5 Accounting for

Merchandising Operations
Learning Objectives
After studying this chapter, you should be able to:

[1] Identify the differences between a 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.

5-1
 Preview of Chapter 5

Accounting Principles
Eleventh Edition
Weygandt Kimmel Kieso
5-2
 Merchandising Operations

Merchandising Companies
Buy and Sell Goods

Retailer

Wholesaler Consumer

The primary source of revenues is referred to as

sales revenue or sales.
5-3 LO 1 Identify the differences between service and merchandising companies.
 Merchandising Operations

Income Measurement
Not used in a
Sales Less
Illustration 5-1
Service business.
Revenue Income measurement process for a
merchandising company

Equals
Cost of Gross Less
Goods Sold Profit

Operating Equals Net

Cost of goods sold is the total Income
Expenses
cost of merchandise sold during (Loss)
the period.

5-4 LO 1 Identify the differences between service and merchandising companies.

 Merchandising Operations
Illustration 5-2

Operating
Cycles
The operating
cycle of a
merchandising
company
ordinarily is longer
than that of a
service
company.
Illustration 5-3

5-5 LO 1 Identify the differences between service and merchandising companies.

 Merchandising Operations

Flow of Costs
Illustration 5-4

Companies use either a perpetual inventory system or a periodic inventory

system to account for inventory.

5-6 LO 1 Identify the differences between service and merchandising companies.

 Merchandising Operations

Flow of Costs
Perpetual System
 Maintain detailed records of the cost of each inventory
purchase and sale.
 Records continuously show inventory that should be on
hand for every item.
 Company determines cost of goods sold each time a
sale occurs.

5-7 LO 1 Identify the differences between service and merchandising companies.

 Merchandising Operations

Flow of Costs
Periodic System
 Do not keep detailed records of the goods on hand.
 Cost of goods sold determined by count at the end of
the accounting period.
 Calculation of Cost of Goods Sold:
Beginning inventory

$ 100,000
Add: Purchases, net

800,000
5-8
Goods available for sale LO 1
 Merchandising Operations

Flow of Costs
Advantages of the Perpetual System
 Traditionally used for merchandise with high unit values.
 Shows the quantity and cost of the inventory that should
be on hand at any time.
 Provides better control over inventories than a periodic
system.

5-9 LO 1 Identify the differences between service and merchandising companies.

 Recording Purchases of Merchandise

 Made using cash or credit (on account).

Illustration 5-6

 Normally record when

goods are received from the
seller.

 Purchase invoice should

support each credit
purchase.

5-10 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of Merchandise
Illustration 5-6

Illustration: Sauk Stereo (the

buyer) uses as a purchase
invoice the sales invoice
prepared by PW Audio Supply,
Inc. (the seller). Prepare the
journal entry for Sauk Stereo for
the invoice from PW Audio
Supply.

May 4 Inventory 3,800

Accounts Payable 3,800
5-11 LO 2 Explain the recording of purchases under a perpetual inventory system.
 Recording Purchases of Merchandise

Freight Costs – Terms of Sale Illustration 5-7

Shipping terms

Ownership of the goods

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

Ownership of the goods

remains with the seller until
the goods reach the buyer.

5-12 Freight costs incurred by the seller are an operating expense. LO 2

 Recording Purchases of Merchandise

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

Sauk Stereo pays Public Freight Company $150 for freight
charges, the entry on Sauk Stereo’s books is:

May 6 Inventory 150

Cash 150

Assume the freight terms on the invoice in Illustration 5-6 had

required PW Audio Supply to pay the freight charges, the
entry by PW Audio Supply would have been:

May 4 Freight-Out 150

Cash 150
5-13 LO 2 Explain the recording of purchases under a perpetual inventory system.
 Recording Purchases of 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 if the May choose to keep the
sale was made on credit, or merchandise if the seller will
for a cash refund if the grant a reduction of the
purchase was for cash. purchase price.

5-14 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of Merchandise

Illustration: Assume Sauk Stereo returned goods costing

$300 to PW Audio Supply on May 8.

May 8 Accounts Payable 300

Inventory 300

5-15 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of Merchandise

Review 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. Inventory

5-16 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of Merchandise

Purchase Discounts
Credit terms may permit buyer to claim a cash discount
for prompt payment.
Example: Credit terms
Advantages: may read 2/10, n/30.

 Purchaser saves money.

 Seller shortens the operating cycle by converting the

accounts receivable into cash earlier.

5-17 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of 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 first 10 within the first 10
days, otherwise days of next days of the next
net amount due month. month.
within 30 days.

5-18 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of 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 Stereo
makes on May 14 to record the payment.

May 14 Accounts Payable 3,500

Inventory 70
Cash 3,430

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

5-19 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of 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

5-20 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of 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

Example: 2% for 20 days = Annual rate of 36.5%

$3,500 x 36.5% x 20 ÷ 365 = $70

5-21 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Purchases of Merchandise

Summary of Purchasing Transactions

Inventory
Debit Credit

4th - Purchase 3,800 300 8th - Return

6th – Freight-in 150 70 14th - Discount

Balance 3,580

5-22 LO 2 Explain the recording of purchases under a perpetual inventory system.

 Recording Sales of Merchandise

 Made using cash or credit (on account).

Illustration 5-6
 Sales revenue, like service
revenue, is recorded when
the performance obligation
is satisfied.
 Performance obligation is
satisfied when the goods
are transferred from the
seller to the buyer.
 Sales invoice should
support each credit sale.
5-23
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of Merchandise

Journal Entries to Record a Sale

#1 Cash or Accounts receivable XXX Selling

Sales revenue XXX Price

#2 Cost of goods sold XXX

Cost
Inventory XXX

5-24
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of Merchandise

Illustration: PW Audio Supply records the sale of $3,800

on May 4 to Sauk Stereo on account (Illustration 5-6) as
follows (assume the merchandise cost PW Audio Supply
$2,400).

May 4 Accounts Receivable 3,800

Sales Revenue 3,800

4 Cost of Goods Sold 2,400

Inventory 2,400

5-25
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of Merchandise

Sales Returns and Allowances

 “Flip side” of purchase returns and allowances.

 Contra-revenue account to Sales Revenue (debit).

 Sales not reduced (debited) because:

► Would obscure importance of sales returns and

allowances as a percentage of sales.

► Could distort comparisons.

5-26
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of 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 Inventory 140
Cost of Goods Sold 140

5-27
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of Merchandise

Illustration: Assume the returned goods were defective

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

May 8 Sales Returns and Allowances 300

Accounts Receivable 300

8 Inventory 50
Cost of Goods Sold 50

5-28
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of 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
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of Merchandise

Sales Discount
 Offered to customers to promote prompt payment of the
balance due.

 Contra-revenue account (debit) to Sales Revenue.

5-30
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Recording Sales of 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%]

5-31
LO 3 Explain the recording of sales revenues
under a perpetual inventory system.
 Completing the Accounting 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 Inventory and Cost of Goods Sold.

5-32 LO 4 Explain the steps in the accounting cycle for a merchandising company.
 Completing the Accounting 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.

Cost of Goods Sold 500

Inventory 500

5-33 LO 4 Explain the steps in the accounting cycle for a merchandising company.
 Completing the Accounting Cycle

Closing
Entries

5-34 LO 4 Explain the steps in the accounting cycle for a merchandising company.
 Completing the Accounting Cycle

Closing Entries

5-35 LO 4 Explain the steps in the accounting cycle for a merchandising company.
 Forms of Financial 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.

5-36 LO 5 Distinguish between a multiple-step and a single-step income statement.

 Illustration 5-14

Multiple-
Step

Key Items:
 Net sales

Illustration 5-14
5-37 LO 5
 Illustration 5-14

Multiple-
Step

Key Items:
 Net sales
 Gross profit

Illustration 5-14
5-38 LO 5
 Illustration 5-14

Multiple-
Step

Key Items:
 Net sales
 Gross profit
 Operating
expenses

Illustration 5-14
5-39 LO 5
 Multiple-
Step

Key Items:
 Net sales
 Gross profit
 Operating
expenses
 Nonoperating
activities

Illustration 5-14
5-40 LO 5
 Multiple-
Step

Key Items:
 Net sales
 Gross profit
 Operating
expenses
 Nonoperating
activities

Illustration 5-14
5-41 LO 5
 Multiple-
Step

Key Items:
 Net sales
 Gross profit
 Operating
expenses
 Nonoperating
activities
 Net income

Illustration 5-14
5-42 LO 5
 Forms 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.

5-43 LO 5 Distinguish between a multiple-step and a single-step income statement.

 Forms 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 profit until total

revenues exceed total expenses.

2. Format is simpler and easier to read.

5-44 LO 5 Distinguish between a multiple-step and a single-step income statement.

 Forms of Financial Statements

Single-Step Income Statement

Illustration 5-15

5-45 LO 5 Distinguish between a multiple-step and a single-step income statement.

 Forms of Financial Statements

Classified Balance Sheet

Illustration 5-16

5-46 LO 5 Distinguish between a multiple-step and a single-step income statement.

 APPENDIX 5B Periodic Inventory System

Determining Cost of Goods Sold Under a

Periodic System
 No running account of changes in inventory.

 Ending inventory determined by physical count.

 Cost of goods sold not determined until the end of the

period.

5-47
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Determining Cost of Goods Sold Under a

Periodic System Illustration 5B-2

5-48
LO 7
 APPENDIX 5B Periodic Inventory System

Recording Merchandise Transactions

 Record revenues when sales are made.
 Do not record cost of merchandise sold on the date of sale.
 Physical inventory count determines:
► Cost of merchandise on hand and
► Cost of merchandise sold during the period.
 Record purchases in Purchases account.
 Purchase returns and allowances, Purchase discounts, and
Freight costs are recorded in separate accounts.

5-49
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Recording Purchases of Merchandise

Illustration: On the basis of the sales invoice (Illustration 5-6)
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

5-50
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Freight Costs
Illustration: If Sauk pays Public 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

5-51
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory 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

5-52
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory 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

5-53
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Recording Sales of Merchandise

Illustration: PW Audio Supply, records the sale of $3,800 of
merchandise to Sauk Stereo on May 4 (sales invoice No. 731,
Illustration 5-6) as follows.

May 4 Accounts Receivable 3,800

Sales Revenue 3,800

No entry is recorded for cost of goods sold at the time of the

sale under a periodic system.

5-54
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory 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.

May 8 Sales Returns and Allowances 300

Accounts Receivable 300

5-55
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory 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

5-56
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Comparison of Entries
Illustration 5B-3

5-57
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Comparison of Entries
Illustration 5B-3

5-58
LO 7 Explain the recording of purchases and sales of
inventory under a periodic inventory system.
 APPENDIX 5B Periodic Inventory System

Illustration 5B-5
Worksheet for merchandising
company—periodic inventory
system

5-59 LO 7