accounting for merchandising business essay

Accounting for a Merchandising Business | Accounting Student Guide

accounting for merchandising business essay

What is a Merchandising Business?

A merchandising business is a business that purchases goods and re-sells the goods to its customers. Examples of merchandising businesses are Amazon and Wal-mart. A non-profit can also have a merchandising business where it receives donated goods and sells them to customers. Examples of non-profit merchandising businesses are Habitat for Humanity’s ReStore and the Goodwill and Salvation Army thrift stores.

Accounting for Merchandising Business

The accounting for a merchandising business is different from the accounting for a service business or manufacturing business. Merchandising businesses must accurately track the cost of the merchandise purchased for resale and the inventory of the goods. Accounting transactions for a merchandising business track sales transactions and purchase and inventory transactions. An important financial measurement for merchandising businesses is gross profit.

accounting for merchandising business essay

What is Gross Profit in a Merchandising Business?

Gross Profit is a key measurement for a merchandising business that compares revenue (sales of goods) and the cost of purchasing the goods for re-sale ( cost of merchandise sold ). Because the cost of merchandise sold amount directly impacts profits, it is an amount that needs careful and accurate tracking.

For an overview and example of accounting for a merchandising business, watch this video:

Emotional Support Dinosaur (ESD): noun A highly-specialized species of dinosaur imbued with the innate ability to comfort accounting students during the learning of confusing accounting topics. Dictionary of completely made up things

Chart of Accounts for a Merchandising Business

For merchandising businesses, additional accounts are needed to capture important financial information. The typical accounts that may need to be added to the Chart of Accounts for a merchandising business are:

Merchandise InventoryAsset
Estimated Returns InventoryAsset
Customer Refunds PayableLiability
Cost of Merchandise SoldExpense
Delivery ExpenseExpense

Accounting for Purchase Transactions in a Merchandising Business

In a merchandising business, tracking purchases and tracking and valuing inventory are critical to the success of the business. Careful control of the cost of merchandise directly impacts the profit of a business. Protecting inventory from theft, loss, spoilage, and damage impacts the cost of merchandise. Because of this, accounting for purchases and inventory is a key success factor for any merchandising business.

For an introduction to inventory, check out this article:

What is Inventory?

One of the first considerations for a merchandising business is to make a decision on how inventory will be tracked and valued. A business can use either a perpetual inventory method or a periodic inventory method.

Perpetual vs Periodic Inventory

Under a perpetual inventory method, businesses typically scan merchandise as it comes into the warehouse, scan it as it leaves the warehouse, scan it as it comes into the store, and scan it when it goes through the cash register and out of the store. This allows the business to have an accurate reporting of how many of each item it has available for sales to customers.

Under a periodic inventory method, a business tracks inventory once a month or once a year (periodically) by taking a physical count of all merchandise. The value of the inventory is compared to the previous inventory number and what was purchased. The difference between what was on hand, what was purchased, and what is remaining, provides the amount of inventory sold. Because this method does not provide up-to-date business information, this method is only used by businesses with small amounts of inventory.

For a deeper understanding of Perpetual Inventory and Periodic Inventory methods, watch this video:

Every sales transaction for a merchandising business consists of both a sales transaction and an expense/inventory transaction. For example: a business sells a product to a customer on account. The selling price is $10. The purchase price (cost of merchandise) is $5. The sale is recorded like this:

Accounts Receivable10
Sales Revenue10
Cost of Merchandise Sold 5
Inventory 5

The first part of the journal entry records the sale to the customer. The second part of the transaction moves the merchandise out of inventory and into an expense. In accounting, merchandise is held in inventory until it is sold. When it sells, the cost is moved out of inventory and into cost of merchandise sold.

accounting for merchandising business essay

Because you can’t sell from an empty shelf, we’ll start out our step-by-step accounting transaction discussion with the purchasing and inventory side of a merchandising business. Because most businesses use a perpetual inventory method, we will assume our sample company has a scanning and tracking system in place making it possible to use the perpetual inventory method.

Merchandise Business: Purchases Transactions

Two standard journal entries can be used to record the purchase of merchandise. The only difference is how the company pays for the merchandise–now or later.

Let’s say Terrance Inc. purchases 100 Terrance Action Figures at $5 a piece.

In the first transaction, the company pays for the merchandise in cash.

Merchandise Inventory500
Cash500

In the second transaction, the company purchased the merchandise on account (paying later).

Merchandise Inventory500
Accounts Payable500

The only difference between the transactions is the method of payment.

Often, a vendor or supplier will offer payment terms that can impact the cost of the merchandise.

What are Payment Terms on an Invoice or Bill?

Each invoice or bill from a vendor specifies when the vendor expects to be paid.

Here are some common payment terms and what they mean:

Due on ReceiptVendor wants payments as soon as the goods are received.
CODCash on Delivery–payment must be made at the time of delivery.
Net 30Full amount of the invoice is due in 30 days.
Net 15Full amount of the invoice is due in 15 days.
2% 10, net 30If invoice is paid within 10 days, a 2% discount can be taken, otherwise the invoice is due in full in 30 days.
1% 15, net 20If invoice is paid within 15 days, a 1% discount can be taken, otherwise the invoice is due in full in 20 days.
Payment in AdvancePayment is due before merchandise ships.
DepositA portion of the purchase must be paid before shipment (50% deposit, 33% deposit, etc.)

For the purposes of this article, we will focus on the discounts offered. When a vendor offers a discount to a merchandising business, that discount (when taken) reduces the cost of the merchandise.

In the original entry, Terrance Inc. purchased 100 Terrance Action Figures for $5 each.

If the vendor selling the items to Terrance Inc. offered a 2% discount if paid within 10 days, the discount is used to reduce the cost of the merchandise.

To calculate the amount of the discount:

invoice amount x discount percent = discount [$500 x 2% = $10]

The total amount of the invoice after the discount is applied is $490 [$500 – $10].

There are two ways to account for this difference in the cost of the merchandise:

  • Gross method

Many accounting textbooks say that since companies “always” take discounts, use the net method. In the real world, companies “sometimes” take discounts. Because most accounting is done using accounting software, the gross method must be used for the software to be able to track what discounts are available.

Let’s look at our transaction using the gross method :

The transaction is recorded at the full amount of the invoice at the time of purchase:

At the time of payment, if it’s during the discount period, the following transaction is recorded to pay the invoice:

Accounts Payable500
Merchandise Inventory 10
Cash490

The full amount of the invoice (reduced by debiting) from Accounts Payable to show the bill is paid in full. Because the discount has been applied, Cash being paid out is less than the full amount of the invoice. We reduce Cash (reduced by crediting). Originally, we recorded the cost of our Merchandise Inventory as $500. The discount reduced that by $10. Now, our total cost of Merchandise Inventory is $490 [$500 – $10].

Let’s look at our transaction using the net method :

The transaction is recorded at the discounted amount of the invoice at the time of purchase:

Merchandise Inventory490
Accounts Payable490
Accounts Payable490
Cash490

If the invoice is not paid during the discount period, an adjustment needs to be made to record the lost discount. This adds the cost of the discount taken back to the cost of the Merchandise Inventory.

Accounts Payable490
Merchandise Inventory 10
Cash500

For a more in depth understanding of Gross vs. Net Methods, watch this video:

Accounting for Purchases Returns and Allowances

At times, due to errors in ordering or fulfilling orders or due to defects in merchandise, a customer may need to return merchandise to the seller. When this happens, an accounting transaction is recorded to show the change in the transaction.

In our previous example, Terrance Inc. purchases on account 100 Terrance Action Figures for $5 each. Assuming the company uses the Gross Method of entering bills, the journal entry would be:

Now, let’s say 10 of the Terrance Action Figures were missing when the box was opened. Terrance Inc. notifies the supplier that the order was short by 10. The supplier issues a credit memo to Terrance Inc. for $50 [10 action figures x $5 each]. Terrance Inc. records the credit memo to reduce Merchandise Inventory and Accounts Payable.

Accounts Payable50
Merchandise Inventory50

The total amount due to the supplier is $450 [$500 – $50]. Terrance Inc.’s inventory is reduced by value of the missing 10 action figures.

When it’s time to pay the bill, Terrance Inc. will record the following journal entry:

Accounts Payable450
Cash450

For large businesses that expect high amounts of returns, the company can set up a Purchase Returns Allowance account. It designates an amount of expected returns and sets it aside in an allowance account, much like the Allowance for Doubtful Accounts.

For an overview and more examples for Purchase Transactions in a Merchandise Business, watch this video:

Of course, the purpose of purchasing merchandise for a merchandising business is to sell the merchandise to customers. Next, we’ll cover the sales transactions needed to record both the sales side of transactions and the inventory and expense side.

Merchandise Business: Sales Transactions

In manual accounting in a merchandising business, there are two parts to every sales transaction:

  • Recording the Sale to the Customer as either a cash payment or an Accounts Receivable .
  • Moving the sold merchandise out of Merchandise Inventory and into Cost of Merchandise Sold .

To illustrate how this is done, we’ll use the following example:

Terrance Inc. sells 20 Terrance Action Figures to Dino-Mart Toy Store for $10 a piece. The action figures cost Terrance Inc. $5 a piece.

Cash Sales in a Merchandising Business

If Dino-Mart pays cash for the merchandise, the following journal entry is made to record the sale:

Cash200
Sales Revenue200

The second part of the journal entry, records the expense of the merchandise sold and removes it from inventory. [Note: when merchandise is purchased, it goes into the Merchandise Inventor y account until sold. When it’s sold, the expense is recorded. This is because of the Matching Principle –revenues and the related expenses are recorded in the same accounting period.]

Cost of Merchandise Sold100
Merchandise Inventory100

The complete journal entry is as follows:

Cash200
Sales Revenue200
Cost of Merchandise Sold100
Merchandise Inventory100

Sales on Account in a Merchandising Business

If a customer buys merchandise on account (paying later), the journal entry changes slightly to reflect the future payment.

Accounts Receivable200
Sales Revenue200
Cost of Merchandise Sold100
Merchandise Inventory100

Sales Discounts in a Merchandising Business

When customers buy on account, some businesses encourage early payment by offering a sales discount. Sales discounts terms are the same as the purchase discounts previously discussed in this article. The seller’s discount is on the sales side of the transaction Company 1. The purchaser’s discount is on the purchase side of the transaction in Company 2. The seller determines the discount being offered.

If Terrance Inc. offers a 2% discount if paid within 10 days to Dino-Mart, the discount is used to reduce the amount of the sale. Think about it like this. If you shop a back-to-school sale and you pay $10 for a $20 shirt, the revenue to the store is $10, not $20. That’s similar to a sales discount.

Here is the journal entry that was recorded for the original sale of merchandise to Dino-Mart:

Dino-mart pays its bill within 10 days and takes the sales discount. To calculate the amount of the discount:

invoice amount x discount percent = discount [$200 x 2% = $4]

The total amount of the payment after the discount is applied is $196 [$200 – $4].

When the payment from Dino-mart is received, the following journal entry is done to record the payment and the sales discount:

Cash196
Sales Discount 4
Merchandise Inventory100

Sales Discount is a contra revenue account. The net effect of the Sales Discount account is to reduce revenue without changing the balance of the main account Sales Revenue. (For more about how contra accounts work, check out this article: https://accountinghowto.com/contra-account/ )

On the income statement, the revenue section will show this:

Sales Revenue200
Less Sales Discounts 4
Net Sales196

For an overview and more examples of Sales Transactions in a Merchandising Business, watch this video:

Freight: FOB Destination vs FOB Shipping Point

Whenever purchases and sales of merchandise are involved, freight and shipping costs become a factor in calculating the cost and selling prices of the merchandise. The terms of the purchase or sale determine when ownership of the goods passes between seller and buyer and who pays the cost of shipping. The two methods generally used are FOB Destination or FOB Shipping Point.

What Does FOB Mean?

F.O.B. is an abbreviation for Free on Board. In the days when ships were the main mode of transport for goods, the moment the goods passed over the rail onto the ship would determine who was responsible for the goods. Because shipping has grown to include many modes of transportation, FOB now applies to any means of transport.

accounting for merchandising business essay

For the purposes of accounting class, we keep the transactions simple. Be aware, though, that international shipping is complex and the determination of who pays shipping and when ownership passes will be determined in the agreement made between the buyer and seller.

What is FOB Destination?

Under FOB Destination, ownership of the merchandise passes to the buyer when it is delivered. The seller pays the shipping costs. That delivery point could be a warehouse, an auto dealership, or your mailbox. Until that merchandise is safely delivered, the seller owns it. If the merchandise is damaged on its way, the damage belongs to the seller.

Accounting for FOB Destination

When the terms of the sale indicate FOB Destination, the seller records the cost as Delivery Expense or Freight Out.

For example, let’s say on the previous transaction, the terms are FOB Destination. Shipping charges are $15.

The seller will have an additional journal entry to record the cost of shipping:

Delivery Expense15
Cash (or Accounts Payable)15

The buyer has no entry to make since the terms are FOB Destination, the seller incurs the cost.

What is FOB Shipping Point?

Under FOB Shipping Point, ownership of the merchandise passes to the buyer when it is shipped. The buyer pays the shipping costs. That shipping point could be a post office, a UPS pickup, or a cargo ship. Once that merchandise is shipped, the buyer owns it. If the merchandise is damaged on its way, the damage belongs to the buyer.

Accounting for FOB Shipping Point

When the terms of the sale indicate FOB Shipping Point, the buyer records the cost as Merchandise Inventory. Shipping increases the cost of the purchase of that inventory.

For example, let’s say on the previous transaction, the terms are FOB Shipping Point. Shipping charges are $15. The original transaction for the purchase would be:

Merchandise Inventory200
Accounts Payable200

The buyer will have an additional journal entry to record the cost of shipping:

Merchandise Inventory15
Cash (or Accounts Payable)15

The seller has no entry to make since the terms are FOB Shipping Point, the buyer incurs the cost.

For more explanation and examples explaining the difference between FOB Destination and FOB Shipping Point, watch this video:

Accounting for Sales Taxes

In states where sales taxes are collected, a merchandise business collects sales tax at the time of the sale. The amount of the tax is added to the sale. The tax collected is a liability for the merchandising business because the taxes are being held in trust for the taxing authority.

accounting for merchandising business essay

Using our previous example, let’s say Terrance Inc. is located in a state that charges 5% sales tax.

Here’s the original transaction with no sales tax:

Here’s how the transaction changes when 5% sales tax is collected:

Accounts Receivable210
Sales Revenue200
Sales Tax Payable 10
Cost of Merchandise Sold100
Merchandise Inventory100

The Sales Revenue for this transaction hasn’t changed. Sales Tax collected is not revenue for the company. Accounts Receivable increases because the customer owes sales tax and is paying it to the company. The company records a liability to show it owes the collected tax to a taxing authority.

When the company pays the sales tax to the taxing authority, the following entry would be made:

Sales Tax Payablexx
Cashxx

For more information about Sales Tax and Uses Tax, check out this article: https://accountinghowto.com/sales-use-tax/

What is a Trade Discount?

A trade discount is a discount granted by wholesalers to government agencies or other businesses. A wholesaler generally does not sell directly to the public. Wholesalers have a published list price for their merchandise, but often offer special discounts to businesses and government agencies that buy in larger quantities. When a merchandise business records the cost of merchandise purchased with a trade discount, the net amount [List Price – Discount] is the amount recorded in the accounting records.

For example, Terrance Co. purchases Terrance Action Figures from DynoMax Corp. The list price is $10, with a trade discount of 50%. The cost to Terrance Co. is $5 per action figure [$10 – 50%]. If Terrance Co. is ordering 100,000 Terrance Action Figures, this represents a significant cost savings.

What is a Merchandising Business? A merchandising business is a business that purchases goods and re-sells the goods to its customers. Examples of merchandising businesses are Amazon and Wal-mart. A

What is Cash Over and Short?

Cash Over and Short is an income statement account used to track differences in cash collections from what is expected and what is actual. It is used in businesses that

What is the Difference Between Periodic and Perpetual Inventory?

For a merchandising business, one of the most important success factors is the management of inventory. Because the cost and tracking of inventory is so critical, decisions made about inventory

What is the Difference Between a Single-step and a Multi-step Income Statement?

A single-step income statement and a multi-step income statement differ in the amount of categorizing of financial information found on the report. A single-step income statement shows Revenues and Expenses,

Inventory is an accounting of items owned by a business that will either be sold to customers or converted from raw materials into items that will be sold to customers.

What is Cost of Goods Sold?

In accounting, Cost of Goods Sold is an account used to track the costs associated with the manufacture of a product, including cost of raw materials, direct labor, packaging, and

Caroline Grimm

Caroline Grimm is an accounting educator and a small business enthusiast. She holds Masters and Bachelor degrees in Business Administration. She is the author of 13 books and the creator of Accounting How To YouTube channel and blog. For more information visit: https://accountinghowto.com/about/

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Chapter 5: Accounting For a Merchandising Enterprise

Merchandising business.

In Unit 1 we introduced the three main types of businesses, merchandising, service and manufacturing. Merchandising companies purchase goods that are ready for sale and then sell them to customers. Merchandising companies include auto dealerships, clothing stores, and supermarkets, all of which earn revenue by selling goods to customers.

In a merchandising sales transaction, the seller sells a product and transfers the legal ownership (title) of the goods to the buyer.  A business document called an invoice (a sales invoice for the seller and a purchase invoice for the buyer) becomes the basis for recording the sale.

The following video provides an overview of the difference between Merchandising and Service companies and their respective accounting needs.

An invoice is a document prepared by the seller of merchandise and sent to the buyer. The invoice contains the details of a sale, such as the number of units sold, unit price, total price billed, terms of sale, and manner of shipment.

 
 
Customer’s Order No.: 218
Sold to: Baier Company Shipped To Baier Company
Address: 2255 Hannon St. Address: 2255 Hannon Street
Big Rapids, MI 48106 Big Rapids, MI 48106
Date Shipped:  December 19
Terms: Net 30, FOB Destination Shipping Terms: FOB Destination Shipped by: Nagel Trucking Co.
Price per Unit Total Amount
True-tone stereo radio Model No. 5868-24393 200 $100 $20,000
Total $20,000

Do you see a due date on the invoice?  What about who pays for shipping?  This is all detailed in the terms.  You see two types of terms:

  • Payment Terms:  tells you when an invoice is due and if a discount is offered for early payment
  • Shipping Terms:  tells you who is responsible for paying for shipping and when the title of the goods passes to the buyer

Payment Terms

In some industries, credit terms include a cash discount of 1% to 3% to encourage early payment of an amount due. A cash discount is a deduction from the invoice price that can be taken only if the invoice is paid within a specified time. Sellers call a cash discount a sales discount and buyers call it a purchase discount . Companies often state payment terms as follows:

• 1/10, n/30 —means a buyer who pays within 10 days following the invoice date may deduct a discount of 1% of the invoice price. If payment is not made within the discount period, the entire invoice price is due 30 days from the invoice date.

• 3/EOM, n/60 —means a buyer who pays by the end of the month of purchase may deduct a 3% discount from the invoice price. If payment is not made within the discount period, the entire invoice price is due 60 days from the invoice date.

• 2/10/EOM, n/60 —means a buyer who pays by the 10th of the month following the month of purchase may deduct a 2% discount from the invoice price. If payment is not made within the discount period, the entire invoice price is due 60 days from the invoice date.

• Net 30 —means the entire invoice price is due 30 days from the invoice date without a discount.

Sellers cannot record the sales discount before they receive the payment since they do not know when the buyer will pay the invoice. A cash discount taken by the buyer reduces the cash that the seller actually collects from the sale of the goods, so the seller must indicate this fact in its accounting records.

Companies base discounts on the invoice price of goods. If merchandise is later returned, the returned amount must be deducted from the invoice price before calculating discounts. For example, the invoice price of goods purchased was $ 30,000 and the company returned $ 2,000 of the goods, the seller calculates the 2% discount on $ 28,000 ($30,000 original – $2,000 return).

Shipping Terms

Shipping terms are used to show who is responsible for paying for shipping and when the title of the goods passes from seller to buyer. To understand how to account for transportation costs, you must know the meaning of the following terms:

  • FOB shipping point means “free on board at shipping point”. The buyer incurs all transportation costs after the merchandise has been loaded on a railroad car or truck at the point of shipment. Thus, the buyer is responsible for ultimately paying the freight charges.
  • FOB destination means “free on board at destination”. The seller ships the goods to their destination without charge to the buyer. Thus, the seller is ultimately responsible for paying the freight charges.

We will look at how these items factor into journal entries for merchandising companies in the next sections.

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  • Introduction to Merchandise Inventory. Authored by : NotePirate. Located at : https://youtu.be/2txVtrteY-A?list=PL_PmoCeUoNMIX3zP2yYSAq8gi6irBVh-1 . License : Public Domain: No Known Copyright . License Terms : Standard YouTube License

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Ultimate Guide to Accounting for Merchandising Businesses

Ultimate Guide to Accounting for Merchandising Business is your go-to resource for mastering the essential steps in recording transactions. This guide simplifies the process of making journal entries, offering a solid foundation for effective financial management in merchandising.

merchandising-business

Merchandising Business

A merchandising business  refers to a type of entity that buys finished products (goods) from manufacturers or wholesalers and sells these products to customers for a profit. Unlike manufacturing businesses, which produce goods, or service businesses, which provide intangible services, a merchandising business primarily deals with the buying and selling of tangible goods. Moreover, this distinction highlights the unique nature of the merchandising sector in the business landscape.

In the merchandising industry , companies actively plan, get, buy, promote, and sell goods to meet what consumers want and make more money. Thus, this means looking at trends, figuring out what consumers like, and working with suppliers for different products.

In merchandising, it's important to predict and adapt to market changes. Merchandisers negotiate with suppliers, carefully considering market trends and economic factors to make smart decisions.

Visual Merchandising

After getting merchandise, the focus turns to visual merchandising—an art of arranging products to create attractive displays that grab customer attention and increase sales. This includes decisions on where to put products, signage, lighting, and store layout. The goal is to create an engaging shopping experience that matches the target audience and strengthens brand identity. Merchandisers collaborate with marketing teams to plan and run promotional campaigns, using a mix of traditional advertising, social media, and other channels to generate excitement about new products or promotions. Thus, these actions help boost brand visibility and potentially increase revenue.

Inventory Management

It is a critical element of the merchandising business, involving a careful equilibrium between sustaining adequate stock levels to meet customer demand and preventing excess inventory, which can result in financial losses. Advanced technologies and data analytics play an ever-growing role in fine-tuning inventory levels, streamlining supply chain operations, and improving overall efficiency. Merchandisers rely on forecasting models, demand planning tools, and real-time analytics to make well-informed decisions regarding inventory replenishment. This ensures that the correct products are on hand in optimal quantities and at the right times, contributing to effective financial management and customer satisfaction.

The growth of e-commerce has greatly influenced the merchandising industry, with online platforms becoming crucial to overall business strategies. Merchandisers now deal with the challenge of handling online marketing, improving product listings, and making online shopping easy. Technology, including Customer Relationship Management (CRM) systems, allows businesses to analyze customer behavior and preferences. This data is used to tailor merchandising strategies, leading to enhanced customer satisfaction and overall business success.

The merchandising business encounters challenges; notwithstanding, these include the necessity to adjust to rapidly shifting market conditions, navigate the complexities of global supply chains, and meet evolving consumer expectations. Achieving success in merchandising requires a blend of creativity, analytics, and also strategic insight. In this dynamic industry, staying ahead means being innovative and adaptable to outpace competitors. It requires a keen eye on market dynamics and a commitment to continuous improvement.

In the financial records of a merchandising business, key accounts include:

Represents the goods that the business has purchased and intends to sell. Inventory is a current asset on the balance sheet.

Cost of Goods Sold (COGS)

Represents the direct costs associated with producing or acquiring the goods that a company sells during a particular period. COGS is an expense on the income statement.

Sales Revenue

Represents the total amount of revenue generated from selling goods to customers because sales revenue is a key component of the income statement.

Gross Profit

Calculated by subtracting the COGS from the total sales revenue. It reflects the profitability of the core business operations.

Operating Expenses

Include costs such as rent, utilities, salaries, and advertising. These are deducted from the gross profit in order to calculate the net income.

In a merchandising business, the accounting cycle involves recording transactions related to the purchase, sale, and inventory management of goods. The periodic inventory system is commonly used, where the cost of goods sold and ending inventory are calculated at the end of each accounting period.

The proper accounting treatment of transactions ensures accurate financial reporting, enabling stakeholders to assess the business's performance, profitability, and financial health. Overall, accounting in a merchandising business is essential for tracking the flow of goods and money, facilitating decision-making, and complying with financial reporting standards.

Accounting for Purchases

In business operations, the process of documenting the items acquired and received for sale is typically done through a document known as a "Purchase Invoice."

Purchase Invoice

It commonly referred to as a supplier invoice or vendor invoice, is a document issued by the supplier or vendor to the buyer or customer to request payment for goods or services purchased. It serves as a record of the transaction and outlines the details of the purchase, including item descriptions, quantities, prices, applicable taxes, payment terms, and any other relevant information.

The purchase invoice is typically created by the supplier or vendor and sent to the buyer after the goods or services have been delivered or rendered. The buyer uses the information on the purchase invoice to verify the transaction and process payment to the supplier.

The purchase invoice includes important details such as the invoice number, invoice date, payment due date, billing and shipping addresses of both the buyer and supplier, as well as any reference numbers or purchase order numbers associated with the transaction.

Businesses need purchase invoices for keeping records, tracking expenses, and managing what they owe. These invoices are crucial for audits, following tax rules, and making sure accounts match up.

Upon receiving a purchase invoice, the buyer actively reviews and compares it to the corresponding purchase order. If discrepancies arise, the buyer promptly contacts the supplier to resolve issues before processing payment.

After making the payment, the buyer marks the invoice as paid and keeps a copy for their records. Simultaneously, the supplier retains a copy as part of their accounts receivable process.

merchandising-business

Journal Entries

Record the credit purchase in the general journal of Angeles Trading as follows:

November 24, 2023-

Purchases 20,100

Accounts Payable- Mabiyaya Merchandising 20,100

To record purchases of bags and tumblers on credit.

When Angeles Trading pays for the purchase in cash instead of credit, they record the entry in their general journal as:

Cash 20,100

To record purchases of bags and tumblers in cash.

Accounting for Purchase Returns and Allowances

Buyers may return purchased goods at times due to defects, damage, or other reasons. When this happens, the company will reduce its Purchases by the amount returned. The buyer notifies the seller in writing. Typically, a buyer communicates this using their printed business form known as a Debit Memo. Similarly, if the supplier gives an allowance for minor defects (meaning the buyer keeps the goods but at a reduced price), this also reduces the Purchases. Below is an example illustration of a Debit Memo.

merchandising-business

If the seller approves the return or grants an allowance, they typically send the buyer an acknowledgment or issue a written document known as a Credit Memo. A Credit Memo may have a similar format to the Debit Memo, with the only difference being the substitution of the word "debit" with "credit." Upon receiving this communication, the buyer records the returns or allowances in their books.

Illustration

Let's continue with the transactions between Angeles Trading and Mabiyaya Merchandising.

From the 150 items that Angeles Trading acquired, they identified defects in 12 school bags and 5 tumblers. The defective items had a total value of 1,890. Consequently, Angeles Trading issued a Debit Memo to Mabiyaya Merchandising. In acknowledgment, Mabiyaya Merchandising confirmed the defects and provided a Credit Memo in return.

Given this scenario, the journal entry for Angeles Trading would be:

Entry upon purchase:

November 24-

Entry upon return:

December 8-

Accounts Payable- Mabiyaya Merchandising 1,890

Purchase Returns and Allowances 1,890

To record merchandise purchases returned

to Mabiyaya Merchandising.

If the transaction operates on a cash basis, the seller may issue a cash refund upon returning goods. In cases where no cash refund is provided, the buyer will have a receivable from the seller.

Create a journal entry when purchasing goods with cash.

Original Entry:

To record cash refund for returned goods.

However, if the return does not involve a cash refund, perform the necessary journal entry as follows:

Accounts Receivable- Mabiyaya Merchandising 1,890

To record the Accounts Receivable to Mabiyaya

Merchandising due to the cash not refunded for

the returned goods purchased.

Accounting for Discounts on Purchases

There are two types of Discounts in purchasing goods on credit as follows:

Trade Discounts

When purchasing goods or services on credit, apply trade discounts as reductions to the list or catalog price. These discounts are automatically subtracted from the list price to determine the actual invoice price charged to the buyer, without explicit recording. Trade discounts serve multiple purposes, including promoting trade, incentivizing larger purchases, and maintaining good business relations. They also provide buyers with an idea of the resale price for the goods. Negotiate the percentage of the trade discount between the buyer and seller based on factors such as purchase volume, frequency, and the nature of their business relationship. Unlike cash discounts, trade discounts are not subject to specific terms or conditions.

Cash Discounts

Sellers offer cash discounts to buyers as deductions, aiming to encourage debtors to make early payments for their accounts. The purpose of cash discounts is to motivate the buyer to pay within a specified timeframe.

Apply these discounts to the price of the purchased goods and record them as either purchase discounts or sales discounts, depending on whether you are the buyer or the seller. Buyers calculate the net purchase amount by deducting the purchase discount from their total purchases. On the other hand, sellers subtract sales discounts from their sales to determine the net sales revenue. Apply cash discounts only to credit sales, while give trade discounts for both cash and credit purchases. Base trade discounts on the listed price of the goods, while calculate cash discounts based on the invoice price.

To illustrate, let's consider an example. Marian Rivera purchases merchandise from Dingdong Trading on April 4, 2023. The merchandise has a listed price of ₱200,000, with trade discounts of 25% and 15%. Additionally, the credit terms for this transaction are 5/10, n/30.

This means offering a 5% cash discount for payments made within 10 days. If the payment extends beyond 10 days but remains within the credit period of 30 days, the customer must pay the full amount of the invoice.

merchandising-business

Computation:

merchandising-business

The entry to record the purchase is:

Purchases 127,500

Accounts Payable- Dingdong Trading 127,500

To record purchase on account.

Please note that we are not recording the Trade Discounts.

The entry for recording the payment made within the discount period is as follows:

Purchase Discounts 6,375

Cash 121,125

To record payment of obligation within the discount period.

If Ms. Rivera exceeds the specified number of days during the discount period, she must pay the full amount. The discount in this instance is no longer applicable.

The entry in Ms. Rivera's book will be:

Cash 127,500

To record payment of obligation beyond the discount period.

If the customer fails to pay their account within the term period provided by the seller, the seller can take several actions. The seller may send payment reminders or contact the customer directly to inquire about the payment. If the payment remains outstanding, the seller may impose late fees or penalties. In more severe cases, the seller may involve a collections agency or pursue legal action to recover the unpaid amount. It is important for customers to honor the agreed-upon terms of payment to maintain a good business relationship with the seller.

Complete Illustration of Trade and Cash Discount

Transactions March, 2023

Journal Entries:

Mar 1 Purchases 81,600

Accounts Payable- Aurea Enterprise 81,600

Mar 5 Accounts Payable- Aurea Enterprise 15,000

Purchase Returns and Allowances 15,000

To record merchandise returned to

Aurea Enterprise.

Mar 7 Accounts Payable- Aurea Enterprise 81,600

Purchase Discounts 3,330

Cash 78,270

To record payment of merchandise within

the discount period.

Mar 14 Purchases 37,705.50

Accounts Payable- Matibay Trading 37,705.50

Mar 31 Accounts Payable- Matibay Trading 37,705.50

Cash 37,705.50

To record payment of liabilities.

March 1 transaction-

merchandising-business

March 14 transaction-

merchandising-business

Methods of Recording Purchases

Record purchases using two methods, namely:

1. Gross Method

Both Purchases and Accounts Payable are recorded at their full gross amounts.

Illustration:

a. Purchase of merchandise from Aurea Enterprise on account, ₱ 200,000, 5/10, n/30.

Purchases 200,000

Accounts Payable- Aurea Enterprise 200,000

To record the purchase of merchandise on account.

b. Assume the payment occurs within the discount period.

Purchase Discounts 10,000

Cash 190,000

To record payment of account.

c. Assume payment occurs after the discount period.

Cash 200,000

2. Net Method

Both Purchases and Accounts Payable are recorded at their net amounts.

Purchases 190,000

Accounts Payable- Aurea Enterprise 190,000

b. Assumes payment occurs within the discount period.

Purchase Discounts Lost 10,000

To sum up, we've looked at how a merchandising business works by going through the daily transactions. This quick overview gives you a clear picture of the simple yet crucial record-keeping needed for success in merchandising.

#scribbe #accounting #accountingformerchandising #accountingformerchandisingbusiness #journalentries

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Accounting for Merchandising Businesses




Record and report on inventory transactions using a perpetual system.

Explain the meaning of terms used to describe transportation costs, cash discounts, returns or allowances, and financing costs.

Explain how gains and losses differ from revenues and expenses.

Compare and contrast single and multistep income statements.

Show the effect of lost, damaged, or stolen inventory on financial statements.

Determine the amount of net sales.

Use common size financial statements and ratio analysis to evaluate managerial performance.

Identify the primary features of the periodic inventory system. (Appendix)


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accounting for merchandising business essay

Ultimate Guide to Accounting for Merchandising Businesses

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Ultimate Guide to Accounting for Merchandising Business is your go-to resource for mastering the essential steps in recording transactions. This guide simplifies the process of making journal entries, offering a solid foundation for effective financial management in merchandising.

accounting-for-merchandising-businesses

Merchandising Business

A merchandising business refers to a type of entity that buys finished products (goods) from manufacturers or wholesalers and sells these products to customers for a profit. Unlike manufacturing businesses, which produce goods, or service businesses, which provide intangible services, a merchandising business primarily deals with the buying and selling of tangible goods. Moreover, this distinction highlights the unique nature of the merchandising sector in the business landscape.

In the merchandising industry , companies actively plan, get, buy, promote, and sell goods to meet what consumers want and make more money. Thus, this means looking at trends, figuring out what consumers like, and working with suppliers for different products.

In merchandising, it’s important to predict and adapt to market changes. Merchandisers negotiate with suppliers, carefully considering market trends and economic factors to make smart decisions.

Visual Merchandising

After getting merchandise, the focus turns to visual merchandising—an art of arranging products to create attractive displays that grab customer attention and increase sales. This includes decisions on where to put products, signage, lighting, and store layout. The goal is to create an engaging shopping experience that matches the target audience and strengthens brand identity. Merchandisers collaborate with marketing teams to plan and run promotional campaigns, using a mix of traditional advertising, social media, and other channels to generate excitement about new products or promotions. Thus, these actions help boost brand visibility and potentially increase revenue.

Inventory Management

It is a critical element of the merchandising business, involving a careful equilibrium between sustaining adequate stock levels to meet customer demand and preventing excess inventory, which can result in financial losses. Advanced technologies and data analytics play an ever-growing role in fine-tuning inventory levels, streamlining supply chain operations, and improving overall efficiency. Merchandisers rely on forecasting models, demand planning tools, and real-time analytics to make well-informed decisions regarding inventory replenishment. This ensures that the correct products are on hand in optimal quantities and at the right times, contributing to effective financial management and customer satisfaction.

The growth of e-commerce has greatly influenced the merchandising industry, with online platforms becoming crucial to overall business strategies. Merchandisers now deal with the challenge of handling online marketing, improving product listings, and making online shopping easy. Technology, including Customer Relationship Management (CRM) systems, allows businesses to analyze customer behavior and preferences. This data is used to tailor merchandising strategies, leading to enhanced customer satisfaction and overall business success.

The merchandising business encounters challenges; notwithstanding, these include the necessity to adjust to rapidly shifting market conditions, navigate the complexities of global supply chains, and meet evolving consumer expectations. Achieving success in merchandising requires a blend of creativity, analytics, and also strategic insight. In this dynamic industry, staying ahead means being innovative and adaptable to outpace competitors. It requires a keen eye on market dynamics and a commitment to continuous improvement.

In the financial records of a merchandising business, key accounts include:

  • Represents the goods that the business has purchased and intends to sell. Inventory is a current asset on the balance sheet.
  • Represents the direct costs associated with producing or acquiring the goods that a company sells during a particular period. COGS is an expense on the income statement.
  • Represents the total amount of revenue generated from selling goods to customers because sales revenue is a key component of the income statement.
  • Calculated by subtracting the COGS from the total sales revenue. It reflects the profitability of the core business operations.
  • Include costs such as rent, utilities, salaries, and advertising. These are deducted from the gross profit in order to calculate the net income.

In a merchandising business, the accounting cycle involves recording transactions related to the purchase, sale, and inventory management of goods. The periodic inventory system is commonly used, where the cost of goods sold and ending inventory are calculated at the end of each accounting period.

The proper accounting treatment of transactions ensures accurate financial reporting, enabling stakeholders to assess the business’s performance, profitability, and financial health. Overall, accounting in a merchandising business is essential for tracking the flow of goods and money, facilitating decision-making, and complying with financial reporting standards.

Accounting for Purchases

In business operations, the process of documenting the items acquired and received for sale is typically done through a document known as a “Purchase Invoice.”

Purchase Invoice

It commonly referred to as a supplier invoice or vendor invoice, is a document issued by the supplier or vendor to the buyer or customer to request payment for goods or services purchased. It serves as a record of the transaction and outlines the details of the purchase, including item descriptions, quantities, prices, applicable taxes, payment terms, and any other relevant information.

  • The purchase invoice is typically created by the supplier or vendor and sent to the buyer after the goods or services have been delivered or rendered. The buyer uses the information on the purchase invoice to verify the transaction and process payment to the supplier.
  • The purchase invoice includes important details such as the invoice number, invoice date, payment due date, billing and shipping addresses of both the buyer and supplier, as well as any reference numbers or purchase order numbers associated with the transaction.

Businesses need purchase invoices for keeping records, tracking expenses, and managing what they owe. These invoices are crucial for audits, following tax rules, and making sure accounts match up.

Upon receiving a purchase invoice, the buyer actively reviews and compares it to the corresponding purchase order. If discrepancies arise, the buyer promptly contacts the supplier to resolve issues before processing payment.

After making the payment, the buyer marks the invoice as paid and keeps a copy for their records. Simultaneously, the supplier retains a copy as part of their accounts receivable process.

accounting for merchandising business essay

Journal Entries

Record the credit purchase in the general journal of Angeles Trading as follows:

November 24, 2023-

accounting for merchandising business essay

When Angeles Trading pays for the purchase in cash instead of credit, they record the entry in their general journal as:

accounting for merchandising business essay

Accounting for Purchase Returns and Allowances

Buyers may return purchased goods at times due to defects, damage, or other reasons. When this happens, the company will reduce its Purchases by the amount returned. The buyer notifies the seller in writing. Typically, a buyer communicates this using their printed business form known as a Debit Memo. Similarly, if the supplier gives an allowance for minor defects (meaning the buyer keeps the goods but at a reduced price), this also reduces the Purchases. Below is an example illustration of a Debit Memo.

accounting for merchandising business essay

If the seller approves the return or grants an allowance, they typically send the buyer an acknowledgment or issue a written document known as a Credit Memo. A Credit Memo may have a similar format to the Debit Memo, with the only difference being the substitution of the word “debit” with “credit.” Upon receiving this communication, the buyer records the returns or allowances in their books.

Illustration

Let’s continue with the transactions between Angeles Trading and Mabiyaya Merchandising.

From the 150 items that Angeles Trading acquired, they identified defects in 12 school bags and 5 tumblers. The defective items had a total value of 1,890. Consequently, Angeles Trading issued a Debit Memo to Mabiyaya Merchandising. In acknowledgment, Mabiyaya Merchandising confirmed the defects and provided a Credit Memo in return.

Given this scenario, the journal entry for Angeles Trading would be:

Entry upon purchase:

November 24-

accounting for merchandising business essay

Entry upon return:

December 8-

accounting for merchandising business essay

If the transaction operates on a cash basis, the seller may issue a cash refund upon returning goods. In cases where no cash refund is provided, the buyer will have a receivable from the seller.

Create a journal entry when purchasing goods with cash.

Original Entry:

accounting for merchandising business essay

However, if the return does not involve a cash refund, perform the necessary journal entry as follows:

Accounting for Discounts on Purchases

There are two types of Discounts in purchasing goods on credit as follows:

Trade Discounts

When purchasing goods or services on credit, apply trade discounts as reductions to the list or catalog price. These discounts are automatically subtracted from the list price to determine the actual invoice price charged to the buyer, without explicit recording. Trade discounts serve multiple purposes, including promoting trade, incentivizing larger purchases, and maintaining good business relations. They also provide buyers with an idea of the resale price for the goods. Negotiate the percentage of the trade discount between the buyer and seller based on factors such as purchase volume, frequency, and the nature of their business relationship. Unlike cash discounts, trade discounts are not subject to specific terms or conditions.

Cash Discounts

Sellers offer cash discounts to buyers as deductions, aiming to encourage debtors to make early payments for their accounts. The purpose of cash discounts is to motivate the buyer to pay within a specified timeframe.

Apply these discounts to the price of the purchased goods and record them as either purchase discounts or sales discounts, depending on whether you are the buyer or the seller. Buyers calculate the net purchase amount by deducting the purchase discount from their total purchases. On the other hand, sellers subtract sales discounts from their sales to determine the net sales revenue. Apply cash discounts only to credit sales, while give trade discounts for both cash and credit purchases. Base trade discounts on the listed price of the goods, while calculate cash discounts based on the invoice price.

To illustrate, let’s consider an example. Marian Rivera purchases merchandise from Dingdong Trading on April 4, 2023. The merchandise has a listed price of ₱200,000, with trade discounts of 25% and 15%. Additionally, the credit terms for this transaction are 5/10, n/30.

This means offering a 5% cash discount for payments made within 10 days. If the payment extends beyond 10 days but remains within the credit period of 30 days, the customer must pay the full amount of the invoice.

Computation:

The entry to record the purchase is:

accounting-for-merchandising-businesses

Please note that we are not recording the Trade Discounts.

The entry for recording the payment made within the discount period is as follows:

accounting-for-merchandising-businesses

If Ms. Rivera exceeds the specified number of days during the discount period, she must pay the full amount. The discount in this instance is no longer applicable.

The entry in Ms. Rivera’s book will be:

accounting-for-merchandising-businesses

If the customer fails to pay their account within the term period provided by the seller, the seller can take several actions. The seller may send payment reminders or contact the customer directly to inquire about the payment. If the payment remains outstanding, the seller may impose late fees or penalties. In more severe cases, the seller may involve a collections agency or pursue legal action to recover the unpaid amount. It is important for customers to honor the agreed-upon terms of payment to maintain a good business relationship with the seller.

Complete Illustration of Trade and Cash Discount

Transactions March, 2023

DateTransactionTerm
March 1Antonnete Store bought merchandise from Aurea Enterprise with a list price of ₱120,000. 20%, 15%, 2/10, n/30,
March 5Returned defective merchandise amounting to ₱15,000.
Mar. 7Paid in full the accounts due to Aurea Enterprise.
March 14Bought equipment to Matibay Trading ₱45,00010%, 5%, 2%, 5/15, n/30.
Mar. 31Settled the accounts due to Matibay Trading

March 1 transaction-

March 14 transaction-

Methods of Recording Purchases

Record purchases using two methods, namely:

1. Gross Method

Both Purchases and Accounts Payable are recorded at their full gross amounts.

Illustration:

a. Purchase of merchandise from Aurea Enterprise on account, ₱ 200,000, 5/10, n/30.

accounting-for-merchandising-businesses

b. Assume the payment occurs within the discount period.

accounting-for-merchandising-businesses

c. Assume payment occurs after the discount period.

accounting-for-merchandising-businesses

2. Net Method

Both Purchases and Accounts Payable are recorded at their net amounts.

b. Assumes payment occurs within the discount period.

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2.1 Distinguish between Merchandising, Manufacturing, and Service Organizations

Most businesses can be classified into one or more of these three categories: manufacturing , merchandising , or service . Stated in broad terms, manufacturing firms typically produce a product that is then sold to a merchandising entity (a retailer) For example, Proctor and Gamble produces a variety of shampoos that it sells to retailers, such as Walmart , Target , or Walgreens . A service entity provides a service such as accounting or legal services or cable television and internet connections.

Some companies combine aspects of two or all three of these categories within a single business. If it chooses, the same company can both produce and market its products directly to consumers. For example, Nike produces products that it directly sells to consumers and products that it sells to retailers. An example of a company that fits all three categories is Apple, which produces phones, sells them directly to consumers, and also provides services, such as extended warranties.

Regardless of whether a business is a manufacturer of products, a retailer selling to the customer, a service provider, or some combination , all businesses set goals and have strategic plans that guide their operations. Strategic plans look very different from one company to another. For example, a retailer such as Walmart may have a strategic plan that focuses on increasing same store sales. Facebook’s strategic plan may focus on increasing subscribers and attracting new advertisers. An accounting firm may have long-term goals to open offices in neighboring cities in order to serve more clients. Although the goals differ, the process all companies use to achieve their goals is the same. First, they must develop a plan for how they will achieve the goal, and then management will gather, analyze, and use information regarding costs to make decisions, implement plans, and achieve goals.

Table 2.1 lists examples of these costs. Some of these are similar across different types of businesses; others are unique to a particular business.

Type of Business Costs Incurred
Manufacturing Business
Merchandising Business
Service Business

Knowing the basic characteristics of each cost category is important to understanding how businesses measure, classify, and control costs.

Merchandising Organizations

A merchandising firm is one of the most common types of businesses. A merchandising firm is a business that purchases finished products and resells them to consumers. Consider your local grocery store or retail clothing store. Both of these are merchandising firms. Often, merchandising firms are referred to as resellers or retailers since they are in the business of reselling a product to the consumer at a profit.

Think about purchasing toothpaste from your local drug store. The drug store purchases tens of thousands of tubes of toothpaste from a wholesale distributor or manufacturer in order to get a better per-tube cost. Then, they add their mark-up (or profit margin) to the toothpaste and offer it for sale to you. The drug store did not manufacture the toothpaste; instead, they are reselling a toothpaste that they purchased. Virtually all of your daily purchases are made from merchandising firms such as Walmart , Target , Macy’s , Walgreens , and AutoZone .

Merchandising firms account for their costs in a different way from other types of business organizations. To understand merchandising costs, Figure 2.2 shows a simplified income statement for a merchandising firm:

This simplified income statement demonstrates how merchandising firms account for their sales cycle or process. Sales revenue is the income generated from the sale of finished goods to consumers rather than from the manufacture of goods or provision of services. Since a merchandising firm has to purchase goods for resale, they account for this cost as cost of goods sold —what it cost them to acquire the goods that are then sold to the customer. The difference between what the drug store paid for the toothpaste and the revenue generated by selling the toothpaste to consumers is their gross profit . However, in order to generate sales revenue, merchandising firms incur expenses related to the process of operating their business and selling the merchandise. These costs are called operating expenses , and the business must deduct them from the gross profit to determine the operating profit . (Note that while the terms “operating profit” and “operating income” are often used interchangeably, in real-world interactions you should confirm exactly what the user means in using those terms.) Operating expenses incurred by a merchandising firm include insurance, marketing, administrative salaries, and rent.

Concepts In Practice

Balancing revenue and expenses.

Plum Crazy is a small boutique selling the latest in fashion trends. They purchase clothing and fashion accessories from several distributors and manufacturers for resale. In 2017, they reported these revenue and expenses:

Before examining the income statement, let’s look at Cost of Goods Sold in more detail. Merchandising companies have to account for inventory, a topic covered in Inventory . As you recall, merchandising companies carry inventory from one period to another. When they prepare their income statement, a crucial step is identifying the actual cost of goods that were sold for the period. For Plum Crazy, their Cost of Goods Sold was calculated as shown in Figure 2.4 .

Once the calculation of the Cost of Goods Sold has been completed, Plum Crazy can now construct their income statement, which would appear as shown in Figure 2.5 .

Since merchandising firms must pass the cost of goods on to the consumer to earn a profit, they are extremely cost sensitive. Large merchandising businesses like Walmart, Target, and Best Buy manage costs by buying in bulk and negotiating with manufacturers and suppliers to drive the per-unit cost.

Continuing Application

Introduction to the gearhead outfitters story.

Gearhead Outfitters , founded by Ted Herget in 1997 in Jonesboro, AR, is a retail chain which sells outdoor gear for men, women, and children. The company’s inventory includes clothing, footwear for hiking and running, camping gear, backpacks, and accessories, by brands such as The North Face, Birkenstock, Wolverine, Yeti, Altra, Mizuno, and Patagonia. Ted fell in love with the outdoor lifestyle while working as a ski instructor in Colorado and wanted to bring that feeling back home to Arkansas. And so, Gearhead was born in a small downtown location in Jonesboro. The company has had great success over the years, expanding to numerous locations in Ted’s home state, as well as Louisiana, Oklahoma, and Missouri.

While Ted knew his industry when starting Gearhead, like many entrepreneurs he faced regulatory and financial issues which were new to him. Several of these issues were related to accounting and the wealth of decision-making information which accounting systems provide.

For example, measuring revenue and expenses, providing information about cash flow to potential lenders, analyzing whether profit and positive cash flow is sustainable to allow for expansion, and managing inventory levels. Accounting, or the preparation of financial statements (balance sheet, income statement, and statement of cash flows), provides the mechanism for business owners such as Ted to make fundamentally sound business decisions.

Link to Learning

Walmart is inarguably a retail giant, but how did the company become so successful? Read the article about how low costs have allowed Walmart to keep prices low while still making a large profit to learn more.

Manufacturing Organizations

A manufacturing organization is a business that uses parts, components, or raw materials to produce finished goods ( Figure 2.6 ). These finished goods are sold either directly to the consumer or to other manufacturing firms that use them as a component part to produce a finished product. For example, Diehard manufactures automobile batteries that are sold directly to consumers by retail outlets such as AutoZone, Costco , and Advance Auto . However, these batteries are also sold to automobile manufacturers such as Ford , Chevrolet , or Toyota to be installed in cars during the manufacturing process. Regardless of who the final consumer of the final product is, Diehard must control its costs so that the sale of batteries generates revenue sufficient to keep the organization profitable.

Manufacturing firms are more complex organizations than merchandising firms and therefore have a larger variety of costs to control. For example, a merchandising firm may purchase furniture to sell to consumers, whereas a manufacturing firm must acquire raw materials such as lumber, paint, hardware, glue, and varnish that they transform into furniture. The manufacturer incurs additional costs, such as direct labor, to convert the raw materials into furniture. Operating a physical plant where the production process takes place also generates costs. Some of these costs are tied directly to production, while others are general expenses necessary to operate the business. Because the manufacturing process can be highly complex, manufacturing firms constantly evaluate their production processes to determine where cost savings are possible.

Cost Control

Controlling costs is an integral function of all managers, but companies often hire personnel to specifically oversee cost control. As you’ve learned, controlling costs is vital in all industries, but at Hilton Hotels , they translate this into the position of Cost Controller. Here is an excerpt from one of Hilton’s recent job postings.

Position Title: Cost Controller

Job Description: “A Cost Controller will work with all Heads of Departments to effectively control all products that enter and exit the hotel.” 1

Job Requirements:

“As Cost Controller, you will work with all Heads of Departments to effectively control all products that enter and exit the hotel. Specifically, you will be responsible for performing the following tasks to the highest standards:

  • Review the daily intake of products into the hotel and ensure accurate pricing and quantity of goods received
  • Control the stores by ensuring accuracy of inventory and stock control and the pricing of goods received
  • Alert relevant parties of slow-moving goods and goods nearing expiry dates to reduce waste and alter product purchasing to accommodate
  • Manage cost reporting on a weekly basis
  • Attend finance meetings, as required
  • Maintain good communication and working relationships with all hotel areas
  • Act in accordance with fire, health and safety regulations and follow the correct procedures when required” 2

As you can see, the individual in this position will interact with others across the organization to find ways to control costs for the benefit of the company. Some of the benefits of cost control include:

  • Lowering overall company expenses, thereby increasing net income.
  • Freeing up financial resources for investment in research & development of new or improved products, goods, or services
  • Providing funding for employee development and training, benefits, and bonuses
  • Allowing corporate earnings to be used to support humanitarian and charitable causes

Manufacturing organizations account for costs in a way that is similar to that of merchandising firms. However, as you will learn, there is a significant difference in the calculation of cost of goods sold. Figure 2.7 shows a simplification of the income statement for a manufacturing firm:

At first it appears that there is no difference between the income statements of the merchandising firm and the manufacturing firm. However, the difference is in how these two types of firms account for the cost of goods sold. Merchandising firms determine their cost of goods sold by accounting for both existing inventory and new purchases, as shown in the Plum Crazy example. It is typically easy for merchandising firms to calculate their costs because they know exactly what they paid for their merchandise.

Unlike merchandising firms, manufacturing firms must calculate their cost of goods sold based on how much they manufacture and how much it costs them to manufacture those goods. This requires manufacturing firms to prepare an additional statement before they can prepare their income statement. This additional statement is the Cost of Goods Manufactured statement. Once the cost of goods manufactured is calculated, the cost is then incorporated into the manufacturing firm’s income statement to calculate its cost of goods sold.

One thing manufacturing firms must consider in their cost of goods manufactured is that, at any given time, they have products at varying levels of production: some are finished and others are still process. The cost of goods manufactured statement measures the cost of the goods actually finished during the period, whether or not they were started during that period.

Before examining the typical manufacturing firm’s process to track cost of goods manufactured, you need basic definitions of three terms in the schedule of Costs of Goods Manufactured: direct materials, direct labor, and manufacturing overhead. Direct materials are the components used in the production process whose costs can be identified on a per item-produced basis. For example, if you are producing cars, the engine would be a direct material item. The direct material cost would be the cost of one engine. Direct labor represents production labor costs that can be identified on a per item-produced basis. Referring to the car production example, assume that the engines are placed in the car by individuals rather than by an automated process. The direct labor cost would be the amount of labor in hours multiplied by the hourly labor cost. Manufacturing overhead generally includes those costs incurred in the production process that are not economically feasible to measure as direct material or direct labor costs. Examples include the department manager’s salary, the production factory’s utilities, or glue used to attach rubber molding in the auto production process. Since there are so many possible costs that can be classified as manufacturing overhead, they tend to be grouped and then allocated in a predetermined manner to the production process.

Figure 2.8 is an example of the calculation of the Cost of Goods Manufactured for Koeller Manufacturing. It demonstrates the relationship between cost of goods manufactured and cost of goods in progress and includes the three main types of manufacturing costs.

As you can see, the manufacturing firm takes into account its work-in-process (WIP) inventory as well as the costs incurred during the current period to finish not only the units that were in the beginning WIP inventory, but also a portion of any production that was started but not finished during the month. Notice that the current manufacturing costs, or the additional costs incurred during the month, include direct materials, direct labor, and manufacturing overhead. Direct materials are calculated as

All of these costs are carefully tracked and classified because the cost of manufacturing is a vital component of the schedule of cost of goods sold. To continue with the example, Koeller Manufacturing calculated that the cost of goods manufactured was $95,000, which is carried through to the Schedule of Cost of Goods Sold ( Figure 2.9 ).

Now when Koeller Manufacturing prepares its income statement, the simplified statement will appear as shown in Figure 2.10 .

So, even though the income statements for the merchandising firm and the manufacturing firm appear very similar at first glance, there are many more costs to be captured by the manufacturing firm. Figure 2.11 compares and contrasts the methods merchandising and manufacturing firms use to calculate the cost of goods sold in their income statement.

Calculating Cost of Goods Sold in Manufacturing

Just Desserts is a bakery that produces and sells cakes and pies to grocery stores for resale. Although they are a small manufacturer, they incur many of the costs of a much larger organization. In 2017, they reported these revenue and expenses:

Their income statement is shown in Figure 2.12 .

You’ll learn more about the flow of manufacturing costs in Identify and Apply Basic Cost Behavior Patterns . For now, recognize that, unlike a merchandising firm, calculating cost of goods sold in manufacturing firms can be a complex task for management.

Service Organizations

A service organization is a business that earns revenue by providing intangible products , those that have no physical substance. The service industry is a vital sector of the U.S. economy, providing 65% of the U.S. private-sector gross domestic product and more than 79% of U.S. private-sector jobs. 3 If tangible products , physical goods that customers can handle and see, are provided by a service organization, they are considered ancillary sources of revenue. Large service organizations such as airlines, insurance companies, and hospitals incur a variety of costs in the provision of their services. Costs such as labor, supplies, equipment, advertising, and facility maintenance can quickly spiral out of control if management is not careful. Therefore, although their cost drivers are sometimes not as complex as those of other types of firms, cost identification and control are every bit as important in the service industry.

For example, consider the services that a law firm provides its clients. What clients pay for are services such as representation in legal proceedings, contract negotiations, and preparation of wills. Although the true value of these services is not contained in their physical form, they are of value to the client and the source of revenue to the firm. The managing partners in the firm must be as cost conscious as their counterparts in merchandising and manufacturing firms. Accounting for costs in service firms differs from merchandising and manufacturing firms in that they do not purchase or produce goods. For example, consider a medical practice. Although some services provided are tangible products, such as medications or medical devices, the primary benefits the physicians provide their patients are the intangible services that are comprised of his or her knowledge, experience, and expertise.

Service providers have some costs (or revenue) derived from tangible goods that must be taken into account when pricing their services, but their largest cost categories are more likely to be administrative and personnel costs rather than product costs.

For example, Whichard & Klein, LLP, is a full-service accounting firm with their primary offices in Baltimore, Maryland. With two senior partners and a small staff of accountants and payroll specialists, the majority of the costs they incur are related to personnel. The value of the accounting and payroll services they provide to their clients is intangible in comparison to goods sold by a merchandiser or produced by a manufacturer but has value and is the primary source of revenue for the firm. At the end of 2019, Whichard and Klein reported the following revenue and expenses:

Their Income Statement for the period is shown in Figure 2.13 .

The bulk of the expenses incurred by Whichard & Klein are in personnel and administrative/office costs, which are very common among businesses that have services as their primary source of revenue.

Revenue and Expenses for a Law Office

The revenue and expenses for a law firm illustrate how the income statement for a service firm differs from that of a merchandising or manufacturing firm.

Welch & Graham is a well-established law firm that provides legal services in the areas of criminal law, real estate transactions, and personal injury. The firm employs several attorneys, paralegals, and office support staff. In 2017, they reported the following revenue and expenses:

Their income statement is shown in Figure 2.14 .

As you can see, the majority of the costs incurred by the law firm are personnel related. They may also incur costs from equipment and materials such computer networks, phone and switchboard equipment, rent, insurance, and law library materials necessary to support the practice, but these costs represent a much smaller percentage of total cost than the administrative and personnel costs.

Think It Through

Expanding a business.

Margo is the owner of a small retail business that sells gifts and home decorating accessories. Her business is well established, and she is now considering taking over additional retail space to expand her business to include gourmet foods and gift baskets. Based on customer feedback, she is confident that there is a demand for these items, but she is unsure how large that demand really is. Expanding her business this way will require that she incur not only new costs but also increases in existing costs.

Margo has asked for your help in identifying the impact of her decision to expand in terms of her costs. When discussing these cost increases, be sure to specifically identify those costs that are directly tied to her products and that would be considered overhead expenses.

  • 1 Hilton. “Cost Controller: Job Description.” Hosco. https://www.hosco.com/en/job/hilton-istanbul-bomonti-hotel-conference-center/cost-controller
  • 2 Hilton. “Cost Controller: Job Description.” Hosco. https://www.hosco.com/en/job/hilton-istanbul-bomonti-hotel-conference-center/cost-controller
  • 3 John Ward. “The Services Sector: How Best to Measure It?” International Trade Administration. Oct. 2010. https://2016.trade.gov/publications/ita-newsletter/1010/services-sector-how-best-to-measure-it.asp. “United States GDP from Private Services Producing Industries.” Trading Economics / U.S. Bureau of Economic Analysis. July 2018. https://tradingeconomics.com/united-states/gdp-from-services. “Employment in Services (% of Total Employment) (Modeled ILO Estimate).” International Labour Organization, ILOSTAT database. The World Bank. Sept. 2018. https://data.worldbank.org/indicator/SL.SRV.EMPL.ZS.

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Accounting for Merchandising Businesses

Accounting for Merchandising Operations Name Institutional Affiliation The comparison below is carried out for Acers’ Swift 7 and Hewlett Packard’s HP Spectre x360 Convertible Laptop – 13t touch. The brands were released almost at the same time to address the competition in the address. The comparison has been tabulated as follows: Item HP’sHP Spectre x360 Acer’s Swift 7 Price $929.99 $1,699.99 Delivery charges Free shipping Charged on the buyer depending on location Financing options Available: for up to 18 months Information unavailable Discounts Cash discount of $160 none Coupons $220 55% Warranties 1 year 1 year Installation offered Windows 10 Windows 10 Recycling old components offered Trade-in accepted for all HP models The gross profit, calculated as the difference between the sales and the costs of goods sold. For their calculation, the firms need to consider the net sales by deducting any sales returns and a sales discounts or allowances (Jagelavicius, 2013). In this regard, the gross profit of a merchandising company can be accepted by the sales discounts extended to buyers, the returns outwards after sales have been made especially if delivery fees were incurred. Additionally, the gross profit can also be affected by the changes in the sales occasioned by the internal and the external factors like economic and pricing polices respectively. It could also be affected by the difference in the price of raw materials, labor charges and significant changes in the inventory systems.

Wait! Accounting for Merchandising Businesses paper is just an example!

The gross profit rate can be calculated as follows: GPR=Gross profitNet salesFor acer, the FY2017 ratio is calculated as follows: =25,361237,275*100=10.89% For HP, the FY2017 GPR can be calculated as follows: =252652056*100=4.85% For Acer, it means that every 10 cents of its dollar sales go to its gross profit while for HP only 4 cents of the dollar sales go to the gross profits. In this regard, Acer is a more profitable firm than HP. I think this is the case, as the GPR used is both quantitative and qualitative metric which shows the real picture. Reference Jagelavicius, G. (2013). Gross margin management framework for Merchandising decisions in companies with large assortment of products. Economics and management journal, Vol. 18(1): pp. 6-16

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IMAGES

  1. Accounting: Revenue and Merchandising Company Essay Example

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  2. 6 Accounting for Merchandising Businesses

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  3. Accounting For Merchandising Business 2

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  4. Accounting for Merchandising Business

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  5. Chapter 10: Accounting Cycle Of A Merchandising Business

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  6. Accounting for Merchandising Businesses (Retail)

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  1. Accounting for Merchandising Operations (Chapter 5 ) Lecture 5

  2. Accounting for Merchandising Operations (Chapter 5 ) Lecture 4

  3. Accounting for a merchandising enterprise Ch1 Accounting two Part 1

  4. Accounting for Merchandising Operations (Chapter 5 ) Lecture 2 part 2

  5. LESSON 9 COMPLETING THE ACCOUNTING CYCLE FOR MERCHANDISING BUSINESS

  6. Accounting for Merchandising Operations (Chapter 5 ) Lecture 3 part 2

COMMENTS

  1. PDF Chapter 6 Accounting for Merchandising Businesses

    1. Merchandising businesses acquire merchandise for resale to customers. It is the selling of merchandise, instead of providing a service, that makes the activities of a merchandising business different from the activities of a service business. 2. Yes. Gross profit is the excess of sales over cost of merchandise sold. A net loss arises when

  2. PDF Accounting for Merchandising Businesses

    2. Describe and illustrate the accounting for merchandise transactions. 3. Describe and illustrate the adjusting process for a merchandising business. 4. Describe and illustrate the financial statements of a merchandising business. 5. Describe and illustrate the use of asset turnover in evaluating a company's operating performance. KEY TERMS

  3. Accounting for a Merchandising Business

    Emotional Support Dinosaur (ESD): noun A highly-specialized species of dinosaur imbued with the innate ability to comfort accounting students during the learning of confusing accounting topics.. Dictionary of completely made up things Chart of Accounts for a Merchandising Business. For merchandising businesses, additional accounts are needed to capture important financial information.

  4. 3: Accounting Cycle for a Merchandising Business

    This page titled 3: Accounting Cycle for a Merchandising Business is shared under a CC BY-SA 4.0 license and was authored, remixed, and/or curated by Christine Jonick (GALILEO Open Learning Materials) via source content that was edited to the style and standards of the LibreTexts platform.

  5. Merchandising Business

    Companies base discounts on the invoice price of goods. If merchandise is later returned, the returned amount must be deducted from the invoice price before calculating discounts. For example, the invoice price of goods purchased was $ 30,000 and the company returned $ 2,000 of the goods, the seller calculates the 2% discount on $ 28,000 ...

  6. 5.1: The Basics of Merchandising

    A merchandising income statement highlights cost of goods sold by showing the difference between sales revenue and cost of goods sold called gross profit or gross margin. The basic income statement differences between a service business and a merchandiser are illustrated in Figure 5.1.

  7. 5.1: Merchandising Business

    5.1: Merchandising Business. Page ID. In Unit 1 we introduced the three main types of businesses, merchandising, service and manufacturing. Merchandising companies purchase goods that are ready for sale and then sell them to customers. Merchandising companies include auto dealerships, clothing stores, and supermarkets, all of which earn revenue ...

  8. Accounting for Merchandising Operations

    Analyze and record transactions for merchandise sales using a perpetual system. Prepare adjustments and close accounts for a merchandising company. Define and prepare multiplestep and single-step income statements. Appendix 4A—Record and compare merchandising transactions using both periodic and perpetual inventory systems.

  9. 6.1 Compare and Contrast Merchandising versus Service ...

    Why It Matters; 1.1 Explain the Importance of Accounting and Distinguish between Financial and Managerial Accounting; 1.2 Identify Users of Accounting Information and How They Apply Information; 1.3 Describe Typical Accounting Activities and the Role Accountants Play in Identifying, Recording, and Reporting Financial Activities; 1.4 Explain Why Accounting Is Important to Business Stakeholders

  10. Ultimate Guide to Accounting for Merchandising Businesses

    A merchandising business refers to a type of entity that buys finished products (goods) from manufacturers or wholesalers and sells these products to customers for a profit. Unlike manufacturing businesses, which produce goods, or service businesses, which provide intangible services, a merchandising business primarily deals with the buying and selling of tangible goods.

  11. Accounting for Merchandising Businesses

    Accounting for Merchandising Businesses After you have mastered the material in this chapter, you will be able to: LO1 . Record and report on inventory transactions using a perpetual system. LO2 . Explain the meaning of terms used to describe transportation costs, cash discounts, returns or allowances, and financing costs. LO3.

  12. Ultimate Guide to Accounting for Merchandising Businesses

    Maria Lorena, December 18, 2023. Ultimate Guide to Accounting for Merchandising Business is your go-to resource for mastering the essential steps in recording transactions. This guide simplifies the process of making journal entries, offering a solid foundation for effective financial management in merchandising.

  13. Accounting for Merchandising Business

    A merchandising business is engaged in buying goods and selling these at a profit. 2. The primary source of revenues is referred to as sales revenue or sales. 3. The operating cycle of a merchandising company ordinarily is longer than that of a service company. 4. Income is measured by cost of goods and operating expenses from sales revenue.

  14. Chapter 5 Accounting for Merchandising Operations

    Chapter 5: Accounting for Merchandising Operations. the primary source of revenues is referred to as sales revenue or sales merchandising is the buying and selling of goods (inventory) we are dealing with the wholesaler and retailer (business accounting) buying and selling of the businesses, not to the public (customers)

  15. 5: Accounting For a Merchandising Enterprise

    5.1: Merchandising Business; 5.2: Merchandise Inventory; 5.3: Buyer Entries under Perpetual Method; 5.4: Seller Entries under Perpetual Inventory Method; 5.5: Buyer Entries under Periodic Inventory System; 5.6: Seller Entries under Periodic Inventory Method; 5.7: Glossary- Accounting for a Merchandising Enterprise; 5.8: Exercises- Unit 5

  16. ACCOUNTING FOR MERCHANDISING BUSINESS

    Merchandise Inventory -the inventory goods on hand and available for sale to customers. -it is also used to record purchases of good as under the perpetual inventory method. ACCOUNTING CYCLE Phase 1 - Recording and Classifying Process 1. Analyze transactions using source documents and chart of accounts 2.

  17. Accounting Cycle for Merchandising Business Comprehensive

    Accounting Cycle of a Merchandising Business: Completing the Accounting Cycle OBJECTIVES At the end of the session, the students are expected to : 1. Recognize the need for a physical count and analyze the effects of omitting the procedure. 2. Determine the entries for merchandise inventory using either the adjusting entry

  18. 2.1 Distinguish between Merchandising, Manufacturing, and Service

    Why It Matters; 1.1 Define Managerial Accounting and Identify the Three Primary Responsibilities of Management; 1.2 Distinguish between Financial and Managerial Accounting; 1.3 Explain the Primary Roles and Skills Required of Managerial Accountants; 1.4 Describe the Role of the Institute of Management Accountants and the Use of Ethical Standards; 1.5 Describe Trends in Today's Business ...

  19. Accounting for Merchandising Business

    Accounting for Merchandising Business. 1. Sales Invoice - to inform the buyer the total cost of shipment. 2. Bill of Loading - issued by the shipping company, agreement between the shipping companies. 3. Statement of Account - sent by the seller to the buyer to inform the buyer of the invoices already due.

  20. Accounting For Merchandising Business

    Accounting-for-Merchandising-Business - Free download as PDF File (.pdf), Text File (.txt) or read online for free. A merchandising business buys and sells goods for profit. It recognizes two main categories of expenses: cost of goods sold for merchandise sold and operating expenses. There are two main inventory systems - perpetual keeps continuous records while periodic only updates costs at ...

  21. Accounting for Merchandising Business

    The purpose of the balance sheet is to reveal the economic/financial position of the company at a set point in time. The balance sheet follows the basic accounting equation, assets = liabilities + owner's equity. The income statement is what an accountant uses to determine the operation of a business.

  22. Merchandising Essays: Examples, Topics, & Outlines

    Accounting for Merchandising Business: Purchase Discounts Purchases Discounts Purchase discounts are used in credit purchases by sellers to encourage buyers to pay before the credit period is over, as they reduce the total amount to be paid. According to Kieso, Weygandt and Warfield (2011), some companies consider purchase discounts as losses, and use the net method to account for them in ...

  23. Free Accounting for Merchandising Businesses Essay Sample

    Accounting for Merchandising Operations Name Institutional Affiliation The comparison below is carried out for Acers' Swift 7 and Hewlett Packard's HP Spectre x360 Convertible Laptop - 13t touch. The brands were released almost at the same time to address the competition in the address. The comparison has been tabulated as follows: