Accounting Exam #2

Under the perpetual inventory system, what accounts are purchases recorded under?

purchases of assets acquired for use and not for resale, such as supplies, equipment, and similar items are recorded as increases to specific asset accounts rather than inventory For example, to record the purchase of materials used to make shelf signs or for cash register receipt paper, REI would increase (debit) Supplies. companies record purchases of merchandise for sale in the Inventory account

under a perpetual inventory system, when goods are purchased for resale by a company

purchases on account are debited to Inventory

When goods are purchased for resale by a company using a periodic inventory system

purchases on account are debited to purchases

LIFO conformity rule

requires that if companies use LIFO for tax purposes, they must also use it for financial reporting purposes

When journalizing freight costs, record the costs for the purchaser as a component of inventory cost and as an operating expense for the

seller of the inventory

merchandisers that offer sales discounts to their customers will

shorten their operating cycle

What is another difference between the perpetual and periodic systems?

the perpetual system directly adjusts the inventory account for any transaction that affects inventory (such as freight costs, purchase returns, and purchase discounts) the periodic system does not do this. Instead, it creates different accounts for purchases, freight costs, purchase returns, and purchases discounts

Free on board (FOB) shipping point

the seller places the goods free on board the carrier, and the buyer pays the freight costs.

Free on board (FOB) destination

the seller places the goods free on board to the buyers place of business, and the seller pays the freight costs.

Suppose that a seller granted the buyer an allowance by reducing the purchase price, what would this entry look like?

the seller would debit Sales Returns and Allowances and credit Accounts Receivable for the amount of the allowance. An allowance has no impact on Inventory or Cost of Goods Sold.

To record the sale of goods for cash in a perpetual inventory system:

two journal entries are necessary: one to record the receipt of cash and sales revenue, and one to record the cost of goods sold and reduction of inventory.

What is important to note about gross profit or gross margin?

It represents the merchandising profit of the company. Because operating expenses have not been deducted, it is not a measure of the overall profit of a company.

What two two entries do sellers make for each sale?

1. It increases (debits) Accounts Receivable or Cash, as well as increases (credits) Sales Revenue. 2. It increases (debits) Cost of Goods Sold and decreases (credits) Inventory.

What are three important line items in a multi-step income statement and how are they determined?

1. Subtract cost of goods sold from net sales to determine GROSS PROFIT. 2. Deduct operating expenses from gross profit to determine INCOME FROM OPERATIONS 3. Add or subtract the results of activities not related to operations to determine the NET INCOME

What do entries look like to record credit for returned goods?

1. an increase (debit) in Sales Returns and Allowances (a contra account to Sales Revenue) and a decrease (credit) in Accounts Receivable at the $300 selling price 2. an increase (debit) in Inventory (assume a $140 cost) and a decrease (credit) in Cost of Goods Sold, as shown below. (We assumed that the goods were not defective. If they were defective, PW Audio Supply would make an entry to the Inventory account to reflect their decline in value.)

cost-flow assumptions

1. first-in, first-out (FIFO) 2. last-in, first-out (LIFO) 3. Average-cost these differ from specific identification in that they assume flows of costs that may be unrelated to the actual physical flow of goods. There is no accounting requirement that the cost flow assumption be consistent with the physical movement of the goods

Indicate whether the following statements are true or false. If false, indicate how to correct the statement. 1.The primary source of revenue for a merchandising company results from performing services for customers. 2.The operating cycle of a service company is usually shorter than that of a merchandising company. 3.Sales revenue less cost of goods sold equals gross profit. 4.Ending inventory plus the cost of goods purchased equals cost of goods available for sale.

1.False. The primary source of revenue for a service company results from performing services for customers. 2.True. 3.True. 4.False. Beginning inventory plus the cost of goods purchased equals cost of goods available for sale.

During the year, a company's inventory decreased by $20,000. If the company's cost of goods sold for the year was $400,000, find the amount for purchases.

380,000

A wholesaler offers credit terms 1/10, n/30. A fabric store bought goods worth $6,500 from the wholesaler. Within the discount period, the fabric store returned defective goods worth $300 and paid the amount owed. How much did the wholesaler receive as payment?

6200 x .01 = 62 6200 - 62 = 6138

If net sales are $400,000, cost of goods sold is $310,000, and operating expenses are $60,000, what is the gross profit?

90,000 Gross profit = Net Sales (400,000) - Cost of Goods Sold (310,000) = 90,000

When the buyer pays the transportation costs, these costs are considered part of the cost of the purchasing inventory

As a result, the account inventory is increased (debited)

Bufford Corporation had reported the following amounts at December 31, 2017: sales revenue $184,000, ending inventory $11,600, beginning inventory $17,200, purchases $60,400, purchase discounts $3,000, purchase returns and allowances $1,100, freight-in $600, and freight-out $900. Calculate the cost of goods available for sale.

Beginning inventory (17,200) + Purchases (60,400) - Purchase discounts (3,000) - Purchases returns and allowances (1,100) + Freight-In (600) = Cost of Goods available for sale (74,100)

If beginning inventory is $60,000, cost of goods purchased is $380,000, and ending inventory is $50,000, what is cost of goods sold under a periodic system?

Beginning inventory (60,000) + Cost of goods purchased (380,000) - Ending inventory (50,000) = Cost of goods sold (390,000)

Flow of costs for a merchandising company

Beginning inventory + cost of goods purchased = cost of goods available for sale As goods are sold, they are assigned to cost of goods sold. Those goods that are not sold by the end of the accounting period represent ending inventory

What two questions must be answered in order to determine ownership of goods?

Do all of the goods included in the count belong to the company? Does the company own any goods that were not included in the count?

If prices are falling, the results from the use of FIFO and LIFO are reversed

FIFO will report the lowest net income and LIFO the highest.

Sales revenue is 150,000; Operating expenses is 22,000; Net income is 18,000. What is the gross profit and cost of goods sold?

Gross Profit = $40,000 ($22,000 + $18,000); Cost of Goods Sold = $110,000 ($150,000 - $40,000)

During the year ended December 31, 2017, Bjornstad Corporation had the following results: net sales $267,000, cost of goods sold $107,000, net income $92,400, operating expenses $55,400, and net cash provided by operating activities $108,950. What was the company's profit margin?

Net income (92,400) / Net sales (267,000) = Profit margin of 34.6%

What kind of account is Sales Returns and Allowances and what does this mean?

Sales Returns and Allowances is a contra revenue account to Sales Revenue, which means it is offset against a revenue account on the income statement. The normal balance of Sales Returns and Allowances is a debit. Companies use a contra account, instead of debiting Sales Revenue, to disclose in the accounts and in the income statement the amount of sales returns and allowances

Income measurement process for a merchandising company

Sales revenue - Cost of goods sold = Gross profit - Operating expenses = Net Income (Loss)

A company reports Sales Returns and Allowances of $86,000 and Net Sales of $700,000. It also reports Cost of Goods Sold of $370,000. Find the company's Sales and Gross Profit.

Sales: 786,000 Gross Profit: 330,000

Assume Sauk Stereo pays the balance due of $3,500 (gross invoice price of $3,800 less purchase returns and allowances of $300) on May 14, the last day of the discount period.

Since the terms are 2/10, n/30, the cash discount is $70 ($3,500×2%) and the amount of cash Sauk Stereo paid is $3,430 ($3,500−$70). The entry Sauk Stereo makes to record its May 14 payment decreases (debits) Accounts Payable by the amount of the gross invoice price, reduces (credits) Inventory by the $70 discount, and reduces (credits) Cash by the net amount owed.

How do you classify inventory in a manufacturing company?

Some inventory may not yet be ready for sale. As a result, manufacturers usually classify inventory into three categories: finished goods, work in process, and raw materials.

What is the difference between closing entries for temporary accounts and a closing entry for dividends?

Temporary accounts close to Income Summary, whereas dividends close to Retained Earnings.

A company makes a credit sale of $750 on June 13, terms 2/10, n/30, on which it grants a return of $50 on June 16. What amount is received as payment in full on June 23?

The full amount of $686 is paid within 10 days of the purchase ($750−$50)−[($750−$50)×2%]. The other choices are incorrect because (a) does not consider the discount of $14; (c) the amount of the discount is based upon the amount after the return is granted ($700×2%), not the amount before the return of merchandise ($750×2%); and (d) does not constitute payment in full on June 23.

How do the gross profit rate and profit margin differ?

The gross profit rate measures the margin by which selling price exceeds cost of goods sold. The profit margin measures the extent by which selling price covers all expenses (including cost of goods sold).

Helpful hint

The merchandiser credits the Sales Revenue account only for sales of goods held for resale. Sales of assets not held for resale, such as equipment or land, are credited directly to the asset account.

in which account would freight costs incurred by the seller on outgoing merchandise fall under?

These costs increase an expense account titled Freight-Out (sometimes called Delivery Expense)

if the credit terms are 2/10 and n/30, what does that mean?

This means that a 2% cash discount may be taken on the invoice price, less ("net of") any returns or allowances, if payment is made within 10 days of the invoice date (the discount period). Otherwise, the invoice price, less any returns or allowances, is due 30 days from the invoice date Alternatively, the discount period may extend to a specified number of days following the month in which the sale occurs. For example, 1/10 EOM (end of month) means that a 1% discount is available if the invoice is paid within the first 10 days of the next month.

purchase discount

a cash discount claimed by a buyer for prompt payment of a balance due. the purchaser saves money , and the seller is able to shorten the operating cycle by converting the accounts receivable into cash earlier

Purchase allowance

a deduction made to the selling price of merchandise, granted by the seller, so that the buyer will keep the merchandise

perpetual inventory system

a detailed inventory system in which a company maintains the cost of each inventory item, and the records continuously show the inventory that should be on hand For example, a Ford dealership has separate inventory records for each automobile, truck, and van on its lot and showroom floor. Similarly, a grocery store uses bar codes and optical scanners to keep a daily running record of every box of cereal and every jar of jelly that it buys and sells. Under a perpetual inventory system, a company determines the cost of goods sold each time a sale occurs.

quality of earnings ratio

a measure used to indicate the extent to which a company's earnings provide a full and transparent depiction of its performance computed as net cash provided by operating activities divided by net income

Inventory turnover

a ratio that indicates the liquidity of inventory by measuring the number of times average inventory is sold during the period ; computed by dividing the cost of goods sold by the average inventory during the period

specific identification method

an actual physical-flow costing method in which particular items sold and items still in inventory are specifically costed to arrive at cost of goods sold and ending inventory

comprehensive income

an income measure that includes gains and losses that are excluded from the determination of net income Examples of such items include certain adjustments to pension plan assets, gains and losses on foreign currency translation, and unrealized gains and losses on certain types of investments.

What would affect the gross profit rate?

an increase in cost of goods sold because any changes in sale revenue, sales return and allowances, sales discounts, or cost of goods sold will affect the ratio.

periodic inventory system

an inventory system in which a company does not maintain detailed records of goods on hand throughout the period and determines the cost of goods sold only at the end of an accounting period to determine the cost of goods sold under this system, the following steps must occur: 1. Determine the cost of goods on hand at the beginning of the accounting period. 2. Add to it the cost of goods purchased. 3. Subtract the cost of goods on hand as determined by the physical inventory count at the end of the accounting period.

The multiple-step income statement for a merchandising company shows each of these features except

an investing activities section an investing activities section appears on the statement of cash flows

FIFO

assumes that the earliest goods purchased are the first to be sold the costs of the earliest goods purchased are the first to be recognized in determining cost of goods sold, regardless of which units were actually sold. FIFO companies determine the cost of the ending inventory by taking the unit cost of the most recent purchase and working backward until all units of inventory have been costed.

LIFO

assumes that the latest items purchased are the first to be sold under LIFO, companies obtain the cost of the ending inventory by taking the unit cost of the earliest goods available for sale and working forward until all units of inventory have been costed.

Regardless of whether prices are rising or falling

average-cost produces net income between FIFO and LIFO.

Which sales accounts normally have a debit balance?

both sales discounts and sales returns and allowances

The entry to record a sale of $3700 with terms of 2/7, n/30 will include a

credit to Sales Revenue for $3700

The collection of a $3,600 account after the 3% discount period will result in a

credit to accounts receivable for 3,600

The collection of a $2700 account beyond the 2 percent discount period will result in a

debit to Cash for $2700.

Assume that Sauk Stereo returned goods costing $300 to PW Audio Supply. What would this journal entry look like?

decreases (debits) accounts payable and decreases (credits) Inventory because Sauk Stereo increased Inventory when the goods were received, Inventory is decreased (credited) when Sauk Stereo returns the goods Suppose instead that Sauk Stereo chose to keep the goods after being granted a $50 allowance (reduction in price). It would reduce (debit) Accounts Payable and reduce (credit) Inventory for $50.

LIFO reserve

difference between inventory reported using LIFO and inventory using FIFO

By observing the levels and changes in the levels of these three inventory types

financial statement users can gain insight into management's production plans

consigned goods

goods held for sale by one party although ownership of the goods is retained by another party

gross profit rate

gross profit expressed as a percentage by dividing the amount of gross profit by net sales helps companies decide if the prices of their goods are in line with changes in the cost of inventory

In a period of inflation, LIFO produces a lower net income because

higher unit costs of the last goods purchased are matched against revenue.

How do you classify inventory in a merchandising company?

in this type of company, inventory consists of many different items. These items have two common characteristics: they are owned by the company and they are in a form ready for sale to customers in the ordinary course of business. Therefore, merchandisers need only one inventory classification, merchandise inventory, to describe the many different items that make up the total inventory.

Like a purchase discount, a sales discount...

is based on the invoice price less returns and allowances

analysts generally consider gross profit rate to be more informative than the gross profit amount because

it expresses a more meaningful (qualitative) relationship between gross profit and net sales

In a period of inflation, FIFO produces a higher net income because

lower unit costs of the first units purchased are matched against revenue

days in inventory

measure of the average number of days inventory is held; calculated as 365 divided by inventory turnover

profit margin

measures the percentage of each dollar of sales that results in net income, computed by dividing net income by net sales. a company can improve its profit margin by either increasing its gross profit rate and/or by controlling its operating expenses and other costs.

gross profit will result if

net sales are greater than cost of goods sold

the gross profit rate is equal to

net sales minus cost of goods sold, divided by net sales

Gross profit equals the difference between

net sales revenue and cost of goods sold

When the terms are FOB (free on board) shipping point

ownership of the goods passes to the buyer when the public carrier accepts the goods from the seller.

When the terms are FOB destination,

ownership of the goods remains with the seller until the goods reach the buyer.

What systems do companies use to account for inventory?

perpetual and periodic inventory systems