CH 05

Chapter
5-1
Chapter 5
Accounting for
Merchandising
Operations
Chapter
5-2 Accounting Principles, Ninth Edition
Study
Study Objectives
Objectives
1. Identify the differences between service and

merchandising companies.
2. Explain the recording of purchases under a perpetual
inventory system.
3. Explain the recording of sales revenues under a perpetual
inventory system.
4. Explain the steps in the accounting cycle for a
merchandising company.
5. Distinguish between a multiple-step and a single-step
income statement.
6. Explain the computation and importance of gross profit.
Chapter
5-3
Accounting
Accounting for
for Merchandising
Merchandising Operations
Operations
Completing
Recording Recording Forms of
Merchandising the
Purchases of Sales of Financial
Operations Accounting
Merchandise Merchandise Statements
Cycle
Operating Freight costs Sales returns Adjusting Multiple-step

cycles Purchase and entries income
Flow of costs returns and allowances Closing statement
—perpetual allowances Sales entries Single-step
and periodic Purchase discounts Summary of income
inventory discounts merchandising statement
systems entries Classified
Summary of
purchasing balance sheet
transactions
Chapter
5-4
Merchandising
Operations
Merchandising Companies
Buy and Sell Goods
Wholesaler Retailer Consumer
The primary source of revenues is referred to as

sales revenue or sales.
Chapter
5-5 SO 1 Identify the differences between service and merchandising companies.
Merchandising
Operations
Income Measurement
Not used in a
Sales Less
Service business.
Revenue
Illustration 5-1
Cost of Equals Gross Less

Goods Sold Profit
Operating Equals Net

Cost of goods sold is the total Income
cost of merchandise sold Expenses
(Loss)
during the period.
Chapter
Operating
Operating Cycles
Cycles
Illustration 5-2
The operating
cycle of a
merchandising
company
ordinarily is
longer than that
of a service
company.
Chapter
Flow
Flow of
of Costs
Costs
Perpetual System
Features:
1. Purchases increase Merchandise Inventory.
2. Freight costs, Purchase Returns and Allowances and
Purchase Discounts are included in Merchandise Inventory.
3. Cost of Goods Sold is increased and Merchandise Inventory
is decreased for each sale.
4. Physical count done to verify Merchandise Inventory
balance.
The perpetual inventory system provides a continuous record

of Merchandise Inventory and Cost of Goods Sold.
Chapter
Flow
Flow of
of Costs
Costs
Periodic System
Features:
1. Purchases of merchandise increase Purchases.
2. Ending Inventory determined by physical count.
3. Calculation of Cost of Goods Sold:
Beginning inventory
$ 100,000
Add: Purchases, net
800,000
Goods available for sale
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration 5-5
Made using cash or

credit (on account).
Normally recorded when
goods are received.

Purchase invoice should
support each credit
purchase.
Chapter
5-10 SO 2 Explain the recording of purchases under a perpetual inventory system.
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Under the perpetual inventory system, companies record in the

Merchandise Inventory account the purchase of goods they
intend to sell.
Illustration: From INVOICE NO. 731 (Illustration 5-5) record

the journal entry Sauk Stereo would make to record its
purchase from PW Audio Supply.
May 4 Merchandise inventory 3,800

Accounts payable 3,800
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Freight Costs – Terms of Sale Illustration 5-6
Seller places goods Free

On Board the carrier, and
buyer pays freight costs.
Seller places goods Free

On Board to the buyer’s
place of business, and
seller pays freight costs.
Chapter
5-12
Freight costs incurred by the seller are an operating expense.
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: Assume upon delivery of the goods on May 6,

Sauk Stereo pays Acme Freight Company $150 for freight
charges, the entry on Sauk Stereo’s books is:
May 6 Merchandise inventory 150
Cash 150
Assume the freight terms on the invoice in Illustration 5-5

had required PW Audio Supply to pay the freight charges, the
entry by PW Audio Supply would have been:
May 6 Freight-out (or Delivery Expense) 150
Cash 150
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Returns and Allowances

Purchaser may be dissatisfied because goods are
damaged or defective, of inferior quality, or do not
meet specifications.
Purchase Return Purchase Allowance

Return goods for credit May choose to keep the
if the sale was made on merchandise if the seller
credit, or for a cash will grant an allowance
refund if the purchase (deduction) from the
was for cash. purchase price.
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Question
In a perpetual inventory system, a return of
defective merchandise by a purchaser is
recorded by crediting:
a. Purchases
b. Purchase Returns
c. Purchase Allowance
d. Merchandise Inventory
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: Assume that on May 8 Sauk Stereo returned to

PW Audio Supply goods costing $300.
May 8 Accounts payable 300

Merchandise inventory 300
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts
Credit terms may permit buyer to claim a cash
discount for prompt payment.
Advantages:
Purchaser saves money.
Seller shortens the operating cycle.
Example: Credit terms of 2/10, n/30, is read “two-ten, net

thirty.” 2% cash discount if payment is made within 10 days.
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts Terms
2/10, n/30 1/10 EOM n/10 EOM
2% discount if 1% discount if Net amount due

paid within 10 paid within within the first
days, otherwise first 10 days of 10 days of the
net amount due next month. next month.
within 30 days.
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: 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. Prepare the journal entry Sauk makes to
record its May 14 payment.
May 14 Accounts payable 3,500

Merchandise Inventory 70
Cash 3,430
(Discount = $3,500 x 2% = $70)

Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Illustration: If Sauk Stereo failed to take the discount, and

instead made full payment of $3,500 on June 3, the journal
entry would be:
June 3 Accounts payable 3,500

Cash 3,500
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Purchase Discounts
Should discounts be taken when offered?
Discount of 2% on $3,500 $ 70.00
$3,500 invested at 10% for 20 days 19.18
Savings by taking the discount $ 50.82
Passing up the discount offered equates to paying an

interest rate of 2% on the use of $3,500 for 20 days.
Example: 2% for 20 days = Annual rate of 36.5%
(365/20 = 18.25 twenty-day periods x 2% = 36.5%)
Chapter
Recording
Recording Purchases
Purchases of
of Merchandise
Merchandise
Summary of Purchasing Transactions
Illustration Merchandise Inventory

Debit Credit
4th - Purchase $3,500 $300 8th - Return

6th – Freight-in 150 70 14th - Discount
Balance $3,580
Chapter
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Made for cash or credit (on account).

Illustration 5-5
Normally recorded when

earned, usually when
goods transfer from
seller to buyer.
Sales invoice should
support each credit
sale.
Chapter SO 3 Explain the recording of sales revenues

5-23
under a perpetual inventory system.
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Two Journal Entries to Record a Sale
#1 Cash or Accounts receivable XXX Selling

Sales XXX Price
#2 Cost of goods sold XXX

Cost
Merchandise inventory XXX

5-24
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Illustration: Assume PW Audio Supply records its May 4 sale

of $3,800 to Sauk Stereo (Illustration 5-5) as follows.
Assume the merchandise cost PW Audio Supply $2,400.
May 4 Accounts receivable 3,800

Sales 3,800
4 Cost of goods sold 2,400

Merchandise inventory 2,400

5-25
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Sales Returns and Allowances

“Flipside” of purchase returns and allowances.
Contra-revenue account (debit).
Sales not reduced (debited) because:
 would obscure importance of sales returns and
allowances as a percentage of sales.
 could distort comparisons between total sales
in different accounting periods.

5-26
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Illustration: Prepare the entry PW Audio Supply would make

to record the credit for returned goods that had a $300
selling price (assume a $140 cost). Assume the goods were not
defective.
May 8 Sales returns and allowances 300

Accounts receivable 300
8 Merchandise inventory 140

Cost of goods sold 140

5-27
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Illustration: Assume the returned goods were defective and

had a scrap value of $50, PW Audio would make the following
entries:

8 Merchandise inventory 50

5-28
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Review Question
The cost of goods sold is determined and
recorded each time a sale occurs in:
a. periodic inventory system only.
b. a perpetual inventory system only.
c. both a periodic and perpetual inventory
system.
d. neither a periodic nor perpetual inventory
system.
5-29
Chapter
5-30
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Sales Discount
Offered to customers to promote prompt payment.
“Flipside” of purchase discount.
Contra-revenue account (debit).

5-31
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Illustration: 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. Prepare the journal entry PW Audio Supply
makes to record the receipt on May 14.
May 14 Cash 3,430

*
Sales discounts 70
Accounts receivable 3,500
* [($3,800 – $300) X 2%]

5-32
Recording
Recording Sales
Sales of
of Merchandise
Merchandise
Discussion Question
Q5-9 Joan Roland believes revenues from credit
sales may be earned before they are
collected in cash. Do you agree? Explain.
See notes page for discussion

5-33
Completing
Completing the
the Accounting
Accounting Cycle
Cycle
Adjusting Entries
Generally the same as a service company.
One additional adjustment to make the records
agree with the actual inventory on hand.
Involves adjusting Merchandise Inventory and
Cost of Goods Sold.
Chapter
5-34 SO 4 Explain the steps in the accounting cycle for a merchandising company.
Completing
Completing the
the Accounting
Accounting Cycle
Cycle
Illustration: Suppose that PW Audio Supply has an

unadjusted balance of $40,500 in Merchandise Inventory.
Through a physical count, PW Audio determines that its actual
merchandise inventory at year-end is $40,000. The company
would make an adjusting entry as follows.

Merchandise inventory 500
Chapter
5-35 SO 4 Explain the steps in the accounting cycle for a merchandising company.
Completing
Completing the
the Accounting
Accounting Cycle
Cycle
Closing
Entries
Chapter
5-36
Forms
Forms of
of Financial
Financial Statements
Statements
Multiple-Step Income Statement

Shows several steps in determining net income.
Two steps relate to principal operating
activities.
Distinguishes between operating and non-
operating activities.
Chapter
5-37 SO 5 Distinguish between a multiple-step and a single-step income statement.
Calculation
Calculation of
of Gross
Gross Profit
Profit
Illustration 5-13
Key Items:
Net sales
Gross profit
Gross profit
rate
Illustration 5-10
Chapter
5-38 SO 6 Explain the computation and importance of gross profit.
Illustration 5-13
Forms
Forms of
of
Financial
Financial
Statements
Statements
Multiple-
Step
Key Items:
Net sales
Gross profit
Operating
expenses
Chapter
Illustration 5-13
Forms
Forms of
of
Financial
Financial
Statements
Statements
Key Items:
Net sales
Gross profit
Operating
expenses
Nonoperating
activities
Net income
Chapter
Forms
Forms of
of Financial
Statements
Review Question
The multiple-step income statement for a
merchandiser shows each of the following
features except:
a. gross profit.
b. cost of goods sold.
c. a sales revenue section.
d. investing activities section.
Chapter
Forms
Forms of
of Financial
Statements
Single-Step Income Statement

Subtract total expenses from total revenues
Two reasons for using the single-step format:
1) Company does not realize any type of profit
until total revenues exceed total expenses.
2) Format is simpler and easier to read.
Chapter
Forms
Forms of
of Financial
Statements
Illustration 5-14
Single-
Step
Chapter
Forms
Forms of
of Financial
Statements
Classified Balance Sheet Illustration 5-15
Chapter
Periodic
Periodic Inventory
Inventory System
System
Periodic System
Separate accounts used to record purchases,
freight costs, returns, and discounts.
Company does not maintain a running account
of changes in inventory.
Ending inventory determined by physical count.
Chapter SO 7 Explain the recording of purchases and sales of

5-45
inventory under a periodic inventory system.
Periodic
Periodic Inventory
Inventory System
System
Calculation of Cost of Goods Sold Illustration 5A-1
$316,000

5-46
Recording
Recording Purchases
Purchases under
under Periodic
Periodic System
System
Illustration: On the basis of the sales invoice (Illustration 5-5)

and receipt of the merchandise ordered from PW Audio
Supply, Sauk Stereo records the $3,800 purchase as follows.
May 4 Purchases 3,800

Accounts payable 3,800

5-47
Recording
Recording Purchases
Purchases under
under Periodic
Periodic System
System
Freight Costs
Illustration: If Sauk pays Haul-It Freight Company $150
for freight charges on its purchase from PW Audio Supply on
May 6, the entry on Sauk’s books is:
May 6 Freight-in (Transportation-in) 150

Cash 150

5-48
Recording
Recording Purchases
Purchases under
under Periodic
Periodic System
System
Purchase Returns and Allowances

Illustration: Sauk Stereo returns $300 of goods to PW Audio
Supply and prepares the following entry to recognize the
return.
May 8 Accounts payable 300

Purchase returns and allowances 300

5-49
Recording
Recording Purchases
Purchases under
under Periodic
Periodic System
System
Purchase Discounts
Illustration: On May 14 Sauk Stereo pays the balance due on
account to PW Audio Supply, taking the 2% cash discount
allowed by PW Audio for payment within 10 days. Sauk
Stereo records the payment and discount as follows.
May 14 Accounts payable 3,500

Purchase discounts 70
Cash 3,430

5-50
Recording
Recording Sales
Sales under
under Periodic
Periodic System
System
Illustration: PW Audio Supply, records the sale of $3,800 of

merchandise to Sauk Stereo on May 4 (sales invoice No. 731,
Illustration 5-5) as follows.
May 4 Accounts receivable 3,800

Sales 3,800
No entry is recorded for cost of goods sold at the time

of the sale under a periodic system.

5-51
Recording
Recording Sales
Sales under
under Periodic
Periodic System
System
Sales Returns and Allowances

Illustration: To record the returned goods received from
Sauk Stereo on May 8, PW Audio Supply records the $300
sales return as follows.


5-52
Recording
Recording Sales
Sales under
under Periodic
Periodic System
System
Sales Discounts
Illustration: On May 14, PW Audio Supply receives payment of
$3,430 on account from Sauk Stereo. PW Audio honors the 2%
cash discount and records the payment of Sauk’s account
receivable in full as follows.
May 14 Cash 3,430

Sales discounts 70
Accounts receivable 3,500

5-53
Comparison
Comparison of
of Entries—Perpetual
Entries—Perpetual Vs.
Vs. Periodic
Periodic
Illustration 5A-2

5-54
Comparison
Comparison of
of Entries—Perpetual
Entries—Perpetual Vs.
Vs. Periodic
Periodic
Illustration 5A-2

5-55
Worksheet
Worksheet for
for aa Merchandising
Merchandising Company
Company
Illustration 5B-1
Chapter
5-56

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Chapter

1. Identify the differences between service and

Operating Freight costs Sales returns Adjusting Multiple-step

Wholesaler Retailer Consumer

The primary source of revenues is referred to as

Cost of Equals Gross Less

Operating Equals Net

The perpetual inventory system provides a continuous record

Made using cash or

goods are received.

support each credit

Under the perpetual inventory system, companies record in the

Illustration: From INVOICE NO. 731 (Illustration 5-5) record

May 4 Merchandise inventory 3,800

Freight Costs – Terms of Sale Illustration 5-6

Seller places goods Free

Seller places goods Free

Illustration: Assume upon delivery of the goods on May 6,

Assume the freight terms on the invoice in Illustration 5-5

Purchase Returns and Allowances

Purchase Return Purchase Allowance

Illustration: Assume that on May 8 Sauk Stereo returned to

May 8 Accounts payable 300

Example: Credit terms of 2/10, n/30, is read “two-ten, net

Purchase Discounts Terms

2/10, n/30 1/10 EOM n/10 EOM

2% discount if 1% discount if Net amount due

Illustration: Assume Sauk Stereo pays the balance due of

May 14 Accounts payable 3,500

(Discount = $3,500 x 2% = $70)

Illustration: If Sauk Stereo failed to take the discount, and

June 3 Accounts payable 3,500

Passing up the discount offered equates to paying an

Summary of Purchasing Transactions

Illustration Merchandise Inventory

4th - Purchase $3,500 $300 8th - Return

Made for cash or credit (on account).

Normally recorded when

Chapter SO 3 Explain the recording of sales revenues

Two Journal Entries to Record a Sale

#1 Cash or Accounts receivable XXX Selling

#2 Cost of goods sold XXX

Chapter SO 3 Explain the recording of sales revenues

Illustration: Assume PW Audio Supply records its May 4 sale

May 4 Accounts receivable 3,800

4 Cost of goods sold 2,400

Chapter SO 3 Explain the recording of sales revenues

Sales Returns and Allowances

Chapter SO 3 Explain the recording of sales revenues

Illustration: Prepare the entry PW Audio Supply would make

May 8 Sales returns and allowances 300

8 Merchandise inventory 140

Chapter SO 3 Explain the recording of sales revenues

Illustration: Assume the returned goods were defective and

May 8 Sales returns and allowances 300

Chapter SO 3 Explain the recording of sales revenues

Chapter SO 3 Explain the recording of sales revenues

Illustration: Assume Sauk Stereo pays the balance due of

May 14 Cash 3,430