Chapter 5: Accounting For Merchandising Operations

… Chapter 5
♥accounting for merchandising operations♥
Merchandising companies: - are companies that buy and sell goods
Customer  retailer  wholesaler
 Theprimary source of revenues is the sale of merchandise it is called

“sales revenue or sales”
 Unlike expenses for a service company, expenses for merchandising
company are divided into two categories
Expense
Cost of goods sold Operating expenses
Net sales XX
(-) cost of goods sold (XX)
= gross profit XX
(-) operating expenses (XX)
Net income XX
Note that:
 net sales revenue = sales – sales return and allowance – sales

discount
 The terms of cost goods sold and gross profit don’t appear on
service companies statement
Cost of goods sold is the total cost of merchandise sold during the
period
Example
Mr: Kareem Abo Zeed Mob: 0128385030

Email: KareemAboZeed@yahoo.com - 1- : 0106774350
… Chapter 5
Assume that Helnan Company acquired products at cost of $
60000 and sold for $ 200000 and incurred other expenses of $ 90000
Required: - compute net income for Helnan Company
Solve
Net sales $ 200000
(-) cost of goods sold 60000
= gross profit 140000
(-) operating expenses 90000
Net income 50000
Operating cycle
Service Company
Cash
Receive cash Perform services
Account receivable
Merchandising company
Receive cash Cash Buy inventory
Account Sell inventory Merchandise

receivable inventory
Note that: - the operating cycle of merchandising company is also longer

than operating cycle of Service Company
Inventory systems
1- Perpetual inventory system

2- Periodic inventory system

… Chapter 5
Perpetual system
 It record the cost of each inventory purchase and sale

 It show a continuous record of merchandise inventory and cost of
goods sold “every time a sale occurs”
 Purchases increase merchandise inventory
 Merchandise inventory includes “freight costs, purchase return
and allowance and purchase discounts” each sale would increase
cost of goods sold and decrease merchandise inventory
Note that: - we use physical count to determine merchandise inventory
Periodic system
 It doesn’t record the goods on and “inventory”

 It is determine only at the end of the accounting period
 Purchase of merchandise increase purchases
Note that: -
1- Endinf inventory is determines by physical count

2- Cost of goods sold is computed as follows:-
Beginning inventory XX
+ net purchases XX
= cost of goods available XX
(-) ending inventory XX
= cost of goods sold XX
Note that: -
Net purchases = purchases – purchase return and allowance – purchase

discount + transportation cost

… Chapter 5
Example
Assume that Morgan Company has beginning and ending
inventory $ 200000 and $ 260000 and the amount of net purchases equal
$ 700000. Compute cost of goods sold
Solve
Beginning inventory $ 200000

+ net purchases 700000
= cost of goods available 900000
(-) ending inventory 260000
= cost of goods sold 740000
Note that: - the purchase would receive a purchase invoice “it is a copy
of sales invoice”.
Example
Assume that Beyer video buy merchandise for $ 3800 from
electronix. Prepare required entry to record purchases
Solve
Merchandise inventory 3800
A/P 3800
Purchase discount: - it would prompt payment of the account not yet

received cash.
Example
Assume that Beyer accounts payable to electronix is $ 3500 that
purchased inventory on May 4 credit term 2/10, n/30 show the Journal
entry at may 11 payment of account

… Chapter 5
Solve
A/P 3500
Cash 3500
Purchased is count = 3500 x 2 % $ 70
Prepare Journal entry on June 3 if Beyer failed to take discount
Account payable 3500

Cash 3500
Note that: -
 buyer views a cash discount as purchase discount

 Seller views a cash discount as sale discount
MCQ: -
 Gross profit will result from :

a) Sales revenue are greater than operating expenses
b) Operating expenses are less than net income

… Chapter 5
c) Sales revenue are greater than cost of goods sold
d) Operating expenses are greater than cost of goods sold
Purchas r eturn and allowance: -
The purchaser would want to return goods because they are

damaged, defective, inferior quality or don’t meet specifications
Purchase return: return goods for credit if the sale was made on
credit, or for cash if it was for cash
Purchase allowance: keep the merchandise if the seller would grant an

allowance from the purchase price.
Example
Assume that Beyer video buy merchandise for $ 3800 on account

from electronix on May 8.
Prepare Journal entries to record the purchase and return of goods.

Account payable 300

MCQ
 In a perpetual inventory system a return of a defective
merchandise by a purchaser is record as credit to
a) Purchases
b) Purchase return
c) Purchase allowance

… Chapter 5
d) Merchandise inventory
Freight cost: it is the cost of transporting the goods from the seller to
the buyer
1- FOB shipping point: seller places goods free on boar the carrier
and the buyer pays the freight cost
2- FOB destination: seller places goods free on board to the buyer’s
place of business and seller pays freight costs
Example
Assume that on May 6 Beyer video pays $ 150 cash for freight
charges
Prepare Journal entry to record freight charges.

Cash 150
Assume that the seller pays the freight charges the entry by sller
would be:
Freight-out (delivery expense) 150

Cash 150
Exercise
These information about Mena Company, under perpetual

inventory system prepare Journal entry to record this transactions
1- On August 7, purchased merchandise from Fady company for $

33000 terms 2/10 n/30 FOB shipping point.

… Chapter 5
2- On August 8, paid freight cost of $ 1000 on merchandise
purchased from fady company
3- On August 9, purchased equipment on account for $ 23000
4- On August 10, returned damaged merchandise to Fady
company and was granted a $ 3000 credit for returned
merchandise
5- On August 17, paid the amount due to fady company in full
6- Assume that payment is made On August 19.
Solve
1-
Aug 7 Merchandise inventory 33000

2-
Aug Merchandise inventory 1000

8 Cash 1000
3-
Aug equipment 23000

9 Account payable 23000
4-
Aug Account payable 300

10 Merchandise inventory 0 3000
5-

17 Cash 600

… Chapter 5
6-

19 Cash 30000
Sales
Sales revenue are earned when the goods are transferred from the
seller to the buyer
Note that: sales revenue would be supported by sales invoice
Example
Assume that sales was $ 5000 on account on May 4 to Noran that

was costing $ 36000 prepare Journal entries to record sales

sales 5000
Cost of goods sold 3600

Sales returns and allowance: it is flip side of purchase return and

allowance
Assume that in the previous example that Noran Co. returned $

2000 of sales to Nada Co. that was costing $ 1200
Sales return and allowance 2000

… Chapter 5
Accounts receivable 2000

Note that: sales return and allowance is a contra revenue account
Sales discounts: it is the flip side of purchase discounts
Example
Assume that Meryam Co. sells goods on October’s of $ 6000 on to

Hadeer Co. credit term 1/10 n/60
Prepare required entry assuming that Meryam would receive cash on

October, 15
Cash 5940
Sales discount 60
Account receivable 6000
Assume that Meryam receive cash on October, 31
Cash 6000
Account receivable 6000
Adjusting entries:
Example
Suppose that Ramez Company has merchandise inventory of $

40500. Physical count determined that $ 40000 of merchandise inventory
on hand at year- end

Email: KareemAboZeed@yahoo.com - 10 - : 0106774350
… Chapter 5
Prepare Journal entry to adjust the amount of inventory

Q: - Joan Ronald believes revenues from credit sales may be earned

before they are collected in cash
Do you agree? Explain.
 In accordance with revenue recognition principle sales revenue are

generally considered to be earned when the goods are transferred
from the seller to the buyer, that is when the exchange occurs the
earnings DF revenue not depending on the collection of credit
sales
Multiple-step income statement

 It shows the steps of computing net income in details

… Chapter 5
 It also distinguished between operating and non-operating
activities
Sales revenues
Sales $ 480000
Less: sales return and $ 12000
allowances 8000 20000
Sales discounts $ 460000
Net sales 316000
(-) cost of goods sold $ 144000
Gross profit 114000
Operating expenses $ 30000
Net income
gross profit 144000

Gross profit rate = net sales = 460000 = 31.3 %
Sellers electronix
Income statement for the year ended December 31, 2005
Sales revenues
Sales $ 480000
Less: sales return and allowances $ 12000
Sales discounts 8000 20000
Net sales $ 460000
Gross profit $ 144000
Operating expenses
Selling expenses
Store salaries expense 45000
Advertising expense 16000
Depreciation expense-store 8000
equipment 7000
Freight-out
76000

… Chapter 5
Total selling expenses
19000
Administrative expenses 17000
Salaries expense 2000
Utilities expense
Insurance expense 38000
Total administrative expenses 144000
Total operating expenses 30000
Income from operations 3000
Other revenues and gains 600
Interest revenue 3600
Gain on sale of equipment
1800
Other expenses and losses 200
Interest expense
Casualty loss from vandalism 2000
1600
Net income $ 31600
opearting income 30000

Operating income rate = net sales
= 460000
= 6.52 %
net profit (income) 31600

Net profit rate = = 460000 = 6.87 %
net sales
Single-step income statement

 It is only one step by subtracting total expenses from total
revenues
Sellers electronix
Income statement for the year ended December 31, 2005
Revenues
Net sales $ 460000
Interest revenue 3000
Gain on sale of equipment 600

… Chapter 5
Total revenues 463600
Expenses
Cost of goods sold $ 316000
Selling expenses 76000
Administrative expenses 38000
Interest expense 1800
Casualty loss from vandalism 200
Total expenses 432000
Net income $ 31600
 There are two reasons for using single-step format

1) A company does not realize any type of profit or income until
revenues exceed expenses
2) Format is simpler and easier to read than multiple-step format
Periodic inventory system

 In his system purchases of merchandise are recorded as purchases
rather than a merchandise inventory so, we record purchase return
and allowance, purchase discounts and freight in on purchases
 We use physical count taken at the end of period which determine
(cost of goods sold, merchandise on hand)
Example
The following transaction occurred during May
Purchases: -
 May 4, purchase merchandise of $ 3800 term 2/10 n/30
 May 8, return defective goods of $ 300
 May 9, paid freight cost of $ 150
 May 14of account
Sales: -
 May 4, sale of 3800 that was costing term 2/10 n/30
… Chapter 5
 May 8, return goods are $ 300 that was costing $ 140
 May 15, receive payment of account
Solve
Entries on Beyer video’s books
Transaction Perpetual system Periodic inventory system
May 4 Purchase of Merchandise inventory 3800 Purchases 3800
merchandise on credit Accounts payable 3800 Accounts payable
May 8 Purchase returns and Accounts payable 300 Accounts payable 300
allowance Merchandise inventory 300 Purchase returns and
allowance
May 9 Freight costs on Merchandise inventory 150
purchase Cash 150 Freight-in 150
Cash
May14 Payment on account Accounts payable 3500
with a discount Cash 3430 Accounts payable 3500
Merchandise inventory 70 Cash
Purchase discounts 3500
Entries on Beyer video’s books

Transaction Perpetual system Periodic inventory system
May 4 sales of merchandise Accounts receivable 3800 Accounts receivable 3800
on credit Sales 3800 Sales 3800
Cost of goods sold 2400 No entry for cost of
Merchandise inventory 2400 goods sold
May 8 return of Sales returns and allowances 300 Sales returns and 300
merchandise sold Accounts receivable 300 allowances
Merchandise inventory 140 Accounts receivable 300
Cost of goods sold 140 No entry
cash received on Cash 3430 Cash 3430

May15 account with a Sales discounts 70 Sales discounts 70
discount Accounts receivable 3500 Accounts receivable 3500


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… Chapter 5

♥accounting for merchandising operations♥

Merchandising companies: - are companies that buy and sell goods

Customer  retailer  wholesaler

 Theprimary source of revenues is the sale of merchandise it is called

 net sales revenue = sales – sales return and allowance – sales

Mr: Kareem Abo Zeed Mob: 0128385030

Required: - compute net income for Helnan Company

Receive cash Cash Buy inventory

Account Sell inventory Merchandise

Note that: - the operating cycle of merchandising company is also longer

1- Perpetual inventory system

Mr: Kareem Abo Zeed Mob: 0128385030

 It record the cost of each inventory purchase and sale

Note that: - we use physical count to determine merchandise inventory

 It doesn’t record the goods on and “inventory”

1- Endinf inventory is determines by physical count

Net purchases = purchases – purchase return and allowance – purchase

Mr: Kareem Abo Zeed Mob: 0128385030

Beginning inventory $ 200000

Purchase discount: - it would prompt payment of the account not yet

Mr: Kareem Abo Zeed Mob: 0128385030

Purchased is count = 3500 x 2 % $ 70

Prepare Journal entry on June 3 if Beyer failed to take discount

Account payable 3500

 buyer views a cash discount as purchase discount

 Gross profit will result from :

Mr: Kareem Abo Zeed Mob: 0128385030

Purchas r eturn and allowance: -

The purchaser would want to return goods because they are

Purchase allowance: keep the merchandise if the seller would grant an

Assume that Beyer video buy merchandise for $ 3800 on account

Prepare Journal entries to record the purchase and return of goods.

Merchandise inventory 3800

Account payable 300

Mr: Kareem Abo Zeed Mob: 0128385030

Prepare Journal entry to record freight charges.

Merchandise inventory 150

Freight-out (delivery expense) 150

These information about Mena Company, under perpetual

1- On August 7, purchased merchandise from Fady company for $

Mr: Kareem Abo Zeed Mob: 0128385030

Aug 7 Merchandise inventory 33000

Aug Merchandise inventory 1000

Aug equipment 23000

Aug Account payable 300

Aug Account payable 30000

Mr: Kareem Abo Zeed Mob: 0128385030

Aug Account payable 30000

Note that: sales revenue would be supported by sales invoice

Assume that sales was $ 5000 on account on May 4 to Noran that

Account payable 5000

Cost of goods sold 3600

Sales returns and allowance: it is flip side of purchase return and

Assume that in the previous example that Noran Co. returned $

Sales return and allowance 2000

Mr: Kareem Abo Zeed Mob: 0128385030

Merchandise inventory 1200

Note that: sales return and allowance is a contra revenue account