5/15 27,000 5/7 27,000
Bal.
0
© The McGraw-Hill Companies, Inc., 2006
Failure to Pay Within the Discount Period
If we fail to take a 2/10, n/30
discount, is it really expensive?
365 days ÷ 20 days × 2% = 36.5% annual rate
Days
in a
year
McGraw-Hill/Irwin
Number
of additional
days before
payment
Percent
paid to
keep
money
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Purchase Returns and Allowances
Purchase Return . . .
Merchandise returned by the purchaser to
the supplier.
Purchase Allowance . . .
A reduction in the cost of defective
merchandise received by a purchaser from a
supplier.
McGraw-Hill/Irwin
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Purchase Returns and Allowances
On May 9, Matrix, Inc. purchased $20,000 of
Merchandise Inventory on account, credit
terms are 2/10, n/30.
May 9
Merchandise Inventory
Accounts Payable
20,000
20,000
Purchased merchandise on account
McGraw-Hill/Irwin
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Purchase Returns and Allowances
On May 10, Matrix, Inc. returned $500 of
defective merchandise to the supplier.
May 10 Accounts Payable
500
Merchandise Inventory
500
Returned defective merchandise
McGraw-Hill/Irwin
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Purchase Returns and Allowances
On May 18, Matrix, Inc. paid the amount owed
for the purchase of May 9.
May 18 Accounts Payable
19,500
Cash
Merchandise Inventory
19,110
390
Paid account in full
Purchase
Returns
Amount Due
Discount
Cash Paid
McGraw-Hill/Irwin
$ 20,000
(500)
19,500
(390)
$ 19,110
© The McGraw-Hill Companies, Inc., 2006
Transportation Costs
Buyer
Seller
FOB shipping point
(buyer pays)
Terms
FOB shipping point
FOB destination
McGraw-Hill/Irwin
Merchandise
FOB destination
(seller pays)
Ownership transfers
to buyer when goods
are passed to
Transportation
costs paid by
Carrier
Buyer
Buyer
Seller
© The McGraw-Hill Companies, Inc., 2006
Transportation Costs
On May 12, Jason, Inc. purchased $8,000 of
Merchandise Inventory for cash and also paid
$100 transportation costs.
May 12 Merchandise Inventory
Cash
8,100
8,100
Paid for merchandise and transportation
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Quick Check 
On July 6, 2005 Seller Co. sold $7,500 of
merchandise to Buyer, Co.; terms of 2/10,n/30. The
shipping terms were FOB shipping point. The
shipping cost was $100. Which of the following will
be part of Buyer’s July 6 journal entry?
a. Credit Sales $7,500
b. Credit Purchase Discounts $150
c. Debit Merchandise Inventory $100
d. Debit Accounts Payable $7,450
FOB shipping point indicates the buyer
ultimately pays the freight. This is recorded with
a debit to Merchandise Inventory.
McGraw-Hill/Irwin
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Itemized Cost of Merchandise Purchased
Matrix, Inc.
Total Cost of Merchandise Purchases
For Year Ended May 31, 2005
Invoice cost of merchandise purchases
$ 692,500
Less:
Purchase discounts
(10,388)
Purchase returns and allowances
(4,275)
Add:
Cost of transportation-in
4,895
Total cost of merchandise purchases
$ 682,732
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Accounting for Merchandise Sales
 Sales of merchandise
 Sales discounts
 Sales returns and allowances
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Accounting for Merchandise Sales
Matrix, Inc.
Computation of Gross Profit
For Year Ended December 31, 2005
Sales
Less:
Sales discounts
Sales returns and allowances
Net sales
Cost of goods sold
Gross profit
$ 2,451,000
$ 29,412
18,500
47,912
$ 2,403,088
(1,928,600)
$ 474,488
Sales discounts and returns and allowances are Contra Revenue accounts.
McGraw-Hill/Irwin
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Sales of Merchandise
On March 18, Diamond Store sold $25,000 of
merchandise on account. The merchandise was
carried in inventory at a cost of $18,000.
Mar. 18 Accounts Receivable
Sales
25,000
25,000
Sales of merchandise on credit
Cost of Goods Sold
18,000
Merchandise Inventory
18,000
To record cost of sales
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Sales Discounts
On June 8, Barton Co. sold merchandise costing $3,500
for $6,000 on account. Credit terms were 2/10, n/30.
Let’s prepare the journal entries.
Jun. 8
Accounts Receivable
Sales
6,000
6,000
Sales of merchandise on credit
Cost of Goods Sold
3,500
Merchandise Inventory
3,500
To record cost of sales
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Sales Discounts
On June 17, Barton Co. received a check for
$5,880 in full payment of the June 8 sale.
Jun. 17 Cash
Sales Discount
Accounts Receivable
5,880
120
6,000
Received payment less discount
Contra
Revenue
Account
McGraw-Hill/Irwin
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Sales Returns and Allowances
On June 12, Barton Co. sold merchandise
costing $4,000 for $7,500 on account The
credit terms were 2/10, n/30.
Jun. 12 Accounts Receivable
Sales
7,500
7,500
Sales of merchandise on credit
Cost of Goods Sold
4,000
Merchandise Inventory
4,000
To record cost of sales
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Sales Returns and Allowances
On June 14, merchandise with a sales price of $800 and
a cost of $470 was returned to Barton. The return is
related to the June 12 sale.
Jun. 14 Sales Returns and Allowances
Accounts Receivable
800
800
Customer returned merchandise
Merchandise Inventory
Cost of Goods Sold
470
470
Returned goods placed in inventory
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Sales Returns and Allowances
On June 20, Barton received the amount owed
to it from the sale of June 12.
Jun. 20
Cash
6,566
Sales Discount
134
Accounts Receivable
6,700
Received payment less discount
Sale
Return
Amount due
Discount
Cash received
McGraw-Hill/Irwin
$ 7,500
(800)
$ 6,700
(134)
$ 6,566
© The McGraw-Hill Companies, Inc., 2006
Learning objective
 Prepare adjustments and close accounts for a
merchandising company.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Barton Company
Adjusted Trial Balance
December 31, 2005
Cash
Accounts receivable
Merchandise inventory
Supplies
Equipment
Accum. depr.- Equip.
Accounts payable
Salaries payable
Barton, Capital
Barton, Withdrawal
Sales
Sales discounts
Sales returns
Cost of goods sold
Admin. salaries expense
Sales salaries expense
Insurance expense
Rent expense
Supplies expense
Advertising expense
McGraw-Hill/Irwin
$
7,700
11,200
14,300
1,300
41,200
$
7,000
16,400
1,000
42,400
4,000
323,800
4,300
2,000
233,200
18,200
29,600
1,200
8,100
1,000
13,300
$ 390,600
$ 390,600
Let’s complete the
accounting cycle
by preparing the
closing entries for
Barton.
© The McGraw-Hill Companies, Inc., 2006
Step 1: Close Credit Balances in Temporary Accounts
to Income Summary.
Dec. 31 Sales . . . . . . . . . . . . . . . . . . . . 323,800
Income summary . . . . . .
323,800
To close credit balance in temporary accounts
Barton Company
Adjusted Trial Balance
December 31, 2005
Salaries payable
Barton, Capital
Barton, Withdrawal
Sales
Sales discounts
Sales returns
Cost of goods sold
Admin. salaries expense
Sales salaries expense
Insurance expense
Rent expense
Supplies expense
Advertising expense
McGraw-Hill/Irwin
1,000
42,400
4,000
323,800
4,300
2,000
233,200
18,200
29,600
1,200
8,100
1,000
13,300
Income Summary
323,800
© The McGraw-Hill Companies, Inc., 2006
Step 2: Close Debit Balances in Temporary Accounts to
Income Summary.
Dec. 31 Income Summary
310,900
Sales Discounts
Sales Returns
Cost of Goods Sold
Adm. Salaries Expense
Sales Salaries Expense
Insurance Expense
Rent Expense
Supplies Expense
Advertising Expense
4,300
2,000
233,200
18,200
29,600
1,200
8,100
1,000
13,300
To close debit balances in temporary accounts
McGraw-Hill/Irwin
Income Summary
310,900
323,800
12,900
© The McGraw-Hill Companies, Inc., 2006
Step 3: Close Income Summary to Owner’s Capital
Dec. 31 Income Summary
Barton, Capital
12,900
12,900
To close Income Summary account
Income Summary
310,900
323,800
310,900
323,800
12,900
12,900
-0-
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Step 4: Close Withdrawals Account to Owner’s Capital.
Dec. 31 Barton, Capital
4,000
Barton, Withdrawals
4,000
To close the withdrawals account
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Learning objective
 Define and prepare multiple-step and singlestep income statements.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Income Statement Formats
Multiple-Step
Single-Step
McGraw-Hill/Irwin
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Multiple-Step Income Statement
Barton Company
Income Statement
For Year Ended December 31, 2005
Sales
Less: Sales discounts
Sales returns
Net sales
Cost of Goods Sold
Gross profit from sales
Operating expenses:
Selling expenses:
Salaries expense
$ 29,600
Advertising expense
13,300
General and administrative expenses:
Adm. salaries expense
$ 18,200
Insurance expense
1,200
Rent expense
8,100
Supplies expense
1,000
Total operating expenses
Net income
McGraw-Hill/Irwin
$ 323,800
$
4,300
2,000
6,300
$ 317,500
233,200
$ 84,300
$ 42,900
28,500
71,400
$ 12,900
© The McGraw-Hill Companies, Inc., 2006
Operating expenses
 Selling expenses include the expenses of
promoting sales by displaying and advertising
merchandise, making sales, and delivering
goods to customers.
 General and administrative expenses support
a company’s overall operations and include
expenses related to accounting, HR
management, and financial management.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Single-Step Income Statement
Barton Company
Income Statement
For Year Ended December 31, 2005
Net sales
Cost of goods sold
Operating expenses
Total expense
Net income
McGraw-Hill/Irwin
$ 317,500
$ 233,200
71,400
304,600
$ 12,900
© The McGraw-Hill Companies, Inc., 2006
Single-Step Income Statement
For Year Ended Decem ber 31, 2005
Revenue
Net sales
$ 314,700
Interest revenue
1,000
Gain on sale of building
2,500
Expenses
318,200
Cost of goods sold
$ 230,400
Selling expenses
42,100
G&A expenses
29,300
Interest expense
1,500
Total expense
303,300
Net incom e
$ 14,900
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Multiple-Step vs. Single-Step Income
statement
 A multiple-step income statement format
shows detailed computations of net sales and
other costs and expenses, and report subtotals
for various classes of items.
Gross profit
Income from operations
Net income
• A single-step income statement lists revenues
and expenses with very few categories.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Classified Balance Sheet
Merchandising Company
Balance Sheet
December 31, 2005
Assets
Cash
Merchandise Inventory
Equipment
$
Total assets
$
McGraw-Hill/Irwin
10,200
1,200
16,000
27,400
Liabilities
Accounts payable
Notes payable
Total liabilities
Equity
Total liabilities and
$
$
$
1,200
4,000
5,200
22,200
27,400
© The McGraw-Hill Companies, Inc., 2006
Acid-Test and Gross Margin Ratios
Acid-Test
=
Ratio
Quick Assets
Current Liabilities
Acid-Test
Cash + S-T Investments + Receivables
=
Current Liabilities
Ratio
A common rule of thumb is the acid-test ratio should have a
value of at least 1.0 to conclude a company is unlikely to
face liquidity problems in the near future.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006
Gross Margin Ratio
Gross
Margin =
Ratio
Net Sales - Cost of Goods Sold
Net Sales
31.0%
30.0%
Percentage of
dollar sales
available to cover
expenses and
provide a profit.
Year
2003
2002
2001
2000
1999
Percent
30.2%
28.8%
27.7%
29.8%
30.7%
JCPenney
29.0%
28.0%
27.0%
26.0%
2003
McGraw-Hill/Irwin
2002
2001
2000
1999
Gross Margin Ratio
© The McGraw-Hill Companies, Inc., 2006
Homework for chapter 5
 Ex 5-1, 5-4, 5-5, 5-12
 Problem 5-1A, 5-4A
 Due on June 19, 2006 (Monday)
McGraw-Hill/Irwin
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End of Chapter 5
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2006