1. Principles of Financial Accounting, 11e6
Accounting for Merchandising Businesses
Principles of Financial Accounting, 11e
Reeve • Warren • Duchac

2. 1
Distinguish between the activities and financial statements of service and merchandising businesses.
6-4

3. Nature of Merchandising Businesses1
Nature of Merchandising Businesses
Service Business
Fees earned $XXX
Operating expenses –XXX
Net income $XXX

4. Nature of Merchandising Businesses Merchandising Business1
Nature of Merchandising Businesses
Merchandising Business
Sales $XXX
Cost of Merchandise Sold –XXX
Gross Profit $XXX
Operating Expenses –XXX
Net Income $XXX

5. 1
When merchandise is sold, the revenue is reported as sales, and its cost is recognized as an expense called cost of merchandise sold.

6. 1
Merchandise on hand (not sold) at the end of an accounting period is called merchandise inventory.

7. 1 Example Exercise 6-1 Gross Profit
During the current year, merchandise is sold for $250,000 cash and for $975,000 on account. The cost of the merchandise sold is $735,000. What is the amount of the gross profit?
Follow My Example 6-1
The gross profit is $490,000 ($250,000 + $975,000 –$735,000).
Follow My Example 6-1
For Practice: PE 6-1A, PE 6-1B
6-9

8. 1

9. 2
Describe and illustrate the financial statements of a merchandising business.
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10. Multiple-Step Income Statement2
Multiple-Step Income Statement
The multiple-step income statement contains several sections, subsections, and subtotals.

11. 2
Exhibit 1
Multiple-Step Income Statement
(continued on Slide 19)

12. 2
The Sales account provides the total amount charged to customers for merchandise sold, including cash sales and sales on account.

13. 2
Sales returns and allowances are granted by the seller to customers for damaged or defective merchandise.

14. 2
Sales discounts are granted by the seller to customers for early payment of amounts owed.

15. 2
Net sales is determined by subtracting sales returns and allowances and sales discounts from sales.

16. 2
The cost of merchandise sold is the cost of the merchandise sold to customers.

17. 2 Exhibit 1 Multiple-Step Income Statement (continued)
(continued on Slide 28)

18. 2
The buyer may return merchandise to the seller (a purchase return), or the buyer may receive a reduction in the initial price at which the merchandise was purchased (a purchase allowance).

19. 2
You have seen how sellers may offer customers sales discounts for early payment of their bills. From the buyer’s perspective, such discounts are referred to as purchase discounts.

20. 2
If merchandise inventory at the end of the period is determined by taking a physical count of inventory on hand, a periodic inventory system is being used.

21. 2
Under the perpetual inventory system of accounting, the amounts of inventory available for sale and sold are continuously (perpetually) updated in the inventory records.

22. 2
Exhibit 2
Cost of Merchandise Sold

23. Selling expenses are incurred directly in the selling of merchandise.2
Selling expenses are incurred directly in the selling of merchandise.
Sales salaries
Store supplies used
Depreciation of store equipment
Delivery expense
Advertising

24. Depreciation of office equipment Office supplies used2
Administrative expenses sometimes called general expenses, are incurred in the administration or general operation of the business.
Office salaries
Depreciation of office equipment
Office supplies used

25. 2
Other income is revenue from sources other than the primary operating activity of a business.
Other expense is an expense that cannot be traced directly to the normal operations of the business.

26. 2
Exhibit 1
Multiple-Step Income Statement (concluded)

27. 2 Example Exercise 6-2 Cost of Merchandise Sold
Based upon the following data, determine the cost of merchandise sold for May. Use the format seen in Exhibit 2.
Merchandise Inventory, May 1 $121,200
Merchandise Inventory, May ,000
Purchases 985,000
Purchases Returns and Allowances 23,500
Purchases Discounts 21,000
Transportation In 11,300
6-29

28. 2 Follow My Example 6-2 Merchandise Inventory, May 1 $ 121,200
Example Exercise 6-2 (continued) 2
Follow My Example 6-2
Merchandise Inventory, May 1 $ 121,200
Purchases $985,000
Less: Purchases ret. and allow. $23,500
Purchases discounts 21, ,500
Net purchases $940,500
Add transportation in ,300
Cost of merchandise purchased ,800
Merchandise available for sale $1,073,000
Less merchandise inventory, May ,000
Cost of merchandise sold $ 931,000
For Practice: PE 6-2A, PE 6-2B
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29. 2
An alternative form of income statement is the single-step income statement. As shown in the next slide, the income statement for NetSolutions deducts the total of all expenses in one step from the total of all revenues.

30. 2
Exhibit 3
Single-Step Income Statement

31. 2
Statement of Owner’s Equity for Merchandising Business
Exhibit 4

32. 2
Exhibit 5
Report Form of Balance Sheet
(Continued)

33. 2
Exhibit 5
Report Form of Balance Sheet (continued)

34. 3
Describe and illustrate the accounting for merchandise transactions including:
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35. 3 Sale of merchandise Purchase of merchandise
Freight, sales taxes, and trade discounts
Dual nature of merchandise transactions
6-37

36. 3
Chart of Accounts for NetSolutions Merchandising Business
Exhibit 6

37. 3
Cash Sales
On January 3, NetSolutions sold $1,800 of merchandise for cash.

38. 3
Cash Sales
Using the perpetual inventory system, the cost of merchandise sold and the decrease in merchandise inventory are recorded. The cost of merchandise sold on January 3 is $1,200.

39. 3
Credit Card Sales
Sales made to customers using credit cards are recorded as cash sales. Assume that NetSolutions paid credit card processing fees of $48 on January 1.

40. 3
Sales on Account
On January 12, NetSolutions sold merchandise on account for $510. The cost of merchandise sold was $280.

41. 3
Sales Discounts
The terms for when payments for merchandise are to be made, are called credit terms. If payment is required on delivery, the terms are cash or net cash. Otherwise, the buyer is allowed an amount of time, known as the credit period, in which to pay.

42. 3
Receipts on Account
On January 22, NetSolutions receives the amount due, less the 2 percent discount.
$1,500 x .02

43. 3
Credit Memorandum
A credit memorandum, often called a credit memo, authorizes a credit to (decreases) the buyer’s account receivable.

44. 3
Exhibit 9
Credit Memo

45. 3
On January 13, issued Credit Memo 32 to Krier Company for merchandise returned to NetSolutions. Selling price, $225; cost to NetSolutions, $140.

46. 3
Example Exercise 6-3
Sales Transactions
Journalize the following merchandise transactions:
Sold merchandise on account, $7,500 with terms of 2/10, n/30. The cost of the merchandise sold was $5,625.
Received payment less the discount.
6-50

47. 3 Follow My Example 6-3 Accounts Receivable……………. 7,500
Example Exercise 6-3 (continued) 3
Follow My Example 6-3
Accounts Receivable……………. 7,500
Sales…………………………….. 7,500
Cost of Merchandise Sold………. 5,625
Merchandise Inventory………. 5,625
Cash…………………………………. 7,350
Sales Discounts…………………… 150
Accounts Receivable…………. 7,500
For Practice: PE 6-3A, PE 6-3B
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48. Purchase Merchandise for Cash3
Purchase Merchandise for Cash *
*Assumes a perpetual inventory system is used.

49. Purchase Merchandise on Account3
Purchase Merchandise on Account *
*Assumes a perpetual inventory system is used.
We will assume a perpetual inventory system is used throughout the chapter. The periodic inventory system is discussed in Appendix 2.

50. 3
Alpha Technologies issues an invoice for $3,000 to NetSolutions dated March 12, with terms 2/10, n/30. NetSolutions pays the amount due, less the discount, on March 22.

51. 3
NetSolutions borrows cash at an annual interest rate of 6%. Should the firm borrow cash to pay the invoice within the discount period?
Discount of 2% on $3,000 $60.00
Interest for 20 days at the rate
of 6% on $2,940 – 9.80
Savings from borrowing $50.20
YES

52. 3 3
Discount Taken

53. Assume that NetSolutions pays the invoice on April 11.3
Discount Not Taken
Assume that NetSolutions pays the invoice on April 11.

54. 3
A purchases return involves actually returning merchandise that is damaged or does not meet the specifications of the order.

55. 3
When the defective or incorrect merchandise is kept by the buyer and the vendor makes a price adjustment, that is a purchases allowance.

56. 3
Exhibit 10
Debit Memo

57. 3
NetSolutions receives the delivery from Maxim Systems and determines that $900 of the items are not the merchandise ordered. Debit memorandum #18 (also called a debit memo) is issued to Maxim Systems.

58. 3
NetSolutions records the return of the merchandise indicated in the debit memo in Exhibit 10 as follows:

59. 3
Price Allowance
On May 2, NetSolutions purchased $5,000 of merchandise on account from Delta Data Link, terms 2/10, n/30.

60. 3
NetSolutions returned $3,000 of the merchandise purchased from Delta Data Link on May 4.

61. 3
On May 12, NetSolutions paid for the purchase of May 2 less the return and discount.

62. 3 Example Exercise 6-4 Purchase Transactions
Rofles Company purchased merchandise on account from a supplier for $11,500, terms 2/10, n/30. Rofles Company returned $3,000 of the merchandise and received full credit.
If Rofles Company pays the invoice within the discount period, what is the amount of cash required for the payment?
Under a perpetual inventory system, what account is credited by Rofles Company to record the return?
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63. Example Exercise 6-4 (continued)3
Follow My Example 6-4
$8,330. Purchase of $11,500 less the return of $3,000 less the discount of $170 [($11,500 – $3,000) × 2%].
Merchandise inventory
For Practice: PE 6-4A, PE 6-4B
6-67

64. 3
Freight
If ownership of the merchandise passes to the buyer when the seller delivers the merchandise to the freight carrier, it is said to be FOB (free on board) shipping point.

65. 3
On June 10, NetSolutions buys merchandise from Magna Data on account, $900, terms FOB shipping point and pays the transportation cost of $50.

66. 3
If ownership of the merchandise passes to the buyer when the buyer receives the merchandise, the terms are said to be FOB (free on board) destination.

67. 3
On June 15, NetSolutions sells merchandise to Kranz Company on account, $700, terms FOB destination. The cost of the merchandise sold is $480. NetSolutions pays freight of $40.

68. 3

69. 3
On June 20, NetSolutions sells merchandise to Planter Company on account, $800, terms FOB shipping point. NetSolutions paid freight of $45, which was added to the invoice. The cost of the merchandise sold is $360.

70. 3

71. 3
Exhibit 11
Freight Terms

72. Returns and Allowances3
Example Exercise 6-5
Freight Terms
Determine the amount to be paid in full settlement of each of invoices (a) and (b), assuming that credit for returns and allowances was received prior to payment and that all invoices were paid within the discount period.
Freight Paid by Seller
Returns and Allowances
Merchandise
Freight Terms
a. $4,500 $200 FOB shipping point, $ /10, n/30
$5, FOB destination, 2, /10, n/30
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73. Example Exercise 6-5 (continued)3
Follow My Example 6-5
$3,863. Purchase of $4,500 less return of $800 less the discount of $37 [($4,500 – $800) × 1%] plus $200 of shipping.
$2,450. Purchase of $5,000 less return of $2,500 less the discount of $50 [($5,000 – $2,500) × 2%].
For Practice: PE 6-5A, PE 6-5B
6-77

74. 3
Sales Taxes
On August 12, merchandise is sold on account to Lemon Company, $100. The state has a 6% sales tax.

75. 3
Sales Taxes
On a regular basis, the seller pays to the taxing authority (state) the amount of the sales taxes collected.

76. 3
Trade Discounts
When wholesalers offer special discounts to certain classes of buyers who order large quantities, these discounts are called trade discounts.

77. Dual Nature of Merchandise Transactions3
Dual Nature of Merchandise Transactions
Each merchandising transaction affects a buyer and a seller. In the following illustrations, we show how the same transactions would be recorded by both the seller and the buyer.
July 1. Scully Company sold merchandise on account to Burton Co., $7,500, terms FOB shipping point, n/45. The cost of the merchandise sold was $4,500.

78. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Accounts Receivable—Burton Co. 7,500
Sales 7,500
Cost of Merchandise Sold 4,500
Merchandise Inventory 4,500
Burton Company (Buyer)
Merchandise Inventory. 7,500
Accounts Payable—Scully Co. 7,500

79. 3
July 2. Burton Company paid transportation charges of $150 on the July 1 purchase from Scully Company.

80. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
No entry.
Burton Company (Buyer)
Merchandise Inventory 150
Cash 150

81. 3
July 5. Scully Company sold merchandise on account to Burton Co., $5,000, terms FOB destination, n/30. The cost of the merchandise sold was $3,500.

82. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Accounts Receivable—Burton Co. 5,000
Sales 5,000
Cost of Merchandise Sold 3,500
Merchandise Inventory 3,500
Burton Company (Buyer)
Merchandise Inventory. 5,000
Accounts Payable—Scully Co. 5,000

83. 3
July 7. Scully Company paid transportation costs of $250 for delivery of merchandise sold to Burton Company on July 5.

84. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Delivery Expense 250
Cash 250
Burton Company (Buyer)
No entry.

85. 3
July Scully Company issued Burton Company a credit memorandum for merchandise returned, $1,000. The cost of the merchandise returned was $700.

86. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Sales Returns and Allowances 1,000
Accounts Receivable—Burton Co. 1,000
Merchandise Inventory 700
Cost of Merchandise Sold 700
Burton Company (Buyer)
Accounts Payable—Scully Co. 1,000
Merchandise Inventory 1,000

87. 3
July 15. Scully Company received payment from Burton Company for purchase of July 5.

88. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Cash 4,000
Accounts Receivable—Burton Co. 4,000
Burton Company (Buyer)
Accounts Payable—Scully Co. 4,000
Cash 4,000

89. 3
July 18. Scully Company sold merchandise on account to Burton Company, $12,000, terms FOB shipping point, 2/10, n/eom. Scully prepaid transportation costs of $500, which were added to the invoice. The cost of the merchandise sold was $7,200.

90. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Accounts Receivable—Burton Co. 12,000
Sales 12,000
Accounts Receivable—Burton Co. 500
Cash 500
Cost of Merchandise Sold 7,200
Merchandise Inventory 7,200
Burton Company (Buyer)
Merchandise Inventory 12,500
Accounts Payable—Scully Co. 12,500

91. 3
July 28. Scully Company received payment from Burton Company for purchase of July 18, less discount (2% × $12,000).

92. Scully Company (Seller) Burton Company (Buyer)3
Scully Company (Seller)
Cash 12,260
Sales Discounts 240
Accounts Receivable—Burton Co. 12,500
Burton Company (Buyer)
Accounts Payable—Scully Co. 12,500
Merchandise Inventory 240
Cash 12,260

93. 3 Example Exercise 6-6 Transactions for Buyer and Seller
Sievert Co. sold merchandise to Bray Co. on account, $11,500, terms 2/15, n/30. The cost of the merchandise sold is $6,900. Sievert Co. issued a credit memorandum for $900 for merchandise returned and later received the amount due within the discount period. The cost of the merchandise returned was $540. Journalize Sievert Co.’s and Bray Co.’s entries for the payment of the amount due.
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94. Example Exercise 6-6 (continued)3
Follow My Example 6-6
Cash ($11,500 – $900 – $212)…………………………….. 10,388
Sales Discounts [($11,500 – $900) × 2%]…
Accounts Receivable—Bray Co ($11,500 – $900)… 10,600
Bray Company Journal Entries:
Accounts Payable—Sievert Co. ($11,500 – $900)……... 10,600
Merchandise Inventory [($11,500 – $900) × 2%]…… 212
Cash ($11,500 – $900 – $212)…………… ,388
For Practice: PE 6-6A, PE 6-6B
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95. 4
Describe the adjusting and closing process for a merchandising business.
6-99

96. 4
Merchandising businesses may experience some loss of inventory due to shoplifting, employee theft, or errors in recording or counting inventory. If the balance of the Merchandise Inventory account is larger than the total amount of the merchandise count, the difference is often called inventory shrinkage or inventory shortage.

97. 4
NetSolutions’ inventory records indicate the following on December 31, 2011:
Dec. 31, 2011
Account balance of Merchandise Inventory $63,950
Physical merchandise inventory on hand 62,150
Inventory shrinkage $ 1,800

98. 4
At the end of the accounting period, inventory shrinkage is recorded by the following adjusting entry:

99. 4
Step 1: Closing Entries
Debit each temporary account with a credit balance, such as Sales, for its balance and credit Income Summary.

100. 4
Step 2: Closing Entries
Credit each temporary account with a debit balance, such as an expense, for the balance and credit Income Summary.

101. 4
Step 3: Closing Entries
Debit Income Summary for the amount of its balance (net income) and credit the owner’s equity account.

102. 4
Step 4: Closing Entries
Debit the owner’s capital account for the balance of the drawing account and credit the drawing account.

103. 4
NetSolutions’ Income Summary account after the closing entries have been posted is as follows:

104. 4 Example Exercise 6-7 Inventory Shrinkage
Pulmonary Company’s perpetual inventory records indicate that $382,800 of merchandise should be on hand on March 31, The physical inventory indicates that $371,250 of merchandise is actually on hand. Journalize the adjusting entry for the inventory shrinkage for Pulmonary Company for the year ended March 31, 2010.
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105. 4 Follow My Example 6-7 Mar. 31 Cost of Merchandise Sold………. 11,550
Example Exercise 6-7 (continued) 4
Follow My Example 6-7
Mar. 31 Cost of Merchandise Sold………. 11,550
Merchandise Inventory………. 11,550
Inventory shrinkage ($382,800 – $371,250).
For Practice: PE 6-7A, PE 6-7B
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106. The Periodic Inventory System
Appendix 2:
The Periodic Inventory System
6-118

107. Determining Cost of Merchandise Sold Using the Periodic System
Exhibit 18

108. Chart of Accounts Under the Periodic Inventory System
Exhibit 19

109. Transactions Using the Periodic and Perpetual Inventory Systems
Exhibit 20

110. Transactions Using the Periodic and Perpetual Inventory Systems (continued)
Exhibit 20

111. Closing Entries for NetSolutions