Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-1
CHAPTER 5
ACCOUNTING FOR MERCHANDISING OPERATIONS
Related Assignment Materials
Student Learning Objectives
Questions
Quick
Studies*
Exercises*
Problems*
Beyond the
Numbers
Conceptual objectives:
C1. Describe merchandising
activities and identify income
components for a
merchandising company.
1, 2, 3, 4
5-1, 5-23
5-1
5-3, 5-5, 5-6,
5-7, 5-8
C2. Identify and explain the
inventory asset and cost flows
of a merchandising company.
5-2, 5-3
5-2, 5-2
5-3, 5-4
5-4, 5-6, 5-7
Analytical objectives:
A1. Compute the acid-test ratio and
explain its use to assess
liquidity.
5-12, 5-13
5-12, 5-13,
5-14
5-5, GL 5-3
5-1
A2. Compute the gross margin ratio
and explain its use to assess
profitability.
5-14
5-5, GL 5-3
5-2, 5-5, 5-9
Procedural objectives:
P1. Analyze and record transactions
for merchandise purchases
using a perpetual system.
6, 7, 8, 9,
15
5-4, 5-5, 5-6,
5-7
5-3, 5-5,
5-6, 5-7, 5-8,
5-9, 5-10
5-1, 5-2, SP
GL 5-1,
GL 5-2
P2. Analyze and record transactions
for merchandise sales using a
perpetual system.
5, 7, 8, 9
5-8
5-4, 5-6, 5-7,
5-8, 5-9
5-1, 5-2, SP,
GL 5-1,
GL 5-2
5-3
P3. Prepare adjustments and close
accounts for a merchandising
company.
5-9, 5-10
5-10
5-4, 5-5, 5-6
SP, GL 5-3
5-4
P4. Define and prepare multiple-
step and single-step income
statements.
2, 3, 10,
11, 12, 13,
14
5-11, 5-15
5-11, 5-18
5-3, 5-5, SP,
GL 5-3, ES
5-7, 5-9
P5A. Record and compare
merchandising transactions
using both periodic and
perpetual inventory systems.
(Appendix 5A)
5-16, 5-17,
5-18
5-15, 5-16,
5-17
5-4
P6A. Prepare adjustments for
discounts, returns, and
allowances per revenue
recognition rules.
(Appendix 5C)
5-19, 5-20
5-19, 5-20,
5-21
P7A. Record and compare
5-21, 5-22
5-22, 5-23
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-2
merchandising transactions
using the gross method and net
method. (Appendix 5D)
*See additional information on next page that pertains to these quick studies, exercises and problems.
SP refers to the Serial Problem
GL refers to the General Ledger problems
ES refers to Excel Simulations
Additional Information on Related Assignment Material
Connect
Available on the instructor’s course-specific website) repeats all numerical Quick Studies, all Exercises
and Problems Set A. Connect also provides algorithmic versions for Quick Study, Exercises and
Problems. It allows instructors to monitor, promote, and assess student learning. It can be used in
practice, homework, or exam mode.
Connect Insight
The first and only analytics tool of its kind, Connect Insight is a series of visual data displays that are each
framed by an intuitive question and provide at-a-glance information regarding how an instructor’s class is
performing. Connect Insight is available through Connect titles.
The Serial Problem for Success Systems continues in this chapter.
Synopsis of Chapter Revisions
NEW opener—Sword & Plough and entrepreneurial assignment.
Revised introduction for servicers vs merchandisers using Liberty Tax and Nordstrom as examples.
New NTK 5-1 to aid learning of merchandising.
Reorganization of “Purchases” section to aid learning.
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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Expanded Exhibit 5.12 to cover more merchandising transactions.
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-4
Chapter Outline
Notes
I. Merchandising Activities
A. Merchandise consists of products, also called goods, which a
company buys to resell to customers. Merchandisers can be either
wholesalers (those that buy from manufacturers and sells to
retailers) or retailers (those that buy from manufacturers or
wholesalers and sells to consumers).
B. Reporting Income for a Merchandiser
Revenue from selling merchandise (net sales) minus the cost of
good sold to customers is called gross profit. Gross profit minus
operating expenses determines the net income or loss for the
period.
C. Reporting Inventory for a Merchandiser
A merchandiser’s balance sheet is the same as service businesses
with the exception of one additional current asset called:
2. The cost of this asset includes the cost incurred to buy the
goods, ship them to the store, and make them ready for sale.
D. Operating Cycle for a Merchandiser
Begins by purchasing merchandise and ends by collecting cash
from selling the merchandise.
E. Inventory Systems
Two alternative inventory systems that can be used to collect
information about the cost of goods sold and the inventory (cost of
goods available) are:
1. Perpetual inventory system which updates accounting records
2. Periodic inventory system which updates the accounting
records for purchases and sales of inventory only at the end of
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-5
Chapter Outline
Notes
II. Accounting for Merchandise Purchases
The invoice serves as a source document for this event.
A Purchases without Cash Discounts.
1. Entry to record purchase: debit Inventory, credit Cash or
Accounts Payable.
B. Purchase With Cash Discounts
1. Credit terms describe cash discounts offered to purchasers by
seller for payment within a specified period of time called the
discount period.
2. Cash Discounts- granted by the seller to encourage buyers to
pay the amount they owe earlier. Buyers view cash discounts
as purchase discounts and sellers view them as sales discounts.
C. Purchases with Returns and Allowances
4. Entry on buyer’s books: debit Accounts Payable or Cash (if
refund given) and credit Inventory.
1. Purchase allowances is a reduction in the cost of defective
merchandise that a buyer acquires.
3. A debit memorandum informs the seller of a debit made to the
seller’s account payable in the buyer’s records.
5. Discounts can only be taken on the remaining balance on the
invoice if a return is made before payment is made.
D. Purchases and Transportation Costs – the point at which ownership
is transferred (called FOB or free on board). Determines who is
responsible for paying any freight costs and/or bearing any loss.
Two alternative points of title transfer are:
determine the invoice price (actual selling price). Trade
discounts are not entered into accounts.
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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Chapter Outline
Notes
1. FOB shipping point—title transfers at shipping point and
buyer pays shipping costs.
2. FOB destination—title transfers at destination and seller pays
shipping costs.
a. Operating expense for seller
b. Debit Delivery Expense and credit Cash.
often used to collect information about each of these cost elements
E. Purchases and their itemized costs – the net cost of purchased
merchandise according to the cost principle is recorded in the
III. Accounting for Merchandise Sales—involves sales, sales discount,
sales returns and allowances and cost of goods sold
A. Each sale of merchandise transaction involves two parts (resulting
in two journal entries; the revenue entry and the cost entry.
C. Sales without Cash Discounts – Revenue side: Inflow of Assets.
Debit Accounts Receivable (or Cash) and credit Sales. Cost side:
Outflow of Assets: debit Cost of Goods Sold and credit Inventory.
1. Recognize revenue—debit Accounts Receivable (or cash),
credit Sales (both for the invoice amount).
2. Recognize cost—debit Cost of Goods Sold, credit Inventory
B. Sales with Cash Discounts –
1. Sales on Credit: revenue side using the gross method is a debit
Accounts Receivable and a credit Sales.
2. Buyer Pays within Discount Period: debit Cash (invoice amount
3. Buyer Pays after discount period—debit Cash, Credit
Accounts Receivable (full invoice amount).
4. Sales Discounts is a contra-revenue account—subtraction
from Sales.
C. Sales with Returns and Allowances
customer is willing to keep at a reduced price).
2. Sales allowances—reductions in selling price of merchandise
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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Chapter Outline
Notes
3. Returns Received by Seller. Seller issues refund for returned
goods. Entry: debit Sales Returns and Allowances and credit
4. Seller receives returned goods into inventory: seller also
reduces cost of sales.
6. Returned Goods are defective: debit Inventory for estimated
7. Sales Returns and Allowances is a contra-revenue account that
is subtracted from Sales.
8. Credit Memorandum—issued by the seller to inform buyer of
9. Allowances Granted by Seller: merchandise which is defective
but buyer decides to keep it, seller will record a debit to Sales
Returns and Allowances and a credit to Cash for the reduction
in price. If seller has not yet collected cash for goods sold,
seller could credit buyer’s Accounts Receivable.
IV. Completing the Accounting Cycle
A. Adjusting Entries for Merchandisers
Generally same as discussed in chapter 4 for a service business
with an additional adjustment needed to update inventory to reflect
any loss of merchandise referred to as shrinkage.
returns and allowances (revenue side) and expected returns
2. Adjusting entry: debit Cost of Goods Sold, credit Inventory –
Adjusting Entries.
3. Sales Discounts, Returns, and Allowances – Sales are to be
reported at the net amount expected which follows new
revenue recognition rules. Period-end adjusting entries are
B. Preparing Financial Statements – statements similar to service
business with the following differences:
1. Income Statement includes the cost of goods sold and gross
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-8
Chapter Outline
Notes
2. Balance Sheet includes merchandise inventory as part of current
assets.
C. Closing Entries for Merchandisers – similar to a service business
V. Financial Statement Formats—GAAP does not require any specific
format. Common formats:
A. Multiple-Step Income Statement—shows details of net sales and
other costs and expenses. Has three main parts:
2. Income from operations—gross profit less operating expenses
(classified into selling and general & administrative).
3. Net income—Income from operations adjusted for
nonoperating items.
VII. Decision Analysis—Acid Test Ratio and Gross Margin Ratio
A. Acid-Test Ratio
1. Used to assess the company’s liquidity or ability to pay its
inventory and prepaid expenses) rather than all current assets.
2. Calculated by dividing quick assets by current liabilities.
3. Quick assets are cash, short-term investments, and receivables.
B. Gross Margin Ratio (Gross Profit Ratio)
2. Calculated by dividing gross margin by net sales.
except there are additional temporary accounts to close including
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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Chapter Outline
VIII. Recording Transactions under the Periodic System (Appendix
5A)—textbook shows comparison of periodic and perpetual in this
appendix. The following chapter notes relate only to the periodic
system because the preceding notes outline the perpetual system.
Notes
VIX. Adjusting Entries for New Revenue Recognition Rules (Appendix
5C)
A. Expected Sales Discounts – Adjusting Entry. New revenue
recognition rules require the reporting of sales at the net amount
C. Expected Returns and Allowances – Adjusting Entry. New revenue
recognition rules require sellers to estimate sales returns and
allowances in the period of sale.
D. Revenue Side for Expected R&A: seller credits Sales Refund
Payable, current liability reflecting amount expected to be
refunded to customers and debits Sales Returns and Allowances.
VX. Recording Transactions under the Net Method (Appendix 5D)
Net method initially records the invoice at an amount net of any
cash discount, so cash discounts are deducted from Inventory when
initially recorded.
Chapter Outline
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-10
A. Perpetual Inventory System Purchases– debit Inventory and credit
Accounts Payable for the net amount.
1. If invoice paid within discount period, debit Accounts Payable
and credit Cash for net amount.
2. If invoice paid after discount period, debit Accounts Payable for
3. Perpetual Inventory System Sales – debit Accounts Receivable
4. If cash is received within the discount period, debit Cash and
credit Accounts Receivable for the net amount.
5. If cash is not received within the discount period, debit Cash for
full invoice amount, credit Accounts Receivable for net amount
and credit Interest Revenue for amount of discount.
B. Periodic Inventory System Purchases – Merchandise Inventory
remains unchanged during the period and is updated only at period–
end as part of the adjusting process.
2. If invoice paid within discount period, debit Accounts Payable
and credit Cash for the net amount.
C. Periodic Inventory System Sales – perpetual and periodic entries
are identical except that under the periodic system the cost-side
entries are not made at the time of each sale nor for any returns.
Notes
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-11
VISUAL #5-1
THE OUTDOOR STORE
Income Statement
For the Year Ended December 31, 2017
Sales revenues
Sales ………………………………………..
$700,000
Less: Sales returns and allowances. …………..
$ 5,000
Net purchases ……………………………………..
443,600
Add: Freight-in …………………………….
3,600
Cost of goods purchased ………………………….
447,200
Cost of goods available for sale …………………..
487,500
70,000
Cost of goods sold ……………………
417,500
Gross profit on sales ………………………………
274,500
Operating expenses
Selling expenses
Sales salaries expense ……………….
Sales commission expense …………..
14,500
Depreciation expense – Display equip.
13,300
Utilities expense ……………………..
6,600
Insurance expense ……………………
4,320
Total selling expenses ……………….
114,720
Administrative expenses
Office salaries expense ………………
32,000
Depreciation expense – building …….
10,400
Property tax expense …………………
4,800
Utilities expense ……………………..
4,400
Insurance expense ……………………
2,880
Total administrative expenses
54,480
Total operating expenses ………….
169,200
105,300
Other revenues and gains
Interest revenue ………………………………
Other expenses and losses
Interest expense ………………………………
11,000
7,000
Net income ………………………………………..
$ 98,300
Sales discounts ……………………….
3,000
8,000
Net sales ………………………………………
$692,000
Cost of goods sold
Inventory, January 1 ………………………….
Purchases ……………………………………..
462,000
Less: Purchase discounts ……….. $12,000
Purchase returns and
allowances ………………………. 6,400
18,400
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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VISUAL #5-2
COMPONENTS OF NET INCOME (FROM OPERATIONS)
Steps:
(a) Net Sales X
COMPONENTS OF COST OF GOODS SOLD
Steps:
(a) Inventory, Beginning of Period X
COMPONENTS COST OF GOODS PURCHASED
Steps:
(a) Purchases X
(b) – (Purchase Returns & Allowances X
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
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VISUAL #5-3
ACCOUNTS USED IN BASIC MERCHANDISING TRANSACTIONS
WITH A PERPETUAL INVENTORY SYSTEM
ASSETS
LIABILITIES
REVENUES
& CONTRA-REV.
Cash
Accounts
Payable
Sales
Dr. Bal.
Cr. Bal.
Cr. Bal.
+
+
+
Receivable
Dr. Bal.
Dr. Bal.
+
+
Dr. Bal.
Dr. Bal.
Dr. Bal.
+
+
Dr. Bal.
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
VISUAL #5-4
ACCOUNTS USED IN BASIC MERCHANDISING TRANSACTIONS
WITH A PERIODIC INVENTORY SYSTEM
ASSETS
LIABILITIES
REVENUES
& CONTRA-REV.
COST & CONTRA-
COST
Cash
Accounts
Payable
Sales
Purchases
Dr. Bal.
Cr. Bal.
Cr. Bal.
Dr. Bal.
+
+
+
+
Receivable
Dr. Bal.
Dr. Bal.
Cr. Bal.
+
+
+
Dr. Bal.
Dr. Bal.
Cr. Bal.
+
+
+
Dr. Bal.
+
5-15
Chapter 5 Alternate Demonstration Problem #1
The following data was taken from ledger account balances and
supplementary data for the Whisk Company. Whisk Company uses
periodic inventory method to account for its inventory.
Merchandise inventory, beginning …………………………………………
$ 20,000
Merchandise inventory, ending ……………………………………………..
23,000
Purchases …………………………………………………………………………….
Purchases discounts …………………………………………………………….
Purchases returns and allowances ………………………………………..
Sales discounts …………………………………………………………………….
Sales returns and allowances ………………………………………………..
10,000
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
Chapter 5 Solution: Alternate Demonstration Problem #1
WHISK COMPANY
Income Statement
For the Year Ended December 31, 2017
Revenue from sales:
Sales …………………………………..
$400,000
Less: Sales discounts ………….
$ 3,200
Net sales ……………………………..
395,000
Merchandise inventory, 1/1/17
Purchases …………………………..
$215,000
Less: Purchase discounts ……
Goods available for sale ………
236,000
Merchandise inventory, 12/31/17
Gross profit from sales ……………
$182,000
Sales returns and
5-17
Chapter 5 Alternate Demonstration Problem #2
Koda Company is a wholesale company that had the following purchase and sales
transactions related to its merchandise inventory during the month of May.
May 1
Purchased $20,000 of merchandise on account from Webber Mfg. Co.
Credit terms: 2/10, n/30. FOB shipping point
2
Received and paid the $1,000 shipping bill from Interstate Shipping for
the goods purchased on March 1
Received a credit memo for the return of $5,000 of the goods purchased
on March 1 which had arrived damaged.
Paid Webber Mfg. Co. the amount due.
the merchandise was $3,000. (cost is 60% of the retail value) Terms:
2/10, n/30; FOB Destination
Paid Crosstown Shipping $100 to deliver the goods sold on March 15
Dover returned $1,000 of the goods they purchased on March 15. You
Received the amount due from Dover Co.
Wild, Shaw & Chiappetta: Fundamental Accounting Principles, 23rd Edition
5-18
Chapter 5 Solution: Alternate Demonstration Problem #2
PERPETUAL INVENTORY SYSTEM
PERIODIC INVENTORY SYSTEM
5-1
Inventory
20,000
5-1
Purchases
20,000
Accounts Payable
20,000
Accounts Payable
20,000
2
Inventory
1,000
2
Freight-In
1,000
Cash
1,000
Cash
1,000
6
Accounts Payable
5,000
6
Accounts Payable
5,000
Inventory
5,000
Purchase R & A
5,000
10
Accounts Payable
15,000
Accounts Payable
18,000
Inventory
300
Purch. Discount
Cash
14,700
Cash
14,700
15
Accts Receivable
5,000
Accts Receivable
5,000
Sales
5,000
Sales
5,000
15
Cost of Goods Sold
3,000
Inventory
3,000
16
Delivery Expense
100
Delivery Expense
Cash
100
Cash
17
Sales R & A
1,000
Sales R & A
1,000
Accts Receivable
1,000
Accts Receivable
1,000
17
Inventory
600
Cost of Goods sold
600
24
Cash
3,920
Cash
3,920
Sales Discount
Sales Discount
Accts Receivable
4,000
Accts Receivable
4,000