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Unit 1Accounting for Merchandising Business
Overview
Background Merchandising business deals primarily with the buying and selling of
finished goods. This unit will introduce readers on the different activities done
by a trading business. A brief discussion of the perpetual inventory systems is
also included.
Purpose The purpose of Unit I Accounting for Merchandising Business is to
illustrate the various buying and selling activities of a trading business. This
unit also illustrates the basic entries using perpetual inventory system. A brief
discussion of business documents are also included to give readers ideas ofwhat are the basic papers being used that support a merchandising transaction.
In this unit This unit contains the following topics:
Topics See Page
Merchandising Business 2 of F
Inventory System 3 of F
Merchandise Accounts 7 of F
Business Documents 9 of FProprietors Investment and Withdrawal 14 of F
Purchase of Merchandise 15 of F
Purchase Returns and Allowances 18 of F
Discounts on Purchases 20 of F
Sales 25 of F
Sales Returns and Allowances 27 of F
Discounts on Sales 28 of F
Freight on Merchandise 29 of F
Income Statement 33 of F
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Merchandising Business
Overview An organization that is engaged in the buying and selling of goods or
merchandise is amerchandising or tradingconcern. Merchandiserefers togoods purchased for resale in the same form. Unlike businesses rendering
services for compensation, a trading concern derives its income through the
resale at a profit of the merchandise purchased.
Activities The activities of a merchandising concern that distinguish it from a service
concern cover the following:
Purchasing. Information as to the kind, quality, quantity, and cost of goods
bought should be maintained for the use of management. Records as to
supplies or merchandise bought are also maintained.
Handling. The costs of transporting and sorting of goods bear an important
relation to the prices of goods bought. These should be recorded properly.
Transportation costs include freight, express, drayage, and cartage.
Returning Of Goods Purchased. Some of the merchandise received may
prove unsatisfactory and must be returned to the vendors, or if not returned,
may be allowed some deductions from the original purchase price.
Selling. Goods purchased are sold at prices above the cost in order to
provide adequate margin of profit. It is therefore imperative that the cost of
goods bought should be known from the accounting records so that
desirable selling prices may be set.
Returning Of Goods Sold. The customers may return some of the
merchandise sold. Deductions from the original selling prices must be
allowed for sales returns. If the goods delivered are defective and no return
is made, the customers are granted reduction on the sales price.
Maintaining Adequate Stocks On Hand. In order to satisfy orders of
customers at all times, a stock of merchandise must be maintained on hand.
This is calledMerchandise Inventoryor Inventory on Hand
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Inventory System
Overview A business firm selling a product must use an inventory record system to
value the merchandise on hand at the end of an accounting period. Twodifferent inventory systems may be used to record trading transactions in the
accounting records. These systems are the periodic and perpetual inventory
system.
Perpetual In aperpetual inventory systema continual, or perpetual, record of the
inventory activity is maintained. Consequently, any items that are sold or
otherwise physically removed from inventory must be removed from the
Merchandise Inventory account, and items that are purchased are added to the
Merchandise Inventory account. This may result in significant extra recordkeeping as compared to a periodic system. However, a perpetual inventory
system does have advantages, and businesses with a relatively low number of
high-value transactions often find the extra effort to be worthwhile.
Computers are also making it practical for businesses to use perpetual systems
than would have been not feasible in the past.
Periodic or
PhysicalIn theperiodic inventory system, the ending inventory is determined by a
physical count of the merchandise on hand at the end of an accounting period.
The periodic inventory system receives its name because the balance in the
inventory account is known only at the beginning and at the end of theaccounting period. The periodic inventory is the simpler system commonly
used in practice and was the only practical alternative for most businesses
with large number of transactions before the advent of computers. The
periodic inventory system will be used in the illustrations throughout this
course unless otherwise stated.
Continued on next page
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Inventory System, Continued
Transactions in
PerpetualInventory
System
As mentioned earlier, a perpetual inventory system attempts to maintain a
continual record of the inventory on hand. Thus, if Joseph Labradorpurchased merchandise for cash, P50,000, the entry to record this transaction
is :
Merchandise Inventory 50,000
Cash 50,000
To record merchandise bought.
On the other hand, if Joseph sold P20,000 worth of merchandise for
P40,000, the entry to record this transaction is:
Cash 40,000Sales 40,000
To record merchandise sold.
Cost of Goods Sold 20,000
Merchandise Inventory 20,000
To record the transfer of inventory sold
to cost of goods sold account.
Assuming this time, Joseph Labrador purchased from Mary Trading
merchandise on account, Php 100,000. And at the same time, paid for the
freight on the said purchase, Php 2,500. The entries would be:
Merchandise Inventory 100,000
Accounts Payable 100,000
To record merchandise bought.
Merchandise Inventory 2,500
Cash 2,500
To record freight paid.
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Inventory System, Continued
Transactions in
Perpetual
Inventory
System, cont.
Let us say, after two days, Joseph returned defective merchandise bought from
Mary amounting to Php 5,000. The entry would be:
Accounts Payable Mary Trading 5,000Merchandise Inventory 5,000
To record returned merchandise.
If on the other hand, Joseph Labrador sold to Michael Supermart merchandise
worth Php 50,000 on account at gross profit of 50 percent. The entries would
be:
Accounts Receivable 50,000
Sales 50,000
Sold merchandise on account.
Cost of Goods Sold 25,000
Merchandise Inventory 25,000To record cost of merchandise sold.
Let us assume again that after three days, Michael issued a debit
memorandum amounting to Php 1,800 for defective goods received from
Joseph. The entries to record the return would be:
Sales Returns & Allowances 1,800
Accounts Receivable 1,800
Received debit memorandum.
Merchandise Inventory 900
Cost of Goods Sold 900
To record cost of good returned.
Importance It is important to note that both periodic and perpetual inventory systems will
record the sale of merchandise similarly. The only difference is that under the
perpetual inventory system, there is a second entry that is required to be
recorded together with the sale to indicate the transfer out of the amount sold
from the Merchandise Inventory account to the Cost of Goods Sold account.
It is possible to combine the two entries into a single compound entry with the
same debits and credits. For example:
Cash 40,000
Cost of Goods Sold 20,000
Sales 40,000
Merchandise Inventory 20,000
To record merchandise sold.
Continued on next page
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Inventory System, Continued
Pro-forma
entry
At the end of the year, no further entries may be required if the balance in the
inventory account equals the actual cost of the units on hand. Unfortunately,this seldom happens. Despite the extra effort necessary to maintain a
perpetual record of the inventory, the facts often differ from the records.
When the facts conflict with the records, the records must be corrected to
reflect the facts. Therefore, an adjusting entry is necessary to record any
missing inventory items and reduce the balance in the Inventory account to
the correct level. The pro-forma entry is:
Merchandise Inventory Short or Over xxx
Merchandise Inventory xxx
To adjust inventory account to actual balance.
Merchandise
Inventory
Short or Over
TheMerchandiseInventory Short or Over account is an expense account that
reflects the cost of missing inventory items. However, depending on its
materiality and on normal practice within the industry, the inventory
shrinkage amount is often combined with cost of goods sold in the financial
statements.
Net Income The net income disclosed on the income statements prepared under the two
inventory systems will reflect the same amount. This is also true with the
ending inventory balance reported in the balance sheet. A business thatcombined its Merchandise Inventory Shrinkage account with its Cost of
Goods Sold account would prepare an income statement identical to the one
prepared under the periodic inventory system.
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Merchandise Accounts
Overview The discussions on this topic are the account titles to be used in recording
acquisition and sale of merchandise of a trading business using the periodicinventory system.
Sales Sales of merchandise are recorded in this account at selling prices. This is a
temporary or nominal account representing income from selling of
merchandise. This account has a normal credit balance
Sales Returns
and Allowances
This account is debited for all the merchandise returned by customers. The
debit entry is at the original selling price of the merchandise. This account isalso being used for all goods delivered to customers but is found to be
defective or not as ordered and still the buyer desiring to retain the goods as
is. The customer in this case is normally permitted to deduct a certain amount
from the selling prices of the goods delivered.
Sales Discount This account is debited in the book of the seller whenever the buyer avails of
the cash discounts provided by the seller. This is a deduction from sales
account.
Purchases This is a temporary account to which the cost of goods bought during the
period is debited. This account usually has a debit balanceat the end of the
accounting period.
Purchase
Returns and
Allowances
Goods bought and returned to supplier, or goods bought and received as
defective, or not as ordered, when not returned to the supplier but is
subjected to a certain reductions from their acquisition prices. These
deductions and returns of purchased goods are credited to this account.
Purchase returns and allowances account is a deduction from the Purchases
account.
Continued on next page
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Merchandise Accounts, Continued
Merchandise
Inventory
At the end of every accounting period, a physical count of the unsold
merchandise on hand is taken. The total amount of these goods on hand isdebited to theMerchandise Inventoryaccount.
Purchase
DiscountThis account is credited in the books of the buyer whenever the purchaser
avails of the cash discount given by the seller. This is a deduction from
Purchases account.
Freight In or
TransportationIn
If the buyer pays the expenses of transporting the goods from the place of the
seller to his place of business, such expenses aredebitedto theFreight-inaccount.
Freight Out or
Transportation
Out
If the seller pays the expenses of transporting the goods from his place to the
place of the buyer, such expenses are debited to theFreight out account. This
is reported as part of operating expenses under the selling expenses
classification.
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Business Documents
Overview All business transactions are evidenced or supported by printed forms or
documents. Thesebusiness papersor oftentimes-calledbusiness documents,furnish the information needed in recording the transactions. Without
business papers, it would be very difficult, if not impossible, to keep accurate
records of these transactions.
Official
ReceiptsThese are issued every time the business receives cash. They show the date
on which the cash is received, the party from whom the cash is received, the
amount received, the particulars of the transaction, and the signature of the
one who received the cash.
The sample given below is an official receipt of MDV Realty issued to MayonGrocery. From the point of view of MDV Realty, there was an increase in
both the asset cash and the income from rent. On the other hand, the asset
cash of Mayon Grocery decreased, while its rental expenses increased, thus
decreasing its proprietorship.
MDV REALTY
150 Rizal Avenue
Manila
OFFICIAL RECEIPT
No. __120____
Date ___June 30, 20X1______
RECEIVED from _____Mayon Grocery________ the sum of
_____Ten Thousand___ pesos (P10,000.00) in payment of ___July rental__.
Cash_____P10,000 _________________________
Check No._ (Cashier)
Continued on next page
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Business Documents, Continued
Sales Invoice
and PurchaseInvoice
After a sale has taken place, the seller fills in the business form called the
invoice. The invoice shows the date of the sale, name and address of theseller, name and address of the buyer, terms of the sale, list of articles bought
with the unit price and entire cost of each, total amount of the invoice, and
method of shipment. Invoices are numbered and usually made out in triplicate
or quadruplicate. The original is given to the buyer. When the buyer receives
the goods, they are examined. Then the invoice is checked to determine
whether there are any discrepancies in quantity or price and any errors in
calculation. From the point of view of the seller, the invoice is a sales
invoice; from that of the buyer, it is apurchase invoice.
The sample given below shows that from the standpoint of the seller,
Diamond Grocery, the invoice price of P1,750 is the gross income from sales,which covers the cost of the juice sold and the gross profit. There was an
increase in assets in the form of an amount receivable from Mayon Grocery,
there was an increase in cost of merchandise available for sale and an increase
in liabilities (the amount of P1,750 is payable within 30 days).
Continued on next page
DIAMOND GROCERY
930 Del Monte Avenue
Quezon City
I N V O I C E
No. ___532___
Sold to: ______Mayon Grocery____ Date ______June 10, 20X1_____
Address __945 Mayon St., Q.C.____ Term: ___Net 30 days _______
Quantity D E S C R I P T I O N Unit Price Amount
50 boxes Happy Orange Juice Drink P 60.00 P 3,000.00
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Business Documents, Continued
Credit
Memorandum
Whenever the buyer finds an error in an invoice, or when merchandise is
damaged, he should notify the seller at once. If his claim is admitted as valid,the seller sends him a credit memorandum, whichshows the amount by which
his account is reduced. Credit memorandum is often shortened to credit
memo.
The credit memo illustrated below shows that because of the return of two
boxes of Funchum juice drink, the gross income from sales of Diamond
Grocery decreased, and the amount receivable from Mayon Grocery (asset)
decreased. From the point of view of Mayon Grocery, the merchandise
available for sale and also the debt to Diamond Grocery decreased.
DIAMOND GROCERY
930 Del Monte Avenue
Quezon City
C R E D I T M E M O
No. ___121___
To: ______Mayon Grocery____ Date ______June 15, 20X1_____
__945 Mayon St., Q.C.____
We have credited your accounts as follows:
Inv. No. Explanation Unit Price Amount
532 Return of two boxes of slightly
defective Happy orange juice
drink.
P 35.00 P 70.00
Continued on next page
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Business Documents, Continued
Promissory
Notes
A promissory note is a written promise signed by one party, called the maker,
to pay a certain specified sum to another, called thepayee, at a certain futuretime. The amount to be paid on maturity date may or may not include
interest. The amount due, not including interest, is called theface of the note.
Promissory notes may be received by the business from its debtors, or the
business may give it to its creditors. The following is a sample of a
promissory note.
Php 10,000 Quezon City,May 1, 20X1
Thirty days after date, I promise to pay to the order of Joseph Labrador, Tenthousand Pesos, payable at COCOBANK, Vito Cruz Branch for value received with
interest at 12%.
(Signed) Maria de Jesus
Bank deposit
slips and checksFor control and safekeeping of cash most businesses maintain checking or
current accounts with the banks. They deposit their money in banks and
payments from the deposit are then made by means of checks.
The bank deposit slip is filled in every time the business deposits money in
the bank. It shows the date when the deposit is made, for whose account the
deposit is made, the amount of the deposit classified into currency and checks
received from others, and the signature of the depositor.
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Business Documents, Continued
Check An order to the bank signed by the person issuing it, to pay to bearer or order
a certain sum of money. After the bank has paid the payee, the amount isdeducted from the deposit account of the one who issued the check.
Cash register
slipsSome cash registers are operated in such a way that a strip or slip of paper
comes out as evidence that money was received. The slip shows the date and
the amount of cash received.
Miscellaneous
bills
Some businesses, like the Meralco, Philippine Long Distance Telephone Co.,
MWSS, etc., send bills to their customers to notify them of the amounts theyhave to pay. Thus, there are advertising bills, light bills, water bills, telephone
bills, and others.
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Proprietors Investment and Withdrawal
Overview Owners of merchandising firms may want to invest merchandise into its
business operations. The following are the entries that would be recorded
under the periodic inventory system if the proprietor invests or withdrawsmerchandise.
Investment of
merchandiseRecording of the investment of the owner in the business will be treated in the
same way the recording is done in a service business. The only difference
would be if the owner invested an asset into the business in the form of
merchandise. When merchandise is part of the owners initial investment, the
said investment must be debited to theMerchandise Inventoryaccount
whether the company is using perpetual or periodic inventory system. But if
the investment of merchandise was made during the normal operation of the
business, i.e., as an additional investment, the said investment must be debited
toMerchandise Inventory, if the company is using perpetual inventory system
and Purchasesif they are using the periodic inventory system.
Pro-forma entry: Initial investment under both methods:
Date Merchandise Inventory xxx
Owner, Capital xxx
Investment made in the form of merchandise.
Pro-forma entry: Additional investment
Perpetual Method Periodic Method
Date Merchandise Inventory xxx Purchases xxx
Owner, Capital xxx Owner, Capital xxxInvestment made in the form of merchandise.
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Withdrawal of
merchandiseAny subsequent withdrawal made by the owner of any asset/s in the business
(e.g., cash, supplies, etc.) in anticipation of future profits of the company (i.e.,
temporary withdrawal) will be debited to thedrawingaccount. Withdrawals
that are permanent in nature (i.e., the owner has no intention of returning the
said amount into the business) will be debited directly to the capitalaccount.
If the company uses the periodic inventory system, withdrawals of the ownerin the form of merchandise for personal use will be credited to thePurchases
account at cost. This is done in order to maintain the original balance of the
Merchandise Inventory account, which was computed by means of actual
physical count at the end of the accounting period. On the other hand, the
Merchandise Inventory account is credited if the firm uses the perpetual
inventory system.
Pro-forma entry: Periodic inventory system/Temporary withdrawal
Date Owner, Drawing xxx
Cash xxx
Purchases xxx
Owner withdrew cash and merchandise for
personal use.
Pro-forma entry: Perpetual inventory system/Temporary withdrawal
Date Owner, Drawing xxx
Cash xxx
Merchandise Inventory xxx
Owner withdrew cash and merchandise for
personal use.
Pro-forma entry: Permanent withdrawalDate Owner, Capital xxx
Cash xxx
Owner permanently withdrew an amount in the
business for personal use.
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Purchase of Merchandise
Overview When a firm sells goods or services, it gives a sales slip or sales invoice to its
customers. This sales invoice becomes a purchase invoice as far as thepurchasing business is concerned. The purchase invoice provides the
objective information used to record purchasing transactions. In small
business firms, the only written document received or handled in purchases of
goods or services is this invoice. For such businesses, authorization for
purchases is given informally by telephone or by having an employee
personally purchases goods or services. In this part, we would be dealing with
transactions affecting the firms acquisition of the merchandise for sale. As
we have mentioned earlier, all our business transactions must be properly
supported by business documents.
Purchase
RequisitionLarge companies rely on a more careful procedure. As a first step they may
insist that the person or department needing the goods or services to be
purchased fill out a form called apurchase requisition. This completed form,
bearing the signature of some responsible person authorized to approve such
requisitions, is next sent to the purchasing agent or purchasing department of
the company.
Purchase
Order
The purchasing department, after selecting the firm from whom the goods or
services are to be bought, prepares a second business paper called apurchaseorder. The original copy of this document is sent to the company from which
the purchase is to be made. This copy gives the selling business authority to
send the purchaser the goods or services ordered.
Purchase
InvoiceAbout the same time that shipment of the goods is made or services are
supplied to the purchaser, the purchaser is sent an invoice that is the third
business paper. Thispurchase invoicebecomes the basis for recording the
purchase in the journal just as it is in the case of the informal procedure
described for small firms.
Continued on next page
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Purchase of Merchandise, Continued
Purchases The cycle of a merchandising entity begins with cash, which is used to
purchase inventory. Purchases, in the accounting sense, are only those itemsof merchandise inventory that a firm buys to resell to customers in the normal
course of business. For example, a bookstore records in the purchases
account the price it pays for books, school and office supplies, and other items
of inventory acquired for resale. A grocery store debits purchases when it
buys canned goods, meat, frozen food and other inventory.
Below is a sample purchase invoice:
DE ASIS TRADING
2401 Taft Avenue
Manila
Sold to : Labrador Store Invoice No. 143
Address : Blk 28, Lot 24 St. Charbels, Cavite Date : Jan. 7, 20X1
How shipped : FOB Destination, prepaid Terms 2/10, n/30
Quantity Description Unit Price Amount
10 dozen Ladys Sando 25 P 3,000.00
10 dozen Mens Undershirt 40 4,800.00
10 pcs. Girls Dress 95 950.00
P 8,750.00
=========
Prepared by : Checked by : Approved by:
---------------- ---------------- -----------------
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Purchase of Merchandise, Continued
Journal Entries The purchase made on credit by Labrador Store is recorded in the general
journal as follows:
Jan. 5 Purchases 8,750
Accounts Payable - De Asis Trading 8,750
Purchased under wears and childrens dresses. Terms: 2/10,n/30.
If the above purchase was made on cash basis instead of on credit, then the
journal entry of Labrador Store will be:
Jan. 5 Purchases 8,750
Cash 8,750
Cash purchases from De Asis Trading.
If the above purchase was made with down payment of P4,000 and the
balance on account, then the journal entry of Labrador Store will be:
Jan. 5 Purchases 8,750
Cash 4,000
Accounts Payable 4,750
Various purchases. Terms: 4,000 down, balance, 2/10, n/30.
Merchandise purchased with value added tax (VAT)is recorded using the
following pro-forma journal entry:
Purchases xxxxInput Tax xx
Accounts Payable xxxx
Purchased merchandise on account.
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Purchase Returns and Allowances
Overview Merchandise purchased for resale would not always be as what the buyer
expects. In this regard, buyers can return goods purchased due to a lot ofreasons, for example, due to defects, wrong specifications, poor quality, etc.
Debit
MemorandumWhen merchandise bought is returned, or an allowance is requested, the buyer
informs the seller in writing. The communication is done usually through the
buyers printed business form calleddebit memorandum. An illustration of
such a form is shown below:
Labrador StoreBlk 28, Lot 24 St. Charbels
Dasmarinas, Cavite
No. 8
DEBIT MEMORAMDUM
Date : Jan. 8, 20X1
To : De Asis Trading
2401 Taft Ave., Manila
We DEBIT your account for the following:
2 pcs. Ladys Sando P25 P 50
5 pcs. Mens Undershirt 40 200
1 pc. Girls dress 95 95
--------
P 345
=====
Remarks: The above goods were received in damaged-condition as per your
invoice No 143 dated Jan. 5, 2001.
Continued on next page
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Purchase Returns and Allowances, Continued
Credit
Memorandum
If the return is accepted or the allowance is granted by the seller, the seller
usually sends to the buyer such acceptance or grant in writing through aprinted form calledcredit memorandum. A credit memorandum may in
similar form as the debit memorandum above except for the change of the
word debit to credit. Upon receipt of this communication, the buyer makes an
entry for the returns or allowances
Illustration Assume the following transactions:
Jan. 8, 20X1 - Labrador Store returned P343 worth of merchandise to De Asis
Trading. This was accepted by De Asis Trading (see sample
debit memorandum).
Journal entry to record the return:
Jan. 8 Accounts Payable - De Asis Trading 345
Purchase returns and allowances 345
Merchandise returned to De Asis Trading.
Note: As a result of the returns, the debt to De Asis Trading was diminished,
thus, the sellers account was debited.
The return was credited to purchase returns and allowances account instead of
directly against purchases in order to have the books show total purchases
and total returns and allowances.
If the purchase of January 5 was in cash, the return of goods worth P343 on
Jan. 8 may result in a refund of cashfrom De Asis Trading. If no cash refund
is made, then Labrador Store will have a receivablefrom the De Asis Trading
which may be collected or applied to purchases in the future.
Jan. 8 Cash 345
Purchase returns and allowances 345
Cash refund for the return of goods
However, if the return on Jan. 8 was not refunded in cash, then the journal
entry should have been:
Jan. 8 Accounts Receivable - De Asis Trading 345
Purchase returns and allowances 345
To charge De Asis Trading for goods returned.
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Discounts on Purchases
Overview Buyers of merchandise can avail of two types of discounts, namely, the cash
discount and trade discount. This part will provide readers on how to record
discounts on merchandise purchased.
Cash Discounts Special deductions from the prices of goods bought granted by the seller to the buyer
to induce the latter to pay within a specified period.
Example:
Jan. 5, 20X1 Labrador Store bought merchandise from De Asis Trading
P8,750. Terms: 2/10, n/30
The terms of the above transaction mean that if the invoice is paid within 10 days
after the date of the invoice (Jan. 6 to 15), Labrador Store may pay the invoice
amount less a discount of 2%. This is computed as follows:
Amount of invoice P8,750
Less: 2% thereof 175
Amount to be paid P8,575
======
If payment is not made within 10 days, then Labrador Store should pay the full
amount of the invoice, P8,750, within 30 days from the date of the invoice.
If the invoice remains unpaid after 30 days, it is said to bepast dueand, usually, the
amount begins to earn interest from the 31st day.
Other examples of terms attached to a credit invoice are:
5/10, n/30 - There is a 5% discount if paid 10 days after invoice date, net
amount if paid beyond the 10 days but within 30 days.
2/10, 1/15, n/30 - There is a 2% discount if paid 10 days after invoice date, 1%
discount if paid within fifteen days, net amount if paid beyond
15 days but within 30 days.
2/5EOM, n/45 - There is a 2% discount if paid 5 days after end of the month, net
amount if paid beyond 5 days after end of month but within 45
days from the invoice date.
2/10, n/EOM - There is a 2% discount if paid 10 days after invoice date, net
amount if paid beyond the 10 days but up to end of the month
only.
n/60 - No cash discount is offered. The full amount must be paid within
60 days from invoice date.
Cash discounts are computed on the amount of the bill less returns and allowance, if
any. The base amount should be that which pertains only to merchandise.
Discounts are ordinarily not allowed on incidental expenses such as freight,
insurance while in transit, taxes, duties, and other charges.
Continued on next page
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Discounts on Purchases, Continued
Recording of
Cash Discounts
Below are sample transactions involving the recording of cash discounts:
Transactions
20X1
Jan. 4 - Mary Store purchased merchandise from Uniwide Trading,
P10,000. Terms: 2/10, n/30
7 - Mary Store made a partial payment of P5,000 to Uniwide
Trading
14 - Mary Store paid in full its account to Uniwide Trading
18 - Mary Store purchased merchandise from SM Superstore
worth P25,000. Terms: P10,000 down payment, balance
2/10, 1/15, n/30.
21 - Mary Store returned to SM Superstore P500 cost of
merchandise acquired on Jan. 18. SM Superstore in return
issued a credit memo with the same amount-signifying
acceptance of the return made by Mary.
31 - Mary Store settled in full its account with SM.
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Discounts on Purchases, Continued
Recording
cont
Continuation of the recording of discounts:
Journal Entries:
20X1
Jan. 4 Purchases 10,000
Accounts Payable - Uniwide 10,000
Merchandise purchased. Terms:
2/10,n/30.
7 Accounts Payable - Uniwide 5,000
Cash 5,000
Partial Payment.
14 Accounts Payable - Uniwide 5,000
Cash 4,800
Purchase Discounts 200
Full payment.
18 Purchases 25,000
Cash 10,000
Accounts Payable-SM 15,000
Bought merchandise. Terms:
2/10,1/15/n/30.
21 Accounts Payable - SM 500
Purchase Returns and Allowances 500
Received CM for merchandise
returned.
31 Accounts Payable - SM 14,500
Purchase Discounts 145
Cash 14,355
Settled account in full.NOTE: The cash discount in the last entry was computed on the net amount
after deducting the returns.
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Discounts on Purchases, Continued
Trade
Discounts
Deductions from the list prices of merchandise offered by the seller to the
buyer to encourage the latter to buy in bulk or large volume/quantity. This isa strategy being adopted by the seller to promote the sale of the merchandise.
A list price may be subjected to one or more trade discounts
Illustration Trade Discounts and Cash Discount Illustrated:
a. Assume a credit invoice of P3,000 less 10. Terms: 2/10,n/30.
List price P3,000
Less: trade discounts(3,000x10%) 300Net invoice price P2,700
Less: Cash discounts(2,700x2%) 54
Amount due if payment is made with in 10 days P2,646
=====
b. Assume a credit invoice of P5,000 less 10-5. Terms: 2/10,n/30.
List price P5,000.00
Less: First trade discounts(5,000x10%) 500.00
P4,500.00
Less: Second trade discounts(4,500x5%) 225.00Net Invoice price P4,275.00
Less: Cash discounts(4,275x2%) 85.50
Amount due if payment is made w/in 10 days P4,189.50
========
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Discounts on Purchases, Continued
Journal Entries The journal entries on buyers book for (b):
At the time of purchase
Purchases 4,275.50
Accounts Payable 4,275.50
Purchased merchandise on account.
Payment within 10 days
Accounts Payable 4,275.50
Purchase discounts 85.50
Cash 4,189.50
Settled accounts in full with in discountperiod
Payment beyond 10 days
Accounts Payable 4,275.50
Cash 4,275.50
Paid account in full.
Summary The purchase invoice is the business document generated by a purchase
transaction. Most merchandising entities offer discounts (i.e. cash and trade
discounts) to their customers. Trade discountsare not recorded in the booksof both buyer and seller. While cash discountsare recorded in the buyers
book under the account title Purchase Discount. The Purchase Discount
account, which has a credit balance, is a contra account to Purchases.
Most businesses allow their customers to returnmerchandise that is
defective, damaged in shipment, or otherwise unsuitable. Or if buyer chooses
to keep damaged goods, the seller may deduct an allowance from the amount
the buyer owes. Similar to purchase discount,Purchase Returns and
Allowances, the account title used to record returns and allowance granted, is
also a contra purchases account.
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Sales
Overview The sale of merchandise may be for cash or on account. An invoice supports
every sale. The sellerssales invoiceis the buyerspurchase invoice. Whena sale is for cash, the seller receives money in return for his merchandise.
When the sale is made on credit, the seller acquires a receivable or right to
collect from the buyer.
The preceding discussion on methods of recording merchandise inventory
transactions stated that under the periodic inventory method, purchases
represent the cost of merchandise bought. Sales, on the other hand, represent
the selling price of merchandise previously bought and then sold. In the
income statement (See sample on page 36 of F), Sales is shown as an income
item from which the cost of goods sold (consisting of merchandise inventory
beginning and end and net cost of purchases), was deducted, the differencebeing the gross profit. Therefore, sales represents income, which covers both
the cost of merchandise, sold and gross profit (or gross loss). In the following
discussions, it was assumed that merchandise is sold normally at a profit, i.e.,
the selling price of the merchandise sold is greater than its cost.
It is very important to note that a purchase and sales transaction involve two
parties; namely, the buyer and the seller. Furthermore, a business acts
sometimes as a buyer and sometimes a seller.
The analysis of a purchase and sale transaction would depend on whether the
business for which the accounting work is being done, is playing the role of a
buyer or that of a seller. The treatment therefore, for cash discount andreturns and allowances on this part will also be similar to that discussed under
purchases, only this time the account titles to be used would be Sales discount
and Sales returns and allowances.
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Sales, Continued
Cash Sales Retailers like drug stores, sari-sari stores, department stores and restaurants
will at times sell their merchandise on cash basis. Assuming Mary Store soldP5,000 worth of merchandise for cash, this cash sale is recorded as follows:
Jan. 10 Cash 5,000
Sales 5,000
Cash Sales.
Sales on
AccountMost business establishments are now extending credit to their customers to
become competitive. In the advent of what we call plastic money,i.e.,
credit cards, selling on account has been the current trend whether you are a
manufacturing business, wholesaler or retailer. Assuming Mary Store soldmerchandise worth P7,000 on account. The transaction is recorded as
follows:
Jan. 13 Account receivable 7,000
Sales 7,000
Sold merchandise on account.
The related cash receipt on account is recorded as follows:
Jan. 20 Cash 7,000
Accounts receivable 7,000
Collected account in full.
Merchandise sold with value added tax (VAT) will be recorded using thefollowing pro-forma journal entry:
Accounts Receivable xxxx
Sales xxxx
Output Tax xx
Sold merchandise on account.
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Sales Returns and Allowances
Overview When the customer returns goods to the seller or requests for a deduction
from the price of the goods delivered to him, the seller accepts the return orgrants the request through a credit memorandum.
Entries The effect of a sales return or allowance is to reduce the amount of sales and
the amount of receivable from the customer. If Sales account is debited for
the return or allowance, then, the said account will show only net sales. To
preserve the gross amount of sales and to maintain a separate record for the
returns and allowances, the entry to record sales returns or allowances is:
Sales Returns and AllowancesAccounts Receivable
Return of goods.
xxxxxx
If a cash sale is made and a return of a part thereof by the customer is
accepted, the seller may refund cash to the customer for which the
entry is:
Sales Returns and Allowances
Cash
Cash refund for good returned.
xxx
xxx
However, if cash is not refunded, then the entry will be
Sales Returns and Allowances
Accounts Payable
Customer credited for goods returned.
xxx
xxx
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Discounts on Sales
Overview Credit terms encountered in sales are similar to those discussed in accounting
for purchases. The following are illustrations on how to record salestransactions with cash discount.
20X1
Jan. 4 Sold to Francis Asis merchandise worth P12,000 less 5.
Terms: 2/10, n/30
7 Francis Asis issued a debit memo worth P500 for defective
items received from Joseph
10 Made partial payment amounting to P5,000
14 Francis Asis settled account with Joseph in full
Journal Entries The following are the journal entries:
20X1
Jan. 4 Accounts receivable - Asis
Sales
Sold merchandise. Terms: 2/10,
n/30
11,400
11,400
7 Sales returns and allowancesAccounts receivable - Asis
Asis was credited for allowance
granted
500500
10 Cash
Accounts receivable - Asis
Received partial payment
5,000
5,000
10 Cash
Sales discountAccounts receivable - Asis
Asis settled account in full
5,682
2185,900
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Freight on Merchandise
Overview Transportation or freight on merchandise purchased or sold is recorded as an
expense in the books of the party who, as per contract, should shoulder theexpense.
Shipping
TermsFreight-inis the title used in recording the freight or transportation charges
on merchandise bought, andFreight-out, for the freight on merchandise sold.
The term of shipment that is contained in the bill of ladingindicates whether
or not the buyer or the seller should assume the burden of the freight expense
(Punzalan, J., Santos, L., 1963). Merchandise may be shipped under the
following terms:
F.O.B shipping pointmeans that the goods are free on board up to theshipping point. Therefore, if the seller is in Davao and the buyer is in
Manila, the seller absorbs all transportation expenses up to the port of
Davao only. This also signifies that title to the goods already passes to the
buyer upon the loading of the goods onto the carrier at Davao.
F.O.B destinationmeans that the goods are free on board up to the point of
destination. If the seller is in Davao and the buyer is in Manila, the seller
absorbs all transportation expenses of the goods up to Manila. The title of
the goods passes to the buyer only upon the unloading of the goods from the
carrier in Manila.
Freight prepaidmeans that the seller has paid the shipping company thetransportation expenses up to the point of destination.
Freight collectmeans that the buyer should pay the shipping company upon
the delivery of the goods at the point of destination.
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Freight on Merchandise, Continued
Illustration
No. 1
Assume Mr. Vic Cruz of Davao sold to Joseph Labrador of Manila on
account. The invoice showed the following:
Price of merchandise P 14,000
Freight (to Manila) 1,000
Total P 15,000
======
1. If the purchase is F.O.B shipping point, prepaid, the journal entry ofJoseph is:
Purchases P 14,000
Freight-in 1,000
Accounts Payable-Cruz 15,000Purchased merchandise on account. FOB SP, prepaid.
Analysis: The transportation expense to Manila is the expense of Labrador.
In as much as Vic Cruz has advanced the amount of freight, then, the amount
payable to him should include the said amount of freight.
2. If the purchase is F.O.B shipping point, collect, the journal entriesof Labrador are:
Purchases
Account payable-Cruz
Purchased merchandise on account
14,000
14,000
Freight-in
Cash
Paid freight F.O.B. SP, collect
1,000
1,000
3. If the purchase is F.O.B. destination, prepaid, the journal entry ofLabrador is:
Purchases
Accounts payable-Cruz
Purchased merchandise on account.
14,000
14,000
Note: The freight is not reflected in the books of Labrador
because said expense is for the account of Cruz.
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Freight on Merchandise, Continued
Illustration
No. 1, cont.
4. If the purchase is F.O.B. destination, collect, the journal entries of
Labrador are:
Purchases
Accounts Payable-Cruz
Purchased merchandise on account.
14,000
14,000
Accounts Payable-Cruz
Cash
Paid freight F.O.B. destination, collect.
1,000
1,000
Note: Labrador is liable to pay Cruz only P13,000 (14,000-1,000).
In the foregoing transactions, the entries presented are all in thebooks of the buyer. Now, using the same transactions, the
following are the entries in the books of the seller.
Illustration
No. 21. If the sale is F.O.B. shipping point, prepaid, the journal entries of Cruz are:
Account Receivable- Labrador
Sales
Sold merchandise on account.
14,000
14,000
Accounts Receivable- Labrador
Cash
Paid freight F.O.B. SP, prepaid
1,000
1,000
Note: Cruz advanced the amount of freight, which is supposed to
be paid by Labrador. Therefore, the amount receivable from Joseph
should include the amount of freight.
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Freight on Merchandise, Continued
Illustration
No. 2, cont.
2. If the sale is F.O.B shipping point, collect, the journal entry of Cruz is:
Accounts Receivable- Labrador
Sales
Sold merchandise on account.
14,000
14,000
Note: The freight is not reflected in the books of Cruz because the
said expense is for the account of Labrador.
3. If the sale is F.O.B destination, prepaid, the journal entries of Cruz
are:
Accounts Receivable- Labrador
SalesSold merchandise on account
14,000
14,000
Freight-out
Cash
Paid freight F.O.B. Destination,
Prepaid
1,000
1,000
4. If the sale is F.O.B. Destination, collect the journal entries of Cruz
are:
Accounts receivable- LabradorSales
Sold merchandise on account
14,000 14,000
Freight-out
Accounts receivable- Labrador
F.O.B. Destination, collect.
1,000
1,000
Note: The total receivable of Cruz from Labrador will be 13,000
only (14,000-1,000), since the payment of freight was advanced by
Labrador.
Reminder It should be noted that bothfreight-inandfreight-outrepresent expense.
However,freight-in is shown as an addition to net purchasesbecause it is a
direct cost of procuring the merchandise bought. On the other hand,freight-
out is listed among the selling expenses
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Income Statement
Overview A merchandising business prepares its income statement using the functional.
The functional income statement contains several sections, subsections and
subtotals. The amount of the details presented in this section, e.g., the sellingexpenses, general and administrative expenses, etc., varies from company to
company
Income
Statement
Terminologies
Below are the terms used in the income statement:
Revenue from Sales. The total amount charged to customers for
merchandise sold, for cash and on account, is reported in this section. Sales
returns and allowances and Sales discounts are deducted from this to yield
Net Sales.
Cost of Goods (Merchandise) Sold. The cost of merchandise sold during
the period may also be called Cost of Goods Soldor the Cost of Sales. It is
computed by adding to the beginning inventory the net cost of purchases to
yield Total Goods Available for Sale. The ending inventoryis deducted
from the Total Goods Available for Sales to yield the Cost of Goods
(Merchandise) Sold.
The net purchases amount is computed by deducting purchase discount and
purchase returns and allowances from purchases. Net cost of purchases is
computed by adding freight-in to the net purchases amount.
Gross Profit. The excess of net sales over the cost of goods sold is calledgross profit. It is sometimes called gross profit on sales or gross margin.
.
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Income Statement, Continued
Income
StatementTerms, cont
Cont
Operating Expenses. Most merchandising businesses classify operating
expenses as eitherdistribution expenses, administrative expenses or other
operating expenses. However, depending on the decision-making needs of
managers and other users of the financial statements, other classifications
could be used.
Expenses that are incurred directly in the selling of merchandise are
distribution expenses. They include such expenses as salespersons
salaries, store supplies used, depreciation of store equipment, and
advertising.
Expenses incurred in the administration or general operations of the
business areadministrative expenses. Examples of these expenses are
office salaries, depreciation of office equipment, and office supplies used.
Expenses that are related to both administrative and selling functions may
be divided into the two classifications. In small businesses, however, such
expenses as rent, insurance, and taxes are commonly reported as
administrative expenses. Transactions for small, infrequent expenses are
often reported asMiscellaneous Selling Expense or Miscellaneous
Administrative Expense.
Expenses that cannot be traced directly as selling or administrative expenses
are identified as other expenses. Examples of these are the losses incurred
in the disposal of plant and other assetsandDiscount loston the purchase
of plant assets.
Interest expense that results from financing activities is included in the
operating expenses after the other expenses asfinance costs.
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Income Statement, Continued
Income
StatementTerms, cont
Cont
Other Income. Revenues from sources other than the primary operating
activity of a business are classified as other income or non-operating
income. In a merchandising business, these items include income from
interest, rent, and gains resulting from the sale of plant and other assets.
Net Income. The final figure on the income statement is called the net
income (or net loss). It is the net increase (or net decrease) in the owners
equity as a result of the periods profit-making activities.
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Income Statement, Continued
Illustration Below is an illustration of a functional form income statement:
NoteNet sales revenue 1 P 200,000Cost of sales 2 (145,000)
Gross profit P 55,000Other income 3 3,000
Total income P 58,000
Operating expenses:Distribution expenses 4 P 14,000Administrative expenses 5 24,000Other expenses 6 800Finance Cost 7 1,200 (40,000)
Net income P 18,000
Notes to the
Functional
Form
The following are the notes to the functional form income statement:
Note 1 - Net sales revenue
Gross sales P 207,000
Less: Sales Returns & Allowances P 5,000
Sales Discount 2,000 7,000
Net sales revenue P 200,000
Continued on next page
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Income Statement, Continued
Notes to the Functional Form (continued)
Note 2 - Cost of salesMerchandise Inventory, Jan. 1 P 5,000
Add: Net cost of purchasesPurchases P 175,000
Less: Purchase Returns & Allowances P 3,000Purchase Discounts 2,000 5,000
Net purchase P 170,000
Add: Freight-in 1,000 171,000
Cost of goods available for sale P 176,000Less: Merchandise Inventory, Dec. 31 31,000
Cost of sales P 145,000
Note 3 - Other incomeRent Income P 1,500
Dividend Income 800Interest Income 500Gain on Sale of Furniture & Fixtures 200
Total other income P 3,000
Note 4 - Distribution expensesSalesmen's Salaries and Commissions P 9,000Representation and Entertainment 1,200Depreciation - Store Equipment 1,000
SSS & Philhealth Premiums - distribution 900Freight-out 800Miscellaneous Distribution Expense 1,100
Total distribution expenses P 14,000
Note 5 - Administrative expensesSalaries Expense P 15,000Light, Water and Telephone 3,500Uncollectible Accounts Expense 2,000Depreciation Expense 1,500SSS & Philhealth Premiums - Administrative 1,300Miscellaneous Administrative Expense 700
Total administrative expenses P 24,000
Note 6 - Other expenses
Loss on Sale of Equipment P 800==========
Note 7 Finance Cost
Interest Expense P 1,000Discount Lost 200
Total finance cost P 1,200