ACCT 210 Lecture, Fall 2006

© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-1 Merchandising Activities Chapter 6 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-2 Learning Objective Learning Objective LO1 To describe the operating cycle of a merchandising company. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-3 Operating Cycle of a Merchandising Company Operating Cycle of a Merchandising Company 1. Purchase of merchandise 3. Collection of the receivables 2. Sale of merchandise on account Cash Inventory Accounts Receivable © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-4 Comparing Merchandising Activities with Manufacturing Activities Comparing Merchandising Activities with Manufacturing Activities Merchandising Company Purchase inventory in ready-to-sell condition. Manufacturing Company Manufacture inventory and have a longer and more complex operating cycle. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-5 Retailers and Wholesalers Retailers and Wholesalers Retailers sell merchandise directly to the public. Wholesalers buy merchandise from several different manufacturers and then sell this merchandise to several retailers. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-6 Learning Objective Learning Objective LO2 To understand the components of a merchandising company’s income statement. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-7 Income Statement of a Merchandising Company Income Statement of a Merchandising Company Computer City Condensed Income Statement For the Year Ended December 31, 2007 Revenue from sales 900,000 $ Less: Cost of goods sold 540,000 Gross profit 360,000 $ Less: Expenses 270,000 Net income 90,000 $ Cost of goods sold represents the expense of goods that are sold to customers. Gross profit is a useful means of measuring the profitability of sales transactions. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-8 Accounting System Requirements for Merchandising Companies Accounting System Requirements for Merchandising Companies General Ledger Accounts Receivable Date Debit Credit Balance 2007 June 1 10,000 10,000 15 3,000 7,000 Although general ledger accounts provide useful information, they do not provide much of the detailed information needed in the daily business operations. Who owes us money? Who owes us money? © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-9 Accounting System Requirements for Merchandising Companies Accounting System Requirements for Merchandising Companies Subsidiary Ledger Heather Jacobs Date Debit Credit Balance 2007 June 1 7,000 7,000 15 2,000 5,000 General Ledger Accounts Receivable Date Debit Credit Balance 2007 June 1 10,000 10,000 15 3,000 7,000 Subsidiary Ledger Jake Sparks Date Debit Credit Balance 2007 June 1 3,000 3,000 15 1,000 2,000 Control Account Subsidiary Ledgers © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-10 Two Approaches Used in Accounting for Merchandise Inventories Two Approaches Used in Accounting for Merchandise Inventories Perpetual Inventory System Periodic Inventory System © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-11 Learning Objective Learning Objective LO3 To account for purchases and sales of merchandise in a perpetual inventory system. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-12 Perpetual Inventory Systems Perpetual Inventory Systems The inventory account is continuously updated to reflect items on hand. Let’s look at some entries! © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-13 Perpetual Inventory Systems Perpetual Inventory Systems On September 5, Worley Co. purchased 100 laser lights for resale for $30 per unit from Electronic City on account. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-14 Perpetual Inventory Systems Perpetual Inventory Systems On September 10, Worley Co. sold 10 laser lights for $50 per unit on account to ABC Radios. 10  $30 = $300 10  $30 = $300 Cost Retail © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-15 Perpetual Inventory Systems Perpetual Inventory Systems On September 15, Worley Co. paid Electronic City $3,000 for the September 5 purchase. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-16 Perpetual Inventory Systems Perpetual Inventory Systems On September 22, Worley Co. received $500 from ABC Radios as payment in full for their purchase on September 10. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-17 Taking a Physical Inventory Taking a Physical Inventory In order to ensure the accuracy of their perpetual records, most businesses take a complete physical count of the merchandise on hand at least once a year. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-18 Taking a Physical Inventory Taking a Physical Inventory Reasonable amounts of inventory shrinkage are viewed as a normal cost of doing business. Examples include breakage, spoilage and theft. On December 31, Worley Co. counts its inventory. An inventory shortage of $2,000 is discovered. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-19 Closing Entries in a Perpetual Inventory System Closing Entries in a Perpetual Inventory System  Close Revenue accounts (including Sales) to Income Summary.  Close Expense accounts (including Cost of Goods Sold) to Income Summary.  Close Income Summary account to Retained Earnings.  Close Dividends to Retained Earnings. The closing entries are the same! © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-20 Learning Objective Learning Objective LO4 To explain how a periodic inventory system operates. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-21 Periodic Inventory System Periodic Inventory System No effort is made to keep up-to-date records of either inventory or cost of goods sold. Let’s look at some entries! © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-22 Periodic Inventory System Periodic Inventory System On September 5, Worley Co. purchased 100 laser lights for resale for $30 per unit from Electronic City on account. Notice that no entry is made to Inventory. Notice that no entry is made to Inventory. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-23 Periodic Inventory System Periodic Inventory System On September 10, Worley Co. sold 10 laser lights for $50 per unit on account to ABC Radios. Retail © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-24 Periodic Inventory System Periodic Inventory System On September 15, Worley Co. paid Electronic City $3,000 for the September 5 purchase. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-25 Periodic Inventory System Periodic Inventory System On September 22, Worley Co. received $500 from ABC Radios as payment in full for their purchase on September 10. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-26 Computing Cost of Goods Sold Computing Cost of Goods Sold The accounting records of Party Supply show the following: Inventory, Jan. 1 $ 14,000 Purchases (during year) 130,000 The accounting records of Party Supply show the following: Inventory, Jan. 1 $ 14,000 Purchases (during year) 130,000 At December 31, Party Supply counted the merchandise on hand at $12,000. At December 31, Party Supply counted the merchandise on hand at $12,000. Calculate Party Supply’s cost of goods sold for the year. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-27 Computing Cost of Goods Sold Computing Cost of Goods Sold Inventory (beginning of the year) 14,000 $ Add: Purchases 130,000 Cost of goods available for sale 144,000 Less: Inventory (end of year) 12,000 Cost of goods sold 132,000 $ Cost of Goods Sold can be calculated as follows: © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-28 Creating a Cost of Goods Sold Account Creating a Cost of Goods Sold Account Now, Party Supply must create the Cost of Goods Sold account. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-29 Creating a Cost of Goods Sold Account Creating a Cost of Goods Sold Account Now, Party Supply must record the ending inventory amount. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-30 Completing the Closing Process Completing the Closing Process Close Revenue accounts (including Sales) to Income Summary. Close Expense accounts (including Cost of Goods Sold) to Income Summary.  Close Income Summary account to Retained Earnings. Close Dividends to Retained Earnings. The closing entries are the same! © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-31 Learning Objective Learning Objective LO5 To discuss the factors to be considered in selecting an inventory system. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-32 Selecting an Inventory System Selecting an Inventory System Factors Suggesting a Perpetual Inventory System Factors Suggesting a Periodic Inventory System Large company with professional management. Small company, run by owner. Management and employees wanting information about items in inventory and the quantities of specific products that are selling. Accounting records of inventories and specific product sales not needed in daily operations; such information developed primarily for use in annual income tax returns. Items in inventory with a high per-unit cost. Inventory with many different kinds of low-cost items. Low volume of sales transactions or a computerized accounting system. High volume of sales transactions and a manual accounting system. Merchandise stored at multiple locations or in warehouses separate from sales sites. All merchandise stored at the sales site (for example, in the store). © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-33 Learning Objective Learning Objective LO6 To account for additional merchandise transactions related to purchases and sales. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-34 Credit Terms and Cash Discounts Credit Terms and Cash Discounts 2/10, n/30 Read as: “Two ten, net thirty” When manufacturers and wholesalers sell their products on account, the credit terms are stated in the invoice. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-35 Credit Terms and Cash Discounts Credit Terms and Cash Discounts 2/10, n/30 Percentage of Discount # of Days Discount Is Available Otherwise, the Full Amount Is Due # of Days when Full Amount Is Due © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-36 Recording Purchases at Net Cost Recording Purchases at Net Cost Purchases are recorded at their net amounts. Purchase Discounts Lost are recorded when payment is made outside the discount period. Net Method © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-37 Recording Purchases at Net Cost Recording Purchases at Net Cost On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-38 Recording Purchases at Net Cost Recording Purchases at Net Cost $4,000  98% = $4,000  98% = $3 920 On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-39 Recording Purchases at Net Cost Recording Purchases at Net Cost On July 15, Play Clothes pays the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-40 Recording Purchases at Net Cost Recording Purchases at Net Cost On July 15, Play Clothes pays the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-41 Recording Purchases at Net Cost Recording Purchases at Net Cost Now, assume that Play Clothes waited until July 20 to pay the amount due in full to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-42 Recording Purchases at Net Cost Recording Purchases at Net Cost Nonoperating Expense Nonoperating Expense Now, assume that Play Clothes waited until July 20 to pay the amount due in full to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-43 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price Purchases are recorded at their gross amounts. Purchase discounts taken are recorded when payment is made inside the discount period. Gross Method © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-44 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-45 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price On July 6, Play Clothes purchased $4,000 of merchandise on credit with terms of 2/10, n/30 from Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-46 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price On July 15, Play Clothes pays the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-47 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price Reduces Cost of Goods Sold Reduces Cost of Goods Sold $4,000  98% = $3,920 $4,000  98% = $3,920 On July 15, Play Clothes pays the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-48 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price Now, assume that Play Clothes waited until July 20 to pay the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-49 Recording Purchases at Gross Invoice Price Recording Purchases at Gross Invoice Price Now, assume that Play Clothes waited until July 20 to pay the full amount due to Kid’s Clothes. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-50 Returns of Unsatisfactory Merchandise Returns of Unsatisfactory Merchandise On August 5, Play Clothes returned $500 of unsatisfactory merchandise purchased from Kid’s Clothes on credit terms of 2/10, n/30. The purchase was originally recorded at net cost. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-51 Returns of Unsatisfactory Merchandise Returns of Unsatisfactory Merchandise $500  98% = $490 $500  98% = $490 On August 5, Play Clothes returned $500 of unsatisfactory merchandise purchased from Kid’s Clothes on credit terms of 2/10, n/30. The purchase was originally recorded at net cost. Prepare the journal entry for Play Clothes. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-52 Transportation Costs on Purchases Transportation Costs on Purchases Transportation costs related to the acquisition of assets are part of the cost of the asset being acquired. Transportation costs related to the acquisition of assets are part of the cost of the asset being acquired. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-53 Now, let’s talk about sales! © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-54 Transactions Relating to Sales Transactions Relating to Sales Computer City Partial Income Statement For the Year Ended December 31, 2007 Revenue Sales 912,000 $ Less: Sales returns and allowances 8,000 $ Sales discounts 4,000 12,000 Net sales 900,000 $ Credit terms and merchandise returns affect the amount of revenue earned by the seller. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-55 Sales Sales On August 2, Kid’s Clothes sold $2,000 of merchandise to Play Clothes on credit terms 2/10, n/30. Kid’s Clothes originally paid $1,000 for the merchandise. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-56 Sales Sales On August 2, Kid’s Clothes sold $2,000 of merchandise to Play Clothes on credit terms 2/10, n/30. Kid’s Clothes originally paid $1,000 for the merchandise. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-57 Sales Returns and Allowances Sales Returns and Allowances On August 5, Play Clothes returned $500 of unsatisfactory merchandise to Kid’s Clothes from the August 2 sale. Kid’s Clothes cost for this merchandise was $250. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries. Contra-revenue Contra-revenue © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-58 On August 5, Play Clothes returned $500 of unsatisfactory merchandise to Kid’s Clothes from the August 2 sale. Kid’s Clothes cost for this merchandise was $250. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries. Sales Returns and Allowances Sales Returns and Allowances © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-59 Sales Sales On July 6, Kid’s Clothes sold $4,000 of merchandise to Play Clothes on credit with terms of 2/10, n/30. The merchandise originally cost Kid’s Clothes $2,000. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries. © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 6-60 Sales Sales On July 6, Kid’s Clothes sold $4,000 of merchandise to Play Clothes on credit with terms of 2/10, n/30. The merchandise originally cost Kid’s Clothes $2,000. Because Kid’s Clothes uses a perpetual inventory system, they must make two entries.