Accounting for Merchandising Operations Chapter 4 John J.

Accounting for Merchandising Operations Chapter 4 John J.

Accounting for Merchandising Operations Chapter 4 John J. Wild Financial Accounting Fundamentals 5th Edition Copyright 2016 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 04-C1: Describe merchandising activities and identify income components for a merchandising company. 2 5- 3 Service Companies vs. Merchandising Companies Service organizations sell time to earn revenue. Examples: Accounting firms and plumbing services

A merchandiser earns net income by buying and selling merchandise. C1 3 5- 4 Merchandiser Merchandising Companies Manufacturer C1 Wholesaler Retailer Consumers 4

5- 5 Reporting Income for a Merchandiser Exhibit s 4.1 & 4.2 Merchandising companies sell products to earn revenue. Examples: sporting goods, clothing, and auto parts stores C1 5 04-C2: Identify and explain the inventory asset and cost flows of a merchandising company.

6 5- 7 Operating Cycle for a Merchandiser Exhibit 4.3 Begins with the purchase of merchandise and ends with the collection of cash from the sale of merchandise. C2 7 5- 8 Inventory Systems C2

Exhibit 4.4 8 5- 9 Inventory Systems Perpetual systems continually update accounting records for merchandising transactions C2 Periodic systems accounting records relating to merchandise transactions are updated only at the end of the accounting period

9 04-P1: Analyze and record transactions for merchandise purchases using a perpetual system. 10 Merchandise Purchases On November 2, Z-Mart purchased $1,200 of merchandise inventory for cash. P1 11 Trade Discounts P1 Exhibit

4.5 12 5- 13 Purchase Discounts Exhibit 4.6 A deduction from the invoice price granted to induce early payment of the amount due. P1 13 5- 14 Purchase Discounts 2/10, n/30

Discount Discount Percent Percent P1 Number Number of of Days Days Discount Discount Is Is Available Available Otherwise, Otherwise, Net Net (or (or All) All)

Is Is Due Due in in 30 30 Days Days Credit Credit Period Period 14 5- 15 Purchase Discounts On November 2, Z-Mart purchased $1,200 of merchandise inventory on account, credit terms are 2/10, n/30. P1

15 5- 16 Purchase Discounts On November 12, Z-Mart paid the amount due on the purchase of November 2. Since payment was made within the discount period, a $24 discount ($1,200 x 2%) is taken. P1 16 5- 17 Purchase Discounts After we post these entries, the accounts involved look like these: P1 17

5- 18 Purchase Returns and Allowances Purchase Return . . . Merchandise Merchandise returned returned by by the the purchaser purchaser to to the the supplier. supplier. Purchase Allowance . . . AA reduction reduction in in the the cost cost of

of defective defective or or unacceptable unacceptable merchandise merchandise received received by by aa purchaser purchaser from from aa supplier. supplier. P1 18 5- 19 Purchase Returns and Allowances On November 15, Z-Mart (buyer) issues a $300 debit memorandum for an allowance from Trex for defective merchandise.

P1 19 5- 20 Purchase Returns and Allowances Z-Mart purchases $1,000 of merchandise on June 1 with terms 2/10, n/60. Two days later, Z-Mart returns $100 of goods before paying the invoice. When Z-Mart later pays on June 11, it takes the 2% discount only on the $900 remaining balance. P1 20 5- 21 Transportation Costs and Ownership Transfer P1

Exhibit 4.7 21 5- 22 Transportation Costs Z-Mart purchased merchandise on terms of FOB shipping point. The transportation charge is $75. Since freight terms were FOB shipping point, Z-mart is responsible for the freight charges. We increase Merchandise Inventory for the cost of the freight. P1 22 5- 23 Accounting for Merchandise

P1 Exhibit 4.8 23 NEED-TO-KNOW (4-1) Prepare journal entries to record each of the following purchases transactions of a merchandising company. Assume a perpetual inventory system. Oct. 1 Purchased 125 units of a product at a cost of $4 per unit. Terms of the sale are 2/10, n/30, and FOB shipping point; the invoice is dated October 1. Oct. 3 Paid $30 cash for freight charges from UPS for the October 1 purchase. Oct. 7 Returned 50 defective units from the October 1 purchase and received full credit. Oct. 11 Paid the amount due from the October 1 purchase, less the return on October 7. Oct. 31 Assume the October 11 payment was never made and, instead, payment of the amount due on the October 1 purchase, less the return on October 7, occurred on October 31. P1

P1 24 NEED-TO-KNOW (4-1) Oct. 1 Purchased 125 units of a product at a cost of $4 per unit. Terms of the sale are 2/10, n/30, and FOB shipping point; the invoice is dated October 1. Oct. 3 Paid $30 cash for freight charges from UPS for the October 1 purchase. Oct. 7 Returned 50 defective units from the October 1 purchase and received full credit. Oct. 11 Paid the amount due from the October 1 purchase, less the return on October 7. Oct. 1 Oct. 3 Oct. 31 Merchandise inventory 500 30 Oct. 7 Oct. 11

324 Date Oct. 1 Oct. 3 Oct. 7 Oct. 11 P1 200 6 Oct. 7 Oct. 11 General Journal Merchandise inventory (125 units @ $4) Accounts payable Merchandise inventory Cash

Accounts payable (50 units @ $4) Merchandise inventory (50 units @ $4) Accounts payable Merchandise inventory ($300 x .02) Cash Accounts payable Oct. 1 200 300 Debit 500 500 Credit 500 30 30 200 200

300 6 294 25 NEED-TO-KNOW Oct. 1 Oct. 3 Oct. 7 Oct. 31 Oct. 1 Oct. 3 Oct. 31 Purchased 125 units of a product at a cost of $4 per unit. Terms of the sale are 2/10, n/30, and FOB shipping point; the invoice is dated October 1. Paid $30 cash for freight charges from UPS for the October 1 purchase. Returned 50 defective units from the October 1 purchase and received full credit. Assume the October 11 payment was never made and, instead, payment of the amount due on the October 1 purchase, less the return on October 7,

occurred on October 31. Merchandise inventory 500 30 Oct. 7 500 330 Date Oct. 1 Oct. 3 Oct. 7 Oct. 31 P1 200

Oct. 7 Oct. 31 Accounts payable Oct. 1 200 300 General Journal Merchandise inventory (125 units @ $4) Accounts payable Merchandise inventory Cash Accounts payable Merchandise inventory (50 units @ $4) Accounts payable Cash Debit 500 Credit 500

30 30 200 200 300 300 26 04-P2: Analyze and record transactions for merchandise sales using a perpetual system. 27 5- 28 Accounting for Merchandise Exhibit Sales 4.9

P2 28 5- 29 Sales of Merchandise Each sales transaction for a seller of merchandise involves two parts: Revenue received in the form of an asset from a customer. P2 Recognition of the cost of merchandise sold to a customer. 29 5- 30

Sales of Merchandise Z-Mart sold $2,400 of merchandise on credit. The merchandise has a cost basis to Z-Mart of $1,600. Two entries are required: 1) Records the revenue 2) Records the cost P2 30 5- 31 Sales Discounts Sales discounts on credit sales can benefit a seller by decreasing the delay in receiving cash and reducing future collection efforts. P2 31 5- 32

Sales Discounts Z-Mart completes a $1,000 credit sale with terms of 2/10, n/60. Option 1: The account was paid in full within the 60-day period. Option 2: The account was paid in full within the 10-day discount period. P2 32 5- 33 Sales Returns and Allowances Sales returns and allowances usually involve dissatisfied customers and the possibility of lost future sales. Sales returns refer to merchandise that customers return to the seller after a sale.

P2 Sales allowances refer to reductions in the selling price of merchandise sold to customers. 33 5- 34 Sales Returns and Allowances Recall Z-Marts sale for $2,400 that had a cost of $1,600. Assume the customer returns part of the merchandise. The returned items sell for $800 and cost $600. Two entries are required: 1) Records the reduction in revenue 2) Records the return of goods to inventory P2 34

5- 35 Sales Allowances Assume that $800 of the merchandise Z-Mart sold on November 3 is defective but the buyer decides to keep it because Z-Mart offers a $100 price reduction. Contra Revenue account One entry is required: 1) Records the reduction in revenue P2 35 NEED-TO-KNOW (4-2) Prepare journal entries to record each of the following sales transactions of a merchandising company. Assume a perpetual inventory system. Jun. 1 Sold 500 units of merchandise to a customer for $14 per unit under credit terms of 2/10, n/30, FOB shipping point, and the invoice is dated June 1. The merchandise had cost $10 per unit. Jun. 7 The customer returns 20 units because those units did not fit the customers

needs. The seller restores those units to its inventory. Jun. 8 The customer discovers that 30 units are damaged but are still of some use and, therefore, keeps the units because the seller sends the buyer a credit memorandum for $90 to compensate for the damage. Jun. 11 The customer discovers that 10 units are the wrong color, but keeps 8 of these units because the seller sends a $12 credit memorandum to compensate. The customer returns the remaining 2 units to the seller. The seller restores the 2 returned units to its inventory P2 36 NEED-TO-KNOW (4-2) Jun. 1 Jun. 7 Sold 500 units of merchandise to a customer for $14 per unit under credit terms of 2/10, n/30, FOB shipping point, and the invoice is dated June 1. The merchandise had cost $10 per unit. The customer returns 20 units because those units did not fit the customers needs. The seller restores those units to its inventory.

Date Jun. 1 Jun. 1 Jun. 7 Jun. 7 P2 General Journal Accounts receivable Sales (500 @ $14) Debit 7,000 Cost of goods sold (500 @ $10) Merchandise inventory 5,000

Sales returns and allowances (20 @ $14) Accounts receivable Merchandise inventory (20 @ $10) Cost of goods sold Credit 7,000 5,000 280 280 200 200 37 NEED-TO-KNOW (4-2) Jun. 8 The customer discovers that 30 units are damaged but are still of some use and, therefore, keeps the units because the seller sends the buyer a credit memorandum for $90 to compensate for the damage.

Jun. 11 The customer discovers that 10 units are the wrong color, but keeps 8 of these units because the seller sends a $12 credit memorandum to compensate. The customer returns the remaining 2 units to the seller. The seller restores the 2 returned units to its inventory Date Jun. 1 Jun. 01 Jun. 07 Jun. 07 Jun. 08 Jun. 11 Jun. 11 P2 General Journal Accounts receivable

Sales (500 @ $14) Debit 7,000 Cost of goods sold (500 @ $10) Merchandise inventory 5,000 Sales returns and allowances (20 @ $14) Accounts receivable Merchandise inventory (20 @ $10) Cost of goods sold Credit 7,000 5,000 280 280 200 200

Sales returns and allowances Accounts receivable 90 Sales returns and allowances ($12 + (2 @ $14)) Accounts receivable 40 Merchandise inventory (2 @ $10) Cost of goods sold 20 90 40 20 38

NEED-TO-KNOW (4-2) Partial income statement Sales Sales returns and allowances Sales discounts Net sales Cost of goods sold Gross profit on sales Date Jun. 1 Jun. 01 Jun. 07 Jun. 07 Jun. 08 Jun. 11 P2

Jun. 11 $7,000 $410 0 (410) 6,590 4,780 $1,810 General Journal Accounts receivable Sales (500 @ $14) Debit 7,000 Cost of goods sold (500 @ $10) Merchandise inventory 5,000

Sales returns and allowances (20 @ $14) Accounts receivable Merchandise inventory (20 @ $10) Cost of goods sold Credit 7,000 5,000 280 280 200 200 Sales returns and allowances Accounts receivable 90 Sales returns and allowances ($12 + (2 @ $14)) Accounts receivable 40

Merchandise inventory (2 @ $10) Cost of goods sold 20 90 40 20 39 04-P3: Prepare adjustments and close accounts for a merchandising company. 40 Merchandising Cost Flow in the Accounting Cycle

P3 Exhibit 4.10 41 5- 42 Adjusting Entries for Merchandisers A merchandiser using a perpetual inventory system is usually required to make an adjustment to update the Merchandise Inventory account to reflect any loss of merchandise, including theft and deterioration. P3 42 5- 43

Closing Entries for Merchandisers Exhibit 4.11 P3 43 NEED-TO-KNOW (4-3) A merchandising companys ledger on May 31, its fiscal year-end, includes the following selected accounts that have normal balances (it uses the perpetual inventory system). A physical count of its May 31 year-end inventory reveals that the cost of the merchandise inventory still available is $718. (a) Prepare the entry to record any inventory shrinkage. (b) Prepare journal entries to close the balances in temporary revenue and expense accounts. Merchandise inventory Retained Earnings Dividends Sales Sales discounts $756 2,306 140

3,204 94 Sales returns and allowances Cost of goods sold Depreciation expense Salaries expense Other operating expenses Merchandise inventory Retained Earnings Dividends Sales Sales discounts Sales returns and allowances Cost of goods sold Depreciation expense Salaries expense Other operating expenses P3 Debit

$756 $130 2,100 206 650 100 Credit $2,306 140 3,204 94 130 2,100 206 650 100 44 NEED-TO-KNOW (4-3)

A merchandising companys ledger on May 31, its fiscal year-end, includes the following selected accounts that have normal balances (it uses the perpetual inventory system). A physical count of its May 31 year-end inventory reveals that the cost of the merchandise inventory still available is $718. (a) Prepare the entry to record any inventory shrinkage. (b) Prepare journal entries to close the balances in temporary revenue and expense accounts. Merchandise inventory Retained Earnings Dividends Sales Sales discounts Sales returns and allowances Cost of goods sold Depreciation expense Salaries expense Other operating expenses Debit $756 $718 P3 $2,306

140 3,204 94 130 2,100 2,138 206 650 100 Date General Journal May 31 Cost of Goods Sold Merchandise inventory ($756 - $718) To adjust for inventory shrinkage. Credit Debit 38

Credit 38 45 NEED-TO-KNOW (4-3) Merchandise inventory Retained Earnings Dividends Sales Sales discounts Sales returns and allowances Cost of goods sold Depreciation expense Salaries expense Other operating expenses Date May 31 May 31 P3

Debit $756 $718 General Journal Sales Income Summary Income Summary Sales discounts Sales returns and allowances Cost of Goods Sold ($2,100 + $38) Depreciation expense Salaries expense Other operating expenses Credit $2,306 140 3,204 94 130 2,100

2,138 206 650 100 Debit 3,204 Credit 3,204 3,318 94 130 2,138 206 650 100 46 04-P4: Define and prepare multiplestep and single-step income statements.

47 5- 48 Exhibit 4.13 P4 48 5- 49 Single-Step Income StatementExhibit 4.14 P4 49 5- 50 Classified Balance Sheet

Exhibit 4.15 Highly Liquid Less Liquid P4 50 5- 51 NEED-TO-KNOW Assume Targets adjusted trial balance on April 30, 2015, its fiscal year-end, appears below. Prepare a multiple-step income statement that includes separate categories for selling expenses and for general and administrative expenses. (b) Prepare a single-step income statement that includes these expense categories: cost of goods sold, selling expenses, and general and administrative expenses. Debit

P4 Credit Merchandise inventory $ 820 Other (noninventory) assets 2608 total liabilities $ 500 Common stock 400 Retained earnings 1691 Dividends 160 Sales 4512 Sales discounts 45 Sales returns and allowances 240

Cost of goods sold 1490 Sales salaries expense 640 Rent expense--Selling space 160 Store supplies expense 30 Advertising expense 260 Offi ce salaries expense 570 Rent expense--Offi ce space 72 Offi ce supplies expense 8 Totals $ 7,103 $ 7,103 51

NEED-TO-KNOW Debit Credit Merchandise inventory $ 820 Other (noninventory) assets 2608 total liabilities $ 500 Common stock 400 Retained earnings 1691 Dividends 160 Sales 4512 Sales discounts 45 Sales returns and allowances

240 Cost of goods sold 1490 Sales salaries expense 640 Rent expense--Selling space 160 Store supplies expense 30 Advertising expense 260 Offi ce salaries expense 570 Rent expense--Offi ce space 72 Offi ce supplies expense 8 Totals $ 7,103 $ 7,103

P4 TARGET Income Statement For Year Ended April 30, 2015 Sales $4,512 Less: Sales discounts $45 Sales returns and allowances 240 285 Net sales 4,227 Cost of goods sold 1,490 Gross profit 2,737 Expenses Selling expenses Sales salaries expense 640 Rent expense - Selling space

160 Store supplies expense 30 Advertising expense 260 Total selling expenses 1,090 General and administrative expenses Office salaries expense 570 Rent expense - Office space 72 Office supplies expense 8 Total general and administrative expenses 650 Total expenses 1,740 Net income $997 52

NEED-TO-KNOW TARGET Income Statement For Year Ended April 30, 2015 Sales $4,512 Less: Sales discounts $45 Sales returns and allowances 240 285 Net sales 4,227 Cost of goods sold 1,490 Gross profit 2,737 Expenses Selling expenses Sales salaries expense 640 Rent expense - Selling space 160

Store supplies expense 30 Advertising expense 260 Total selling expenses 1,090 General and administrative expenses Office salaries expense 570 Rent expense - Office space 72 Office supplies expense 8 Total general and administrative expenses 650 Total expenses 1,740 Net income $997 P4 TARGET

Income Statement For Year Ended April 30, 2015 Net sales Expenses Cost of goods sold Selling expenses General and administrative expenses Total expenses Net income $4,227 1,490 1,090 650 3,230 $997 53 5- 54 Global View Accounting for Merchandise Purchases and Sales

Both U.S. GAAP and IFRS include broad and similar guidance for the accounting of merchandise purchases and sales. Income Statement Presentation Both U.S. GAAP and IFRS income statements begin with the net sales or net revenues (top line) item. For merchandisers and manufacturers, this is followed by cost of goods sold. The presentation is similar for the remaining items with the following differences. 1. Order of expenses 2. Separate disclosures 3. Presentation of expenses 4. Operating Income 5. Alternative income 54 04-A1: Compute the acid-test ratio and explain its use to assess liquidity. 55 5- 56

Acid-Test (Quick) Ratio Acid-test ratio Acid-test ratio = = Exhibit 4.16 Quick assets Current liabilities Cash + short term investments+ Receivables Current liabilities 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. A1

56 5- 57 JCPenneys Acid Test and Current Ratios A1 Exhibit 4.17 57 04-A2: Compute the gross margin ratio and explain its use to assess profitability. 58 5- 59

Gross Margin Ratio Gross margin = ratio Exhibit 4.18 Net sales - Cost of goods sold Net sales Percentage of dollar sales available to cover expenses and provide a profit. A2 59 JC Pennys Gross Margin Ratio

A2 Exhibit 4.19 60 04-P5: (Appendix 4A) Record and compare merchandising transactions using both periodic and perpetual inventory systems. 61 5- 62 Appendix 4A: Periodic Inventory System (a) (b) (c)

(d) (e) (f) (g) P5 A periodic inventory system requires updating the inventory account only at the end of a period to reflect the quantity and cost of both the goods available and the goods sold.

62 5- 63 Appendix 4A: Comparison of Adjusting and Closing Entries--Periodic vs. Perpetual Inventory System Exhibi t 4A.1 P5 63 5- 64 04-P5: (Appendix 4B) The worksheet--perpetual inventory systems. 64 5- 65

Appendix 4B: Work SheetPerpetual System P5 Exhibi t 4B.1 65 5- 66 End of Chapter 4 66

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