Accounting for Merchandising Operations Chapter 4 Copyright © 2016 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. Wild, Shaw, and Chiappetta Financial & Managerial Accounting 6th Edition Wild, Shaw, and Chiappetta Financial & Managerial Accounting 6th Edition

5- 2 Service organizations sell time to earn revenue. Examples: Accounting firms and plumbing services Service Companies vs. Merchandising Companies 2 A merchandiser earns net income by buying and selling merchandise. C 1

5- 3 ManufacturerWholesalerRetailerConsumers Merchandising Companies Merchandiser C 1 3

5- 4 C 1 Reporting Income for a Merchandiser products Merchandising companies sell products to earn revenue. Examples: sporting goods, clothing, and auto parts stores 4 Exhibits 4.1 & 4.2

5- 5 Operating Cycle for a Merchandiser Begins with the purchase of merchandise and ends with the collection of cash from the sale of merchandise. C 2 5 Exhibit 4.3

5- 6 Inventory Systems C 2 6 Exhibit 4.4

5- 7  Perpetual systems  continually update accounting records for merchandising transactions  Periodic systems  accounting records relating to merchandise transactions are updated only at the end of the accounting period C 2 Inventory Systems 7

Merchandise Purchases On November 2, Z-Mart purchased $1,200 of merchandise inventory for cash. P1 8

Trade Discounts P1 9 Exhibit 4.5

5- 10 Purchase Discounts A deduction from the invoice price granted to induce early payment of the amount due. A deduction from the invoice price granted to induce early payment of the amount due. P1 10 Exhibit 4.6

/10, n/30 Discount Percent Number of Days Discount Is Available Otherwise, Net (or All) Is Due in 30 Days Credit Period Purchase Discounts P1 11

5- 12 On November 2, Z-Mart purchased $1,200 of merchandise inventory on account, credit terms are 2/10, n/30. On November 2, Z-Mart purchased $1,200 of merchandise inventory on account, credit terms are 2/10, n/30. Purchase Discounts P1 12

5- 13 On November 12, Z-Mart paid the amount due on the purchase of November 2. On November 12, Z-Mart paid the amount due on the purchase of November 2. Purchase Discounts P1 13 Since payment was made within the discount period, a $24 discount ($1,200 x 2%) is taken. Since payment was made within the discount period, a $24 discount ($1,200 x 2%) is taken.

5- 14 Purchase Discounts After we post these entries, the accounts involved look like these: After we post these entries, the accounts involved look like these: P1 14

5- 15 Purchase Returns and Allowances Purchase Return... Merchandise returned by the purchaser to the supplier. Merchandise returned by the purchaser to the supplier. Purchase Allowance... A reduction in the cost of defective or unacceptable merchandise received by a purchaser from a supplier. A reduction in the cost of defective or unacceptable merchandise received by a purchaser from a supplier. Purchase Return... Merchandise returned by the purchaser to the supplier. Merchandise returned by the purchaser to the supplier. Purchase Allowance... A reduction in the cost of defective or unacceptable merchandise received by a purchaser from a supplier. A reduction in the cost of defective or unacceptable merchandise received by a purchaser from a supplier. P1 15

5- 16 On November 15, Z-Mart (buyer) issues a $300 debit memorandum for an allowance from Trex for defective merchandise. On November 15, Z-Mart (buyer) issues a $300 debit memorandum for an allowance from Trex for defective merchandise. Purchase Returns and Allowances P1 16

5- 17 Z 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. Purchase Returns and Allowances P1 17

5- 18 Transportation Costs and Ownership Transfer P1 18 Exhibit 4.7

5- 19 Transportation Costs Z-Mart purchased merchandise on terms of FOB shipping point. The transportation charge is $75. P1 19 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.

5- 20 Accounting for Merchandise P1 20 Exhibit 4.8

5- 21 Accounting for Merchandise Sales P2 21 Exhibit 4.9

5- 22 Sales of Merchandise P2 Each sales transaction for a seller of merchandise involves two parts: Revenue received in the form of an asset from a customer. Recognition of the cost of merchandise sold to a customer. 22

5- 23 Z-Mart sold $2,400 of merchandise on credit. The merchandise has a cost basis to Z-Mart of $1,600. Sales of Merchandise P2 23 Two entries are required: 1) Records the revenue 2) Records the cost

5- 24 Sales Discounts P2 Sales discounts on credit sales can benefit a seller by decreasing the delay in receiving cash and reducing future collection efforts. 24

5- 25 Z-Mart completes a $1,000 credit sale with terms of 2/10, n/60. Sales Discounts P2 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. 25

5- 26 Sales Returns and Allowances P2 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. Sales allowances refer to reductions in the selling price of merchandise sold to customers. 26

5- 27 Recall Z-Mart’s 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. Sales Returns and Allowances P2 27 Two entries are required : 1) Records the reduction in revenue 2) Records the return of goods to inventory

5- 28 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. Sales Allowances P2 28 One entry is required : 1) Records the reduction in revenue Contra Revenue account

Merchandising Cost Flow in the Accounting Cycle P3 29 Exhibit 4.10

5- 30 Adjusting Entries for Merchandisers P3 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. 30

5- 31 Closing Entries for Merchandisers P3 31 Exhibit 4.11

5- 32 P4 32 Exhibit 4.13

5- 33 Single-Step Income Statement P4 33 Exhibit 4.14

5- 34 Classified Balance Sheet Highly Liquid Less Liquid P4 34 Exhibit 4.15

5- 35 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 35

5- 36 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. = Quick assets Current liabilities Acid-test ratio Acid-test ratio = Cash + short term investments+ Receivables Current liabilities Cash + short term investments+ Receivables Current liabilities Acid-Test (Quick) Ratio A1 36 Exhibit 4.16

5- 37 JCPenney’s Acid Test and Current Ratios A1 37 Exhibit 4.17

5- 38 Percentage of dollar sales available to cover expenses and provide a profit. Gross Margin Ratio A2 38 Exhibit 4.18

JC Penny’s Gross Margin Ratio 39 Exhibit 4.19 A2

5- 40 Appendix 4A: Periodic Inventory System 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. (a) (b) (c) (d) (e) (f) (g) 40

5- 41 Appendix 4A: Comparison of Adjusting and Closing Entries--Periodic vs. Perpetual Inventory System P5 41 Exhibit 4 A.1