1. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Prepared by: Debbie Musil Kwantlen Polytechnic University Chapter 5 Accounting for Merchandising Operations

2. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Accounting for Merchandising Operations Merchandising operations Merchandising operations Recording purchases of merchandise Recording purchases of merchandise Recording sales of merchandise Recording sales of merchandise Completing the accounting cycle Completing the accounting cycle Merchandising financial statements Merchandising financial statements Using the information in the financial statements Using the information in the financial statements

3. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Merchandising Operations Purchasing products to resell to customers Purchasing products to resell to customers Main source of revenue is sale of merchandise Main source of revenue is sale of merchandise Called Sales Revenue, or simply SalesCalled Sales Revenue, or simply Sales Two categories of expenses: Two categories of expenses: Cost of Goods Sold: cost of merchandise soldCost of Goods Sold: cost of merchandise sold Operating expenses: incurred in the process of earning sales revenueOperating expenses: incurred in the process of earning sales revenue Gross profit: difference between Sales Revenue and Cost of Goods Sold Gross profit: difference between Sales Revenue and Cost of Goods Sold

4. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Income Measurement Process for a Merchandising Company SalesRevenue Cost of Goods Sold Cost of Goods Sold LessGrossProfitGrossProfit Equals OperatingExpenses Profit(Loss) EqualsLess

5. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Perpetual Inventory System Maintains detailed records of inventory purchases and sales Maintains detailed records of inventory purchases and sales Continuously (perpetually) shows quantity and cost of inventory that should be on hand for each item Continuously (perpetually) shows quantity and cost of inventory that should be on hand for each item Cost of Goods Sold is calculated and recorded at the time of each sale Cost of Goods Sold is calculated and recorded at the time of each sale

6. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Periodic Inventory System Detailed inventory records are not kept throughout the period Detailed inventory records are not kept throughout the period Cost of Goods Sold is calculated at the end of the accounting period (periodically) Cost of Goods Sold is calculated at the end of the accounting period (periodically)

7. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Calculating Cost of Goods Sold The equation for calculating Cost of Goods Sold is the same for perpetual and periodic inventory systems The equation for calculating Cost of Goods Sold is the same for perpetual and periodic inventory systems The difference is when Cost of Goods Sold is calculated The difference is when Cost of Goods Sold is calculated BeginningInventoryBeginningInventory Cost of GoodsPurchased GoodsPurchasedGoodsAvailable For Sale GoodsAvailable EndingInventoryEndingInventory + = - = Cost of Goods Sold Cost of Goods Sold

8. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Perpetual Inventory System Recording Merchandise Purchases When merchandise is purchased for resale: When merchandise is purchased for resale: Dr. Merchandise inventory (for cost of goods) Dr. Merchandise inventory (for cost of goods) Cr. Accounts payable (purchases on credit) or Cash (cash purchases) The purchase is normally recorded when the merchandise is received The purchase is normally recorded when the merchandise is received

9. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Freight Costs Purchase invoice indicates when ownership of the goods is transferred from buyer to seller Purchase invoice indicates when ownership of the goods is transferred from buyer to seller FOB Shipping Point: FOB Shipping Point: Buyer accepts ownership at place of shipping and pays for shipping costsBuyer accepts ownership at place of shipping and pays for shipping costs Buyer debits Merchandise Inventory for cost of shippingBuyer debits Merchandise Inventory for cost of shipping FOB Destination: FOB Destination: Buyer accepts ownership when goods are delivered to buyer’s place of business and seller pays freight costsBuyer accepts ownership when goods are delivered to buyer’s place of business and seller pays freight costs Seller debits Freight Out for cost of shippingSeller debits Freight Out for cost of shipping

10. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Purchase Returns & Allowances Goods purchased may be damaged, defective, of inferior quality, or they may not meet purchaser’s specifications Goods purchased may be damaged, defective, of inferior quality, or they may not meet purchaser’s specifications Goods may be returned or purchase price may be reduced (an allowance) Goods may be returned or purchase price may be reduced (an allowance) Entry to record: Entry to record: Dr. Cash or Accounts payable Dr. Cash or Accounts payable Cr. Merchandise Inventory (for amount of return or adjustment)

11. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Quantity and Purchase Discounts Quantity discount: reduction in price due to the quantity being purchased Quantity discount: reduction in price due to the quantity being purchased Purchase discount: reduction in price due to early payment of amount due Purchase discount: reduction in price due to early payment of amount due If pay early and get a purchase discount: If pay early and get a purchase discount: Dr. Accounts payable Dr. Accounts payable Cr. Merchandise Inventory (for amount of discount) Cr. Cash (for net amount owed)

12. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Recording Sales of Merchandise Revenues are reported when goods are transferred from seller to buyer Revenues are reported when goods are transferred from seller to buyer Two entries needed to record the sale: Two entries needed to record the sale: To record sales revenue:To record sales revenue: Dr. Cash or Accounts payable Dr. Cash or Accounts payable Cr. Sales To record cost of goods sold:To record cost of goods sold: Dr. Cost of Goods Sold Dr. Cost of Goods Sold Cr. Merchandise Inventory

13. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Sales Taxes Collected by merchandising companies on the goods that they sell Collected by merchandising companies on the goods that they sell Periodically remitted to government Periodically remitted to government Sales taxes collected are not revenue Sales taxes collected are not revenue Treated as a liability until paid (as they are due to the government)Treated as a liability until paid (as they are due to the government)

14. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Sales Returns & Allowances Sales returns: when customers return merchandise to seller for credit or refund Sales returns: when customers return merchandise to seller for credit or refund Sales allowances: when seller grants customers a price reduction Sales allowances: when seller grants customers a price reduction Contra account used to provide information Contra account used to provide information Seller’s entry required: Seller’s entry required: Dr. Sales returns and allowances Cr. Accounts receivable or cash Also, if merchandise returned, and is saleable: Also, if merchandise returned, and is saleable: Dr. Merchandise inventory Cr. Cost of goods sold Dr. Merchandise inventory Cr. Cost of goods sold

15. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Quantity and Sales Discounts Quantity discount: Quantity discount: Reduction in selling price due to the volume of goods purchasedReduction in selling price due to the volume of goods purchased Sale is recorded at reduced priceSale is recorded at reduced price Sales discount: Sales discount: Discount offered for early payment of billDiscount offered for early payment of bill Discount amount taken is credited to Sales Discounts (a contra revenue account)Discount amount taken is credited to Sales Discounts (a contra revenue account) Original amount in Sales is not changedOriginal amount in Sales is not changed

16. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Completing the Accounting Cycle Same types of adjusting entries as a service company Same types of adjusting entries as a service company One additional adjustment for inventory One additional adjustment for inventory To ensure the recorded inventory amount agrees with the actual quantity on handTo ensure the recorded inventory amount agrees with the actual quantity on hand A physical count is an important control feature A physical count is an important control feature A perpetual system indicates what should existA perpetual system indicates what should exist An inventory count will determine what does existAn inventory count will determine what does exist Additional accounts to be closed: Sales, Sales Returns and Allowances, Sales Discounts, Cost of Goods Sold, Freight Out Additional accounts to be closed: Sales, Sales Returns and Allowances, Sales Discounts, Cost of Goods Sold, Freight Out

17. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Merchandising Income Statement Single step: classified as revenues and expenses only Single step: classified as revenues and expenses only Multiple step: five main steps Multiple step: five main steps 1 Net Sales = Sales less returns, allowances, discounts 2 Gross Profit = Net Sales less Cost of Goods Sold 3 Profit from Operations = Gross Profit less Operating Expenses 4 Non-Operating Activities: activities not related to operations 5 Profit = Profit from Operations + Non-operating Activities

18. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Single-Step Income Statement All data are classified as either (1) revenues or (2) expenses

19. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Multiple-Step Income Statement Calculation of net sales and gross profit Calculation of profit from operations Calculation of non-operating activities and profit

20. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Impact of IFRS on the Income Statement Profit used instead of net income Profit used instead of net income Income is equivalent to revenue and gains Income is equivalent to revenue and gains Net income may still be used Net income may still be used Operating and other expenses should be classified based on their nature or function Operating and other expenses should be classified based on their nature or function Relevant line items, headings and subtotals are required Relevant line items, headings and subtotals are required Prevents important information from being concealedPrevents important information from being concealed

21. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Classified Balance Sheet Merchandise Inventory reported as a current asset following Accounts Receivable

22. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Using the Information in the Financial Statements Profitability ratios: measure profit or operating success for a specific time period Profitability ratios: measure profit or operating success for a specific time period Gross profit margin: Gross profit margin: Gross profit expressed as a percentageGross profit expressed as a percentage Measures the effectiveness of a company’s purchasing and pricing policiesMeasures the effectiveness of a company’s purchasing and pricing policies = Gross Profit ÷ Net Sales

23. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Using the Information in the Financial Statements 2 Profit margin: Profit margin: The percentage of sales that results in profitThe percentage of sales that results in profit Measures the ability of a company to cover all expenses and provide a return to ownersMeasures the ability of a company to cover all expenses and provide a return to owners = Profit ÷ Net Sales

24. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Appendix 5A: Periodic Inventory System Calculation of Cost of Goods Sold is only performed at end of period Calculation of Cost of Goods Sold is only performed at end of period When physical inventory count is doneWhen physical inventory count is done Causes accounting entries to be different Causes accounting entries to be different

25. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Recording Purchases of Merchandise Merchandise Inventory account is not used; separate accounts are used instead: Merchandise Inventory account is not used; separate accounts are used instead: Merchandise purchases are debited to Purchases accountMerchandise purchases are debited to Purchases account Freight costs are debited to Freight In accountFreight costs are debited to Freight In account Returns and allowances are credited to Purchase Returns and Allowances accountReturns and allowances are credited to Purchase Returns and Allowances account Discounts are credited to Purchase Discounts accountDiscounts are credited to Purchase Discounts account

26. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Periodic Inventory System: Sales At time of sale, only Sales Revenue is recorded At time of sale, only Sales Revenue is recorded Dr. Accounts receivable or Cash Cr. Sales No entry is made to recognize cost of salesNo entry is made to recognize cost of sales Freight costs, sales returns, allowances and discounts are treated the same as under a perpetual inventory system Freight costs, sales returns, allowances and discounts are treated the same as under a perpetual inventory system

27. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Periodic Inventory System: Calculating Cost of Goods Sold Cost of Goods Purchased Cost of Goods Purchased Add Purchases and Freight InAdd Purchases and Freight In Subtract Purchase Returns and Allowances and Purchase DiscountsSubtract Purchase Returns and Allowances and Purchase Discounts Cost of Goods on Hand Cost of Goods on Hand Based on physical count of inventoryBased on physical count of inventory = Number of units counted x unit cost Cost of Goods Sold Cost of Goods Sold = Cost of Goods on Hand at beginning of period + Cost of Goods Purchased – Cost of Goods on Hand at end of period

28. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Periodic Inventory System: Calculating Cost of Goods Sold 2 = Inventory at start of period + Cost of Goods Purchased - Inventory at end of period

29. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Periodic Inventory System: Completing the Accounting Cycle Regular closing entries for all purchase and sales discounts, allowances, freight Regular closing entries for all purchase and sales discounts, allowances, freight Additional entry is required to close beginning merchandise inventory Additional entry is required to close beginning merchandise inventory Dr. Income summary Cr. Merchandise Inventory Another entry is required to establish ending merchandise inventory Another entry is required to establish ending merchandise inventory Dr. Merchandise Inventory Cr. Income summary

30. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. COPYRIGHT Copyright © 2010 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (The Canadian Copyright Licensing Agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained herein.