Chapter 6: Merchandising Operations and the Multi-Step Income Statement

What three accounts are particularly important to a merchandiser?

1. Inventory- reports the merchandisers total cost of acquiring goods that it has not sold yet 2. Sales Revenue- total selling price of all goods that the merchandiser did sell to customers 3. Cost of goods sold- total cost of all goods the merchandiser did sell to customers during the period 4. By subtracting Cost of Goods Sold from Sales Revenue, a merchandiser determines its gross profit, which represents the profit earned before taking into account other expenses such as salaries, wages, depreciation, and so on

What are the two outcomes for goods available for sale

1. Sold during the accounting period and reported as Cost of Goods Sold (CGS) on Income Statement 2. Remain on hand and reported as Ending Inventory (EI) on balance sheet -ending inventory for one accounting period becomes beginning inventory for the next period

What can a buyer do when goods purchased from a supplier arrive in damaged condition or fail to meet specifications

1. return them for a full refund 2. keep them and ask for a cost reduction, called an allowance.

What can a customer do when goods sold arrive in damaged condition or are otherwise unsatisfactory

1. return them for a full refund 2. keep them and ask for a reduction in the selling price, called an allowance. -sales returns and allowances reduce the amount the seller expects to receive from the customer

What are the two components every merchandise sale has, which require an entry in a perpetual inventory system?

1. selling price- sales price is recorded as an increase in Sales Revenue and a corresponding increase in Cash or Accounts Receivable 2. cost- cost initially incurred to buy the merchandise is removed from its Inventory account and reported as an expense called Cost of Goods Sold (CGS)

What are three key differences in the balance sheet and income statement of a service company vs. a merchandising company

Balance Sheet- 1. Merchandisers report inventory as a current asset, but service companies do not. -Service companies report Supplies, which differ from inventory because supplies are goods acquired for internal use. -Inventory is for resale to customers Income Statement- 2. Service companies earn revenue from services whereas merchandisers earn revenue from sales. 3. Merchandisers report an expense called Cost of Goods Sold, which represents the total cost of all goods sold to customers during the period. -Service companies do not incur this expense because they do not sell goods.

The sum of what two amounts represents the cost of goods available for sale

Beginning Inventory (BI) + Purchases (P)

Perpetual Inventory System

Updates inventory records every time an item is bought, sold, or returned. Bar-code scanners: 1. calculate and record the sales revenue for each product you're buying 2. remove the product and its cost from inventory records -balances in Inventory and Cost of Goods Sold are always up to date

Companies record _______ sales returns and allowances as they occur and then adjust the accounts at month-end for further returns and allowances _____ to occur in the following months

actual, expected

Inventory is ultimately recorded at its _____ after _______

at its cost after subtracting any purchase discounts taken

Total goods available for sale for the period will

be split between cost of goods sold and ending inventory

How are purchase returns and allowances accounted for

by reducing the cost of inventory and either recording a cash refund or reducing the liability owed to a supplier

How does a merchandiser determine gross profit

by subtracting Cost of Goods Sold from Sales Revenue, represents the profit earned before taking into account other expenses.

purchase discount

cash discount received for prompt payment of an account

Inventory is a(n) _______ intended to be _________.

current asset; sold.

How does the operating cycle of merchandising companies differ than that of service companies

cycle begins with buying products, called inventories, which are then sold to customers, which leads to collecting cash that can be used to pay operating expenses and buy more inventory.

Retailers

directly sell to individual consumers

Inventories

goods held for sale or used in producing other goods for sale

what do Sales Revenue and Cost of Goods sold report for a merchandiser

indicate the total selling price and cost of all goods that the merchandiser did sell to customers during that period.

In general, a purchaser should include in the Inventory account any costs needed to get the inventory _____

into a condition and location ready for sale -costs incurred after the inventory has been made ready for sale should be treated as selling expenses

Shrinkage

loss of inventory from theft, fraud, and error. -perpetual inventory system allows managers to estimate this

Where is gross profit recorded

not directly in an account by itself, instead as a subtotal on the income statement produced by subtracting Cost of Goods Sold from Sales Revenue.

What do perpetual inventory systems automatically issue

purchase orders

What does Inventory report for a merchandiser

reports merchandisers total cost of acquiring goods that it has not yet sold

What operating cycle do service companies follow

sell services to customers, collect cash from them, and use that money to pay for operating expenses

Wholesalers

sell their inventory to retail businesses for resale to consumers

Operating Cycle

series of activities that a company undertakes to generate revenues and ultimately cash

FOB destination

term of sale indicating ownership transfers at the destination, so the supplier incurs the transportation cost

FOB shipping point

term of sale indicating the goods are owned by the buyer the second they leave the seller's premises -indicates the company pays the transportation cost -recorded as an addition to company's Inventory account because it is a cost the company incurs to obtain inventory

Purchases (P)

the cost of new inventory available accumulated during the accounting period

what is it called when a company accounts for purchase discounts when the payment is made

the gross method -appropriate when a company does not regularly take purchase discounts

what is it called when a company accounts for goods when they are first purchased and received

the net method -convenient when a company is routinely offered and takes advantage of purchase discounts

Beginning Inventory (BI)

the stock of inventory that the merchandiser starts each accounting period with

How are costs of goods sold tracked

using either a periodic or perpetual inventory system

When do merchandisers record revenue

when they fulfill their performance obligations by transferring control of goods to customers -retail merchandiser: occurs when a customer buys and takes possession of goods at checkout -wholesale merchandiser: occurs at a time stated in a written sales agreement

Three key differences in the balance sheet and income statement of a service company vs. a merchandising company

(1). The balance sheet shows that merchandisers report inventories as a current asset, but service companies do not. Service companies often report supplies, which differ from inventories because supplies are goods acquired for internal use whereas inventories include goods acquired for resale to customers. (2). The income statement shows that service companies earn revenue from services whereas merchandisers earn revenue from sales. (3). Merchandisers report an expense called Cost of Goods Sold, which represents the total cost of all goods sold to customers during the period. (do not incur this expense if they do not sell goods).

What are the possible times for transfer of control?

1. FOB shipping point- sale recorded when the goods leave the seller's shipping department 2. FOB destination- sale is recorded when the goods reach their destination (the customer).

What three accounts are most important to a merchandiser

1. Inventory 2. Sales Revenue 3. Cost of Goods Sold

Which of the following are reported on the income statement?

-Cost of goods sold -Sales revenue -Gross profit

Why is inventory reported as a current asset?

-Inventory is reported as a current asset because it will be converted into cash within a year of the balance sheet data

What do the differing operating cycles lead to for service/merchandising companies?

-changes how they report their financial results

How to record inventory purchases

-purchase order is automatically issued to replenish inventory on hand instructing the supplier to send specified quantities of particular products on certain dates (exchange of promises; no journal entry recorded) -transaction arises when company receives the inventory and is invoiced for it

Which items would be found on a merchandisers income sheet and not a service firms?

-sales revenue -cost of goods sold

Difference between the operating cycles of service and merchandising companies

-service companies sell services to customers, collect cash, and use that money to pay for operating expenses -merchandising companies operating cycles begin with buying products. these products are inventory, which are then sold to customers, which leads to collecting cash that can be used to pay for operating expenses and buy more inventory.

How to calculate shrinkage

-subtact the cost of inventory counted from that recorded in the perpetual inventory system -account for shrinkage by recording a "book-to-physical" adjustment that reduces the Inventory account and increases the Cost of Goods Sold -in a perpetual inventory system, Inventory and Cost of Goods Sold is not complete until this book-to-physical adjustment has been made

Periodic Inventory System

-updates the inventory records for merchandise purchases, sales, and returns only at the end of the accounting period -major drawback is that accurate records of the inventory on hand and the inventory that has been sold are unavailable during the accounting period -employee must physically count the inventory at the end of the period when the store is "closed for inventory" , then determine the cost of ending inventory (EI) based off the inventory count to and subtract it to determine the cost of goods sold. (BI+P-EI=CGS) -these amounts are then used to adjust the balances in the Inventory and Cost of Goods Sold accounts

Cost of goods sold equation

Periodic: BI + P - EI = CGS Beginning Inventory + Purchases - Ending Inventory = Cost of goods sold or Perpetual: BI + P - CGS = EI

Operating Cycles

a series of activities that a company undertakes to generate revenues, which ultimately lead to cash