Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

MERCHANDISING OPERATIONS

Merchandising is the buying and selling of goods or products. The

merchandising operating cycle of a company includes the following basic
transactions:
• Purchases of Merchandise
• Sales of the Merchandise
• Collection of the Accounts Receivable from Customers

This is a cycle that is continuous and repeated.

Merchandising companies often purchase their inventories from other

businesses in a ready to sell condition.

These goods that are available for sale are usually referred to as Inventory. In
merchandising, the company purchases goods/products that are recorded into its
Inventory base. These items are then resold to customers and recorded as Sales
Revenue.

Income Statement of a Merchandising Company

SALES

Minus

Cost of Goods
Equals

GROSS PROFIT

Minus

Other Expenses

Equals
NET INCOME

Sales and Purchases of inventory are recorded in the Income Statement.

Sale of Inventory – is recorded as Sales or Sales Revenue

Cost of Goods Sold – is the costs associated with generating sales of

Inventory. It consists of Opening Inventory add Purchases and deduct
Closing Stock.
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Adjusted Trial Balance vs. Unadjusted Trial Balance

The unadjusted trial balance is extracted from the closing ledger account
balances prior to any end of accounting period amendments or adjustments
for errors, accruals, prepayments.
The adjusted trial balance shows the balance of all accounts after
adjustments at the end of the accounting period.

Accounting Entries for Adjustments

A merchandising entity generally has the same types of adjustments as a
service company – for example insurance, depreciation and salaries.

However, a merchandiser using the perpetual inventory system will require

an additional entry since at the end of the year, the physical count of
inventory may not agree with the perpetual records.

Because of this anomaly, we require an adjustment to ensure that inventory

recorded agrees to actual inventory on hand.

The entry affects Merchandising Inventory and Cost of Goods Sold.

If we need to reduce the merchandising inventory on hand to match the
physical count, the Journal Entry would be:

Dr. Cost of Goods Sold XX

Cr. Merchandising Inventory XX

If we need to increase the merchandising inventory on hand to match the

physical count, the journal entry would be:

Dr. Merchandising Inventory XX

Cr. Cost of Goods Sold XX

Income Statement
The income statement reports the Revenues and Expenditure of the
company.
The new items to note under Merchandising Operations are: Sales, Sales
Returns and Allowances, Sales Discounts, Cost of Goods Sold.
Again, if the total debits of the Income statement exceed the total credits the
company has earned a Net Income.
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Merchandising Income Statement

XYZ Company
Income Statement
For the year ended ………….
$ $
Sales Revenue
Sales XXX
Less: Sales Returns and Allowances XX
Sales Discounts XX XXX
Net Sales XXX
Cost of Goods Sold XX
Gross Profit XXX
Operating Expenses
Salaries Expense XX
Utilities Expense XX
Depreciation Expense - Furniture XX
Insurance Expense XX
Total Operating Expenses XXX
Other Revenues and Gains
Interest Revenue X
Gain on Sale of Asset X
X
Other Expenses and Losses
Interest Expense X
Loss on Sale of Asset X
X
XX
Net Income XXX

Statement of Owner’s Equity

The presentation of the statement of owner’s equity is like that prepared for the
service company. It is it is the ending balance on this statement that is to be
represented in the balance sheet as the owner’s equity.
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Merchandising Balance Sheet

The balance sheet of the merchandising remains the same except we now list
our Merchandising Inventory or Stock under our Current Assets heading.

The Asset Extract of the Balance Sheet would be:

Assets
Current Assets
Cash XX
Accounts Receivable XX
Merchandising Inventory XX
Prepayments XX
Total Current Assets XX

Preparation of Closing Entries

All the entries that affect the determination of Net Income are close off to
Income Summary.
We Credit the Temporary Accounts with Debit Balances to close them off.
Cost of Goods Sold is also closed off to Income Summary.

Closing Entries
DR. CR.
Sales XX
Sales Discounts XX
Sales Returns and Allowances XX
Income Summary (A) XX

Income Summary (B) XX

Cost of Goods Sold XX
Salaries Expense XX
Advertising Expense XX
Utilities Expense XX
Depreciation Expense XX
Insurance Expense XX

Income Summary (difference between A and B) XX

Capital XX

Capital XX
Drawings/Withdrawal XX
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Worked Example – Worksheet 6, Question # 3 -Task Corporation

Explanations for the additional information

a) Store supplies on hand at June 30, 2011 amounted to $33,000
$33,000 is the ending inventory for store supplies. $83,000 is the beginning
inventory for store supplies. You must determine the amount of supplies used
during the period i.e. store supplies expense.

To make the adjustment

a. Find the difference between the opening inventory and the closing inventory
(83,000 – 33,000)
b. The difference of $50,000 will be recorded in the IS under expenses
c. The $33,000 will be recorded in the BS under Current assets

b) Insurance of $54,000 was paid on June 1, 2011 for the 3 months to August
31, 2011

This $54,0000 represents a prepayment. According to the matching concept

expenses must be recorded when it is incurred not paid

a. $54,000 represents 3 months payment; our financial statements are being

prepared at the end of June;
b. One month has expired so we must transfer one month of the prepayment tothe
expense account (1/3 x 54,000 = 18,000)

c. To make the adjustment

a. Reduce the prepayment by 18,000
b. Increase the expense by 18,000
d. The insurance expense of $18,000 (no previous balance was stated in the
TB) will be recorded in the IS under expenses
e. The new prepaid insurance amount (54,000 – 18,000) of $36,000 will
recorded as a current asset in the BS

c) The furniture and fixtures has an estimated useful life of 8 years and is being
depreciated on the straight-line method down to a residual value of $80,000

Calculation for Dep'n - Furniture & Fittings (using Straight

Line Method)
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Straight-line Formula: (Cost - Residual Value)/ Useful life

= (800,000 - 80,000)/8

= 90,000 per annum

Since no date of purchase was given and there is a balance in the accumulated
dep’n account for this asset, we can safely assume that we had the asset in our
possession for the entire year so a full year’s dep’n should be charged

a. To make the adjustment

i. Increase dep’n exp.: F&F by 90,000
ii. Increase accumulated dep’n: F&F by 90,000
b. Dep’n exp.: F&F of $90,000 will be included in the IS
c. Accumulated dep’n: F&F of $375,000 (258,000 + 90,000) will be included in the
BS as a contra asset to the F&F Cost (i.e. it will reduce the cost down to its Net
Book Value)

d) The computer equipment was acquired on December 1, 2010 and is being

depreciated over 5 years on the double-declining method of depreciation,
down to a residue of $50,000

Calculation for Dep'n - Furniture & Fittings

Step 1: SL dep'n = 100%/5 years = 20%

Step 2: DDB rate = 20% x 2 = 40%

Year Dep'n exp Acc. Dep'n NBV

= 450,000
40% x (cost - acc depn) = 40% x( 450,000 - 0) = - 105,000
1 $180,000 105,000 = 345,000

Dec 1 2010 to June 2011 = 7/12 * 180,000 = 105,000

Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Note: the asset was only in the company's possession for 7 months

Dec 2010 - June 2100 = 7 months

e) Wages earned by employees not yet paid amounted to $12,000 at June 30

2011
a. The matching concept states that we must account (match) the expenses
used to generate the revenue for a period whether or not it has been paid.
b. To make the adjustment
i. Add the accrued amount to the amount in the T. Balance i.e. 171,000
+ 12,000 = 183,000
c. This new balance will be recorded in the IS under expenses
d. The $12,000 will be recorded in the BS under Current Liabilities as Wages
payable

f) Accrued interest expense, $3500

a. This is interest expense that has not been paid
b. Same application as Wages
c. The new balance will be recorded in the IS under expenses; the $3500 will
be recorded in the BS under Current Liabilities as Interest Payable

g) A physical count of the inventory at June 30 2011, reveals $188,000 worth of

inventory on hand
a. This amount represents the closing inventory for the period
i. Include under current assets in the BS

b. To make the adjustment

i. Compare the opening inventory amount to the closing inventory amount to

determine if it has increased or decreased

ii. Find the difference between the opening and closing inventory figures
iii. If the stock amount has decreased
• Debit the difference to COGS (increasing COGS) and credit the
difference to the Inventory account (reducing the inventory
balance to the ending inventory figure)
If the stock amount has increased
• Debit the difference to Inventory (increasing the inventory
balance) and credit the difference to the COGS account
(reducing COGS)

h) At June 30, 2011, $47,000 of the previously unearned sales revenue had been
earned
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

a. Monies were received in advance of the delivery of the product; now that the
product has been delivered you can record the revenue
b. Must conform to matching concept
c. $47,000 must be deducted from the Unearned Revenue account and
credited to the Sales Revenue Earned a/c

i) The aging of the Accounts Receivable schedule at June 30th, 2011 indicated
that the estimated uncollectible on account receivable is $14,500.
a. This transaction requires you to make an adjustment to your Allowance for
bad debts a/c
b. The current balance (as per TB) is $8000 but the required balance is
$14,500
c. This represents an increase in the prov’n of $6,500 (14,500 – 8,000)

j) 87,000 of the Notes payable is due for March 31, 2012

a. Since the due date is less than 1 year then this portion of the Notes payable
– long term is treated as a current liability (refer to definition of a current
liability)

b. To make the adjustment

i. Reduce the Notes payable long term by 87,000
ii. Record Notes payable due- current portion , 87,000 under Current
Liabilities

Note: do not journalize this adjustment

Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Trask Corporation
General Journal
Adjusting entries
Date Details Dr. Cr

(a) Store supplies expense (83,000 - 33,000) 50,000

Store supplies 50,000

(b) Insurance expense (1/3 x 54000) 18,000

Prepaid insurance 18,000

(c ) Dep'n exp.-F&F 90,000

Acc. Dep'n - F& F 90,000

(d) Depreciation exp - Computer Equipment 105,000

Acc. Dep'n - Computer equipment 105,000

(e ) Wages expense 12,000

Wages payable 12,000

(f) Interest exp 3,500

Interest Payable 3,500

(g) COGS (192,000 -188,000) 4,000

Inventory 4,000

(h) Unearned sales revenue 47,000

Sales revenue earned 47,000

(i) Bad debts expense (14500- 8000) 6,500

Allowance for bad debts 6,500

Note:
Journal entry b: only one month’s insurance had expired
Journal entry i: this records the increase in the allowance
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Trask Corporation
Multi-Step Income Statement
for the month ended June 30 2001
$ $ $
Sales 1,032,000
Less: Sales Discount (5,000)
Sales Returns & Allowances (12,000) (17,000)
Net Sales 1,015,000

Less: COGS (394,000)

Gross Income 621,000

Less: Operating expenses

Wages exp 183,000
Insurance exp 18,000
Utilities exp 84,000
Dep'n exp: F&F 90,000
Dep'n exp: Equipment 105,000
Store Supplies exp 50,000
Bad Debt exp 6,500 536,500
Operating income 84,500

Other revenues & expenses:

Interest exp 23,500
Net Income 61,000

Trask Corporation
Statement of Owner's Equity for the month ended June 30 2001

$ $
Conrad Fuller, Capital July 1 2000 754,000
Add: Net Income 61,000
815,000
Less: Conrad Fuller Withdrawals 165,000
Conrad Fuller, Ending Capital 650,000
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Trask Corporation
Classified Balance Sheet as at June 30 2001

Fixed Assets
Computer Equipment 450,000
Less: Accumulated Depreciation (105,000) 345,000

Furniture & Fittings 800,000

Less: Accumulated Depreciation (375,000) 425,000

Current Assets
Cash 170,000
Accounts Receivable 142,000
Less: Allowance for Bad Debts (14,500) 127,500
Inventory (ending) 188,000
Store Supplies 33,000
Prepaid insurance (54,000 - 18,000) 36,000
554,500

Less: Current liabilites

Accounts payable 267,000
Interest payable 3,500
Wages payable 12,000
Unearned revenues (89,000 -47,000) 42,000
Notes Payable due - current portion 87,000 411,500

Net working capital 143,000

Total assets 913,000

Financed by:
Conrad Fuller, Capital 650,000

Long Term liabilities

Notes Payable (350,000 -87,000) 263,000
Total Equity & long term liabilities 913,000
Week 10 – Merchandising Operations ACCT 1002 – Introduction to Financial Accounting

Trask Corporation
General Journal (Closing entries)

Date Details Dr. Cr

30-Jun Sales Revenue 1,032,000
Income Summary 1,032,000
To close all revenue accounts

30-Jun Income Summary 971,000

Sales Discount 5,000
Sales returns & allowances 12,000
COGS 394,000
Wages exp 183,000
Insurance exp 18,000
Store supplies exp 50,000
Interest exp 23,500
Utilities exp 84,000
Bad Debt exp 6,500
Dep'n exp: F&F 90,000
Dep'n exp: Equipment 105,000
To close all expense accounts

30-Jun Income Summary 61,000

Conrad Fuller, Capital 61,000
To close the IS account & transfer NI

30-Jun Conrad Fuller, Capital 165,000

Conrad Fuller, Withdrawals 165,000
To close the drawings account