Chapter 5

Accounting for
Merchandising
Operations
 CHAPTER 5
ACCOUNTING FOR MERCHANDISING
OPERATIONS
After studying this chapter, you should be able to:
1 Identify the differences between a service
enterprise and a merchandising company
2 Explain the entries for purchases under a
perpetual inventory system
3 Explain the entries for sales revenues under a
perpetual inventory system
4 Comparison of entries- Perpetual vs Periodic
system
 MERCHANDISING COMPANY

A merchandising company buys and

sells goods to earn a profit.
1) Wholesalers sell to retailers
2) Retailers sell to consumers

Primary source of revenue is Sales

 MEASURING NET INCOME
• Expenses for a merchandiser are divided into
two categories:
1 Cost of goods sold
– The total cost of merchandise sold during the period
2 Operating expenses
– Expenses incurred in the process of earning sales revenue
(Examples: sales salaries and insurance expense)

• Gross profit is equal to Sales Revenue less Cost of

Goods Sold
INCOME MEASUREMENT PROCESS
FOR A MERCHANDISING COMPANY
OPERATING CYCLES FOR A SERVICE
COMPANY AND A MERCHANDISING
COMPANY
 INVENTORY SYSTEMS

Merchandising entities may use either:

1) Perpetual Inventory
Detailed records of the cost of each item are
maintained, and the cost of each item sold is
determined from records when the sale
occurs.
2) Periodic Inventory
Cost of goods sold is determined only at the
end of an accounting period.
PERPETUAL VS. PERIODIC
 COST OF GOODS SOLD
To determine the cost of goods sold
under a periodic inventory system:
1) Determine the cost of goods on hand at
the beginning of the accounting period,
2) Add to it the cost of goods purchased,
and
3) Subtract the cost of goods on hand at
the end of the accounting period.
PURCHASES OF MERCHANDISE
STUDY OBJECTIVE 2

• Merchandise is purchased for resale to customers,

the account
– Merchandise Inventory is debited for the cost
of goods.
• Like sales, purchases may be made for cash or on
account (credit).
• The purchase is normally recorded
by the purchaser when the goods
are received from the seller.
• Each credit purchase should be
supported by a purchase invoice.
PURCHASES OF MERCHANDISE
SALES INVOICE
PURCHASES OF MERCHANDISE

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 4 Merchandise Inventory 3,800
Accounts Payable 3,800
(To record goods purchased on
account, terms 2/10, n/30, from
Sellers Electronix)

For purchases on account,

Merchandise Inventory is debited
and Accounts Payable is credited.
 PURCHASE RETURNS AND
ALLOWANCES
• A purchaser may be dissatisfied with merchandise
received because the goods:
1) are damaged or defective,
2) are of inferior quality, or
3) are not in accord with the purchaser’s
specifications.
• The purchaser initiates the request for a reduction of
the balance due through the issuance of a debit
memorandum (purchaser’s debit decreases A/P!).
• The debit memorandum is a document issued by a
buyer to inform a seller that the seller’s account has
been debited because of unsatisfactory merchandise.
PURCHASE RETURNS AND
ALLOWANCES

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 8 Accounts Payable 300
Merchandise Inventory 300
(To record return of inoperable
goods received from Sellers
Electronix, DM No. 126)

For purchases returns and allowances,

Accounts Payable is debited and
Merchandise Inventory is credited.
 FREE ON BOARD
A sales agreement should indicate whether the seller or the buyer is
to pay the cost of transporting the goods to the buyer’s place of
business.

• FOB Shipping Point

1) Goods placed free on board the carrier
by seller
2) Buyer pays freight costs

• FOB Destination
1) Goods placed free on board at
buyer’s business
2) Seller pays freight costs
ACCOUNTING FOR FREIGHT
COSTS
• Merchandise Inventory is debited if
buyer pays freight.
• Freight-out (or Delivery Expense) is
debited if seller pays freight.
ACCOUNTING FOR FREIGHT
COSTS

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 6 Merchandise Inventory 150
Cash 150
(To record payment of freight,
terms FOB shipping point)

When the purchaser directly incurs the freight costs, the account
Merchandise Inventory is debited and Cash is credited.
ACCOUNTING FOR FREIGHT
COSTS

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 4 Freight-out (Delivery Expense) 150
Cash 150
(To record payment of freight on
goods sold FOB destination)

Freight costs incurred by the seller on outgoing

merchandise are debited to Freight-out (or
Delivery Expense) and Cash is credited.
 PURCHASE DISCOUNTS

• Credit terms may permit the buyer to claim

a cash discount for the prompt payment of
a balance due.
• The buyer calls this discount a
purchase discount.
• Like a sales discount, a
purchase discount is based on
the invoice cost less returns
and allowances, if any.
 PURCHASE DISCOUNTS

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 14 Accounts Payable 3,500
Cash 3,430
Merchandise Inventory 70
(To record payment within
discount period)

If payment is made within the discount period, Accounts

Payable is debited, Cash is credited, and Merchandise
inventory is credited for the discount taken.
PURCHASE DISCOUNTS

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
June 3 Accounts Payable 3,500
Cash 3,500
(To record payment with no
discount taken)

If payment is made after the discount

period, Accounts Payable is debited and
Cash is credited for the full amount.
SAVINGS OBTAINED BY TAKING
PURCHASE DISCOUNT
A buyer should usually take all available discounts.
If Beyer Video takes the discount, it pays $70 less in cash.
If it forgoes the discount and invests the $3,500 for 20 days
at 10% interest, it will earn only $19.44 in interest.
The savings obtained by taking the discount is calculated as
follows:

Discount of 2% on $3,500 $ 70.00

Interest received on $3,500 (for 20 days at 10%) ( 19.44)
Savings by taking the discount $ 50.56
 SALES TRANSACTIONS
STUDY OBJECTIVE 3

• Revenues – (Revenue recognition

principle)
– Earned when the goods are transferred
from seller to buyer

• All sales should be supported by a document

such as a cash register tape or sales
invoice.
RECORDING CASH SALES

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 4 Cash
3,800
Sales
(To record daily cash sales) 3,800

4 Cost of Goods Sold 1,400

Merchandise Inventory 1,400
(To record cost of merchandise
sold for cash)

 For cash sales, Cash is debited and Sales is credited.

 For the cost of goods sold for cash, Cost of Goods
Sold is debited and Merchandise Inventory is credited.
 RECORDING CREDIT SALES

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 4 Accounts Receivable
Sales 3,800
(To record credit sales to Beyer 3,800
Video per invoice #731)

4 Cost of Goods Sold

Merchandise Inventory 2,400
(To record cost of merchandise 2,400
sold on invoice #731 to Beyer
Video)

 For credit sales, Accounts Receivable is debited and Sales is credited.

 For the cost of goods sold on account, Cost of Goods Sold is debited
and Merchandise Inventory is credited.
 SALES RETURNS AND
ALLOWANCES
• Sales Returns
– Customers dissatisfied with merchandise
and are allowed to return the goods to the
seller for credit or a refund.
• Sales Allowances
– Result when customers are dissatisfied and
the seller allows a deduction from
the selling price.
 SALES RETURNS AND
ALLOWANCES
• Credit memorandum
– the seller prepares a form to inform the
customer that a credit has been made to the
customer’s account receivable
• Sales Returns and Allowances
– Contra revenue account to the Sales
account
• The normal balance of Sales Returns
and Allowances is a debit
 RECORDING SALES RETURNS
AND ALLOWANCES
GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 8 Sales Returns and Allowances 300
Accounts Receivable 300
(To record return of inoperable
goods delivered to Beyer Video,
per credit memorandum)

8 Merchandise Inventory 140

Cost of Goods Sold 140
(To record cost of goods returned
per credit memorandum)

The seller’s entry to record a credit memorandum involves a debit to the

Sales Returns and Allowances account and a credit to Accounts
Receivable. The entry to record the cost of the returned goods involves
a debit to Merchandise Inventory and a credit to Cost Goods Sold.
 SALES DISCOUNTS

• Sales discount
– Offer of a cash discount to a customer for the
prompt payment of a balance due
– Is a contra revenue account with a normal debit
balance
• Example: Credit sale has the terms 3/10, n/30, a 3%
discount is allowed if payment is made within 10
days. After 10 days there is no discount, and the
balance is due in 30 days.
 CREDIT TERMS

Credit terms specify the amount and time

period for the cash discount
– Indicates the length of time in which the purchaser is
expected to pay the full invoice price

T E R M S E X P L A N A T I O N
2/10, n/30 A 2% discount may be taken if payment is made
within 10 days of the invoice date.

1/10 EOM A 1% discount is available if payment is made

by the 10th of the next month.
 RECORDING
SALES DISCOUNTS

GENERAL JOURNAL
Date Account Titles and Explanation Dr. Cr.
May 14 Cash 3,430
Sales Discounts 70
Accounts Receivable 3,500
(To record collection within 2/10,
n/30 discount period from Beyer
Video)

When cash discounts are taken by

customers, the seller debits Sales Discounts.
 CLOSING ENTRIES
STUDY OBJECTIVE 4

 Adjusting entries are journalized from the adjustment

columns of the work sheet.
 All accounts that affect the determination of net income are
closed to Income Summary.
 Data for the preparation of closing entries may be obtained
from the income statement columns of the work sheet.

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
2005 (1)
Dec. 31 Sales 480,000
Income Summary 480,000
(To close income statement
accounts with credit balances)
 CLOSING ENTRIES

Cost of Goods Sold is a new account that must be closed to

Income Summary.

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
2005 (2)
Dec. 31 Income Summary 140,000
Sales Returns and Allowances 12,000
Sales Discounts 8,000
Cost of goods sold 316,000
Store Salaries Expense 45,000
Rent Expense 19,000
Freight-out 7,000
Advertising Expense 16,000
Utilities Expense 17,000
Depreciation Expense 8,000
Insurance Expense 2,000
(To close income statement
accounts with debit balances)
 CLOSING ENTRIES

GENERAL JOURNAL
Date Account Titles and Explanation Debit Credit
2005 (3)
Dec. 31 Income Summary 30,000
R. A. Lamb, Capital 30,000
(To close net income to capital)

(4)
31 R. A. Lamb, Capital 15,000
R. A. Lamb, Drawing 15,000
(To close drawings to capital)

 After the closing entries are posted, all temporary accounts

have zero balances
 It addition, R. A. Lamb, Capital has a credit balance of
$98,000 ($83,000 + $30,000 - $15,000).
Summary of Merchandising
Entries
Summary of Merchandising
Entries
Comparison of Entries- Perpetual vs
Periodic system
Comparison of Entries- Perpetual vs
Periodic system