Revised Fall 2012

CHAPTER 4
ACCOUNTING FOR MERCHANDISING
OPERATIONS

Key Terms and Concepts to Know

Income Statements:
• Single-step income statement
• Multiple-step income statement
• Gross Margin = Gross Profit = Net Sales – Cost of Goods Sold  Gross Margin
ratio = Gross Margin / Net Sales

Operating Cycle:
• Purchase merchandise from vendors for inventory on account or for cash
• Sell inventory to customers on account
• Collect cash from customers
• Pay cash to vendors
• Repeat again and again
• Note that these steps overlap so that the cash collections from customers may
occur before and/or after the cash payments to vendors.

Merchandise Inventory:
• Merchandise Inventory (Inventory or MI) refers to the goods the company has
purchased and intends to sell to others.
• Inventory is a current asset since the company intends to sell it within one year.

Cost of Goods Sold:

• Inventory that has been sold becomes an expense, Cost of Goods Sold, in the
period of sale.

Inventory Systems:
• Perpetual Inventory System records all inventory transactions as they occur in the
Merchandise Inventory account.

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• Perpetual Inventory System records all purchase-related inventory transactions as

they occur in separate accounts and records the cost of goods sold only at the
end of the period.
• Shrinkage is the cost of inventory not on hand and not sold. It is part of cost of
goods sold under either inventory system.

Purchasing Transactions:
• Inventory account is increased for the cost of the merchandise purchased plus the
freight cost necessary to transport the inventory to the buyer’s place of business
(FOB shipping point).
• Inventory is always recorded at the final cost to the buyer, purchase price less
allowances received from the seller and any cash discounts taken
• Trade discounts are deducted as part of the initial purchase transaction; they are
not a purchase discount.

Purchase returns:
• Inventory account is decreased for the cost of the merchandise returned to the
seller less any allowances or discounts already recorded in the ledger.

Sales Transactions:
• Inventory account is decreased and cost of goods sold is increased for the cost of
the merchandise sold.
• The freight cost necessary to transport the inventory to the buyer’s place of
business is an expense in the period of sale (FOB Destination). Transportation
Out or Freight Out are typical accounts used to record the expense.
• The selling price of the merchandise sold represents revenue to the seller and is
recorded in a separate transaction.
• Trade discounts are deducted as part of the initial sale transaction; they are not a
sales discount nor a contra-revenue.

Sales Returns:
• Inventory account is increased and cost of goods sold is decreased for the cost of
the merchandise returned by the buyer.
• Sales returns and allowances is increased and cash or A/R is decreased for the
selling price of the merchandise returned by the buyer.

ALWAYS KNOW WHETHER YOU ARE THE BUYER OR THE SELLER IN THE
TRANSACTION. SOME OF THE ACCOUNTS USED AND SOME OF THE DOLLAR
AMOUNTS RECORDED WILL DIFFER DEPENDING ON WHETHER YOU ARE THE
BUYER OR SELLER IN THE TRANSACTION.

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Transportation (Freight) Costs:

• FOB Shipping Point – Purchaser is responsible for paying the shipping charges.
They are usually prepaid by the seller and added to the invoice. Buyer adds the
shipping costs to inventory. If seller prepays, seller has a receivable from buyer.
• FOB Destination – Seller is responsible for paying the shipping charges and they
are recorded as the expense Transportation Out. Buyer does not make an entry.
• Transportation (freight) costs are not subject to a cash discount.

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Credit Terms:
• Generally take the form of 2/10, n/30 where
- 2 is the discount %
- 10 is the discount period in days
- n is the net (total) amount to pay
- 30 is the number of days after the invoice date that the net amount is due
• Only purchases are subject to the discount; transportation or freight costs paid by
the seller on behalf of the buyer are not subject to a discount.
• Cash discounts reduce the cost of inventory for the buyer (credit merchandise
inventory)
• Cash discounts reduce revenue for the seller (debit sales discounts, a
contrarevenue account)

Acid-Test ratio and Gross Margin ratio

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Key Topics to Know

Note: The same example transactions are presented for Purchase Transactions and
Sales Transactions to highlight the differences between cost and selling price.

Purchase Transactions

When companies purchase goods they intend to sell to customers, the transaction is
recorded in the Merchandise Inventory account, a current asset. Inventory is recorded
at cost, which includes the price paid for the goods plus all necessary costs of getting
the inventory to the company’s place of business and ready to sell. The rules of FOB
determine whether freight costs are included in the cost of inventory.

Example 1: $800 of inventory is purchased for cash, FOB shipping point. In a separate
transaction, the purchaser pays $100 of shipping charges to the shipping company,
which are added to the cost of the inventory. Therefore the total cost of the inventory
purchased is $800 purchase price + $100 shipping charges:

Merchandise Inventory 800

Cash 800

Merchandise Inventory 100

Cash 100

$200 of merchandise purchased is returned prior to payment:

Cash 200
Merchandise Inventory 200

Example 2: $800 of inventory is purchased on account, FOB shipping point. The seller
pays $100 to the shipping company on behalf of the buyer, which is added to the
seller’s invoice. The credit terms offered by the seller are 2/10, n/30. Therefore the
total cost of the inventory purchased is $800 purchase price + $100 shipping charges:

Merchandise Inventory 900

A/P 900

$200 of merchandise purchased is returned prior to payment.

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A/P 200 Merchandise Inventory 200

When the invoice is paid within the discount period
$800 purchase - $200 return = $600 merchandise * 2% = $12 discount
$700 owed ($600 + $100 shipping) - $12 discount = $688 paid

A/P 700 Cash 688

Merchandise Inventory 12

Example 3: $800 of inventory is purchased on account, FOB destination. In a separate

transaction, the seller pays $100 of shipping charges to the shipping company. The
buyer records only the cost of the merchandise. The credit terms offered by the seller
are 2/10, n/30. Therefore the total cost of the inventory purchased is $800 purchase
price.

Merchandise Inventory 800

A/P 800

$200 of merchandise purchased is returned prior to payment.

A/P 200
Merchandise Inventory 200

When the invoice is paid within the discount period assuming credit terms of 2/10, n/30:
$800 purchase - $200 return = $600 merchandise * 2% = $12 discount
$600 owed - $12 discount = $588 paid

A/P 500 Cash 490

Merchandise Inventory 10

Practice Problem #1
Journalize the following purchase related transactions:

a. Jingle Co. purchased $4,000 worth of merchandise on account, terms 2/10, n/30,
FOB shipping point. Prepaid transportation charges of $200 were added to the
invoice.
b. Returned $500 of merchandise purchased in (a).
c. Paid on account for purchases in (a), less return (b) and discount.

Sales Transactions

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When companies sell merchandise inventory, the transaction requires two journal
entries: the first entry records the revenue from the sale at the selling price and the
second entry decreases the inventory account and records the expense of the sale
at cost.
Revenue (sales) is recorded at the time the transaction occurs, regardless of whether
payment is received from the buyer. Revenue is always greater the cost of the goods
being sold.

Inventory is decreased for the cost of the inventory sold, which includes the price paid
for the goods plus all necessary costs of getting the inventory to the company’s place of
business and ready to sell as noted above.

The rules of FOB determine whether freight costs are recorded as transportation out, a
selling expense.

The seller would record the examples in Purchase Transactions above as follows. Note
that the seller had a gross margin ratio of 20%.

Example 1: Inventory is sold for $800 cash (FOB shipping point. In a separate
transaction, the purchaser pays $100 of shipping charges to the shipping company.
The total cost of the inventory when purchased was $640 (800 –( 20% * 800)):

Cash 800
Sales 800 Cost of Goods Sold 640
Merchandise Inventory 640

$200 of merchandise purchased is returned by the customer prior to payment:

Sales returns and Allowances 200

Cash 200 Merchandise Inventory 160
Cost of Goods Sold 160

Example 2: $800 of inventory is sold on account, FOB shipping point. The seller pays
$100 to the shipping company on behalf of the buyer, which is added to the seller’s
invoice. The credit terms offered by the seller are 2/10, n/30. Therefore the total
account receivable is $900 selling price + $100 shipping charges. The total cost of the
inventory when purchased was $640 (800 – (20% * 800)):
A/R 900
Sales 800
Cash 100
Cost of Goods Sold 640

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Merchandise Inventory 640

$200 of merchandise purchased is returned prior to payment.

Sales Returns and Allowances 200

A/R 200
Merchandise Inventory 160
Cost of Goods Sold 160

When the invoice is paid within the discount period

$800 purchase - $200 return = $600 merchandise * 2% = $12 discount
$700 owed ($600 + $100 shipping) - $12 discount = $688 paid

Cash 688
Sales Discounts 12
A/R 700

Example 3: $800 of inventory is sold on account, FOB shipping point. In a separate

transaction, the seller pays $100 to the shipping company. Therefore the total account
receivable is $800 selling price. The total cost of the inventory when purchased was
$640 (800 – 20% * 800):

A/R 800
Sales 800
Cost of Goods Sold 640
Merchandise Inventory 640

Transportation Out 100

Cash 100

$200 of merchandise purchased is returned prior to payment.

Sales Returns and Allowances 200

A/R 200
Merchandise Inventory 160
Cost of Goods Sold 160

When the invoice is paid within the discount period

$800 purchase - $200 return = $600 merchandise * 2% = $12 discount
$600 owed - $12 discount = $588 paid

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Cash 588 Sales Discounts 12

A/R 600

Practice Problem #2
Journalize the following sales related transactions.

a) Sold merchandise on account to Jangle Co., $5,000, terms FOB

Shipping Point, 2/10, n/30. The cost of the merchandise sold was
$3,000. Paid transportation charges of $200, which were added to
the invoice.
b) Sold merchandise on account to Comet Co., $10,000, terms FOB
Destination, 1/10, n/30. The cost of the merchandise was $6,000.
c) Paid transportation charges of $400 for delivery of merchandise
sold to Comet Co.
d) Issued credit memorandum for $2,000 to Comet Co. for
merchandise returned from sale in (b). The cost of the
merchandise was $1,200.
e) Received amount due from Jangle Co. within the discount period.
f) Received amount due, less return and discount from Comet Co.
g) Sold merchandise on account to Jangle Co., $5,000, terms FOB
Shipping Point, 2/10, n/30. The cost of the merchandise sold was
$3,000. Paid transportation charges of $200, which were added to
the invoice.
h) Sold merchandise on account to Comet Co., $10,000, terms FOB
Destination, 1/10, n/30. The cost of the merchandise was $6,000.
i) Paid transportation charges of $400 for delivery of merchandise
sold to Comet Co.
j) Issued credit memorandum for $2,000 to Comet Co. for
merchandise returned from sale in (b). The cost of the
merchandise was $1,200.
k) Received amount due from Jangle Co. within the discount period.
l) Received amount due, less return and discount from Comet Co.

Inventory Shrinkage

When a company takes a physical count of its inventory, should it reasonably expect to
find all of the inventory items present and accounted for? Unfortunately, this is not
always the case. Inventory could have been stolen (e.g. shoplifting) or damaged,
disposed of and not reported as such (e.g. the inventory fell off the shelf in the
warehouse, was damaged by the fall and was disposed of by the cleaning crew).

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Although companies try to protect their inventory through proper internal controls,
inventory losses or shrinkage still occur. Under the matching principle, these losses are
recorded as expenses in the period in which they occur to match them against the
revenue earned. Although the text suggests that they should be recorded as cost of
goods sold, in practice they may be recorded in a separate inventory shrinkage expense
account reported within cost of goods sold.

Example: The balance in the Merchandise Inventory account in the general ledger was
$300,000 before adjustment. A Physical Inventory was taken and the value of the
merchandise on hand was $294,000.

Adjusting entry required:

Cost of Merchandise Sold 6,000

Merchandise Inventory 6,000

Multi-Step Income Statement

The Multi-Step Income statement provides a substantial amount of additional significant

information to the user of the financial statements. It also incorporates revenues and
expenses unique to the merchandising company versus a service provider.

Key changes compared to the single-step income statement include:

• Gross-to-Net Sales to account for contra-revenue accounts
• Gross Profit to report the margin or profit remaining after covering the cost of
merchandise sold that is available to cover operating expenses
• Separating Operating Expenses into selling expenses and administrative expenses
to provide an additional level detail
• Income from Operations to report the profitability of the company’s reason for
being in business
• Other Income and Other Expense to identify the revenues and expenses not
related to the company’s reason for being in business
• In real life, income tax expense would be reported between net other revenues
and expenses and Net Income. It is excluded in this illustration and in the
textbook for simplicity.

Gross Sales $500,000

- Sales Returns & allow. $5,000

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- Sales Discounts 3,000 8,000

Net Sales 492,000
Cost of Merchandise Sold 294,000
Gross Profit 198,000
Operating Expenses:
Selling Expenses 50,000
Admin Expense 45,000
Total Operating Expenses 95,000
Income from Operations 103,000
Other Income:
Interest Revenue 1,000
Other Expenses:
Interest Expense 700 300
Net Income $102,700

Practice Problem #3
Using the format for the multi-step income statement, compute the following:
a. Calculate Net Sales and Gross Profit if, Sales are $375,000, Sales Returns
and Allowances are $32,000, Sales Discounts are $12,000 and Cost of
Merchandise Sold is $255,000.
b. Calculate Sales Returns and Allowances and Cost of Merchandise Sold if,
Sales are $750,000, Sales Discounts are $9,000, Net Sales are $736,000 and
Gross Profit is $310,000.
c. Calculate Sales and Net Sales if, Sales Returns and Allowances are $25,000,
Sales Discounts are $15,000, Cost of Merchandise Sold is $620,000 and Gross
Profit is $185,000.

Practice Problem #4
Journalize the following related transactions.

a) Purchased mdse on account from Blitzen Co., list price $20,000, trade
discount 25%, terms FOB shipping point, 2/10, n/30, with prepaid
transportation costs of $650 added to the invoice.
b) Purchased merchandise on account from Cupid Co., $8,000, terms FOB
destination, 1/10, n/30.
c) Sold merchandise on account to Donner Co., $9,800, terms 2/10,
n/30. The cost of the merchandise sold was $5,800.

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d) Returned $2,000 of merchandise purchased from Cupid Co. (b)

e) Paid Blitzen Co. on account for purchase in (a) less discount.
f) Received merchandise returned by Donner Co. from sale in (c),
$1,800. The cost of the merchandise returned was $1,080.
g) Paid Cupid Co. on account for purchase in (b) less return (d) and
discount.
h) Received cash on account from Donner Co. for sale in (c) less return
(f) and discount.
i) Perpetual inventory records indicate that $85,000 of merchandise
should be on hand. The physical inventory indicates that $81,350 of
merchandise is on hand.

SAMPLE MULTIPLE CHOICE QUESTIONS

1. The difference between net sales and cost of merchandise sold for a
merchandising business is:
a) Sales
b) Net Sales
c) Gross Profit
d) Gross Sales

2. When purchases of merchandise are made on account, the transaction

would be recorded with the following entry:
a) Debit Accounts Payable, credit Merchandise Inventory
b) Debit Merchandise Inventory, credit Accounts Payable
c) Debit Merchandise Inventory, credit Cash
d) Debit Cash, credit Merchandise Inventory

3. When a corporation sells merchandise and the terms are FOB shipping
point and pays the shipping costs, the seller would record the
transportation costs with the following entry:
a) Debit Cash, credit Accounts Receivable
b) Debit Accounts Receivable, credit Sales
c) Debit Accounts Receivable, credit Cash
d) Debit Merchandise Inventory, credit Accounts Payable

4. Multiple-step income statements:

a) Show gross profit but not income from operations
b) Show both gross profit and income from operations

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c) Show neither gross profit nor income from operations

d) Show income from operations but not gross profit

5. Which of the following would be reported on the retained earnings

statement for the current year?
a) Dividends for the current year
b) Sales
c) Cost of merchandise sold
d) Merchandise inventory

6. A sales invoice included the following information: merchandise price,

$12,000; transportation, $500; terms 2/10, n/eom, FOB shipping point.
Assuming that a credit for merchandise returned of $600 is granted prior
to payment, that the transportation is prepaid by the seller, and that the
invoice is paid within the discount period, what is the amount of cash
received by the seller?
a) $11,662
b) $11,672
c) $12,250
d) $11,172

7. An acid-test ratio of 1.5 means

a) Quick assets are 1.15 times as large as sales.
b) That every $1.50 of quick assets generates $1.00 in sales.
c) That every $1.50 of sales generates $1.00 of liabilities.
d) Quick assets are 1.5 times as large as total liabilities.

8. Merchandise with an invoice price of $7,000 is purchased with terms of

2/10, n/30, FOB shipping point. Transportation costs paid by the seller
were $125. What is the cost of the merchandise purchased if payment
is made during the discount period?
a) $6,860.00
b) $6,982.50
c) $7,000.00
d) $6,985.00

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9. Cost of Merchandise Sold would be classified as:

a) Asset
b) Expense
c) Liability
d) Revenue

10. The discount period for credit terms of 1/10, n/30 is:
a) 1 day
b) 10 days
c) 20 days
d) 30 days

11. Freight costs incurred by the seller are recorded in the

a) Sales account
b) Cost of merchandise sold account
c) Transportation In account
d) Transportation Out account

12. Which of the following would be classified in an income statement as

Other Income or Other Expense?
a) Advertising Expense
b) Interest Expense
c) Transportation Out
d) Cost of merchandise sold

13. The sales discount is based on

a) Invoice price plus transportation costs
b) Invoice price less discount
c) Invoice price plus transportation costs less returns and allowances
d) Invoice price less returns and allowances

14. Myers and Company sold $1,800 of merchandise on account to Oscar,

Inc. on March 1 with credit terms of 2/10, n/30. Oscar returned $500 of
the merchandise due to poor quality on March 3. If Oscar pays for the
purchase on March 11, what entry does Myers make to record receipt of
the payment?
a) Debit Cash, $1,764; credit A/R, $1,764
b) Debit Cash, $1,800; credit Sales Returns and allowances, $500; credit
A/R, $1,300
c) Debit Cash, $1,274; debit Sales Discounts $26; credit A/R,

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$1,300
d) Debit Cash, $1,800; credit Sales Discounts $36; credit A/R, $1,764

15. In a perpetual inventory system, what accounts are credited when a

customer returns merchandise to the seller?
a) Sales Returns and Allowances and Accounts Receivable
b) Accounts Receivable and Cost of Merchandise Sold
c) Merchandise Inventory and Cost of Merchandise Sold
d) Sales Returns and Allowances and Merchandise Inventory

16. Assume that sales are $450,000, sales discounts are $10,000, net
income is $35,000, and cost of merchandise sold is $320,000.
Gross profit and operating expenses are, respectively
a) $130,000 and $95,000
b) $120,000 and $95,000
c) $130,000 and $85,000
d) $120,000 and $85,000

17. Which of the following accounts is credited by the seller when

merchandise purchases are paid for within the discount period?
a) Merchandise Inventory
b) Accounts Payable
c) Accounts Receivable
d) Sales Discounts

18. A classified balance sheet reports merchandise inventory as:

a) Plant asset
b) Long-term asset
c) Current asset
d) Current liability

19. Gross Margin is calculated as:

a) Sales less cost of merchandise sold
b) Sales less merchandise inventory
c) Sales less expenses
d) Sales less operating expenses

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20. Company A’s gross profit ratio has been steadily declining for 5 years
while the net profit ratio has remained constant. The most likely reason
for this pattern is:
a) Cost of merchandise sold and operating expenses have both
increased each year
b) Selling price and operating expenses have both decreased each year
c) Cost of merchandise sold and operating expenses have both
decreased each year
d) Selling price decreased and operating expenses increased each year

SOLUTIONS TO PRACTICE PROBLEMS

Practice Problem #1

a) Merchandise Inventory 4,200

A/P 4,200

b) A/P 500
Merchandise Inventory 500

c) A/P 3,700
Cash 3,630
Merchandise Inventory 70

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Sample True / False Questions

1. Trade discounts represent a discount offered to the purchasers for
quick payment.
True False

2. When a company sells a $100 service with a 20% trade discount,

$80 of revenue is recognized.
True False

3. A sales discount represents a reduction, not in the selling price of a

product or service, but in the amount to be paid by a credit
customer if payment is made within a specified period of time.
True False

4. A sale on account for $1,000 offered with terms 2/10, n/30 means
that the customers will get a $2 discount if payment is made within
10 days; otherwise, full payment is due within 30 days.
True False

5. The Sales Discounts account is an expense account.

True False

6. A sales allowance is recorded as a debit to Accounts Receivable

and a credit to Sales Allowances.
True False

7. The Sales Returns account is an expense account. True False

8. If a company has total revenues of $100,000, sales discounts of

$3,000, sales returns of $4,000, and sales allowances of $2,000,
the income statement will report net revenues of $91,000. True
False

9. Cost of goods sold is an asset reported in the balance sheet and

inventory is an expense reported in the income statement. True
False

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10. If a company has beginning inventory of $15,000, purchases

during the year of $75,000, and ending inventory of $20,000, cost
of goods sold equals $70,000.
True False

11. For inventory that is shipped FOB destination, title transfers from
the seller to the buyer once the seller ships the inventory. True
False

12. For inventory that is shipped FOB shipping point, title transfers
from the seller to the buyer once the seller ships the inventory.
True False

13. Freight-in is included in the cost of inventory.

True False

14. Gross profit equals net sales of inventory less cost of goods sold.
True False

15. Sales revenue minus cost of goods sold is referred to as operating

income.
True False

1. When a company sells a $100 service with a 20% trade discount,

$80 of revenue is recognized.
True False

Sales returns and allowances occur when the buyer returns the goods
or the seller reduces the customer's balance owed.
True False

3. Inventory is usually reported as a long-term asset in the balance

sheet.
True False

4. Merchandising companies purchase inventories that are primarily

in finished form for resale to customers. True False

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5. Sales revenue minus cost of goods sold is referred to as operating

income.
True False
Income before
income taxes
equals
operating
income plus
nonoperating
revenues less
nonoperating
expenses.
True False

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5,200 5,000
Revised Fall 2012 200

Practice Problem #2 3,000 3,000

a) Accounts Receivable/Jangle
Sales
10,000
Cash 10,000
Cost of Merchandise Sold
Merchandise Inventory 6,000 6,000

b) Accounts Receivable/Comet 400

Sales 400
Cost of Merchandise Sold
Merchandise Inventory 2,000
2,000
c) Transportation Out 1,200
Cash 1,200

d) Sales Returns & Allowances 5,200

Accounts Receivable/Comet 5,100
Merchandise Inventory 100
Cost of Merchandise Sold

e) Cash
Sales Discounts
Accounts Receivable/Jangle 7,920 8,000
80
$5,000 sale * 2% = $100 discount
$5,200 owed ($5,000 + $200 shipping)
- $100 discount = $5,100 received
ved
Cash
Sales Discounts
Accounts Receivable/Comet
$10,000 sale - $2,000 return = $8,000 owed
$8,000 * 1% = $80 discount
$8,000 owed - $80 discount = $7,920 recei

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 Page 21 of 25

Practice Problem #3

a) Sales $375,000
- Sales Returns & Allowances (32,000)
- Sales Discounts (12,000)
Net Sales 331,000
-Cost of Merchandise Sold (255,000)
Gross Profit $76,000

b) Sales $750,000 750,000 – x – 9,000 = 736,000

- Sales Returns &
Allowances x 741,000 – x = 736,000
- Sales Discounts (9,000) x = 5,000
Net Sales - Cost 736,000 736,000 – y = 310,000
of
Merchandise Sold y y = 426,000
Gross Profit $310,000

c) Sales X x – 25,000 – 15,000 = y

- Sales Returns &
Allowances (25,000)
- Sales Discounts (15,000) y – 620,000 = 185,000
Net Sales - Cost Y y = 805,000
of
Merchandise Sold (620,000) x = 845,000
Gross Profit 185,000

Revised Fall 2012 15,650

Practice Problem #4

15,650
Revised Fall 2012
a. Merchandise Inventory 8,000 8,000
Accounts Payable/Blitzen
(20,000 * 25%) = $5,000 discount
(20,000 – 5,000 + 650 shipping) 9,800 9,800

b. Merchandise Inventory 5,800 5,800

Accounts Payable/Cupid
2,000
2,000
c. Accounts Receivable/Donner
Sales
Cost of Merchandise Sold 15,650 15,350
Merchandise Inventory 300

d. Accounts Payable/Cupid
Merchandise Inventory 1,800
1,800
e. Accounts Payable/Blitzen 1,080
1,080
Cash
Merchandise Inventory
(15,000 mdse * 2% = $300 disc.) 6,000
5,940
60
f. Sales Returns & Allowances
A/R – Donner 7,840
Merchandise Inventory 160
Cost of Merchandise Sold

g. Accounts Payable/Cupid 3,650 8,000

Cash
Merchandise Inventory
(8,000 – 2,000 return = 6,000 bal.)
(6,000 * 1% = $60 discount) 3,650

h. Cash
Sales Discount
A/R – Donner
(8,000 * 2% = $160 discount)
(9,800 – 1,800 return = 8,000 bal.)

i. Cost of Merchandise Sold

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 Merchandise Inventory
(85,000 – 81,350 = 3,650)
Page 23 of 25

SOLUTIONS TO MULTIPLE CHOICE QUESTIONS

1. C
2. B
3. C
4. B
5. A
6. B
7. A
8. D
9. B
10. B
11. D
12. B
13. D
14. C
15. B
16. D
17. C
18. C
19. A
20. B
Revised Fall 2012

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SOLUTIONS TO TRUE / FALSE QUESTIONS

1. False - trade discounts represent a reduction in the listed price of a
product or service.
2. True
3. True
4. False - 2/10 indicates a 2% discount (or $20 in this example) if payment is
made within 10 days.
5. False - sales Discounts is a contra revenue account.
6. False - a sales allowance is recorded as a debit to Sales Allowances and a
credit to Accounts Receivable.
7. False - sales Returns is a contra revenue account.
8. True
9. False - cost of goods sold is an expense reported in the income statement
and inventory is an asset reported in the balance sheet.
10. True
11. False - For FOB destination, title transfers once the inventory reaches the
buyer (destination).
12. True 13. True
14. True
15. False - sales revenue minus cost of goods sold equals gross profit.
16. True
17. True
18. False - inventory is typically reported as a current asset because companies
expect to convert it to cash in the near term. 19. True
20. False - sales revenue minus cost of goods sold equals gross profit.
21. True

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