CHAPTER
5
Merchandising Operations
Differences Between Service and
Merchandising Companies
Service enterprises perform
services as their primary source
of revenue
Merchandising companies buy
and sell merchandise
Merchandising Company
Revenues and Expenses
• Primary source of revenues is the sale of
merchandise
– Sales revenue
• Expenses for a merchandising company are
divided into two categories
– Cost of goods sold
– Operating expenses
Earnings Process Measurement
for Merchandiser
Illustration 5-1
Inventory Systems
• Merchandising entities may use either (or
both) of the following inventory systems
– Perpetual
– Periodic
Inventory Systems
• The periodic inventory system is covered
in Appendix 5A.
• See slides later in this presentation on the
periodic system.
Perpetual Inventory
• This type of inventory system constantly
updates inventory for purchases and sales
• When a perpetual system is used, it is still
necessary to do a physical count at least
once a year to adjust perpetual records to
actual
• This system is used for many types of
products
Cost of Merchandise Inventory
• All costs of getting the inventory to the
company and ready for sale
• Only costs associated with merchandise
purchased for resale, not assets acquired for
use, such as supplies
Merchandise Purchases
On May 4, the company bought $ 3,800 worth of
merchandise from PW Audio Supply, Inc.
Merchandise
Inventory
May 4 3,800
GENERAL JOURNAL
May 4
Accounts
Payable
May 4 3,800
Debit
Credit
Merchandise Inventory
3,800
Accounts Payable
To record goods purchased on account
3,800
Freight Costs—On Incoming Inventory
On May 4, the company paid $150 to have the
merchandise inventory delivered to them.
Merchandise
Inventory
Freight-Out
Cash
May 4 3,800
May 4
150
GENERAL JOURNAL
May 4 Merchandise Inventory
Cash
To record payment of freight
May 4 150
Debit
Credit
150
150
Freight Costs—On Outgoing Inventory
Or, assume that on May 4 the seller paid $150 to have
merchandise inventory delivered to the buyer.
Merchandise
Inventory
May 4 3,800
Freight-Out
May 4 150
GENERAL JOURNAL
May 4
Cash
Freight-Out
Cash
To record payment of freight on
goods sold
May 4 150
Debit
Credit
150
150
Purchases Returns and Allowances
On May 8 the company returned $300 worth of
merchandise to PW Audio Supply, Inc.
Merchandise
Inventory
May 4 3,800
May 4
May 8 300
Accounts
Payable
May 8 300 May 4 3,800
150
GENERAL JOURNAL
May 8
Accounts Payable
Merchandise Inventory
To record goods returned that were
purchased on account
Debit Credit
300
300
Purchase Discounts
• Credit terms specify the amount of cash
discount available to encourage early payment
and the time period during which it is offered
• 2/10, n/30 ( a 2% discount can be taken if the
invoice is paid in 10 days, otherwise the total
invoice amount is due in 30 days)
Purchase Discounts
Company purchased $3,800 of merchandise and
returned $300. The credit terms are 2/10, n/30 and
the invoice was paid within the discount period.
Original invoice
Less: Returns
Amount due before discount
2% discount
Net due
$3,800
300
3,500
70
$3,430
Purchase Discounts
Company purchased $3,800 of merchandise and
returned $300. The credit terms are 2/10, n/30 and the
invoice was paid within the discount period.
Merchandise
Inventory
May 4 3,800 May 8 300
May 4
Accounts
Payable
May 8
Cash
May 14 3,430
300 May 4 3,800
150 May 14 70 May 14 3,500
GENERAL JOURNAL
May 14
Debit
Accounts Payable
3,500
Cash
Merchandise Inventory
To record payment within discount period
Credit
3,430
70
Sales Revenue—Perpetual System
• Recorded when earned
– Revenue recognition principle
• Two entries are made for each sale
– To record sale
– To record cost of merchandise sold
Sales
Assume a cash sale of $2,200 for merchandise that
cost $1,400
Cash
Accounts
Receivable
May 4 2,200
Merchandise
Inventory
May 4 1,400
Sales
May 4 2,200
Sales Returns &
Allowances
Cost of Goods
Sold
May 4 1,400
Sales
Assume a sale of $3,800 on account for
merchandise that cost $2,400
Cash
Accounts
Receivable
Merchandise
Inventory
May 4 3,800
Sales
May 4 3,800
Sales Returns &
Allowances
May 4 2,400
Cost of Goods
Sold
May 4 2,400
Sales Returns and Allowances
• Contra revenue account to sales
• Separate account used contrary to purchase
returns and allowances
• Used to show how much came in on returns
and allowances
• Excessive returns and allowances suggest
– Errors in billing customers
– Mistakes in delivery or shipment of goods
Sales Returns and Allowances
Flip side of purchase returns and allowance EXCEPT
two entries are required: one to record return (at sale
price) and one to restore goods to inventory, assuming
goods resaleable (at cost)
On seller’s books
GENERAL JOURNAL
May 8 Sales Returns and Allowance
Accounts Receivable
To record return of goods delivered
to Sauk Stereo
Merchandise Inventory
Cost of Goods Sold
To restore returns to inventory
Debit
Credit
300
300
140
140
Sales Discounts
• Contra revenue account to sales
• Separate account used contrary to purchase
discounts
• Used to disclose amount of cash discounts
taken by customers
Sales Discounts
On buyer’s books
General Journal
May 14 Accounts Payable
Cash
Merchandise Inventory
To record payment within discount period
Debit
3,500
Credit
3,430
70
On seller’s books
General Journal
May 14 Cash
Sales Discounts
Accounts Receivable
To record collection within discount period
Debit
3,430
70
Credit
3,500
Two Forms of
Statements of Earnings
• Single-step statement of earnings
• Multiple-step statement of earnings
Single-Step Statement of Earnings
Revenues
Expenses
Earnings before income taxes
Income taxes
Net earnings
$10,000
2,000
8,000
1,000
$ 7,000
PW AUDIO SUPPLY, INC.
Single-Step Statement of Earnings
Year Ended December 31, 2004
Sales
Interest revenue
Gain on sale of equipment
Total revenues
Expenses
Cost of goods sold
Operating expenses
Interest expense
Casualty loss from vandalism
Total expenses
Earnings before income taxes
Income tax expense
Net earnings
$460,000
3,000
600
$463,600
$316,000
114,000
1,800
200
432,000
31,600
10,100
$ 21,500
PW AUDIO SUPPLY, INC.
Multiple-Step Statement of Earnings
Year Ended December 31, 2004
Sales revenue
Sales
Less: Sales returns and allowances
Sales discounts
Net sales
Cost of goods sold
Gross profit
Operating expenses
Store salaries expense
Advertising expense
Amortization expense
Freight-out
Salaries expense
Utilities expense
Insurance expense
Total operating expenses
Earnings from operations
$480,000
$12,000
8,000
20,000
460,000
316,000
144,000
$45,000
16,000
8,000
7,000
19,000
17,000
2,000
114,000
30,000
PW AUDIO SUPPLY, INC.
Multiple-Step Statement of Earnings
Year Ended December 31, 2004
Earnings from operations (continued)
Other revenues
Interest revenue
Gain on sale of equipment
Other expenses
Interest expense
Casualty loss from vandalism
Earnings before income taxes
Income tax expense
Net earnings
$30,000
$3,000
600
3,600
$1,800
200
2,000
1,600
31,600
10,100
$21,500
Evaluating Profitability
• Gross profit margin
• Profit margin
Gross Profit Margin
Gross Profit Margin = Gross Profit
Net Sales
Company’s gross profit
expressed as a percentage
Profit Margin
Profit Margin = Net Earnings
Net Sales
Appendix 5A: Periodic System
• Merchandising entities may use either (or
both) of the following inventory systems
– Perpetual
– Periodic
Periodic System
• This type of inventory system does not keep
an updated record of all goods bought, sold
and on hand
• In a periodic system, inventory is only
counted once a year
• This system is mostly used for inexpensive
products
Sales Revenues—Periodic System
• Record when earned - revenue recognition
principle
• Only ONE entry is made for each sale in a
periodic inventory system
• NONE to record cost of goods sold as in a
perpetual inventory system
Sales
Assume a sale of $3,800 on account
Cash
Accounts
Receivable
May 4 3,800
Sales
May 4 3,800
Sales Returns &
Allowances
Merchandise
Inventory
X
Cost of Goods
Sold
X
Purchase of Merchandise
• Perpetual inventory system
– Merchandise Inventory-one account used to
accumulate the cost of goods purchased
• Periodic inventory system
– Separate accounts used to accumulate the
cost of goods purchased
Normal Balances
Cost of Goods Purchased Accounts
Account
Purchases
Purchase Returns and Allowances
Purchase Discounts
Freight In
Normal Balance
Debit
Credit
Credit
Debit
Net Purchases
Net purchases are gross purchases
adjusted for returns and discounts
Purchases
Less: Purchase returns and allowances
Purchase discounts
Net purchases
$325,000
$ 10,400
6,800
17,200
307,800
Cost of Goods Purchased
Cost of goods purchased is net purchases plus
freight-in
Purchases
Less: Purchase returns and allowances
Purchase discounts
Net purchases
Add: Freight-in
Cost of goods purchased
$325,000
$ 10,400
6,800
17,200
307,800
12,200
320,000