The Merchandising Business

Service Businesses

• Thus far in the course, I have been taking you through the bookkeeping procedures for a service business

– Lawyers, Accountants, Lawn Care, Pool Cleaning, etc.

– Every business was a service (fees earned, rendered services, etc)

• Obviously, there are other types of businesses other than service businesses

Types of Businesses

1) The Service Business– What we have dealt with thus far

– Trading expertise for cash

2) The Merchandising Business– Our next unit

– Selling physical goods to the consumer

3) The Manufacturing Business– Towards the end of the semester

– Physically putting together the product

The Merchandising Business

• Business that sell Merchandise are known as Merchandising companies

• Since they sell products, we now must track the purchase, cost, and sale of these goods

• This is done through tracking the Merchandise Inventory Account

• This is the only essential difference between a Service & Merchandise Company

The Merchandising Business

• The first thing we have to clear up is the difference between supplies and merchandise.

• Supplies are purchased for use in running a business (i.e. office supplies, cleaning supplies).

The Merchandising Business

• Merchandise Inventory is purchased for RE-SALE. This idea is you buy goods, and re-sell them for a higher price in order to make money.

• Note: this doesn’t mean that pencils and paper can’t be inventory. If you are a stationary store, then these items ARE inventory. The key concept is “goods for re-sale”.

Keeping Track of Inventory

1. The Periodic Inventory Method Adjustments are made at the end of

the accounting period to track the inventory

2. The Perpetual Inventory Method Adjustments are continually made

and updated to keep track of the inventory

The two types of inventory systems haveDifferent accounting procedures

Periodic Inventory

• There were days before computerized accounting and inventory systems– larger companies would sell goods out of inventory

with no intention of trying to keep inventory records up to date, especially with a high volume of sales.

– Sometimes can be hard to keep track of (candy, frozen food)

• Instead, much like a supplies adjustment, an inventory count would be made at the end of the period (periodically). – This will show how much inventory was missing, all of

which is assumed to have been sold.

Perpetual Inventory

• Now thanks to technology, inventory systems can tell you exactly how much inventory (and what kind) is in the storeroom or on the floor (inventory is kept perpetually up to date).

• Every time a cashier scans a product, it records the sale, but also reduces the inventory level.

• Now inventory counts are done much less frequently, and are usually just to catch discrepancies in the records and to account for theft.

Inventory

• Inventory adds an entirely new dimension to running and evaluating a business.

1. Inventory can become obsolete – summer clothing not sold by fall, too many of the

hottest toys from last Christmas.

2. Inventory can also cost $$$– takes up space for which you pay rent, needs to be

stored, stocked, and counted - which takes labour and inventory soaks up cash to sit there on the floor

– It does nothing, instead of paying the business’ bills.

3. Inventory can also be stolen.

Inventory

• Inventory values can also be “played” with to alter a business’ reported Net Income. How?– This is because the cost of inventory eventually

makes it to the income statement as an expense called Cost of Goods Sold. The more you sell, the higher your cost of goods sold expense.

• The reason all this is significant, is because inventory is usually significant. – The single largest expense for a merchandise

business is usually the Cost of Goods Sold expense

Cost of Goods Sold

The concept of Cost of Goods Sold (COGS)

• Since now we are selling goods, part of the cost of generating revenue is the cost of the items we are selling.

• It is calculated like this:

COST OF GOODS SOLD

Beginning Inventory + Purchases - Purchase

Returns & Purchase Discounts

We will learn about these next Net

Purchases

+ Freight In

This is the cost of having the merchandise shipped to us. It is deemed to be part of the cost of obtaining the goods, so it goes in Inventory.

Cost of Goods Available for Sales during period

- Ending Inventory

Value of what’s left in Inventory

= COGS Expense

Value of goods sold during the period

ON THE INCOME STATEMENT

Sales

- COGS

= Gross Profit

Revenue is now referred to as Sales

This is also known as the ‘mark up’ on your goods

- Operating Expenses These are the ‘expenses’ you are use to

(Salaries, Rent, Amortization etc)= Net Income

Inventory

A Class Example

• A business with $20,000 worth of inventory on January 1st makes the following purchases

– Jan. 10 - $7,500, Jan. 17 - $1,500

– Jan. 21 – Return for $900

• When Inventory was counted on Jan. 31st the business had $14,000 worth of Inventory left

• Sales in January were $40,000

1. Find the COGS

2. Calculate the Net Income

Inventory

#1 – COGS (This is also called a schedule of Cost of Goods Sold)

Beginning Inventory $20,000

Add: Purchases 9,000

Less: Purchase Returns (900)

Total Available 28,100

Less: Ending Inventory (14,000)

Cost of Goods Sold 14,100

Inventory

#2 – Net Income

Sales $40,000

Less: Cost of Goods Sold (14,100)

Gross Profit 25,900

Less: Operating Expenses (17,000)

Net Income $8,900

Further Practice

• Page 308

– Questions 1-6

• More practice on calculating COGS and Net Income/Loss